## Key indicators for assessing financial health: understanding liquidity ratios

How to know if a company can pay its debts in the short term? **Liquidity ratios** are fundamental tools that reveal the actual ability of an organization to meet its immediate financial obligations. For investors and analysts, these indicators are essential for making informed decisions and avoiding unpleasant surprises.

## The three measurement tools that every investor should know

There are three main ways to assess business liquidity, each more demanding than the previous one. Although none alone paints the complete picture, together they provide a robust view of the financial situation.

### Current ratio: the basic measure of payment capacity

The most accessible indicator is the **current ratio**, which compares a company's current assets with its current liabilities. Its **liquidity ratio formula** is simple: current assets ÷ current liabilities.

A current ratio above 1 indicates that the company has enough resources to cover short-term debts. The higher this number, the more comfortable the organization's position. However, a very high ratio could suggest that the company is not using its capital efficiently.

### Quick ratio (acid test ): the most conservative analysis

When you need a more rigorous assessment, the **quick ratio**—also known as the acid test—comes into play. This indicator is more demanding because it excludes inventory, considering only truly liquid assets.

The **liquidity ratio formula** for this case is: (cash + marketable securities + accounts receivable) ÷ current liabilities.

This ratio provides a more realistic perspective, especially for companies whose inventory does not quickly convert to cash. A healthy quick ratio usually falls between 0.5 and 1, although this depends on the industry.

### Cash ratio: the most rigorous test

The **cash ratio** represents the most conservative position, considering only the cash available on hand. Its calculation is straightforward: cash on hand ÷ current liabilities.

Although this ratio is the most restrictive, it provides absolute certainty about how well a company can face immediate liquidity crises.

## Interpreting the numbers: how to read these ratios

A value of 1 means that assets exactly match current liabilities. Values less than 1 suggest potential financial stress. However, the ideal situation is a ratio above 1, demonstrating that the organization can meet its obligations without pressure.

The key is not to rely exclusively on these ratios. It is essential to analyze them alongside the company's historical data, industry standards, and other financial indicators to gain a comprehensive understanding of organizational strength.