Quick Assets
A subset of current assets that excludes inventory and prepaid expenses
Assets that can be efficiently changed to cash within a short amount of time (commonly 90 days or less) are classified as quick assets. They include cash, marketable securities, accounts receivable, and some inventory.
These assets are important because they show how liquid your business is, meaning how well you can pay off your current liabilities or debts with your current assets. You can calculate your quick ratio by dividing your quick assets by your current liabilities.
The quick ratio tells you how often you can cover your current liabilities with your quick assets. These assets and current liabilities are important figures for businesses to consider.
In this hypothetical scenario, let's assume your company's current liabilities are $20,000 while its quick assets are $10,000. Your quick ratio is 0.5, which means you can only cover half of your current liabilities with your quick assets.
This unfavorable omen indicates that paying your bills on time could be problematic. Next, your current liabilities are at $15,000, while your business holds this type of asset worth $30,000.
Your quick ratio is 2, which means you can cover your current liabilities twice with your quick assets. Investing in growth opportunities is within your reach - a good indication that your monetary responsibilities are met.
Of course, the ideal quick ratio depends on the industry and the nature of your business. Some businesses have more stable cash flows and less need for liquidity than others.
Generally speaking, a quick ratio between 1 and 2 is considered healthy for most businesses. Calculating the quick ratio for your business to ensure it has enough liquidity to operate is worthwhile.
Key Takeaways
- Quick Assets can be easily converted into cash or are already in cash form. They include things like cash, cash equivalents, accounts receivable and marketable securities.
- They measure how well a company can pay its short-term debts without relying on selling its inventory or getting more financing. The higher this type of assets, the better the liquidity and financial health of the company.
- Quick assets are calculated by subtracting inventories from current assets. Inventories are not considered quick assets because they take time and money to sell.
- These assets are used to calculate the quick ratio, also known as the acid test. The quick ratio divides quick assets by current liabilities to show how often a company can pay its current debts with its most liquid assets.
- The quick ratio is a more conservative measure of liquidity than the current ratio, which includes inventories in the numerator. A quick ratio of 1 or more is generally considered good, while a quick ratio of less than 1 may indicate liquidity problems.
- Quick assets may vary depending on the nature and industry of the business.
Quick Assets Vs Current Assets
Cash flow management and meeting financial obligations are crucial for evaluating a company's capability, and liquidity is a significant factor in measuring these qualities.
With the help of available cash or quick assets, a company's liquidity measures its capacity for paying off short-term obligations like debts and bills.
Current assets are all a company's assets that can be reasonably converted into cash within one year. Held are assets such as:
- Prepaid expenses
- Marketable securities
- Inventory
- Accounts Receivable
- Cash
Liquidity can be measured by determining the current ratio, calculated as the division of current assets by current liabilities. A current ratio of more than one means that a company has more current assets than current liabilities, which indicates good liquidity.
Quick assets include cash, marketable securities, and accounts receivable.
Inventory and prepaid expenses are excluded from these assets because they take longer to convert into cash or may lose value in the process. These assets are used to calculate the quick ratio, another liquidity measure that divides quick assets by current liabilities.
A quick ratio of more than one means that a company can pay its current liabilities with its most liquid assets, which indicates strong liquidity. Let us take a look at the below table to understand the difference better:
| Quick Assets | Current Assets |
|---|---|
| A subset of current assets that excludes inventory and prepaid expenses | All assets that can be converted into cash within one year |
| More conservative in measuring liquidity | More liberal in measuring liquidity |
| Better at measuring short-term capabilities for paying liabilities | Better at measuring long-term capabilities for paying liabilities |
Assets that can be turned into cash within a year are considered current assets. Meanwhile, quick counterparts refer to highly liquid assets that can be easily converted into cash without losing value.
Regardless of cost or duration, the conversion process for current assets is distinct from these assets.
Example of Quick Assets
A company may struggle to meet short-term liabilities, debts, or obligations that are due within a year, and that's where quick assets become crucial. They gauge a company's capability to manage its short-term obligations effectively.
The most obvious form of this is cash. It can be used whenever you want and is already in the form of money. Mutual funds, bonds, and stocks are examples of marketable securities. These can be sold at a fair price in the market with ease.
There are also quick assets for the products or services that you have provided. For example, accounts receivable refers to the funds owed to you by your customers. This money can usually be collected within 30 to 60 days.
Some inventory items are also considered quick assets, especially if they are in high demand and have a low cost of production. Your quick assets as a bakery owner would be the bread and pastries, as they can be sold quickly and created at a low cost.
These assets are important because they help you calculate your quick ratio, which measures how well you can cover your current liabilities with your most liquid assets. The quick ratio is calculated by dividing your quick assets by your current liabilities.
- A higher quick ratio means that you have more cash, and cash equivalents are available to pay off your debts and obligations.
- A lower quick ratio means that you may have trouble meeting your short-term financial needs and may face liquidity problems.
The quick ratio is different from the current ratio, which is another measure of liquidity that includes all current assets, not just the quick ones. Divide your current assets by your current liabilities to calculate the current ratio.
The current ratio is usually higher than the quick ratio because it includes some assets that may take longer to convert into cash, such as inventory or prepaid expenses.
The current ratio gives a broader picture of your liquidity, but it may overestimate your ability to pay off your current liabilities if some of your current assets are not very liquid.
A company with more of these assets than current liabilities is considered to have a strong liquidity position, which means it can pay its bills on time and avoid financial distress.
A company with fewer quick assets than current liabilities may face cash flow problems and have difficulty paying its creditors. One way to measure a company's liquidity is by using the quick ratio, which is also known as the acid test ratio.
What is the Quick Ratio?
The quick ratio measures how well a company can pay its short-term debts using its most liquid assets. It is also known as the acid-test ratio or liquidity ratio.
It tells you how many times a company can afford to pay its current liabilities with its current assets at the moment. To calculate the quick ratio, you must divide the sum of cash, marketable securities, and accounts receivable by the total current liabilities.
The formula looks like this:
Quick ratio = (Cash + Marketable securities + Accounts receivable) / Current liabilities
- A quick ratio of 1 or more means the company has enough liquid assets to pay its current debts.
- A quick ratio of less than 1 means the company may struggle to meet its obligations.
- A quick ratio of more than 2 means that the company may have too much idle cash that could be invested elsewhere.
Note
This ratio can be useful for analyzing companies’ financial health.
It shows how well a company can cope with unexpected expenses or emergencies. It also helps investors and creditors assess the risk and profitability of a company. However, the quick ratio is not perfect and has some limitations.
For example, it does not consider the quality and collectability of accounts receivable. It also does not account for inventory turnover and seasonal fluctuations.
Therefore, it is important to use quick ratios and other financial ratios and analysis tools to get a complete picture of a company's performance.
Note
The quality and collectability of accounts receivable because not all borrowers are the same.
Some may fail to repay the business, leading to a higher bad debt expense. There are special practices in place to record unpaid debts. If you are interested, you should review our accounting course.
Calculating the Quick Ratio
How do you calculate the quick ratio? It's pretty simple. You just need two numbers: current assets and current liabilities.
Assets that can be quickly converted into cash within a year are categorized as current assets. Examples include marketable securities, accounts receivable, inventory, and cash.
Accounts payable, accrued expenses, and short-term loans all fall under current liabilities, which are essentially debts that must be paid off in a year.
To calculate the quick ratio, you just divide quick assets by current liabilities:
Quick Ratio = Quick assets / Current liabilities
With $10,000 tucked away in quick assets and $5,000 sitting in their current liabilities, the quick ratio for this company stands at 2 after dividing 10,000 by 5,000.
This implies that for every dollar in current liabilities, the company has two dollars in current assets to pay it. That's a good quick ratio! But wait, there's a catch. Not all current assets are equally liquid. Some are more liquid than others.
Cash is the most suitable asset to pay off debts immediately due to its high liquidity. Marketable securities can be easily sold fairly quickly due to their liquidity, enabling them to fetch a reasonable price.
Accounts receivable are less liquid because they depend on customers paying on time. Inventory is the least liquid because it may take time to sell or may lose value over time.
So, to be more accurate, we should exclude inventory from current assets when calculating the quick ratio. This gives us a more conservative measure of liquidity.
To calculate a quick ratio without stock, we subtract inventory from current assets and divide it by current liabilities.
Quick ratio without stock = (Current assets - Inventory) / Current liabilities
If a company possesses $10,000 of current assets and $5,000 in current liabilities, the quick ratio without inventory will be altered due to the value of $2,000.
The adjusted quick ratio computes to 1.6 using the formula (10,000 - 2,000) / 5,000.
Current liabilities are outweighed by current assets (not including inventory) by $1.6 for every $1, thanks to the company.
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