Current Ratio Analysis

In current ratio analysis, we will explain, how will current ratio affect to our business decisions. But before this, we will explain the simple meaning of current ratio.

Current ratio is a relationship between current assets and current liabilities. Just dividing current assets with current liabilities, we can calculate current ratio. Suppose, current assets are Rs. 250000 and current liabilities are Rs. 10000. Result will be 2.: 1. It means we have 2.5 times more current assets than current liabilities. In current assets, we can include cash, bank, prepaid expenses, marketable investment, sundry debtors, bill receivables and inventories.

In current liabilities, we can include outstanding expenses, sundry creditors, bank overdraft, short term taken loans and advances. Now, we analyze current ratio.

Main Point of Analysis 

1. Rule of Thumb of Current Ratio 2:1

 As a rule of thumb, current ratio should be 2:1. Proportion of current assets in current ratio should not be very high or very low than what has been given in the rule of thumb.

2.  If current ratio is less than 2:1

 If current ratio is less than 2:1, then it means we have no sufficient current assets to pay our current liabilities. This will not show a good short term position. So, our current ratio must be 2:1.

3.  If current ratio is more  than 2:1

 If our current ratio is more than 2:1, it means, we are misusing our current assets. Suppose, our current ratio is 5:1. This is because of more Rs. 100000 cash in hand. But there is no investment use of this cash. Suppose, we have more 400000 what is necessary for minimum reserve but this bank balance will giving just saving interest earning if we have saving account in bank. But, if we invest this money in business, this money can give us high return. It may be 20% or more. Like this, if we have very high level of debtors. More debtors means more risk of bad debt. If we have high level of inventory, it will increase our cost of storing that more inventory. More inventory in our stock will also increase the risk of obsolescence loss.

4. Analysis of Exceptions of Rule of Thumb

Sometime, we may keep our current ratio more or less than rule of thumb that is 2:1. But before taking this decision, we have to analysis important factors:

a) Good Reputation

If company's reputation in market is very good. At that time, company can operate with lower current ratio because company can sell his product on credit at high level and creditor may give loan for long period.

b) Seasonal Influence 

Some current assets may be seasonal. At that time, current ratio may be high at that season. For example, at Diwali, sweet shops buy high quantity of raw material because at that time, it is expected that sale will be very high.

5. Analysis of Limitation of Current Ratio

If you are creditor or any other interested party, you should not only analyze above points of current ratio, but you should also analyze the limitation of current ratio. One of limitation of window dressing. For changing the current ratio, company may change the value of current assets or current liabilities.

 Following things may happen.

Related : Introduction of Ratio Analysis 


Comments on this Website
Share above Content to Your Friends


access account accountant Accounting accounting definitions accounting ebook Accounting education accounting procedure accounting process outsourcing Accounting Software advance advertising africa Amalgamation amendments announcements Annuity assets audit auditing Australia B.Com. balance sheet bank Bank reconciliation banking basic accounting BBA benefits best bill black money blog bloggers book keeping bookkeeping Branch Accounting - full tutorial budget Budget variance business businessman CA calculator canada capital capital budgeting career cash cash book cash flow statement Chiense children china class coaching coins college commerce commerce students company computer computer accounting conference Contact vinod kumar corporate accounting cost cost accounting cost center cost centre CPA credit credit card cs currency data Debit and credit debit cards debt debtor degree depletion depreciation documents dollar domain Downloads Dubai e-accounting earning education Education Loans email employee EPF ERP euromoney examination excel excise duty expenses facebook factor of loan fans feature fifo FII fiji finacle finance Financial financial accounting fire insurance flickr flow forensic forex formula france fraud free fun function fund GAAP GDP gdr germany gold goodwill goodwill accounting google google apps google apps google base google buzz google calendar Google docs google finance google fusion tables google talk govt. GST guide health Hindi Hindi Language history holding company How to treat FBT in Tally 9 HRA ICAI ICAWI ICICI Bank IFRS income income statement Income Tax India indian railway Indonesia inflation inflation accounting infographics information inspiration insurance insurance accounting interest international Internet Introduction of Tally 9 inventory investment invoice IT Japan Job costing journal entries Kalculate keyboard kindle kuwait laptop law LBT learning lease lecture ledger leducation Leverage Analysis liabilities lifo linkedin loan logical point loss loss of profit M.Com. m.phil malaysia management accounting manual accounting manufacturing account market marketing mastercard material MBA MCA media migration mobile money ms word ms. excel multi currency in tally 9 Multicurrency Accounting mutual fund national security new and sacrifice ratio new york times new zealand news NGO nonprofit-accounting North Georgia Mountains NPV NSE odbc office oman online application online accounting otcei pakistan parents pay pal pdf pie chart pie chart of income pnb podcast ppf presentation price privacy policy prize money prof. vinod kumar profit profit and loss account project management provision purchase puzzles quickbooks Quote quotes quotes of svtuition rating agency ratio analysis RBI readers real estate rectification of errors remote control reports reserves responsibility accounting retirement revenue Revenue reserves review risk rupees salary sale saudi arabia saving sbi scholarship school SEBI security service tax share share trading Shares shri lanka singapore sms social accounting society solution South Africa stock stock exchange structure student students study subsidiary company svtuition swiss bank tally tally 9 Tally 7.2 Tally 9 Tally.ERP 9 tanzania tax Tax Accounting TDS teacher teaching technology test testimonial testimonials thailand tips trading trading on equity transaction trend trial balance tuition twitter UAE UGC - NET Commerce UK United Arab Emirates university usa valuation VAT Video Voucher and vouching wikipedia working capital youtube
Accounting Education: Current Ratio Analysis
Current Ratio Analysis
Accounting Education
Not found any lecture VIEW ALL Readmore Reply Cancel reply Delete By Home PAGES Lectures View All RECOMMENDED FOR YOU Category ARCHIVE SEARCH ALL Lectures Not found any lecture match with your request, please help to write it and send it to our email at for making this website free accounting and finance encyclopedia. Back Home Sunday Monday Tuesday Wednesday Thursday Friday Saturday Sun Mon Tue Wed Thu Fri Sat January February March April May June July August September October November December Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec just now 1 minute ago $$1$$ minutes ago 1 hour ago $$1$$ hours ago Yesterday $$1$$ days ago $$1$$ weeks ago more than 5 weeks ago Followers Follow THIS CONTENT IS PREMIUM Please share to unlock