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What is a Cash Asset Ratio?

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  • Written By: Malcolm Tatum
  • Edited By: Bronwyn Harris
  • Last Modified Date: 10 October 2018
  • Copyright Protected:
    2003-2018
    Conjecture Corporation
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Sometimes referred to as a liquidity ratio, the cash asset ratio has to do with the total amount of cash on hand and securities that could be easily turned into cash, after the amount of current liabilities is settled in full. The idea is to ensure that the company is able to handle any debt that shortly will come due, even in the face of unforeseen circumstances. Cash asset ratios are considered to be an excellent means of evaluating the ability of a corporation to deal with short-term debt and still operate at the same level of production.

Part of the key to making an accurate cash asset ratio is understanding the nature of any marketable securities. This involves the consideration of two factors. First, the current market value of each of the securities should be verified. Many people make the mistake of using the original purchase price of the security or asset at the current market value. Often, the security is either worth more or less than that initial purchase price. Second, the difference between the current market value and what buyers would be willing to pay to own the security should also be taken into consideration. While the two prices are often the same, that is not the case in every situation.

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Once a realistic understanding of how much cash can be raised by the sale of market securities is achieve, that balance is added to any cash reserves that are on hand. This will include funds that are in bank accounts of any kind. Pending interest on the balances should not be considered, although interest accrued up to the current date may be included.

After totaling the assets that could be applied to outstanding debt, the next step in factoring a cash asset ratio is to make sure the amount of current liabilities is subtracted. Current liabilities are essentially outstanding debt that is anticipated to be retired during the current fiscal year. This may include such items as monthly production costs, office supplies, and equipment replacements that are expected to be paid for in a short period of time.

Many institutions that make short term loans will look closely at the cash asset ratio of a company before extending the offer of a loan. The rationale is that if a company has enough resources to handle all current indebtedness in a timely manner and still be able to continue revenue producing functions in the interim, the cash asset ratio is stable and issuing a short term loan is a good risk.

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