ratios

CFA Level I
#1

if you pay off accounts payables from cash, does the current ratio increases and the quick ratio decreases??

#2

Paying off A/P from cash will reduce both cash and current liabilities. The effects on the ratios depends on their current values (whether or not they are greater than 1) Consider the current ratio: CA/CL Let’s say CA/CL is 0.9 --> so we can say, CA=0.9, CL=1 Paying off 0.1 AP using cash will lead to CA/CL = 0.8/0.9 => a decrease in the current ratio Now let’s say CA/CL is 2.0, so we can say, CA=2, CL=1 Decrease them by 0.1 and you get 1.9/0.9 = 2.1111 So for the Current Ratio, paying off accounts payable using cash will: Decrease the current ratio if CR<1 Increase the current ratio if CR>1 Leave it unchanged if CR=1 Apply the same logic to the quick ratio.

#3

what happens if the current ratio is greater than one and the quick ratio less than one ?? and why??

#4

sorry, I did not see all the explanation before my second question!!! love the way you explained this!!! thanks!!!

#5

supersharpshooter Wrote: ------------------------------------------------------- > Paying off A/P from cash will reduce both cash and > current liabilities. > > The effects on the ratios depends on their current > values (whether or not they are greater than 1) > > Consider the current ratio: CA/CL > > Let’s say CA/CL is 0.9 --> so we can say, CA=0.9, > CL=1 > > Paying off 0.1 AP using cash will lead to CA/CL = > 0.8/0.9 => a decrease in the current ratio > > Now let’s say CA/CL is 2.0, so we can say, CA=2, > CL=1 > > Decrease them by 0.1 and you get 1.9/0.9 = 2.1111 > > So for the Current Ratio, paying off accounts > payable using cash will: > > Decrease the current ratio if CR<1 > Increase the current ratio if CR>1 > Leave it unchanged if CR=1 > > Apply the same logic to the quick ratio. Thanks supershapshooter and gabrielamdea for your good question and answer. This is the problem i 've never questioned before but it will go in mind from now on!

#6

good qn :slight_smile: but given that the qn doesn’t state if it’s > or < than 1, what shld it be then?

#7

the way i remember, if both num and denom moves the same way, the smaller would tend to have a greater effect. for ROA, ROE its pretty simple coz ur num would always be lower. for Current Ratio, all the similar questions i have seen so far gives tells whether its >1 or<1