MAFundamentals defines the foundation of Management Accounting from cost concept, classification and analysis. It provides general discussion on COST, VOLUME, PROFIT, VARIANCE and other information necessary for performance measurement, decision making and pricing.

Liquidity Ratios

One method of Financial Ratio Analysis, Liquidity Ratios provides information about the company's ability to pay its current obligations and continue operations.

Learn more about FS Analysis Techniques

Discussed here are the five (5) different yet complementary types of liquidity ratios including their variations, formula and significance.

  1. Current Ratio (or Working Capital Ratio or Banker's Ratio)
    FORMULASIGNIFICANCE
    Current Assets
    Current Liabilities     		Test of short-term debt paying ability
  2. Acid Test or Quick Ratio
    FORMULASIGNIFICANCE
    Quick Assets*
    Current Liabilities

    *Quick Assets = Cash + Cash Equivalents + Net Receivable + Marketable Securities     		Measure the firm's ability to pay its short-term debt from its most liquid assets without having to rely on inventory

    • Cash Ratio
      • Cash + Cash Equivalents + Marketable Securities
      Current Liabilities       		A variation of Quick Ratio that is more conservative. Test the short-term liquidity of the firm without having to rely on receivables and inventory

    • Cash to Current Asset Ratio
      • Cash + Cash Equivalents + Marketable Securities
      Current Assets       		Measures the liquidity of current assets

    • Cash Flow Ratio
      • Operating Cash Flow
      Current Liabilities       		Shows significance of cash flow for setting current obligations as they become due.

  3. Defensive Interval
    FORMULASIGNIFICANCE
    Cash Equivalents + Net Receivables + Marketable Securities
    Daily Operating Cash Flow     		Reflects the percentage of near cash items to the daily operating cash flow
  4. Investment Financing
    FORMULASIGNIFICANCE
    Increase In Retained Earnings + Depreciation
    Current Investment     		Shows the amount of current investment that was "financed" by retained earnings and depreciation.
  5. Liquidity Index
    FORMULASIGNIFICANCE
    Weighted Non-Cash Current Assets*
    Current Assets

    *Non-Cash Current Assets are weighted by multiplying their balancesby the average days they are removed from conversion to cash.     		A measure of the liquidity of current assets stated in days showing the period-to-period changes in liquidity.