Question

Assertion (A): If Current Ratio is 2 : 1 and Liquid Ratio 1.2 : 1, purchase of goods on credit will result in decline in both the Current as well as Liquid Ratio.

Reason (R): Both Current as well as Liquid Ratio will decline. Current Ratio will decline because there is equal increase in Current Assets as well as Current Liabilities. Liquid Ratio will also decline because Liquid Assets remain unchanged whereas Current Liabilities will increase.

In the context of the above two statements, which of the following is correct?

विकल्प

• Both (A) and (R) are true, but (R) is not the correct explanation of (A).

• Both (A) and (R) are true and (R) is the correct explanation of (A).

• Both (A) and (R) are false.

• (A) is false, but (R) is true.

Answer 1

Both (A) and (R) are true and (R) is the correct explanation of (A).

Explanation:

When goods are purchased on credit, current assets increase due to increased inventory, but current liabilities increase due to increased creditor activity. Because the current ratio is already greater than one, an increase in both current assets and current liabilities decreases it. Inventory is not included in liquid assets; liquid assets remain constant, but current liabilities increase, resulting in a decrease in the liquid ratio. As a result, both the assertion and the reasoning are true, and the reasoning correctly explains the assertion.