As a business owner, it’s good to have a sense of your business’s financial health. But maybe you have a lot on your plate, and a complete financial analysis takes a lot of time.
So, what can you do?
At the very least, you need to know if your business is generating enough money to cover your immediate expenses.
You can use calculations like your cash ratio to get a read on your short-term financial health.
Cash Ratio Explained
Your cash ratio, sometimes called the cash asset ratio, is the ratio of your company’s total cash and cash equivalents to your short-term liabilities.
A cash ratio is a calculation that measures your company’s short-term liquidity, and it tells you two main things about your business:
The first is if you have enough cash or cash equivalents on hand to pay for short-term expenses, such as payroll and overhead. Second, it’s a measure of your ability to pay for your current debt load or raise cash by taking on new loans.
When you apply for a business loan, lenders may look at your cash ratio to determine your ability to make loan payments.
Higher liquidity means you have enough cash on hand to pay for current liabilities and take on new loans. In other words, you can afford to pay your short-term bills without having to sell assets like investments, equipment, or real estate.
Cash Ratio Calculator
To calculate your cash ratio, you can use our handy calculator:
Or you can calculate your cash ratio manually with this formula:
Cash Ratio = (Cash + Cash Equivalents) / Total Current Liabilities
You can find cash and cash equivalents (CCE) on the top line of your company’s balance sheet listed as a current asset.
Cash equivalents refer to any assets that you can convert to cash within three months. Examples include bank accounts, certificates of deposit, treasury bills, and money market funds.
Current liabilities include the payments you need to make in the short-term, usually within the next 12 months. Accounts payable, short-term debt, dividends payable, and income taxes are typical examples of current liabilities.
Cash Ratio Calculation Example
To better understand how to calculate the cash ratio, consider an example. Imagine you own a construction business, and you have the following on your balance sheet.
Cash: $20,000
Cash Equivalents: $15,000
Accounts Receivable: $10,000 (not included in calculation)
Inventory: $5,000 (not included in calculation)
Accounts Payable: $30,000
Short-Term Debt: $8,000
Long-Term Debt: $20,000 (not included in calculation)
To get your cash ratio, enter the following values into the cash ratio formula.
Cash Ratio = (Cash + Cash Equivalents) / Current Liabilities
Cash Ratio = (Cash + Cash Equivalents) / (Accounts Payable + Short-Term Debt)
Cash Ratio = ($20,000 + $15,000) / ($30,000 + $8,000)
Cash Ratio = $35,000 / $38,000 = 0.92
Although accounts receivable and inventory are considered current assets on the balance sheet, they are not included in the cash ratio calculation. The cash ratio calculation also excludes long-term debt.
Interpreting Cash Ratio
So, you’ve calculated your cash ratio, but what does it mean? Here’s how to interpret different cash ratio values.
Cash Ratio Equal to 1
If your company’s cash ratio is equal to 1, it means that the value of your short-term liabilities is precisely equal to the amount of cash and cash equivalents you have on hand. In other words, you can pay off your short-term obligations, but you won’t have cash left over.
Cash Ratio Greater Than 1
A cash ratio greater than 1 indicates high liquidity, which means you have enough cash and cash equivalents to cover your short-term payments and still have money left over.
If you want to apply for a business loan, a cash ratio greater than 1 is a good sign to creditors that you can afford to take on new debt.
However, a high cash ratio (2:1 or higher) can signal poor cash flow management. For example, it can be better to use excess cash reserves to pay off high-interest debt early or invest in growing your business.
Cash Ratio Less Than 1
A cash ratio of less than 1 means you have more current liabilities than cash on hand. However, that is not necessarily a bad sign.
You may still have enough current assets (accounts receivable and inventory) on hand to cover your company’s current liabilities.
While there is no magic number to aim for with your cash ratio, it’s recommended that you keep your ratio at least between 0.5 and 1.
Using Cash Ratio with Other Financial Ratios
Cash isn’t the only asset you have to pay for your bills and debts. Your current assets such as accounts receivable and inventory can be converted to cash to pay for short-term obligations.
In addition to the cash ratio, you can use the current ratio and quick ratio to get a comprehensive picture of your business’s financial health.
The cash ratio is the most conservative of the liquidity measurements because it excludes short-term assets such as accounts receivable or inventory. On the other hand, both the quick ratio and the current ratio measure your company’s current assets compared to its current liabilities.
The quick ratio has a stricter definition of current assets. It only includes highly liquid assets that you can convert to cash within three months.
Quick Ratio
The quick ratio, also known as the acid-test ratio, is calculated as such:
Quick Ratio = (Current Assets - Inventory)/Current Liabilities
Where current assets include:
- Cash & Cash Equivalents
- Marketable Securities
- Accounts Receivable (that can be collected within 90 days)
And current liabilities are:
- Accounts Payable
- Short-Term Debt
Ideally, your quick ratio should be equal to 1 or a little higher. Anything less tells investors and financial analysts that you couldn’t pay off your short-term debts if they all came due at once.
Current Ratio
The current ratio is the most liberal of the three as it includes your company’s total current assets. It’s calculated with the following formula.
Current Ratio = Current Assets/Current Liabilities
Where current assets include:
- Cash & Cash Equivalents
- Marketable Securities
- Accounts Receivable (that can be collected within 12 months)
- Inventory
- Prepaid Expenses
And current liabilities are:
- Accounts Payable
- Short-Term Debt
As a business owner, you want to have a current ratio higher than 1, which means you can pay off your short-term obligations without selling long-term assets. If you’re looking for investors, you want to have a current ratio closer to 2.
Analyzing Your Financial Strength
When assessing your business’s financial health, including multiple calculations in your ratio analysis is essential. In particular, you can combine your cash ratio with one (or both) of the other liquidity ratios to get a better picture of your short-term financial state.
For example, if your cash ratio is 0.75, but your quick ratio is 1, you know that you have enough on hand to pay your creditors, vendors, and employees in the short term.
For assistance with automating and streamlining your payroll, explore Hourly’s easy and accurate payroll solution.
1. Introducing Yourself
Your introductory email needs to pack a lot of information into a small package. Try something like this:
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Hello Jane,
My name is John Doe and I work for ABC Agency, where we provide business insurance policies to many of Dallas' rockstar small businesses.
Congratulations on your new business, Jane's Bakery. Are you wondering if you have all the insurance you need? Or if your policies will really cover you in a pinch?
At ABC Agency, we pride ourselves on providing robust, comprehensive coverage options to companies like yours with flexible, pay-as-you-go plans.
Are you available this week to talk more about how we can help? I can help you find the most affordable rates and the best policies out there.
I look forward to speaking with you soon.
Cheers,
John Doe
2. Presenting a Quote
Once you've met with your potential client, a quick reply with their quote will get the ball rolling.
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Hi Jane,
Thanks so much for meeting with me this morning. I loved touring Jane's Bakery–I can still smell those delicious chocolate chip cookies baking! You have a great location, and I'm sure you're going to do great on Front St.
After reviewing my notes, I've pulled together an insurance quote for you (attached). I recommend a business owner's policy. A BOP includes several insurance products in one: liability, property insurance, and business interruption insurance. It offers robust coverage at a competitive price.
I'll call you in a few days to see what you think about this insurance plan. In the meantime, if you have any questions, don't hesitate to email me or call me at [phone number].
Again, thank you for your time today. I look forward to working with you in the future.
Cheers,
John Doe
3. Thanks for Purchasing a Policy
Gratitude is important! It's never a bad idea to thank your clients for their business.
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Hi Jane,
Thank you for choosing a business owner's policy with ABC Agency. We know it's so important to get the right coverage for your business, and we are honoured you've placed your trust in us.
We're excited to work closely with you, and our no. 1 goal is to make sure you're business is always protected.
Do you have any questions? We are here to help. Reach out whenever something comes to mind.
Thank you again for choosing ABC Agency to insure Jane's Bakery.
Cheers,
John Doe
4. Welcome Email
A welcome email helps clients feel like you're there to help–and can softly pitch other insurance products you offer.
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Dear Jane,
Welcome to the ABC family! We are thrilled to have you as a new customer and can't wait to meet all of your insurance needs.
As an independent insurance agency, we work with multiple insurance providers to find the best coverage options for all our customers. If you need any other type of insurance–like [include additional offerings unique to your agency, like life insurance, health insurance, home insurance or anything else]–we can help you too.
Do you want to discuss any of these policies?
Cheers,
John Doe
5. Introducing a New Product
A happy client may want to expand their business with you.
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Hello Jane,
I hope all is well with you and Jane's Bakery. I stopped in yesterday for a blueberry muffin and coffee, and they were delicious. I loved the hint of cinnamon in the muffin! Was that your idea?
I wanted you to be the first to know we are now offering commercial vehicle insurance to our policyholders. Auto insurance for your catering vans is super important since your personal car insurance won't cover them.
We're offering this insurance coverage solely to our current business clients at the moment and have some very competitive rates.
Would you like me to work up a quote for you?
As always, thanks so much for being a part of the ABC family.
Cheers,
John Doe
6. Asking For Referrals
Once your relationship is established and comfortable, let your clients help you grow.
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Hi Jane,
You've been a valuable member of the ABC family for two years now, and we so appreciate your business–not to mention the muffins you supply for our monthly meetings!
Because you are a valued policyholder, I wanted to ask a quick favour. I know you are active in the local Chamber of Commerce, and I'm hoping you might know some colleagues who would benefit from working with our insurance company.
Referrals are one of the most effective ways to connect with our community since people really trust their friends, family and colleagues. Is there anyone you'd recommend I speak with?
Remember that in addition to business insurance products, we offer everything from life insurance policies to pet insurance.
As a thank you for your help, we will send you an Amazon gift card of $100 when your referrals buy insurance from us.
Thanks so much for your help!
Cheers,
John Doe
7. Policy Renewal
If your client needs to renew their policy with you, send an email like this:
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Hi Jane,
I hope you're doing well! What a year it's been—from being listed as one of the top 5 bakeries in Dallas to being an official vendor for the city—you have so much to be proud of.
Just a heads up that your business owner's policy is up for renewal soon and will expire on June 15, 2023.
If you're still happy with the coverage, we can easily renew it for you.
Do you have some time to chat this week?
Looking forward to serving you again!
Cheers,
John Doe