Current Ratio Analysis

If you are into finance then you know the meaning of Current ratio, which is calculated as Current Assets/Current Liabilities. But many people do not know how to analyze the current ratio because it is easier to calculate the current ratio but is very difficult to interpret or analyze the current ratio.

Current ratio is a tool to measure the liquidity position of the company and ideal current ratio is 2:1, which implies that for every 1 dollar of Liability a company should have 2 dollar of assets. However a 2:1 current ratio does not mean that liquidity position of the company is sound because if a company has too much inventory in its balance sheet than also current ratio will be higher but that does not necessary implies that liquidity position of the company is good because inventory takes times to get converted into cash.

Hence before giving judgment on the liquidity position of the company on the basis of current ratio an individual should take care to see composition of current assets and current liabilities and also look at other ratios like liquid ratio, inventory turnover ratio and other such ratios.

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