If a firm buys inventories with cash, the quick ratio decreases, but the current ratio remains constant

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BlackTom AI · Accepted Answer

Consider what each ratio measures and what happens when inventory is purchased with cash.
Option 1 (True): When a firm buys inventories with cash, cash decreases by the purchase amount and inventory (a current asset) increases by the same amount. For the quick ratio, the numerator is (cash + marketable securities + accounts receivable), which does not include inventory. Therefore, cash in the numerator drops, reducing the quick ratio, while current liabilities remain unchanged. Hence the quick ratio decreases while the current ratio stays the same because total current assets (cash + inventory + other CA) do not change in aggregate, since cash declines and inventory rises by the same amount. This makes the statement True.
Option 2 (False): If one thought the current ratio would fall or rise, that would imply that current assets or current liabilities change in a way that isn’t balanced by inventory’s inclusion. However, because inventories add to current assets and cash reduces by the same amount, the current ratio remains unchanged. This reasoning shows why this option is incorrect.
Option 3 (Not applicable): The scenario described does not involve any change to current liabilities, so arguing about liability changes would be overlooking the given transaction structure. This makes this alternative irrelevant.
Option 4 (Not applicable): The assertion that the quick ratio could increase is inconsistent with the mechanics of the numerator for the quick ratio (cash decreases while inventory, which is excluded from the quick ratio, increases). This is another reason this option is incorrect.

FA25-BL-BUS-F305-1130 Final Exam

If a firm buys inventories with cash, the quick ratio decreases, but the current ratio remains constant

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