Four Seasons Education (Cayman) Inc. (FEDU) Q1 2019 Earnings Report, Transcript and Summary

Hello, ladies and gentlemen. Thank you for standing by for the Four Seasons Education's First Quarter Fiscal Year 2019 Earnings Conference Call. [Operator Instructions] Today's conference call is being recorded. I will now to turn the call over to your host, Ms. Ellen Wang, Investor Relations Director for the company. Please go ahead, Ellen.

Hello, everyone, and welcome to the First Quarter Fiscal Year 2019 Earnings Conference Call of Four Seasons Education. The company's results were issued via newswire services earlier today and are posted online. You can download the earnings press release and to sign-up for the company's e-mail distribution list by visiting our IR section office website at ir.sijiedu.com. Mr. Peiqing Tian, our Chairman and Chief Executive Officer, will start the call by providing an overview of the company and the performance highlights of the quarter with English interpretation. Ms. Yi Zuo, our Director and the Chief Financial Officer will then provide the details of the company's financial results and the business outlook before opening the call for your questions. Before we continue, please note that today's discussion will contain forward-looking statements made under the Safe Harbor provisions of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, the company's results may be materially different from the views expressed today. Further information regarding this and other risks and uncertainties is included in the company's prospectus as filed with the U.S. Securities and Exchange Commission. The company does not assume any obligation to update any forward-looking statements, except as required under applicable law. Please also note that Four Seasons Education's earnings press release and this conference call include a discussion of unaudited GAAP financial information as well as unaudited non-GAAP financial measures. Four Seasons Education press release contains a reconciliation of the unaudited non-GAAP measures to the most directly comparable GAAP measures. I will now turn the call over to our CEO, Mr. Tian. Please go ahead.

[Foreign Language] Hello, everyone. Thank you for joining us for our First Quarter Fiscal Year 2019 Earnings Conference Call. [Foreign Language] We are pleased that we started the fiscal year 2019 with a solid performance and to report the encouraging progress during the first quarter. While the regulatory environment has brought substantial impact to our elementary math tutoring business, we have been consistently carrying out our strategy of providing broader and more diversified course offerings for students at different age groups, while steadily expanding our learning center network in Shanghai and then nationwide. As we disclosed in the last quarter, we acquired a renowned early childhood education provider in Shanghai, which learning provides interest in cultivating classes for pre-school students. We believe this acquisition will leverage the target strategy of arts and language teaching and the Four Seasons' large [indiscernible] capacity and enhance potential enrollment to our programs for grade 1 students, therefore, generating significant synergy, while calculating the pre-school education market with great potential. [Foreign Language] In addition, we continued our efforts in learning center network expansion in the quarter, with 9 new learning centers added in Shanghai and a new learning center opened both in Wuxi and Changzhou. As of May 31, 2018, our total amount of learning centers reached 49 nationwide. [Foreign Language] We're delighted to report that our strategic adjustment to our business model has already yield positive results, with our enrollments in kindergarten programs growing significantly this quarter. Also, during the first quarter, an increased proportion of enrolled students participated in our non-math programs and in non-elementary school programs. The change of student enrollment structure reflects our efforts in diversifying our course offerings to meet different learning demands of students. And this trend also enhances our competitiveness in the evolving after-school education market. [Foreign Language] While our teaching quality is highly recognized by students and parents, we continue to actively adopt new methods and technology in our educational services to supplement our teaching and aid the students' learning. Recently, we developed a series of video class presentations and digital study materials, which are conveniently accessible by our students via our online portals. We also cooperated with [Foreign Language] or One Lesson One Exercise, a legendary and widely used reference book series by East China Normal University Press, to develop both online and offline teaching system. In addition, our self-test system was launched and now open to our existing and potential students on our online portals and off-line learning centers. Based on our extensive teaching experience, and as a part of our intelligent math lab program, the self-test system provides students with a clear and quantified assessment of their math levels through a series of tests. And it can recommend the classes that are the most suitable to their current levels. [Foreign Language] In June, we entered into strategic cooperation with Beijing Sudoku Association, and we're honored to be the sponsor of the 2018 China Sudoku Championship for Shanghai area. Sudoku, as an interesting math-based activity, has long been included in our popular special programs that introduces and delivers solutions to different kinds of logical thinking and developed through games. Our partnership to the 2018 China Sudoku Championship is a testament to our long-term Sudoku teaching efforts, and it demonstrates our outstanding reputation in the math space. [Foreign Language] As a leading after-school education company with strong capacity in math teaching, we continue to host influential activities. We co-host Summer Math Camp with East China Normal University for the second consecutive year. We're delighted and honored to invite professors with very strong math teaching experience to join us this year and work with elite students from grades 6 to 9 to explore the fascinating movements in math. Our Summer Math Camp is an influential public event co-hosted by our company, and it represents our devotion to math teaching. We believe such summer camp programs can also help us attract more students into studying math to our schools. [Foreign Language] In conclusion, we are dedicated to nurturing the students' interests in math and other subjects. It is our firm belief that learning ability is a core competence for students in their career and life path. And this does not change no matter how our current policy environment changes. Through our diversified course offerings for students from pre-school kids to high school teenagers, we're committed into guiding their learning process and in nurturing their learning habits. [Foreign Language] With that, I would now turn the call over to our CFO, Joanne Zuo, who will discuss our key financial results.

Thank you, Mr. Tian, and hello, everyone. From a financial perspective, the first quarter of fiscal 2019 was both a challenging and a rewarding quarter for Four Seasons Education. On the top line, we achieved year-over-year revenue growth of 25.6% as well as a sequential growth of 28.6% from the fourth quarter of fiscal 2018. That being said, the regulatory environmental change since last December and this February has continued to put pressure on our business. Fully aware of the challenges that we were facing, we carefully managed our operations and adopted a stringent cost control mechanism during the quarter. As a result, we are happy to report a solid bottom-line performance for the quarter with a strong non-GAAP net margin of 21.3%. Just as importantly, we also concentrated much of our efforts on making adjustments to our business model, trying to making progress in diversifying our program offerings for students in different age groups. These efforts, in return, partially offset some of the regulatory impacts and are reflected by the significant increase in revenue contributed by our kindergarten programs, Chinese programs and middle-school programs. Apart from the adjustment to our course offerings, we have been prudently making investments in our nationwide learning network expansion and exploring different kinds of educational activities to further enhance our brand recognition in the market. Although these investments and efforts are currently at an early stage and are not generating significant cash flow, we believe they will bring profound benefits to our future development. Now I would like to walk you through more details our first quarter 2019 financial results. Revenue increased by 25.6% to RMB 86.4 million for the first quarter of fiscal year 2019 from RMB 68.7 million in the same period of last year, primarily due to a tuition increase in standard programs; increase of revenue contribution from the Ivy Programs and the small class for standard programs; development of kindergarten and middle school and the non-math programs; as well as the expansion of physical learning center network, including the contribution from newly acquired business as disclosed in the fourth quarter of fiscal year 2018. Cost of revenue increased by 74.8% to RMB 38.2 million for the first quarter of fiscal year 2019 from RMB 21.8 million in the same period of last year, primarily attributable to costs associated with the increase in faculty staff count as well as learning centers' rental, utilities and the maintenance and depreciation costs. Gross profit increased by 2.7% to RMB 48.2 million for the first quarter of fiscal year 2019 from RMB 46.9 million in the same period of last year. Gross margin was 55.8% for the first quarter of fiscal year 2019 compared with 68.2% in the same period of last year. The decrease in gross margin was primarily due to the expansion of new centers and a faculty team, which incurred certain upfront costs as well as the discounts granted to students to promote our middle-school enrollment and non-math programs. General and administrative expenses increased by 22.3% to RMB 25 million for the first quarter of fiscal year 2019 from RMB 20.4 million in the same period of last year, primarily attributable to increased staff costs of RMB 3.3 million and the increase of share-based compensation expenses of RMB 1.3 million as well as an increase in rental costs associated with the relocation of the company's headquarters. Sales and marketing expenses increased by 11.1% to RMB 8.1 million for the first quarter of fiscal year 2019 from RMB 7.3 million in the same period last year. Operating income decreased by 21.2% to RMB 15.1 million for the first quarter of fiscal year 2019 from RMB 19.2 million in the same period of last year. Adjusted operating income, which excludes share-based compensation expenses, decreased by RMB 11.3 million (sic) [ 11.3 %] to RMB 21.1 million for the first quarter of fiscal year 2019 from RMB 23.8 million in the same period of last year. Net interest income increased by 277.8% to RMB 2.8 million for the first quarter of fiscal year 2019 from RMB 0.7 million in the same period of last year, primarily due to the increase of cash and cash equivalents and efficient cash management. Income tax expenses increased by 17.9% to RMB 8.1 million for the first quarter of fiscal year 2019 from RMB 6.9 million in the same period of last year. Other expenses reached RMB 2.2 million for the first quarter of fiscal year 2019 from RMB 0.08 million in the same period of last year, primarily due to an RMB 4.5 million fair value change of our 2-year Pimco fund-line note with 100% minimum redemption level at maturity that the company intends to hold to maturity. Other expenses was partially offset by an RMB 2 million other income received by -- from depository programs. Net income reached RMB 8 million during the first quarter of fiscal year 2019, down 38.7% from RMB 13 million in the same period of last year. Adjusted net income, which excludes share-based compensation expenses and the fair value change of the company's long-term investment, increased by 4.9% to RMB 18.4 million from RMB 17.6 million in the same period of last year. Adjusted net margin was 21.3% compared with 25.5% in the same period last year. Basic and diluted net income per ADS attributable to ordinary shareholders was RMB 0.16 and RMB 0.15, respectively, compared with RMB 0.35 and RMB 0.32, respectively, for the same period of last year. Non-GAAP basic and diluted net income per ADS attributable to ordinary shareholders was RMB 0.38 and RMB 0.35, respectively, compared with RMB 0.51 and RMB 0.47, respectively, for the same period of last year. Cash and cash equivalents. As of May 31, 2018, the company had a cash and cash equivalents of RMB 585.7 million, an increase of 106.3%, compared with RMB 283.9 million as of May 31, 2017, primarily due to net proceeds of RMB 594.6 million from the company's initial IPO -- from the company's initial public offering. The increase was partially offset by an RMB 122.1 million dividend distribution and an investment of RMB 158.2 million in funds for more efficient cash management as well as an RMB 70 million cash payment for the acquisition of a renowned early childhood education provider in Shanghai. Looking forward, for the first quarter of fiscal 2019, we currently expect to generate revenue in the range of RMB 89 million to RMB 92.9 million, representing year-over-year growth of approximately 15% to 20%. The above outlook is based on current market conditions and reflects the company's preliminary estimates of market operating conditions and customer demand, which are all subject to change. This concludes our prepared remarks. We will now open the call to questions. Operator, please go ahead.

[Operator Instructions] And looks like our first question today comes [ Zac Wang ] with the First Beijing Investment.

[Foreign Language] I have 3 questions about -- like, first is in expansion. Like, my first question is about -- like, the exam regarding the entrance of junior high school. In terms of Shanghai, it's strictly evaluated. So I was wondering if the management have any long-term view about the demand of those, like, highly skilled mathematical questions. And also, I would like to ask the management about expansion in Shanghai, the long-term limitation. And also, like, as we know, the condition of junior high school entrance growth varies among village. And, like the lists are quite vague and different. So I would like to know the [ growth-driven ] strategy in those spending.

[Foreign Language] We believe the demand for good education services is huge in China's kids. You know, as Chinese parents has devoted a lot of attention on education. And other middle schools, those good middle schools, they welcome and they're looking for those students who are good at math, because math is a very important core subject. The government policy and the regulatory change does have huge impact on competition. But we believe, in regular programs, the impact is not as strong. And also notice that the policy had an impact among lower level of students', like of grade 1 and grade 2 students' enrollment. We believe there is a decline in the market. But for our senior students, especially for grade 5 and grade 6 students, we believe the demand is huge. And we do think that the demand is eventually growing. [Foreign Language] And, too, we have also adapted strategies that help us adapt to this policy change. For our program that targets to lower-grade level students, our program we call it [Foreign Language], that's smart math (sic) [ intelligent math ] . We make it more interesting and -- to cultivate to their logical thinking. But for our program that targets the senior students, we focus on the core demand to get good admission at those other [ honor ] schools. [Foreign Language] To your second question, we only have 39 learning centers in Shanghai. We believe the market is still huge, and we have focused on our R&D and faculty development. We think our market share is still very low in Shanghai, let alone, nationwide. We believe there is still a huge room for us to open more new learning centers. [Foreign Language] I think we addressed all your questions.

[Foreign Language]

[Foreign Language] For our nationwide expansion strategy, as we are community to the market, we have been using the win-win model, in which we try to find a partner, a local partner somewhere. Typically, we will have a JV with them. And as a partner that we're looking for, we want them to be very strong in their marketing or have good access to student source. And because we are very good in R&D and faculty development and our content and brand is well recognized, we will invest our program and we will send our teachers and the local partner will help us to attract the students. And therefore -- taking as [ Nanchang ] an example, we opened our first learning center there in 2017. And we are very good. We have seen very good results in our student admission rates to middle schools.

[Operator Instructions] Our next question today comes from Nicky Ge with China Renaissance.

[Foreign Language] I have 2 questions here. My first question is about regulation. Since we are entering a new school year, what kind of regulation can we expect for the rest of the year? And my second question is about the guidance, where capacity increased and the revenue growth for the fiscal '19 year.

[Foreign Language] To your first question, we believe the impact from the policy in Shanghai has almost reached the city. But nationwide, we'll probably see -- we probably will see further impact from those policies. And to cope with those new policies, we have invested -- we have been investing in development of other core subjects as well as programs for other age groups. In this quarter, we have seen a strong growth in our Chinese program and English program and our middle-school program had shown a strong growth as well in this quarter. We believe those policies actually will benefit those solid players like us in the long term. And to your second question, I will -- regarding the revenue growth, currently, we expect to reach 20% to 25% growth year-over-year. And learning centers, we believe towards -- in the rest of this year, we will open 2 to 5. Because in this quarter, we already opened 3 new learning centers and we have acquired 5 new learning centers from the acquisition of this kindergarten player. For the rest of the year, we believe we will open around 2 to 5 new learning centers in Shanghai.

The next question comes from Sheng Zhong with Morgan Stanley.

[Foreign Language] I can say my questions. We see a lot of more aggressive summer promotion programs from both off-line learning centers and also the online education programs. So just wondering if there is any impact to your company's summer enrollment.

[Foreign Language] Thanks for your question. We haven't really offered an extra promotion for our summer program. We offered some promotion to our -- to promote our new subjects and the middle-school program, but not as aggressive as these promotion programs offered by our competitors. And because we believe time is most valuable to our students -- our students and our target students, they have been focused on teaching quality, not really price sensitive (sic) [ sensitivity ]. And we believe that our program is enough -- is good enough that we can still attract those students without providing substantial promotions.

And there are no further questions. Now I'd like to turn the call back over to the company for closing remarks.

Okay. Thank you, once again for joining us today. If you have further questions, please feel free to contact Four Seasons' Investor Relations through the contact information provided on our website or the [indiscernible] Investor Relations. Thank you.

This concludes the conference call. You may now disconnect your lines. Thank you.