Current Ratio - Explained in Hindi | #33 Master Investor - YouTube

If you want to know about the short term financial position of a company

then you can check its current ratio

What exactly current ratio is and what is its formula?

What does it mean?

We are going to cover in this video

The current ratio is a type of liquidity ratio

We discussed about liquidity ratios in the last video

in which I discussed about liquidity and solvency ratios in detail

and we also saw the difference between them

Liquidity ratios tell us about the short term financial position of a company

The most important ratio in that is the Current ratio

So in this video, we'll discuss the current ratio in detail

Watch this video till the end

Namashkar, my name is Mukul and welcome to Asset Yogi

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So as I told earlier, the current ratio tells us about the short term financial position of a company

Its formula is Current Ratio = Current Assets/Current Liabilities

Now, what are the current assets?

Current assets are the resources that you consume within 1 year or convert into cash

What can be its examples?

One is cash, you can immediately use cash

You can also use bank deposits within 1 year in the form of cash

Then there are Marketable Securities.

If you've invested in the shares of any company

Or if your company invested in the shares of any other company or in the mutual funds

Then you can easily withdraw from it because those are also very liquid

Then it can be Accounts Receivables

Let's say you've lent some money to a customer

So you'll get that money

That is called accounts receivables

It is included in current assets because generally, you get the money within 1 year

Then there can be Inventory like raw materials, some stock in work in progress,

unsold finished goods in the warehouse

All these inventories can also be converted into cash

because you can sell the goods and recover the money

So that also comes under current assets

Then there are some Pre-paid Expenses

Let's say you paid the insurance premium for the year in advance

Or maybe you did advance payment to the contractors

So that also comes under current assets

Then there can be Short Term Loans and Advances

Maybe you lent some money to someone for a short term like 6, 8, or 10 months on interest

So that is also a current asset because you'll get that money within 1 year

Then what are the Current Liabilities?

Current liabilities are also short term liabilities that you have to pay within 1 year

Now what are its examples?

One can be your Accounts Payables

Like here it was account receivables

Similarly, here it can be account payables

Maybe you took some goods or raw material from your supplier on lent

So you have to return that money

You might have taken short term loans from banks, finance, or from your supplier

So you have to return it

If you are using cash credit or overdraft facility from the bank then that also comes under current liabilities

because generally, you have to repay that money within 1 year

Then if you took some advance from the customer

Then that is also an obligation and you need to deliver the product against it

So that is also a current liability

Then there can be some outstanding expenses

Let's say you didn't pay electricity or water bills since last 3 months

or didn't pay the rent since last 2-3 months

If the salary expenses are accrued

If you haven't paid the salary since last 3 months

then those are also the outstanding expenses that come under current liabilities

If there's any long term loan and you have to pay its instalments

then the instalments have to be paid under 1 year also comes under current liabilities

So these are the examples of current assets and current liabilities

Now when we calculate the current ratio, what output does it give?

The current ratio tells us about the liquidity portion of a company

That whether the company have funds or not to pay for the current liabilities of the company

Which can come immediately within 1 year

If the current assets are less than the current liabilities, it may create a problem for the company

Now let's understand this through an example

We just now wrote the formula of current ratio which is current assets/current liabilities

Let's understand its 2 cases

Let's say in case 1, the current assets are worth Rs 1 Cr. Let me write 100 lakhs

and the current liabilities worth Rs 150 lakhs

So if we'll calculate the current ratio in this case,

then it will be 100/150

then how much is the current ratio in this case?

It is 0.67

So 0.67 means the company is facing a problem

The company cannot meet the current liabilities worth Rs 1.5 Cr in the short term

because the current assets are only worth Rs 1 Cr

If we take another example, let's say current assets

are worth Rs 200 lakhs

and let's say the current liabilities are worth Rs 100 lakhs or 1 Cr

So the current ratio, in this case, is 200/100 = 2

So what does this mean? Is this company in a comfortable position

Now let's understand the meaning of both

If the current liabilities are more than the current assets

as we saw in this case that the current liabilities are worth Rs 1.5 Cr which are much more than the current assets

So the current ratio here is less than 1, i.e 0.67

So in such a case, the company can be in trouble in short term

That means the people who lent money to you will ask for it

and you have to pay your current liabilities for sure

So that's why, when people will ask for money, there is a liquidity risk in the short term

Then, if the company is unable to pay for the liabilities in short term due to insufficient current assets

then the company may have to raise additional financing

And as I already said, liquidity risk becomes high

and that's why, long term funds may be required to raise

Now, what are the long term funds?

As we already discussed in the videos, these can be the equity funds or long term debt

So either you can raise long term debt for 3-5 years and decrease the current liabilities and make the current ratio healthy

Or you can raise some money through equity funding and decrease the current liabilities

Then we saw in this case that this is a comfortable position. What does it mean?

Here the current assets are more than the current liabilities, right!

That means if the current ratio is more than 1, what does it mean?

The company can easily meet its short term liabilities

Secondly, what is a healthy ratio?

For an ideal ratio, the current ratio should be more than 1.33

So when a bank or analyst will analyse your company, they will check if the current ratio of your company is more than 1.33

then it's very good and that means company can meet its current liabilities easily

For example, if the current liabilities are worth Rs 1 Cr and the current assets are worth Rs 2 Cr

Then the company can easily meet its short term liabilities because the current ratio is 2.

A healthy ratio is considered between 1.33 to 3 which is good

So if the current ratio is more than 3, that means the company can easily meet the short term liabilities but

the company is not able to utilize the current assets

Maybe the money is kept idle in the bank in the form of cash and the company is not utilising it properly

or maybe too much money is locked up in the inventories

or maybe too much money is locked up in the accounts receivables

That means, either the company is not able to recover it

or they are not able to sell the inventory properly and the turnaround of the inventory is not fast

or much cash is there in the bank which is not getting utilised properly

So whenever you analyse a company, make sure that the current ratio is between 1.33 to 3

Let me quickly show how you can check it for any company online

So I have opened the balance sheet of Asian Paints

You can search any company on the Moneycontrol website

After that, you get the financials on the left hand side

Here, I've opened the balance sheet and you'll get the current liabilities and current assets

So these are the total current liabilities

We're watching for March 2018 and all these figures are in crores

So the current liabilities of Asian Paints are Rs 3398 Cr and the current assets are...

Sorry these are the non-current assets and the current assets are

Rs 5500 Cr. So if you divide 5500 by 3398, you'll get the current ratio

You don't need to calculate it manually

Go can directly check out in the ratios

You get these ratios readymade

Let's see the current ratio, it is 1.62

So as we discussed, a ratio between 1.33 to 3 is a healthy ratio

So Asian Paints is in a very comfortable position if we talk about liquidity

So this was about the current ratio. In the next video, we'll see the quick ratio

As you can see here, the quick ratio is 0.98. So what does it mean?

We'll see in the next video

And similarly, you can calculate all these ratios

I already made many videos on ratios

and I'll cover the rest of the ratios in the upcoming videos so keep watching.

So thats it in this video

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