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Quick Ratio

 

Quick ratio (also called ‘acid test ratio’) is a financial ratio that measures company’s financial liquidity. This ratio compares company’s most liquid assets and short-term liabilities. If quick ratio is high (more than 1.0), it means that company could easily cover its current liabilities with current assets (of course, only if those assets can be really realized in the market for their book value). 

 

This ratio shows how resistible company is to shortage of short-term financial funding. Sometimes even financially healthy companies face liquidity problems during financial crisis if their debt matures and bank denies providing a new loan. And this liquidity ratio measures only a short-term liquidity of the company but not the solvency risk

 

Quick ratio formula 


(1) Quick ratio = (Current assets – Inventory) / Current liabilities

 

Another formula:

 

(2) Quick ratio = (Cash + Other current financial assets + Receivables) / Current liabilities

 

* Despite the chosen formula you should get the same result. Although, some balance sheets are more difficult and may have different asset classification, theoretically nominator should include the short-term assets that can be easily converted in cash during short (less than year) period. 

 

Quick ratio’ is often used together with ‘current ratio’ and ‘cash ratio’. ‘Current ratio’ is very similar but does not exclude the inventory from current assets, which might be right. However, during the real financial crisis all non-cash current assets may be worth less than their book value and the receivables can get problematic too. In such cases ‘cash ratio’ will be the most guaranteed, however, not all the companies accumulate cash because cash accumulation isn’t very efficient method to employ the capital. 

 

 






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