Sale of receivables (off-balance-sheet)

[Kev99]

Hi, can someone please help me on this question? somehow, i just don't get it..

This is from Schweser SS10 Page 228.

The sales of receivables artificially reduces the receivables balance and short-term borrowings. Consequently, leverage ratios are too low, receivables turnover is too high, and the current ratio (assuming it is greater than 1.0) is too low.

Question:

Why the current ratio is too low??? From my understanging, it should be too high?

For analysis purposes, both account receivable and current liabilities should be increased by the amount of receivables that were sold before we compute ratios.

Current ratio = Current asset / current liability

Assume a company originally has CA = 30, CL = 20 CR= 1.5
then, it sells the receivables which is 5.
Now, before adjusting , CA= 25 , CL=15 , CR= 1.67

Can someone help? Thanks !!! I want to know why CR is too low instead of too high?

 

[hiredguns1]

Kev99,

http://schweser.com/news/notes_updates.php?show_book=3

"Page: 228 - Correction
Under the heading "Off-Balance-Sheet Financing and Financial Ratios", in the second paragraph, the last part of the second sentence and first part of the third sentence should read, "...and the current ratio (assuming it is greater than 1.00) is too high." ( Posted: 2007-05-22)"

Be sure to check out their other updates / errata.
Cheers.



Edited 1 time(s). Last edit at Saturday, August 4, 2007 at 06:13PM by hiredguns1.

 

[Kev99]

Hi, hiredguns1


Thank you !!!!! I was reading ss10 over and over again. ^^ ...