Liquidity Measurement Ratios: Cash Ratio
  1. Liquidity Measurement Ratios: Introduction
  2. Liquidity Measurement Ratios: Current Ratio
  3. Liquidity Measurement Ratios: Quick Ratio
  4. Liquidity Measurement Ratios: Cash Ratio
  5. Liquidity Measurement Ratios: Cash Conversion Cycle

Liquidity Measurement Ratios: Cash Ratio

By Richard Loth (Contact | Biography)

The cash ratio is an indicator of a company's liquidity that further refines both the current ratio and the quick ratio by measuring the amount of cash, cash equivalents or invested funds there are in current assets to cover current liabilities.

Formula:


Components:

As of December 31, 2005, with amounts expressed in millions, Zimmer Holdings' cash assets amounted to $233.20 (balance sheet); while current liabilities amounted to $606.90 (balance sheet). By dividing, the equation gives us a cash ratio of 0.4



Variations:
None

Commentary:
The cash ratio is the most stringent and conservative of the three short-term liquidity ratios (current, quick and cash). It only looks at the most liquid short-term assets of the company, which are those that can be most easily used to pay off current obligations. It also ignores inventory and receivables, as there are no assurances that these two accounts can be converted to cash in a timely matter to meet current liabilities.

Very few companies will have enough cash and cash equivalents to fully cover current liabilities, which isn't necessarily a bad thing, so don't focus on this ratio being above 1:1.

The cash ratio is seldom used in financial reporting or by analysts in the fundamental analysis of a company. It is not realistic for a company to purposefully maintain high levels of cash assets to cover current liabilities. The reason being that it's often seen as poor asset utilization for a company to hold large amounts of cash on its balance sheet, as this money could be returned to shareholders or used elsewhere to generate higher returns. While providing an interesting liquidity perspective, the usefulness of this ratio is limited.

Liquidity Measurement Ratios: Cash Conversion Cycle

  1. Liquidity Measurement Ratios: Introduction
  2. Liquidity Measurement Ratios: Current Ratio
  3. Liquidity Measurement Ratios: Quick Ratio
  4. Liquidity Measurement Ratios: Cash Ratio
  5. Liquidity Measurement Ratios: Cash Conversion Cycle
RELATED TERMS
  1. Cash Asset Ratio

    The current value of marketable securities and cash, divided ...
  2. Cash Ratio

    The ratio of a company's total cash and cash equivalents to its ...
  3. Quick Ratio

    The quick ratio is an indicator of a company’s short-term liquidity. ...
  4. Current Ratio

    The current ratio is a liquidity ratio measuring a company's ...
  5. Current Assets

    A balance sheet account that represents the value of all assets ...
  6. Liquidity Ratios

    A class of financial metrics that is used to determine a company's ...
RELATED FAQS
  1. What is the relationship between the cash ratio and liquidity?

    Understand the relationship between a company's cash ratio and its liquidity. Learn what the cash ratio measures and what ... Read Answer >>
  2. What are some alternative liquidity ratios to the cash ratio?

    Learn what the cash ratio measures, and understand what two other liquidity ratios can be used by a company to replace the ... Read Answer >>
  3. What does the cash ratio of a company measure, and how does it affect decision making?

    Learn what the cash ratio of a company measures, and understand why its an important liquidity ratio for a company to use ... Read Answer >>
  4. How can a company quickly increase its liquidity ratio?

    Discover what high and low values in the liquidity ratio mean and what steps companies can take to improve liquidity ratios ... Read Answer >>
  5. What are the main differences between the current ratio and the quick ratio?

    Find out how the quick ratio and the current ratio can offer different views on a company's ability to pay off liabilities. Read Answer >>
  6. What is the difference between the cash ratio and the solvency ratio?

    Understand the difference between the cash ratio and the solvency ratio. Learn why a company should be focused on both ratios ... Read Answer >>

You May Also Like

Hot Definitions
  1. Cost Of Debt

    The effective rate that a company pays on its current debt. This can be measured in either before- or after-tax returns; ...
  2. Yield Curve

    A line that plots the interest rates, at a set point in time, of bonds having equal credit quality, but differing maturity ...
  3. Stop-Limit Order

    An order placed with a broker that combines the features of stop order with those of a limit order. A stop-limit order will ...
  4. Keynesian Economics

    An economic theory of total spending in the economy and its effects on output and inflation. Keynesian economics was developed ...
  5. Society for Worldwide Interbank Financial Telecommunications ...

    A member-owned cooperative that provides safe and secure financial transactions for its members. Established in 1973, the ...
  6. Generally Accepted Accounting Principles - GAAP

    The common set of accounting principles, standards and procedures that companies use to compile their financial statements. ...
Trading Center