Quick ratio

CFA Level I FRA
#1

I found this in Schwesser’s question bank pro.

As of December 31, 2007, Manhattan Corporation had a quick ratio of 2.0, current assets of $15 million, trade payables of $2.5 million, and receivables of $3 million, and inventory of $6 million. How much were Manhattan’s current liabilities?

A) $12.0 million. B) $4.5 million. C) $7.5 million.

The explanation given is this

Manhattan’s quick assets were equal to $9 million ($15 million current assets – $6 million inventory). Given a quick ratio of 2.0, quick assets were twice the current liabilities. Thus, the current liabilities must have been $4.5 million ($9 million quick assets / 2.0 quick ratio).

not sure if this makes sense.

The quick ratio is (Cash + markatable security + receivables)/ CL

#2

quick ratio = (current asset - inventory) / current liabilities

2 = ($15 - 6) / CL

2 = 9 / CL

CL = $4.5 mill

I think you are mistaken on the formula. Well I take that back, I don’t think it’s wrong but notice that it doesn’t include inventory, gotta take it out. It’s like current ratio but without inventory in numerator, and you can either subtract inventory from current assets or add up all current assets except for inventory.

#3

Well if only I knew that current assets = Cash + Markatable security + Receivables + Inventory

But I thought there is another bit to it which is prepaid expenses and differed tax which are also current assets…

#4

I guess since they didn’t give it, I can ignore it. Tricky!!

#5

It’s one of those know the concept behind the equation problems. Like you said knowing what is included in he current ratio and the quick ratio would lead you to the answer.

I havent taken the test, but it seems like they are putting a bunch of related areas into one question.

#6

The numerator in the quick ratio is “quick assets”: cash and cash equivalents, short-term investments, and accounts receivable: assets that are or can be turned into cash in very short order.

Usually, this is the same as current assets less inventory (and this has always been the case in the CFA curriculum, as far as I can tell). However, in the real world, this may not be the case. As an interesting example, some companies classify all or part of their DTAs as current assets. If you tried to use current assets less inventory as quick assets, then you would be including the DTAs, which are decidedly not quick assets.

#7

so if on the exam day there is a question where the current assets include DTA’s, and we are asked to calculate quick ratio using the current assets minus the non liquid assets, do we have to deduct the DTA’s as well?

#8

Yes.

However, I have never, ever, ever, ever, ever seen that on a CFA exam.

Ever.

#9

thank you sir.

#10

You’re welcome.