Quick Ratio Formula (Table of Contents)
Quick Ratio formula
Quick ratio is a popular metric used to calculate the short-term liquidity position of a company. The formula for Quick ratio is:
In the above Quick ratio formula,
Quick assets refer to the assets, that can be converted into cash within a period of 90 days.
Quick assets = Cash or cash equivalents, Marketable securities & Accounts receivables
Now that we know what quick assets are, let us break down the formula as:
Let us now calculate the Quick ratio, with a simple example.
Examples of Quick Ratio Formula
Quick Ratio Formula Example #1
Consider a company XYZ has the following Current Assets & Current liabilities.
- Cash: $10000
- Inventory: $5000
- Stock investments: $2000
- Inventory: $4000
- Prepaid taxes: $800
- Accounts receivables: $6000
- Current liabilities: $15000
Therefore,
The quick ratio pertaining to company XYZ can be calculated as:
- Quick ratio = Cash+ Stock investments + Accounts receivables/ Current liabilities
- Quick ratio = $10000+$2000+$6000/ $15000
- Quick ratio = $18000/$15000
- Quick ratio = $1.2
The quick ratio of company XYZ is 1.2, which means company XYZ has $1.2 of quick assets to pay off $1 of its current liabilities.
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Sometimes companies don’t provide a detailed balance sheet, however, the quick ratio can still be calculated as shown in the below example:
Quick Ratio Formula – Example #2
Suppose the balance sheet of company XYZ looks like shown below.
- Total current assets = $22800
- Inventory = $4000
- Prepared taxes = $800
- Current liabilities = $15000
Since company XYZ did not give the breakdown of the quick assets, the quick ratio can be calculated with the below method:
- Quick ratio = Total currents assets – Inventory – Prepared taxes/ Current liabilities
- Quick ratio = $22800 – $4000 – $800/ $15000
- Quick ratio = $18000/$15000
- Quick ratio = $1.2
Quick Ratio Formula – Example #3
Now that we have a basic understanding of the calculation of quick ratio, let us now go ahead and calculate the quick ratio of Reliance Industries:
The Current Assets & Current liabilities of Reliance Industries for FY 2017 – 18 is;
- Current Investments = 53,277.00
- Inventories = 39,568.00
- Trade Receivables = 10,460.00
- Cash And Cash Equivalents = 2,731.00
- Short Term Loans And Advances = 3,533.00
- Other Current Assets = 14,343.00
- Current Liabilities = 190647
Therefore,
- Quick ratio = Current Investments+Trade Receivables+Cash And Cash Equivalents+Short Term Loans And Advances+Other Current Assets/Current Liabilities
- Quick ratio = 53277 + 10460 + 2731 + 3533 + 14343/ 190647
- Quick ratio = 84344/190647
- Quick ratio = 0.44
From the above calculation, it is clear that the short-term liquidity position of Reliance industries is not good. It means that Reliance industries has 0.44 INR in quick assets for every 1 INR of current liabilities.
It also helps to compare the quick ratio from the previous years, to understand the trend. Let us now calculate the quick ratio of Reliance industries for FY 2016 – 17.
- Current Investments = 51,906
- Inventories = 34,018.00
- Trade Receivables = 5,472.00
- Cash And Cash Equivalents = 1,754.00
- Short Term Loans And Advances = 4,900.00
- Other Current Assets = 8,231.00
- Current Liabilities = 152826
Therefore,
- Quick ratio = Current Investments+Trade Receivables+Cash And Cash Equivalents+Short Term Loans And Advances+Other Current Assets/Current Liabilities
- Quick ratio = 51906+5472+1754+4900+8231/152826
- Quick ratio = 72263/152826
- Quick ratio =0.47
The comparative study of a quick ratio for FY 16 & 17 suggests that the quick ratio of Reliance industries declined from 0.47 to 0.44. This indicates that the short term liquidity position of Reliance industries is bad, and hence it cannot pay off its current liabilities with the quick assets. It also makes sense to look at the contribution weightage of each asset in the overall quick assets.
If you notice the quick assets of Reliance industries, the short-term investments have more weightage with 53277 contributions to the overall quick assets of 84344. This means that strategically Reliance industries has made good short-term investments that can be converted in to cash to pay off its current liabilities. However, the overall quick assets are not sufficient to meet its short-term liquidity requirements.
Explanation
- Quick ratio is also referred to as the Acid test ratio, in reference to the historic practice of acid to test the metals for gold. The metal would undergo the acid test to prove it is pure gold, otherwise, it is just a metal. Similarly, investors test the companies to determine their short-term liquidity position by calculating the quick ratio.
- Quick ratio is similar to the current ratio, in terms of calculating current assets, however, while calculating the quick ratio, we eliminate Inventory & prepared expenses. The reason being the assumption that Inventory may not be realized into cash within a period of 90 days. The Inventory includes Raw materials and works in progress, therefore liquidating the inventory in a timely manner becomes difficult.
- A quick ratio of 1 or more is considered to be good. It means that the short-term liquidity position of the company is good. A quick ratio of 1 indicates that for every $1 of current liabilities, the company has $1 In quick assets to pay it off. Similarly, a quick ratio of 2 indicates the company has $2 in current assets, for every $1 it owes.
- The Assets that are considered under quick ratio are Cash & cash equivalents, Marketable securities/Investments, Accounts Receivables.
Use of Quick ratio
- The quick-ratio is mostly used by the Investors/creditors to determine the short-term liquidity position of the company in which they are investing/lending.
- It also helps the management of the company in deciding the optimum level of current assets that need to be maintained, to meet the short-term liquidity requirements.
- Quick ratio also helps in enhancing the credit score of the company, for taking credit in the market.
Significance and Use of Quick Ratio Formula
While the quick ratio is a quick & easy method of determining the liquidity position of the company, diligence needs to be taken in interpreting the numbers. In order to get the complete picture, it is always better to break down the analysis and see what is the actual reason for the quick ratio being high.
For example: If the increase in the quick ratio is impacted by the spike in Accounts receivables, and the payment from the creditors is delayed, the company may not be able to meet its short-term debt obligations which are immediate in nature.
Now that we understood the complete know-how of quick ratio, please go ahead and try calculating the quick ratio on your own, in the excel template made for you to practice. Please also make sure to analyze and see the reason for the increase/decrease in the quick ratio.
Quick Ratio Formula Calculator
You can use the following Quick Ratio Formula Calculator
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Quick Ratio Formula in Excel (With excel template)
Here we will do the same example of the Quick Ratio Formula in Excel. It is very easy and simple. You need to provide the two inputs i.e. Current Assets and Current liabilities
You can easily calculate the Quick Ratio Formula in the template provided.
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This has been a guide to Quick Ratio Formula, here we discuss its uses along with practical examples. We also provide you with a Quick Ratio calculator along with a downloadable excel template.
