Bookmarks People Window Help xAplia: Student Question x https://courses.aplia.co
ID: 1172244 • Letter: B
Question
Bookmarks People Window Help xAplia: Student Question x https://courses.aplia.com/af/serviet/quiz?quiz action takeQuiz&quiz; probGuid QNAPCOA8010100000041ca25b00500008c 2. Liquidity ratios A liquid asset can be converted to cash quickly without significantly impacting the asset's value Which of the following asset classes is generally considered to be the most liquid? O Inventories O Accounts recelivable The most recent data from the annual balance sheets of Free Spirit Industries Inc. and Zebra Paper Corp, are as follows: Balance Sheet December 31 (Millions of dollars) Zebra Paper Free Spirit Corp. Industries Zebra Paper Free Spirit Corp. Industries Inc. Liabiitios Current assets Current liablties $2,214 Accounts payable 3,444 1,260 3,696 8,400 50 $o 810 Accruals 2,376 Notes payable 4,303 4,050 Toral current assets Net fxed assets Net plant and equipment 5,400 Total current liablities Long-term bonds 6,188 4,950 6,600 6,600 Total debt Common equity 2,438 1.950 Retained earnings Total common equty 3.750 Total ansets 12.000 Total lablities and equityExplanation / Answer
Most liquid asset among cash, inventories and accounts receivable , is cash. Inventories and accounts receivable will take time to get converted into cash. But cash is readily available for different purposes.
Free spirit industries
Current ratio = Current assets/ current liabilities
= 5,400 / 4,050
= 1.33
Quick ratio = Liquid assets / Current liabilities
= 3,024 / 4,050
= 0.75
Zebra Paper Corp.
Current ratio = Current assets/ current liabilities
= 8,400 / 5,062
= 1.66
Quick ratio = Liquid assets / Current liabilities
= 4,704 / 5,062
= 0.93
(i) Zebra paper corp. has a better ability to meet its short term liabilitis than Free Spirit Industries.- The given statement is true since the current ratio and the quick ratio of Zebra paper corp. are higher than the said ratios of Free Spirit Industries
(ii) If a company's current liabilities are increasing faster than its current assets, the company's liquidity position is weakening- The given statement is true. Faster increasing current liabilities would mean that the company has less current assets available to pay off current liabilities, which definitely weakens a company's liquidity position.
(iii) If a company has a quick ratio of less than 1 but current ratio of more than 1 and if the difference between two ratios is large, then the company heavily depends on the sale of its inventories to meet its short term obligations- The given statement is correct. The difference of current assets and quick assets represents the amount of inventories. If quick ratio is less than 1 but the current ratio is more than 1, it means that the company has heavily invested in inventories. Hence it would depend on the sale of the inventory to meet its short term obligations.
(iv)Compared to Free Spirit Industries, Zebra Paper Corp. has less liquidity and lower reliance on outside cash flow to finance its short term obligations- The given statement is partially true. Zebra Paper Corp. has higher liquidity and current ratios as compared to Free Spirits Industries and hence Zebra Paper Corp is more liquid than Free Spirit Industries Since it is more liquid, hence it has lower reliance on outside cash to finance its short term obligations.
(v) An increase in the current ratio over time always means that the company's liquidity position is improving.- The given statement is false. Over a period of time, current ratio may increase due to accumulation of inventories. Hence if current ratio increase just due to increase in inventories, it won't improve company's liquidity position. On the other hand, if current ratio increase due to increase in liquid assets like cash and bank balance, then liquidity position of the company will improve.
Related Questions
drjack9650@gmail.com
Navigate
Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.