Current Ratio

Current Ratio and Liquidity

If you google Current ratio, the first liner would be that it is a liquidity ratio. What is liquidity? In the simplest terms,  Liquidity is a benchmark that measures the degree of the company’s ability to settle the short-term obligations in relation to the organization. Usually, these short-term obligations are going to be due or matured withing  one year from the reporting date.

Figure I Current Ratio 

Stakeholders resort to the financial ratios to have an assessment about how well is the financial health of the company. There are variety of the perspectives in relation to measurement of the company’s financial health. Current Ratio is an important ratio and help the stakeholders about the liquidity of the company. To compute the ratio you need to find the ratio between the current assets to current liabilities.

Current Ratio Example

The comprehensive current ratio example is illustrated in the following table 1.

Current Ratio Formula

The formula of the current ratio is current assets at the end of the reporting period divided by the current liabilities at the end of the reporting period.

	2015	2014	2013
Total Current Assets	293,806,000	264,621,000	240,111,000
Total Current Liabilities	72,062,000	64,459,000	60,121,000
Current Ratio	4.07	4.10	3.99

Table 1 Current Ratio Example | Assets, Liabilities Figures Extracted from Tootsie Roll Industries Inc.

Table 1 is the measure of the current ratio of the Tootsie Roll Industries Inc. over the three years time period that is Year 2015, 2014, 2013. Tootsie Roll Industries is a US based company that is engaged in the making and selling of the confectionary items in the Northern America Region. The three year Current Assets and Current Liabilities have been taken from the comparative Balance Sheet of the Tootsie Roll Industries Inc.

Computation of the Current Ratio

The three year data is given in the table.  In order to compute the current ratio for each year, just divide the figures of Current assets by current liabilities for the respective year. The current ratio turned out to be 4.07, 4.10 and 3.99 for year 2015, 2014, 2013 respectively.

Analysis of the Current Ratio

The current ratio for the Tootsie Roll Industries over the timeline years from 2013 to 2015 hovers around 4. This implies that the company is quite capable to meet short-term obligations as they due. The ratio will indicate to the potential creditors that it is worth to issue short-term credit to the organization as there is little risk of loss of investment. Similarly, this stable ratio will be quite important for the suppliers of the company as they will provide the raw material on the credit perceiving low risk of loss of investment.

The higher Current Ratio, the Better?

Current ratio has the figure of the current assets in the numerator which includes inventories as well. Inventories is not that much liquid asset as the cash or other cash equivalents are.  It can be said that current ratio is not true representative of the liquidity of the company. The higher current ratio may signify the presence of large inventory stock of the company and thereby leading to increased current ratio. The large inventory stock means that the actual liquidity degree is lesser than the degree represented by the ratio of the current ratio.

Examples