Learning more about the significance of  Current Assets and Current liabilities
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By using Ratio Analysis the words in the Balance Sheet and Profit and Loss Account can tell us something about how well the business has performed.
Net current assets is the same as working capital and is equal to current assets less current liabilities. However a more sophisticated way to examine this is to use  the Current and Quick ratios (Ratios 9 and 10 below) which can  tell us something about the liquidity position of the business.
The higher the figure the safer the liquidity position.
In other words the bigger the ratio the better.
The current ratio tells us how well the business is able to pay its short term debts as they fall due.
The quick ratio also tells us this, but recognizes that stock takes a long time to be turned into cash and cannot always be relied upon to realize cash if creditors suddenly demand payment at short notice . Stock is therefore removed from the calculation.

Other common ratios are also listed below .
Profitability
1 Return on Capital Employed  =   Profit            x  100 = %
                                                       Capital

2 Gross Profit Ratio                  =   Gross Profit  x  100 = %
                                                            Sales

3 Net Profit Ratio                      =   Net Profit      x  100 = %
                                                           Sales

Efficiency Ratios
4 Stock Turnover Ratio            =  Cost of Goods Sold =  No of times
                                                          Average Stock

5 Fixed Assets Turnover Ratio =  Sales                       = No of times
                                                        Fixed Assets at NBV

6 Debtor Collection Period        =  Average debtors     x 365  = No of days
                                                                   Sales             x   52  = No of weeks
                                                                                         x  12   = No of months

7 Suppliers Payment Period       =    Creditors               x 365   = No of days
                                                          Purchases               x  52    = No of weeks
                                                                                          x  12    = No of months

8 Asset Turnover                       =      Sales                      = No of Times
                                                     Capital Employed

Liquidity Ratios
9 Current Ratio                          =   Current Assets        = Expressed as a
                                                       Current Liabilities        Factor

10 Quick or Acid Test               =  Current Assets - Stock [Also expressed as a Factor]
                                                        Current Liabilities

Investment Ratios
11. Gearing                                 =  Preference Shares + Long Term Loans    X  100%
                                                        Shareholders funds + Long Term Loans

A Note of caution:
Ratio Analysis is all about comparing one set of ratios with another.
This can mean comparing one year with another, or comparing the performance of one company with another or with its budgets.
To achieve greater confidence in the conclusions you draw, you really need to compare more values than just two. You also need to bear in mind that there is some flexibility in the accounting treatments adopted by accountants when preparing the financial statements and so differences observed in performance might in part be due to differences in the way items have been treated in the accounts rather than differences in performance.
Now test your understanding by attempting to calculate  the current and quick ratios from our own figures.
First you need to know whether to examine  the  trading, profit and loss account or the balance sheet.
If you make a mistake you may return here, for another try, by pressing your internet return button. You must return to this point in any event if you wish to take a peep at the answer
 Trading, profit and loss account          Balance sheet

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
  answers to the liquidity ratios
Current ratio =                Current assets         =       910      =     2.27  to 1
                                         Current liabilities              400

Quick ratio (acid test) =  Current assets less stock      =   610    =   1.52 to 1
                                         Current liabilities                        400

All figures are found on the balance sheet. The current ratio of 2.27 to 1 indicates that the business is able to cover it's short term debts as they fall due  twice over.
There is one item in current assets which takes longer to turn into cash than the other members of this section. Stock can not be relied upon to provide cash to pay current liabilities quickly and so the quick ratio takes stock out of the equation.
The Quick ratio of 1.52 to 1 indicates that the company would be able to cover it's debts if forced to do so quickly, provided of course that the customers were in a position to pay up quickly.
 return to liquidity ratios