MT Educare: A class apart - Buy

The case for good defensive bets on the Indian education space has always existed. With a young demographic and increased graduate enrolment ratio, the competition for higher education is intense; this coupled with higher disposable income are great growth triggers for testing service providers. And with the Budget’s spotlight on digital education, autonomous testing agency and push for higher education, the sector is likely to see better prospects.

That said, listed players in education services have not been able to deliver exciting performance in revenue or earnings traction. Among the few players in this space, not many have been able to pass with flying colours.

One good bet is MT Educare (Educare), a coaching services provider. The company has established a good brand image and offers services to over 1.5 lakh students per year, thanks to growing demand for competitive exam coaching. It operates 174 centres, spread over 13 states. Revenue is from coaching for engineering, MBA entrance and CA exams. The business is asset-light and generates a high return on capital employed (RoCE) of 19 per cent.

The stock had a good run in the past, aided by good revenue and profit growth. Things seemed to have slowed in 2016. Revenue growth, which averaged over 20 per cent annually in the last four years, is slowing — revenue grew only 8.6 per cent in the first half of 2016-17. Earnings growth, which averaged over 20 per cent in the past, was also flat in the same period. There are concerns that growing competition in the space may dampen revenue and margin prospects.

The stock witnessed a sell-off in the last few months and the current stock price of ₹127 discounts the company’s trailing 12-month earnings by 16 times. This is close to the average earnings multiple of 18 times the stock had traded in the last three years.

Investors can use the current muted sentiment to buy the stock with a long-term view. Educare’s fundamental growth drivers remain strong and it has a strong balance sheet to support growth. It plans to raise funds to the tune of about ₹150 crore for its growth. Educare’s digital initiatives will boost its long-term prospects. The company’s small market capitalisation of about ₹520 crore, however, makes it a candidate suitable only for those with a high appetite for risk.

Educare earns revenue from its various coaching classes. About half the revenue comes from offering training to students in 9-12 grades. IIT-JEE coaching contributes the next largest share, followed by CA coaching.

In the first half of 2015-16, the company added 13 new centres, taking the total number of centres to 174. In this period, the number of students tutored increased by over 7,000 compared with the same period a year ago. Educare coached over one lakh students in the first half of 2016-17. New centre additions have been outside Maharashtra, which should help reduce geographic concentration risk.

In the first half of 2016-17, the number of students tutored in the school segment slipped about 10 per cent but revenue inched up 1 per cent. This indicates likely higher revenue per student, which is a positive. In the science segment, the revenue per student dipped, perhaps due to high competition, but more students were added, aiding stable segment revenue.

The company’s Robomate product, launched in December 2015, offers digital teaching, both online and through tablets. Educare is partnering with local coaching classes in tier-III and tier-IV towns in Maharashtra and Gujarat for sale of the software to their students. Robomate, being digital, is highly scalable and should drive expansion as well as revenue and profit growth.

Educare has tied up with 22 pre-university colleges to provide coaching for engineering and medical entrance exams. It plans to expand such tie-ups to 30 colleges in two years. It is also expanding its CA video classrooms in South India through a franchisee model.

Educare’s operating margin has been stable at about 20 per cent in the last few years. Net profit margin has lingered at about 10-11 per cent. There are concerns that margins may come under pressure on growing competition in the coaching business. For instance, many private players have raised venture funding and there may be price pressure. But given Educare’s fund-raising plans, growth potential and the company’s established presence in key markets, it is relatively well-placed to hold its pricing.

In the first half of 2016-17, operating margin improved to 21.3 per cent, up from 20.6 per cent in the same period last year, as revenue increased and costs were kept under control. Operating profit increased 12 per cent Y-o-Y in this period, but higher interest and depreciation expenses led to flat net profit. In the future, better margins in its digital product sales and lower interest rates should aid margin.

For 2015-16, Educare’s revenue was ₹287 crore, up 26.5 per cent Y-o-Y. Net profit was ₹26 crore, up 25 per cent Y-o-Y (after adjusting for change in depreciation policy).

The business is asset light and has negative working capital, as the company receives fees in advance. These positives have helped the company scale operations with nearly no debt.

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