Procedures – Types of Ratio Analysis
Acid Test Ratio
Cash+Securities+Receivables
Current Liabilities
Compares assets that can be immediately liquidated to liabilities that will be due in the next year.
This calculation divides the total cash, securities, and receivables by current liabilities.
This ratio is a measure of company’s ability to meet sudden cash requirements.
In turbulent economic times, it is used quite prevalently, giving the analyst a worst-case look at the
company’s working capital situation.
An examiner will analyze this ratio for fraud indicators.
In year one of the example, the company balance sheet reflects a quick ratio of 2.05. This ratio drops in
year two to 1.00.
In this situation, a closer review of accounts receivable shows that they are increasing at an unusual rate,
which could indicate that fictitious accounts receivable have been added to inflate sales.
Of more concern, perhaps, is the increase in accounts payable that might require, at a minimum, a
closer review to determine why.
If the drop in the ratio indicates a problem customer or significant slowing in the time to collection, it
might reflect a general decline in company prospects.
That, in turn, would be a red flag that management could feel pressured to report fraudulent financials.