Earnings Call Transcript - EDU Q1 2021

Operator, Operator

Good evening and thank you for standing by for New Oriental’s FY 2021 First Quarter Results Earnings Conference Call. At this time all participants are in a listen-only mode. After management's prepared remarks, there will be a question-and-answer session. Today’s conference call is being recorded. If you have any objections, you may disconnect at this time. I’d now like to turn the meeting over to your host for today’s conference, Ms. Sisi Zhao.

Sisi Zhao, Host

Hello, everyone, and welcome to New Oriental’s first fiscal quarter 2021 earnings conference call. Our financial results for the periods 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, Chief Financial Officer. After his prepared remarks, Stephen will be available to answer your questions. Before we continue, please note that the 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 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, CFO

Thank you, Sisi. Hello, everyone, and thank you for joining us on the call. Although the impact of the pandemic continues to raise hurdles for businesses across the globe, we're pleased to kick off the fiscal year with a set of encouraging financial results in the first quarter of this year that are in line with our expectations. While showing signs of recovery in some of our business lines as domestic markets begin their path to normalization, total net revenue was $986.4 million, representing an 8% decrease year-over-year, which is better than we guided in the previous quarter. Net revenues from education programs and services for the first quarter were $935.6 million, representing a 6.1% decrease year-over-year. Our U-Can middle and high school all-subjects after-school tutoring business shows positive growth of approximately 9%, while our POP Kids program recorded a growth of approximately 4%. Our industry-leading OMO system has been vital in the previous quarters to ensure our service runs smoothly, and it has once again proved to be instrumental in this quarter, as it provides our operation with strong flexibility to help the vast majority of our students migrate back from OMO online classes to offline learning centers, which have gradually resumed services as the pandemic restriction measures ease. Encouraged by its effectiveness, we have put more focus on executing our OMO strategy, including piloting the OMO online courses in around 20 existing cities and attracting a promising number of new customers in the summer quarter. Total student enrollments in academic subjects tutoring and test preparation courses in the first fiscal quarter of 2021 increased by about 13.5% year-over-year to approximately 2,961,100. The lower-than-normal increase in the number of student enrollments is primarily due to the delay of the enrollment for summer and autumn classes and the shortening of summer holiday in many major cities by one or two weeks this year, as well as the delayed resumption of the offline operation in cities such as Beijing due to the re-emergence of COVID-19 cases before the summer holiday. A key highlight in this quarter is the highly successful summer promotion campaign. Despite the challenge of a shortened summer holiday, we are delighted to see the total promotion enrollments reached 1,079,000, a 31% increase year-over-year, accompanied by improved student retention year-over-year. In terms of pricing, the blended ASP, which is cash revenue divided by total student enrollment, decreased by about 10% year-over-year in dollar terms. As for hourly blended ASP, which is cash revenue divided by total teaching hours, decreased by approximately 2% year-over-year. In breaking down the hourly blended ASP, U-Can classes increased by 2%, U-Can VIP courses increased by 3%, POP Kids decreased by 1%, and Overseas test prep programs increased by 7%, all year-over-year in dollar terms. Comparing with our normal price increase of 5% to 8%, this quarter's hourly blended ASP decrease was mainly due to three reasons: firstly, a bigger decline of the overseas test prep program, which had a much higher hourly blended ASP than other programs; secondly, the piloting of promotional OMO online courses in some major cities with discounted prices in summer; and thirdly, a larger proportion of the enrollments on promotional courses to encourage students to register for more subjects. Now I would like to spend some time detailing the quarter performance across our individual business lines. As the pandemic gradually fades in China, encouraging signs of recovery have started to emerge across our business lines with a significant jump in student enrollments. Our key growth driver, K-12 after-school tutoring business, achieved year-over-year revenue growth of approximately 8% in dollar terms. Breaking it down, the U-Can middle school and high school all-subjects after-school tutoring business recorded a revenue increase of approximately 9% in dollar terms for the quarter. Student enrollments grew 23% year-over-year for the quarter. Our POP Kids program recorded a revenue increase of about 3.5% in dollar terms for the quarter, with enrollment growing by 17%. Our overseas test prep business continues to face difficult challenges due to the cancellation of overseas exams and travel restrictions, while the unpredictability of the pandemic situation in different parts of the world has led to hesitation among students to study abroad. The overseas test prep business recorded a revenue decrease of about 51% in dollar terms for the quarter, while the overseas consulting and study tour business recorded revenue decrease of about 31% year-over-year for the quarter. Lastly, our VIP personalized class business recorded a cash revenue decline of about 10% in dollar terms year-over-year for the quarter. We're pleased to see that our summer promotion strategy delivered outstanding results. We offered a low-price experience of courses for multiple subjects in about 70 cities, targeting secondary school and grade three primary school student customers before they start their new school year. The promotion was quite similar to that of last year at around RMB400. It’s very encouraging that even though we launched this summer promotion almost one month later than last year because of the huge challenge from the pandemic, our daily operation, the summer promotion remains very well received by the market. In conclusion, we have returned about 60% of the students following the promotion, which will boost the revenue and margin recovery throughout the fiscal year 2021. We do not foresee any negative impact on the promotions operating margin throughout the year. We continue to be guided by our optimized market strategy this quarter and carried out capacity expansion in cities where we see potential for rapid growth and strong profitability. This quarter we opened seven new offline training schools in cities such as Thando, Guara, Kito, and Wuhu, increasing our total square meters of classroom area by approximately 23% year-over-year, and 1% quarter-over-quarter by the end of this quarter. The slight increase is in line with our expectations, as we tend to achieve more modest growth in capacity in the first quarter of the year and ramp up our expansion efforts in the latter part of the year to prepare for recruiting more new student enrollments at the start of the following academic year. The expansion in our offline education network has also ensured that we are fully prepared for when the pandemic is over and our service can resume with a strong presence across different Chinese cities. We rolled out our dual-teacher class model for the POP Kids program in 46 existing cities, for the U-Can program in 28 existing cities, and for both the POP Kids and U-Can K-12 business in 10 new cities by the end of this quarter. We're happy to see increased market penetration in both markets we have tapped into. We also saw improved customer retention and scalability of this new model. We believe that the OMO initiatives will effectively boost the enrollment and speed up the recovery of business in the rest of the year. To capture the significant market opportunity in the online education space, we continue investing more resources into executing new initiatives in the K-12 after-school children business. During the COVID-19 pandemic, we undertook large-scale market promotion by offering online live broadcasting classes to the public, attracting several times more traffic than normal. To capture this new market opportunity, Koolearn also added a meaningful number of customer service representatives and marketing staff to support the new initiatives in K-12 tutoring. This move has raised our spending on marketing, but we believe these are necessary measures as we found ourselves in an unusual pandemic situation. Our small size classes currently enjoy significant first-mover advantages and stand to benefit from the increase in demand in larger cities. Koolearn's large size K-12 courses can offer the best-in-class learning experience through investments in upgrading the app and online platforms, introducing new education technologies, and adding more interactive features to online courses. Koolearn continued establishing teaching training centers in other locations to attract more qualified teachers and tutors to provide systematic training programs. We also dedicated a significant amount of investment to marketing and service enhancements to attract customers during the peak of the pandemic, but we expect the spending to normalize in forthcoming quarters. We will be cautious in identifying high-RIO marketing channels and evaluating their unit economics in real time to keep user acquisition costs at a relatively low level. We believe that our operational improvements, along with positive word-of-mouth promotion and brand loyalty, will enable Koolearn to continue quickly acquiring new users while enhancing the student retention rate. Now let me walk you through the other key financial details for the quarter. Operating costs and expenses for the quarter were $836.1 million, representing a 1.3% increase year-over-year. Non-GAAP operating costs and expenses for the quarter, which exclude share-based compensation expenses, were $820.2 million, representing a 0.7% increase year-over-year. Cost of revenues increased by 5.6% year-over-year to $464.9 million, primarily due to an increase in teachers' compensation for more teaching hours and higher rental costs from the increased number of schools and learning centers in operation. Selling and marketing expenses increased by 15.5% year-over-year to $116.9 million, primarily due to the addition of a number of customer service representatives and marketing staff to capture the new market opportunity, especially for new initiatives in K-12 tutoring on our pure online education platform, Koolearn.com. General and administrative expenses for the quarter decreased by 10.5% year-over-year to $254.3 million. Non-GAAP G&A expenses, which exclude share-based compensation expenses, were $242.6 million, representing an 11.3% decrease year-over-year. Total share-based compensation expenses, which were allocated to related operating costs and expenses, increased by 43.7% to $15.8 million in the fiscal first quarter of 2021. Operating income was $150.3 million, representing a 38.9% decrease year-over-year. Non-GAAP income from operations for the quarter was $166.1 million, representing a 35.4% decrease year-over-year. Operating margin for the quarter was 15.2%, compared to 23.0% in the same period of the prior fiscal year. Non-GAAP operating margin, which excludes share-based compensation expenses for the quarter was 16.8%, compared to 24% in the same period of the prior fiscal year. Net income attributable to New Oriental for the quarter was $174.7 million, representing a 16.4% decrease from the same period of the prior fiscal year. Basic and diluted earnings per ADS attributable to New Oriental were $1.10 and $1.09, respectively. Non-GAAP net income attributable to New Oriental for the quarter was $184.5 million, representing a 19.8% decrease from the same period in the prior fiscal year. Non-GAAP basic and diluted earnings per ADS attributable to New Oriental were $1.16 and $1.15. Net operating cash flow for the first fiscal quarter of 2021 was approximately $391.6 million. Capital expenditures for the quarter were $95.2 million, primarily attributable to the opening of 42 facilities and renovations at existing learning centers. Turning to the balance sheet, as of August 31, 2020, New Oriental had cash and cash equivalents of $1,047.6 million, compared to $915.1 million as of May 31, 2020. In addition, the Company had $291.8 million in term deposits and $2,778.4 million in short-term investments. New Oriental's deferred revenue balance, which is cash collected from registered students for courses recognized proportionally as revenue as instructions are delivered, at the end of the first quarter of fiscal year 2021 was $1,563.1 million, an increase of 17.5% compared to $1,330.7 million at the end of the first quarter of fiscal year 2020. Looking ahead into the next quarter and the rest of the fiscal year 2021, despite the continued challenges from the COVID-19 pandemic, we are clearer about the recovery trends of the company in the near-term financial performance and the market opportunity over the long run. Our strategic focus and investment approach this year aim at improving product quality, increasing teacher salaries, and enhancing our industry-leading system, which fully reflects our ethos of focusing on the essence of education in view of market competition and opportunities to advantage from post-COVID market consolidation. We firmly maintain a stable and balanced investment strategy that would improve the quality of our educational service, with aims to achieve sustainable and long-term growth, as opposed to unhealthy short-term growth that often requires excessive investments and higher costs to acquire customers. Therefore, we will continue to focus on the following key areas. First, we will continue to expand our offline business. We aim to add around 20% to 25% capacity, including new learning centers and expanding classroom areas in some existing learning centers for K-12 business in this fiscal year. We believe our capacity expansion will prepare us to further take market share from other players post-COVID, as we believe some smaller players without strong financial positions and online class capabilities may not be able to sustain their business during the period. We expect the industry will undergo a wave of market consolidation as the pandemic fades. The fact that we are a major player with strong financial capacity and new offline facilities enables us to further strengthen our market-leading position and penetration. Second, we will continue to leverage our investment into digital technologies and introduce our OMO system in more offline language training and test offerings, especially for the K-12 distance and overseas test prep key business. The usage of the online tools and content in our OMO system for all business lines throughout the whole network will be enhanced. To our belief, the whole online teaching experience will place more efforts to develop the best teaching content and coursework and also advance training programs for our teachers. With all the above-mentioned infrastructure in place, we will continue piloting our OMO online initiatives in some major cities with high demand and higher operational efficiency. We believe that our OMO initiatives will be one of our growth engines to increase our customer acquisition post-COVID and enable us to capture the market consolidation opportunity. This revamped new business model will also accelerate our margin recovery in the rest of the year and further expand our long-term margin targets. Here, I must highlight that all of these OMO products are supported by our offline classes, which supplement each other in a hybrid format. All the teachers, all the teaching content, coursework materials, as well as features and technologies are developed and originate from our existing offline centers and resources. This integrated system continues to broaden our customer base as we will enable us to reach students in satellite towns, as well as in cities where we have fewer learning centers catering to a diverse customer base. Furthermore, we will continue to invest in and implement new initiatives, including product development, teacher recruiting and training, R&D, as well as sales and marketing in pure K-12 after-school tutoring business through our Koolearn.com platform. Our top priority will remain focused on controlling costs and reducing expenditures across the company to minimize the negative impact from the pandemic on our bottom line. We believe we will resume the expansion of the overall non-GAAP operating margin year-over-year as COVID-19 subsides gradually. Despite facing various challenges from the pandemic, we have been increasing our investments in different strategies. We remain optimistic about the brighter prospects for our business and believe our current investments will yield fruitful returns in the long run. As the pandemic situation and restriction measures begin to ease in China, the timely reopening of schools and our offline learning centers in September will provide a significant boost for our business. We believe this will enable our recovery to gain momentum, likely reflected in our results in the coming quarters. We expect total revenue in the range of $863.7 million to $887.3 million, representing a year-over-year increase in the range of 10% to 13%. The expected top line growth for key business lines includes K-12 business, which expects to grow around 25%, while the overseas test prep program is expected to decline by 30% to 35%. The overseas study consulting and study tour business is expected to decline by 0% to 5% year-over-year in dollar terms. We expect declines in the overseas related businesses, including overseas test prep and consulting services due to the pandemic globally, with cancellation of overseas exams, suspension of overseas schools, and restrictions on travel. The negative impact on these overseas related businesses will affect the entire education industry in China, not just New Oriental, and may last over the coming two to three quarters. However, in contrast, China’s effective control over the pandemic has shed a more positive light on our domestic business. We are pleased to see that we gradually resumed our offline operations in all cities by mid-September, and the vast majority of the students in these cities have successfully migrated back to our learning centers from our OMO online classes. In conclusion, we are taking all operational actions to boost enrollments and classroom utilization for the autumn semester, and to speed up the recovery of business after the resumption of the schools and learning centers. We are confident that the demand for after-school tutoring will gradually return to normalized levels in the rest of this fiscal year. I must mention that these expectations reflect New Oriental’s current preliminary view, which is subject to change.

Operator, Operator

Thank you. Your first question comes from Tian Hou from T.H. Capital. Please go ahead.

Tian Hou, Analyst

Good evening, Stephen, Sisi. Congratulations on a good quarter and guidance in these challenging times. The question is related to margin; the gross margin on a year-on-year basis was down pretty significantly. So I wonder how much is cost by the overseas business? And going forward, what will the gross margin trend look like? Thank you.

Stephen Yang, CFO

Hi, Tian. Yeah, the gross margin was down by roughly 6% year-over-year this quarter. The first reason is that the revenue was down by 8% this quarter year-over-year. Additionally, we still raised the salaries of our teachers because we believe teacher quality is the core competence of the education business. As we did in the last several years, we've raised teacher salaries and also acquired top teachers from other smaller players during the pandemic. The rentals increased as well. During the COVID-19 period, we still expanded our capacity in areas where we felt it was comfortable to drive potential growth. The year-over-year expansion was 23% at the end of the quarter. This drove the gross margin down; however, I believe it's just a one-time effect because, as I said, our business is in the recovery process, and we have already provided guidance for Q2 where the K-12 business will increase by 25%. I truly believe that GP margin recovery will happen in the second quarter.

Operator, Operator

Thank you. Our next question comes from Felix Liu from UBS. Please ask your question.

Felix Liu, Analyst

Good evening, management, and congratulations on a good result given the challenging environment. My question is on utilization. I understand that a lot of offline classes have resumed in most cities. Could you give us some color on what the utilization is like currently? And what is the trajectory going forward? Thank you.

Stephen Yang, CFO

Yeah. Hi, Felix. It’s a little difficult for us to disclose the utilization rate because we’re still during the pandemic. For example, in our Beijing school, we opened all the learning centers in mid-September, which means we lost about 10 to 15 days in September. During the summer, some of our learning centers were not open, making it really hard to disclose the utilization right now. However, we believe the rates will increase after the pandemic is over, as our revenue growth is typically higher than our expansion plan. Therefore, we do have to leverage the learning center utilization, which is a near-term and long-term trend.

Operator, Operator

Thank you. Our next question comes from Jin Yoon from Newstreet Research. Please go ahead.

Jin Yoon, Analyst

Hi, good evening. I wanted to talk about the overseas test prep; your guidance suggests that the bottom is in terms of its improvement from last year. Can you discuss if that's the case or if we might see a seasonal head fake? My second question concerns the significant testing in Qingdao. What part of that city's revenue is relevant for us and what would be the impact if there were a second wave there? Thanks.

Stephen Yang, CFO

Hi, Jin. The overseas test prep relative decline for this Q1 was 51%. We have already given guidance for Q2 that the overseas test prep will decline by around 30 to 35%. Overall, things are gradually improving in Q2. We have seen some tests like the TOEFL and GRE starting again in various cities in China. However, the overseas test prep business will still be negatively impacted by COVID. Q1 was the worst, and I believe the recovery will occur step by step. Concerning Qingdao, we are aware of the developments there, but so far, we haven't received any notice from the government regarding surrounding schools. Our learning centers in Qingdao remain open. During peak times of the pandemic, we have the ability to shift all offline courses online. We tested the effects of this during the pandemic. I don't expect a negative impact on our revenue from Qingdao. The city is contributing a relatively small amount to our overall revenue.

Operator, Operator

Thank you. Our next question comes from Mark Li from Citi. Please go ahead.

Mark Li, Analyst

Hi. Thank you for taking my question. I want to ask...

Stephen Yang, CFO

I'm sorry, I can't hear you very clearly.

Mark Li, Analyst

Hi. Is it better now?

Stephen Yang, CFO

Hi, Mark. I can’t hear you.

Mark Li, Analyst

Hi. Is it better now? Hello.

Stephen Yang, CFO

I think the line has some problems. Try it again.

Operator, Operator

Mark, can you come closer to the mouthpiece please?

Mark Li, Analyst

Hi.

Operator, Operator

Raise your voice, okay?

Mark Li, Analyst

Okay. I just want to ask how is our FY '21 guidance? Could you share the latest guidance for the full year with us? And also our OP margin target if we haven't changed and the timing to reach that? Thank you.

Stephen Yang, CFO

Okay. Yeah, actually, we have already given the Q2 guidance of 10% to 15%. The business is not fully recovered in Q2. The Beijing school reopened in mid-September, and we expect our revenue growth in Q3 and Q4 to be better than in Q2 due to further recovery in our business and easier comparisons from last year when the COVID-19 outbreak began. We do believe our top-line growth performance in Q3 and Q4 will be better than Q2. Regarding margin guidance, we anticipate the margin decline in Q2 will continue to narrow compared to Q1. We are confident in delivering continued margin expansion after the pandemic, especially in Q3 and Q4. We do not wish to change our near-term and long-term margin guidance. Mark, is that clear?

Operator, Operator

Thank you. Our next question comes from Alex Xie from Credit Suisse. Please ask your question.

Alex Xie, Analyst

Hi, Steven. Thank you for taking my questions. My first question is about the guidance of your net quarter K-12 revenue. I noted that in the August quarter, it was very unusual that the POP Kids business was a little slower than the U-Can business. What about the next quarter? And the second question concerns the rollout of your OMO business model. I read reports that you launched the pure online and small class model in your Hangzhou school and received very positive feedback from students province-wide. Can you provide more details on that? And what's the timing for further rollout? Thank you.

Stephen Yang, CFO

Regarding your first question about Q2, I think the growth rates of the U-Can business will be a little higher than those of the POP Kids business because the U-Can business addresses a more mission-critical audience. Middle school and high school students tend to study more, especially post-COVID. As for the OMO model, we began that three years ago, particularly in our Beijing-based U-Can business. After COVID, we strengthened the development of our OMO model as almost all students took courses online during COVID. Once again, the vast majority are now returning to offline learning centers, but some students will choose online courses. We have initiated the OMO model in new cities to cater to demand. Hangzhou has been a promising case. Their school obtained significant new customer acquisition among grade 10 students from nearby areas during this first year. We’ll continue rolling out this model in more cities.

Sisi Zhao, Host

As Stephen emphasized earlier in the prepared remarks, we have piloted this OMO model in around 20 cities already and received good feedback. It continues to be a key strategy going forward.

Operator, Operator

Thank you. Our next question comes from Sheng Zhong from Morgan Stanley. Please go ahead.

Sheng Zhong, Analyst

Good evening. Thank you for taking my question. I have a question about the OMO model. I want to understand more about how you offer this OMO model. What are the key KPIs for OMO? How will you balance opening new learning centers versus pushing more OMO into these new cities, especially since you also provide pure online offerings? Thank you.

Stephen Yang, CFO

Yeah. Hi, Sheng Zhong. It’s a great question. We set up KPIs: first, traditional offline business; second, the new OMO model. The local school has to determine where we can introduce OMO first. For areas where we already have learning centers, OMO will be adopted, whereas in areas without centers or in new cities, the OMO model will be deployed first. However, the head office continues to support these different areas and cities. OMO will contribute more revenue going forward, and we don’t want to spend excessively on marketing for the OMO model. As such, I believe student acquisition costs for the OMO model will parallel those of our existing offline business.

Operator, Operator

Thank you. Our next question comes from Lucy Yu from Bank of America Securities. Please ask your question.

Lucy Yu, Analyst

Thank you, Stephen, Sisi. I’d like to ask about the dual-teacher model. You mentioned earlier that OMO would be the first choice for penetrating new cities. Is the dual-teacher model still going to be rolled out? Previously, we used the dual-teacher model to penetrate lower-tier cities. Now, what are the business model choices in new cities? Secondly, you pointed out that the dual-teacher model has shown improved profitability and retention. Could you share more numbers regarding the profitability and retention rate with the dual-teacher model? Thank you.

Stephen Yang, CFO

Going forward, the OMO model will be the primary approach we use in new cities, particularly larger areas. Nevertheless, we are still progressing well with the dual-teacher model. We continue to open it in new cities for POP Kids and U-Can programs; however, our emphasis will be more on the OMO model. The dual-teacher implementation will not cease but focus on existing students in both high- and low-tier cities. Therefore, we have two business approaches for low-tier cities: both OMO and dual-teacher models.

Operator, Operator

Thank you. Our next question comes from Alex Liu from China Renaissance. Please go ahead.

Alex Liu, Analyst

Thanks, Stephen, for taking my question. First, regarding teacher compensation, how should we consider the trajectory of teacher compensation increases going forward, especially since some online players are relatively aggressive regarding teacher pay? Secondly, considering the strong summer enrollment growth, could you share any specific reasons behind this trend or any patterns observed? How much of the growth could be attributed to smaller players exiting the market? Thank you.

Stephen Yang, CFO

Regarding teacher salary increases, we raise salaries by 8% to 9% annually, even during the challenges presented in COVID-19. Teacher pay increases are unlikely to drive the margin down; rather, I believe that compensating teachers more fairly will result in better quality feedback from customers, leading to greater utilization rates and revenue. As for the summer enrollment growth, during the spring semester, we met challenges acquiring new customers due to COVID-19 restrictions limiting our ability to meet students and parents face-to-face. However, by summer, most centers reopened, allowing us to provide face-to-face study advice to parents and students. In terms of the competitive landscape, we recognize that some smaller players have exited the market, presenting an excellent opportunity for large players like us to capture additional market share following COVID-19. Enrollment and revenue numbers surged significantly in the second half of July, leading us to forecast a 25% increase for K-12 business growth in the second quarter, with Q3 and Q4 trends expected to improve.

Operator, Operator

Thank you. Our next question comes from DS Kim from JPMorgan. Please ask your question.

DS Kim, Analyst

Hello, sir. Hi, Sisi, congrats on a good set of results and very good guidance. Actually, most of my questions have already been answered, so I can just follow up on the OMO model. When you say this new piloting OMO, are you talking about pure online, localized curriculum classes? If so, what’s the size of each class ASP gap with similar offline courses and are there any differences in offering, e.g., weekdays versus weekends or short term versus standard courses?

Stephen Yang, CFO

We define the new OMO model as versatile. There are three main aspects: the large classes, which are primarily online and can be 20% to 30% lower priced than our conventional classes. The second aspect is hybrid classes integrating online and offline elements. Lastly, we offer specific short-term courses aimed at new student enrollment. We utilize reputable teachers to conduct these classes. Therefore, we have three models: traditional large classes, the hybrid OMO classes, and short-term courses. OMO is still in its early stages but is progressing favorably. I'll provide more information in future earnings calls.

Operator, Operator

Thank you. Our next question comes from Tommy Wong from China Merchant Securities. Please go ahead.

Tommy Wong, Analyst

Hi. Thank you, management and Stephen, congrats on the strong results. Just a quick question regarding the secondary listing in Hong Kong. Potentially, we may need more funds to compete in the online space, seeing how other competitors are finding it challenging financially. What are your thoughts on whether a secondary listing could provide the necessary funds to compete more effectively? Thank you.

Stephen Yang, CFO

We are not in a position to comment on a secondary listing at this time. As I mentioned, our strategic focus and mid-to-long-term investment approach aim at improving product quality, increasing teacher salaries, and enhancing our system, reflecting the essence of education. The market exhibits substantial opportunities, particularly post-COVID. We firmly believe in maintaining a stable and balanced investment strategy and aim to avoid over-spending on marketing to achieve short-term growth.

Operator, Operator

Thank you. Our next question comes from Liping Zhao from CICC. Please go ahead.

Liping Zhao, Analyst

Hi, Stephen, thank you for taking my questions. Can you discuss your capacity expansion plan? How do you expect the impact of the pandemic to affect your capacity expansion plan, particularly for your K-12 business? Is there a chance we could see an accelerated expansion during this market consolidation? Thank you.

Stephen Yang, CFO

We aim to add around 20% to 25% new capacity in fiscal year 2021, as we expected last year with a plan of 20%. Ultimately, we opened 26%. This year, we've made the same plan and believe it’s a great opportunity to capture additional market share, especially with the OMO model. Our capacity expansion and OMO model will bring us in touch with new customers throughout this fiscal year. Our strategy for expansion remains stable.

Operator, Operator

Thank you. Our next question comes from Felix Liu from UBS. Please go ahead.

Felix Liu, Analyst

Thank you. Just want to follow up on our deferred revenue balance. The growth in deferred revenue seems notably stronger than our Q2 revenue guidance; can I know the reason behind this? Thank you.

Stephen Yang, CFO

The growth in deferred revenue is primarily due to the pandemic phase in China, especially during the summer. Once again, starting in the second half of July, we saw surging revenue and enrollment numbers driven by effective actions we’ve taken. High deferred revenue during this quarter end indicates that we’re still in recovery mode but expect to achieve higher enrollment and top-line growth in Q3 and Q4, particularly in K-12 business. We believe that our efforts are resulting in market share gains from smaller players and that higher student retention rates are likely in the future due to our long-standing investment in quality products.

Operator, Operator

Thank you. We are now approaching the end of the conference call. I will now turn the call over to New Oriental’s CFO, Mr. Stephen Yang for his closing remarks.

Stephen Yang, CFO

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

Operator, Operator

Thank you. Ladies and gentlemen, that does conclude our conference for today. Thank you for participating. You may all disconnect.