Thinking points
- Meiko Network Japan (TSE: 4668) is the 7th largest cram school group in Japan. In recent years, the company has partnered with the 6th largest company in the industry to focus on profitable private tutoring amid a declining birthrate.
- Key challenges for the company include intensifying competition for students caused by a shrinking market and a deterioration in profitability due to higher advertising and sales promotion expenses.
- Key opportunities for the company include extending services to rural students through online instructional services and flexible instructor and classroom operations in the online space.
- At JPY600 per share, Meiko trades at an adjusted EV/EBIT of 3.5x with a market capitalization of JPY15.2bn.
- Assuming a fair value EV/EBIT of 2-4x, investors can expect an investment CAGR of -2.7% to +9.2%, including shareholder returns, over the next 3-5 years.
Introduction
Meiko Network is an educational institution that operates directly-managed and franchised Meiko Gijuku-branded cram schools. It is among the largest cram school brands in Japan, holding the seventh largest market share. The company operates three segments as well as other businesses lumped into a separate “other” segment:
- In the Direct Management segment, the company directly operates Meiko Gijuku-branded cram schools and sells materials used in its classrooms;
- The Franchising segment includes classroom management instruction and sales of education materials;
- The Japanese language school segment is run by subsidiaries specializing in education for foreign students; and
- In the Other segment, Meiko provides children’s after school education services, college prep education services for highly intelligent students, immersive after school English education for children, and other services.
Business & operating environment
Company History
Sunlight KK, Meiko’s predecessor, was founded in 1984 by current chairman Yoshiki Watanabe and Yoshiko Okui with the aim of developing a cram school franchise chain. In 2003, the company was listed on the second section of the Tokyo Stock Exchange, and then transferred to the first section in 2004. In 2010, the company formed a capital & business alliance with Waseda Academy, the 6th largest cram school in the industry, and jointly launched a new brand of individual tutoring cram schools. In addition to entering the Taiwanese market in 2015, Meiko has continued to acquire small local cram schools and has been working to expand its network of directly operated and franchised cram schools.
Industry and Business Model
In Japan and other East Asian countries, such as South Korea and China, the scores on written university entrance exams are the biggest component of the application process. In most cases in Japan, no GPA or extracurricular activities in junior high or high school are considered, and no essays or letters of recommendation are requested at the time of application. Interviews are very rarely conducted. As the rank of a university often ties into future job security, many high school students attend cram schools to improve their odds of having a successful career.
On the other hand, Japan’s student population is declining due to the low birthrate and aging population. According to the Japanese Health Ministry, “the number of births fell to 840,832 in 2020, down 2.8% from a year earlier and the lowest since records began in 1899… The country’s fertility rate, the expected number of births per woman, declined to 1.34, among the lowest in the world” (CNN). The population aged 0-14 years has declined from 16.8 million people in 2010 to 15.1 million people in 2020 (-10.3%), and is estimated to decrease further by 12.6% to 13.2 million people in 2030 (Cabinet Office of Japan).
Household spending on education, however, has been on the rise as many are increasingly concerned about their children’s future. The average cost of cram schools for elementary, junior high, and high school students increased at a +2.3% CAGR from JPY250,000 in 2010 to JPY299,000 in 2018.
The total number of students attending any of Meiko’s cram schools dropped in FY08/19 along with the student population, and plummeted further in FY08/20 due to the pandemic, but rebounded by +1% in FY08/21.
In this environment, Meiko has delivered generally strong performance. Over the past 10 years, sales from franchisees shrunk at a -3.5% CAGR, but expanded at +5.8% in directly managed schools, leading to a +3.3% CAGR overall. The number of directly-managed cram schools increased substantially with Meiko’s acquisition of MAXIS Education, the company’s largest franchisee, in 2014.
The number of cram schools under Meiko fell from 2,000 in FY08/11 to 1,767 in FY08/21 (-11.7%), with the number of students falling by 23.9%. However, revenue per student has risen in line with the increase in household spending for cram schools. Revenue from the other segment includes the newly-developed individual tutoring business, which has grown to account for over 10% of total sales, which has still suffered from a drop in sales due to the COVID-19 pandemic in the last couple of years.
The company’s operating margins were hovering around 20% in the 2000s, but has dropped to around 10% since 2015 mainly due to two factors: the increase in directly-managed cram schools (e.g. personnel cost for tutors and rent); and higher advertising and sales promotion expenses aimed at acquiring students (rose from 7.7% of sales in FY08/15 to 10.4% of sales in FY08/21).
In FY08/20, the company generated net losses as it had to suspend classes due to the pandemic. However, operating profit improved to half the pre-pandemic level FY08/21 as the company resumed classes and delivered online services.
Meiko has set its medium-term targets to reach JPY21.0bn in sales and JPY2.0bn in operating profit by FY08/24.
Shareholders
As of the end of February 2022, the company had 27,803,600 shares issued, with 2,458,058 shares in treasury, putting outstanding shares at 25,345,542. Foreign shareholders accounted for approximately 4.91% of total. Major shareholders are as follows.
Hiroki Watanabe and Yoshiko Okui are both co-founders and current executives of the company. Meiko Educational Research Institute and Meiko KK are both effectively affiliate companies controlled by the co-founders. As Kei/Satoru Okui (pronunciation unknown) also appears to be a close relative of Yoshiko Okui, the co-founders control at least 21.2% of the outstanding shares.
Waseda Academy is the 6th largest cram school group in Japan, which entered into a business alliance with Meiko in 2014.
Meiko has set a policy to return at least 35% of net Income to shareholders, which is equivalent to 50% of EBIT, in FY08/22. It has announced a dividend of JPY22 per share, and the shareholder payout ratio is expected to be around 55%. The company conducted share repurchases in 2016 and 2020, repurchasing JPY1.5bn and JPY1.3bn worth of shares, respectively.
There are no stock-options or offering rights outstanding currently.
Financials & valuation
- Meiko Network Japan (TSE: 4668) is the 7th largest cram school group in Japan. In recent years, the company has partnered with the 6th largest company in the industry to focus on profitable private tutoring amid a declining birthrate.
- Key challenges for the company include intensifying competition for students caused by a shrinking market and a deterioration in profitability due to higher advertising and sales promotion expenses.
- Key opportunities for the company include extending services to rural students through online instructional services and flexible instructor and classroom operations in the online space.
- At JPY600 per share, Meiko trades at an adjusted EV/EBIT of 3.5x with a market capitalization of JPY15.2bn.
- Assuming a fair value EV/EBIT of 2-4x, investors can expect an investment CAGR of -2.7% to +9.2%, including shareholder returns, over the next 3-5 years.
After paying off its long-term debt in FY08/13, Meiko has remained debt-free, with the exception of a small amount of short-term debt. In addition, it has accumulated a cash position of JPY9.7bn as of February 2022, excluding its cross-shareholdings worth JPY2.2bn. As a result, over 75% of its assets are in cash and equivalents, giving the company a strong balance sheet with an equity ratio of 67.3%.
Some of the challenges the company faces include intensifying competition for students due to the declining birthrate and the resulting deterioration of its profit structure. Meiko may be forced to increase advertising expenses to maintain its current student base, especially for its one-on-one cram schools. In addition, smartphone and tablet learning apps have emerged as new competitors amid the COVID-19 pandemic.
In terms of opportunities, the company may benefit from the online tutoring infrastructure it developed during the pandemic, as it has the potential to substantially improve customer appeal. Its ability to share instructors among cram schools may also mitigate labor management and personnel cost challenges.
At JPY600 per share, Meiko Network trades at an adjusted EV/EBIT of 3.5x with a market capitalization of JPY15.2bn. Assuming a fair value EV/EBIT of 2-4x and stable profits, the company trades roughly at fair value. Investors can expect an investment CAGR of between -2.7% and +9.2%, including shareholder returns, over the next 3 to 5 years.
The bottom line
Meiko Network Japan is a medium-sized cram school company, with approximately 100,000 students and the 7th largest market share in Japan. Although the company faces some serious challenges such as Intensifying competition for students amid a shrinking student population and deteriorating profitability brought on by higher advertising and sales promotion expenses to keep its student base at current levels, it also has some tailwinds such as opportunities to reach students in rural areas through online services. Buying in at JPY600 per share, investors can expect an investment CAGR of between -5.5% and +6.0%, including shareholder returns, over the next 3 to 5 years.
