Definitions

Current ratio

The current ratio is a financial ratio that measures whether or not a firm has enough resources to pay its debts over the next 12 months. It compares a firm's current assets to its current liabilities. It is expressed as follows:

$mbox\left\{Current ratio\right\} = frac \left\{mbox\left\{Current Assets\right\}\right\} \left\{mbox\left\{Current Liabilities\right\}\right\}$

For example, if WXY Company's current assets are \$50,000,000 and its current liabilities are \$40,000,000, then its current ratio would be \$50,000,000 divided by \$40,000,000, which equals 1.25. It means that for every dollar the company owes it has \$1.25 available in current assets. A current ratio of assets to liabilities of 2:1 is usually considered to be acceptable (ie., your assets are twice your liabilities).

The current ratio is an indication of a firm's market liquidity and ability to meet creditor's demands. Acceptable current ratios vary from industry to industry. If a company's current assets are in this range, then it is generally considered to have good short-term financial strength. If current liabilities exceed current assets (the current ratio is below 1), then the company may have problems meeting its short-term obligations. If the current ratio is too high, then the company may not be efficiently using its current assets.