For example, in the manufacturing industry, it may be more common to give a customer 90 days or more of credit, but in the retail industry, short-term payback is more important. Paradoxically, the manufacturing company that is giving more credit days, may have a stronger current ratio because of higher assets or higher working capital. The current ratio is an indicator of the current evaluation of all short-term assets and short-term liabilities, unlike other liquidity indicators. The current ratio is sometimes also referred to as the working capital ratio.
PRACTICE QUESTION
XYZ Company had the following figures extracted from its books of accounts. Current liabilities https://www.bookkeeping-reviews.com/ are obligations that are to be settled within 1 year or the normal operating cycle.
- A company with a consistently increasing current ratio may hoard cash and not invest in future growth opportunities.
- For example, a company’s current ratio may appear to be good, when in fact it has fallen over time, indicating a deteriorating financial condition.
- This will increase the ratio because inventory is considered a current asset.
- This comprehensive analysis will help ensure that decision-makers have a more accurate understanding of a company’s liquidity position.
How Can Diversity of Thought Lead to Good Ethical Decisions?
For instance, imagine Company XYZ, which has a large receivable that is unlikely to be collected or excess inventory that may be obsolete. We’re firm believers in the Golden Rule, which is why editorial what is the abbreviation for debit and credit opinions are ours alone and have not been previously reviewed, approved, or endorsed by included advertisers. The Ascent, a Motley Fool service, does not cover all offers on the market.