Let’s Play Quick Ratio Vs Current Ratio
Quick ratio vs. current ratio is a game that has been played by many in the financial world. Fortunately, they are similar, and can both be calculated quickly. However, although both are acceptable ways of determining a company’s financial stability, each has its own pros and cons.
Quick ratio veers toward the more conservative side of the spectrum while current ratio tends to be more liberal in its conclusion of a company’s funds. The most noticeable difference between the two is the inclusion or exclusion of inventory. While quick ratio discounts inventory as an asset that is not readily available, current ratio includes it because it is, after all, an asset. However, many companies cannot quickly liquefy inventory in order to satisfy immediate financial obligations, so some find current ratio’s conclusions to be somewhat inaccurate.
Current Ratio Over Quick Ratio
While including inventory, current ratio can still often be counted on to reveal a fairly accurate figure. Because of its inclusion of items that are not always easy to liquefy, the reading must be higher. Whereas a 1.0 is considered a comfortable result of the quick ratio test, most look for at least a 1.5, or even a 2.0, current ratio. In some cases, however, inventory is quickly liquefied, and for these businesses, a current ratio may be more accurate. For businesses such as the fast food industry, this would be helpful as their product quickly turns into cash on hand and rarely has a price reduction.
Quick Ratio Over Current Ratio
Although in some cases current ratio is preferred, quick ratio is often considered to be the safer choice. For industries that cannot quickly liquefy their inventory, quick ratio is often used. Also for those businesses such as retailers who often mark down inventory, the actual financial gain is less than projected, resulting in a skewed inventory estimate. For other certain industries, different seasons also offer different amounts of sales. During the off-season, inventory often builds, and if included in the calculation without the ability to sell quickly at market price, the resulting ratio will be contorted.
The most obvious move when choosing between the two is to run both ratios. This will allow a company to see its financial situation in a better light. If the quick ratio number is above 1.0, then the company is almost certainly financially secure. However, if the quick ratio is less than 1.0, and the current ratio is considerably higher than 1.0, the value and turnover of the inventory must be taken into account. Some businesses that have extremely high turnover may even have a low number in both tests and still be financially secure.
Quick ratio vs. current ratio — which is better? It really depends on who’s asking the question. The safest option is to consider both ratios and the field the business is in. Looking at the numbers of competitors will also help give a better idea of the company’s financial situation. However, in all cases, it is best to remember that these are quick guides rather than unyielding sentences.