- China offers fertile ground for any kind of investment activity, including in the school industry with capital from Western countries as well.
- China’s central government focuses heavily on the school system to achieve the world’s first gross domestic product.
- TAL Education Group could benefit from the growth potential of the context even after regulators’ measures to restrict tutoring reduced its portfolio of activities.
China and Western Culture Develop Markets Amid Tensions Between the Two Blocs over Various Types of Issues
The Russian invasion of Ukraine, the human rights violations in Xinjiang, the annexation of Taiwan at any cost under the One China Policy, and the tariff war are almost daily disputes in US-People’s Republic of China relations.
It gives the impression of two rival systems that are constantly fighting and trying to assert themselves over each other.
But these two gigantic systems, although ideologically opposed, are in symbiosis based on strong market ties.
The PRC provides fertile ground for any type of investment activity, while the Western world of the US and Europe transfers vast amounts of capital to fund various manufacturing and service sectors in mainland China. Foreign direct investment [FDI] inflows into mainland China rose nearly 22% year on year to $112.4 billion in the first six months of 2022, with the United States [up 26%] and Germany [up 14%] standing as leaders, the Ministry of Commerce reported on July 29.
Capital from Western investors seeking refuge in Chinese growth as their markets are saturated is being complemented by strong local momentum for the real economy as the People’s Bank of China cuts interest rates further and launches repurchase agreements.
China’s Central Government Focuses Heavily on the School System to Achieve the World’s First Gross Domestic Product
Strong support for education is one of the country’s key commitments in pursuing the world’s first gross domestic product target. The large educational system that trains the future generation of managers must continuously adapt to a changing business and industrial environment, as this is crucial to the transformation process that started decades ago from an underdeveloped agriculture-based society.
In the first half of the year, investment in the education sector grew the most along with that in healthcare, according to the National Bureau of Statistics in a July 2022 statement, showing China’s determination to boost growth despite international uncertainties and the domestic resurgence of COVID-19.
With a Smaller Portfolio and Perhaps More Efficient Organization, TAL Education Group Tries to Seize the Growth Potential of the Context
The context provides favorable conditions for TAL Education Group’s business to thrive, although the company had to forgo many initiatives to comply with the regulator’s new guidance.
Because schools have been instructed not to give students too much homework to free up time for family life and leisure, Xi Jinping’s government has banned several tutoring classes in addition to measures affecting the private education sector.
TAL Education Group, a Beijing-based provider of K-12 tutoring for various academic subjects in mainland China, had to suspend many educational programs, including tutoring on weekends as well as during public holidays and school vacations.
A Smaller Portfolio of Initiatives but Operations Seem More Efficient:
Due to the cessation of many initiatives under the new watchdog guidelines, sales fell significantly. This was also the case for the first quarter of fiscal 2023 [ending May 31, 202], when revenue declined 84% year over year to $224 million.
|Item||Q4 Fiscal 2021 [ended on Feb. 28, 2021]||Q1 Fiscal 2022 [ended on May 31, 2021]||Q2 Fiscal 2022 [ended on Aug. 31, 2021]||Q3 Fiscal 2022 [ended on Nov. 30, 2021]||Q4 Fiscal 2022 [ended on Feb. 28, 2022]||Q1 Fiscal 2023 [ended on May 31, 2022]|
|Net Revenues||$1,362.7 million||$1,384.9 million||Not issued||$1,020.9 million||$541.2 million||$224 million|
|Total Operating Expenses||$1,006.9 million||$759.3 million||$563.6 million||$308.9 million||$163.8 million|
|Adjusted Operating Profit [Loss]||[$216.9 million]||[$59.4 million]||[$67.6 million]||$0.8 million||[$1.8 million]|
|Adjusted Net Profit [Loss]||[$88.7 million]||[$34.6 million]||[$58.6 million]||[$108.0 million]||[$17.4 million]|
|Adjusted Net Profit [Loss] per American Depository Share.
[3 ADSs = one Class A common share]
TAL Education Group may have achieved significant savings in operating costs in the past few quarters, as the development of the operating result begins to have promising connotations, as shown in the table above.
If the company can make a virtue of necessity, it can turn into a much more efficient structure after phasing out several tutoring activities, ultimately with a positive result for profit, margin and share price.
It’s not going to be easy and the stock now carries a high risk of an unsuccessful investment, but at the same time offers incredible upside potential as there are interesting markets to reach or develop in the ecosystem in which the TAL Education Group operates.
Positive, interesting megatrends in compulsory education for TAL Education Group’s Initiatives point to additional demand to satisfy or new markets to develop:
Specific megatrends of the compulsory education sector in China will however provide a number of opportunities for a company like TAL Education Group, which wants to develop initiatives that aim to support public education programs.
These positive megatrends are reflected in the following developments recently announced by the Ministry of Education:
Good enforcement of compulsory education in China, which currently has nearly 160 million students in 207,000 schools offering six years of primary education and an additional three years of lower secondary education. The catchment area is so large that even after the Chinese government’s tightened measures, it can stimulate many ideas for new initiatives for the tutoring industry.
Also, as a tutoring provider, TAL Education Group could capitalize on the government’s goal of promoting education through economic grants to underprivileged families in rural communities, where many students still drop out for economic reasons.
This problem is pervasive in Chinese society as many counties are still trying to extricate themselves from underserved economic and social conditions before finally achieving balanced mainland-wide compulsory education development.
A stronger central government focus on education programs for people with disabilities is another area of potential demand for tutoring.
The Company’s Balance Sheet Appears Solid
As of May 31, 2022, the balance sheet reported $2.9 billion in cash and marketable securities versus $178 million in net operating debt.
The financial position appears to be solid for the future.
Analysts’ Earnings Growth Estimates, Recommendations and Price Target
Analysts are expecting earnings per share [EPS] for the fourth quarter of fiscal 2023 [ending February 28, 2023] at a net loss of $0.13, but a 91.58% year over year improvement. It will toggle a net profit of $0.06 in FY2024 and confirm a net profit of $0.23 in FY2025.
Wall Street has issued 3 strong buys, 2 buys, 5 holds, 2 sells and one strong sell rating, determining a hold median recommendation rating.
The stock has a price target of $5.3 as an average of the range of $2.90 to $7.20.
The Stock Price Is Above the Long-Term Trend, But Still Attractive
The TAL Education Group is up more than 44% so far this year, outperforming the SPDR S&P 500 ETF Trust (SPY), a benchmark for the U.S. market that had actually shown an opposite direction.
At the time of writing, shares are trading at $5.47 each for a market cap of $3.74 billion and a 52-week range of $1.60 to $6.71.
The 200-day moving average of $3.93 means the stock price is currently trading above a long-term trend, but this doesn’t affect its attractiveness given its huge upside potential.
Shares are not overbought after the year-to-date rally as the 14-day Relative Strength Indicator [RSI] is 55.80 and then well off the high of 80, so shares could still rise fast.
The stock has a 5-year monthly beta of -0.15 as it moves in the opposite direction to the stock market, albeit at a much slower pace than the market.
This is interesting as the market is expected to continue to decline on the back of runaway inflation, tight monetary policies by the US Federal Reserve and European Central Bank and the aftermath of the war in Ukraine, including headwinds from energy concerns.
Conclusion – Smaller Business Due to New Watchdog Guidelines but Catalysts Make Holding Worth Considering
TAL Education Group had to halt initiatives to comply with new regulations in the field of educational tutoring.
This has resulted in lower sales, but significant savings in total operating costs could lead to an interesting trend in operating income.
The compulsory education industry in China offers many opportunities and if the company were to take advantage of them, even though it is a high-risk investment these days, it would be justified to keep a position.
Author: Alberto Abaterusso, Seeking Alpha