Headquartered in Beijing, China, New Oriental Education & Technology Group Inc. (EDU) is a private educational services provider that offers K-12, online education and pre-school education programs. The company’s shares have gained only 1.7% over the past year. In fact, over the past month EDU’s shares plunged 16.9% because of growing investor concerns over China’s plans to clamp down on the  private tutoring industry.

EDU closed yesterday’s trading session at $12.20, 38.9% below its $19.97 52-week high.

The K-12 tutoring industry is expected to grow to around 1 trillion yuan ($155 billion) in 2025, on the back of higher demand for private tutoring, test preparations and English fluency. Although this should bode well for EDU,  increasing scrutiny from the Chinese government and looming industry challenges make its growth prospects uncertain.

Here is what we think could influence EDU’s performance in the near term:

Increasing Scrutiny Poses a Risk

The growing need to ease the pressure on school children and to lower the cost of education has led China to tighten its grip on the booming private edtech and online learning industry. The regulations are also aimed at cooling down China’s cutthroat tutoring market for K-12, which has grown significantly in recent years to around $120 billion. In fact, Chinese officials’ plans to limit the fees charged by private education companies could be a major blow to the industry. Because  regulators plan to place a ban on both on- and off-campus tutoring during weekends, as well as a clampdown on off-campus tutoring, particularly for math and English, leading private education provider EDU could face a roadblock in its growth path.

Favorable Analyst Estimates

A $0.15 consensus EPS estimate  for the next quarter, ending August 2021, indicates a 36.4% improvement year-over-year. Also, analysts expect the company’s EPS to rise 51.7% from the same period last year to $0.44 in its fiscal year 2022. EDU’s revenue is expected to increase 41.7% from the year-ago value to $1.13 billion in the current quarter. In fact, the Street expects the company’s annual revenues to rise 17% year-over-year to $4.19 billion in the current year.

Mixed Financials and Profitability

EDU’s net revenue increased 29% year-over-year to $1.19 billion in the third quarter, ended February 28, attributable primarily to an increase in student enrollments in K-12 after-school tutoring courses. Its non-GAAP net income rose 9.9% from its  year-ago value to $163.24 million. However, the company’s operating income decreased 13.5% year-over-year to $101.5 million, while its operating margin for the quarter came in at 8.5%, compared to 12.7% in the same period of the prior fiscal year.

The company’s 52.1% trailing-12-month gross profit margin is 52.8% higher than the 34.1% industry average. Also, its 10.6% EBITDA margin is 2.6% higher than the 10.3% industry average. However, its trailing-12-month EBIT margin and ROTC of 6% and 2.5%, respectively, are 12% and 46.3% lower than industry averages.

POWR Ratings Reflect Uncertainty

EDU has an overall C rating, which translates to Neutral in our POWR Ratings system. The POWR Ratings are calculated by considering 118 different factors with each factor weighted to an optimal degree.

Our proprietary rating system also evaluates each stock based on eight different categories. EDU has a C grade for Growth and Value. The stock’s weak growth prospects are reflected in the Growth grade. Its 42.87x P/E ratio, which is 132.2% higher than the 18.47x industry average, is in sync with the Value grade.

Also, it has a D grade for Momentum, which is consistent with the stock’s negative price return over the past month.

In addition to the grades we’ve highlighted, one can check out additional EDU ratings for Sentiment, Stability and Quality here.

EDU is ranked #36 of 76 stocks in the F-rated China group.

There are several top-rated stocks in the same group. Click here to view them.

Bottom Line

Even though EDU’s expanding offline training programs and increasing student enrollments could help the company improve its profitability, China’s  regulatory moves to curtail the growth of the private tutoring industry could cause  the stock to witness a pullback in the near term. So, we think investors should wait for the risks to subside before investing in the stock.

EDU shares were trading at $12.36 per share on Monday morning, up $0.16 (+1.31%). Year-to-date, EDU has declined -33.48%, versus a 11.19% rise in the benchmark S&P 500 index during the same period.

About the Author: Imon Ghosh

Imon is an investment analyst and journalist with an enthusiasm for financial research and writing. She began her career at Kantar IMRB, a leading market research and consumer consulting organization. More...

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