What is Quick Ratio?

The Quick Ratio, also known as the Acid-Test Ratio, is a financial ratio used to assess a company’s short-term liquidity and ability to meet immediate financial obligations without relying on the sale of inventory. It is a more conservative measure of liquidity compared to the Current Ratio.

The Quick Ratio is calculated using the following formula:

Quick Ratio = (Current Assets – Inventory) / Current Liabilities

Current assets include cash, marketable securities, accounts receivable, and other assets that are readily convertible into cash within the next year. However, inventory is excluded from current assets since it may take time to convert it into cash.

Current liabilities consist of accounts payable, short-term debt, and other obligations due within the next year.

The Quick Ratio provides insight into a company’s ability to pay off its short-term liabilities using its most liquid assets. It focuses on the company’s ability to meet immediate financial obligations in a scenario where inventory cannot be quickly converted into cash.

A Quick Ratio higher than 1 indicates that a company has sufficient liquid assets to cover its current liabilities, which suggests a strong liquidity position. Conversely, a Quick Ratio below 1 implies that the company may face challenges in meeting its short-term obligations without relying on the sale of inventory.

Similar to the Current Ratio, the interpretation of the Quick Ratio should consider industry norms, business models, and specific circumstances. It is often used in conjunction with other financial ratios to obtain a comprehensive assessment of a company’s liquidity and financial health.