Cash Ratio Calculator

The current ratio is a liquidity ratio that measures whether a firm has enough resources to meet its short-term obligations. It compares a firm's current assets to its current liabilities, and is expressed as follows:

Current ratio = ^{Current Assets}/_{Current Liabilities}

The current ratio is generally an indication of a firm's liquidity. Acceptable current ratios vary from industry to industry. In many cases, a creditor would consider a high current ratio to be better than a low current ratio, because a high current ratio indicates that the firm is more likely to pay the creditor back. Large current ratios are not always a good sign for investors. If the firm's current ratio is too high it may indicate that the firm is not efficiently using its current assets or its short-term financing facilities.

If current liabilities exceed current assets the current ratio will be less than 1. A current ratio of less than 1 indicates that the firm may have problems meeting its short-term obligations. Some types of businesses can operate with a current ratio of less than one, however. If inventory turns into cash much more rapidly than the accounts payable become due, then the firm's current ratio can comfortably remain less than one. Inventory is valued at the cost of acquiring it and the firm intends to sell the inventory for more than this cost. The sale will therefore generate substantially more cash than the value of inventory on the balance sheet. Low current ratios can also be justified for businesses that can collect cash from customers long before they need to pay their suppliers.

The cash ratio is a measurement of a firm's liquidity or ratio of a firm's total cash and cash equivalents to its current liabilities. The metric calculates a firm's ability to repay its short-term debt with cash or near-cash resources, such as easily marketable securities. This information is useful to creditors when they decide how much money, if any, they would be willing to loan a firm.

It is almost like an indicator of a firm’s value under the worst-case scenario—say, where the firm is about to go out of business. The formula for the cash ratio uses current liabilities for the denominator and

It tells creditors and analysts the value of current assets that could quickly be turned into cash, and what percentage of the firm’s current liabilities these cash and near-cash assets could cover.

It is generally a more conservative look at a firm's ability to cover its debts and obligations, because it sticks strictly to cash or cash-equivalent holdings—leaving other assets, including accounts receivable, out of the equation.

If a firm's cash ratio is less than 1, there are more current liabilities than cash and cash equivalents. It means insufficient cash on hand exists to pay off short-term debt. This may not be bad news if the firm has conditions that skew its balance sheets, such as lengthier-than-normal credit terms with its suppliers, efficiently-managed inventory, and very little credit extended to its customers.

A cash ratio is expressed as a numeral, greater or less than 1. Upon calculating the ratio, if the result is equal to 1, the firm has exactly the same amount of current liabilities as it does cash and cash equivalents pay off those debts.

The key difference lies with the numerator. The numerator of the cash ratio restricts the asset portion of the equation to only the most liquid of assets, such as cash on hand, demand deposits, and cash equivalents (sometimes referred to as marketable securities), like money market accounts funds, savings accounts, and T-bills. Accounts receivable, inventory, prepaid assets, and certain investments are not included in the cash ratio, as they are with other liquidity measurements. The rationale is that these items may require time and effort to find a buyer in the market. In addition, the amount of money received from the sale of any of these assets may be indeterminable.

If a firm's cash ratio is greater than 1, the firm has more cash and cash equivalents than current liabilities. In this situation, the firm has the ability to cover all short-term debt and still have cash remaining. While that sounds responsible, a higher cash ratio does not necessarily reflect a firm's strong performance, especially if it is significantly greater than the industry norm. High cash ratios may indicate that a firm is inefficient in the utilization of cash or not maximizing the potential benefit of low-cost loans: Instead of investing in profitable projects, it's letting money stagnate in a bank account. It may also suggest that a firm is worried about future profitability and is accumulating a protective capital cushion.

In order words, if the firm has enough cash & cash equivalents and marketable securities to cover for current liabilities, the cash ratio will result in an amount greater than 1; otherwise, less than 1.

The cash ratio is more useful when it is compared with industry averages and competitor averages, or when looking at changes in the same firm over time. A cash ratio lower than 1 does sometimes indicate that a firm is at risk of having financial difficulty. However, a low cash ratio may also be an indicator of a firm's specific strategy that calls for maintaining low cash reserves—because funds are being used for expansion.