Current Ratio: Calculation, Formula & Examples

computing current ratio

Here, we’ll go over how to calculate the current ratio and how it compares to some other financial ratios. Most often, companies may not face imminent capital constraints, or they may be able to raise investment funds to meet certain requirements without having to tap operational funds. Therefore, the current ratio may more reasonably demonstrate what resources are available over the subsequent year compared to the upcoming 12 months of liabilities.

The cash flow statement reports the cash inflows and cash outflows for a month or year. This is based on the simple reasoning that a higher current ratio means the company is more solvent and can meet its obligations more easily. The owner of Mama’s Burger Restaurant is applying computing current ratio for a loan to finance the extension of the facility. To estimate the credibility of Mama’s Burger, the bank wants to analyze its current financial situation. The current ratio is most useful when measured over time, compared against a competitor, or compared against a benchmark.

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For example, comparing current ratio of two companies would be like comparing apples with oranges if one uses FIFO while other uses LIFO cost flow assumption for costing/valuing their inventories. The analyst would, therefore, not be able to compare the ratio of two companies even in the same industry. A high current ratio, on the other hand, may indicate inefficient use of assets, or a company that’s hanging on to excess cash instead of reinvesting it in growing the business.

computing current ratio

It measures a company’s ability to cover its short-term obligations (liabilities that are due within a year) with current assets. To assess this ability, the current ratio compares the current total assets of a company to its current total liabilities. The current ratio is a useful liquidity measurement used to track how well a company may be able to meet its short-term debt obligations.