Why is the acid-test ratio considered to be a more conservative measure of liquidity than the current ratio?Multiple ChoiceBecause it considers assets available to pay long-term liabilities.Because it eliminates items like accounts receivable and current investments.Because it only considers cash available to pay current liabilities.Because it eliminates current assets such as inventories and prepaid expenses.
Question
Why is the acid-test ratio considered to be a more conservative measure of liquidity than the current ratio?Multiple ChoiceBecause it considers assets available to pay long-term liabilities.Because it eliminates items like accounts receivable and current investments.Because it only considers cash available to pay current liabilities.Because it eliminates current assets such as inventories and prepaid expenses.
Solution
The acid-test ratio is considered to be a more conservative measure of liquidity than the current ratio because it eliminates current assets such as inventories and prepaid expenses.
Here's why:
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The acid-test ratio, also known as the quick ratio, measures a company's ability to meet its short-term obligations with its most liquid assets. It considers cash and cash equivalents, marketable securities, and accounts receivable.
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On the other hand, the current ratio considers all current assets, including inventories and prepaid expenses.
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Inventories and prepaid expenses may not be easily converted into cash, especially in a tight market or in case of financial difficulties. Therefore, they may not be readily available to pay off current liabilities.
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By excluding these less liquid assets, the acid-test ratio provides a more stringent assessment of a company's short-term financial health and its ability to meet its current liabilities.
So, the correct answer is: "Because it eliminates current assets such as inventories and prepaid expenses."
Similar Questions
The acid-test ratio is a measure of a company's:a.Liquidityb.Profitabilityc.Solvencyd.Efficiency
Select all that applyWhich of the following statements are true regarding the acid-test ratio? (Choose every correct answer.)Multiple select question.The acid-test ratio excludes merchandise inventory from the numerator.The acid-test ratio can be calculated as current assets minus merchandise inventory minus current liabilities.The acid-test ratio uses the same denominator as does the current ratio.The acid-test ratio is a more conservative measure of liquidity than the current ratio.
The acid-test (quick) ratio is more stringent than the current ratio because it excludes:Marketable securitiesInventoryAccounts receivableCash
Select all that applyWhich of the following statements are true regarding the relationship between the current ratio and the acid-test ratio? (Choose every correct answer.)Multiple select question.For any given company, the current ratio will generally be higher than the acid-test ratio.The acid-test ratio measures a company's current bill-paying ability, whereas the current ratio measures a company's liquidity.The acid-test ratio demonstrates the extent to which a firm can meet its current obligations even if none of its inventory can be sold.The current ratio increases working capital by a greater amount than does the acid-test ratio.
Select all that applyWhich of the following statements are true regarding the acid-test ratio? (Choose every correct answer.)Multiple select question.Temporary cash investments are included in the numerator of the acid-test ratio.Accounts payable are included in the numerator of the acid-test ratio.The acid-test ratio uses the same denominator as does working capital.The acid-test ratio can be calculated as (Cash (including temporary cash investments) + accounts receivable) divided by current liabilities.The acid-test ratio is sometimes called the quick ratio.
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