Which of the following statements is correct regarding the liquidity of merchandise inventory and accounts receivable?

• A. Neither merchandise inventory nor accounts receivable can be converted to cash.
• B. Both merchandise inventory and accounts receivable are equally liquid.
• C. Merchandise inventory is generally converted to cash more quickly than accounts receivable.
• D. Accounts receivable are generally converted to cash more quickly than merchandise inventory.

Answer: (D)

Verified step by step guidance

1. Understand the concept of liquidity: Liquidity refers to how quickly an asset can be converted into cash without significant loss of value. In financial accounting, assets like accounts receivable and merchandise inventory have different levels of liquidity.
2. Analyze accounts receivable: Accounts receivable represent amounts owed to the company by customers for goods or services already delivered. These are typically converted to cash when customers pay their invoices, which is usually within a short period (e.g., 30-90 days).
3. Analyze merchandise inventory: Merchandise inventory consists of goods held for sale. To convert inventory into cash, the company must first sell the goods, which may take time depending on market demand, sales cycles, and other factors. After the sale, the company may still need to wait for payment if the sale is made on credit.
4. Compare liquidity: Accounts receivable are generally considered more liquid than merchandise inventory because they represent amounts already earned and are closer to being converted into cash. Inventory requires additional steps (selling and potentially waiting for payment) before it can be converted into cash.
5. Conclude the correct statement: Based on the analysis, the correct statement is that accounts receivable are generally converted to cash more quickly than merchandise inventory.