What Is the Quick Ratio?

What Is the Quick Ratio?

By Charles Joseph | Editor, Financial Affairs
Reviewed by Corey Michael | Senior Financial Analyst

The quick ratio, also known as the acid-test ratio, is a measure of a company’s ability to settle its short-term liabilities with quick assets like cash, marketable securities, and accounts receivable. It provides a more stringent assessment of a company’s liquidity or ability to cover its debts as it excludes inventory from the list of current assets. While high ratios are usually a good sign, the ideal quick ratio can vary by industry. Ultimately, the quick ratio gives stakeholders, investors, and the company itself, a clear picture of financial health by factoring in the more liquid types of current assets.

Related Questions

1. How do you calculate the Quick Ratio?

The quick ratio is calculated by dividing a company’s quick assets (cash, marketable securities, and accounts receivable) by its current liabilities. The formula is: Quick Ratio = (Cash + Marketable Securities + Accounts Receivable) / Current Liabilities.

2. What does a high Quick Ratio mean?

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A high quick ratio generally indicates that a company is well-positioned to pay off its current liabilities without the need to sell off any long-term or capital assets. It typically signifies strong liquidity and financial health.

3. How does the Quick Ratio differ from the Current Ratio?

Both ratios assess a company’s liquidity, but the quick ratio is stricter. It only includes highly liquid assets (cash, marketable securities, and accounts receivable), whereas the current ratio includes all current assets, even those that can’t be quickly converted to cash like inventories.

4. Is it better to have a higher or lower Quick Ratio?

Generally, a higher quick ratio is preferred as it indicates the company’s better ability to pay its short-term liabilities. However, too high a ratio may suggest that the company is not effectively using its assets. An optimal ratio often depends on the industry average.

5. What are some limitations of the Quick Ratio?

The quick ratio is a useful tool, but it has limitations. For instance, it doesn’t consider the timing or turnover of accounts receivable and assumes they are readily available. It also does not account for any potential future liabilities.