NaaS Technology Inc. (NAAS) Q1 2019 Earnings Report, Transcript and Summary

Ladies and gentlemen thank you for standing by and welcome to the RISE Education's First Quarter 2019 Earnings Call. At this time all participants are in a listen-only mode. There will be a presentation followed by a question-and-answer session. [Operator Instructions] I must advise you that this conference is being recorded today, Friday, 17th of May, 2019. I would now like to hand the conference over to your first speaker today, Investor Relations Director of RISE Education; Ms. Mei Li. Thank you. Please go ahead.

Thank you, operator. Hello everyone and welcome to RISE Education's first quarter 2019 earnings conference call. Today you will hear from Mr. Sun Yiding, CEO, who will give an overview of the Company's strategy and recent developments, followed by Ms. Jiandong Lu, CFO and COO; who will go over our financial results in more detail. Before we proceed, I would like to remind you that today's discussion may contain certain forward-looking statements, made under the Safe Harbor provisions of the US Private Securities Litigation Reform Act of 1995. This forward-looking statements are subject to risks and uncertainties, that may cause actual results to differ materially from our current expectations. To understand the factors that could cause results to materially differ from those in the forward-looking statements, please refer to our Form 20-F, filed with SEC on April 19th, 2019. We do not assume any obligation to update any forward-looking statements, except as required in the applicable law. At this point, I would like to turn the call over to Mr. Sun Yiding. Please go ahead.

Thank you everyone for joining us today. I will read through Mr. Sun's prepared remarks, will hear me in English. We are pleased to see the robust growth in our top and bottom-line for quarter. Revenues came in at RMB335 million, representing an increase of 24% year-over-year. Our adjusted EBITDA margin was 24%. This strong result, demonstrated just how effective our strategy is, at generating sustainable organic growth and speaks highly of our corporate flexibility adapting to a new regulatory environment. The adjustable market for Junior English Language Teaching in China, remains massive and heavily underpenetrated. Among China's population, of children between the ages of three to twelve, children from middle and upper class families, represent the fastest growing segment. The Junior ELT Market in Beijing, Shanghai, Guangzhou and Shenzhen along is expected to be worth of a RMB25 billion in 2020 and RMB36 billion by 2022. Third-party data confirms that enormous expansion potential capacity of China's Junior ELT market, has allowed me work on the blueprint program to develop our strategy, over the next three years. With such enormous growth potential, we believe the market -- will become increasingly concentrated over time, as education companies were fully integrated online and offline platforms, differentiated product offerings and a strong brand recognition take advantage to consolidate their market share. The government's new regulations have also significantly raised the barrier to entry across the junior ELT industry, and is in fact, here to help support the healthy growth of the industry over the long run. As one of the industry's top players, I strongly believe that our fully compliant operation, experienced management team and the ability to retain and broaden our student base, these also ideally positioned to benefit from the growth of the industry and further consolidate our market share. In the fourth quarter of 2018, we began collecting tuition fees to comply with new government regulations. Our student retention rate in the first quarter of 2019 increased to 72%. Highlighting, how effective we are at enhancing the quality of our product and strengthening the parents' trust and loyalty. Student enrollments were 16,522 during the first quarter. However, they are now just directly comparable to the same period of last year. As I mentioned during the last quarter earnings call, we raised the price of our courses on January 1st in Beijing. While, in previous years, we increased our course prices in April. With Beijing being our biggest market and accounting for significant portion of the student enrollments, this price increase has pushed a new and existing students to register their enrollments in the fourth quarter of 2018, rather than in the first quarter 2019. In the coming quarters, we will continue to work on the effective program to grow new student enrollments and to maintain our high retention rate. Our focus for the remainder of the year will be on sustaining revenue growth, while taking advantage of market opportunities to diversify and accelerate this growth. We plan to continue to maintain the pace of our expansion -- capacity expansion and remain on track to add a 11 new self-owned learning centers and 50 to 60 franchised learning centers throughout the year. We added two self-owned learning centers and 13 franchised learning centers during the first quarter and had added a one self-owned learning centers, and six franchised centers so far during the second quarter. Maintaining the pace of our expansion is key to supporting mid-22% organic revenue growth, driving long-term sustainable growth in enrollments and strengthening our nationwide presence. Acquiring franchised learning centers form an important part of our expansion strategy and is a key to accelerating revenue growth. We expect to consolidate the Shijiazhuang Franchisee business in the second half of 2019. We are closely monitoring and evaluating market, where we already have a leading market position such as in Beijing, Tianjin, Hebei Economic Zone and the Pearl River Delta and our interest with the number of potential acquisition targets. In addition to accelerating revenue growth through our expansion strategy, we continue to devote resources toward developing innovative education product, with fully integrated online and offline elements. We are upgrading content to incorporate more online components into our existing courses, offering students across a wide range of age groups, a blended learning experience, in addition to our pure online products such as Can-Talk. And in person touch of the offline teaching, between teachers and students cannot be entirely replaced, but it can be empowered with intelligent technology such as voice recognition, and a self-adapted learning. As we discussed last quarter, Rise Club, our in-house developed online platform, helps to extend the learning experience beyond the classroom. Facilitate the parent supervision and improve communication between the teachers, parents and the students. This mobile application shows personalized learning results of our students directly to their parents, further enhancing parent satisfaction. We continue to invest in selling and marketing in a controlled and targeted manner to further increase new student enrollment. We constantly evaluate all marketing channels both online and offline to ensure they are targeted and effective. We've work hard to increase our conversion rates in order to generate a good return on our investments. Additionally, we are leveraging technology to enhance the overall structure of our business, so that we can carefully control cost and improve operation efficiency. We are investing in our IT infrastructure to ensure that it has ample resources to support the acceleration of our growth and upgrading the functionality of our catalog. Expanding our learning center network, we have put short-term pressure on our margins. Our newly opened learning centers are performing well and are on track to generate better utilization rates as it ramp up capacity and real material over the next three years to four years. Therefore, I am pretty confident that our profitability will be improved over time. We were one of the first Junior ELT Companies to enter the market and have always pride ourselves on generating revenue growth that exceeds the industry average. We will continue to carefully balance revenue growth and the long-term profit margins. Before I hand the call over to Jiandong, I'd like to reiterate, we are building this business for long-term and I'm confident that we have the right strategy in place, to drive organic revenue growth of approximately 25% for the year, while, having a good control of our EBITDA margins. Our goal for 2019 is to further enhance our brand and course curriculum, further leverage our technology to improve our product offerings and operational efficiencies. I strongly believe that this laser-like focus on growing the business over the long-term will help us cement our leading position in the market. This concludes the remarks of our CEO, Mr. Sun Yiding. I will now turn the call over to our COO and CFO; Ms. Lu Jiandong to go through our financials highlights. Jiandong, please go ahead.

Thank you, Mei. And hello everyone. Now I would like to go through our financial highlights, for the first quarter of 2019. Before I begin, please note that all numbers stated here are in RMB terms. In the first quarter of 2019, our total revenues increased by 24% year-over-year to RMB335 million, the top end of our guidance. This was driven by a 23.7% year-over-year increase in revenues, from our educational programs to RMB286.6 million in the first quarter of 2019. Starting from the first quarter of 2019, revenues from educational programs includes revenues generated by The Edge. Revenues from educational programs in previous quarters have been adjusted for consistency and comparisons. The increase in revenues from our educational programs was primarily attributable to an increase in the number of student enrollments for our regular courses, as well as the stable and high retention rate of 72%, we have attained this quarter. We expanded our self-owned learning center network from 64 as of March 31st, 2018 to 78 as of March 31st, 2019. Franchise revenues increased by 35.3% year-over-year to RMB38.2 million, in the first quarter of 2019. This increase was primarily attributable to an increase in one-time franchise fees and recurring franchise fees associated with an increase in the number of franchised learning centers from 2020 as of March 31st, 2018 to 317 as of March 31st, 2019. Other revenues increased to RMB10.3 million in the first quarter of 2019, up by 0.9% year-over-year from RMB10.2 million in the same period last year. Cost of revenues for the first quarter of 2019 increased by 23.1% to RMB154.4 million from RMB125.5 million during the same period of last year. Non-GAAP cost of revenues for the first quarter of 2019 increased by 23.6% to RMB150.5 million. The increase was primarily due to an increase in rental costs associated with the company's expansion of self-owned learning centers, and personnel costs associated with an increase in teacher headcount and total teaching hours at the company's self-owned learning centers. Gross margin for the first quarter of 2019 increased by 24.9% year-over-year to RMB180.6 million. Gross margin improved to 53.9%, during the first quarter of 2019, compared with 53.6% in the same period last year. Non-GAAP gross margin was 55.1% compared with 64.9% in the first quarter of 2018. Selling and marketing expenses for the first quarter of 2019 was RMB65.7 million, an increase of 35.3% year-over-year from RMB48.5 million. The increase was primarily due to an increase in marketing channel expenses and the personnel costs associated with the company's expansion of self-owned learning centers, so as to increase the new student enrollments. Non-GAAP selling and marketing expenses as a percentage of total revenues was 19.3% as compared with 17.5% in the first quarter of 2019 and 20.3% in the second half of 2018. General and administrative expenses was RMB61.9 million, an increase of 13.9% year-over-year from RMB54.4 million. The increase was primarily attributable to an increase in personnel costs and office expenses associated with the company's expanding business. Non-GAAP general and administrative expenses, accounted for 17.6% of total revenues, in the first quarter of 2019. A decrease from 19.4% in the same period last year. Our operating income for the first quarter of 2019 was RMB53 million. Excluding the impact of share-based compensation expenses and amortization of certain intangible assets acquired as part of the 2013 acquisition. Non-GAAP operating income for the first quarter of 2019 increased by 24.3% year-over-year to RMB60.7 million. Non-GAAP operating margin in the first quarter of 2019 is 18.1%, the same as of (ph) the same period last year. Other income for the first quarter of 2019 was RMB7.9 million, compared with RMB10.9 million during the same period of the prior year. Adjusted EBITDA during the first quarter of 2019, increased by RMB11.6 million to RMB80.5 million, an increase of 16.8% from RMB68.9 million in the same period last year. Adjusted EBITDA margin was 24% in the first quarter of 2019, compared with 25.5% a year ago. The major impact on our Q1 adjusted EBITDA margin is the decrease of our other income from RMB10.9 million in the first quarter of 2018 to RMB7.9 million in the same quarter of 2019. Net income attributable to RISE for the first quarter of 2019 was RMB36.4 million, increased by 1.5% year-over-year to RMB35.8 million. Non-GAAP net income attributable to RISE for the first quarter of 2019 was the RMB44 million, increased by 2.7% year-over-year from RMB42.8 million. Non-GAAP net margin attributable to RISE was 13.1% for the quarter compared with 16.9% in the same period of last year. Basic and diluted net income attributable to RISE per ADS were RMB0.64 and RMB0.63 respectively, for the first quarter of 2019. Basic and diluted non-GAAP net income attributable to RISE per ADS was RMB0.77 and RMB0.76 respectively for the first quarter of 2019. Turning to our cash flow performance. In the first quarter, we generated RMB5 million positive cash flow from operating activities, during the first quarter of 2019 compared with RMB198.4 million in the same period of last year. The decrease was mainly attributable to the annual increase in course prices in Beijing, which took place in January this year, rather than in April, in previous years, which resulted in students' early payment of tuition fees, during the fourth quarter of 2018, before the price increase took effect, as well as the collection of tuition payments in the three-months installments rather than in full to comply with new government policies. As of March 31st, 2019, the company had cash and cash equivalents and restricted cash of RMB1,293.1 million compared with RMB1,316.8 million as of December 31st, 2018. As of March 31st, 2019, total deferred revenue and customer advances were RMB995.6 million, representing a decrease of 4.2% from RMB1,038.8 million, as of December 31st, 2018. The decrease was primarily due to the change of tuition fees collections scheduled for K-12 tutoring courses. Now let me provide you with our 2019 guidance. For the second quarter of 2019, we expect our total revenues to be in the range of RMB369 million to RMB375 million, representing a year-over-year growth of approximately 23% to 25%. For full year 2019, we maintained our revenue growth guidance of approximately 25%. This forecast reflects our current and preliminary view on the markets and operational conditions, which are subject to change. This concludes our prepared remarks. Operator, we would now like to open up the call for questions from our audience. For those who like to ask a question, please state your question in Chinese first and then in English. Operator, please proceed.

Thank you, Jiandong. Ladies and gentlemen we will now begin the question-and-answer session. [Operator Instructions] Your first question comes from Melissa Chen from China Renaissance. Please ask your question.

So, good morning management. I had two questions. So the first question is on the expansion plan. So can management help us to understand, how many learning centers we're going to have for this year, including the self-owned learning centers and the franchised centers we're going to acquire. And also the second question is on the sales and marketing. Can management give some color on the major channels for the sales and marketing expense including online and offline. And also what's the guidance for the full year sales and marketing expense. Thank you.

To answer your first question, at the beginning of 2019, we already gave our full year guidance that for this year, we would like to add 11 self-owned learning centers and 50 to 60 franchised learning centers. We keep our expansion plan unchanged. For the self-owned learning centers, we probably will add the most -- we will add those centers in Beijing, Shanghai, Guangzhou, Shenzhen. And also we are looking at Kunshan city close to Shanghai, probably based on our current update in the second half of this year, we will open a new center in Kunshan. So basically the expansion is on track of our expansion plans and everything is trending (ph) as normal. We do not see any impacts from the regulation. For the franchised business, we are -- the acquisition of Shijiazhuang business is progressing well. So based on my understanding, in the second half of this year, we will consolidate it's P&L into our financial statements. And we are keeping touch with some well-performed franchised partners and looking for the opportunity to acquire more franchised learning centers into our self owned learning center -- self-owned network, which will benefit to our top-line, bottom-line.

Okay. Thank you Mei. Let me answer your second question, with regard to selling and marketing channels, as well as the expenses as a percentage of revenue. Actually we have both online and also offline marketing channels. We actually tried to take a better advantage of our offline network to increase the enrollments from the offline channels. In terms of the offline channels, we actually set up the marketing booth in the supermarket or in -- you know outside of the schools, as a way of distributing our leaflets to attract the parents attention. So this is a pretty traditional and conventional way of the offline channels. Meanwhile, we actually leverage our student base, the parents as a referral basis. We tried very hard to increase the percentage of the referrals from the parents as part of our total -- percentage of our total leads generated. As of now, according to our operating statistics, we actually acquired students from the offline channels, which accounts for more than 60% of the total enrollments. For the online channels, we use like BYJU'S [indiscernible] WeChat, and also we tried [indiscernible] the new media, while we're using the offline channels, we actually monitor very closely, the leads generated by different channels, to make sure it can provide us with a good quality leads, which can help to increase the overall conversion rate. So that actually answers your first part of the question. The second part, with regard to the selling and marketing expenses throughout 2019, I can give you a guidance. In 2018, the total selling and marketing expenses accounts for 18.7% of our total revenue. This year, we'll further increase the selling and marketing expenses in order to further increase our total enrollments. We plan to increase roughly 1% in our total selling and marketing expenses, which gives us roughly like a 19.5%, as our total selling and marketing expenses throughout 2019. So if you look at our first quarter P&L, the first quarter non-GAAP selling and marketing expenses accounts for 19.3% of the total revenue generated in the first quarter, that serves as a guidance throughout the year 2019.

[Operator Instructions] Your next question comes from Felix Liu from UBS. Please ask your question.

Let me translate myself. So the G&A ratio in this quarter is pretty good. So, may I know, if the declining G&A ratio can continue in the upcoming quarters. And what are the updated guidance for EBITDA margin in Q2 and full-year? Thank you.

Thank you, Felix. This is Jiandong. Let me answer your question. First of all, the G&A. You are right, in the first quarter, we managed to control our G&A, in order to better leverage our scale. We'll manage to do so throughout the year and keep it at the current level. You know, roughly, I think, it's a pretty healthy level on general and administrative expenses. The guidance for the margin, we actually didn't disclose our margin for throughout the year. But basically you can derive the margin from the information I have already provided. We can manage to maintain -- other than selling and marketing expenses, we plan to increase by roughly 1% as compared to last year and we managed to maintain all the other expenses at the same level as last year. So in short, we're pretty confident, we are in good control of our margin. While we're trying to deliver top-line growth by 25% organic growth, while at the same time, we tried to deliver a healthy, sustainable margins at the same time. So, we're in good control of our expenses and also we try to deliver reasonable margin. Are you happy with this answer, Felix.

Yes. Thank you. Thank you Jiandong for the color. Actually one additional question from me. Let me translate myself the additional question. So we know that ASP hike in Beijing in January has accelerated some of the enrollments. Now that we're several months after the event. May I know, if the enrollment growth has normalized in the more recent months. Thank you.

Thank you Felix, a good observation. You know, during the normal years, the first quarter is generally our peak enrollment season. But this year is pretty unusual, because due to the policy of adopting the three month tuition payment. We actually advanced the price increase from April to January for Beijing alone. As we have, disclosed last quarter, part of the enrollment actually completed in the -- advanced their enrollments in the fourth quarter of last year, which should have happened in the first quarter. So this is going to be a one-time hit in our total enrollment statistics. But the price increase for Shanghai, Guangzhou and Shenzhen remain the same. It happens in the second -- in April 1st, this year. So if you look at the components of the -- enrollments of both new students and also renewed students; in the first quarter Shanghai, Guangzhou and Shenzhen actually maintained their normal momentum. The second quarter, April, May and June is generally the low season for our business. And with the normalization of the prices, our enrollment for the second quarter, as of today stay on track. I can tell you.

Your next question comes from Sheng Zhong from Morgan Stanley. Please ask your question.

Let me translate by myself. The first -- I have three questions. The first one is, the management fee, the margin difference in Tier 1 and Tier 2 cities, because company may -- well, looks like we'll open more learning centers in Tier 2 and Tier 3 cities including the self-operated and potential M&A kind of franchisees. And second question is, Ms. Sun mentioned that, there will be more investment in content, teacher training and technology investments. So are there any more details about this trend? And how much of the budget, whether this will impact the general expense going forward. And third one is about the retention rate, as the company changed the tuition fee collection to three months. So whether the retention rate going forward will gradually change to a quarter retention rate. Thank you very much.

Thank you, Sheng. Let me answer your first question. For the profitability in the second and third tier cities, right now we're running our business to the largest cities. We are going to open the new centers in Kunshan, those -- second tier cities, they are close to the bigger cities over the provincial cities. For example, Foshan is close to Guangzhou, the biggest city. Their affordability, level of affordability is similar. And Kunshan is close to Suzhou, Wujiang, Shanghai. So, they are all economically stronger cities. We do not see much difference in terms of affordability. So those will -- how to run those cities is based on our management's capability. Right now, we are also trying to manage smaller cities. We have a pretty good experience to manage bigger cities like Beijing, Shanghai, Guangzhou and we are moving down to the smallest cities. Right now everything is on track. We have, -- our experience is quite good for us to running small cities and also we are attracting experience -- at a later time, we'll acquire more franchised learning centers. For obtaining of the [indiscernible] upgrade, in the next two, three years' time, we are trying to build a blended learning experience. We are trying to integrate more, more online components into our existing offline curriculum. We are trying to work out a blended learning experience for our students and customers. This will be our direction for the next three years. In terms of the budget, probably we are going to spend RMB13 million for the three years time but because most of those budget will in the form of a CapEx, so, probably we do not see much impact on the expense side. Right now, we are changing our fraction policy to fully comply with governmental requirements. We collect tuition no more than three months time in Beijing and Wuxi. But our courses is unchanged. We still have our course lasting approximately one year. So also the KPIs for our key management for our key -- our teachers and we have still the retention rate, which means how many students pay for the next full course, but not the next phase. We have another indicator to monitor that is how many students they pay for the next -- they do the -- they completed the payment installment. So far based on our observation, this is pretty good. We are very confident about this payment installments. And we are very confident for this whole year, this will contribute to the whole year's retention rate. Basically once built, this is a result of our parents' and students' satisfaction. Thank you very much.

[Operator Instructions] Ladies and gentlemen, we have reached the end of our conference call. Thank you for participating. You may all disconnect.