New Oriental Education & Technology Group Inc. — FY2016 Form 20-F
Period note: The supplied filing is an annual report for the fiscal year ended May 31, 2016, not a 2015 Q4 filing. Unless stated otherwise, financial amounts below are in U.S. dollars.
Business context and reporting period
New Oriental provides education services in China, including K–12 tutoring, language training and test preparation, schools, online education, educational content, and overseas-study services. It reported under U.S. GAAP. Its fiscal-year revenue was concentrated in language training and test preparation, which represented 83.8% of total revenue in FY2016.
Key financial metrics
| Metric | FY2016 / May 31, 2016 | Prior comparable period |
|---|---|---|
| Net revenue | $1.478 billion | $1.247 billion in FY2015; up 18.6% |
| Operating income | $198.8 million | $153.5 million in FY2015 |
| Net income | $225.3 million | $192.7 million in FY2015 |
| Net income attributable to New Oriental | $224.9 million; diluted EPS $1.43 | $193.0 million; diluted EPS $1.23 |
| Operating cash flow | $517.9 million | $374.1 million in FY2015 |
| Investing cash flow | $(309.7) million | $(173.4) million in FY2015 |
| Financing cash flow | $5.5 million | $(44.3) million in FY2015 |
| Cash and cash equivalents | $709.2 million | $531.3 million at May 31, 2015 |
| Total assets / total liabilities | $2.355 billion / $920.2 million | $1.952 billion / $727.7 million at May 31, 2015 |
Calculated from reported figures, gross margin was approximately 58.5% in FY2016, versus 57.8% in FY2015; operating margin was approximately 13.4%, versus 12.3%; and net margin was approximately 15.2%, versus 15.5%. The filing does not present these margin percentages directly. Current assets were $1.869 billion and current liabilities were $918.2 million, for a current ratio of approximately 2.0. The filing lists no separate material borrowings or debt balance; verify debt and financing obligations against the complete statements and notes.
Cash and cash equivalents, term deposits, and short-term investments totaled about $1.615 billion at year-end. Short-term investments were $819.2 million. Operating cash flow benefited in part from a $179.6 million increase in deferred revenue, reflecting advance course-fee receipts. Investing outflows included purchases of investments and $64.4 million of property and equipment. The company reported $547.0 million of future operating-lease payments, including $149.3 million due within one year.
Material changes versus FY2015
- Revenue grew 18.6%; educational programs and services rose 18.7%, with language and test-preparation revenue increasing to $1.239 billion. Management attributed growth mainly to higher enrollments, which increased from about 2.9 million to more than 3.6 million.
- Operating expenses increased 17.4%. Cost of revenue rose 16.7%; selling and marketing rose 5.0%; general and administrative expenses rose 24.5%, including higher personnel and operating costs.
- Operating income increased 29.5%, while attributable net income increased 16.5%. Income-tax expense rose 43.1%, and the effective tax rate increased to 14.04% from 11.89%.
- Operating cash flow rose to $517.9 million. Year-end cash increased by $177.9 million, despite a $35.7 million negative effect from foreign-exchange movements.
- The company recognized a $3.8 million gain from selling 51% of Dianshijingwei and deconsolidating it. It also reported a $72.5 million foreign-currency translation loss in other comprehensive income.
- It paid a previously declared special dividend of approximately $62.7 million in October 2015. Xuncheng Network received outside investment and was partially sold to employees and a Tencent affiliate; New Oriental retained control.
Outlook, commentary, risks, and unusual items
- Management said current cash and expected operating cash flow should cover anticipated needs for the foreseeable future, and planned continued network expansion, particularly in higher-growth cities. The filing provides no numerical earnings or revenue guidance.
- Growth depends on enrollment, course fees, teaching quality, and retaining qualified teachers. The company cited intense competition, seasonal enrollment patterns, and the risk that smaller classes may pressure margins. It reported average short-term class size of about eight students in FY2016, compared with about 30 in FY2009.
- Substantially all education operations are conducted through variable-interest-entity contractual arrangements. The VIEs generated 97.7% of FY2016 revenue and represented 93.7% of consolidated liabilities. Changes in PRC law or difficulty enforcing those contracts could impair control, access to cash, or consolidation.
- The 2015 draft PRC Foreign Investment Law could affect VIE structures, but its final content and implementation were uncertain at the filing date. Private-education rules, operating permits, tax preferences, foreign-exchange controls, and dividend-transfer restrictions also pose risks.
- Revenue and operations are geographically concentrated: Beijing, Shanghai, Xi’an, and Wuhan contributed approximately 39.2% of FY2016 revenue. Currency movements are material; the company recorded a large translation loss in FY2016 and did not hedge foreign-currency exposure.
- The filing describes ordinary-course litigation and past intellectual-property claims. Management said it knew of no current proceeding likely to have a material adverse effect; the financial statements disclose lawsuits for which loss was not considered probable and for which a loss range could not be estimated.
- Related-party items include $7.1 million of rent accrued to a company owned by the chairman and non-interest-bearing loans to investees. A $1.0 million loan to one investee was fully written off in FY2016.
- Deloitte issued an unqualified opinion on the financial statements and internal controls, which management and the auditor assessed as effective at May 31, 2016. The filing nevertheless notes that the China-based auditor was not then subject to PCAOB inspection.
Most important facts for investors to verify
- Confirm the correct period: this is FY2016, not 2015 Q4; obtain quarterly results separately for a quarter-specific comparison.
- Reconcile enrollment growth and revenue growth with pricing, course mix, refunds, deferred revenue, and the timing of course delivery.
- Assess whether operating cash flow remains strong when separating recurring cash generation from advance tuition collections and working-capital changes.
- Review investment portfolio composition, counterparties, liquidity, valuation assumptions, and the $819.2 million short-term investment balance.
- Track VIE enforceability, regulatory developments, cash transferability, tax incentives, and the ability of PRC entities to remit funds to the offshore parent.
- Evaluate lease commitments, expansion spending, related-party transactions, and the effect of higher administrative costs and taxes on margins.