How could you assess the ability for a business to pay for its liabilities?

We could assess the ability of a business to pay its liabilities using two ratios.  Firstly, we could use the current ratio, which is calculated by dividing current assets by current liabilities (Found in the balance sheet). This would tell us how many pounds of current assets we have against current liabilities. Generally, a ratio of 1:1.5 is favorable. It must be noted that excess cash is a sign that the business has poor cash management, when it could be invested into projects that can potentially increase shareholder value. Therefore, a high ratio is not always a good sign.  However, the current ratio has assumptions that may not provide an accurate view of a companies liquidity and financial health. A more realistic ratio would be the Acid Test. It can be calculated by dividing current assets minus inventory by current liabilities. Inventories may not be sold during a period when liabilities need to be paid, therefore it over emphasises the firm's ability to pay. Therefore other current assets like cash and receivables hold more weight in this ratio.