Question

The Nelson Company has $1,261,000 in current assets and $485,000 in current liabilities. Its initial inventory level is $350,000, 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

Nelson's short-term debt (notes payable)

Let “X” Taken as amount of money borrowed through short-term notes payable and the same was used to purchase inventory.

Therefore, the Current Ratio = [Current Assets + Inventory] / [Current Liabilities + Short-term notes payable]

1.80 = [$1,261,000 + X] / [$485,000 + X]

1.80 x [$485,000 + X] = [$1,261,000 + X]

$873,000 + 1.80X = $1,261,000 + X

$1,261,000 - $873,000 = 1.80X – X

$388,000 = 0.80X

X = $388,000 / 0.40

X = $485,000

“Hence, the Nelson's short-term debt will be $485,000”

Firms Quick ratio after Nelson has raised $485,000 Short term funds

Revised Current Assets = $1,746,000 [$1,261,000 + $485,000]

Revised Inventory Value = $835,000 [$350,000 + $485,000]

Revised Current Liabilities = $970,000 [$485,000 + $485,000]

Therefore, Quick Ratio = [Total Current Assets – Inventories] / Total Current Liabilities

= [$1,746,000 - $835,000] / $970,000

= $911,000 / $970,000

= 0.94 Times

“Hence, the Firms Quick ratio will be 0.94 Times”