Video: Liquidity Ratios

In this lesson, Nick Palazzolo, CPA, tackles the intricacies of improving the Quick Ratio, an essential indicator of a company's short-term liquidity position. He begins by advising on the importance of writing down ratios and formulas when encountered, using the Quick Ratio as the illustrative example. Through the scenario of a company needing to meet a bank's Quick Ratio requirement for a loan, Nick explores practical strategies for enhancing this critical financial metric. By delving into methods to increase current assets, such as boosting cash and receivables, and ways to decrease current liabilities, including paying off short-term debt, Nick provides clear and actionable insights to help make informed decisions on maintaining a healthy liquidity status.

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Video Transcript

Instructor: Nick Palazzolo

Nick Palazzolo is head instructor of ExamPrep.ai CPA Review. Nick's teaching style is engaging & upbeat, combining practical Big 4 tax & assurance expertise with years of 1-on-1 coaching. His lessons are concise and emphasize what you need to know to pass. Whether you're a recent grad or working full-time, we’re confident you can conquer your CPA exams with Nick’s review.

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How would we improve our quick ratio? Good question. So this question like this. I would just write out your Quick Ratio and here it is: Quick Ratio. Anytime you see a ratio asked or you see a formula ask, I think that's a great indication that you should just write it out. I mean, we'll see why you wouldn't do that. The Farrow company is applying for a loan in which the bank requires a Quick Ratio of at least one. Now, this is an example of a debt covenant or a bank covenant. For any of you who were wondering which, I'm sure it was everyone, you're all quite curious. Farrow's Quick ratio is 0.8. So how would Farrow improve its quick ratio? Now, your Quick Ratio is a bunch of assets over a bunch of liabilities. How do you improve the ratio? Well, you can either increase your current assets or decrease your current liabilities. Increasing your current assets could be done by increasing your cash and marketable securities, such as stocks and bonds. You can also increase your receivables if you expect to receive payments in the near future. Decreasing your current liabilities could be done by paying down any short-term debt that you might have. Additionally, you can look at ways to reduce your expenses and make sure that you are not overspending.

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