Cash & working capital
Current ratio
The current ratio compares what a business can turn into cash within a year with what it owes within a year.
Current ratio = Current assets ÷ Current liabilities
Worked example
| Current assets | $500,000 |
| Current liabilities | $250,000 |
$500,000 ÷ $250,000 = 2.0
Why it matters
Lenders use the current ratio as a quick test of whether a business can meet its near-term bills, and many loan agreements set a minimum. Below 1.0 means more is due within the year than current assets would cover.
Common mistakes
Where it misleads
Treating a high ratio as good news when it is built on slow-moving inventory or old receivables.
Comparing the ratio across industries with very different inventory and payment terms.
Checking it only at year end, when it can look very different from mid-season.
Related terms
Keep reading
- Quick ratioThe quick ratio, also called the acid-test ratio, compares a business’s most liquid assets with what it owes within a year, leaving out inventory and prepaid expenses.
- Working capitalWorking capital is the money tied up in running the business day to day: current assets such as cash, receivables and inventory, minus the current liabilities due within a year.
Stop calculating it by hand.
Dear CFO keeps your statements, forecasts and metrics current from the systems you already run.