Accounting - Key ratios - liquidity
Key ratios - liquidity
Liquidity is the ability of the firm to meet its short term debts.
1. Working capital ratio
Current assets/current liabilities
The working capital ratio attempts to measure the ability of the
business to meet short term obligations. Working capital is current assets
minus current liabilities. It is difficult to define what is an adequate
working capital. Too high a working capital indicates ineffective use of
funds whilst insufficient working capital means difficulty meeting
2. Quick asset ratio
Current assets less stock and prepaid expenses/current liabilities less
This ratio is a more urgent measure of liquidity. It does not include
items that are not so quickly converted to cash. The bank overdraft has
been regarded as an obligation not immediately called for. Some
definitions, however, no longer regard this as always being true so do not
deduct from current liabilities. It is probably a better measure of
liquidity than working capital.
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