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Q. What is current ratio in terms of accounting?
The current ratio specifies the short-term debt-paying ability of a company. To find the current ratio we divide current assets by current liabilities for example that The Home Depot's current assets as of 2001 January 28 were USD 7777000000 and its current liabilities were USD 4385000000. Therefore its current ratio was Current ratio= Current assets /Current liabilities
USD7,777,000,000/ USD4,385,000,000 =1.77 :1
The current ratio of 1.77:1 for The Home Depot signifies that it has approximately twice as many current assets as current liabilities. For the reason that current liabilities are normally paid with current assets the company appears to be able to pay its short-term obligations easily.
In calculating a company's short-term debt-paying skill you should as well examine the quality of the current assets. If they comprise large amounts of uncollectable accounts receivable and/or obsolete and unsalable inventory even a 2:1 current ratio perhaps inadequate to permit the company to pay its current liabilities. The Home Depot undoubtedly doesn't have such a problem.
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