# Real Ratio

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## What is Real Ratio

The Real Ratio is a financial ration that measures a company's ability to pay off its current liabilities with its most liquid real assets (such as inventory and accounts receivable). It is calculated by dividing a company's real assets by its current liabilities. The higher the real ratio, the more liquid a company is and the better able it is to pay off its short-term liabilities.

The formula to calculate the Real Ratio is:

Real Ratio = (Inventory + Accounts Receivable) / Current Liabilities Purpose

The Real Ratio is primarily used to assess a company's financial health. It determines how capable a company is of meeting its short-term financial obligations using readily convertible assets. Importance

The Real Ratio is crucial because it provides insight into a company's financial stability. It can be particularly useful for creditors and investors who are interested in a company's ability to pay its liabilities in the short term. Benefits

The main benefit of the Real Ratio is that it provides a more stringent measure of a company's liquidity than other ratios, such as the current ratio or quick ratio. This is because it only considers the most liquid real assets. Pros and Cons

Pros:

• Offers a stringent measure of liquidity.
• Helps creditors and investors assess a company's short-term financial health.
• Useful for comparing the liquidity of different companies in the same industry.

Cons:

• May not be applicable to companies in different industries with different business models.
• Relies on the accuracy of inventory and accounts receivable valuations.
• Does not consider the company's long-term financial health.

Examples

Let's assume a company has \$50,000 in inventory, \$30,000 in accounts receivable, and \$60,000 in current liabilities.

The Real Ratio would be:

Real Ratio = (\$50,000 + \$30,000) / \$60,000 = 1.33

A Real Ratio of more than 1 indicates that the company has more than enough liquid assets to cover its current liabilities, thus implying that the company is in a good position to meet its short-term obligations. Conversely, a ratio of less than 1 would indicate potential liquidity issues.