An accounting ratio that relates an entity’s current assets, liquid assets, or highly liquid assets (absolute liquid assets) to its current liabilities. Liquidity ratios are tools used by entities to gauge their ability to convert their liquid assets to money which will be, in turn, used to off-load (transfer or pay off) their current liabilities.
The main liquidity ratios are: current ratio, quick ratio (a.k.a, acid-test ratio or liquid ratio), and absolute liquid ratio (a.k.a, cash position ratio).
- current ratio = current assets/ current liabilities
- quick ratio = liquid assets/ current liabilities
- absolute quick ratio = absolute liquid assets/ current liabilities
Where: liquid assets are current assets minus inventory (stock) and prepaid expenses. Absolute liquid assets are cash plus bank account plus marketable securities.
