RYB Education, Inc.
Q4 2018 Earnings Call Transcript

Published: 21 Mar 2019

[Operator:]

Welcome ladies and gentlemen. Thank you for standing by for RYB Education Inc.’s Fourth Quarter and Full Year 2018 Earnings Conference Call. At this time, all participants are in listen-only mode. After management’s prepared remarks there will be a question-and-answer session. Today’s conference call is being recorded. Now I would like to turn the call over to your host, Ms. Serena Xue, Investor Relations Manager for the company. Please go ahead Serena.

[Serena Xue:]

Thank you, Keith [ph]. Please note 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, the company’s actual results may be materially different from the views expressed today. Further information regarding these and other risks and uncertainties is included in the company's Annual Report on Form 20-F for the fiscal year ended December 31, 2017 and other filings as filed with the U.S. Securities and Exchange Commission. The company does not assume any obligation to update any forward-looking statements except as required under applicable law. During today’s call, management will also discuss certain unaudited non-GAAP financial measures for informational purposes only. The company’s press release for the 2018 fourth quarter and full year earnings contains a reconciliation of the unaudited non-GAAP measures to the unaudited most directly comparable GAAP measures. As a reminder, this conference is being recorded. A webcast replay of this conference call will be available on the company’s corporate website at ir.rybbaby.com. On today’s call is Ms. Yanlai Shi, Co-founder, Director and Chief Executive Officer of the company; and Ms. Ping Wei, Chief Financial Officer of the company. I will now turn the call over to Ms. Shi. Please go ahead.

[Yanlai Shi:]

In many respects, 2018 was a challenging year for our company and our industry. But our fourth quarter results demonstrate the early benefits of us staying focused, making enhancements to the security and safety of our children and our dedication to our core mission of providing high quality individualized and age appropriate care and education. Reflecting on 2018, our decisive investments in raising teachers’ pay, further improving teachers’ training, enhancing the security and safety of our facilities through setting up a comprehensive surveillance system, establishing safety inspection and monitoring systems and making our facilities more transparent by inviting parents in to participate in our daily operations, all helped in regaining parents trust and confidence in us, even though these initiatives did have some impact on our short term margins. Furthermore, quite a few new policies and regulations relating to kindergarten and private education in general were released in 2018. In alignment with his policy environment and our earlier decision to suspend the franchising of our kindergarten operations, we refined our operation structure and related business units. These not only better reflect our company’s strategies for long term success, but also helps us stay best positioned to work with related government authorities in support of policies that aim to ensure quality early childhood education remains affordable and accessible to families. After these adjustments, we now focus our growth in five key areas; play-and-learn centers, directly operated kindergartens, kindergarten related management services, earlier child care and education for children 0 to 3 years old, and other new initiatives. We ended 2018 with 1096 franchise play-and-learn centers or PLCs in operation and another 234 pipeline franchise contracts yet to commence operations. Our focus for the year was to help our franchisees to improve their operations through training and more operational support. To enhance such support, we combined our business development teams, made office franchisee operation team, supervision and support team and channeled distribution team into one business unit so that all functions can work seamlessly together to provide better support and service. The new BEO [ph] is headed by a newly hired VP with a proven track record in running successful franchise operations previously as our franchisee and with his dedication and passion for education. With the enhanced operational support and training capabilities towards the end of the second quarter of 2018 we resumed accepting new applications for play-and-learn centers and a new revenue sharing model subject to a minimum fixed fee. This new model was implemented for all new franchise contracts started at or at the beginning of July and existing franchisees have the option to voluntarily convert to the new model. This new model has been well received by the market. By the end of 2018 dozens of existing franchisees have opted to switch to the new model and over 100 new contracts were signed in 2018. We believe that the series of quality improvement initiatives, organizational changes, and our new revenue sharing model will ensure we deliver best-in-class and differentiated service across regions and help solidify our leading position in the play-and-learn center market. In addition, we expect this new model to increase our annual fee level in 2019 as we expect several sizable franchise facilities will be operating under this new model by the end of 2019. And our operations update for kindergarten, we ended the fourth quarter with 23,627 students as compared with 21,684 students as of December 31, 2017. Net revenues from directly operated kindergartens increased by 18% from the same period of 2017. We firmly believe in providing high quality, differentiated, early childhood education in China and support government policies in making kindergarten education high quality affordable, accessible and safe. We took decisive step at times proactively to adjust our kindergarten operations according to this regulatory requirement for greater social benefit. As we enter 2019 we’ll continue to make policy related adjustments to some of our directly operated kindergartens. This could impact our near term margins; however, we remain fully committed to investing in differentiated premium quality kindergarten services for our children as we believe such investments will pay off in the longer term. The early childhood education market in China is still large and growing. It is still highly fragmented and in very early stage of development. We believe in the demand for quality content and services and look to further grow our businesses through providing excellent [ph] kindergarten curriculum support, management support and other services. We have suspended accepting new kindergarten franchise applications; however, we continue to enhance our support, services, and supervision for our existing franchisees to ensure the security of children and their care and the quality of education. In addition, we started to offer our expertise in kindergarten education through our modified management services model. Under this model, we provide Intel Inside type of employment solutions to third-party kindergarten operators by offering them curriculum, curriculum related training and product, quality supervision, management advisory services without giving them the use of our brand name; rather, we allow them to advertise the use of our solutions, courses and standards. Furthering this growth model, in December last year we entered into a definitive agreement to acquire the controlling interest of a Shanghai based education services company backed by a century old leading U.S. education company that specializes in R&D and distribution of educational sports solutions, devices, and supply and teacher training. The existing products and curriculum offerings synergize well with our years of experience delivering services to our kindergarten franchisees. We also joined forces with a team of well respected professors in the early childhood education industry from one of the renown universities of education in China to further develop a series of specific and dedication curriculum that fully utilized the existing array of educational toys and tools. We expect these new growth initiatives to develop well and together with our franchise operations contribute healthily to our overall revenue growth. In late 2017 we started a pilot project to offer care and education services to children from 0 to 3 years old extending our full time care and education services for children starting from 3 years old to include children from infancy. This is an underserved market with huge demand and it is speculated that making earlier care and education available to young parents could improve birth rate in China. There were few regulatory requirements in this area until very recently when government authorities in Shanghai in addition to a few other provinces and cities in China released regulations and detailed planning guidelines for this segment. Recently we advanced this pilot project by acquiring an early childhood care and education center in Shanghai to serve as our first showcase facility serving children in the 0 to 3 year old range. We will leverage our operation in this facility to fine tune our curriculum, care, and service centers, SOPs and systems, as well as facility set up and maintenance centers. We expect this new initiative to affect our margin this year, however we are confident that with the experience and expertise we have gained serving the kindergarten sector we are well positioned to expand in this hugely promising segment and unleash new growth potential for the coming years. Subsequent to year end in 2018 we entered into a definitive agreement to acquire approximately 70% of a leading Singapore based private childhood education group for approximately RMB125 million in cash. In addition to healthy financial performance, an easily expandable model, and a high quality management team, this Singaporean company features a well developed, comprehensive, bilingual English-Chinese curriculum based on the multiple intelligences theory with an increased [ph] base learning approach. Such curriculum has already been adapted to the China market through the Company’s presence in China. These acquisitions will not only provide us with high quality, mature, bilingual curriculum that can be easily added to our existing curriculum offerings, but will also provide us with a training ground for our existing faculties and principles as well as the opportunity for a multi brand expansion in China. We intend to use the acquired educational content and brands to further expand our presence in international kindergarten market while maintaining the company’s healthy growth in Southeast Asia in line with our multipronged growth strategy. In addition to various acquisitions and collaborations we announced last year or discussed here, these acquisitions further expand our brands and services offerings to a wider audience, and strengthens our competitive position in the international kindergarten market. As such, while RYB is still a brand for our core kindergarten and PLC business lines, it no longer is an entirely suitable umbrella for the group company. This year we intend to change our group company name to GEH Education subject to future approval by company’s shareholders meeting. With that, I will turn it over to Ms. Wei to provide details of our fourth quarter financial results and select highlights of our full year 2018 performance.

[Ping Wei:]

Thank you Grace [ph], and Serena. Please see our [indiscernible] press release for more complete discussions about our financial performance. I will only provide some highlights so we can have some more time for Q&A. For Q4 of 2018 net revenues exceeded our expectations and we returned to profitability in the fourth quarter on a non-GAAP basis. Our streamlined business operations, new initiatives, and recent investments to diversify revenue streams and secure long term success as Grace [ph] mentioned earlier, have positioned us well as we enter 2019. But let me first start with a review of the fourth quarter and then move to full year results. Grace [ph] will provide the outlook for 2019 at the end. Net revenues for the fourth quarter of 2018 increased by 15.2% to $45 million from $39.1 million for the same quarter of 2017 as low services revenues and products sales revenue increased. For service revenues the increase was primarily due to an increase in the number of students enrolled in our directly operated kindergartens and increased tuition fees due to a student-mix shift. The increase was partially offset by the decrease in franchise services revenues related to the suspension of the kindergarten franchise program, a temporary suspension of our play-and-learn franchise expansion during the first half of 2018, as well as lower revenue generated from existing franchisees due to a one-off fee reduction for part of 2018. Product revenues increased primarily due to the delivery of products related to new courses offered to our franchisees and an increase in the amount of merchandise sold through our franchise network. Cost of revenues for the fourth quarter of 2018 was $37.1 million, a 17.5% increase from $31.6 million for the same period of 2017. Cost of revenues for services for the fourth quarter was $33.6 million, compared with $29.3 million for the same quarter of 2017. The increase was primarily due to a planned increase in staff compensation at our directly operated kindergartens and higher operating cost, such as rental and material consumptions as the company continued to moderately expand its kindergarten facilities network. Cost of products revenue for the fourth quarter of 2018 was $3.5 million, compared with $2.3 million for the same quarter of 2017. The increase was generally in line with the increase in products revenue. Gross profit for the fourth quarter of 2018 was 17.6% compared with 19.1% for the same quarter last year primarily due to decreased franchise fee revenues and the planned increase in staff compensation and operating costs at directly operated kindergartens. Total operating expenses for the fourth quarter of 2018 were US$8.0 million, comparable with $7.6 million for the same quarter of 2017. Excluding share-based compensation expenses, operating expenses were $6.8 million, an increase of 13.3% from $6 million for the fourth quarter of 2017. Operating loss for the fourth quarter of 2018 was $0.1 million, compared with $0.2 million for the same quarter last year. Adjusted operating income was $1.1 million for the fourth quarter of 2018, compared with $1.5 million for the same period last year. Net income attributable to ordinary shareholders of RYB for the fourth quarter of 2018 was $0.6 million, compared with $0.2 million for the same quarter of 2017. Adjusted net income attributable to ordinary shareholders of RYB, which excludes the impact of $1.2 million of share-based compensation expense and $0.7 million decrease in redeemable non-controlling interests for the fourth quarter of 2018, was $1.1 million, compared with $1.9 million for the same quarter of 2017. EBITDA for the fourth quarter of 2018 was $4.3 million, compared with $2.3 million for the same period of 2017. Adjusted EBITDA for the fourth quarter of 2018 was $5.5 million, compared with $3.9 million for the same quarter of 2017. Cash used in operating activities was $9.5 million during the fourth quarter of 2018, compared with $15 million from operating activities during the fourth quarter of 2017. The decrease in cash outflow was primarily due to the pay-out of IPO related disbursements and one-off refunds to contracted and potential franchisees in the same period of 2017. For our full year 2018 results, please refer to our press release which has distributed earlier today and is posted on the internet and on our IR website. I would like to point out that as of December 31, 2018 the company had total cash and cash equivalents of $104.1 million, compared with $158.7 million as of December 31, 2017. The decrease in cash balance was primarily driven by acquisition related payments of US$41.5 million, capital expenditures of US$11.5 million, $12.9 million of decrease in advanced payments from customers as we had a suspension of new franchise applications and some one time refunds to pipeline franchisees. The decrease was partially offset by $11.9 million of cash earnings generated in the year which basically is non-GAAP earnings plus noncash expenses. With that, I would like to turn the call back to Grace [ph] to discuss our business outlook. Grace [ph] please?

[Yanlai Shi:]

Thank you, Ms. Wei. Looking to 2019 in alignment with the evolving regulatory environment, our objective is to strike a balance between growth and profitability as well as between focus and diversification. In the play-and-learn center segment, we will continue to add new franchisees to our network while further enhancing our sales, marketing and operational support and services to our franchisees, helping them provide quality education to the families they serve and generate healthy financial returns. These will help further enhance the momentum of the play-and-learn center business development, paving way for sustained long term success with increase in the number of students and families we serve and continuous improvement in customer satisfaction. For the kindergarten segment, we remain committed to investing in differentiated premium quality kindergarten services for our children, as we believe such investments will pay off in the long term. Simultaneously we expect policy related adjustments this year through some of our directly operated kindergartens to affect this year's margin. In addition, due to the evolving policy environment, we expect slower new facility additions during the year. We anticipate a slowdown in opening new kindergarten facilities to be sure lift as we firmly believe that the demand for high quality differentiated kindergarten services remains huge. Early childhood education is still in its nascence in China and growth opportunities abound. Leveraging our core strengths in curriculum, content, research and development, teacher training and development and standardized systematic approach operations, we will invest in further expanding our education, management, services offerings and in our 0 to 3 year old care and education initiatives. We expect the former to generate meaningful revenue in 2019 with limited margin contribution, while for the latter we expect it to be loss making this year but turn profitable in 2020. This year we will also continue to attract and retain top talent, enhance our operational management abilities, and further improve our IT system to build a state-of-the-art early childhood education and services group. All of these initiatives will require additional investment. However, we will also implement very prudent cost management policies this year. As such, we expect our G&A expenses to stay relatively stable for 2019. As we solidify our position as a leading educational platform, operating in a new regulatory landscape in China, we believe our strategy of maintaining high quality standards for curriculum and safety positions us well to meet the strong demand for premium education services and will pay off for our shareholders in the long term. With this, I'll now discuss our revenue outlook for 2019. For the first quarter of 2019 the company expects net revenues to be between US$33.0 million and US$34.5 million representing a year-over-year increase of approximately 15% to 20%. For the full year of 2019 we expect net revenues to be between US$180.5 million and US$191.5 million representing a year-over-year increase of approximately 15% to 22%. This outlook is based on current market conditions and reflects the estimates of the market and operating conditions, customer demand, and a stable U.S. dollar currency environment which are all subject to change. Our outlook excludes revenue contribution from our pending Singapore acquisition. Thank you for your attention. Well now open the call to questions. Keith, please go ahead.

[Operator:]

Yes, thank you. [Operator Instructions] And the first question comes from Sheng Zhong with Morgan Stanley.

[Sheng Zhong:]

I’ll translate myself. So Grace [ph] mentioned the regulation impact in regulation last year, so I want to ask if management can add more color about what the implementation status now and what impact to company’s operation in this year? Thank you.

[Yanlai Shi:]

With the opinion and notice updates in last November and in this past January, there's been quite a lot of feedback from the society in general and from the industry. First of all, I don't think restrictive should be the right word to put on kindergarten related policies. Our government wants to make kindergarten education high quality, affordable, accessible and safe, as our policymakers believe that kindergarten education should focus on social and familial values. During the plenary session of the NPC this year, Premier Keqiang Li mentioned that the government will support kindergarten operations be it public operated - publicly operated or privately operated, as long as they meet safety requirements. Furthermore, quite a few policies and regulations relating to the kindergartens were released last year aiming at streamlining the healthy development of kindergarten services which the company supports. These aforementioned policies are in the process of being implemented. We mentioned earlier in this call some potential impact are directly operating kindergartens. And due to this regulatory landscape, our overall long term strategic objective is a balanced growth approach between focus and diversification. Specifically, with directly operated kindergartens, we'll continue our focus on quality, safety and differentiated and diversified services to meet the demand and need for high quality safe kindergarten services of multiple market segments. In addition, we work to provide curriculum, training, management and other services to fellow operators in this space and we anticipate this part to contribute to the overall healthy growth of the company. At the same time, through acquisitions and collaborations domestically and abroad we will introduce more high quality curriculum, course content, et cetera, to further enhance the quality of our teaching and services which will help become as new growth driver. The Singapore acquisition is a clear example. Earlier care and education market for 0 to 3 year old is just starting. As regulations and guidelines become clearer, we anticipate that there will be a huge demand for these services. We've started to invest in this new growth potential and expect to generate meaningful contribution in the coming years.

[Ping Wei:]

In terms of financial contributions Sheng, in 2018 as you see kindergarten - well actually you didn’t see, in 2018 kindergarten actually contributed already less than 50% of our gross margin and we actually expect such contribution to greatly decrease even more to around about 40% in three to five years time. So, you see, the remaining 60% or the majority of our margin will be coming from products and services other than directly operated kindergartens in a few years, in three to five years I would say.

[Operator:]

Thank you. And the next question comes from [indiscernible] with Credit Suisse.

[Unidentified Analyst:]

Hi, management, thank you for taking my questions. So I'd like to ask management’s expectations for the contribution from Singapore, the acquired Singapore education group in terms of revenue and profit? Thank you.

[Ping Wei:]

Okay, I'll take the question directly in English. The Singapore company has a sizeable operation with close to 20 Kindergartens in Singapore and some presence in China in addition to their other educational services offerings in Singapore and in Southeast Asia. Based on the information we know, we expect them to contribute and annualized revenue in the range of about SGD $30 million and EBITDA of about in the range of around SGD$5 million for 2018, 2019 on an annualized basis. Now, we are still in the process of closing the transaction. So the actual revenue and margin contribution for 2019 will depend on when will the transaction close and we will let you guys know when that happens. Simultaneously, the Singapore company has as Shi mentioned has a healthy growth and sort of prospect in Southeast Asia in addition to providing us great synergistic value for China market and for our RYB group. Overall, they are expecting to grow in about 10% in top line over the next few years and even better growth at the EBITDA level. Thank you, Alex.

[Operator:]

Thank you. And the next question comes from Johnny Wong with Jefferies.

[Johnny Wong:]

Hi. Good evening management and thank you for the call. Firstly, congratulations on a good solid quarter. My question comes also regards to the policy. I suspect that the policies have affected a lot of companies that have bought up kindergartens in anticipation of trying to lift them. Now do we see a lot of these companies with relatively cheap valuations coming to you for possible acquisitions and what do we think about acquiring more of these kindergartens in China if the valuations are low? Thank you.

[Ping Wei:]

Johnny, that's a very good question. First of all, yes they are cheap assets on the market. Okay, we have been approached here and there by operators and sometimes venture capital Keith with kindergarten portfolios are variable sizes et cetera, but with the opinion that was issued in November 15 of 2018, we do not think it's a good idea to sort of, to do acquisitions of that kind of a nature at this time. We would rather focus on what we do the best, providing quality education to our kindergartens in current and sort of portfolio and gradually add new kindergartens to our network organically. At the same time, as you noticed, we did a Singapore acquisition. It is possible for us to do other international kindergarten acquisitions as well as acquisitions of other types other than direct owned kindergartens in China. Now why those are also sort of attractive, we can actually use Singapore as example. Last year with the opinion we - before and after we realized that valuation required for assets, sort of that includes kindergartens came down even for international and non-China players. So that's definitely as an opportunity still for us. Now, I think also one information Johnny, I understand there maybe one new IPO in pipeline that could include kindergarten assets. It will be very interesting to see whether that will pull through. It could be a very interesting policy like a direct indicator. But right now the company will stay away from sizable kindergarten acquisitions.

[Operator:]

Thank you. And the next question comes from Jenny Tsai with BNP Paribas.

[Jenny Tsai:]

Hi, management. Thank you for taking my question. Can management share with us and let us know the government’s policy within the 0 to 3 years early childhood services in next three to five years, and when do you expect this business to turn profitable? And lastly, how long does it take for a single center to turn around or be profitable? Thank you.

[Yanlai Shi:]

I'll first introduce the policy and business environment and Wei Ping will address the financial aspects. Infant and child care is a concern related to millions of families. Premier Keqiang Li said at this year's NPC assembly. In view of the new social situation following the implementation of the two-child policy, we should accelerate the development of various forms of infant and child care services, support social forces in setting up infant care services institutions and strengthen measures for ensuring children's safety. It can be said that the current policy environment is very favorable to the earlier care and education market for 0 to 3 year old. At present several provinces and cities, such as Shanghai, have introduced guidelines related to infant care and I believe that policies in other places will be introduced in succession. We started our earlier childcare and education pilot project towards the end of 2017 and we plan to open two directly operated centers this year. In the future we will offer different services for different market segments. We’ll not only provide high end and differentiated infant care services combining health, incentives and education, we will also provide a series of services including healthcare and education system, curriculum, teacher training, supervision, standardized management system and IT infrastructure as well as decoration design for those facilities.

[Ping Wei:]

Okay, I will address the financial part. This year is a year of investment for our earlier care and education segment. So we expect to actually generate margins, sort of gross margin line a loss of close to RMB10 million, but by next year we expect the whole earlier care and education business segment to at least break even. And for this particular model, due to the flexibility in enrollment and withdraw, the early care and education business actually require very high education and service quality standards which is actually exactly our unique advantage and expertise based on 20 years of experience providing quality education and services in kindergarten and play-and-learn services. Okay? So in terms of a central model, we expect with that kind of characters of an earlier travel, care and education centers we expect a center would start to become profitable in less than two years in middle and high end, which typically will be faster than that of kindergartens. Earlier care and education center typically is much smaller in enrollment size compared to kindergarten, typically with less than 100 children all together. So the revenue and profit level of a center typically will not be very high, which makes it highly suitable for small entrepreneurs. As a result, we actually firmly believe that with that kind of a business segment the demand for curriculum, content, teacher training, management standard and services as well as IT systems or sort of total infrastructure solutions will be huge. Okay? So until we actually are very, very hopeful of the future of this segment. Thank you, Jenny.

[Operator:]

Thank you. As there are no further questions, I would like to hand the call back over to the company for closing remarks.

[Serena Xue:]

Thank you. Thank you Keith [ph] and thank you all once again for joining us today. If you have any further questions, please do not hesitate to contact us at [e-mail]. Thank you very much for your time and we hope you have a wonderful day. Thank you, Keith [ph].

[Operator:]

Thank you. This concludes the conference call. You may now disconnect your lines. Thank you very much.