Does Rainbow Children's Medicare (NSE:RAINBOW) Have A Healthy Balance Sheet?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Rainbow Children's Medicare Limited (NSE:RAINBOW) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Rainbow Children's Medicare

What Is Rainbow Children's Medicare's Net Debt?

As you can see below, at the end of September 2024, Rainbow Children's Medicare had ₹7.60b of debt, up from ₹6.31b a year ago. Click the image for more detail. However, it does have ₹4.50b in cash offsetting this, leading to net debt of about ₹3.09b.

A Look At Rainbow Children's Medicare's Liabilities

We can see from the most recent balance sheet that Rainbow Children's Medicare had liabilities of ₹1.60b falling due within a year, and liabilities of ₹7.53b due beyond that. Offsetting this, it had ₹4.50b in cash and ₹948.6m in receivables that were due within 12 months. So it has liabilities totalling ₹3.67b more than its cash and near-term receivables, combined.

Of course, Rainbow Children's Medicare has a market capitalization of ₹125.9b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Rainbow Children's Medicare has net debt of just 0.72 times EBITDA, indicating that it is certainly not a reckless borrower. And this view is supported by the solid interest coverage, with EBIT coming in at 8.0 times the interest expense over the last year. Fortunately, Rainbow Children's Medicare grew its EBIT by 7.8% in the last year, making that debt load look even more manageable. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Rainbow Children's Medicare's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Looking at the most recent three years, Rainbow Children's Medicare recorded free cash flow of 34% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

Happily, Rainbow Children's Medicare's impressive net debt to EBITDA implies it has the upper hand on its debt. But, on a more sombre note, we are a little concerned by its conversion of EBIT to free cash flow. It's also worth noting that Rainbow Children's Medicare is in the Healthcare industry, which is often considered to be quite defensive. Looking at all the aforementioned factors together, it strikes us that Rainbow Children's Medicare can handle its debt fairly comfortably. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. We'd be motivated to research the stock further if we found out that Rainbow Children's Medicare insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.