Accounting for Receivables – Using the Information on the Financial Statements
Evaluation of Short-term Liquidity
Collection of trade receivables has a significant impact upon a company’s cash position.
Four ratios assist in evaluating short-term liquidity:
1.The current ratio (Current assets ÷ Current liabilities) measures a company’s ability to satisfy its short-term debts.
2.The acid test ratio or quick ratio measures a company’s ability to satisfy its short- term debts immediately. (Cash + Temporary investments + Accounts receivable) ÷ Current liabilities
3.The receivables turnover is a useful measure for assessing a company’s efficiency in converting credit sales into cash. The higher the ratio, the more liquid are the company’s receivables. Net credit sales ÷ Average accounts receivable
4. The collection period is determined by dividing 365 days by the receivables turnover ratio.