ACID-TEST OF A FINANCIAL FREEDOM
By: Dunmoye Femi
Just
like any laboratory in pure science, accounting as a social science, also has
its laboratory, where experiment is being carried out to know the financial
strength of a company or an individual as a corporate body.
Some
school of taught call it “accounting
workshop”, where we can know or have the idea of the financial position of a particular
company, furthermore, to know the power of current assets in term of cash over
the ability of the company. The current assets of the company in term of cash
is charged against the liability of the company, if eventually, the ratio of
the current assets of the business in term of cash, is more than its liability,
it means the company is in good financial position. On the other way round if
the ratio of the liability is more than that of the assets of the company, it
means such a company is in trouble, it is getting a clear signal that, and
anything can happen to such a company at any point in time.
The
test is done by a simple formula: current assets in term of cash over the
liability (current assets/liability). Companies with the ratio less than 1
cannot pay their current liabilities and should be studied carefully. However,
if the acid-test is lower than the working capital ratio, this means the
current assets in terms of cash depends on the inventory.
The
term acid-test was derived from the ‘gold miners’. The gold miner, after
extracting gold from the earth, they used to test the originality and/ or
whether the gold is real, by putting the gold in acid. The real gold does not
corrode in acid. After putting the gold in acid, if it does not corrode, it
means the gold is real, the ability of the nuggets not to have dissolved in
acid, made it to have passed the ‘acid-test’. So, if the company financial
statements pass the figurative acid-test, this means the company’s financial
position is in good and uprightness.
The
acid-test ratio can also be applicable to our daily financial lives. If we
don’t want to live our lives in penury and abject poverty, we must not take our
expenses above the level of the amount of money we earn as an individual. The
moment our expenses exceed the level of our earnings, there is every assurance
and the probability that we are going to land in bankruptcy and financial
constraint.
Many
people run into slavery of debt almost every day, because they live above their
earnings or cash. A celebrated life is good, but we must not take it above our
bank account. Benjamin Franklin advised us the way we should handle our
expenses in one of his popular quotes, he said “beware of little expense a
small leak will sink a great ship”. As a matter of fact, expenses are part of
our lives, we are not completed without spending, but we should always be a
perfect sailor of our financial ship, lest it sinks in the current of the sea
of lack of ‘financial know how’.
At this
period of time, numerous people are in financial mess, owing to their
flamboyant styles of living. Rather than looking inward and make adjustment
where necessary, such people hold other factors
responsible for their woes. At this juncture, I think we need no teacher any
longer, our unwanted and uninvited situations will teach us better.
“A BIG PART
OF OUR FINANCIAL FREEDOM, IS HAVING OUR HEART AND MIND FROM WORRY ABOUT THE
WHAT-IFS OF LIFE”----------------SUZE ORMA
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