New Oriental Education & Technology Group EDU Stock Analysis

Catalysts:

• Fragmented market in China with 20% of children attending private schools (190 000 private schools in total), as the market leader, can gain more market share (if regulators allow it)

Risks:

• Chinese government enacted a new law banning for-profit after school tutoring for K-12 in July 2021

• Several new regulations in recent years, lowering the margins of the company

• Company expects that new regulations will cause a drop of 50-60% in revenues

• Delisting of Chinese stocks in the US (stock also traded in Hong Kong)

• Currency volatilities and volatility of Chinese markets

Financial Analysis:

Valuations:

• My personal Biases:

  • Think stock could make short-term recovery based on the news but that would be only speculating and not investing

  • Doesn’t see management coming up with a good enough solution to the upcoming headwinds

• Assumptions:

  • Use the 60% fall in revenues that they are projecting for 2023-2026

  • 50% fall in revenues for 2022 (counting the few months where they had normal operations)

  • Use the same average profit margin of 12%

  • FCF margin on average was 10 pb above profit margin but much of this FCF was from deferred revenue (upfront payments) and this will also be lowered by around 60%. Therefore, FCF margin is expected to be only 4 pb above profit margin, that is, 16%

  • Revenue growth of 5% per year after 2023

• Discount rate of 20%

• Terminal growth rate of 3%

• Margin of safety of 30%

• Exit Multiples based on P/FCF Ratio

• FCF 40% higher in 2026 in bull case and 20% lower in 2026 in bear case

Conclusion

• Overvalued and expected returns not worth it

• Speculating rather than investing if wishing that price might go up based on the news

Read the full Research and Analysis: https://ishfaaqpeerally.teachable.com/courses/662813/lectures/36207621