How is the current ratio calculated?

The current ratio is a key financial metric that assesses a company's ability to cover its short-term liabilities using its short-term assets. It is specifically calculated by taking current assets and dividing them by current liabilities.

Current assets include items that are expected to be converted into cash or used up within one year, such as cash, accounts receivable, and inventory. Current liabilities, on the other hand, are obligations that the company needs to settle within the same time frame, which includes accounts payable and short-term debt.

By dividing current assets by current liabilities, the current ratio provides a measure of liquidity. A higher current ratio indicates a greater ability to pay off short-term debts, reflecting financial stability. This calculation is crucial for stakeholders, including creditors and investors, as it indicates whether the company has sufficient assets to manage its short-term obligations effectively.

In contrast, other options do not represent the definition of the current ratio and reflect different financial concepts or ratios. For instance, current assets divided by total assets relates to the proportion of current assets within the total asset structure but does not assess liquidity specifically. Similarly, total assets divided by current liabilities provides insight into overall asset coverage for liabilities but does not focus strictly on short-term obligations. Lastly, current liabilities divided