Cash ratio

The formula

• CR = C / CL

C is the cash and the bank balances, and CL the current liabilities. Nothing has to be sold or collected: the ratio says what share of the year’s debts could be paid this afternoon.

A worked example

Cash of 120,000 against current liabilities of 400,000: CR = 120,000 / 400,000 = 0.3. Three tenths of what falls due within the year is already in the bank. The same company’s current ratio, with receivables and stock, might be 1.5.

Why it is usually below 1

A company that held cash for every short-term debt would be keeping a year’s payments idle. Most run well below 1 and rely on sales to pay suppliers as they fall due; the cash ratio measures the cushion, not the whole cover. A ratio that falls from 0.3 towards 0 says the cushion is going, which is worth knowing before the current ratio moves.

The three together

Current ratio, quick ratio and cash ratio take the same denominator and strip the numerator in steps: everything current, then without the stock, then cash alone. Reading the three side by side shows what the cover is made of.

Common mistakes

• Counting cash that is spoken for. A balance held as security for a loan or a customer’s deposit is not free.
• Counting shares and funds as cash. Short-term investments that can be sold in a day are often added in; say so if they are.
• Judging it against a rule of thumb for the current ratio. The scales are different.

Frequently asked questions