what is the acid test ratio 
the acid test ratio commonly known as the quick ratio uses data from a firm s balance sheet to indicate whether it has the means to cover its short term liabilities generally a ratio of 1 0 or more indicates a company can pay its short term obligations while a ratio of less than 1 0 indicates it might struggle to pay them investopedia joules garciaunderstanding the acid test ratioin certain situations analysts prefer to use the acid test ratio rather than the current ratio also known as the working capital ratio because the acid test method ignores assets such as inventory which may be difficult to liquidate quickly the acid test ratio is thus a more conservative metric companies with an acid test ratio of less than 1 0 do not have enough liquid assets to pay their current liabilities and should be treated cautiously if the acid test ratio is much lower than the current ratio a company s current assets are highly dependent on inventory however this is not a bad sign in all cases as some business models are inherently dependent on inventory retail stores for example may have very low acid test ratios without necessarily being in danger the acceptable range for an acid test ratio will vary among different industries and you ll find that comparisons are most meaningful when analyzing peer companies in the same industry as each other for most industries the acid test ratio should exceed 1 0 on the other hand a high ratio is not always good it could indicate that cash has accumulated and is idle rather than being reinvested returned to shareholders or otherwise put to productive use some tech companies generate massive cash flows and accordingly have acid test ratios as high as 7 or 8 while this is certainly better than the alternative these companies have drawn criticism from activist investors who would prefer that shareholders receive a portion of the profits calculating the acid test ratiothe numerator of the acid test ratio can be defined in various ways but the primary consideration should be gaining a realistic view of the company s liquid assets cash and cash equivalents should definitely be included as should short term investments such as marketable securities accounts receivable are generally included but this is not appropriate for every industry in the construction industry for example accounts receivable may take much more time to recover than is standard practice in other industries so including it could make a firm s financial position seem much more secure than it is in reality the formula is acid test cash marketable securities a r current liabilities where a r accounts receivable begin aligned text acid test frac text cash text marketable securities text a r text current liabilities textbf where text a r text accounts receivable end aligned acid test current liabilitiescash marketable securities a r where a r accounts receivable another way to calculate the numerator is to take all current assets and subtract illiquid assets most importantly inventory should be subtracted keeping in mind that this will negatively skew the picture for retail businesses because of the amount of inventory they carry other elements that appear as assets on a balance sheet should be subtracted if they cannot be used to cover liabilities in the short term such as advances to suppliers prepayments and deferred tax assets the ratio s denominator should include all current liabilities debts and obligations due within one year it is important to note that time is not factored into the acid test ratio if a company s accounts payable are nearly due but its receivables won t come in for months it could be on much shakier ground than its ratio would indicate the opposite can also be true the term acid test is rumored to have originated from testing precious metals like gold with acid to make sure it was real acid test ratio examplea company s acid test ratio can be calculated using its balance sheet below is an abbreviated version of apple inc s aapl balance sheet as of jan 27 2022 showing the components of the company s current assets and current liabilities all figures in millions of dollars 1to obtain the company s liquid current assets add to get current liabilities add then divide current liquid assets by current liabilities to calculate the acid test ratio the calculation would look like this not everyone calculates this ratio the same there is no single hard and fast method for determining a company s acid test ratio some analysts might include other balance sheet line items not included in this example and others might remove the ones used here so it is important to understand how data providers arrive at their conclusions before using the metrics given to you 