CFA Practice Question

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CFA Practice Question

How would a company's current ratio be affected if a substantial amount of accounts payable were paid in cash?

A. It would be unaffected since the transaction reduces the numerator and denominator by the same amount.
B. The change would depend on the relationship between the payables liquidated and current liabilities.
C. It could increase, remain the same, or fall.
Correct Answer: C

User Contributed Comments 11

User Comment
kalps If you have 5/4 to start with it would increase. If you hade 4/5 to start with it would decrease.
jamiejamie The answer is C. It doesn't matter what the original relationship is between the numerator and the denominator for this question. If you subtract from the demominator you will always increase the ratio, even more so if you add to the numerator. Try subracting from the denominator in your calculator, you will always arrive at a bigger number.
gjwhite If we assume assets > liabilities then the current ratio will increase since the percentage decrease in assets will be smaller than the percentage derease in liabilities.
Gina jamiejamie: you don't add to the numerator because you pay the A/P with cash. Both numerator and denominator will decrease by the same amount. therefore it depends what the relationship btw CA and CL is
CA/CL: 8/7 -> 7/6-> 6/5 current ratio increases
CA/CL: 7/8 -> 6/7-> 5/6 current ratio decreases
chenyx i agree with Gina
cbb1 Answer is "increase" if Current Ratio is greater than 1.0, but answer is "fall" if Current Ratio is less than 1.0. Thus, the answer is it depends.
ramborob Therefore, if the Current Ratio = 1 prior to the action, then it would equal 1 after the action as the reduction in Cash and the reduction in Payables is also equal. Hence, the answer should be B. Correct?
ramborob Apologies, have just re-read answer B. It does not refer to the relationship between payables and cash. Answer C is correct!
itconcepts If the starting ratio was exactly 1 then the ratio WONT change.
surob very good question
leon121 goooooooooooooood question. i made a dumb mistake of decreasing payables. but increasing assets. assets is decreasing because cash GOES OUT!!!!! i gots to be careful broh
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