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What is a Cash Ratio?

Article Details
  • Written By: Malcolm Tatum
  • Edited By: Bronwyn Harris
  • Last Modified Date: 27 July 2018
  • Copyright Protected:
    2003-2018
    Conjecture Corporation
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Sometimes referred to as a liquidity ratio, the cash ratio is a measurement strategy that can help determine how quickly a corporation could settle any outstanding liabilities by liquidating cash assets. In order to calculate the cash ratio, all that is necessary is a current listing of the liabilities and any cash and marketable securities that could be used to discharge the debts. Understanding the current cash ratio can be helpful for several reasons.

For current officers and shareholders in a company, the cash ratio is an excellent indicator of the financial stability of the business. When it can be demonstrated that the corporation is keeping a healthy balance between the marketable securities and the level of current liabilities, the efforts can focus more on growing the company, rather than attempting to simply maintain current sales and productivity. Greater cash assets and lower liabilities means there are resources to devote to product development and new marketing strategies, which is always a great position for any company.

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When it comes to potential investors, evaluating the cash ratio of a company will also provide valuable clues regarding the viability of becoming a shareholder. Investors often prefer to acquire shares that are associated with an organization that is not only stable, but also has both the resources and the potential for growth. When the cash ratio indicates that the company could easily settle all debt, that means it is much more likely to possess both these qualities.

The cash ratio can also play a big role in determining whether a group of investors should consider purchasing a company. By looking at current liabilities and marketable securities, it is possible to determine if acquisition would bring on the chance to make a profit, or if the rate of return would not be worth the effort. Even if the idea is to purchase the company and then break it into smaller components for sale, the current cash ratio will help the raiders to project how much profit would come from the venture.

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