Current Ratio

Current ratio formula

What is the current ratio and, what does it tell you?

The current ratio is an indication of a company's ability to recover short term(normally within one year) debts with its current assets. This will help investors to understand the liquidity position of the company.

What does it mean by a higher current ratio?

Normally a company with a higher current ratio means the company has enough assets to pay its short term debt. So investors prefer to invest in companies with the current ratio are equal to their industry value or slightly higher.

A company with a current ratio of higher than 1 means the company can easily pay its debts using its current assets.

If a company has a very high current ratio compared to its industry means that the company management may not be managing their assets effectively and efficiently.

What does it mean by a lower current ratio?

Normally a company with a lower current ratio means that the company may have problems paying its short term debt. So investors may not interest this type of shares, because this may be a high-risk investment.

A company with a current ratio under 1 indicates the company may have problems meeting its short-term debt payments.

How to use the current ratio?

Normally investors like to invest in companies with the current ratio are equal to their industry value or slightly higher.

Risk of using current ratio and when not to use the current ratio

If a company has a very high current ratio compared to its industry means that the company management may not be managing their assets effectively and efficiently.

So never take decisions by only looking at sales current ratio. Always analyze as possible by considering different factors like other ratios and business news. Always try to use multiple ratios combinedly to get a more clear picture of a company.

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