Earnings Call Transcript - EDU Q1 2023

Operator, Operator

Good evening, and thank you for standing by for New Oriental's FY 2023 First Quarter Results Earnings Conference Call. Today's conference is being recorded. I'd now like to turn the meeting over to your host for today's conference, Ms. Sisi Zhao.

Sisi Zhao, Host

Thank you. Hello everyone and welcome to New Oriental's first fiscal quarter 2023 earnings conference call. Our financial results for the period were released earlier today and are available on the company's website as well as on Newswire Services. Today you will hear from Stephen Yang, Executive President and Chief Financial Officer. After his prepared remarks, Stephen and I will be available to answer your questions. Before we continue, please note that this discussion today 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, our results may be materially different from the views expressed today. A number of potential risks and uncertainties are outlined in our public filings with the SEC. New Oriental does not undertake any obligation to update any forward-looking statements except as required under applicable law. As a reminder, this conference is being recorded. In addition, a webcast of this conference call will be available on New Oriental's Investor Relations website at investor.neworiental.org. I will now turn the call over to Mr. Yang. Stephen, please go ahead.

Stephen Yang, Executive President and CFO

Thank you, Sisi. Hello, everyone and thank you for joining us on the call. This first quarter has not only marked a fresh beginning of our 2023 fiscal year but also a new page for New Oriental. Before going into detail about our financial performance for this quarter, I would like to take this opportunity to extend our gratitude to those who have been believing and supporting New Oriental along the way. I'm delighted to share with you that the restructuring process has been largely completed and New Oriental has successfully derived a new business model, combined with certain existing businesses and new innovative business opportunities. Our new business ventures have been performing well and are starting to generate positive results for New Oriental. Furthermore, it's even more encouraging to see that we have achieved a turnaround in profitability with better than expected margins this quarter. Our non-GAAP operating margin for the quarter was 13% and our non-GAAP net margin for the quarter was 11.2%, both higher than the same period last year. We believe the company has embarked on a fresh journey that strives to encourage all-around development for students and customers, fulfill the betterment of society, and at the same time, generate profit and fruitful returns for our shareholders. Now, I would like to spend some time to discuss this quarter's performance across our remaining business lines and the new initiatives in detail. Our key remaining businesses have shown remarkable resilience and achieved promising trends. Breaking it down, the overseas test prep business recorded a revenue increase of 2% in dollar terms year-over-year for the first quarter of the 2023 fiscal year. The adults and university students business recorded revenue growth of about 2% in dollar terms year-over-year for the quarter. The overseas study consulting business recorded a revenue increase of about 21% in dollar terms year-over-year for the quarter. As for our new business initiatives, we’ve launched several new projects which mostly revolve around facilitating students' all-around development. I'm glad to share with you that these new initiatives have shown positive momentum and have started to generate revenue for the group. Firstly, the non-academic tutoring business we have rolled out in over 60 existing cities focuses on cultivating students' innovative abilities and comprehensive quality. We're happy to see increased market penetration in those markets we have tapped into, with 297,000 student enrollments in the first quarter. The top 10 cities in China account for about 60% of this business's revenue. Secondly, the intelligence learning system and device business is designed to provide a tailored digital learning experience for students. It utilizes our past teaching experience, data, and technology to provide personalized, targeted learning and exercise content. Together with our teachers monitoring and assessing the learning curve of the students and the back-end system, this new educational service not only greatly improves student learning efficiency but also cultivates proactive learning habits. We have tested adoption in around 60 existing cities with 131,000 active paid users this quarter, and are delighted to see improved customer retention rates and scalability for this new initiative. The revenue contribution from the top 10 cities in China for this business is over 60%. Meanwhile, the study tour and research camp business is aimed at offering K-12 and university students the opportunity to leverage their free time and holidays to broaden their knowledge and cultivate subject interest. We have conducted this business in over 50 cities across the country, with revenue contribution from the top 10 cities in China exceeding 55%. Last but not least, our smart education business, which comprises smart teaching, smart hardware, science, technology, and other educational services, serves local governments, education authorities, schools, and kindergartens. Our educational material and digitalized smart study solutions, including a self-learning system leveraging advanced technology, enable students to have complete control over the pace and flexibility of learning, especially as remote learning becomes increasingly mainstream. We also offer exam prep courses designed for students with junior college diplomas to obtain bachelor's degrees. The aforementioned businesses have been gaining traction and contributing to the overall growth of the company. Our OMO system has continued to be instrumental post-restructuring. We have invested $31 million in the quarter on our OMO teaching platform to ensure that we continue to offer high-quality service and flexibility to our students. In response to an evolving industry landscape in China, we have implemented structural changes to our pure online education platform, Koolearn. While Koolearn has continued to expand its online education offerings to adults and university students, it has also sought business opportunities in new areas. Leveraging the technology developed for live broadcast classrooms with our existing team of talent, Koolearn has established an e-commerce platform under the brand name Dongfang Zhenxuan for the sale of agricultural and other products. The platform also offers premium service for tens of millions of followers through its tight supply chain ecosystem, innovative live-streaming marketing, and diversified cooperation with suppliers and producers. To maximize the full potential and social value of this new business, Koolearn has strategically focused on developing a high-quality and cost-effective e-commerce platform offering agricultural products and daily necessities to enhance the quality of life and promote healthy lifestyles for its customers. During the reporting period, Dongfang Zhenxuan has broadened its product selection and SKUs, continuously improving the shopping experience for its customers. This platform serves as an alternative for farmers and local companies to sell their high-quality goods and other products to a broader customer base while providing a range of top-notch products with transparent pricing. Leveraging the well-developed production capacity and commercial infrastructure, such as logistics centers and communication networks in China, Koolearn has successfully launched its own private label products and established a high-quality supply chain management system in a short period of time. With a variety of product selection and quality continuing to grow, Dongfang Zhenxuan has earned a prominent position and gained strong traction and brand loyalty from its customers. Looking forward, Koolearn will strengthen its team of talent to continuously create unique and interesting content to attract users to its platform and promote traditional Chinese culture. Koolearn will also increase its investment in product and technology upgrades to selectively launch top-quality products from different origins in China through third-party cooperation and private labels to create value for customers, partners, and society at large. Regarding the company's latest financial position, I'm confident to share that the company is in a healthy financial status with cash and cash equivalents, term deposits, and short-term investments totaling approximately $4.3 billion. On July 26, 2022, the company's Board of Directors authorized a share repurchase plan of up to $400 million of the company’s ADS or common shares during the period from July 28, 2022, through May 31, 2023. As of October 25, 2025, the company has cumulatively repurchased approximately 1.6 million ADS for about $39.6 million from the open market under the share repurchase program. Now, I will turn the call over to Sisi to share with you the key financials.

Sisi Zhao, Host

Now, I'd like to walk you through the other key financial details for this quarter. Operating costs and expenses for the quarter were US$666.8 million, representing a 47.8% decrease year-over-year. Non-GAAP operating costs and expenses for the quarter, which exclude share-based compensation expenses, were US$647.8 million, also representing a 47.5% decrease year-over-year. The decrease was primarily due to the reduction in facilities and the number of staff as a result of the restructuring in fiscal year '22. Cost of revenues decreased by 51.4% year-over-year to US$312.1 million. Selling and marketing expenses decreased by 40.2% year-over-year to US$98.7 million. G&A expenses for the quarter decreased by 45.4% year-over-year to US$256 million. Non-GAAP G&A expenses, which exclude share-based compensation expenses, were US$237.4 million, representing a 44.5% decrease year-over-year. Total share-based compensation expenses allocated to related operating costs and expenses decreased by 55.9% to US$19.1 million in the first fiscal quarter of 2023. Operating income was US$78 million, representing a 140.5% increase year-over-year. Non-GAAP income from operations for the quarter was US$97 million, representing a 28.3% increase year-over-year. Net income attributable to New Oriental for the quarter was US$66 million, representing a 9% increase year-over-year. Basic and diluted net income per ADS attributable to New Oriental were $0.39 and $0.38 respectively. Non-GAAP net income attributable to New Oriental for the quarter was US$83.7 million, representing a 24.7% decrease year-over-year. Non-GAAP basic and diluted net income per ADS attributable to New Oriental were $0.49 and $0.48 respectively. Net operating cash flow for the first fiscal quarter of 2023 was approximately US$185.2 million and capital expenditure for the quarter was US$14 million. Turning to the balance sheet, as of August 31, 2022, New Oriental had cash and cash equivalents of US$1,103.9 million. Additionally, the company had US$1,054.7 million in term deposits and US$2,092.3 million in short-term investments. New Oriental's deferred revenue balance, primarily cash collected from registered students for courses recognized proportionally as revenue as instruction is delivered, at the end of the first quarter of fiscal year 2023 was US$1,012.5 million, a decrease of 30.3% compared to US$1,453.3 million at the end of the first quarter of fiscal year 2022. This decrease is mainly due to the cessation of K-9 academic after-school tutoring services in compliance with the government's policies in China. Now, I’ll hand over back to Stephen to go through our outlook and guidance.

Stephen Yang, Executive President and CFO

Thank you, Sisi. Looking ahead into the second quarter of fiscal year 2023, with the restructuring process now largely completed, we expect our school networks and geographic coverage to stabilize. The company has now entered a stage of exploring new opportunities with greater flexibility and strong cash flows. We're confident in the sustainable profitability of all our remaining key businesses as well as the growth and prospects of our new initiatives. For our new businesses, as we observed this quarter, their encouraging performance proves that we are heading in the right direction and we're confident that this business will contribute meaningful revenue to the company in fiscal year 2023. Regarding the ongoing pandemic developments in China, thanks to our OMO system, we believe the overall impact on our business and financials will be limited. We have also put measures in place to control and handle any potential lockdown situations. However, due to the seasonal nature of some of our businesses, such as test prep courses and overseas study consulting services, New Oriental typically records lower revenue in the second quarter compared to the first quarter. Hence, we expect total net revenue in the second quarter of the fiscal year 2023, from September 1, 2022, to November 30, 2022, to be in the range of $601.4 million to $619.2 million, representing a year-over-year decline in the range of 9% to 6%. The projected increase in revenue in our functional currency RMB is expected to be in the range of 1% to 4%, which reflects an increase for the second quarter of fiscal year 2023. Overall, we’re confident that we will achieve operating profit in the full year of fiscal year '23. To conclude, we are taking all necessary official actions to promote our key remaining businesses while cautiously investing in new initiatives that will serve as new growth engines to accelerate our recovery and pursuit of profitable growth in the future. At the same time, we will continue to seek guidance from and cooperate with government authorities in various provinces in China, aligning our efforts with relevant policies, guidelines, and regulations while further adjusting our business operations as required. I must mention that these forecasts reflect our considerations of the latest regulatory measures, as well as our current and preliminary view, which is subject to change. This concludes our fiscal year 2023 Q1 summary. I would now like to open the floor for questions. Operator, please open the call for questions.

Operator, Operator

Our first question comes from the line of Mark Li from Citi.

Mark Li, Analyst

Congratulations on achieving profitability this quarter. I noticed that we disclosed 297,000 non-academic enrollments, and I believe this is the first time we shared this information. Could you provide the figures for the last quarter or the previous financial year? Additionally, do you have any enrollment targets for this new financial year?

Stephen Yang, Executive President and CFO

Thank you, Mark. We just launched the non-academic courses, which is a completely new product since the second quarter of last year. So last year's numbers were very small. That means this quarter, our non-academic courses business performed very well. The revenue growth was negligible. We expect the non-academic course business to grow very quickly in the future. Mark?

Mark Li, Analyst

Can you hear me?

Operator, Operator

Yes, we can.

Mark Li, Analyst

I just want to follow up on the Q1 number. Will we have any seasonality for the full year? Can we just multiply the numbers for the Q1 for the full year for the non-academic enrollment? Or could you share a bit more detail on this year? Thank you.

Sisi Zhao, Host

Yes. For non-academic courses, specifically, the seasonality should not be very pronounced. It’s not like other businesses, such as overseas and domestic test prep, which are quite seasonal. I believe this business will be similar to other K-9, K-12 businesses, so it should be relatively smooth throughout the year. This year is the beginning of these new initiatives, so we should start to see each quarter contributing more and more revenue overall from these new businesses.

Operator, Operator

Our next question comes from the line of Felix Liu from UBS.

Felix Liu, Analyst

Congratulations on the very strong results, especially amidst macro weakness and considering the magnitude of the restructuring you've just completed. My question is on margins. We noticed that the GP margin this quarter is very strong. Can you explain the driver behind this? Is it due to a mix or any particular cost savings that we've achieved? And is there any margin seasonality that we should keep in mind for the rest of this year?

Stephen Yang, Executive President and CFO

Okay. Thank you, Felix. As for the margins, yes, as you saw in this quarter, both gross margin and operating margin have increased. The increase was mainly driven by the following reasons: First, the downsizing of the learning centers and employee layoffs led to lower fixed costs. We did a lot of learning center closures and layoffs last fiscal year, which has driven margins up for the learning centers and the entire group; this is one reason. Secondly, revenue growth from Koolearn and Dongfang Zhenxuan this quarter has positively impacted the overall margin. Finally, we did not run any summer promotional classes this quarter. Last year, we had summer promotions, but this year we did not, which helped improve margins. The aforementioned three reasons are what drove the margins higher. As I said, we are entering a new phase at New Oriental. We will maintain profitability for our remaining businesses while cautiously investing in new initiatives, which are growing rapidly and will become profitable very soon. Going forward, I believe our margins will stabilize. I want to give guidance for the next quarter, Q2’s margins.

Operator, Operator

Our next question comes from Tian Hou from T. H. Capital.

Tian Hou, Analyst

Congratulations. Each line of business is growing positively. What's the outlook for each line of business going forward? Also, I'm unsure about the composition of your revenue. How much should each line of business contribute to total revenue? If possible, Stephen, could you provide some details on that?

Stephen Yang, Executive President and CFO

Yes. Looking ahead into the second quarter and even beyond to Q3 and Q4, I believe the restructuring process is now largely complete. Moving forward, the remaining businesses, such as overseas-related operations and domestic test prep for college students, will grow, particularly the overseas-related services, which have shown strong enrollment growth this quarter. The new businesses like learning devices and research camps also continue to grow rapidly. We started these initiatives last year, and this year we expect to see significant returns from them. Koolearn and Dongfang Zhenxuan are also performing well, although I cannot share Koolearn numbers at this moment. However, I can say that Dongfang Zhenxuan has developed an innovative model for knowledge sharing and the sale of agricultural products, which has yielded remarkable official results and contributed notable revenue and profit to the group. Going forward, I think Dongfang Zhenxuan will perform even better as reflected in the positive customer responses. Regarding revenue contribution estimates for the new financial year, I anticipate the overseas-related business will contribute about 30% of total revenue, the K-12 traditional and new business combined will contribute approximately 45%, the college student test prep business will contribute around 5%, and all other businesses, including Koolearn and others, will comprise over 30% of total revenue, given the rapid growth of Koolearn and the stability of smaller business growth.

Operator, Operator

We'll move to our next question from Candis Chan from Daiwa.

Candis Chan, Analyst

Congratulations on the very strong results. My question is related to the new business intelligence learning system and devices. Who are our target customers? For the 130,000 active users, are they primarily charged by subscription? I wanted to see whether this part of revenue will be recurring, and how significant the revenue contribution could be for this new business?

Sisi Zhao, Host

Yes. The intelligent learning device system is something new after we complied with government policy ending academic training for K-9 students. We recognized some students still desire to study their academic subjects, so we use our strength in content to target those students. We embedded our digital content into hardware that we provide to students for self-study. This helps them enhance their academic results and encourages proactive study habits. This new business model primarily involves renting devices to students while they subscribe to content through the platform. We believe this will create a recurring revenue stream because if students find the device helpful, they will likely continue to subscribe for new content.

Stephen Yang, Executive President and CFO

Yes, and sorry, let me clarify the revenue contribution for the new year. The revenue from other sources will contribute 20% of total revenue.

Operator, Operator

Our next question comes from Hongyi Cao from CICC.

Hongyi Cao, Analyst

First, congratulations on the strong performance for the first quarter. I have a follow-up question. You mentioned the revenue breakdown before. Can you share the number contributed by non-academic tutoring? Additionally, could you share more details on which courses are performing the strongest?

Stephen Yang, Executive President and CFO

The numbers — I think Sisi will provide you with the revenue contribution figures for non-academic courses. Are you asking for Q1 or full-year numbers?

Hongyi Cao, Analyst

For the Q1 period.

Sisi Zhao, Host

All the new businesses together contributed roughly about 16% of total revenue. Among them, the non-academic tutoring business had the largest contribution, followed by the learning device business.

Stephen Yang, Executive President and CFO

Yes, the non-academic tutoring focuses on enhancing students' innovative abilities and comprehensive qualities. We have various subjects, including reading, programming, robot design, presentation skills, art, and sports. Currently, reading and programming are contributing slightly more revenue within all products.

Operator, Operator

Our next question comes from Lucy Yu from Bank of America.

Lucy Yu, Analyst

Two questions. First, regarding the first quarter revenue breakdown, you mentioned the new business is at 16%. How about the rest, like test prep, consulting, etc.? My second question is on the second-quarter revenue guidance. What is the breakdown of different businesses in the second quarter?

Sisi Zhao, Host

Yes. For Q1, I can provide a rough contribution. For the overseas-related business—like test prep and consulting together—they contributed roughly about 24% to 25% of total revenue. We have a new business contributing roughly about 16%, and all the adult and university student businesses and tutoring combined contribute about 55% to 57% of total revenue. The remaining other businesses mainly include online platforms and various other services.

Stephen Yang, Executive President and CFO

Okay. For our Q2 revenue guidance breakdown, the overseas-related business will contribute 20% of total revenue, the college and university students’ business will contribute approximately 16%, traditional K-12 and new businesses will account for around 40% of revenue, while the others, which include Koolearn and Dongfang Zhenxuan, will make up roughly 25% to 30% of total revenue.

Operator, Operator

Next follow-up question comes from Tian Hou from T. H. Capital.

Tian Hou, Analyst

Is the business really totally new? What is the different lines of business seasonality? Do they have different seasonal impacts?

Stephen Yang, Executive President and CFO

Most of the new business doesn’t have a significant seasonal impact. The only new business that may experience seasonality is the summer camp and research camp business, which tends to generate more revenue during summer and winter. However, by launching some weekend camps, the seasonality impact has diminished compared to before.

Operator, Operator

We are now approaching the end of the conference call. I will now turn it over to New Oriental's Executive President and CFO, Mr. Stephen Yang, for his closing remarks.

Stephen Yang, Executive President and CFO

Again, thank you for joining us today. If you have any further questions, please do not hesitate to contact me or any of our Investor Relations representatives. Thank you.

Operator, Operator

Thank you for attending today's presentation. You may now disconnect your lines.