CSCI-Education-China Education Group (839 HK) ：Solid acquisitions ahead - 20190116

Solid acquisitions ahead

• CEG announced it has entered into an agreement to acquire 50.91% stake of an independent college in Shandong Province with huge potential in terms of operational and financial improvement in the foreseeable future.
• The new acquisition is solid proof of CEG’s strong M&A capabilities, and in our view, the external expansion of private higher education groups is in steady progress and seemingly the regulatory changes had brought limited impact to the industry.
• We maintain our FY19E/20E earnings forecasts and PT of HKD15.0, representing FY19E/20E PER of 20.8/17.9x. Reiterate BUY.

New acquisition as expected. CEG announced it has entered into an agreement to acquire 50.91% stake of University of Jinan Quancheng College, an independent college offering both undergraduate courses and junior college programs in Shandong Province, for a consideration of RMB252.4mn, including a loan of RMB21.0mn. CEG will acquire the remaining 49.09% equity of the target through a tendering process in due course. The total equity consideration is estimated to come in at RMB454.5mn.

Huge room for improvement of the target. In SY18/19, the total student enrolment of Quancheng College amounted to 8,529, and we believe there is ample room for improvement going forward on the back of: 1) the ample demand for higher education given the demographic advantages of Shandong province; 2) anticipation of solid tuition fees and robust student enrolment growth, given that as compared to the average level of Shandong Province, Quancheng College’s tuition fees for its undergraduate and junior college programs should see c.50% and 30% upside respectively, whilst as the current utilization rate is 86%, total student capacity should be able to be ramped up to c.23,400 through facilities upgrades and construction of new facilities; 3) margin expansion to potentially exceed the current GPM of 22% through more effective cost controls and pricing optimisation; and 4) the plan to transfer the school to a bachelor university within the next 2-3 years by which time its margins should see substantial improvement given that the school’s current management fee makes up for 20% of the total revenue.  

Good position for China’s private higher education sector. The newly announced acquisition is solid proof of CEG’s M&A capabilities and seemingly the regulatory changes had brought limited impact to the industry in terms of acquisitions of private higher education groups, in our view. We expect the final version of the 2^nd Draft for Comments (《送审稿》) to become available in the near future but likely without significant changes made to the 2^nd Draft in regard to private higher education. External expansion remains the core driver for China’s private higher education players and acceleration of independent colleges’ disposals will favour the market leaders, in our view.

Attractive valuation and maintain BUY. We have not adjusted our earnings forecast and PT given the limited contribution from the target in the near term (Management guided that the target should see a turnaround in profitability in FY19E and would likely be consolidated in 2H19). CEG currently trades at FY19E/20E PER of 20.8/17.9x, and our PT of HKD15.0 implies 43.1% upside potential. Maintain BUY.