If a company has an acid-test ratio of 1.2, what respective effects will the borrowing of cash by short-term debt and the collection of accounts receivable have on the ratio? Short-term Collection of
Borrowing Receivable
A) Increase No effect
B) Increase Increase
C) Decrease No effect
D) Decrease Decrease

Question

Quizplus · Accepted Answer

If a company has an acid-test ratio of 1.2, it means that for every $1 of current liabilities, the company has $1.20 of current assets that can be converted to cash quickly. Borrowing cash by short-term debt will increase the current liabilities, which will decrease the acid-test ratio. On the other hand, collecting accounts receivable will increase the cash available in the current assets, but it will not affect the current liabilities. Therefore, the collection of accounts receivable will have no effect on the acid-test ratio. As a result, the best choice is C - Decrease (due to the borrowing of cash by short-term debt), No effect (due to the collection of accounts receivable).

If a Company Has an Acid-Test Ratio of 1