The Current Ratio of a firm is 2:1, state giving reasons which of the following would improve, reduce or not change the ratio: 1) repayment of trade payables 2) purchase of@goods on credit 3) sale of motor vehicle at a loss of 20% 4) sale of goods at a profit of 10% 5) payment of final dividend already declared 6) redemption of debentures at a premium
Dear Student,
Lets assume Current Assets = Rs 2,000 & current liabilities = Rs 1,000
Therefore current ratio =
Case No. 1
1) When repayment of trade payables is made, it would reduce trade payables & cash/bank; thus both current assets & liabilities would be reduced by same amount . Therefore current ratio would increase. Let's say payment of Rs. 200 is made then current assets would be Rs 1,800 & liabilities would be of Rs 800, so ratio would be 2.25:1 (increased)
2) Purchase of goods on credit would increase stock & increase creditors & thus would decrease current ratio. Lets say, purchase of goods of Rs. 500 was made then current assets would be Rs 2500 & current liabilities would be Rs 1,500 , so new ratio would be 1.67:1 (decreased)
3) Sale of motor vehicle @ loss of 20% would increase current ratio because sale would cause increase in cash / bank balance & there would be no change in current liability.
4) Sale of goods at a profit of 10% would increase the current ratio as sale of goods would either increase cash/debtors (sale value), reduce stock (cost). Suppose, goods worth Rs 10,000 are sold at Rs 11,000. So, new current assets will be . And since no change in current liability, so new ratio = (increased)
5) Payment of final dividend declared by company would decrease current assets & liability by same amount & thus current ratio would be improved. For example, dividend paid of Rs 100 the new ratio =
6) Redemption of debentures at premium would cause decrease in current ratio as redemption would cause payment which will reduce cash/Bank; thus reducing current assets. There would be no impact on current liabilities.
Regards,
Lets assume Current Assets = Rs 2,000 & current liabilities = Rs 1,000
Therefore current ratio =
Case No. 1
1) When repayment of trade payables is made, it would reduce trade payables & cash/bank; thus both current assets & liabilities would be reduced by same amount . Therefore current ratio would increase. Let's say payment of Rs. 200 is made then current assets would be Rs 1,800 & liabilities would be of Rs 800, so ratio would be 2.25:1 (increased)
2) Purchase of goods on credit would increase stock & increase creditors & thus would decrease current ratio. Lets say, purchase of goods of Rs. 500 was made then current assets would be Rs 2500 & current liabilities would be Rs 1,500 , so new ratio would be 1.67:1 (decreased)
3) Sale of motor vehicle @ loss of 20% would increase current ratio because sale would cause increase in cash / bank balance & there would be no change in current liability.
4) Sale of goods at a profit of 10% would increase the current ratio as sale of goods would either increase cash/debtors (sale value), reduce stock (cost). Suppose, goods worth Rs 10,000 are sold at Rs 11,000. So, new current assets will be . And since no change in current liability, so new ratio = (increased)
5) Payment of final dividend declared by company would decrease current assets & liability by same amount & thus current ratio would be improved. For example, dividend paid of Rs 100 the new ratio =
6) Redemption of debentures at premium would cause decrease in current ratio as redemption would cause payment which will reduce cash/Bank; thus reducing current assets. There would be no impact on current liabilities.
Regards,