September 19, 2017 Education Invest for a bright future HINA C ■ We assume coverage on the China education sector with an Overweight rating. K-12 after-school tutoring is our preferred segment and New Oriental Education (EDU) is our top pick. Our order of preference is: 1) K-12 after-school tutoring providers, EDU and TAL Education (TAL), 2) K-12 private school players, China Yuhua and China Maple Leaf, and 3) vocational training provider, Tarena. ■ We forecast the K-12 after-school tutoring market to post a 4-year revenue CAGR of 12.7% yoy to Rmb1.29tr by 2020F. This market is still quite fragmented as the market shares of the no.1 and no.2 players, TAL and EDU, were only 0.8% and 0.7% in 2016, respectively. We expect leading players to benefit from the recent ‘Gaokao’ reform and further consolidate the market. ■ We view the amendment to the Law for Promoting Private Education that came into AVIGATING AVIGATING effect on 1 Sep 2017 as beneficial to private education providers, including Yuhua and China Maple Leaf. ■ We use DCF as our key valuation methodology given education players’ relatively N stable and predictable cash flows. Analyst(s) Lei YANG, CFA T (86) 21 5047 1771 x108 E [email protected] ONG Khang Chuen T (852) 2539 1326 E [email protected] IMPORTANT DISCLOSURES, INCLUDING ANY REQUIRED RESEARCH CERTIFICATIONS, ARE PROVIDED AT THE Powered by END OF THIS REPORT. IF THIS REPORT IS DISTRIBUTED IN THE UNITED STATES IT IS DISTRIBUTED BY CIMB the EFA SECURITIES (USA), INC. AND IS CONSIDERED THIRD-PARTY AFFILIATED RESEARCH. Platform Navigating China│Services - Education│September 19, 2017 TABLE OF CONTENTS Investment summary ...................................................................................................................... 5 Informal education ........................................................................................................................ 11 Formal education .......................................................................................................................... 32 Favourable government policy trends .......................................................................................... 39 PRC education industry overview ................................................................................................ 44 Valuation and top picks ................................................................................................................ 48 Company Briefs… ........................................................................................................................ 53 2 Navigating China│Education│September 19, 2017 Sector Note China Education Invest for a bright future Overweight (no change) ■ We assume coverage on China education with an Overweight. K-12 after-school Highlighted companies tutoring is our preferred segment; New Oriental Education (EDU) is our top pick. ■ We view the K-12 after-school tutoring providers as the key beneficiaries of ‘Gaokao’ China Yuhua Education Corp ADD, TP HK$4.50, HK$3.80 close reform and see top players enjoying policy tailwinds and gaining market share rapidly. ■ Among the private education providers, China Yuhua is our top pick. Share price drivers include: 1) expansion of ■ We expect further cooperation between tertiary education providers and vocational new schools in the pipeline, 2) earnings improvement driven by higher utilisation rates education providers to bode well for industry players like Tarena, in the long term. and operational leverage, and 3) further Assume coverage with Overweight; EDU is top pick earnings upside from M&A activities. Riding the tailwinds of favourable policy and consumption upgrade trends in China, we New Oriental Education see education as a defensive sector with strong growth potential. We assume coverage ADD, TP US$114.3, US$87.2 close on the China education sector with an Overweight rating and choose EDU as our top Share price drivers include: 1) acceleration in pick. Our order of preference is: 1) K-12 after-school tutoring providers, EDU and TAL learning centre growth, 2) continued utilisation Education (TAL), 2) K-12 private school players, China Yuhua and China Maple Leaf, improvement, and 3) dual-teacher model as a followed by 3) vocational training provider, Tarena International (Tarena). mid-term growth driver. TAL Education Group K-12 after-school tutoring the key beneficiary of Gaokao reform ADD, TP US$40.30, US$33.01 close We forecast K-12 after-school tutoring 4-year revenue CAGR of 12.7% yoy to Rmb1.29tr Share price drivers include: 1) continued rapid by 2020F. This market is still quite fragmented as the market shares of the no.1 and no.2 learning centre expansion, 2) fast growth of players, TAL and EDU, were only 0.8% and 0.7%, respectively, in 2016. With the dual-teacher model and online education, and standardisation of the National Higher Education Entrance Examination (Gaokao), we 3) enhanced course offerings driving near-term expect TAL and EDU to record strong 3-year offline K-12 enrolment CAGR of 40.0% and growth. 30.7%, respectively, lifting their market shares to 1.7% and 1.2% in 2020F. Top players embracing “ed-tech” for further market consolidation Summary valuation metrics Education technology (ed-tech) will continue to serve as an important supplement for P/E (x) Dec-17F Dec-18F Dec-19F offline education providers to increase education quality and facilitate penetration into China Yuhua Education Corp 20.91 15.68 lower-tier cities, enabling market share gain, in our view. We expect EDU, TAL and New Oriental Education 42.06 31.68 23.96 TAL Education Group 88.13 52.19 33.92 Tarena to successfully expand into lower-tier cities, capitalising on their dual-teaching models (live broadcast teaching) and online platforms. We forecast EDU’s and TAL’s P/BV (x) Dec-17F Dec-18F Dec-19F online revenue to record CAGR of 30.7% and 72.8%, respectively, in FY17-20F. China Yuhua Education Corp 2.93 2.71 New Oriental Education 7.57 6.24 5.02 Favourable government policies a boost to private education TAL Education Group 19.23 13.39 9.19 We view the amendment to the Law for Promoting Private Education that came into effect on 1 Sep 2017 as beneficial for private education providers like Yuhua and China Maple Dividend Yield Dec-17F Dec-18F Dec-19F Leaf. Both are waiting for detailed rules from local government before deciding whether to China Yuhua Education Corp 2.94% 3.16% change their high schools to profit-making entities, which will give them greater flexibility New Oriental Education 0.52% 0.52% 0.52% in tuition fees. We forecast Yuhua to deliver 3-year core net profit CAGR of 19.4% in TAL Education Group 0.08% 0.00% 0.00% FY16-19F, driven by new school openings, higher utilisation rates and tuition fees. Insert Vocational education providers to cooperate with universities Many provincial governments have, in recent years, encouraged the private sector to partner with universities to provide practical training to raise job landing rates. We expect Tarena to cooperate more with universities to offer special classes beginning in the first year of university, bringing in recurring cash flows and lowering customer acquisition costs. Its IT-related K-12 courses are also a medium-term earnings growth driver, in our view. We project 3-year non-GAAP net profit CAGR of 23.2% for FY16-19F for Tarena. Valuation justified by strong earnings growth We use DCF as our key valuation methodology given education players’ fairly stable and predictable cash flows. We believe K-12 after-school tutoring players should command a higher PEG relative to other education sub-segments due to their more robust long-term earnings growth profiles, driven by strong brand names and their ability to provide high quality education vs. peers by leveraging technology. The 1.25x CY18F target PEG we attribute to our top pick, EDU, is 0.6 s.d. above its 5-year average historical forward PEG. Analyst(s) Figure 1: Target price and implied valuation comparison Implied CY18F PEG Implied Implied 2-year 2-year (against 2 Target price CY17F CY18F revenue core EPS year core (LC$) Upside P/E P/E CAGR CAGR EPS CAGR) Lei YANG, CFA New Oriental Education 114.30 31.1% 51.8 39.4 24.5% 31.5% 1.25 T (86) 21 5047 1771 x108 TAL Education 40.30 22.1% 100.8 68.9 40.7% 55.1% 1.25 E [email protected] China Yuhua 4.50 18.4% 19.9 16.5 9.8% 16.3% 1.01 ONG Khang Chuen Maple Leaf Education 9.60 16.6% 30.0 22.7 24.6% 24.0% 0.95 T (852) 2539 1326 Tarena 16.70 15.3% 20.3 14.4 15.7% 21.1% 0.68 E [email protected] SOURCES: CIMB, COMPANY REPORTS IMPORTANT DISCLOSURES, INCLUDING ANY REQUIRED RESEARCH CERTIFICATIONS, ARE PROVIDED AT THE END OF THIS REPORT. IF THIS REPORT IS DISTRIBUTED IN Powered by EFA THE UNITED STATES IT IS DISTRIBUTED BY CIMB SECURITIES (USA), INC. AND IS CONSIDERED THIRD-PARTY AFFILIATED RESEARCH. EFACustomEntityStatement Platform Navigating China│Education│September 19, 2017 KEY CHARTS K-12 after-school tutoring market size 1,400 Title: According to the Chinese Society of Education, the K-12 1,290 Source: after-school tutoring market generated Rmb800bn 1,200 1,143 revenue in 2016, with more than 137m students enrolled. 1,022 Please fill in the values above to have them entered in your report 1,000 Assuming that each student who takes up after-school 900 800 tutoring is enrolled in 1.7 classes, this implies national 800 707 penetration rate of 38.4% in 2016. We forecast the K-12 (Rmb bn) 600 after-school tutoring market size to post a 5-year CAGR of 12.8% from Rmb707bn in 2015 to Rmb1,291bn in 400 2020F. 200 0 2015 2016 2017F 2018F 2019F 2020F Penetration rate of private schools in 60.0% 55.3% Title: 54.0% 54.1% 54.6% 54.8% 55.0% 52.5% fundamental education by number of 51.1% Source: 49.5% 50.3% student enrolments in China, 2011-2020F 50.0% Please fill in the values above to have them entered in your report The penetration rate of private schools in fundamental 40.0% education stood at 18.3% in 2015.