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What is a “current” ratio, and how is it used?

The current ratio is also called the working capital ratio, and it is used to determine a company’s ability to meet its current (or short term) obligations.

In order to meet these liabilities that are due and payable within one year, a company must have current assets that it can easily sell to make those payments. It’s a little like examining an individual’s ability to make payments on a short-term personal loan, by determining what assets s/he could easily sell. The ratio is calculated as follows: Current assets/Current liabilities = working capital This is then expressed as a ratio, as in 2:1. This means that the company has $2 in cash or cash equivalents for every $1 in debt. What represents a “good” ratio depends on a number of factors, including the type of industry. Companies must have enough working capital to meet their obligations and grow with new opportunities.