Question

Assume a company's liquidity ratios all are less than 1.0 before it purchases inventory on credit. When it makes the purchase:

a. Its current ratio decreases.
b. Its current ratio remains unchanged.
c. Its quick ratio remains unchanged.
d. Its quick ratio decreases;

Answer 1

When a company purchases inventory on credit, its current ratio and quick ratio decrease.

Step-by-step explanation:

When a company's liquidity ratios are all less than 1.0 before it purchases inventory on credit, the purchase will cause the company's current ratio to decrease. The current ratio is calculated by dividing current assets by current liabilities, and since purchasing inventory on credit increases current liabilities without a corresponding increase in current assets, the ratio will decrease. The quick ratio, which is calculated by subtracting inventory from current assets and dividing by current liabilities, will also decrease as a result of the purchase.