The acid-test ratio is a strong indicator of whether a firm has sufficient short-term (current) assets to cover its immediate liabilities.
This ratio is also commonly known as the quick ratio, and the metric is felt to be more robust than the current ratio, also known as the working capital ratio, as the Acid Test Ratio ignores illiquid assets such as inventory which may take an extended period of time to convert to cash.
The Acid-Test / Quick Ratio is Calculated by:
Companies with an acid-test ratio of less than 1 do not have the liquid current assets to pay their current liabilities and should be treated with caution. If the acid-test ratio is much lower than the current ratio, it means that current assets are highly dependent on stocks or inventory.
However, as some business models are inherently dependent on stock or inventory and is not a guaranteed signal that the company is necessarily in trouble. Retail stores, for example, may have very low acid-test ratios without necessarily being in danger.