Working capital ratio

Definition

The working capital ratio, also known as the current ratio, measures a company’s ability to meet its short-term liabilities using its short-term assets.

What it means

This ratio indicates the financial health of a business in the near term. It shows whether a company has enough resources, such as cash, receivables and inventory, to cover obligations due within the next 12 months.

A ratio above 1 suggests the business can cover its short-term liabilities, while a ratio below 1 may indicate potential liquidity issues.

How it’s calculated

Working Capital Ratio = Current Assets ÷ Current Liabilities

Current assets typically include cash, accounts receivable and inventory. Current liabilities include obligations such as trade payables, short-term loans and accrued expenses.

Example

If a business has:

• Current assets of £600,000
• Current liabilities of £400,000

The working capital ratio would be:

£600,000 ÷ £400,000 = 1.5

This means the company has £1.50 in short-term assets for every £1.00 of short-term liabilities.

Why the working capital ratio matters

• Helps assess short-term financial stability
• Indicates how efficiently a business manages its working capital
• Used by lenders to evaluate liquidity and creditworthiness

Important to note

A very high ratio may suggest that assets are not being used efficiently, while a very low ratio can signal cash flow pressure.

In practice, the working capital ratio is often analysed alongside other liquidity measures to build a complete picture of a company’s financial position.