Current Ratio is a type of Liquidity Ratio determines a company’s capacity to meet its short-term liabilities/debts. It is a measure of the extent to which current assets cover the current liability of a company. This ratio is also known as Working Capital Ratio.
$$Current\quad Ratio=\frac { Current\quad Assets }{ Current\quad liabilities }$$
Current Assets are those assets that can be liquidated or converted to cash within a year andWhere,
Current Liabilities are the liabilities or debts that are due for payment within a year.
$$Current\quad Ratio=\frac { Current\quad Assets }{ Current\quad liabilities }$$
Current Assets are those assets that can be liquidated or converted to cash within a year andWhere,
Current Liabilities are the liabilities or debts that are due for payment within a year.
Significance and Interpretation
- Current Ratio = 1: This implies that the net funds in the company are just enough to meet the immediate liabilities/debts.
- Current Ratio < 1: This implies that the net funds of the company are not enough to meet its immediate liabilities/debts. This is very dangerous and means that company is short of funds.
- Current Ratio > 1: This implies that the company has a surplus amount of funds over the immediate liabilities/debts.
- The ideal Current Ratio is 2, a value higher than this indicates that the funds of the company are unutilized and lying idle. However, it must be noted that this limit may shift depending upon the regulatory reforms and/or type of business.
Example
Example 1:
M/S ABC Ltd. reported current assets worth ₹50 Crores and current liabilities payable at ₹45 Crores, find the current ratio of M/S ABC Ltd.Solution:
Current Assets = ₹50 Cr. and Current Liabilities = ₹45 Cr.
Current Ratio = Current Assets / Current Liabilities
Current Ratio = Current Assets / Current Liabilities
⇨ ₹50 Cr / ₹45 Cr
⇨ 10/9
Hence, Current Ratio = 10/9 or 1.111
Hence, Current Ratio = 10/9 or 1.111
Example 2:
The following information is available about M/S XYZ Ltd, find the current ratio of the firm.| Sr. No | Particulars | Amount (in ₹ Cr) |
|---|---|---|
| 1 | Bills Receivable | 500.00 |
| 2 | Bills Payable | 250.00 |
| 3 | Inventories | 125.00 |
| 4 | Cash Balance | 50.00 |
| 5 | Tax Payable | 110.00 |
| 6 | Bank Borrowing (Short Term) | 25.00 |
Solution:
Current Assets = Bills Receivable + Inventories + Cash Balance
⇨ (500 + 125 + 50)
⇨ 675 Cr
Current Liabilities = Bills Payable + Tax Payable + Bank Borrowing
Current Liabilities = Bills Payable + Tax Payable + Bank Borrowing
⇨ (250 + 110 + 25)
⇨ 385 Cr
Current Ratio = Current Assets / Current Liability
Current Ratio = Current Assets / Current Liability
⇨ 675 Cr / 385 Cr
⇨ 1.75
