Is Rainbow Tours (WSE:RBW) A Risky Investment?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Rainbow Tours S.A. (WSE:RBW) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Rainbow Tours

How Much Debt Does Rainbow Tours Carry?

As you can see below, at the end of September 2022, Rainbow Tours had zł111.4m of debt, up from zł83.7m a year ago. Click the image for more detail. But it also has zł245.9m in cash to offset that, meaning it has zł134.4m net cash.

A Look At Rainbow Tours' Liabilities

According to the last reported balance sheet, Rainbow Tours had liabilities of zł596.7m due within 12 months, and liabilities of zł128.6m due beyond 12 months. On the other hand, it had cash of zł245.9m and zł336.7m worth of receivables due within a year. So it has liabilities totalling zł142.8m more than its cash and near-term receivables, combined.

This deficit isn't so bad because Rainbow Tours is worth zł299.8m, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, Rainbow Tours also has more cash than debt, so we're pretty confident it can manage its debt safely.

Even more impressive was the fact that Rainbow Tours grew its EBIT by 179% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Rainbow Tours will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Rainbow Tours has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, Rainbow Tours actually produced more free cash flow than EBIT over the last two years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While Rainbow Tours does have more liabilities than liquid assets, it also has net cash of zł134.4m. The cherry on top was that in converted 557% of that EBIT to free cash flow, bringing in zł96m. So we don't think Rainbow Tours's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example Rainbow Tours has 3 warning signs (and 1 which is significant) we think you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.