Now let's discuss another ratio called the quick ratio. This is similar to the current ratio, but it's a little more strict. Let's check it out. The quick ratio is sometimes called the acid test ratio and this isn't the 1970s, this isn't turn on, on, tune in, drop out. No, we're studying accounting here, it can't get any more bland. So let's check it out. We've got the quick ratio, it's going to be similar to the current ratio which you've probably studied and remember the current ratio we're talking about current assets, current liabilities, being able to cover those liabilities in the short run. Well, the quick ratio is similar. It is another liquidity ratio, but it's only going to use the most liquid assets in the numerator rather than all of our current assets, we're only going to talk about the most liquid ones. Okay? So let's check out the quick ratio here and notice in our numerator, we no longer have current assets like we did when we studied the current ratio. Instead, we have a small portion of our current assets. We've got cash which is very liquid. Short term investments, those are also very liquid. That could be just shares of stock that you own. Anything that has some marketable value just like if you own a share of Apple stock, right? You could look up the stock price and you could sell that stock right away at a stock price. So that's very liquid. And net accounts receivable, those are generally pretty liquid as well. We're going to be getting the money from our customers pretty soon and even in case we needed the money quicker, we can generally sell our accounts receivable to other companies and get a portion of them now. So they're very liquid as well, okay? So one way that we can calculate the quick ratio is in our numerator to have those. The cash, short term investments, and the net accounts receivable. Right? We could have those in our numerator and then our denominator is the same as the current ratio. It's just all of our current liabilities, right? So we're still want to check, can we cover our current liabilities, but we want to see if we can cover them with these quick assets. These very, very liquid assets. Okay? So another way we can think about the quick ratio is to do it the other way where we take all of our current assets. Notice in this case, we start with all the current assets and this is to calculate the same thing, but except now we're taking all our current assets and we're going to take stuff out that's not super liquid. So our inventory, we take out of our current assets and our prepaid expenses, which are just not as liquid as the ones we described above, right? So in essence, we get to the same thing because those are the 5 most common current assets. Cash, short term investments, accounts receivable, inventory and prepaid expenses. So we're taking out the less liquid ones and leaving only those very, very quick ones. Okay? So how do we analyze this ratio? Well, it's very similar to how we analyze a current ratio. The quick ratio, well, it tells us how many highly liquid assets, so how many dollars of these highly liquid assets we have for each dollar of current liabilities, right? So again, this has a similar red flag again to the current ratio. Very, very similar in analysis. The quick ratio, if we have it below 1, right? If we have a quick ratio below 1, it can be signs of liquidity problems again, right? Because we're talking about being able to cover our current liabilities in the short term and if we're not able to do that, well, we've got liquidity problems. But remember, this is a little more strict, right? We're not talking about all of our current assets. We've been a little more strict than thecurrentratio. So a low currentratio is even more of a red flag than a low quick ratio because when we have inventory prepaid expenses in there, well, that can help us cover our current liabilities in one way or another. Alright? So let's go ahead and do an example and let's use our quick ratio to solve this problem right here. So we've got right here super liquid company, has current assets totaling $ 450,000 and current liabilities totaling 315,000. Included in current assets are 115,000 of inventory, 35,000 of accounts receivable, and 10,000 of prepaid expenses. Current liabilities include 120,000 in short term debt, calculate the quick ratio for SLC. So this is something they love to do in accounting problems and especially in ratio problems
14. Financial Statement Analysis
Ratios: Quick (Acid Test) Ratio
14. Financial Statement Analysis
Ratios: Quick (Acid Test) Ratio - Online Tutor, Practice Problems & Exam Prep
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Ratios: Quick (Acid Test) Ratio
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Problem
ProblemThe following table contains selected financial information for Tougher Question, Inc.
Calculate the quick ratio for TQ, Inc.
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