In the series of fundamental analyzes, we will now take a look at what the current relationship is, what it is, and how it can be useful in valuing an investment.
The current metric is sometimes referred to as the working capital ratio and is a metric specifically used to measure a company’s short-term ability (a year or less) to cover debts with its working capital.
Current assets would include cash, accounts receivable, inventories and OCA (other current assets).
They are either cash now or are expected to be liquidated and converted to cash within a year.
Current liabilities include trade payables, wages, taxes payable, current debt, and the current portion of long-term debt (that is, the amount of long-term debt that is expected to be paid within one year).
In general, the question is how likely it is that a company can meet all of its obligations if they all come due at once.
While this scenario is unlikely to occur in the real world, it does speak in favor of a company’s potential solvency.
Numbers above 1 are generally preferable.
However, if the number is “too high” it may indicate an inefficient use of capital.
What is considered “too high” can vary from industry to industry.
As the name suggests, this relationship focuses on things that are current and happening now.
Therefore, when the ratio is calculated can affect the results.
In other words, a company’s current relationship may differ within the same month depending on when customers pay and / or when the company pays its employees (for example).
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Similar to the interest coverage ratio discussed in the previous article, the current ratio is best used as a measure of determining trends when calculated over multiple time periods.
Since it is more sensitive to exactly when it is calculated when calculating over multiple time periods, it is preferable to calculate it at the same time of the month and / or month of the quarter.
So, in addition to looking at the first month of the quarter, for example, you might also want to look at the first week of the first month of the quarter.
Or look at the second week of the third month of each quarter.
As long as the timing is consistent, you are more likely to get a better picture over time.
As suggested above and similar to other fundamental metrics, the current ratio should really only be used to evaluate / compare companies within the same industry.
Also, keep in mind that while the current ratio is sensitive to the calculation, it is not necessarily very high Specific.
That is, many metrics would explicitly exclude assets that cannot be easily liquidated. However, the current metric includes all assets, regardless of how liquid they may or may not be.
For example, if a company has large accounts receivable but they are very old (because customers are paying very slowly), the company may look more liquid than it is.
Likewise, companies with large inventories can have high rates. However, if these stocks cannot be sold (or need to be heavily discounted to do so), their quota can be artificially increased.
As with the rest of the metrics we’ve looked at, the current metric is only part of the picture of a company’s finances.
It is also less useful as a singular data point; One should look at the historical norms for this company and its peer group to best determine what a single point could say about this company’s solvency.
Disclaimer: The information above applies to For educational purposes only and should not be treated as investment advice. The strategy presented would not be suitable for investors who are unfamiliar with exchange-traded options. All readers interested in this strategy should do their own research and seek advice from a licensed financial advisor.