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In our journey to building a strong stock portfolio, we need to assess the health of the companies we consider investing in. Today's lesson focuses on a key financial metric: the Current Ratio.
Current Ratio interchangeable terms
Not to be mistaken with Quick Ratio, Current Ratio may also be referred to as:
Working Capital ratio
Liquidity Ratio
Current Ratio Formula
Current Ratio = Current Assets / Current Liabilities
Why is Current Ratio important?
Imagine your company is like a household. The Current Ratio tells you how well-equipped you are to handle your short-term bills. It's calculated by dividing current assets (cash, inventory, receivables) by current liabilities (short-term debts like accounts payable).
Aim for companies with Current Ratio of 1.5 to 2.
A ratio below 1 raises concerns. It suggests the company might struggle to pay its immediate bills. Conversely, a ratio above 2 could indicate the company isn't efficiently using its resources, potentially holding too much cash or inventory instead