Current Ratio

Current Ratio is also called "liquidity ratio", "cash asset ratio" and "cash ratio". The last two synonyms are misleading totally and the first one – substantially. It is the ratio of your total current assets (cash, marketable securities, inventory, accounts receivable, prepaid expenses, etc.) to your total current liabilities.

It is supposed to measure a company's ability to pay short-term obligations. But only ‘supposed to’. Why? Because you can’t generally swap (‘barter’) your current assets for your current liabilities. To pay the latter, you need cash.

Therefore, you must first convert your current assets into cash, which might be a problem. Sometimes, a serious problem – for example, with you’re A/R. Or even with your inventory. With prepaid expenses it is downright impossible.  

Therefore, even if your current ratio exceeds 100% (if it falls below that, your company is in big trouble), it does not mean that your company does not have a liquidity problem.

To make sure it does not, you have to make ‘assets to cash conversion adjustments’ (or ‘liquidation adjustments’) and match dates and amounts of cash receipts with amounts and dates due of your current liabilities. Which requires a highly efficient system for managing your working capital (i.e. both your current assets and current liabilities).