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Use the Acid Test Ratio Calculator to define the acid test ration which is a means of identifying if a company can meet its financial obligations based on short term trading obligations.
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The acid test ratio can easily be defined as a major factor to determine your company's financial health. Every business has its own share of assets, liquid cash as well as liabilities, so do you. But how do you know if your company is in good health financially? It's the acid test ratio that will help you foresee your short-term challenges (or advantages) pertaining to finance. In simple words, it is the value that you get after dividing the summation of cash, cash equivalents, accounts receivable and short-term investments by current liabilities.
The Acid Test Ratio is the ratio of current assets less stocks to current liabilities. The Acid Test Ratio provides a measure of how well a company is doing and its ability to cover it's short term financial obligations based on the values of stock which can be turned into cash in the short term.
In simple terms the Acid Test Ratio illustrates how much of the company's short term debt can be met:
A company's power to meet short term debts can be gauged through this formula. A ratio less than 1 indicates difficulty in meeting immediate debts and 2+ shows that there are no short-term trading difficulties.
The acid test ratio (which is often also called quick ratio) derives its name from historical use of acid gold by the early miners. If the metal passed the test it would be considered pure gold, if it failed it had no value. Similarly, acid test of finance shows how well a company converts its assets into cash in order to pay its current liabilities.
To run a profitable business, you need to have a clear picture of your assets and liabilities, the acid test ratio calculator helps you with this. It gives you a precise idea of how well your business is doing and how strong your financial conditions are, to pay back your liabilities due in the short term.
Often businesses face the situation where they do not have enough liquid cash to clear the short-term liabilities but have near liquid assets (which can be converted into cash easily and quickly), the acid test ratio calculator helps you keep track of this.
Since most companies use their long-term assets for revenue generation, selling those assets will not only hurt the companies' finance structure but it will also show the current investors that the company is not able to make enough profits to pay off its current liabilities. As a result, it can also discourage potential investors from investing in the company.
Below are a few examples of assets a business could have:
Calculating the acid test ratio is the perfect way of estimating financial health of a business, however 'days due' for account receivable plays a major role in defining it as well.
If receivable payments are due after a very long period and company's pending payments are due immediately, this could result in showing the acid test ratio as high and thereby the company might be at the risk of running out of cash.
On the other hand, if the company manages to collect its receivables in a shorter period and payments to be made for liabilities are rather long term then the company's financial situation could be in good health despite a low acid test ratio.
The acid test ratio calculator has been made to test the viability of your business, it is easily accessible with simple columns to input your numbers and get the results straight away. It is quick-to-use and precise.
In short, you can say the higher the acid test ratio the greater the company's financial position whereas the lower the acid test ratio the lower the company's capacity to pay its liabilities.
It is certain that if the acid test ratio increases so does the liquidity cash flow of the company. More and more assets will be available to be converted into cash if and when required. This is a very good indicator for investors and even better sign for creditors as creditors want to lend to a company that can be confident will pay them back on time.
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