Current ratio
The current ratio is current assets divided by current liabilities. The ratio measures accounting coverage in the short term, but not whether inventory and receivables can be quickly turned into cash.
What does current ratio mean?
The current ratio is current assets divided by current liabilities. The ratio measures accounting coverage in the short term, but not whether inventory and receivables can be quickly turned into cash.
The numerator is current assets; the denominator current liabilities. A result above 1 gives accounting coverage, but says little about the collectability of debtors or the saleability of inventory.
How does it work?
The current ratio divides current assets by current liabilities. Current assets are inventory, receivables, securities, cash and cash equivalents and prepayments (art. 2:364(3) DCC). Current liabilities are debts with a remaining term of at most one year, including what will be repaid on long-term loans in the coming year. The law does not prescribe the ratio. However, art. 2:362(1) DCC requires that the annual accounts, to the extent their nature allows, give insight into liquidity.
A result above 1 means current assets cover current liabilities. The KVK calls a value between 1,2 and 1,5 healthy. The ratio is a snapshot: it rises if you take out a long-term loan just before the balance sheet date and falls if you buy a machine with cash, without the company paying better or worse. Slow-moving inventory and uncollectible receivables count until they are written down.
Example
A BV has at 31 December: inventory € 90.000, accounts receivable € 70.000, prepayments € 5.000 and bank € 15.000: current assets € 180.000. Accounts payable € 60.000, taxes € 25.000, overdraft € 20.000 and next year's repayment on the bank loan € 15.000: current liabilities € 120.000. Current ratio: 180.000 / 120.000 = 1,5. Without inventory the quick ratio is (180.000 − 90.000) / 120.000 = 0,75. If € 30.000 of the inventory proves unsaleable, the current ratio falls to 150.000 / 120.000 = 1,25.
In the annual accounts
Calculation from the balance sheet for all size classes; no mandatory publication rule.
Difference from the quick ratio
The quick ratio leaves inventory out of the numerator, because inventory first has to be sold and then still collected. For a service provider without inventory the two numbers are equal. For a trading company the current ratio can be 1,5 and the quick ratio 0,75: enough coverage on paper, but dependent on sales to pay next month's bills.
Common mistakes
- Including long-term debts in the denominator
- Treating a ratio above 1 as a cash guarantee
What should you watch for?
- Calculate the ratio per quarter as well. A seasonal business has a different position on 31 December than in June.
- Add next year's repayment to the current liabilities before you calculate. The ratio calculator works out current ratio, quick ratio and solvency.
- The ratio can also be derived from a filed micro or small balance sheet: both show current assets and the part of the debts with a term of up to one year (art. 2:395a(4) DCC and art. 2:396(3) DCC).
Legal basis and source
no separate statutory ratio
Frequently asked questions
Which current ratio is considered healthy?
The lower limit is 1: then current liabilities are covered by current assets. The KVK calls 1,2 to 1,5 healthy. What is appropriate depends on the industry, inventory turnover and payment terms.
Can a current ratio be too high?
Yes. A high result can point to a lot of inventory, slow debtors or money sitting unused in the bank. So also look at the composition of current assets.
Read more
Preparing Dutch annual accounts?
Your first set of annual accounts is free, for every size class. Create an account and prepare the annual accounts of your Dutch company under Title 9 of Book 2 of the Dutch Civil Code.
Get started