A company reported the following year-end information:Cash$52,000Short-term investments 12,000Accounts receivable 54,000Inventory 325,000Prepaid expenses 17,500Accounts payable 106,500Other current payables 25,000Required:1. Explain the purpose of the acid-test ratio.2. Calculate the acid-test ratio for this company.3. What does the acid-test ratio reveal about this company?
What will be an ideal response?
1. The acid-test ratio measures the ability of a firm to pay its current liabilities. It is a more stringent test of liquidity as compared to the current ratio.
2.
| Quick assets: | Cash………………………… | $ 52,000 |
| Short-term investments……… | 12,000 |
| Accounts receivable………… | 54,000 |
| Total quick assets…………… | $118,000 |
| Current liabilities: | Accounts payable…………… | $106,500 |
| Other current payables………… | 25,000 |
| ? | $131,500 |
| Quick assets | $118,000 = 0.90 |
| Current liabilities | $131,500 |
3. This company does not have enough quick assets to be considered in a strong liquidity position. The company may have too much money tied up in inventory or other less liquid current (or noncurrent) assets. Additional analyses should be undertaken to verify or refute this apparent liquidity concern.
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What will be an ideal response?
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Answer the following statement true (T) or false (F)
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