What is Quick Ratio?
Quick ratio, also known as acid-test ratio or liquidity ratio, is a financial metric that measures the ability of a company to pay its short-term obligations with its most liquid assets. These assets are cash, cash equivalents, marketable securities, and accounts receivable. These assets are called “quick” because they can be easily converted into cash without losing much value.
Quick ratio is a more conservative measure of liquidity than current ratio, which includes all current assets as coverage for current liabilities. Quick ratio excludes inventory and prepaid expenses from current assets, because they may take longer to sell or may not be used to pay current liabilities.
Quick ratio is calculated by dividing the sum of quick assets by the sum of current liabilities. A quick ratio of 1 or higher indicates that the company has enough liquid assets to cover its current liabilities. A quick ratio of less than 1 indicates that the company may not be able to pay its current liabilities without selling its inventory or obtaining additional financing.
Quick ratio is an important indicator of a company’s solvency and financial health. It shows how well the company can meet its short-term obligations and sustain its operations. Investors, creditors, and suppliers are interested in knowing the quick ratio of a company, as it reflects its liquidity risk and creditworthiness.
How to Calculate Quick Ratio in Excel?
To calculate quick ratio in Excel, you need to have the following data:
- Cash and cash equivalents: The amount of money that the company has in its bank accounts, petty cash, and other highly liquid investments that can be converted into cash within 90 days.
- Marketable securities: The amount of money that the company has invested in stocks, bonds, or other securities that can be sold quickly at a fair market value.
- Accounts receivable: The amount of money that the company expects to receive from its customers for the goods or services that it has delivered or performed, but not yet collected.
- Current liabilities: The amount of money that the company owes to its creditors, suppliers, employees, or other parties that are due within one year or within the normal operating cycle of the business, whichever is longer.
The formula for quick ratio is:
Quick ratio = (Cash and cash equivalents + Marketable securities + Accounts receivable) / Current liabilities
Alternatively, you can also use this formula:
Quick ratio = (Current assets – Inventory – Prepaid expenses) / Current liabilities
This formula subtracts inventory and prepaid expenses from current assets, instead of adding up the quick assets.
To calculate quick ratio in Excel, you can use either of these formulas in a cell, and then copy and paste it to other cells as needed. For example, if you have the following data in cells A1 to E5:
Table
| Company | Cash and cash equivalents | Marketable securities | Accounts receivable | Current liabilities |
|---|---|---|---|---|
| A | 10,000 | 20,000 | 15,000 | 25,000 |
| B | 5,000 | 10,000 | 12,000 | 18,000 |
| C | 8,000 | 15,000 | 10,000 | 20,000 |
| D | 12,000 | 25,000 | 18,000 | 30,000 |
| E | 6,000 | 12,000 | 8,000 | 16,000 |
You can enter this formula in cell F2 to calculate the quick ratio for company A:
= (B2+C2+D2) / E2
This will give you the result of 1.8, which means that company A has 1.8 times more liquid assets than current liabilities.
You can then copy and paste this formula to cells F3 to F6 to calculate the quick ratio for the other companies. You will get the following results:
Table
| Company | Cash and cash equivalents | Marketable securities | Accounts receivable | Current liabilities | Quick ratio |
|---|---|---|---|---|---|
| A | 10,000 | 20,000 | 15,000 | 25,000 | 1.8 |
| B | 5,000 | 10,000 | 12,000 | 18,000 | 1.5 |
| C | 8,000 | 15,000 | 10,000 | 20,000 | 1.65 |
| D | 12,000 | 25,000 | 18,000 | 30,000 | 1.83 |
| E | 6,000 | 12,000 | 8,000 | 16,000 | 1.63 |
You can also use the alternative formula in cell G2 to calculate the quick ratio for company A:
= (SUM (B2:D2) – SUM (H2:I2)) / E2
This formula assumes that you have the inventory and prepaid expenses data in cells H2 to I6. For example, if company A has 5,000 in inventory and 2,000 in prepaid expenses, the formula will give you the same result of 1.8.
You can then copy and paste this formula to cells G3 to G6 to calculate the quick ratio for the other companies using the alternative formula. You will get the same results as the previous formula, as long as the inventory and prepaid expenses data are consistent.
How to Interpret Quick Ratio?
Quick ratio is a useful tool to assess the liquidity and solvency of a company. However, it is not a definitive measure of financial health, and it should be used with caution and context. Here are some points to consider when interpreting quick ratio:
- Quick ratio is a snapshot of a company’s liquidity at a given point in time. It does not reflect the cash flow or profitability of the company, or the quality and collectability of its assets and liabilities. A company may have a high quick ratio, but still face cash flow problems or losses. A company may also have a low quick ratio, but still generate positive cash flow or profits.
- Quick ratio is a relative measure that should be compared with the industry average, the company’s historical trend, or the company’s competitors. A quick ratio that is higher than the industry average or the company’s historical trend may indicate that the company is more liquid and solvent than its peers or its past performance. A quick ratio that is lower than the industry average or the company’s historical trend may indicate that the company is less liquid and solvent than its peers or its past performance.
- Quick ratio is a general measure that does not account for the specific nature and timing of the company’s assets and liabilities. Some assets may be more liquid than others, and some liabilities may be more urgent than others. For example, some marketable securities may be subject to price fluctuations or market conditions, and some accounts receivable may be subject to credit risk or collection delays. Some current liabilities may be interest-bearing or have contractual terms, and some current liabilities may be contingent or negotiable. Therefore, quick ratio may not reflect the true liquidity and solvency of the company, and it should be supplemented with other financial ratios and analysis.
