# Acid Test Ratio  ## What is Acid Test Ratio?

The acid test ratio is a measure of a company’s short-term liquidity, indicating its capacity to pay off current commitments using just its most liquid assets. It is calculated by dividing the sum of cash, cash equivalents, marketable securities or short-term investments, and current accounts receivables by the total current liabilities.

The understanding of the acid test ratio is very important as it shows the company’s potential to convert its assets into cash very quickly in order to satisfy its current liabilities. If an entity has an adequate level of liquid assets to cover its current liabilities, then it doesn’t need to liquidate any of its long-term assets to meet its current obligations. This point is of paramount importance since most businesses rely on long-term assets to generate additional revenue.

### Acid Test Ratio Formula

Acid Test Ratio = (Cash + Cash Equivalents + Marketable Securities + Current Accounts Receivables) / Total Current Liabilities

For eg:
Source: Acid Test Ratio (wallstreetmojo.com)

Another formula that is more popularly used calculates the acid test ratio first by deducting inventory from the total and then dividing the value by the total . Inventory is excluded in this formula because it is not considered to be a rapid cash convertible. Mathematically it is represented as,

### Examples

Below are some examples to understand the concept in a better manner.

You can download this Acid Test Ratio Formula Excel Template here – Acid Test Ratio Formula Excel Template

###### Example #1

The following are the current assets and current liabilities of ABC Limited:

• Acid test ratio = (\$2,500 + \$12,500) / (\$12,500 + \$1,500 + \$500)
• = 1.03
###### Example #2

The following are the current assets and current liabilities of Apple Inc. for the period ending 29 September 2018:

Calculate the acid test ratio of Apple Inc for the period ending 29 September 2018:

• = (\$25,913 + \$40,388 + \$48,995 + \$12,087) / (\$55,888 + \$20,748 + \$40,230)
• = 1.09

### Interpretation

• If the acid test ratio of an entity is greater than 1.0, then the entity is considered to be financially secure and sufficiently capable of meeting its short-term liabilities. This ratio is a more conservative measure than the popularly used current ratio as it excludes inventory, which is considered to take longer to convert into cash.
• As a thumb rule, a low or decreasing trend witnessed in acid test ratio usually indicates that an entity may be having weak top-line growth, struggling to owing to lower creditor period or higher receivable period.
• On the other hand, a high or increasing trend in acid test ratio generally means that the entity is having strong top-line growth, quickly able to convert receivables into cash, and comfortable in its financial obligation coverage.

### Apple’s Example

Now let us take the real-life example in excel of Apple Inc.’s published financial statement for the last four .

You can easily calculate the ratio in the template provided.

Based on the publicly available of Apple Inc. we can calculate the ratio for the accounting years 2015 to 2018.

The result will be:-

From the above table, it can be seen that the acid test ratio of Apple Inc. has been continuously greater than 1.0 during the above mentioned period, which is a positive sign for any company as it signifies a comfortable liquidity position.

### Recommended Articles

This article has been a Guide to Acid Test Ratio and its meaning. We discuss the its formula along with examples and interpretations. You may learn more about financial statement analysis from the following articles –