Cash Ratio
Cash ratio is defined as the ratio of total cash of the company divided by the company’s current liabilities. Since it is a source to measure the liquidity of the company it can be used to find out that in how much time a company can pay back its short-term debt. It is therefore also known as liquidity ratio or cash asset ratio. If a cash ratio is strong then it is very much useful for the creditors since they can decide the amount of debt they can extend willingly to the asking party. To calculate the cash ratio we just need to have the list of current liabilities and the marketable securities that can be used to pay back the cash. Formula for measuring cash ratio is:
Cash Ratio= (Cash + Equivalents + funds (invested)) / (Current liabilities)
This formula indicates that up to which extent a company can pay its current liabilities without depending upon inventory’s sale. This formula ignores the cash paid out and cash received timings. Cash ratio is not much used in fundamental analysis of a company or in financial reporting. For the shareholders in the company and the current officers cash ratio is the best indicator to determine the financial stability of a business. If cash assets are greater and liabilities are lower than it means that there are enough resources for the development of a product which indirectly means that the position of the company is good.
Determining the cash ratio is also helpful for an investor since it will help him to judge whether a company is viable for him to become a shareholder or not. Investors like to invest in a company which is stable and along with resources has potential for growth. By the cash ratio investors can judge that the company can settle the debts which means that the above two qualities are also possessed by the company. Also it can be used by a group of investors to judge whether a company is worth purchasing or not.With the help of the current liabilities the chance for making a profit can be determined. I t will also help the investors to find out the profit they will gain if they are planning to purchase as big company and then breaking it into smaller components for selling again.
Written by: Matt
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Tagged as asset ratio, cash assets, cash equivalents, creditors, debts, extent, financial reporting, financial stability, fundamental analysis, investor, investors, liquidity ratio, list of current liabilities, marketable securities, shareholder, shareholders, term debt + Categorized as Economy articles, Finance