ExpertMedium1 markMultiple Choice
CPA · Question 10 · Area I: Financial Reporting
Company X has a Current Ratio of 2.0 and a Quick Ratio of 1.5. If the company uses cash to purchase inventory, what is the immediate effect on these ratios?
Company X has a Current Ratio of 2.0 and a Quick Ratio of 1.5. If the company uses cash to purchase inventory, what is the immediate effect on these ratios?
Answer options:
A.
Current Ratio: No Change; Quick Ratio: Decrease
B.
Current Ratio: Decrease; Quick Ratio: Decrease
C.
Current Ratio: No Change; Quick Ratio: No Change
D.
Current Ratio: Increase; Quick Ratio: Decrease
How to approach this question
Write down the formulas. Current Ratio = CA / CL. Quick Ratio = (Cash + AR) / CL. Analyze the transaction: Debit Inventory, Credit Cash. Inventory is in CA but not Quick Assets. Cash is in both.
Full Answer
A.Current Ratio: No Change; Quick Ratio: Decrease✓ Correct
A
Transaction: Buy Inventory with Cash.<br/>Effect on Current Assets: Cash decreases, Inventory increases by same amount. Net change = 0. Current Ratio = CA/CL = No Change.<br/>Effect on Quick Assets: Cash decreases. Inventory is NOT a quick asset. Quick Assets decrease. Quick Ratio = QA/CL = Decrease.
Common mistakes
Thinking Inventory is a quick asset; failing to realize the swap within Current Assets leaves the total unchanged.
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