
Concept explainers
Requirement – 1
To calculate: The
Requirement – 1

Explanation of Solution
Current ratio:
Current ratio is used to determine the relationship between current assets and current liabilities. Current ratio is determined by dividing current assets and current liabilities.
Formula:
The current ratio of Company A for the past two year is as follows:
In 2012:
In 2013:
Therefore, the current ratio in the most recent year (2013) is weakened.
Requirement – 2
To calculate: The acid test ratio for the past two year, and discuss whether the acid test ratio improve or weaken in the most recent year.
Requirement – 2

Explanation of Solution
Acid-test Ratio:
It is a ratio used to determine a company’s ability to pay back its current liabilities by liquid assets that are current assets except inventory and prepaid expenses.
Formula:
The acid test ratio of Company A for the past two year is as follows:
In 2012:
In 2013:
Therefore, the acid test ratio in the most recent year (2013) is weakened.
Requirement – 3
The manner in which the current ratio and acid test ratio will change, if Company A used $100 million in cash to pay $100 million in accounts payable.
Requirement – 3

Explanation of Solution
Calculate current ratio if company used $100 million in current investments to pay $100 million in current accounts payable.
If the company used $100 million in current investments to pay $100 million in current accounts payable, the current assets and the current liabilities both decreases by $100 million. Thus, this transaction increases the current ratio. The calculation is as given below:
Before:
After:
Calculate acid-test ratio if company used $100 million in current investments to pay $100 million in current accounts payable.
If the company used $100 million in current investments to pay $100 million in current accounts payable, the quick assets and the current liabilities both decreases by $100 million. Thus, this transaction increases the acid-test ratio. The calculation is as given below:
Before:
After:
Therefore, both current and acid test ratio is increased.
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Chapter 8 Solutions
Financial Accounting
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