Quick ratio

Quick ratio = (Current assets - Inventories)/Current liabilities = ( 22,203 - 3,409)/ l7,839 = 1.05 times 

The quick ratio, sometimes called the acid test ratio, is similar to the current ratio, except that inventories are removed from the calculation. Without considering inventory, the quick ratio becomes more conservative than the current ratio. Inventory is the least liquid of current assets and is much more difficult to turn into cash than marketable securities or receivables. One factor to consider with the 

Knowing if a company can pay its debts without having to rely on selling its inventory is important in understanding its liquidity. If the market turns down or customers are not purchasing merchandise, inventory may sit idle for a time. Idle inventory does not bring in cash nor does it pay the bills, creating financial problems for the company. 

Liquidity ratios help determine if the company can pay its shortterm obligations. However, more analysis is required to ascertain whether or not the firm is actually solvent. Using liquidity ratios only may lead to inaccurate conclusions. Companies with liquidity ratios below 1.0 can be solvent (remember the example of Brinker International, Inc.). Cash flow analysis, including the amount of cash and particularly the timing of the cash flow are also important considerations. 

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Therefore, requests for early repayment by more than 40 percent of the debtors could be met. Hence, no hquidity problems are likely to arise, and advantage can be taken of discounts for early payment. Also, the current debt could be met by sale of the inventoiy, which takes (0.140 As/As)(365), or 51 days. The quick ratio is 172.45 = 0.407. 

Althou a high current ratio is desirable, this may be achieved by having unnecessarily high inventories that bring no profit except when commodity prices are rising rapidly. The quick ratio is less misleading in this respect. 

Transactions that change the character of the net working capital but do not affect its value occur in a company. For example, a cash payment of 10,000 for accounts payable reduces both the current asset of cash by 10,000 and the current liabihty of accounts payable by 10,000, leaving the net working capital unchanged. However, this transac tion affects Doth the current and the quick ratios. 

Liquidity ratios are a measure of a company s ability to pay its shortterm debts. Current ratio is obtained by dividing the current assets by the current liabilities. Depending on the economic climate, this ratio is 1.5 to 2.0 for the chemical process industries, but some companies operate closer to 1.0. The quick ratio is another measure of liquidity and is cash plus marketable securities divided by the current liabilities and is slightly greater than 1.0. 

Liquidity ratios provide information on the business s ability to meet its short-term financial obligations. The most popular liquidity ratios are the current ratio and the quick ratio. 

An alternative to the current ratio is the quick ratio (also known as the acid test). For this ratio, quick assets are defined as assets that are easily converted to cash. Therefore, inventories and prepaid expenses (such as prepaid rent and insurance policies) are not included in calculating assets. Because the quick ratio considers only assets that are easily converted to cash (and therefore can be used to pay bills, etc.), it provides a better picture of a company s liquidity and its ability to meet its financial obligations. 

Quick ratio = (current assets — inventories — prepaid expenses) -f- current liabilities... 

The standard quick ratio that any organization strives to obtain is at least 1.0. Simply put, having a quick ratio of greater than 1.0 means that the organization has more quick assets than it has current liabilities. On the other hand, having a quick ratio of less than 1.0 means that the cash that organization has on hand would not be sufficient to pay all its current liabilities, particularly its short-term bills and other obligations. 

Now that we have the definition of current ratio and quick ratio, let s calculate these ratios for WHP (see Table 15-2, year 1). The current ratio at the end of year 1 is 450,000 -h 200,000 = 2.25, which appears to be acceptable. However, the amount of quick assets on hand at the end of year 1 is only 150,000... 

Quick ratio A liquidity ratio that reflects a company s ability to satisfy its short-term obligations with its most liquid assets. 

Alfhough the current ratio is valuable, an organizahon may wish to go further to evaluate liquidity. The acid-test or quick ratio is a means to consider only the most liquid of fhe currenf assets and determine whether the firm can pay its short-term debt even more quickly. The formula for the quick ratio is ... 

Cash, A/R, and S/T securities Current liabilities Quick ratio... 

Two measures of a company s liquidity are the current ratio and the cash (quick) ratio. 

The cash or quick ratio expresses the ability of a company to cover from its assets an emergency. It is the cash plus marketable securities divided by the current liabilities. Atypical figure is greater than 1.0. 

Two measures of a company s liquidity are the current ratio and the cash (quick) ratio. The current ratio is defined as the current assets divided by the current liabilities, which is a measure of the firm s ability to meet its current obligations from current assets. A comfortable level of... 

The acid-test ratio, also called the quick ratio, is a modification of the current ratio with the aim of obtaining a better measure of the liquidity of a company. In place of current assets, only assets readily convertible to cash, called quick assets, are used. Thus, it is defined as the ratio of current assets minus inventory to current liabilities. Marketable securities, accounts receivable, and deferred income tax assets are considered to be part of quick assets. From Table 16.3, the quick assets for U.S. Chemicals, in millions of dollars, is 4,630 - 1,420 -312 = 2,898. This gives an acid-test ratio of 2,898/4,153 = 0.70, which is not a desirable ratio, since it is less than one. At the end of the year 2000, Monsanto Company had a much better acid-test ratio of 1.35. 

Current ratio is a liquidity measure computed by dividing the current assets by current liabilities it measures short-term solvency or the ability of a firm to meet current liabilities. Because current assets include inventory that may or may not be convertible into immediate cash, the quick ratio is frequently used in addition to the current ratio. The quick ratio is calculated by dividing cash plus marketable securities and discounted receivables by current liabilities. Satisfactory values for these two ratios are 1.2-2.0 for current ratio and 1.0-1.2 for quick ratio. 

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