Final answer:
The current ratio is a crucial indicator of a company's ability to handle business situations and avoid bankruptcy by comparing its current assets to its current liabilities. It sheds light on the company's liquidity and operational efficiency, informing us of its financial health and potential bankruptcy risk.
Step-by-step explanation:
An important indicator of a company management's ability to respond to business situations and the possibility of bankruptcy is the current ratio. The current ratio measures a company's ability to pay short-term and long-term obligations. It compares a firm's current assets to its current liabilities, providing insight into the company's operational efficiency and short-term financial health. A ratio under 1 indicates that the company's debts due in a year or less are greater than its assets—cash or other short-term assets expected to be converted to cash within a year or less. Therefore, a higher current ratio is generally more favorable as it indicates better liquidity, reducing the risk of bankruptcy.
To address the self-check questions related to early-stage corporate finance:
- Very small companies raise money from private investors because an IPO (Initial Public Offering) can be costly and complex, and they might not meet the regulatory requirements for public listings.
- Small, young companies may prefer an IPO because it can provide more capital for growth and doesn't incur debt like loans or bonds, which require regular interest payments.
- A venture capitalist typically has better information about whether a small firm is likely to earn profits due to their involvement in the business and experience with startup investments, unlike a potential bondholder who may only rely on financial statements and projections.