Utah Contractor Practice Exam

Which statement is used to determine the "acid test" in financial assessments?

1. Income statement

2. Cash-flow statement

3. Balance sheet

4. Annual income tax return

The correct answer is: Balance sheet

The "acid test," also known as the quick ratio, is a financial metric used to evaluate a company's short-term liquidity position. This ratio assesses whether a firm has enough liquid assets to cover its current liabilities without relying on the sale of inventory. The most relevant financial document for this calculation is the balance sheet, as it provides a detailed snapshot of the company's assets, liabilities, and equity at a specific point in time. The balance sheet includes items such as cash, marketable securities, and receivables, which are considered liquid, and contrasts them against current liabilities. By analyzing these figures, one can determine if the company meets the criteria for immediate financial obligations. Other financial statements, while important for different assessments, do not provide the necessary information to effectively calculate the acid test ratio. For example, the income statement reflects profitability over a period but does not directly inform liquidity status, and the cash-flow statement shows the flow of cash but does not focus on liquid assets versus liabilities at a point in time. Therefore, the balance sheet is essential for determining the acid test and assessing short-term financial health.