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Hi Chris.
Just a quick question from BPP pack. surprised I got this wrong.
What is the acid test ratio of Edward Co given the information in the table?
$
Receivables 158,000
Inventories 20,000
Short term investments 18,000
Trade payables 61,000
Bank overdraft 64,000
Corporate income tax payable 10,000
Deposits received in advance 5,000A 1.13:1
B 1.26:1
C 1.35:1
D 1.40:1Calculation
= (CA-Inventory/ CL)
= (158+18)/(61+64+10)1.30 which is not there. The answer adds deposits received in advance as a current liability. Sorry I am confused about that bit? how is the deposit received in advance a CL? payments in advance could be moved to a deferred account and then moved slowly into the p&l or something?
thanks
Hi Abi,
The deposits received in advance are another way of wording deferred income, which is a liability, of which here we must presumably be given the current liability portion of the total deferred income.
When we receive the deposit in advance we DR Bank with the cash received but cannot CR Revenue until we either provide the service or transfer the goods to the buyer, so therefore we CR Deferred Income. As it is a credit entry it is a liability, as essentially we would owe that money back to the buyer if we didn’t provide the service or transfer the goods.
The key learning point from this is to include the deposits received in advance as a current liability in the calculation.
Thanks
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