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Why does a bakery show acid-test and current ratios that sit close together, while a manufacturer usually does not?
AThe bakery keeps no accounts receivable at all
BThe bakery finances itself entirely from equity
CThe bakery reports no current liabilities at year end
DThe bakery's perishable goods keep inventories small
Answer & Solution
Correct answer: D. The bakery's perishable goods keep inventories small
1. The only difference between the two ratios is that the acid-test one removes inventory from the numerator.
2. The size of the gap between them therefore depends entirely on how large inventory is within current assets.
3. A bakery sells perishable products, so it does not carry large inventories.
4. With little inventory to remove, its acid-test and current ratios come out fairly close.
5. At a manufacturing company inventory typically makes up a large portion of current assets.
6. Removing that large block pulls the manufacturer's acid-test ratio well below its current ratio.
7. Receivables, equity funding and current liabilities are common to both firms, so none of them explains the gap.
_Source: OpenStax Introduction to Business (CC BY 4.0), Ch 14 "Using Financial Information and Accounting", section 14.7 Analyzing Financial Statements_
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