Current ratio and quick ratio

The current ratio is current assets divided by current liabilities; the quick ratio (or acid test) does the same sum after taking stock out of current assets. Both ask whether a business can meet the bills falling due in the next twelve months from assets that should turn into cash in that time, and lenders read them alongside trend, cash flow and how the debt is classified.

What do the current ratio and the quick ratio measure?

ACCA’s ratio analysis guidance groups the two ratios under liquidity, meaning the ability of an organisation to meet its short term financial obligations. The formulas are:

• Current ratio = current assets ÷ current liabilities
• Quick ratio (acid test) = (current assets less inventory) ÷ current liabilities

The current ratio compares liabilities due within the year with cash and with assets that should become cash within the year. The quick ratio is the stricter test. It recognises that stock often takes a long time to convert into cash, so it strips stock out and asks whether debtors and cash alone would cover the current liabilities. Both are usually written as a figure to one, so a result of 1.4 means £1.40 of current assets for every £1 owed in the short term.

The ratios are snapshots. They describe the balance sheet on one day, usually the year end, and say nothing about what happened the week before or after. That is why they sit alongside the cash conversion cycle and a cash flow forecast rather than replacing them.

Which balance sheet lines go into each ratio?

For a UK company using the statutory formats, the inputs come straight from the headings in Schedule 1 to the Small Companies and Groups (Accounts and Directors’ Report) Regulations 2008 (SI 2008/409), or the equivalent large and medium regulations. Format 1 shows:

• C. Current assets, split into I Stocks, II Debtors, III Investments and IV Cash at bank and in hand
• D. Prepayments and accrued income, which may instead sit within debtors
• E. Creditors: amounts falling due within one year, including bank loans and overdrafts, trade creditors, group balances and other creditors
• F. Net current assets (liabilities), which by note (8) to the formats must take prepayments and accrued income into account wherever they are shown

Current assets for the ratio are therefore C plus D, and current liabilities are E. Net current assets (F) is the same information expressed as a difference rather than a ratio. Two adjustments are worth making before you divide:

• Debtors due after more than one year. Note (5) to the formats requires the amount falling due after more than one year to be shown separately for each debtor item, and FRS 102 paragraph 4.4A says that where the amount is material it should go on the face of the balance sheet within current assets. A long term loan to a related company is not liquid, so analysts usually exclude it.
• Accruals and deferred income. Under Format 1 these can sit at item J rather than within creditors. If the accounts put them at J, add back any amount due within a year so the comparison is like for like.

What does a worked example look like?

Illustration only. A wholesaler’s year end balance sheet shows:

Item	£
Stock	90,000
Trade debtors	60,000
Prepayments	5,000
Cash at bank	15,000
Current assets	170,000
Trade creditors	55,000
Bank overdraft	30,000
VAT, PAYE and corporation tax	15,000
Current liabilities	100,000

The current ratio is 170,000 ÷ 100,000 = 1.7. The quick ratio is (170,000 less 90,000) ÷ 100,000 = 0.8. On the current ratio the business looks comfortable. The quick ratio tells a different story: without selling stock, it has 80p of liquid assets for every £1 it owes in the short term, and £30,000 of that £1 is an overdraft the bank can call in. The gap between the two figures is a measure of how much the business depends on turning stock into sales.

What level is considered healthy?

There is no statutory or accounting standard minimum. The benchmarks are rules of thumb from the professional bodies’ teaching material:

• ACCA’s ratio analysis article says textbooks traditionally suggest the current ratio should exceed 1:1, and that to meet liabilities safely it should probably exceed 2:1, but that acceptable levels vary by sector and many companies operate safely below 2:1.
• ACCA’s financial statements interpretation article describes a current ratio of between 1.5 and 2 to 1 as a common belief about the ideal, and a quick ratio of 1:1, again subject to industry.
• ACCA’s working capital article notes that a current ratio below 1 may point to problems meeting obligations, but that supermarkets and other large retailers can run below 1 because they collect cash from customers quickly and take long credit from suppliers, while traditional manufacturers may reasonably be expected to run at 2 or more.

A service business with no stock can show a current ratio under 1 without any liquidity problem, which is why the comparison should be with the same business in earlier years and with similar businesses. Higher is not always better either. ACCA points out that a very high current ratio can mean idle cash earning no return, or that the business is not using cheap short term finance.

What do lenders read into these ratios?

A bank or asset based lender looking at a set of accounts is asking whether the business can pay its way without new money. In practice that means looking past the headline number:

• The overdraft. ACCA’s interpretation guidance tells candidates to check whether the company is overdrawn at the year end, describing overdrafts as expensive and risky because they are repayable on demand. A ratio held up by an overdraft is weaker than the same ratio with positive cash.
• Debt classification. FRS 102 paragraph 4.7 requires a creditor to be shown as due within one year if the company does not have an unconditional right, at the reporting date, to defer settlement for at least 12 months. If a covenant breach lets the lender demand repayment, the whole loan moves into current liabilities and the current ratio can collapse overnight.
• Who the creditors are. A large balance owed to a director on a loan account that can be called at any time counts as a current liability, though a lender may treat it differently if the director agrees to subordinate it. The director’s loan account page covers how those balances arise.
• Trend and cash flow. ACCA says the ratios should be read alongside operating cash flow, and that healthy cash flow often compensates for weak liquidity ratios. A falling quick ratio over three years usually says more than any single figure.
• Going concern. Under FRS 102 paragraph 3.8, management must assess whether the entity is a going concern, looking at least 12 months from the date the accounts are authorised for issue. Persistent net current liabilities are one of the facts that assessment has to deal with; see going concern assessment.

Facility letters often turn these ideas into covenants, for example a minimum current ratio or a minimum level of net current assets tested quarterly from management accounts. The definitions in the facility letter override the textbook ones, so always check what the lender includes.

Why can the ratios mislead?

• Year end timing. When the current ratio is above 1, paying suppliers out of cash just before the year end raises it, because both sides fall by the same amount. A business with a seasonal peak will also look very different depending on where its year end falls.
• Stock values. Stock is carried at the lower of cost and estimated selling price less costs to complete and sell (FRS 102 paragraph 13.4). Slow moving lines that have not been written down inflate the current ratio, which is one reason lenders prefer the quick ratio.
• Abridged accounts. A small company that abridges its balance sheet under paragraph 1A of Schedule 1 shows only the lettered and roman numeral headings, so an outsider can still work out both ratios but cannot split trade creditors from tax and other creditors.

How can a business improve its liquidity ratios?

Collecting debtors faster does not change either ratio on the day, because a debtor simply becomes cash. What does change them:

• refinancing a short term facility as a term loan, so that only the next 12 months of repayments sit in current liabilities
• keeping covenants in good order so loans are not reclassified under paragraph 4.7
• retaining profits or introducing share capital and holding the proceeds as cash
• reducing stock and using the cash to clear the overdraft, which improves the quick ratio when it is below 1

The underlying levers are the same ones covered in working capital management: less cash tied up in stock and debtors, and supplier credit used sensibly.

What mistakes come up most often?

• Treating 2:1 as a rule rather than a starting point for comparison within the same sector.
• Leaving long term debtors in current assets, or leaving accruals out of current liabilities.
• Ignoring the overdraft because it is “always there”. It is still repayable on demand.
• Reading one year end in isolation instead of a trend, or using year end figures for a business whose balance sheet swings during the year.

Solar Protect provides tax investigation insurance for businesses and fee protection schemes for accountancy practices. Read how our cover works or get a quote.

Related Accountapedia entries

• Net current liabilities: what it means
• Creditors due within and after one year
• Balance sheet formats: Companies Act and FRS 102
• Financial statements explained: P&L and balance sheet
• The gearing ratio

Sources

• ACCA: Ratio analysis
• ACCA: Performance appraisal
• ACCA: Wcm
• legislation.gov.uk: SI 2008/409, schedule 1
• Financial Reporting Council: FRS 102 September 2024 tmKYWO6

Reviewed by Christine Anderson, Broker, Solar Protect. Last reviewed 8 October 2026. Part of Accountapedia, the Solar Protect guide to UK tax and accounting. This page is general information, not personalised advice.