Current Ratio

One of the ways to evaluate changes in working capital is to look at the relationship between current assets and current liabilities.  This financial test is known as the Current Ratio.  Creditors feel better when the current ratio is higher, however, management should believe that too high a current ratio indicates that capital is not being used effectively.

The calculation of current ratio is:

Total Current Assets / Total Current Liabilities

Since creditors view the current ratio as an indicator of short term solvency of the company, some companies might take conscious steps to improve their current ratio just before the end of a fiscal period.