What does the current ratio measure in financial analysis?

The current ratio is a critical financial metric used to assess a company's liquidity, specifically measuring its ability to meet short-term obligations using short-term assets. This metric is calculated by dividing a company’s current assets (such as cash, accounts receivable, and inventory) by its current liabilities (such as accounts payable and short-term debt).

A current ratio above 1 indicates that a company has more current assets than current liabilities, suggesting it is in a good position to cover its short-term debts. Conversely, a ratio below 1 may indicate potential liquidity issues, as it implies that the company may not have enough assets to cover its short-term obligations.

This focus on short-term finances distinguishes the current ratio from other financial metrics that evaluate profitability, debt levels, or long-term stability. By emphasizing a company’s immediate liquidity, the current ratio provides stakeholders with vital information about the company’s short-term financial health.