TAL Education Group: Inside The Lucrative Market Of Private Tutoring
Parents in modern China perceive after-school tutoring as a necessity, in conditions of intense competition in schools and universities. In this thriving business, TAL Education Group has made a name for itself as a leading tutoring brand whom parents entrust their children in quest for quality education.
TAL Education Group (TAL) provides K-12 tutoring services in China, through subsidiaries (the majority of which are contracted by variable interest entity (VIE) agreements) operating over 600 learning centres in more than 50 cities. They cater to students from preschool to twelfth grade via three class formats: small classes, personalised premium services, and online courses. Key local competitors to TAL include New Oriental Education & Technology, China Distance Education, OneSmart International Education, and Xueda Education Group. The company also faces competition from fully online information services run by major Internet firms such as Baidu.
Growth
$1,000 invested in TAL on January 31, 2013, when the stock was at a low $1.37 per share, would grow to $27,562 by 28 February 2018 when the shares went up in price to $37.76 a piece.
During the period of analysis, the company’s revenue increased by 2,375%, from $69.3m in 2010 to $1,715m in 2018, derived substantially from small-class offerings and personalised premium services. (Online courses generated contributions in mid-single digits.) The cost of sales — consisting to a large degree of teaching fees, performance bonuses and related compensation — increased to an equivalent degree as revenue figures, as business underwent active expansion over the last several years.
Net income also followed an upward trajectory, rising from $14.2m to $198.4m between 2010 and 2018. Gross margins averaged strong 49.43%, while net margin numbers were more varied, exhibiting a descending trend toward the latter years. The company’s new investments and acquisitions may be partly responsible as they tend to cause margins to decline before new businesses are successfully integrated.
Available capital expanded by an average of 351% a year between 2010 and 2018. Cash has been the primary contributor, followed by retained earnings and paid-in capital. Meanwhile, capital conversion into revenue — or revenue generated for every dollar invested in business — averaged a satisfactory $0.6 during the period of analysis.
The company’s operating expenses increased substantially, from $16.4m in 2010 to $628.7m in 2018, as marketing has increasingly come into focus. The effectiveness of sales is lagging behind, however, as operating expenses spent to generate every dollar of revenue rose by more than 50%. Unlike its core small-class offerings and personalised premium services, some of TAL’s newer offerings have not generated material profit, despite requiring a disproportionate amount of financial investments and managerial resources.
Industry
China’s private education market is bolstered by a range of favourable factors, and prominent brands such as TAL have been the primary beneficiaries of the sector’s unremitting growth.
Frost & Sullivan estimated the size of the K-12 tutoring market in China at RMB354b in 2016, which has been forecasted to grow at a CAGR of 9.7% to RMB564b by 2021 — driven by rising spending on children’s education, impending consolidation in the tutoring sector and as well as policy tailwinds. (For example, the government’s “Outline of China’s National Plan for Medium-and-Long-Term Education Reform and Development (2010–2020)” encourages private investments in K-12 education businesses across the country.)
“K-12 tutoring is highly fragmented as the curriculum varies across provinces and cities. The top operators, namely TAL Education (TAL) and New Oriental Education (EDU), only accounted for 1.8% and 1.6% of market share respectively in 2016. With more provinces using the national standard exam paper in Gaokao (from 15 provinces in 2014 to 26 in 2016), leading players can introduce same set of teaching materials in more provinces. The increasing demand for higher quality course contents and curriculum formats should also favour the leading players. As these trends unfold, the scale advantage of big tutoring service providers could translate into operating leverage.”
Investment analysis by Cobalt Capital
Specifics of conducting business in China. Business conditions in China are different from those in developed countries in many respects. Business entities are particularly affected by the degree of government involvement, control of foreign exchange and currency conversion, as well as access to financing and allocation of resources. TAL, for example, admitted that its financial condition and operating results had been adversely affected in the past by the increased government control over capital investments, unprofitable conversion of foreign exchange to renminbi and costly changes in tax regulations.
The Chinese economy has slowed in recent years, with national growth rates averaging 6.5% per annum (about half of what they used to be two decades ago) and companies reporting falling sales. In 2018, China’s stock market ended with a loss of 28% as the world’s worst performer. Analysts are also concerned about the impact of trade tensions with the US.
Nonetheless, along with China’s rising disposable income, potent social factors lend support to the continual increase in average spending on private education. Low admission rates to higher education institutes (37% in 2014 and only 3% for top tier universities in 2015) and a challenging job market have placed a strong emphasis on quality education and examination results. This reinforces Chinese parents’ commitment to their children’s academic performance, hence boosting the demand for after-school tutoring.
Demographic conditions in China. In 2015, China’s “One Child Policy” — that had been in place since 1979 — was replaced by the “Two Child Policy”, as part of government efforts to combat the pressures exerted by the rapidly aging population on healthcare and social services. Just a year later, the number of births increased by 7.9% to 17.86 million, which represented the highest annual number of newborns since 2000. (However, in 2017, it came down to 17.2 million, which may be attributable to a relative decrease in the number of women of fertile age and more women delaying marriage and pregnancy.) Overall, a higher rate of births is expected to add to the high competition among Chinese students over limited educational resources.
People’s Republic of China: Birth rate trend over the last decade
Insights
K-12 stands for a formal system of public education from kindergarten (K) as the first grade through twelfth grade (12) as the last grade in a number of countries, including China, Canada, India, the United States, South Korea, and Australia. K12 tutoring utilises a national curriculum as the basis to prepare students for various competitive examinations after school hours.
Exponential growth in enrolments as the primary driver. TAL’s impressive growth story has been supported by the strong demand for after-school educational services in China. Rising standards of living have resulted in a corresponding rise of admission standards for schools and universities, thus intensifying the competition among students and their parents. TAL has grown its geographical network of learning centres all across China: from 363 learning centres and 292 service centres in 2016 to 594 learning centres and 465 service centres in 2018. Climbing enrolments year after year continue to justify this effort: the number of new student registrations reached 4.9m in Q2’2019, up from just 94,100 in Q3’2011.
“Our revenue growth is primarily driven by the increase in the number of student enrollments, which is directly affected by the number of our learning centers, the number and varieties of our courses and service offerings, including both our center-based and online courses offerings, our student retention rate, our ability to attract new students and the effectiveness of our cross-selling efforts. Our average student enrolments per quarter increased from approximately 577,000 in 2016 to approximately 1.9 million in 2018, representing a CAGR of 79.6%.”
TAL Education Group, Annual Report 2018
TAL Education Group: Average student enrolments per quarter in learning centres
TAL’s bundle of products takes advantage of the country’s examination-focused education system — from kindergarten to primary school (via You Sheng Xiao), through middle school (Xiao Sheng Chu) and high school (Zhong Kao), leading up to the national college entrance examination Gao Kao. In this way, the tutoring centres have been able to build multi-year as well as multi-subject relationships with students. To enhance trust and transparency, parents are allowed to audit most of the small classes their children attend; additionally, Xueersi small classes come with unconditional refunds for unattended classes.
The company’s Xueersi Peiyou Small Class, Firstleap and Mobby Small Class together account for close to 90% of revenue at present. Signup rates for K-12 mathematics, Chinese and English are especially high. Mobby, which focuses on early childhood activities, has been expanding strongly, for TAL targets to enlist as many students as possible at a young age to have them stay with the company for longer (which translates to lower student replenishment costs for the company). Primary school students account for almost two-thirds of total student enrolment.
The Group continues to look for potential acquisition targets to diversify its range of courses across K-12 subjects — “while maintaining premium pricing” — and increase their contribution to top-line growth. Among other measures, this should help deepen TAL’s penetration in existing markets; to expand outward, the company plans to establish learning centres in four new cities every year.
Recognising the growing importance of online technologies in education, TAL has been expanding the scale of its online business by focusing promotional campaigns on online engagement and launching new online (and mobile) platforms for its services. In Q1’2019, online offerings contributed 15% of revenue (up from 8% a year ago) and accounted for 40% of total enrolments (compared to 21% last year). TAL has been investing in education technologies to boost penetration and improve efficiency. For one, its online courses and onsite classes in lower-tier cities feature interactive, live-broadcasting lectures by experienced teachers, which is improving teacher utilisation and reducing fixed costs per centre. Students can proactively participate in the class and benefit from a more personalised learning experience. Meanwhile, technology-enabled performance analytics facilitates online review and correction of homework and quizzes by teachers, who then release study reports to parents for their reference.
TAL Education Group: Range of online and mobile offerings
Investing in teaching staff. TAL recruits teachers among university graduates, including many top-tier universities in China, as well as experienced teachers with a solid track record and reputation. All full-time teachers undergo standard and customised training themed around teaching content, teaching skills and techniques, as well as corporate culture. In addition to evaluation-based compensation packages, the company offers its teachers prospects of career advancement as operational directors in new regional markets, educational content developers or senior managers. TAL maintains an in-house content development team of over 700 people, who are complemented by external advisors, to polish the learning content across subjects and grade levels.
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