Current Ratio Formula (Table of Contents)
Current Ratio Formula
The current ratio is a popular financial ratio amongst the research analysts to measure a firm’s liquidity (also referred to as firm’s working capital). It is calculated by dividing the firm’s current assets by current liability.
Here’s the Current Ratio formula –
It is one of the important ratios to measure a firm’s liquidity because current liabilities are due within one year.
Example of Current Ratio Formula
Let’s understand the following examples of current ratio formula.
Current Ratio Formula Example #1
Ashok’s Angle Snack Center sells fast food items in Mumbai. Ashok is applying for a loan to open snack centers in Mumbai suburb as a business expansion strategy. Ashok’s bank asks for his balance sheet so they can analysis his current liquidity position. According to Ashok’s balance sheet he reported ₹100,000 of current liabilities and ₹200,000 of current assets.
Ashok’s current ratio would be calculated as:
- Current Ratio = Current assets / Current liability
- Current ratio= ₹200,000/₹100,000
- Current ratio = 2
As you can see, Ashok has enough current assets to pay back its current liabilities. This shows that Ashok’s business is less leveraged and also has a negligible risk. Banks always prefer a current ratio of more than 1, so that all the current liabilities could be covered by current assets. Since Ashok’s current ratio is more than 1, it is for sure that he will get approved for his loan.
Current Ratio Formula Example #2
If you go through the balance sheet of any company you can see current assets includes cash & cash equivalents, short-term deposits, marketable securities, trade & account receivables, inventories, prepaid expenses, and other current assets, etc. and current liability includes short-term debt to be repaid within 1 year, trade & account payables, current portion of long-term debt, accrued expenses, taxes payables, and deferred revenue, etc.
For example,
A business has ₹500,000 in total current assets and ₹1,000,000 in total current liabilities.
its current ratio is calculated as:
- Current Ratio = Current assets / Current liability
- Current ratio = ₹500,000/₹1,000,000
- Current ratio = 0.5
From the above calculation we can say that for every rupee in current liabilities, there is only ₹0.5 in current assets. This means business is highly leveraged and also has high risk.
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Current Ratio Formula Example #3
Name of the company- Jaiprakash Associates Ltd. (NSE: JPASSOCIAT)
| Numbers in ₹ million | March 31, 2017 |
| Current Assets | |
| Cash and cash equivalents | 3,498 |
| Bank Balances | 3,004 |
| Inventories | 137,145 |
| Investments | 6 |
| Trade receivables | 19,365 |
| Loans | – |
| Other-financial assets | 8,854 |
| Other current assets | 36,681 |
| Non-current assets classified as held for sale | 17,982 |
| Total current assets | 226,536 |
| Current liability | |
| Borrowings | 6,952 |
| Trade payables | 22,996 |
| Other financial liabilities | 56,042 |
| Other current liabilities | 60,835 |
| Provisions | 44 |
| Liabilities directly associated with assets in a disposal group classified as held for sale | 11,952 |
| Total current liability | 158,821 |
The current ratio of JP Associates is Calculated as:
- Current Ratio = Current assets / Current liability
- Current ratio of JP Associates = ₹226,536 million / ₹158,821 million
- Current ratio of JP Associates = 1.43
We can say that JP Associates can easily payout its current liabilities because of well management of working capital.
Current Ratio Formula Example #4
Name of the company – Tata Steel Ltd. (NSE: TATASTEEL)
| Numbers in ₹ Crore | March 31, 2017 |
| Current assets | |
| Inventories | 24,804 |
| Investments | 5,673 |
| Trade receivables | 11,587 |
| Cash and cash equivalents | 4,832 |
| Other balance with the bank | 89 |
| Loans | 225 |
| Derivative assets | 104 |
| other financial assets | 388 |
| Income tax assets | 35 |
| Other current assets | 2,194 |
| Total Current Assets | 49,931 |
| Current liabilities | |
| Borrowings | 18,328 |
| Trade payables | 18,574 |
| Derivative liabilities | 674 |
| Other financial liabilities | 6,316 |
| Provisions | 987 |
| Retirement benefit obligations | 95 |
| Deferred income | 23 |
| Income tax liabilities | 739 |
| Other liabilities | 4,315 |
| Total Current Liabilities | 50,051 |
The current ratio of Tata Steel is calculated as:
- Current Ratio = Current assets / Current liability
- Current ratio of Tata Steel = ₹49,931 crore / ₹50,051 crore
- Current ratio of Tata Steel = 0.998
Current assets and liabilities of Tata Steel Ltd. are almost equal. This means that for every rupee in current liabilities, there is ₹1 in current assets.
Explanation of Current Ratio Formula
The current ratio measures liquidity/working capital management of the company. It gives an idea to the investor whether a company has the ability to generate enough cash to pay back its short-term liabilities. The higher the ratio, the more current assets a company has compared to its liabilities.
The ratio must be analyzed in the background of the industry the company relates to and also it could be better if we analyze the ratio over a period of time.
The company faces liquidity problems when they are unable to collect their receivables. A ratio under 1 hint a company might be unable to pay off its current liabilities if all the liabilities came due at the same time. A current ratio of less than 1 does not necessarily mean that the company will go bankrupt, however, it indicates the company may be in poor financial health. On the other hand, a ratio that’s too high may indicate that the company is not efficiently using its current assets or liabilities.
Fundamental research analysts extensively use current ratio while valuing a company. The ratio is easy to understand, but it can be misleading in both positive and negative way i.e. high ratio is not necessarily good and low ratio is not necessarily bad. Ex. It could be a problem when inventory covers a large portion of current assets since inventory can be difficult to liquidate. In such cases, we must compare the current ratio of the company with its industry peers with a similar business model to decide what level of liquidity is the industry standard.
Current Ratio Calculator
You can use the following Current Ratio Calculator
| Current Assets | |
| Current Liability | |
| Current Ratio= | |
| Current Ratio= | = |
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Current Ratio Formula in Excel (With Excel Template)
Here we will do the same example of the Current Ratio formula in Excel. It is very easy and simple. You need to provide the two inputs i.e Current assets and Current liability
You can easily calculate the Current Ratio using Formula in the template provided.
The current ratio of JP Associates is Calculated Using Formula
The current ratio of Tata Steel is calculated Using Formula.
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This has been a guide to a Current Ratio formula. Here we discuss its uses along with practical examples. We also provide you with Current Ratio Calculator with downloadable excel template. You may also look at the following articles to learn more –
