Question

The Nelson Company has $1,530,000 in current assets and $510,000 in current liabilities. Its initial inventory level is $355,000, and it will raise funds as additional notes payable and use them to increase inventory. How much can Nelson's short-term debt (notes payable) increase without pushing its current ratio below 1.8? Do not round intermediate calculations. Round your answer to the nearest dollar.

$  

What will be the firm's quick ratio after Nelson has raised the maximum amount of short-term funds? Do not round intermediate calculations. Round your answer to two decimal places.

Answer 1

Solution

Present current ratio=Current assets/Current liabilities

=1530,000/510000=3

Now

Since the debt will be used to increase current asstes by equal amount ,let the increase in assets=increase in liabilities=x

Therefore since new Current ratio cannot get betow 1.8

1530,000+x/510000+x=1.8

Solving

We get X=765000 (Amount by which  short-term debt (notes payable) increase without pushing its current ratio below 1.8)

Now Quick Ratio = (Current Assets – Inventory)/Current Liabilities (CL)

New current asset after increase=1530000+765000=2295000

New inventory=355000+765000=1120000

New Current liabilities=510000+765000=1275000

Quick ratio=(2295000-1120000)/1275000

=.92

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