what is current ratio

The current ratio is a liquidity ratio that measures a companys ability to pay its short-term obligations or those due within one year. It compares a companys current assets to its current liabilities and is expressed as follows: Current ratio = Current Assets/Current Liabilities. An acceptable current ratio varies from industry to industry, but generally, a higher current ratio is better than a lower one because it indicates that the company is more likely to pay its creditors back. However, a large current ratio is not always a good sign for investors. If current liabilities exceed current assets, the current ratio will be less than 1, indicating that the company may have problems meeting its short-term obligations. Some types of businesses can operate with a current ratio of less than one, however, if inventory turns into cash much more rapidly than the current liabilities are due. The ideal current ratio varies by industry, but an acceptable range for the current ratio could be 1.2 to 2.