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ACCA Applied Knowledge · Financial Accounting · Ratios

Which of the following is the most likely reason for a company's current ratio to be well below 1:1 yet the company to be operating normally and profitably?

A cash-selling supermarket chain with long supplier credit is the likely explanation. It collects cash quickly, holds fast-moving inventory and has few receivables, so a current ratio below 1 is normal and not a sign of liquidity problems, unlike other business types.

  1. AIt is a supermarket chain that sells for cash and receives long credit from suppliersCorrect
  2. BIt is a manufacturer holding large finished goods inventory
  3. CIt has recently issued long-term loan notes and kept the cash
  4. DIt has a large overdraft because of slow-paying credit customers

Explanation

A cash-based retailer has few receivables, quick inventory turnover and uses supplier credit, so current liabilities can exceed current assets safely. Large inventory or slow-paying customers would raise current assets, and long-term borrowing kept as cash would increase the ratio.

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