China Liberal Education Files IPO Terms

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About: China Liberal Education Holdings Limited (CLEU)
by: Donovan Jones
Summary

China Liberal Education has filed to raise $7 million in a U.S. IPO.

The firm provides educational and consulting services to students and companies in China.

CLEU is a small firm and has grown in 2018, but the company is changing its revenue model and the IPO appears excessively priced.

Quick Take

China Liberal Education Holdings (CLEU) has filed to raise gross proceeds of $7 million from a U.S. IPO, according to an F-1 registration statement.

The firm operates as an educational services provider in China to students and institutions.

CLEU is undergoing a revenue model transition and the IPO appears overpriced.

Company & Technology

Beijing, China-based China Liberal Education was founded in 2011 as China Liberal (Beijing) Education Technology and provides educational service to education operating under the ‘China Liberal’ brand.

Management is headed by Chairman and CEO Jianxin Zhang, who has been with the firm since 2015 and was previously served as a partner and attorney at Beijing H&J.

The firm’s first branch opened in the Fujan province in 2011 and has since expanded to Hangzhou, Fuzhou and Ji’nan across the east coast of China.

China Liberal Education provides services under Sino-foreign jointly managed academic programs, representing the company’s core business, overseas study consulting services, data management and workflow improvement technological consulting services to targeted Chinese universities, as well as tailored job readiness training to graduating students.

The firm’s technological consulting services’ primary goal is to create a ‘smart campus’ and include personalized campus private network buildout, school management software, smart devices, primary Internet of Things [IoT] devices, their installation and testing, as well as school management data collection and analysis services.

Customer Acquisition

China Liberal Education has developed a ‘specialized art and creativity talent online-community operations team’ with over 100,000 followers over several social media platforms, such as Zhihu, Weibo and WeChat.

Management intends to pursue customer acquisition through online promotions as well as ground promotions to local schools and art studios in the provinces of Hangzhou, Shandong, Guangzhou, Beijing, Hebei, Fuzhou, and Chongqing.

Selling expenses as a percentage of revenue have increased slightly, per the table below:

Selling

Expenses vs. Revenue

Period

Percentage

2018

14.6%

2017

13.9%

Source: Company registration statement

The sales efficiency rate, defined as how many dollars of additional new revenue are generated by each dollar of selling expenses, was a fairly strong 1.3x in the most recent year

Market & Competition

According to a 2018 market research report by University World News, the total student enrollment in higher education in China reached 37 million in 2016.

Data from Deloitte shows that the Chinese private higher education [CPHE] market was valued at $10 billion in 2012, $13.9 billion in 2016 and is anticipated to reach $20.2 billion by the end of 2021.

In 2015, the CPHE market saw an increase of the total amount of mergers and acquisitions by 165% year-over-year, while IPOs increased by 76% year-over-year.

The total number of student enrollments in private education in China increased from 5.3 million in 2012 to 6.3 million in 2016 and is expected to further grow to 8 million in 2021.

Major drivers for this market growth include an increase in China’s population as well as the rising demand for more affordable and quality education services offered by reliable private education providers.

Major competitors that provide education services in China include:

  • China Maple Leaf Educational Systems (HKG:1317)

  • Beida Jade Bird Group (HKG:8095)

  • Huali University Group

  • Dadi Education Holdings (HKG:8417)

  • China Media Group (SHE:000793)

  • Beijing Lanxum Technology (SHE:300010)

  • Wasu Media Holding (SHE:000156)

  • Newcapec Electronics (SHE:300248)

  • Zhejiang Zhengyuan Zhihui Tech (SHE:300645)

  • Changsha Kaiyuan Instrument (SHE:300338)

Source: Sentieo

Financial Performance

CLEU’s recent financial results can be summarized as follows:

  • Growing topline revenue

  • Increased gross profit but decreased gross margin

  • Increased operating profit but decreased operating margin

  • A swing to positive cash flow from operations

Below are relevant financial metrics derived from the firm’s registration statement:

Total Revenue

Period

Total Revenue

% Variance vs. Prior

2018

$4,808,993

23.8%

2017

$3,885,886

Gross Profit (Loss)

Period

Gross Profit (Loss)

% Variance vs. Prior

2018

$2,106,696

22.2%

2017

$1,724,564

Gross Margin

Period

Gross Margin

2018

43.81%

2017

44.38%

Operating Profit (Loss)

Period

Operating Profit (Loss)

Operating Margin

2018

$823,136

17.1%

2017

$774,378

19.9%

Comprehensive Income (Loss)

Period

Comprehensive Income (Loss)

2018

$686,328

2017

$1,113,240

Cash Flow From Operations

Period

Cash Flow From Operations

2018

$261,816

2017

$(3,715,193)

Source: Company registration statement

As of December 31, 2018, the company had $2.1 million in cash and $716,026 in total liabilities. (Unaudited, interim)

Free cash flow during the twelve months ended December 31, 2018, was $178,301.

IPO Details

CLEU intends to raise $7.0 million in gross proceeds from an IPO of 1.16 million ordinary shares at a midpoint price of $6.00 per share, not including customary underwriter options.

Assuming a successful IPO, the company’s enterprise value at IPO would approximate $35.4 million.

Per the firm’s latest filing, it plans to use the net proceeds from the IPO as follows:

We intend to use the proceeds from this offering for working capital and general corporate purposes, including investment in smart campus solutions, research and development, integration of enterprises and vocation education and establishment of big data calculation training school.

Management’s presentation of the company roadshow is not available.

The sole listed underwriter of the IPO is Boustead Securities.

Commentary

CLEU is attempting to raise growth capital from a very small U.S. IPO of its ordinary shares.

Typically, Chinese or other foreign firms will sell ADSs to U.S. investors, to minimize administrative requirements to owning shares of a foreign entity, in this case a Beijing-based company.

The firm’s financials show total revenue and gross profit growth as well as comprehensive income and positive cash flow from operations.

However, selling expenses have grown slightly and a full read of the firm’s various business lines show management has been deemphasizing certain service offerings due to dropping revenues.

Essentially, the firm is growing only by offering overseas study consulting services and ‘smart campus’ technology consulting.

The overseas study consulting services appears to be language and art school education as well as assisting students in obtaining travel visas. Management hasn’t provided much information about this revenue growth area, other than by saying it provides 'customized consulting services to students on an individual basis,' so I’m more than a little skeptical of it. It is also difficult to see how this service scales up to generate meaningful revenue.

On the legal side, like many Chinese firms seeking to tap U.S. markets, the firm operates within a VIE structure or Variable Interest Entity. U.S. investors would only have an interest in an offshore firm with contractual rights to the firm’s operational results but would not own the underlying assets.

This is a legal gray area that brings the risk of management changing the terms of the contractual agreement or the Chinese government altering the legality of such arrangements. Prospective investors in the IPO would need to factor in this important structural uncertainty.

As to valuation, compared to Sunlands Technology Group (STG), which has a Price/Sales multiple of about 1.17x, CLEU’s proposed multiple at IPO is 7.69x, which in my view is excessively priced.

Expected IPO Pricing Date: To be announced.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.