Sunlands Technology Group: FY2019 Form 20-F Summary
Reporting period: Fiscal year ended December 31, 2019. The filing is an annual Form 20-F and does not provide a separate 2019 fourth-quarter results presentation. Financial statements are prepared under U.S. GAAP, with RMB as the reporting currency; U.S. dollar amounts are convenience translations.
Business context
Sunlands provides online post-secondary and professional education services in China, primarily through live-streamed and recorded courses, virtual learning communities, educational content and student-support services. Its largest offering is preparation for China’s Self-taught Higher Education Examination, or STE. Operations are conducted substantially through PRC subsidiaries and consolidated variable interest entities under contractual arrangements.
- Students increased from 1,025,959 in 2018 to 1,039,733 in 2019.
- New student enrollments declined from 526,014 to 363,013, reflecting softer marketing tactics and greater focus on student-acquisition cost efficiency.
- STE courses represented approximately 80.5% of net revenue, 75.1% of gross billings and 75.4% of new enrollments in 2019.
Financial and operating metrics
| Metric | 2018 | 2019 | Change |
|---|---|---|---|
| Net revenue | RMB1,974.0 million | RMB2,193.9 million (US$315.1 million) | +11.1% |
| Gross profit | RMB1,643.6 million | RMB1,797.6 million (US$258.2 million) | +9.4% |
| Gross margin | 83.3% | 81.9% | Down 1.4 points |
| Operating loss | RMB1,028.9 million | RMB459.7 million (US$66.0 million) | Narrowed 55.3% |
| Net loss attributable to Sunlands | RMB927.0 million | RMB394.8 million (US$56.7 million) | Narrowed 57.4% |
| EBITDA, non-GAAP | RMB969.4 million loss | RMB401.4 million loss (US$57.7 million) | Loss narrowed |
| Gross billings, non-GAAP | RMB3,214.4 million | RMB2,358.5 million (US$338.8 million) | Down 26.6% |
| Net loss per ordinary share | RMB147.27 loss | RMB57.81 loss (US$8.30 loss) | Loss per share narrowed |
Margins, expenses and unusual items
- Cost of revenue increased 20.0% to RMB396.3 million, primarily because insurance-related costs rose from RMB8.6 million to RMB66.0 million following the expansion of bundled tuition-refund insurance services.
- Sales and marketing expense decreased 16.7% to RMB1,792.3 million. Marketing spending was RMB947.6 million, and the marketing-effectiveness ratio increased to 38.8% of gross billings from 29.1% in 2018 because gross billings declined faster than marketing spending.
- General and administrative expense decreased 18.1% to RMB363.3 million, while product development expense increased 33.8% to RMB101.7 million as Sunlands invested in course content and technology.
- Refund payments increased to RMB345.9 million from RMB276.4 million. The company expanded eligibility for refunds on undelivered courses from seven days after enrollment to the entire service period beginning in June 2019.
- Student-loan coverage declined to 70.4% from 78.3%. Sunlands paid RMB118.0 million of student-loan interest to third-party credit providers, compared with RMB159.9 million in 2018.
Cash flow, liquidity and debt
| Metric | 2018 | 2019 |
|---|---|---|
| Operating cash flow | RMB180.5 million provided | RMB533.5 million used |
| Investing cash flow | RMB1,186.7 million used | RMB729.5 million provided |
| Financing cash flow | RMB1,587.3 million provided | RMB64.2 million used |
| Cash and cash equivalents | RMB1,248.8 million | RMB1,402.2 million (US$201.4 million) |
| Short-term investments | RMB1,028.6 million | RMB217.6 million |
| Deferred revenue | RMB3,286.0 million | RMB3,228.8 million |
- Operating cash flow turned negative primarily because deferred revenue decreased RMB57.3 million and deferred costs increased RMB121.7 million.
- Investing cash flow benefited from RMB2,905.8 million of maturities of short-term investments, partly offset by RMB2,108.8 million of purchases.
- Capital expenditures fell to RMB25.5 million from RMB518.4 million.
- Total debt at year-end was RMB225.6 million, consisting of RMB32.5 million current and RMB193.1 million non-current debt. The debt comprises mortgage loans for buildings, with maturities of approximately eight years.
- Negative working capital was RMB195.4 million at December 31, 2019, largely because of deferred revenue. Management stated that existing cash and anticipated operating cash flow were expected to cover requirements for at least the next 12 months.
- Operating lease commitments totaled RMB974.4 million, and investment commitments totaled RMB34.8 million.
Material changes versus 2018
- Revenue increased despite a 26.6% decline in gross billings, reflecting revenue recognition over the service periods of previously sold course packages.
- New enrollments declined 31.0%, while the reported student base grew modestly.
- Operating and net losses narrowed substantially following lower sales and marketing and general and administrative expenses.
- Operating cash flow deteriorated from positive RMB180.5 million to negative RMB533.5 million.
- Gross margin declined because cost of revenue grew faster than revenue, particularly due to tuition-refund insurance costs.
- The company adopted ASC 842 lease accounting in 2019, recognizing RMB560.2 million of right-of-use assets and RMB607.2 million of lease liabilities at adoption; the filing states that adoption did not materially affect earnings or cash flows.
- The company repurchased 1,297,363 ADSs, equivalent to 51,895 Class A ordinary shares, for RMB30.8 million in 2019.
Guidance, outlook and management commentary
The filing does not provide numerical revenue, earnings or enrollment guidance. Management intends to broaden course offerings, expand master’s-degree-oriented programs, improve the social and interactive learning experience, and invest in artificial intelligence and other technology. Management also expects continued investment in course content, technology infrastructure and student acquisition, with no assurance of near-term profitability.
COVID-19 subsequently caused the PRC Ministry of Education to postpone the STE exam originally scheduled for April 2020. Sunlands adjusted course service periods to accommodate the rescheduled exam. The filing states that the duration and financial impact of the disruption could not reasonably be estimated at the reporting date.
Principal risks, contingencies and governance matters
- Sunlands had a history of substantial losses, negative shareholders’ equity of RMB738.4 million at year-end 2019 and negative operating cash flow in 2019.
- The company’s education operations rely on VIE contractual arrangements because of PRC foreign-ownership restrictions. Regulatory changes or challenges to the arrangements could impair control, access to economic benefits or consolidation of the VIEs.
- Several licensing and compliance matters remain uncertain, including private-school operating permits, Internet Publishing Licenses, audio-visual transmission requirements, live-streaming filings and teachers’ licensing requirements. The filing states that the company had not received penalties for these matters as of the filing date.
- Refund obligations and disputes may increase following the broader refund policy. Refund liability was RMB128.5 million at December 31, 2019.
- Student-loan financing creates exposure to interest costs, credit-provider availability and student demand for installment payment plans, although Sunlands generally does not guarantee loan principal repayment.
- The company depends heavily on STE courses and faces competition, student-acquisition cost pressure, possible reputational damage, data-security risks and dependence on online infrastructure and faculty.
- A securities class action filed in June 2019 alleges material misstatements and omissions in the IPO registration statement. The company filed a motion to dismiss in March 2020 and stated that potential loss could not be estimated.
- The company does not maintain business liability, business interruption or property insurance covering its operations.
- Control is concentrated through a triple-class share structure. Class A shares carry one vote, Class B seven votes and Class C ten votes; insiders collectively held approximately 84.8% of voting power as of the filing date.
- The auditor is located in China and was not subject to PCAOB inspection at the time of the filing.
- The company does not expect to pay dividends in the foreseeable future.
Most important facts for investors to verify
- Whether gross billings and new student enrollments stabilize after the 2019 marketing pullback, and whether revenue growth remains supported by deferred revenue rather than new sales.
- Whether operating cash flow returns to positive levels and whether the cash balance remains sufficient while the company continues to report losses.
- The sustainability of the lower sales and marketing expense base and the effect of the 38.8% marketing-effectiveness ratio.
- Actual refund rates, refund liability trends and the financial effect of the expanded refund policy.
- Regulatory developments affecting private-school permits, online publishing, audio-visual content, teacher qualifications and the VIE structure.
- The status and potential exposure of the securities class action and any other litigation.
- Whether STE exam postponements and COVID-19 disruptions affect enrollments, course completion, revenue recognition and cash collections.
- The liquidity and transferability of cash held by PRC subsidiaries and VIEs, including restrictions on dividends and cross-border remittances.