Acid-Test Ratio

AAA

DEFINITION of 'Acid-Test Ratio'

A stringent indicator that determines whether a firm has enough short-term assets to cover its immediate liabilities without selling inventory. The acid-test ratio is far more strenuous than the working capital ratio, primarily because the working capital ratio allows for the inclusion of inventory assets.

Calculated by:

Acid-Test Ratio

INVESTOPEDIA EXPLAINS 'Acid-Test Ratio'

Companies with ratios of less than 1 cannot pay their current liabilities and should be looked at with extreme caution. Furthermore, if the acid-test ratio is much lower than the working capital ratio, it means current assets are highly dependent on inventory. Retail stores are examples of this type of business.

The term comes from the way gold miners would test whether their findings were real gold nuggets. Unlike other metals, gold does not corrode in acid; if the nugget didn't dissolve when submerged in acid, it was said to have passed the acid test. If a company's financial statements pass the figurative acid test, this indicates its financial integrity.

RELATED TERMS
  1. Working Capital

    This ratio indicates whether a company has enough short term ...
  2. Debt Ratio

    A financial ratio that measures the extent of a company’s or ...
  3. Current Assets

    1. A balance sheet account that represents the value of all assets ...
  4. Current Liabilities

    A company's debts or obligations that are due within one year. ...
  5. Liability

    A company's legal debts or obligations that arise during the ...
  6. Current Ratio

    A liquidity ratio that measures a company's ability to pay short-term ...
Related Articles
  1. Fundamental Analysis

    How can I calculate the acid test ratio in Excel?

    Understand how the acid test ratio is used by analysts to determine the financial health of a company and how to calculate this liquidity metric in Excel.
  2. Fundamental Analysis

    What is the difference between the acid test ratio and working capital ratio?

    Using liquidity ratios to determine the financial stability of a company is an important tool to accounting professionals and investors.
  3. Professionals

    Warning Signs Of A Company In Trouble

    Don't let your clients go down with ship! Learn how to escape sinking with these tips.
  4. Investing Basics

    Do Your Investments Have Short-Term Health?

    If a company is strong enough to survive tough times, it is more likely to provide long-term value.
  5. Markets

    How To Analyze A Company's Financial Position

    Find out how to calculate important ratios and compare them to market value.
  6. Fundamental Analysis

    Dynamic Current Ratio: What It Is And How To Use It

    Learn why this ratio may be a good alternative to the current, cash and quick ratios.
  7. Options & Futures

    Advanced Financial Statement Analysis

    Learn what it means to do your homework on a company's performance and reporting practices before investing.
  8. Fundamental Analysis

    How do I calculate dividend payout ratio from a balance sheet?

    Understand what the dividend payout ratio indicates and learn how it can be calculated using the figures from a company's balance sheet statement.
  9. Fundamental Analysis

    What is the formula for calculating the current ratio in Excel?

    Understand the basics of the current ratio, including its use and interpretation as a financial metric and how it is calculated in Microsoft Excel.
  10. Investing Basics

    What is the difference between a fixed asset and a current asset?

    Discover the difference between fixed assets and current assets and the value of each to a company. Learn the category and where to record each asset.

You May Also Like

Hot Definitions
  1. Treasury Bond - T-Bond

    A marketable, fixed-interest U.S. government debt security with a maturity of more than 10 years. Treasury bonds make interest ...
  2. Weight Of Ice, Snow Or Sleet Insurance

    Financial protection against damage caused to property by winter weather specifically, damage caused if a roof caves in because ...
  3. Weather Insurance

    A type of protection against a financial loss that may be incurred because of rain, snow, storms, wind, fog, undesirable ...
  4. Portfolio Turnover

    A measure of how frequently assets within a fund are bought and sold by the managers. Portfolio turnover is calculated by ...
  5. Commercial Paper

    An unsecured, short-term debt instrument issued by a corporation, typically for the financing of accounts receivable, inventories ...
  6. Federal Funds Rate

    The interest rate at which a depository institution lends funds maintained at the Federal Reserve to another depository institution ...
Trading Center