Cash to Current Liabilities Ratio

Definition

The term cash to current liabilities ratios refers to a metric that allows the investor-analyst to understand the ability of a business to meet its short-term liabilities. If the calculated ratio is relatively high, it should be able to easily meet those obligations.

Calculation

Cash to Current Liabilities = Cash + Short-Term Marketable Securities / Current Liabilities

Where:

  • Short-term marketable securities are temporary investments a company might make in another company, with the hope of providing higher returns to its shareholders.

Explanation

Cash flow measures allow the investor-analyst to understand if the company is generating enough cash flow from ongoing operations to keep the company in a financially sound position over the long term. One of the ways to understand the ability of a company to meet its short-term obligations is to calculation their cash to current liabilities ratio.

By calculating a company's cash to current liabilities ratio, the investor-analyst can understand the proportion of its cash the company has on the balance sheet in relation to its current liabilities. If the ratio is relatively high, it means the company should not struggle to meet those obligations. In practice, the numerator of this ratio would include both cash as well as short-term marketable securities.

To gain a better understanding of how the company is performing, this metric can be used as a benchmark, comparing the company to its industry peer group. It's also suggested to measure this ratio over time, since near-term obligations can hide a longer-term pattern. Finally, when calculating this metric for companies with relatively high labor costs, the investor analyst should understand if payroll expenses are included in current liabilities.

Example

The CFO of Company ABC would like to understand if the company has sufficient cash on hand to meet its current liabilities. The CFO is conservative and she does not want to rely on the collections of accounts receivable to fund its current liabilities and payroll in particular. The table below was taken from the company's balance sheet over the last four quarters.

  Q1 Q2 Q3 Q4
Cash $345,015 $396,797 $380,896 $399,941
Short-Term Marketable Securities $86,254 $99,192 $95,225 $99,985
Total $431,269 $495,959 $476,120 $499,926
Current Liabilities $410,732 $463,513 $462,252 $454,478
Cash to Current Liabilities 1.05 1.07 1.03 1.10

Since the ratio was found to be in excess of 1.0 in each of the proceeding four quarters, the CFO was comfortable with the company approach to managing its cash balance.

Related Terms

cash flow coverage ratio, cash receipts to billed sales, cash to current assets ratio, expense coverage days