Which ratios measure financial liquidity and how are these ratios calculated?

Photo by Giorgio Tomassetti on Unsplash

The world of finance can feel like a black box. The industry is full of complicated-sounding ratios and grandeur terms. However, once you understand the core principles, learn how to calculate the ratios, and how to use ratios it becomes a lot less complicated. In this article, we will go over each ratio and discuss the following:

1. The definition of the ratio and why it’s important

2. How to calculate the ratio

3. How to find the right information in the balance sheet

Before we dive into the liquidity ratios, read the first article in the series if you need to brush up on exactly what financial liquidity means.

1. Current Ratio

Equation: Current Ratio = Current Assets / Current Liabilities

2. Quick Ratio

Equation: Quick Ratio = (CashandCashEquivalents+ShortTermInvestments+AccountReceivables​) / Current Liabilities

3. Cash Ratio

Equation: Cash Ratio = Cash & Cash Equivalents / Current Liabilities

4. Days of Sales Outstanding (DSO)

Equation: DSO = ((AccountReceivable(start) + AccountReceivable(end)) / 2) / (Revenue / 365)

5. Days of Inventory Outstanding (DIO)

Equation: DIO = ((Inventories(start) + Inventories(end)) / 2) / (COGS / 365)​

6. Operating Cycle

Equation: Operating Cycle = DSO +DIO

7. Days of Payables Outstanding (DPO)

Equation: DPO = ((AccountsPayable(start) + AccountsPayable(end)) / 2​) / (COGS / 365)

8. Cash Conversion Cycle (CCC)

Equation: Cash Conversion Cycle = DSO +DIO -DPO

Rounding Up

Originally published at https://financialmodelingprep.com.

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Financial Modeling Prep

Written by

FMP cloud provides the most up-to-date financial statements and market data, and guidance to use them.

learn-finance

Guides to help you become a finance expert.

Financial Modeling Prep

Written by

FMP cloud provides the most up-to-date financial statements and market data, and guidance to use them.

learn-finance

Guides to help you become a finance expert.

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