The Cash Ratio is one of many ratios which is used to measure the Liquidity of a company (others being, the Current Ratio, and the Quick Ratio).
As the name implies, the cash ratio takes only the 'cash' and 'cash equivalents' of a company into consideration and compares it with the companies short-term liabilities to measure liquidity.
Cash Equivalents include any Treasury Bills, Money Market accounts or Short-Term highly liquid securities.
Cash Ratio = Cash & Cash Equivalents / Total Current Liabilities.
The Cash, Cash Equivalents and Total Current Liabilities can be found in the Balance Sheet.
Other assets (such as Accounts Receivable or Inventory) are not included, since it may take time to sell those assets if a company needs access to immediate cash.
Since it is a more conservative view on a company's liquidity, the cash ratio is a good indicator of how well a company would be able to handle immediate liquidity needs.
What is a good Cash Ratio?
A ratio of 1 indicates that a company has a dollar of cash available to meet each dollar of its current liabilities.
While there is no ideal cash ratio, a ratio of under 0.5 would require a bit more cautiousness if one is to invest in the company or lend to it.
On the other hand, since too much cash in a company generates no return, it is also important to remember that too much cash is an opportunity loss for a company since the excess cash can be used to generate returns.
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