In the conditions of market relations, an enterprise must always be able to repay its debts (that is, have solvency) and short-term obligations (have liquidity) as soon as possible. The current ratio shows how these obligations are being met.
An enterprise is considered solvent if its current assets are greater than long-term and short-term liabilities. The organization is liquid provided that the amount of these funds is greater than short-term debt.
Assessment of changes in the degree of liquidity and solvency of an economic entity includes a comparison of balance sheet indicators, which are divided into different groups of liabilities and assets. To calculate the current ratio, you first need to "turn to the basics."
The current liquidity ratio shows how much the company can pay liabilities at the expense of assets. By the degree of liquidity, the assets of an economic entity can conditionally be divided into:
A1 - the most liquid (short-term investments, cash, value of shares repurchased from shareholders);
A2 - assets that can be quickly realized (accounts receivable in the short term, as well as other current assets from section 2 of the balance sheet);
A3 - assets with low liquidity (value added tax on acquired values, debt on contributions to the authorized capital, financial investments in the long term);
A4 - practically non-liquid (long-term accounts receivable, as well as funds from section 1 of the balance sheet (in addition to the items that are included in group A3)).
Liability information:
P1 - the most urgent obligations (debt in the payment of income, accounts payable, other obligations in the short term);
P2 - short-term liabilities (loans and borrowings in the short term);
P3 - long-term liability (loans and borrowings in the long term);
P4 - permanent liability (3 section, forthcoming expenses and income of the future period).
The balance is considered to be absolutely liquid if: the first 3 groups of assets are greater than the first 3 groups of liabilities, respectively, and A4 <P4.
The current liquidity ratio shows whether the company is able to cover its obligations using current assets. It causes great interest among investors - external entities.
Current assets of the company in relation to short-term debt is the current ratio. The norm of this indicator varies from 1.50 to 2.50. It depends on the industry of economic analysis.
The higher the value, the greater the solvency of an economic entity. A critical indicator is less than 1 - this means that the company is not able to pay obligations, provided that they need to be repaid immediately.
The current liquidity ratio shows whether the organization is able to convert its values into cash without loss, as well as the likelihood of timely coverage of current liabilities with assets of the enterprise.
