 Skip to content

# What Is Current Ratio? ## Definition of Current Ratio

• The current ratio or working capital ratio is a liquidity ratio that measures a firm’s ability to pay its short term liabilities.
• Short term liabilities are debts or any obligation that is due within one year.
•  An ideal current ratio is between 1.2 and 2.
• If the ratio is low, it means the firm does not have enough liquid assets to offset its short term liabilities.
• If the ratio is high, it means the firm has too many liquid assets and is not utilizing them.

## What is the Formula for the Current Ratio?

• The current ratio is calculated by dividing current assets by current liability.

Current ratio = Current asset / Current liabilities

## The Current Ratio in Rractice

• Assume that Bleu waters has:
• Current asset:
• Cash \$ 30,000
• Account receivable \$20,000
• Marketable security \$20,000
• Prepaid expense \$15,000
• Inventory \$15,000
• Current liabilities:
• Account payable \$50,000
• Term debt \$30,000
• Bleu waters’ current ratio is:
• (\$ 30,000 + \$20,000 + \$20,000 + \$15,000 + \$15,000)/ (\$50,000 + \$30,000)= 1.25
• The firm has a good current ratio.