Why This Routine Matters
The Current Ratio is your liquidity lifeline—your ability to pay the bills due in the next 12 months using the assets you can quickly convert to cash (like your bank balance and inventory).
Banks rely on this ratio when considering loans. A Current Ratio below 1.0 is a red alert that your business cannot cover its short-term debts, putting you at risk of insolvency even if you are profitable.
Monitoring Frequency
Quarterly: Must be monitored quarterly to catch early warning signs of liquidity stress.
Ratio: Current Ratio
This ratio assesses your business’s short-term financial strength and ability to meet immediate obligations.
Step 1: Calculate Your Current Ratio
A. Find the Inputs
Current Assets: Assets you expect to convert to cash within one year (e.g., Cash, Accounts Receivable, Inventory). (Found on your Balance Sheet).
Current Liabilities: Debts or obligations due within one year (e.g., Accounts Payable, short-term loans). (Found on your Balance Sheet).
B. Calculation
Example: If Current Assets are $50,000 and Current Liabilities are $25,000, Current Ratio = $50,000} / $25,000 = 2.0
Step 2: Interpretation and Trend Analysis
| Result & Interpretation | Action Trigger | Trend Analysis |
| Ideal Range (GOOD): 1.5 to 2.0. You have $1.50 to $2.00 in available assets for every $1.00 you owe. | Maintain: Provides a good safety buffer. | Look for a Stable or Rising Ratio. This is a Positive Trend indicating strong liquidity. |
| Below 1.5 (WARNING): Indicates cash may be tight, limiting your ability to take advantage of opportunities. | Immediate Action Required: Below 1.0 is an Urgent Red Flag. | Look for a Falling Ratio. This is a Negative Trend caused by increasing short-term debt or slow collection of cash. |
Step 3: Remedial Actions (Boosting Liquidity)
If your Current Ratio is falling or below 1.5, implement these remedial actions:
Improve Cash Inflow:
Action: Implement the Accounts Receivable Routine actions to speed up customer payments.
Action: Sell off obsolete or slow-moving inventory to convert assets into cash.
Reduce Short-Term Debt:
Action: Pay down your most expensive short-term liabilities (e.g., credit card debt).
Action: Explore refinancing short-term loans into longer-term debt to move the liability out of the “Current” category.
Delay Purchases:
Action: Delay any non-critical purchases of current assets (like raw materials or small equipment) that increase Current Liabilities.
Turn this into a Routine
We want to make this a regular Routine for your business in order to ensure your financials stay healthy.
This sort of Routine lends itself to a simple spreadsheet so you can;
- calculate the results for the selected period
- see at a glance if the results are improving or worsening over time
- take any remedial action required and monitor if that works
If you are familiar with spreadsheets, you can automatically insert so-called ‘Traffic lights” by colour coding Bad (red), Watch (yellow) and OK (green) to instantly catch your attention if results change. See our template spreadsheet that does all this
This article was provided by Scott Williams AO FAIDC. It describes the way best practice in many management areas has been brought together in the 12Faces GamePlan System. The Goal is to provide an easy to use and repeatable “flywheel” to improve small business owners’ outcomes. Scott is the Founder of NFP small business support services 12Faces and MentorSME and has a Philanthropic Foundation supporting students in education. Scott’s business Petals Network was National Small Business of the Year and 4 times in the Top 100 Fastest Growing Australian Businesses LinkedIn