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What Is the Current Ratio? Liquidity Formula and Example
The current ratio shows whether a company can pay its short-term bills. Learn the current and quick ratio formulas, a worked example and how to read them.
Current ratio in 60 seconds
- The current ratio checks whether a company has enough short-term assets to cover its short-term liabilities.
- Formula: current assets ÷ current liabilities. The quick ratio excludes inventory.
- Below 1 signals possible strain; a very high ratio may mean cash or inventory is sitting idle.
Educational summary — not investment advice.
A profitable company can still fail if it cannot pay its bills on time. The current ratio is a liquidity test: does the company have enough assets it can turn into cash within a year to meet obligations falling due within that year?
It is one of the simplest health checks on a balance sheet, and one of the first that lenders and suppliers look at.
How is Current ratio calculated?
| Measure | Formula |
|---|---|
| Current ratio | Current assets ÷ Current liabilities |
| Quick (acid-test) ratio | (Current assets − Inventory) ÷ Current liabilities |
| Working capital | Current assets − Current liabilities |
Current assets include cash, receivables and inventory. Current liabilities include payables, short-term borrowings and other bills due within 12 months. The quick ratio drops inventory because it can be slow to sell.
Current ratio example with numbers
| Item | Value |
|---|---|
| Current assets | ₹900 crore |
| of which inventory | ₹300 crore |
| Current liabilities | ₹600 crore |
| Current ratio | 1.50 |
| Quick ratio | 1.00 |
| Working capital | ₹300 crore |
With a current ratio of 1.50, Example Ltd holds ₹1.50 of short-term assets for every ₹1 it owes soon. Even without selling any inventory, the quick ratio of 1.00 shows it can just cover its short-term bills.
Example Ltd — illustrative figures.
How to read the ratios
- Above 1.5: generally comfortable for most industrial companies.
- Between 1 and 1.5: adequate, but check the quality of the assets (are receivables collectable?).
- Below 1: more short-term bills than short-term assets — look for how the company plans to fund the gap.
- Very high: cash or stock may be lying idle instead of earning returns.
Context matters
Retailers, FMCG companies and utilities can operate safely with low current ratios because cash flows in daily. Manufacturing and construction firms usually need higher ones. Compare with sector peers, watch the trend over several years, and remember a ratio is a snapshot of one balance-sheet date.
Liquidity: can the company pay this year's bills?
Profit does not pay suppliers, salaries or interest. Cash does. A company can be profitable on paper and still run short of money if its customers pay slowly, its inventory sits unsold, or a large loan comes due before the business has generated the cash to repay it. Liquidity ratios test that risk.
The current ratio is the simplest. It compares everything the company expects to turn into cash within a year, its current assets, with everything it must pay within a year, its current liabilities. If the first is comfortably bigger than the second, near-term bills are covered. If it is smaller, the company needs to raise money, delay payments or sell something.
The three ratios and where the numbers come from
All the figures come from the balance sheet filed on NSE and BSE.
| Ratio | Formula and what it tests |
|---|---|
| Current ratio | Current assets ÷ current liabilities. Can all short-term assets cover all short-term obligations? |
| Quick ratio | (Current assets − inventory) ÷ current liabilities. Can obligations be met without selling stock? |
| Cash ratio | (Cash + liquid investments) ÷ current liabilities. Can obligations be met from cash alone? |
Suppose current assets are ₹750 crore, of which inventory is ₹250 crore and cash is ₹100 crore, and current liabilities are ₹500 crore. The current ratio is 1.5, the quick ratio is (750 − 250) ÷ 500 = 1.0, and the cash ratio is 100 ÷ 500 = 0.2. The company is comfortable overall, but only if inventory sells and customers pay.
The working capital cycle behind the ratio
The current ratio is a snapshot; the cycle behind it tells you how the snapshot arises. Three measures matter:
- Receivable days = receivables ÷ revenue × 365: how long customers take to pay.
- Inventory days = inventory ÷ cost of goods sold × 365: how long stock sits before it is sold.
- Payable days = payables ÷ cost of goods sold × 365: how long the company takes to pay suppliers.
The cash conversion cycle adds the first two and subtracts the third. Suppose annual revenue is ₹3,650 crore and cost of goods sold ₹2,555 crore, with receivables of ₹450 crore, inventory of ₹350 crore and payables of ₹280 crore. Receivable days are 450 ÷ 3,650 × 365 = 45. Inventory days are 350 ÷ 2,555 × 365 = 50. Payable days are 280 ÷ 2,555 × 365 = 40. The cycle is 45 + 50 − 40 = 55 days: the company finances 55 days of operations before cash returns.
A shorter cycle frees cash; a lengthening cycle traps it. Many Indian companies that sell to government bodies or large corporates have long receivable cycles, so a healthy-looking current ratio can hide slow collections.
Reading the ratio by sector
| Business type | What to expect |
|---|---|
| FMCG, retail, utilities | Cash comes in daily, so a ratio near or slightly below 1 can be normal. |
| Manufacturing and engineering | 1.2 to 2 is common, with inventory and receivables making up most current assets. |
| Capital goods and construction | Higher ratios are usual; long project timelines tie up money in receivables and work in progress. |
| IT services | High, because of large cash balances. |
| Banks and NBFCs | Not applicable; they use liquidity coverage and asset-liability matching instead. |
When a good ratio hides a problem
- Old receivables. Money owed for many months may never be collected. Check whether provisions for doubtful debts are rising.
- Slow-moving inventory. Unsold or obsolete stock inflates current assets but will not turn into cash at its recorded value.
- Short-term debt refinanced repeatedly. Companies that depend on rolling over short-term loans are exposed if lenders tighten.
- Window dressing. Some companies repay short-term borrowings just before the balance sheet date and re-borrow later.
- A very high ratio. Unusually large cash or stock may signal that capital is being used inefficiently.
Test yourself
- Question 1. Current assets ₹750 crore, current liabilities ₹500 crore. Current ratio? Answer: 1.5.
- Question 2. Inventory is ₹250 crore. Quick ratio? Answer: (750 − 250) ÷ 500 = 1.0.
- Question 3. Receivable days 40, inventory days 60, payable days 30. Cash conversion cycle? Answer: 40 + 60 − 30 = 70 days.
- Question 4. If receivable days rise from 40 to 55 with everything else unchanged, does the cycle lengthen or shorten? Answer: it lengthens by 15 days, tying up more cash.
Read liquidity with debt-to-equity and interest coverage for the full picture of whether a company can pay what it owes.
On NSE and BSE: what to keep in mind
- Many Indian companies, especially those selling to government bodies and large corporates, run long receivable cycles. A healthy current ratio can hide slow collections, so check receivable days too.
- Retail, FMCG and utilities can operate safely with low ratios; capital goods and construction companies need more headroom.
- The numbers come from the balance sheet filed with results on NSE and BSE.
Current ratio: frequently asked questions
What is a good current ratio?
Many analysts look for 1.5 to 2 for industrial companies, but norms differ by sector. The direction of travel over several years matters as much as the level.
What is the difference between current and quick ratio?
The quick ratio leaves out inventory, so it shows whether the company could pay its bills without having to sell stock.
Is a low current ratio always bad?
Not always — businesses that collect cash quickly and pay suppliers later can run lean. It is a warning only if it comes with weak cash flow or rising debt.
Disclaimer: this article is for education only. The figures in the worked example are illustrative and do not describe any real company listed on NSE or BSE. It is not investment advice, and investingg.in is not a SEBI-registered advisor.
The bottom line
The current ratio answers a survival question: can the company pay what it owes in the next year? Check it, and its quick-ratio cousin, before trusting a low-debt or high-growth story.
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Disclaimer: This analysis is for educational purposes only and should not be considered investment or trading advice. Please consult your financial advisor before making investment decisions.