Data Driven Decisions: Quick Ratio

What is Quick Ratio?

Quick ratio is an indicator of a company’s ability to liquidate assets to cover financial obligations in the next 12 months. 

The formula is liquidable assets / current liabilities. 

Liquidable assets include cash, marketable securities, and accounts receivable. Inventory is excluded. Current liabilities are financial obligations due to creditors within 12 months.

What does good look like?

A quick ratio of 1.0 implies that a company can cover debt for the next 12 months with existing assets because for every $1.00 of liquidable assets, there is $1.00 of debt. As such, a quick ratio less than 1.0 is unhealthy, while a quick ratio in the 1.0-3.0 range is generally healthy*, with a higher number being better. However, a really high quick ratio (eg. above 3.0) may not be desirable because it indicates a potential missed opportunity to invest in growth. 

Using quick ratio as a business owner

Business owners can use quick ratio to: 

• Identify potential cash flow challenges early. Since the ratio encompasses debt for 12 months there is time to course correct if quick ratio falls into an unhealthy state.

• Recognize when to invest in growth if quick ratio is consistently in the upper healthy range.

When assessing quick ratio, bear in mind that it is based on a point in time. It is prudent to look at the ratio over time before incorporating it into decisions. As with any ratio, it should not be used in isolation, but should be assessed in conjunction with other financial data.

*It is noteworthy that these are general guidelines; the healthy range will vary by industry.