CFA Practice Question

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CFA Practice Question

Which of the following statement(s) is true?

I. Another term for quick ratio is acid-test ratio.
II. The current ratio is usually greater than the quick ratio.
III. When a company writes off an account receivable through the allowance method, the current ratio decreases.
Correct Answer: I and II

I. The quick ratio is computed as: quick assets (cash, marketable securities, and receivables) divided by current liabilities. The quick ratio is a measure of short-term debt-paying ability. It is sometimes referred to as the acid-test ratio.
II. Since the calculation for the current ratio includes some current assets, such as prepaids, that cannot be used to pay current liabilities, it is usually greater than the quick ratio.
III. The write-off will decrease accounts receivable AND the allowance for doubtful accounts (a contra asset account). Net current assets will remain unchanged, as will the current ratio and quick ratio.

User Contributed Comments 5

User Comment
chenyx under allowance method,writes off will change allowance account and asset account
Rotigga The Quick Ratio eliminates less liquid assets, such as inventory and prepaid expenses, from the current ratio. But what if inventory and prepaid expenses are both zero? Then Quick Ratio = Current Ratio! Therefore we cannot say quick ratio is always > current ratio.
achu Good point; guess that's why the question says "usually."
azramirza can someone please explain III. What i understand is ac rec is decreased and the contra entry effects income statement and not current l/b...therefor current a/s has to decrease...?
johntan1979 Net account receivables remains the same through the allowance method. No effect on current ratio.
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