The current ratio is a liquidity metric that measures a company's ability to pay its short-term obligations (debts and payables due within one year) using its current assets. It is calculated by dividing current assets by current liabilities:

Current Ratio=Current AssetsCurrent Liabilities\text{Current Ratio}=\frac{\text{Current Assets}}{\text{Current Liabilities}}Current Ratio=Current LiabilitiesCurrent Assets​

Current assets typically include cash, accounts receivable, inventory, and other assets expected to be converted to cash within a year. Current liabilities include accounts payable, short-term debt, wages, taxes, and other obligations due within a year

What the Current Ratio Shows

• Liquidity Position: A higher current ratio indicates greater liquidity and a stronger ability to cover short-term debts. For example, a current ratio of 1.5 means the company has $1.50 in current assets for every $1 of current liabilities

• Financial Stability: It reflects the company's short-term financial health and working capital management. A ratio above 1 generally suggests the company can meet its short-term obligations, while a ratio below 1 may indicate potential liquidity problems

• Industry Context: What counts as a "good" current ratio varies by industry. Typically, a ratio between 1 and 3 is considered healthy, but some industries operate well with lower or higher ratios depending on their business model

• Trend Analysis: The trend of the current ratio over time can indicate improving or deteriorating liquidity. A stable or rising ratio suggests better financial health, while a declining ratio may signal increasing risk

Interpretation Guidelines

• Current Ratio > 1: Company has more current assets than liabilities and can generally pay off short-term debts.
• Current Ratio < 1: Company might struggle to meet short-term obligations.
• Current Ratio between 1.5 and 3: Often considered ideal, indicating ample liquidity without excessive idle assets.
• Current Ratio > 3: Could indicate inefficient use of assets or excessive liquidity that might be better invested elsewhere

Summary

The current ratio is a key indicator of a company's short-term financial health, showing its ability to cover immediate liabilities with available assets. It helps investors, analysts, and lenders assess liquidity risk and operational efficiency, but should be interpreted in the context of industry norms and company-specific factors