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Overview of Quick Ratio
Definition of
Quick Ratio
What is the Quick Ratio? The Quick Ratio, also known as the Acid-Test Ratio, is a liquidity ratio that measures a company's ability to meet its short-term liabilities with its most quick assets (assets that can be converted to cash quickly). It is a more conservative measure of liquidity than the current ratio because it excludes inventory and prepaid expenses from current assets, as these are typically less liquid. The formula is: Quick Ratio = (Cash + Marketable Securities + Accounts Receivable) / Current Liabilities, or alternatively, Quick Ratio = (Current Assets - Inventory - Prepaid Expenses) / Current Liabilities.
Activities Related to
Quick Ratio
Here is a list of Quick Ratio related activities:Â Identifying and summing a company's quick assets (cash, marketable securities, accounts receivable) from the Balance Sheet, Determining total current liabilities from the Balance Sheet, Calculating the ratio using the formula, Analyzing the company's immediate ability to pay off its short-term obligations, Comparing the Quick Ratio to industry benchmarks and historical trends, and Using the ratio as part of overall financial statement analysis to assess short-term financial health.
The Importance of
the Quick Ratio
The Quick Ratio is important because it offers a more conservative and often more realistic assessment of a company's ability to meet its short-term obligations than the current ratio. By excluding inventory (which can be slow to sell or may need to be sold at a discount) and prepaid expenses (which cannot be used to pay off debts), the Quick Ratio focuses on assets that can be rapidly converted to cash. A ratio of 1:1 or higher generally indicates that a company has enough quick assets to cover its current liabilities. This metric is particularly valuable for lenders and creditors assessing the short-term risk of a business.
Key Aspects of
Quick Ratio
Stringent Liquidity Measure
Provides a more conservative view of short-term liquidity by focusing on only the most liquid assets.
Excludes Inventory & Prepaids
Unlike the current ratio, it removes inventory and prepaid expenses from the asset calculation.
Also Known as Acid-Test Ratio
This alternative name reflects its "acid test" of a company's ability to pay off current debts quickly.
Ideal Ratio Varies
While a ratio of 1.0 or higher is often seen as healthy, the ideal Quick Ratio can vary by industry and business model.
Concepts Related to
Quick Ratio
The Quick Ratio is a type of Liquidity Ratio, used to assess a company's short-term liquidity. It uses Quick Assets (cash, marketable securities, accounts receivable) and current liabilities, all found on the Balance Sheet. It provides a more conservative measure than the current ratio because it excludes less liquid current assets like Inventory.
Quick Ratio
in Action:
The Adventures of Coco and Cami
Coco and Cami want to be sure they can pay their immediate bills without having to quickly sell off their sandwich bread or coffee beans, which might not get them the best price.
Professor A introduces the Quick Ratio (or Acid-Test Ratio), explaining how this calculation helps them see if their most easily convertible assets (like cash and money owed by customers) can cover their short-term debts.