Acid test ratio calculator

An acid test ratio assesses a company’s ability to cover its short-term liabilities with its most liquid assets. 

Ian Hawkins

Page written by Ian Hawkins. Last reviewed on July 12, 2024. Next review due April 1, 2025.

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Acid test ratio

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What is an acid test ratio?

Acid test ratio, also known as the quick ratio, is a financial metric that measures a company’s ability to pay off its current liabilities without relying on the sale of inventory. it provides a snapshot of a company’s short-term liquidity position, indicating whether it has enough quick assets to cover its immediate liabilities.

How to calculate acid test ratio

This ratio provides insight into a company’s immediate liquidity and ability to meet short-term obligations without relying on the sale of inventory. It’s an important financial metric for assessing a company’s financial health. If you’re looking to use an acid test ratio calculator, you can input the values of cash, marketable securities, accounts receivable, and total current liabilities to obtain the ratio result. This can help you evaluate the company’s short-term financial position and its ability to handle unexpected financial challenges.

Liquid assets typically include cash, accounts receivable, and short-term investments – essentially assets that can be quickly converted to cash.

Acid test ratio formula

the formula for the acid test ratio is:

Acid test ratio = (current assets – inventory) / current liabilities

or alternatively:

Acid test ratio = (cash + accounts receivable + short-term investments) / current liabilities

Example of acid test ratio

Let’s say company abc has the following financial data:

  • Cash: $50,000
  • Accounts receivable: $30,000
  • Short-term investments: $20,000
  • Inventory: $40,000current liabilities: $100,000

First, we sum up the liquid assets (excluding inventory):

Liquid assets = Cash + Accounts receivable + Short-term investments = $50,000 + $30,000 + $20,000 = $100,000

Next, we use the acid test ratio formula to calculate:

Acid test ratio = $100,000 / $100,000 = 1.0

This means company abc has an acid test ratio of 1.0, indicating it has exactly enough liquid assets to cover its current liabilities.

Why the acid test ratio matters?

A higher acid test ratio suggests a stronger liquidity position, meaning the company can comfortably meet its short-term obligations. a ratio of 1 or above is generally considered satisfactory, while a ratio below 1 may signal potential liquidity issues, implying the company may struggle to cover its current liabilities without selling inventory.

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