Education sector - plagued by Unscrupulous promoters and bad corporate governance?

Investing Strategies
1

Given the huge oppurtunity which the sector presents , i decided to have a look at the listed entities in the sectors , Here are my findings so far based on some of the companies i have looked at :

Careerpoint : In private tutorial segment with good oppurtunity for growth and scale . numbers and valuations looked good at CMP, almost decided to buy then started looking at the red herring prospectus which company had filed for its IPO :

The company and the promoters seems to have been involved in quite a few litigations

Sl.No. Name of entity/person Civil case Criminal case*
1). Company 48 18
2). Promoters Directors
Mr. Pramod Maheshwari 12 1
Mr. Nawal Kishore Maheshwari 5 Nil
Mr. Om Prakash Maheshwari 2 3

Most of the civil cases/litigations are filed by consumers related to the quality of service . they are typically along the lines like changing of faculties midway through the course , services not delivered as promised etc , this i guess are par for the course for a typical services company so can be disregarded to some extent but what caught my eye is run-ins with the tax department .one excerpt below

âThe income tax authorities have carried out search and seizure operations in the premises of our Company and the residential premises of our Promoters and Mr. Shailendra Maheshwari. During these operations one of our Promoters, Mr. Om Prakash Maheshwari, inter alia, accepted unaccounted income of our Company, the Promoters and their relatives amounting to Rs. 60 million (approx.). These operations have resulted in notices being issued by the income tax authorities, service tax authorities and the RoC seeking certain clarifications and information from us. Any adverse outcome from such proceedings, may adversely affect our business, financial condition and results of operation"

*criminal cases are filed by the company against different entities

MT educare : Business looks good , company is debt free and has negative working capital ! but there are few red flags pertaining to related party transactions which company has indulged in :
MT educare has entered in to service agreement with MT Educare Charitable Trust(affiliated to promoter Mahesh shettybut not linked to the listed entity) to set up a college in managalore on land which mt educare owns but leased out to trust for 30 years to the trust . agreement seems to be loaded in favour of the trust with clauses like :
MT educare to Complete construction of the college in a tight deadline (2 years ?)
MT educare would assist in getting atleast 800 studen admission for the first academic year .

For its trouble MT educare will recieve service fee per student which is contingent upon it meeting the above conditions , if it does not meet the conditions the trust (and only the trust?)has right to revise the service fees .a good chunk of ipo proceeds (22 crore) were used for this construction . Somehow the whole deal seems fishy. Additionally , the land itself seems to be involved in litigations.

Advisory services agreement with Prosynapse Consultants, a company owned by independant directory of the company Dr. Chhaya Shastri, she owns about 5% of the company. Prosynapse is supposedly helping with the company’s growth strategies and expansion. A Fee of Rs. 76 lakh was paid for last year and advisory agreement has term of 5 years . i cant find any reference to Prosynapse except in relation to mt educare so not clear on what the company does except its association to mt educare .

Educom : i guess this is the most (in)famous one . after scaling great heights and going above and beyond bubble terroritory stock crashed .Tax raids in 2011 across most of its premises for tax evasion,Allegations of “aggressive” accounting etc. Despite recent PE infusions decided to avoid .

Everron : erstwhile Promoter/MD arrested on charges of tax evasion of 116 crores. MD and his family ousted from the board but difficult to ascertain how much of “taint” still remains. stopped exploring further after this red flag

i plan to look at tree house and other companies in the sector but somewhat discouraged by findings so far, General trend seems to be its attracting kind of promoters you normally see in real estate.

Interested in hearing everyone’s thoughts

1 Like
2

Shadab bhai - thanks a lot for sharing your study. I think you have contributed to Valuepickr spirit in true sense

3

The education industry in India is regulated and you cannot make profit (legally) from education as it is considered a noble cause and a right of every citizen.

Hence the education sector is plagued by people who use these indirect means to profit from the huge industry, mostly by way of trusts. You will find many politicians having their own family education trusts.

4

Hi,

The only education play looks to be Navneet but doubt the company does show all revenues.

Apart from that the other one to look at would be Zee Learn and Kokuyo Camlin ( an indirect ).

The best pick seems to be Zee Learn.

Regards,

Nooresh

5

Thanks Shadab for your excellent analysis.

Education sector is on my radar for long time specially Educomp [main reason most diversified listed company in education sector] but as you rightly pointed out corporate governance is the main issue which has kept me out. Other thing as rightly pointed out by Akbar, legally its not permissible to make profits from education sector in India. So the way most institute carry out their activity is to form not for profit entities to carry out main activities and all these not for profit entities will outsource the work to listed entity. Obviously there are no tenders or transfer pricing norm which are looked into. This is thestructurewhich can become a big legal issue any time or may not be.

6

Aptech Ltd may be a good stock to explore if you want to foray into the sector. It operates in an unregulated space and seems to beprofessionallymanaged.

7

Zee learn appears to be having good business prospects but question is when that growth will get translate into profits and how sustainable is the business model. Their Kidzee schools have wider reach and so is Litera Valley. Internation schools are also in their plans. Financials are not encouraging. Education is a sunshine sector and we need one quality prospect to bet on but not sure of any option at this point of time. You guys have any candidate in mind?

8

Shadab Bhai, pls have a look at Tree House Education as well. I had studied the company few months back, but couldn’t found any red flag other than low promoter holding.

9

Tree House looks like a pretty good company Rohit. Its not competing with Aptech or Zee Learn or Educomp etc. The business model is certainly interesting and innovative. Mutual Fund holding has also gone up in last quarter. The company appears to be in high growth mode, with Net Profits rising from -0.19 to 21+ crs in 5 years time frame. The business is not very capital intensive and with Franchise Model, the business can certainly grow in leaps and bounces from here…Industry awards seems to be speaking good about quality of management…but I guess the entire story looks like that of Educomp 5 years ago !

The Stock price hasn’t appreciated or fallen in past 13-14 months. Definitely a interesting stock and company to watchout for !!

10

on the other side, I see some challenges -

)- due to nature of business QoQ volume growth wont be happening, which implies the stock wont be doing much except for the last two quarters in anticipation of YoY growth. So if market corrects due to whatsoever reason, this stock is likely to bear some brunt !

)- valuations - since its working in a untapped market, the company does not have any peers to compare its valuation with. Tree house has managed to grow its bottom-line > 50% every year in past 4 years. But can it continue to do so for next 2-3 years, is a very big question. The IPO was certainly very overpriced and if it fails to deliver anything less than its past growth, the room for appreciation of share price would be very less from here, given its current valuation ( x27).

)- Treehouse has recently made a small acquisition, which should be EPS accretive from the 1st year itself ! This seems to be a fairly small acquisition and unless company acquires few more companies or inject cash to open more of its, achieving YoY growth will remain a challenge.

)- Operating Margin expansion from the current levels will also be a challenge moving forward because of increasing staff cost and difficulties in raising program fee on YoY basis, above inflation.

11

Sole reason for interest in this company is the fact that Prof. Mankekar holds almost 5% stake in the company. MT educare is in the business of providing coaching. So business perse is very simple to understand.

Please find below summary of what I like and did not like about this company. In summary, I do not think business is easily scalable.

What I did not liked

__

1). Scaling up might be a big problem. Karnataka centre launched in 2007 & Gujarat & Tamilnadu in 2008, still those centres remain very small. If it has to grow 10x in ten years, implying 25% CAGR â it has to grow itâs student at least at 15% CAGR, factoring 10% fee inflation. This will pose faculty problem, location problem.

2). As per my conversation with some visiting faculties [HYD based], coaching industry is highly over crowded industry. Its quite a localised industry and every city and district as its own HERO. A popular institute in Delhi may not be able to displace a local player very easily.

3). Eg. IN engineering one precision review[ Hyd based] displaced Narayan institute [use to be very famous for engineering in HYD] within five years of its establishment in Hyd. This shows vulnerability of existing institute and also opportunity for high quality and determined management.

4). Reputation is always at risk. Students join based on word of mouth feedback. Any goof up will have severe consequences.

5). Bargaining power of faculty remains strong. I understand generally they take % of fees, except for some new faculty members which may agree on fixed hour based fees.

6). Most of the students who do any of the professional courses, already take some coaching. Penetration per se is already strong. Company needs to take Share from existing local players.

7). One of my friends runs a pre-university college. His dad is a star teacher. He left St. Maryâs college and started his own college. St. Maryâs has to struggle for 2-3 years after his exit. Lot of students and teachers left St. Maryâs and join his dadâs college.

8). Lastly being a public necessity and currently unregulated industry, there might be a black swan of stupid govt. regulation.

What I liked

  1. Asset light model and negative working capital

  2. Core ROE and ROA are quite attractive.

  3. Top institutes have developed some brand value, risk of star teacher is coming down. For top institutes not much risk, even after star teacher leaves. Actually same trend I noticed in case of hospitals, as per my conversation with some doctors. There are some cases, where star teacher who left premium institute could not scale up due to capital constraints. [Spoke to few visiting lectures]

  4. Online delivery of content, Online teaching method.

  5. Tie up with colleges on revenue sharing basis â asset light model.

Critical questions:

  1. 2 % of revenue through online delivery of content and online teaching and other digital platform. Scalability of this model?

  2. How the visiting lecture fees is structured. Fixed or variable. It accounts for 25-26% of revenues

  3. Terms of operating lease. Is it cancellable anytime or is there any pre-payment penalty. [13% of revenues]

12

I’ve been following Treehouse for some time now. I agree with most of the stuff above, but for these:

Growth happens very strongly YoY, due to roughly 80 new schools getting added PA. But sequential growth does not happen due to the method of revenue booking. Fees are collected in advance, but those are recognized in parts every quarter. Hence the impression that there is no sequential growth.

As for valuation, it is no longer expensive. It is trading at 17XF14. After the nearly 100 new schools kick in, next year revenue growth will be close to 40%, and margins will be maintained at current high levels. As such, the stock is trading at less than 13XF15.

A business with negative working capital, pricing power, negligible variability / seasonality in revenue,free cash flow (which permits growth without accessing outside capital), the valuation should be far higher than what it currently fetches.So many consumer stocks trade at lofty valuations; I believe this is also a B2C business, with very little competition. Therefore I consider it undervalued.

13

Hi

Had a look for the first time in this sector. Mt Educare caught my attention with the share buyback of the promoter along with some good financials like negative working capital and decent ROCE numbers…Good points T Anil Kumarji…Ill take a shot at answering some of your questions

1). They have expanded to 222 locations - Are the new locations successful??? If so then there may be some proof of concept of expansion.

2). Yes it has been a fragmented industry. But question is does scale bring in some advantages. Like provide the best salaries (& stock options) in the industry attracting best local talent as they expand. Also they keep acquiring the local heroes, which have are very small so affordable

3,4,5,7. They focus on systems based teaching to rely less on star power of teachers. Plus more money means they can provide benefits to students which others cant. For eg, they have a 24 hour helpline for queries, major online thrust through robomate

6). About market penetration being high - To compensate for that I would argue that this is a recession proof industry and If we think there will be consolidation, then it might offset the loss of high penetration

8). Nothing to add here

I just tried to give your points a view from the positive side even though I agree with most myself.

Im asking myself the following questions. Would be great to have views from others

1). Do you think that Consolidation will happen?

2). Does scale have advantages

3). From whatever proof we have, does this seem a replicable model

4). Can the institution ever be the brand and not the teacher (or in other words will this systems teaching create the brand of the institution)

5). Are the leaders likely to remain the same 10 years down the line

Regards

Views invited

14

MT educare will sell the mangalore college and will take the college on lease. So they will get 70 Cr from this deal and the depreciation will go down but will be replaced by the lease.

So now if we take the past RoE of the company of 20%. They should generate 20% x 70 Cr in next year in addition to the profit they will generate from existing operations. So next years profit should be atleast = trailing year profit for past 4 quarters + 14 Cr (20% x 70)

This comes around = 20.31+14 =>34.14 Cr

Current MCAP = 340 Cr

Next years Earnings=34.14

So Leading P/E= 10 approx…

So not a bad deal.

Recently parag parikh mutual fund bought a stake in the company too.

Can read the CFO interview about mangalore college deal:

Please do correct me if I’m wrong in above calculations.

15

Thanks for sharing this update. This is a critical piece of news. At first glance I felt why they should invest in a college and sell off in a short span of time. From the CFO interview it appears that the investment was a way to show the proof of concept of their training in colleges. Recently they also signed a deal with an Andra/Telengana based institution.

If MT Educare were to actually start building and owning colleges it can be highly challenging because education is currently run on non-profit basis in India. Moreover, the capital and cost of operations of educational institutions is relatively high compared to running coaching or training centers. And ofcourse there are several regulations and university norms which people in that sector would know. Of course educational trusts make good money, but MT Edu is not suited for that model in my opinion.

I hope MT Educare focuses on its tutorial or coaching model and maintains its quality and creates a strong brand rather than expanding in to unrelated areas. Several listed education companies have been expanding in to multiple businesses and products and ultimately they accumulated debts and losses. I wont be worried if MT Edu were to grow at a slower rate and still maintains is brand equity and franchise. But if it goes the Educomp or Evveron way I think it will see a similar fate. I currently dont own the stock but planning to track and buy if the price comes down assuming there is no significant negative development in future.

16

Grandeur Peak a US based mutual fund buys 2 lacs shares of MT educare.

17

Anyone tracking MT Educare currently? How is the quality of their coaching? And the bigger question could be what’s the chances of RoboMate getting successful?

18

I track and hold MT. There is a thread on MT separately - you can check that out.