Glossary
Current Ratio
Current assets divided by current liabilities; a basic test of whether a company can cover its short-term obligations.
The current ratio compares what a company expects to turn into cash within a year with what it must pay within a year. A reading above 1 means Current Assets exceed Current Liabilities; below 1, the reverse. Lenders, credit analysts and stock investors use it as a first-pass check on short-term solvency.
Worked example
How to interpret it
There is no universal "good" number. Some textbook rules of thumb call 1.5 to 2 comfortable, but the norm varies widely by industry:
- Retailers and restaurants often run near or below 1 because they collect cash from customers right away and pay suppliers later.
- Manufacturers that carry large inventories and receivables usually need higher ratios.
- Software firms may look tight because of deferred revenue, which is a liability to deliver service rather than to pay cash.
A very high ratio is not automatically good either. It can mean idle cash, slow-moving inventory or customers who pay late.
What to watch for
Look at the trend over several quarters and the mix behind it. A ratio rising only because inventory is piling up is a weaker signal than one rising on cash. A sudden fall often comes from long-term debt moving into the current bucket as it nears maturity, which raises the question of how it will be refinanced.