1H19 results was solid as adjusted net profit +34% and GPM widened 3.8ppt. The Company announced to acquire 100% equity interests of Yinchuan schools at total consideration of RMB1,450mn. We expect this acquisition to be a key growth driver in FY20-21E. Hope Education remains our sector top pick.
- 1H19 results beat. Adjusted net profit rose 34% YoY to RMB256mn, representing 57% of our FY19E estimates (vs 54% in 1H18). Revenue climbed 13%, driven by 14% student growth. GPM surprisingly widened by 3.8ppt to 53.1% due to cost control. SG&A expenses ratio dropped 9.4ppt to 13.6% primarily because of decreasing share option expense and one-off listing fee in 1H18. Finance cost fell 31%.
- Acquisition of Yinchuan schools. The Company announced to purchase 100% equity interests of the schools (University of Energy and five other schools) at a total consideration of RMB1.45bn (RMB550mn for equity interests, RMB400mn for debt repayment, RMB500mn for bidding the fixed assets of the new campus). The schools now have 15,108 students. In FY18, the schools recorded RMB201mn revenue and RMB30mn net profit. Management plans to improve its profitability to group level in 2-3 years by enhancing student enrollment capabilities, cost control and replacement of high cost borrowing. More than 10 parties competed for the acquisition targets. Management attributed its success to the recognition of Hope Education by local government authorities and MOE. We expect Yinchuan schools to be a key growth driver in FY20-21E.
- Abundant resources for M&A. As at 30 Jun 2019, the Company had RMB2.6bn cash balance. Management expects FY19 cash payment for acquisitions to be less than RMB1bn. With around RMB1.6bn tuition and boarding fees to be received in Sep 2019, we expect the Company still has financial resources to make acquisitions.
- Valuation. We raised our adjusted net profit in FY19/20/21E by 5%/12%/14% to factor in better margins and recent acquisitions of Yinchuan schools, Kunshan schools and Hebi College. Now we forecast a 31% EPS CAGR in FY20-21E (vs peers’ average of 24%). Our TP is lifted from HK$1.65 to HK$1.96, based on 18.0x FY20E P/E (still at historical average plus 1sd) as we rolled forward our valuation basis (vs. 21.0x FY19E P/E previously). Catalysts: (1) policy overhang removes; (2) better-than-expected student enrollment number; (3) M&A. Risk: surge of teachers’ costs.
