ATA Creativity Global (AACG) 2008 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the ATA Inc. Third Quarter Fiscal Year 2008 Earnings Conference Call.

(OPERATOR INSTRUCTIONS)

I would now like to hand the call over to Mr. Ed Job. Thank you, you may begin.

Thank you, operator. Good morning and good evening and welcome to ATA's Third Quarter Fiscal Year 2008 Earnings Conference Call. With us today are ATA's CEO, Kevin Ma; President, Walter Wang; and Chief Financial Officer, Carl Yeung.

Before I turn the call over to Mr. Ma, may I remind our listeners that in this call management's prepared remarks contain forward looking statements which are subject to risks and uncertainties and management may make additional forward looking statements in response to your questions.

Therefore, the company claims the protection of the safe harbor for forward looking statements that is contained in the Private Securities Litigation Reform Act of 1995. Actual results may differ from those discussed today and therefore, we refer you to a more detailed discussion of the risks and uncertainties in the company's findings with the Securities and Exchange Commission.

In addition, any projections as to the company's future performance represents management's estimates as of today, March 11, 2008. ATA assumes no obligation to update these projections in the future as market conditions may change.

To supplement its financial results, presented in accordance to U.S. GAAP, management will make reference to certain non-GAAP measures which the company believes provides meaningful additional information to understand ATA's operating performance. A reconciliation of non-GAAP financial measures to the nearest GAAP equivalent can be found on the company's earnings release issued this morning.

For those of you unable to listen to the entire call, a recording will be available via webcast for 90 days at the investor relations sections of ATA's website at http://www.ata.net.cn.

And now, it's my pleasure to turn the call over to ATA's CEO, Mr. Kevin Ma. Mr. Ma, you may begin.

Thank you, Ed. Welcome everyone and thank you for joining us today. In our first earnings conference call as a public company, we are very pleased to report a solid fiscal third quarter.

ATA continued to strengthen our leadership positioning in the Chinese computer based testing industry.

The highlights for the third quarter of our 2008 fiscal year include number one, net revenue were up 83.8% over the same period of last year to RMB66.7 million. Number two, operating profits were up 227.3% to RMB21.5 million. Number three, net income was up 159.3% to RMB17.9 million.

In addition, in January 2008, we completed our IPO on NASDAQ. On this regard, I would like to welcome and thank our new shareholders for participating in our initial public offering and we look forward to reporting to you on our progress every quarter during our earnings conference call and [get] together for many years to come.

I will now have Walter to discuss further about our business update.

Thank you, Kevin. For those of you new to ATA, I would like to take the opportunity to provide a brief overview of the company before summarizing our business results in the quarter.

ATA started its computer based testing services operations in 1999, effectively creating this industry in China. We have since developed one of the most comprehensive service platforms for the creation of test based education services and test preparation services to complement our leading position in the computer based testing services industry.

We believe ATA has the largest market share in computer based testing services in China. The company has strong relationships with key test sponsors, including the Ministry of Labor, Ministry of Education, China Banking Association, Securities Association of China. We also have relationships with leading IT vendors, such as Microsoft and Oracle, among others.

We believe our strong position in this industry is protected by entry barriers we established in the past nine years, including a network of test centers with 1,835 locations in China.

Our test based education services, in turn, include single course program degree, degree major course programs, and pre-occupational training programs. We market a packaged learning experience with commercial testing and commercial IT certification in place of traditional academic IT curriculums to universities and vocational schools throughout China.

Finally, at the end of year 2007, we expand our business scope to offer test preparation solutions by integrating our testing and assessment technologies with test preparation competence. We target these offerings as a professional licensure and certification tests.

As we look to the future we see significant opportunities for our revues and profits to continue to grow. China has one of the world's largest testing markets in terms of numbers of test takers. As more people enter China's job market with higher education levels workers will comparable -- with comparable education levels will seek a competitive age in testing for professional license and certifications.

In addition, industry regulators and associations are launching compulsory standardized testing to qualify professionals in each industry as means to raise quality. As the number of tests and numbers of test takers continue to grow in China, test preparation spending will also enjoy significant growth for many years to come.

With this positive scenario as a backdrop, our long term strategy is to one, further penetrate the testing market in industries where traditional licensure and certification tests can be adapted to computer based testing measures. Two, enhance our past contents creation technologies and delivery systems to provide testing plus, testing service -- best in class testing service at a competitive price. Three, expand our test preparation and education program offerings by leveraging our relationships with key test sponsors to serve the entire education value chain. Four, pursue selective strategic acquisitions and alliances.

Our results, for the quarter, reflect a strong [macro chain] in the Chinese testing market and the solid execution of our strategy to focus our resources in high margin opportunities, income to the base testing and test preparation services.

During the quarter, we delivered a record number of tests to high value added financial service industry in China. We also continued to benefit from greater demand [for our test preparation solutions. The strengths in those two segments offset the weakness in our test based education services business where students' graduation outpaced new enrollment for our degree major programs.

After the quarter, we complete our successful public offering on NASDAQ of approximately 5 million ADS, that includes the exercise of underwriters over-allotment options at price of US$9.5 per ADS. We raised approximately 25.1 million in net proceeds.

Our IPO provide us with the capital to support record growth of our business. It also enhanced our reputation from being a public company and strengthened our business development capabilities. Our customers have respond favorably.

Now, I turn the call over to our CFO, Carl Yeung.

Thank you, Walter. We are very pleased with our third quarter results. Net revenues grew 83.8% year on year to RMB66.7 million. Net revenues from testing services increased by 242.5% to RMB37.2 million for the quarter from RMB10.9 million in the same quarter last year.

Overall number of tests delivered declined by 4.4% year on year to approximately 970,000 tests delivered, compared to approximately 1 million tests delivered last year. This translates to an increase in average price per test delivered to RMB38.4 in the quarter from RMB10.7 for the same quarter last year. This increase in average revenue per test was due to a significant increase in the number of finance industry related tests delivered which are higher priced.

Our net revenues from the China Banking Association, the Securities Association of China and China Futures Association grew to an aggregate of RMB31.8 million in the quarter ended December 31, 2007 from RMB5.5 million in the quarter in the previous year. The number of tests delivered for these three clients increased to approximately 650,000 from 140,000 tests year on year.

Offsetting this increase, the number of Ministry of Education and Ministry of Personnel related tests delivered declined year on year to 60,000 tests from 540,000. However, the decline in issue of education and personnel test volume resulted in average revenue to only decline for RMB811,000 as these tests that we forgone only had a lower average revenue of RMB1.7 per test.

As we continue to focus on high growth and margin opportunities, we expect growth and test delivery revenue in the finance sector, an industry where testing are newly computerized, to vastly outpace testing revenue for some of the existing clients like Ministry of Education and Personnel.

Net revenues from test preparation solutions increased by 48% to RMB14.8 million and increasing from RMB10 million in the same period last year. This is primarily driven by an increase in the sales of our NTT tutorial platform and online test preparation services. Sales of our NTT tutorial platform contributed RMB13.8 million, or 93% of our total test preparations solutions revenue in the quarter.

Revenues from our online test preparation services increased by 1,100% to RMB1 million from a small RMB80,000 in the same period last year. This growth is driven by our online test preparation business maturing after its first year of launch and as we gain traction selling test preparation solutions to a growing number of test candidates who use our test services in the finance sector.

Net revenues from test based education services increased by 1.4% to RMB12.1 million in the third quarter.

Single course program revenue increased by 71.5% to RMB2.8 million from RMB1.6 million in the same period in fiscal 2007. We experienced an increase of 69.7% in the number of student months for single course programs to approximately 56,000 in the quarter ended December 31, 2007 from approximately 33,000 in the quarter ended December 31, 2006.

Pre-occupational training program revenues also increased to RMB0.8 million from RMB0.1 million in the same period last year. This increase was partially offset by a year on year decrease of 16% in revenues from our degree major course programs to RMB8.6 million.

The number of degree major student months decreased to 96,000 from 125,000 in the same period last year. A decrease in the degree major student months were primarily due to an increasing number of students graduating from our existing degree major programs, not being fully offset by new student intake into the program. However, we anticipate stable growth from our test based education services as we incentivize our sales team in conjunction with the introduction of new degree major course programs from newly licensed content from the Tsinghua University and as pre-occupational programs become increasingly popular.

Gross profit increased by 76.5% year on year to RMB45.7 million. Gross margin declined slightly to 68.5% in the third quarter from 71.3% in the comparable period in 2006. This is driven by a lower contribution from our highest margin service, our test preparation solution as a percentage of total revenue.

Total operating expense increased by 25.3% year on year, to RMB24.2 million. Sales and marketing expenses increased by 49.4% year on year to RMB8.5 million from RMB5.6 million. This is primarily due to share based compensation expense related to company's October 2007 option grant, an increase in payroll and wealth expenses as we grew our sales and marketing staff to 103 people at the end of December 2007, from 91 people at the end of December 2006 and also, agent fees we pay to the distributors of educational programs.

G&A expenses increased slightly by 4.9% year on year to RMB11.5 million. Research and development expenses increased by RMB57.6 million - 57.6% year on year, to RMB4.3 million from RMB2.7 million, primarily due to the increased use of outsourced research and development to fully prepare our pre-occupational training and online test preparation solutions and increase bonus paid to our R&D staff.

Income from operations increased by 227.3% year on year to RMB21.5 million. Operating margin increased to 32.2% from 18.1% in the comparable period last year.

ATA's effective tax rate for the quarter was 18.1%, slightly higher than ATA's highest statutory tax rate of 15% on any of its PRC subsidiaries and affiliates due to approximately RMB9.4 million in non-tax deductible expenses.

Net income for the quarter was RMB17.4 million, representing a 151.5% increase from the comparable period last year. Basic and diluted earnings per common share amounted to RMB0.79 and RMB0.48 respectively. Basic and diluted earnings per ADS was RMB1.59 and RMB0.95 respectively.

Net income, excluding share based compensation expense and foreign currency exchange losses, which is a non-GAAP measure, was RMB22.1 million for the third quarter 2008 compared to RMB7.8 million in the same period last year. Basic and diluted earnings per ADS, excluding share based compensation expense and foreign currency exchange losses were RMB2.02 and RMB1.21 respectively.

As of December 31, 2007, ATA had a cash of RMB44.4 million, net operating cash outflow for the third quarter of 2008 was RMB40,000. This is in line with the expectation as we typically generate the highest account receivables in December quarter due to the seasonality of account receivable cycles and these accounts -- accounts receivable typically fall back to normalized level as we go into March and June quarter converting our AR generated in December into cash.

Capital expenditures for the third quarter of fiscal year 2008 were RMB1.8 million, mainly for the leasehold decoration of our new office and addition of computers and services. Of the RMB1.8 million, approximately RMB1.1 million was leasehold decoration, which is a one time event.

Turning over to outlook. For the first fiscal fourth quarter, 2008, which is generally ATA's slowest quarter in terms of net revenues, ATA forecast net revenue would be in the range of RMB29 to RMB31 million, representing a year on year growth in the range of 79 to 85%. As -- the ATA will -- may incur a net loss for the quarter, which is consistent with ATA's disclosure in its prospectus dated January 28, 2008.

ATA expects net revenue for the fiscal year ended March 31, 2009 to be in the range of RMB340 million to RMB350 million, which is expected to represent a 95% to 103% growth over fiscal year 2008.

This is ATA's current and preliminary view, which is subject to change. Our results of operations for the fiscal third quarter 2008 are not necessarily indicative of our operating results for any future periods.

Now, I would like to turn the call back to Walter for some closing remarks.

Thank you, Carl. In the next several quarters we intend to continue to convert some of the test sponsors in our pipeline into revenue generating customers, for example, we're trying to assist the Ministry of Culture to train, test, and qualify internet cafes throughout China. For our tax based education services, we look forward to a new phase of growth now that we have the exclusive distribution rights to Tsinhua University accountants and certifications.

In January 2008, the CSRC, China's Security Regulatory Committee, required licensed securities -- for security professionals to requalify on an annual basis by satisfying required training hours and we see this as yet another opportunity to provide online training and testing for those professionals.

As we move into the fourth quarter, we remain very excited about the opportunities ahead as we deliver on our plans to future penetrate testing market in China and to grow our test preparation and career based education offerings.

Many important achievements have contributed to our being here, but we are confident that the best is yet to come. With that, we would like now to open the call to your questions. Operator?

(OPERATOR INSTRUCTIONS)

And the first question comes from the line of Mark Marostica from Piper Jaffray. Please proceed.

Thank you and nice job on the quarter.

Thank you, Mark.

My first question relates to the large increase in the average revenue per test that you say in the quarter and I'm curious as to when you think that will anniversary?

So you want to get a feel of the overall ASP for the year, right?

Right, like this quarter up 300%. When do we see year on year compares normalize as a result, I think, of your exiting some of the lower priced tests?

Well, our test price -- the price per test, for any particular test sponsor remains extremely stable year on year. I can't provide a more detailed forecast right now, but let's just say that going forward, the number of higher value test sponsors, such as, for example the China Banking Association will grow much faster than the guys we've been working with in the past that has relatively little growth like Ministry of Education, Ministry of Personnel. So the ASP will probably continue to rise into next year.

Okay. And then, I wanted to just follow up on, obviously the Olympics coming up in August. What do you see as the potential impact on the business if it will have any impact as far as moving any tests around in the scheduling perspective?

At the moment, no. we expect a very -- we don't expect any material impact to operations form the Olympics because, actually, the seasonal nature of our testing business dictates that the highest volume happens before the summer or winter holidays and Olympics is happening in -- during this summer holiday. And therefore none of our tests have been sort of rescheduled or moved around. So we don't expect any negative impact.

I've got a couple of housekeeping questions on the quarter and the guidance, of course. For the quarter, you saw a lower tax rate, I think 18% due to some non-deductible expenses. How should we model that going forward, or what's implied in your guidance going forward?

I think that the highest statutory tax rate for any of our operating entities is at 15% and we expect that to be continued as we apply for a tax holiday under the new tax regulatory environment. So we still expect 15% at any of our operating entities,

In the past, our tax rate has been higher in some quarters than that because of, mainly, number one, non-deductible operating expenses and also the utilization of tax loss carry forward in the previous years.

Now, we have completely used up our tax loss carry forward. The actual non-operating expense portion will become increasingly small as a revenue base. So you will see the effective tax rate to gravitate towards 15%, but it will still be a bit higher. So I think 18% is a good guidance.

Okay. And then one last question on the guidance. You mentioned you may have a net loss in the quarter. Can you give us a sense of parameters around what the net loss might be from a range perspective and if you can't give us that, what do you think the main drivers might be that would push you into a loss versus a breakeven or even a gain in the quarter?

Yes, we are actually -- there's a possibility that we may get better than expected volume from the China Securities Association, so there's a possibility to reach breakeven. But before that is finally confirmed we would like to stick with our consistent guidance that we may have roughly a loss of RMB5 million to RMB6 million at the conservative area and it may be slightly higher depending on how much operating expense we incurred in the final month of March.

Okay. Great. Thank you and I'll turn it over.

And the next question comes from the line of Adele Mao of Susquehanna International. Please proceed.

Hi, it's Adele Mao from Susquehanna International. I have a couple of questions. First of all, related to your full year revenue guidance of RMB340 million to RMB350 million, how much of that do you expect from existing customers versus new customers that you have been in discussion with?

You're talking about fiscal 2009, of the approximately RMB340 million to RMB350 million guidance, right?

Correct.

Yes, out of that, approximately, I would say in the rough sense, around 80% comes from existing relationships.

I see. So, any trumped up your first quarter guidance, any new customer revenue contribution that you factored in?

Yes, as Walter mentioned, we will be in the -- in this March quarter, for the first time doing a large scale for the Minister of Culture to train, test, prep and certify China's internet cafes. So this is the initial phase of a very large scale exam that would take place in China for the forward looking quarters.

Okay. Great. You also mentioned earlier that you'd see student graduation faster than student enrollment in your degree major program. You mentioned about stable growth and going forward and mentioned newly licensed content from Tsinhua University. I was wondering if you could just help quantify a little bit on what do you mean by stable growth and how should we think about, generally, growth opportunities in this area.

Right. We are not going to be very aggressively growing our current degree programs and the management believes that we will still have stable growth because some of the weakness in the current degree programs will be offset by number one, we realigned a new incentive structure for our sales team, starting at the end of 2007, whereas in the previous years, our sales teams were given a bonus payment of one month at the max -- maximum. And right now, if they reach the target they may potentially earn up to 8 months in bonuses. So that will super incentivize them to be more aggressive in terms of marketing, some of the old programs, but more importantly, as we have mentioned, the new Tsinhua program, which we expect that will help us grow our total education revenue.

Okay. Great. That's very helpful. Just last thing on -- could you provide gross margins for each of your business lines.

I don't disclose that. But for the benefit of the community, just on the rough end, as you can sort of formulate backwards from our historical results. The rough idea is that test prep can have a gross margin of 90% plus. Our test based education programs ranges from anywhere from 35% to 45%, depending on the quarter. And our testing service ranges anywhere from 55% to 75%, 80% depending on the quarter because scale does apply here.

Right. Okay, that's all I have. Thank you very much.

(OPERATOR INSTRUCTIONS)

The next question comes from the line of Tian Hou from Pali Capital. Please proceed.

Hi, Kevin, Walter and Carl, and congratulations on a great quarter. Okay, my question is very simple, easy. Regarding the Ministry of Culture, internet café, the training program and the testing program and also CSRC requalification program. I just want to know, little bit more detail. Such as how many people are going to be tested and in what time frame they have to be tested and how much they have to pay and how much an be collected by ATA?

Hello?

Yes, Hi Tian.

Yes.

Hi, it's good to hear from you. Let me tackle this one by one. First of all, this is related to the Ministry of Culture.

Yes.

And this is based on our understanding of the market. Right now there is roughly and estimate of 300,000 internet café's all over China and supposedly under this new regulation it is intended that all of them should be trained, test prepped, and certified by Ministry of Culture through ATA. So the market capacity is around 330,000.

But, as you know, not everyone in China goes with the compliance programs. We have a fairly conservative estimate that over the next 15 months, including this March quarter, we will test and certify anywhere between 40,000 to 50,000 of these internet cafes. So we believe that's a fairly conservative estimate in the overall scope of the market size.

Okay.

And this certification should bring in, including the training, the test prep and the testing component should bring to ATA roughly around, anywhere from RMB1,200 to RMB1,500 per internet café, depending on the mix of operator versus technical staff they have there, because everyone is charged differently. But the rough price is anywhere from RMB1,200 to RMB1,500. And the certification will be good for a period of time.

In terms of the CSRC, right now the number of official figure for number of securities practitioners in China is somewhere around 70,000 practitioners.

And the current -- that's the last official published number from the statistical yearbook. But right now, the number should be anywhere form around 100,000 practitioners officially licensed and all of these, by this new regulation that's been enacted since January 1, 2008, needs to requalify every year by doing roughly around 20 hours of continuous professional training year after year and ATA is in a very, very good position given this new regulation because if the candidate decides and does the training using our online platform they would satisfy their hours immediately.

The price for that?

And we also have also signed a contract with the CSRC already and yes and this will be a recurring revenue every year and as the size of the number of practitioners in the industry grow, we do expect this reoccurring revenue to grow.

So, how much each practitioner will pay for the program?

Tian?

Yes.

It is roughly -- yes, Tian?

Yes.

Sorry, I was not -- it is about RMB10 through ATA per hour satisfied so each practitioner has 20 hours to go.

Okay. Regarding the Ministry of Culture, the internet café, you say each person need to pay RMB1200 to RMB1500, but how much of that will come to ATA?

That's our part of the revenue.

Oh, okay. I got it. Thank you. That's my question. Congratulations again.

Thank you. Appreciate the questions.

Yes.

You have no further questions. I'd like to turn the call back over to management.

Ladies and gentlemen, we appreciate everybody's time to participate in this call and the questions asked. Again, we have delivered a very, very strong quarter, in fact, a record quarter for ATA and we look forward to continuing to grow along with our investors.

Thank you very much.

This concludes the presentation for today, ladies and gentlemen, you may now disconnect. Have a wonderful week.