AAKASHAYA PATRA SEVEN STAR SMART EDUCATION SERIES PART – 56 : 05.09.2020

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  1. Financial Ratios

Liquidity measures how quickly assets are converted into cash. These ratios are used to evaluate the company's ability to meet short-term obligations without raising external capital. Liquidity ratio affects the credibility of the company as well as the credit rating of the company. It indicates the financial stability of the company.

 Some of the commonly used Liquidity Ratios include –

 1. Current Ratio

2. Quick Ratio

3. Cash Ratio

 Current Ratios:

Current ratio is calculated by dividing current assets with current liabilities. This shows the liquidity position, i.e., how equipped is the company in meeting its short term obligations with short-term     assets. A higher figure signals that the company's day-today operations will not get affected by working capital issues. A current ratio of less than one is a matter of concern.

Current Ratio = Current Assets / Current Liabilities

Sometimes companies find it difficult to convert inventory into sales or receivables into cash. This may hit its ability to meet obligations. In such a case, investors may calculate the quick ratio.

Quick Ratio:

Quick ratio also known as the acid-test ratio measures a company's ability to meet its short-term obligations with its most liquid assets.Quick ratio is more conservative than the current ratio because it excludes inventory and other current assets, which can be more difficult to turn into cash.

 Quick Ratio = (Current Assets - Inventories) / Current Liabilities 

In situations where inventories are illiquid, the quick ratio may be a better indicator of liquidity than the current ratio.

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