The acid-test ratio contrasts a company’s current obligations with its “quick assets” (cash and accounts receivable). It is one of the six fundamental computations used to assess short-term liquidity, or an organization’s capacity to pay its obligations when they become due.
The acid-test ratio is thought to be the most exact method of determining short-term liquidity. It can be calculated using this formula:
Quick assets (cash + accounts receivable) / current liabilities
This establishes how much money a company has available to cover each dollar of debt it owes. The ideal acid-test ratio for a company is at least 1:1. A business that has an acid-test ratio below 1:1 will desire to produce more short-term assets. It can accomplish this by offering discounts to encourage sales, collecting on accounts receivable (perhaps offering special terms for early payment) or requesting shareholders to put more cash in the company.
