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# Absolute Liquid Ratio:

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## Definition and Explanation:

Absolute liquid ratio extends the logic further and eliminates accounts receivable (sundry debtors and bills receivables) also. Though receivables are more liquid as comparable to inventory but still there may be doubts considering their time and amount of realization. Therefore, absolute liquidity ratio relates cash, bank and marketable securities to the current liabilities. Since absolute liquidity ratio lays down very strict and exacting standard of liquidity, therefore, acceptable norm of this ratio is 50 percent. It means absolute liquid assets worth one half of the value of current liabilities are sufficient for satisfactory liquid position of a business. However, this ratio is not as popular as the previous two ratios discussed.

## Formula:

Absolute liquid ratio is calculated by using the following formula:

Absolute liquid ratio = Absolute liquid assets / Current liabilities

Where absolute liquid assets = Cash + Bank + marketable securities.

## Example:

From the following balance sheet calculate absolute liquid ratio:

 Liabilities \$ Assets \$ Share capital 5,00,000 Goodwill 50,000 Reserves 1,90,000 Plant & machinery 4,00,000 Bank overdraft 1,00,000 Trade investments 2,00,000 Sundry creditors 1,40,000 Marketable securities 1,50,000 Bills payable 50,000 Bills receivable 40,000 Outstanding expenses 10,000 Cash 45,000 Bank 30,000 Inventories 75,000 9,90,000 9,90,000

Solution:

Absolute liquid assets Absolute liquid ratio = Absolute liquid assets/Current liabilities

Absolute liquid assets are marketable securities, cash and bank. Thus  \$1,50,000 +  \$45,000 +  \$30,000 =  \$2,25,000

Current liabilities are bank overdraft, sundry creditors, bills payable and creditors for outstanding expenses. = 1,00,000 + 1,40,000 + 50,000 + 10,000 =  \$3,00,000.

Absolute liquid ratio = 2,25,000 / 3,00,000 = 0.75

The absolute liquid ratio in this case is 0.75 which is better as compared to rule of thumb standard which is 0.50.

More study material from this to

## More study material from this topic: Meanings, Nature and Usefulness of Ratios Analysis Interpretation of Ratios Important Factors for Understanding Ratios Analysis Significance and Usefulness Ratios Analysis Classification of Ratios Analysis of Short Term Financial Position or Test of Liquidity Current Ratio Quick/Acid Test/Liquid Ratio Absolute Liquid Ratio Inventory/Stock Turnover Ratio Debtors / Receivable Turnover Ratio Creditors / Payables Turnover Ratio Working Capital Turnover Ratio Profitability Ratios Gross Profit Ratio (GP Ratio) Operating Profit Ratio Net profit ratio (NP ratio) Earnings Per Share Ratio Operating ratio Expense ratio Solvency ratios - Test of Long Term Solvency Debt-equity Ratio Debt Service Ratio or Interest Coverage Ratio Fixed Assets Ratio Debts to Total Funds or Solvency Ratio Reserves to Capital Ratio Capital Gearing Ratio Proprietary Ratio Accounting Ratios Formulas Limitations of Ratios Analysis

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