New Oriental Education & Technology Group Inc (EDU) 2012 Q2 法說會逐字稿

Good evening and thank you for standing by for New Oriental's second quarter of fiscal year 2012 earnings conference call.

At this time all participants are in a listen-only mode.

After management's prepared remarks there will be a question and answer session.

Today's conference is being recorded, if you have any objection you may disconnect at this time.

I would now like to turn the meeting over to your host for this conference, Ms.

Sisi Zhao.

Thank you, please go ahead.

Hello, everyone, and welcome to New Oriental's second quarter of fiscal year 2012 earnings conference call.

Our financial results for the period were released earlier today and are available on the Company's website as well as on newswire services.

Today, you will hear from Louis Hsieh, New Oriental's President and Chief Financial Officer, and after his prepared remarks, Louis will be available to answer your questions.

Before we continue, please note that the discussion today will contain forward-looking statements made under the Safe Harbor provisions of the US Private Securities Litigation Reform Act of 1995.

Forward-looking statements involve inherent risks and uncertainties; as such, our results may be materially different from the view expressed today.

A number of potential risks and uncertainties are outlined in our public filings with the SEC.

New Oriental does not undertake any obligation to update any forward-looking statements except as required under applicable law.

As a reminder, this conference is being recorded.

In addition, a webcast of this conference call will be available on New Oriental's Investor Relations website at investor.neworiental.org.

I will now turn the call over to New Oriental's President and CFO, Louis Hsieh.

Louis, please.

Thank you, Sisi.

Hello, everyone, and thanks for joining us.

The second quarter is seasonally the slowest quarter for New Oriental, but I'm very pleased that we're presenting a very health set of financial results today.

Total student enrollments grew by 16.2%, revenue grew by 38% and profit rose by 80.5%.

This is despite some very tough comparisons from the same period a year ago, when revenues were up about 56% and enrollments up over 32%.

First, you recall that in the second quarter of 2011 we benefited from a strong rebound in enrollments after the World Expo in Shanghai closed.

Second, certain low-performing businesses which we discontinued over the past 12 months contributed approximately $3m in revenue in Q2 of 2011, but are not counted in this year's second fiscal quarter results.

The driving force behind the solid performance is simple; New Oriental remains the most trusted brand in private education services in China.

We see huge unmet demand for our services and we continue to execute a successful strategy to take advantage of this demand.

Across our business lines we recorded sustained growth in the second fiscal quarter.

Our overseas test preparation program recorded year-over-year enrollment growth of about 1% to over 74,200.

The moderate growth is still pleasing, given that we experienced such a huge spike in enrollments in the second quarter of last year, when enrollments were up 39%.

As you'll remember, a lot of students chose to defer their studies from the summer quarter to the autumn quarter last year, in part because of the Shanghai World Expo.

In addition, gross revenues this quarter is up more than 52% year over year to over $43m, in part because more students are choosing to register for smaller, more expensive classes.

The K-12 all-subjects after-school tutoring business continues to impress.

The segment recorded year-over-year enrollment growth of more than 33%, to over 232,900, and year-over-year gross revenue growth of over 45%, to over $44m.

Once again, this quarter we've seen the most rapid growth in our VIP personalized classes, with year-over-year enrollment growth of about 42% to 20,100 and year-over-year revenue growth of over 52%, to over $45m.

This -- particularly encouraged by our success in this segment, because it really illustrates New Oriental's position as the premium provider -- private education provider in China.

We are gaining market share much more quickly than our competitors in the VIP small class segment, because our students recognize the unquestioned premium quality synonymous with the New Oriental brand.

On a related note, we want to mention that our new intensive English training program, MaxEn, which we introduced last quarter.

MaxEn is a very high-end, after-school tutoring program that aims to provide children with a US standard English education in US standard English learning environment.

Over the past few quarters, we have opened five MaxEn centers around China and already we are gaining traction.

Enrollments have reached about 330 students in total in the first half of the fiscal year, at an ASP of approximately $2,300 for a one-year course.

Again, I want to emphasize that New Oriental is uniquely positioned to offer a product like this in the Chinese market, because only New Oriental has established that premium brand cache and trust with parents and students to justify this premium position.

Finally, our Vision Overseas Study Consulting business continues to outperform, with year-over-year revenue growth of over 90% to about $3.8m.

Despite the challenging economic conditions in the US and Europe and the slowing Chinese economy, increasing numbers of Chinese students -- despite that increasing numbers of Chinese students attempt to attend degree-granting programs in those regions, as well as in places like Australia and Canada, because they believe such qualifications offer better long-term prospects.

To take advantage of the growing demand in our services, in the last quarter we have opened a net of 39 new learning centers in 20 cities; however, we continue to emphasize operational efficiency and network optimizations.

So our approach to expansion is considered and highly strategic.

Of the 39 new learning centers we opened in the last quarter, more than half are small centers of approximately 500 square meters, or less, which are used primarily for K-12 after-school tutoring and VIP classes.

These facilities obviously require lower initial investment in terms of CapEx, marketing and headcount.

Being smaller, they can get up to speed -- they can get up to modulization much more quickly than our larger centers.

While I talk about network growth, I do want to highlight that our rapid expansion into second tier cities beyond Beijing and Shanghai may result in our blended ASP growth rate appearing deceptively low.

In the second fiscal quarter we maintained a health ASP growth of 11%, but it's important to understand that lower tier cities, where we charge lower prices, are now accounting for a growing percentage of the revenue mix.

Naturally, in places like Lanzhou and Nanjing -- Nanchang, sorry, we price our training programs at a lower rate than we do in Beijing or Shanghai or Guangzhou.

We're still able to charge the premium rate that our premium brand justifies, but we adapt our pricing structure to suit local market conditions.

So as we expand our business in the markets beyond tier one, you need to bear in mind that the shifting revenues mix will dampen the overall ASP growth rate.

Over time, we expect that ASPs in these lower tier markets will trend upwards, but the important point here is that we are expanding our footprint quickly in these new, high growth markets and we're able to maintain healthy ASP increases.

As you'll know from past quarters, our emphasis right now is in achieving better efficiency across our network.

We are determined to focus our energy on the parts of our business that are more lucrative, so when we see areas of our business that aren't working, we aim to make immediate changes.

To that end, in the second quarter, we decided to close our North Star Occupational Test Prep School based in Beijing.

This is a decision that allows regional management to refocus their attention on more productive core business lines.

Last quarter I also mentioned that we had identified some issues in our North-East region and had intervened to make some senior management changes in the cities of Harbin, Dalian, Shenyang and Changchun.

Although revenue from these cities is up 22% year-over-year, enrollment is down 19% for the quarter.

Clearly, there is some work to turn to be done to turn things around, but we have new school heads in place and we are already seeing some signs of improvement.

This is a long-term effort, but we are confident that we will rectify this situation.

I'm also pleased to let you know that legal action against New Wave Education has been successful.

New Oriental has been awarded the entire initial acquisition consideration of $2m plus interest.

We expect to receive the repayment at the end of February and record it in our fiscal third quarter.

Along with Mingshitang and Beijing Tomorrow Oriental Technologies, these four discontinued business entities did not contribute to revenue in the second quarter of 2012, whereas combined they generated about $3m of revenue in Q2 2011.

Our strong Q2 performance sets us up well for the coming quarters.

Looking ahead, we are confident about the growth potential, but I do want to flag a couple of factors that we expect will have an influence on our Q3 results.

In the immediate term we expected that the timing of the Chinese New Year festival this year will have a negative impact on our Q3 revenues and margins.

This year the festival falls on January 23, which is a couple of weeks earlier than usual, so in most provinces the winter school holiday is shorter than usual by up to a week, because the schools will need to finish their full terms before the break.

This means that many students who would normally sign up for our test prep training courses during the winter holiday break don't have time to do so, so we expect that this will have some impact on enrollments and revenues for the third quarter.

You may remember that we saw a similar trend in the third quarter of 2009, where the Chinese New Year festival occurred on January 26.

Having said that, students still need to take test prep classes before they sit for high school and college entrance examinations in June, so we anticipate the suppressed demand for courses during the winter break will spill over into the fourth fiscal quarter and the students who didn't take courses during the winter break will sign up for after-school or weekend courses in Q4.

Again, you remember that we saw this effect in the fourth quarter of 2009, when revenues grew by 48% and in income by 50%.

Another short-term speed bump that I want to address is the decision by the Shanghai Government to cancel the Shanghai Star Level English Test.

This was an English proficiency exam that primary and junior high school students in Shanghai were required to sit.

The municipal government announced in December that it had decided to abolish this exam.

Our Shanghai training centers had been offering dedicated test prep courses for this exam, so we expect that this decision will have an impact on our Q3 earnings of about CNY3m to CNY4m negative impact.

So while the government has cancelled this specific testing requirement, school kids in Shanghai still have to reach a level of English proficiency for the other English exams they need to take.

So over time we expect the parents who would have sent their kids to our dedicated Star Level English Test Prep course will sign their kids up for other English training programs instead.

Looking longer term, like everyone else we are closely monitoring the impact of the ongoing global financial crisis and China's own economic slowdown.

New Oriental is, of course, not immune to these macro effects but we are confident that the education sector is much better insulated than other sectors and that New Oriental is in a much stronger position than our competitors who are fighting for a share of the lower end of the market.

Time and again, we have seen that when China faces economic turbulence, education spending remains incredibly resilient, because Chinese families place a high priority on securing a good education for their children.

In our fiscal year of 2009, when China's economy stumbled in the face of the global financial crisis, before the government stepped in with its stimulus package, New Oriental actually grew revenues up approximately 46%.

At such times, New Oriental, as the industry leader, enjoys a particular advantage, because there is an inevitable flight to quality.

People look for a better return for their education investment and they know that they can rely on our premium brand to provide that.

So despite the macroeconomic headwinds, we remain confident that New Oriental will continue to see rapid growth in the years to come.

We see demand for New Oriental's services increasing quickly, both in the established markets, like Beijing and Shanghai, and in newer markets in second and third tier cities across China and we believe that we have the right strategy in place to take advantage of that trend.

Before we open the discussion up for your questions, let me quickly go through our financial highlights.

The full details are available in our press release; I just want to focus on some important indicators.

Net revenues for the education programs and services for the second fiscal quarter were $120.1m, which is 42.1% increase year-over-year.

We want to remind you, however, that the year-over-year comparison is not exactly apples to apples.

For example, in Q2 of 2011 we experienced a spike in enrollment after the impact of the World Expo in earlier quarters.

Also Mingshitang Gaokao Retaker School, Beijing Tomorrow Technologies, New Wave Education and North Start Occupational Test Prep facility in Beijing accounted for about $3m in revenue in Q2, 2011, but did not contribute to revenue in Q2 this year.

So again, comparing growth rates for the quarter to the rates from the same period a year ago is not particularly illustrative of New Oriental's organic growth.

Selling and marketing expenses for the quarter increased by 32.3% year over year to $24.5m.

We are continuing to keep a tight hand on sales and marketing spending.

As we mentioned earlier, a lot of our new learning centers are being opened in areas where new Oriental is already well established, which reduces the need for marketing spending.

General and administrative expenses for the quarter increased by 45.4% year over year to $50.3m and, on a non-GAAP basis, G&A expenses were $46m, which is 46.4% higher than last year.

This is primarily due to the expansion of our network by a net of 39 facilities, compared to a net increase of only 24 facilities in the same period last year, which naturally means that we increased our headcount.

We've also been investing in developing new programs and content, as well as in teacher training, to ensure that we continue to offer the best services in the market.

Operating margin for the quarter was negative 3%, compared to negative 2.1% in the same period of the prior fiscal year.

Non-GAAP operating margin, which excludes share-based compensation expenses for the quarter was 0.2%, compared to 1.3% in the same period of the prior fiscal year.

Net income attributable to New Oriental for the quarter was $3.3m, representing an 80.5% increase from the same period of the prior fiscal year.

Non-GAAP net income attributable to New Oriental for the quarter was $7.5m, representing a 46% increase in the same period last year.

The net income line benefits from an interest income effect of over $6m, thanks to our very strong cash balance.

New Oriental's deferred revenue balance, which is cash collected from registered students for courses and recognized proportionally as revenue as the instructions are delivered, as of November 30, 2011, was $201.8m, an increase of 46.3% as compared to $137.9m as of November 30, 2010.

Turning now to our outlook for the third fiscal quarter of 2012, we currently expect total revenues in the third quarter of fiscal year 2012 to be in the range of $168.3m to $176.2m, representing year-over=year growth in the range of 27% to 33%.

This forecast takes into account the negative impact of the timing of the Chinese New Year, which we discussed earlier, and reflects New Oriental's current and preliminary view, which is subject to change.

At this point I will take your questions.

Operator.

Thank you.

(Operator Instructions).

Your first question comes from the line of Philip Wan from Morgan Stanley.

Please ask your question.

Hi, Louis and Sisi, thanks for taking my question.

My question is about your overseas test preparation.

You mentioned earlier that the softer enrollment for this quarter was due to difficult comps post-Expo, but would you be able to share with us the trend going into December or maybe going into January?

Thank you.

Thanks, Philip.

The trend is -- Q3 is not trending as high as normal because of the shortened Q3 break.

As you know, the Chinese school kids just got out of their full terms typically around January 13 this year and so they don't have much time to enroll in a full winter term period.

So the trend is still up over Q3, but it's not as strong as the 22% we saw in the summer quarter.

I think the overall trend is on track for what we had forecast, which is about 12% enrollment growth and about 40% revenue growth.

So I think those are still on track.

I would expect Q3 to be above last year, but not at 22%, and I think Q4 should be quite good.

Okay, if you put -- slightly related to that, I'm just curious then what kind of enrollment growth rate for the VIP, specifically for overseas test prep?

I don't have the breakout on hand for just overseas test prep.

Overall VIP is growing obviously very rapidly with enrollments up over 40% year over year, revenue up 55% year over year.

So VIP tends to be actually one of the stronger performing businesses, especially given that this year, if Q3 is going to be a bit light on revenues then what's going to happen, we believe, is that in Q4 the students will be running out of time so they'll be cramming for their courses, which is actually a very good sign for VIP.

Thanks, Louis, I'll get back to the queue.

Thank you.

The next question comes from the line of Chenyi Lu from Cowen and Company.

Please ask your question.

Thank you.

I have a question regarding your operating expense trend, given that this quarter you spent a little bit heavy on the sales and marketing and also the greater spending on the G&A especially for the increased headcount and the investment in new content and the new program.

So can you give us the operating margin trend in 2012?

That would be great, thank you.

Thank you, Chenyi.

I think we want to suspend that until -- the operating margin, until we see the Q3 results.

And, like I said, is -- because the -- of the early timing of Chinese New Year it tends to have a disproportionate negative impact on our profit number, so -- because the revenues will come in a little bit lighter than we had originally forecast.

Therefore, I'd like to wait until next quarter to give you the operating margin trend.

So far in the first two quarters of the year we're up about 500 basis points versus last year, so we're half a percentage point up.

I would expect Q4 to be stronger than trend and Q3 to be lower than trend, so let's see how those play out.

So I'd like to defer that question until next quarter.

I'm sorry.

Okay, great.

Thank you.

Thank you.

Your next question comes from the line of Catherine Leung from Goldman Sachs.

Please ask your question.

Hi.

My question is, you highlighted the growing mix of lower-tier cities in your prepared remarks with the effect of dampening ASP.

Can you comment on whether these lower-tier cities necessarily are lower margin, in terms of the intensity of competition as well that you're encountering in some of these lower-tier cities as well?

Thanks.

That's a great question, Catherine.

I think the lower-tier cities today are lower margin because they are not as established as Beijing and Shanghai.

Obviously, because the ASP is lower, the costs are also commensurably lower.

But I think the overall effect is that it'll be a long time before they have the margins that Beijing has or that Shanghai has, so I would expect them to be lower margin.

But there's still -- the operating margin in these cities will still easily be 15% when they hit a level of maturity of seven or eight years.

So I think there's still great lucrative markets to go into.

But we believe over time we'll be able to take up prices more.

The competition is from very strong, local-entrenched competitors, so it will take us time also to beat them out.

So it's just a -- we typically will win in almost every market we enter, but it takes some time.

So I think it is competition, plus the fact that the cities aren't as economically developed as Beijing and Shanghai will mean these will have lower margins for a while.

But we believe, long term, these are very lucrative markets to be in and it -- they're part of our growth strategy.

Great, thank you.

Thank you.

The next question comes from the line of Brandon Dobell from William Blair.

Please ask your question.

Hi, Louis.

I wonder if you can give us some color on how the pricing looks in some of the smaller cities that you're either opening new centers up or growing.

Are you seeing the same kind of pricing increases or same kind of pricing trends as you are in the tier-one cities?

And then I also want to get a feel for how many other smaller initiatives you have going on, right?

You have MaxEn, you closed down North Star.

How much else do you have going on behind the scenes that could -- maybe something turn into a bigger product set for you?

Thanks.

Okay, thank you, Brandon.

I think the second-tier cities are typically priced 25% to 30% below Beijing and Shanghai for most of the programs.

However, for the VIP programs they're probably priced at about a 40 -- anywhere from 40% to 50% discount, so it varies across the board.

Now, our ASP increases in those small cities are actually quite high, so we're increasing them at a very comparable level to Beijing and Shanghai.

That's why I said that the ASP can be -- look deceptively low.

Because the more and more students are enrolling in the second-tier cities, it brings down the blended ASP for the whole Company, even though in those cities the ASP is actually quite healthy, at probably 12% or 15% increase year over year.

So that's why it's deceptive.

So the ASP growth, as the business moves towards second- and tier-third cities, will look like it's not growing much, even though it is.

The second issue, on the new initiatives, we don't have that much in the pipeline, so I think we're focused on, basically, K-12 Education, VIP, Overseas Study Consulting and our Overseas Test Prep businesses.

Those obviously still have very, very long legs and a very long runway and so we continue to focus on those initiatives.

We will look at new markets.

We made an investment in Dajie.com, the occupational site that helps college students find jobs, so we -- but it's a small investment, so it's something we're dipping our toes into.

There's no large-scale investment initiatives in the pipeline currently.

Okay, then, one final question for you.

If you look across the tier-one cities right now, how -- what proportion of the enrollments do you think are coming -- or class signups are coming via online or technology as opposed to people going into learning centers and signing up there?

As far as Beijing and Shanghai, very close to half, if not more than half, of our enrollments are actually coming online on the online registration system.

Obviously, they attend our learning centers but they are registering online.

So I think that trend will continue, which is great for us because obviously with online registration we don't have to spend a lot of money on representatives and registration facilities.

So I think the trend will follow across China probably in three or four years we would expect that probably half or more of the students will actually register online.

But they will still be attending physical classes.

Good, thanks, Louis.

Thank you.

The next question comes from the line of Jin Yoon from Nomura.

Please ask your question.

Hi, this is Ruby Zhang sitting in for Jin Yoon.

I'm just wondering if you can comment a little bit more on your staffing costs as well as rent in the quarter.

Yes, we usually typically raise salaries once a year and we do that just before Chinese New Year.

This year, our staffing costs did not go up as much as in past years.

In the last couple of years they went up about 10% or 11% year over year.

This year we raised salaries about 8% to 10%, so down a couple of percentage points which obviously helps our margin.

So maybe we can keep up the ASP trend.

So overall staffing costs we're pretty happy with.

It's lower this year as an increase number than it was in the past two years.

I see.

Is that a result of the general economic trend or is that just (multiple speakers)?

Well, I think the last two years have been abnormally high because China's been going through a phase of very high inflation.

So I think as inflation cools off, it has a side benefit for us of there's not as much wage pressure.

So, yes, I think it is a direct result of the slowing economy in China.

I see.

And do you see the same trend for your rent expenses as well?

Rent expenses are a little bit slower to follow.

Rent is not going up as much as it has in the past as well.

Especially as we move to second-tier third cities, the rent increase is not as high as it has been in Beijing and Shanghai.

So we would expect that trend to continue on the rent side as well.

Everything still goes up, but not as much as in the past couple of years.

I see, thanks.

Thank you.

Your next question comes from the line of Jeff Meuler from Baird.

Please ask your question.

Hi, Louis.

I was wondering if you could give any quantification about what type of -- what the guidance is assuming from the impact from Chinese New Year being earlier this year.

And then how much of that do you think is delayed into Q4 versus how much of it do you think is potentially lost?

And then I understand that you are suspending the margin guidance, but can you just talk conceptually about the shortfall in revenue from the -- that revenue being pushed back or not capturing it this year, how much of that are you able to offset in terms of lower costs?

That's a great question.

I didn't put a hard number in our prepared remarks, obviously because it's a moving target.

If I had to estimate today, and I say don't hold me to this.

If I had to estimate today I would expect the negative impact on Q3 to be between $5m and $7m, maybe $8m on the revenue line.

And that's why you saw us take the revenue guidance down a few percentage points.

But that translates into a disproportionate impact on profit.

So I expect it to hit the net profit number in Q3 by probably about $3m to $4m.

So it has a larger impact on the margins.

That's why I suspended the guidance until -- the reason I suspended it is because I want to see how good we are at cost control to offset some of the revenue shortfall.

I think we will get more than half of it back in Q4, of both.

So I would expect us to lose some revenue and some profit permanently as we've seen in past years from that experience.

But we expect a nice bounce back in Q4.

There's a lot of factors pushing Q4 up higher.

June is the deadline for students to prepare for the end of year exams.

I think because Q3 is compressed this year it benefits Q4 anyway.

And I think it will also have an outsized impact because as students are forced to cram in the last quarter, they tend to opt for smaller classes and for VIP classes, which helps obviously our top and bottom line.

Okay, thanks for that.

And then just to follow up on the overseas test prep, I understand the slow enrollment growth with the tough comp, but revenue growth was still quite good there.

Anything that you can say, in terms of, is there a larger price increase that you went through?

Or was it mixed with more (multiple speakers).

It was the pre-enrollments from the summer.

So if you look at Q2 our enrollments were up 22%.

So those are usually pre-signups in that quarter, but most of the revenue is recognized in the subsequent quarter.

Okay, thank you.

Yes, the prices are going up, they're healthy, they're still over 20%.

So that's why I said, you can't just look at the enrollment number.

The enrollment numbers you see actually indicate our future demand, not past demand.

Thanks, Louis.

Thank you.

Thank you.

Your next question comes from the line of Janice Chen from Piper Jaffray.

Please ask your question.

Hi, Louis, this is Janice Chen asking questions on behalf of Mark Marostica.

My question is about MaxEn.

So what's the revenue contribution from MaxEn in Q2, and out of the 39 learning centers that you added in the quarter, how many are related to MaxEn?

Yes, MaxEn we have a total of five now.

I think one or two were added in the quarter.

MaxEn we have 30 or 40 students, you just times it by $2,300 which is about $600,000 and you just divide it by four right, or three.

So it's probably a couple hundred dollars is the contribution on the revenue side.

But MaxEn is just getting started, so we probably won't open more than eight centers before now and the end of the year.

Then we'll see how those progress before we decide on the next strategic move with MaxEn.

So it's progressing well.

The demand -- the take up is good so far, but it's very early.

Are you planning to tap into more cities other than the existing four cities?

Yes that would be our plan, is to take it to probably the top 12 or 14 largest cities in China in the next few years, assuming the initial pilot cities do well.

Right, just one more question.

How much G&A spend in the quarter incremental relate to the course development and the teacher training in the quarter?

Thanks.

I don't have that specifically broken out.

There was an earlier question about marketing and I think in marketing we had the actual market promotion expenses didn't go up that much.

It went from 10.

to 7.7% -- $7.7m to $10.7m, up 38%.

G&A itself and R&D expense went up -- was flat.

$2.1m at that period last year, $2.1m this year.

HR expense for G&A went up a lot.

They went up from $18.5m to $28.4m, up 54% and that's because of the learning centers actually.

So it's because we added 39 learning centers this year -- this quarter, the staffing had to be ramped up.

So we increased headcount by about, let me check the final number.

We increased headcount in the quarter overall from Q1 by about 1,400 people, which about 700 -- 600 or so were teachers.

So it was a headcount increase that drove up the G&A primarily because of the new learning centers.

Thanks very much, Louis.

That is a strategic move because we expect Q3 and Q4 to be stronger so we have to prepare in Q2 on the learning center side.

Right.

Thanks.

Thank you.

Your next question comes from the line of Eric Wen from Mirae Asset.

Please ask your question.

Hi, Louis, thanks for taking my questions.

I just have some housekeeping questions.

The first one is about tax rate.

Can you give us some color on the tax rate outlook for the next two years, given I think your tax rate for this quarter is a little bit on the high side?

Thanks.

Yes, like we've been saying, taxes are going up in China.

So we expect this calendar year taxes to be probably somewhere between 10% to 11% overall blended.

And then probably go up 1 percentage point next year.

So probably 11% to 12%.

We're trending towards 15% in the next few years.

Okay, a quick follow up on the -- and the follow-up question is on your other income, what is the nature of this part of -- I saw an increase during the quarter.

Yes, the increase is from interest income, Eric.

As you know we have about $700m in cash, and so it's the interest income from that, from those funds.

Okay, thanks.

It was about $6m this last quarter.

Thank you.

And the next question comes from the line of Jennifer Gao from Credit Suisse.

Please ask your question.

Hi, Louis.

My question is about MaxEn also actually.

I'm very interested in this business unit.

Can you please tell me a little bit more about the breakdown in terms of enrollment, like the age group?

It's targeted at age 4 to 17 and what percentage is from primary, the really younger kids and how much is from high school students?

Thanks.

Yes, I don't have the specific breakdown, I apologize, Jennifer.

I think most of the students are going to be middle and high school.

Middle aged kids, so probably not as many grammar school kids.

But that's because it's early.

I think our target, our long-term target is to get students in in the grade school level.

So somewhere between first or second grade and sixth grade is longer term.

But as we roll out these programs, the initial adopters, the ones who are -- the parents who are trying to play catch up, trying to get their kids into these intensive programs now because they weren't offered in the past.

So I think we'll begin to track it more closely in the quarters ahead for you, but I don't have specific age by age breakdown.

But we will begin to track that going forward.

Okay, thank you.

(multiple speakers).

Thank you.

The next question comes from the line of Paul Ginocchio from Deutsche Bank.

Please ask your question.

Thanks for taking my question.

First, just on you guided 94 centers year to date, up 22%, that's better than your entire growth last year.

Just wanted to talk about capacity at your centers and also maybe talk about margins at your centers you had in fiscal '09 versus fiscal '10, versus fiscal '11.

Are they ramping to your target margins as quickly as maybe some of the older cohorts of learning centers?

Thanks.

Yes, I think the centers are actually ramping up quite well.

As you know, Paul, there is a cannibalization effect that as you open up a new center in a new city it actually cannibalizes from the older cities.

But because we're opening up smaller learning centers, they're actually ramping up quite quickly.

So their payback is typically in the first year; they break even in the first year and then they begin to be profitable in year two.

So they are ramping on schedule.

I don't have a specific margin breakdown by cohort by 2008, 2009, 2010 because as you know, our finances are set up in a city-by-city mode.

So they're not specifically broken out margin by learning center, they're broken out margin by school.

But they are ramping up quite rapidly.

Their typically long-term margin will not be as high as our existing learning centers, because the existing learning centers typically are much larger.

And because of that, they will have higher longer term margins, but they take longer to ramp.

So the newer centers are typically smaller.

They're typically kids and VIP, K to 12 or VIP.

So they will fill up quicker.

But they should be at maturity between two and three years, which is about 65% full.

As far as utilization for the quarter.

As you know, Q2 is our lowest quarter, so utilization is typically in the 35% to 40% range and it should ramp up in this quarter in Q4 and our highest utilization is in Q1 during the summer quarter.

Thanks very much.

Thank you.

The next question comes from the line of Chao Wang from Merrill Lynch.

Please ask your question.

Hi, thank you for taking my question.

I have a follow-up question on Chinese New Year impact.

Is the impact mainly on the overseas test prep segment or also on (inaudible) segment?

Thank you.

It's on all the segments, but it has a bigger impact on overseas test prep, Wang Chao.

That's a good observation.

Because students got out of school, finished on January 13.

The New Year holiday is less than a week and a half away.

Most students -- there's not enough time for them to take a really meaningful class.

And for us the issue really relates to, we make revenue the longer the winter break is.

Because we make revenue as the students are actually in class, by the hour.

So if the New Year's holiday is going to cost three to five days, that's a big impact on us for a 90-day period.

Especially when the students are -- it's just like -- but typically we'll make it back in Q4 and Q1 together we'll get probably more than half of it back, of the shortfall.

That's based on what we saw in the summer 2009 when this happened as well, so three years ago, this sort of phenomenon happened as well.

And I also have a follow-up question on MaxEn now.

Why it seems that profit or loss is not reflected in non-controlling interest items for (inaudible).

Yes, that JV will close this quarter.

Oh okay.

It is being restructured so it will begin -- it will be showing that way as 65/35 in our favor going forward but it takes some time to structure everything and get the legal entity going.

Also in the any sense of the net -- margin level, when it reaches mature stage.

We have internal forecasts of 15% to 20%.

But like I said, it's a forecast and mature stage means a long time, probably three to five years.

So a lot of things can happen between now and then, but we expect it to be 15% to 20% margin.

So it's in line with the (inaudible).

Yes, it should be in line and like I said, it takes time.

So those are based on a lot of assumptions that may or not happen in the next three to five years.

Thanks for that.

Thank you, Wang Chao.

Thank you.

Our next question comes from the line of Ella Ji from Oppenheimer.

Thank you, I have two questions.

First is as the inflation rates takes off, how will that impact your like-for-like ASP growth in the next year?

And my second question is regarding your operating expenditure.

If we continue to see some softness in your top-line growth, will you consider increasing your operating expenses such as sales and marketing or any other promotional expenses, or will you continue to be in this cost control mode?

Thanks.

Those are good questions, Ella.

For us, the inflation rate typically if inflation is high, we will typically raise prices to compensate for that.

If inflation is low we will still raise prices but probably not quite as much.

We actually obviously prefer a low inflation environment for our business, since it is headcount intensive as well as facilities intensive.

So we do prefer a low inflation rate.

So I think the trend of low inflation helps us.

If inflation does go up again, then of course we'll have to raise prices as well as raise salaries, similar to the last couple of years where it went up about 11 -- 10% to 11% which is not ideal for us.

So I think as far as if the business flows, we will typically spend more money on promotion expenses and then we'll also probably slow down the learning center growth and cut other expenses.

But we will typically, yes, increase promotion expense to try to compensate and get the revenue dollars up.

Just a quick follow up for the like-for-like ASP.

Shall we expect it will go back to your normal range, which is 8% to 12%?

It is, it is in that range now.

Like I said, don't be deceived by the fact it shows like 11% overall.

It's because as the enrollments increase in the lower tier cities, it actually brings down the blended ASP.

So the actual real ASP is our historical trend of 10% to 12% up.

Thank you.

Thank you.

Your next question comes from the line of Ming Zhao from SIG.

Please ask your question.

Thanks for taking my question.

Just a question on the books and other revenue line.

It seems like it's a little bit light for the second quarter, whether it's from a q-on-q or year-over-year perspective.

Just want to understand what's the reason behind that.

Thank you.

Yes, Ming.

The books and other lines have been slow growers for a while.

Yangzhou School, don't forget, is full.

So our private school at Yangzhou is full.

So it's just going to grow at whatever the tuition increase is per year.

Books has typically been a slow grower for quite a few years.

It's a very mature business.

So those typically are going to be slow growers and that's why we don't spend a lot of time on discussing those businesses, because they kind of grow at 10% to 15% a year.

So it's just books not the study consulting?

Consulting is taking off.

As you saw in our prepared remarks, the revenue is up 90% year over year.

So this is a business that's gone from almost nowhere and this year will do probably very close to $40m, so it's been a rocket ship.

I think overseas, study consulting is probably the fastest growing business in New Oriental right now.

Thank you.

Thank you.

The next question comes from the line of (inaudible) from (inaudible).

Please ask your question.

Hi Louis.

Another question on the Chinese New Year effect.

When you were originally making your forecast and making your hiring plans, had you not anticipated this early Chinese New Year effect?

And if so, the reason for the revised slower guidance, is it because the trend you're seeing is slower than you had originally expected?

Thanks.

It is slower than we originally expected.

A couple of years ago it was over a week was the difference.

This time it's like three to five days.

We thought it would have a negative impact but not as much as it is.

It's because of the timing where students get out of school eight or nine days before the holiday itself.

So don't forget, typically we try to run two sessions, one session before Chinese New Year and one session after.

The demand for the session before Chinese New Year has been the part that's been disappointing because of the compressed schedule.

Students decided to opt for the session afterwards or not to sign up at all during winter break because seven days or eight days is just not enough for a full course.

So, we didn't expect it to be as big an impact as it has become to date.

Like I said, I don't want to be Chicken Little says the skies falling in.

We're still going to have a good quarter we believe.

Revenue growth of over 30% or so is nothing to sneeze at.

So it's still going to be within the typical range that we guide of 30% to 35%.

It's just that because the analysts, you guys, had basically taken up the numbers in Q3 and Q4 because we've been typically outperforming in those quarters.

So you guys are very astute and you figured out that we usually do very well in Q3 and Q4.

We always guide 30% to 35%.

So this guidance is only 2% lower.

As you know, we typically will beat the guidance by a little bit.

So it's really a quarter in line, but because of the consensus had gotten way up there, like 37% or 38% and also the profit number had gone quite high at about $27m or $28m for the quarter.

When we saw that the enrollments weren't picking up as much as we wanted in the first -- in the last couple of weeks.

It's actually the last couple of weeks is when students started signing up and we heard from the parents that they're not going to sign up for classes that are only seven or eight days.

Thank you.

Thank you.

The next question comes from the line of Charles Cartledge from Sloane Robinson.

Please ask your question.

Hello.

Hi, Charles.

Hi.

Could you tell us what your thinking is or the Board's thinking is on the $700m and what you're going to do with it?

Because it's going to start acting as a real cash drag on your balance sheet.

And the more it goes on, the more it will drag on your stock price.

Yes.

It's obviously a question we deal with at every Board meeting as you know.

I think we're still in a hold mode.

We had that discussion yesterday.

The $700m is a little bit deceptive as you know, Charles, where $200m isn't ours; it belongs to the students because it's deferred revenue.

So that means we have about $500m.

And because of the nature of our business, one of the biggest risks to our business is pandemics and other things that where we're forced to shut down our schools for long periods of time.

In that respect we need a cash balance of about 12 to 18 months of operating expense, which means we need to hold about $250m, $300m in our pocket in case there's a pandemic event, similar to SARS but much bigger where we have to shut down all our schools.

We don't want to have to close the company because of that.

The other -- so that leaves about $200m.

We need about $50m in the network as working capital to grease the wheels as we go into -- we're in 49 cities, each city needs a certain bank balance.

So like I said, we have a balance of probably about $150m to $200m we could potentially pay out.

The issue is that that money is not in US dollars.

As you guys know, our revenues are in CNY and our expenses are in CNY.

So the money that we had in US dollars we used already to purchase shares.

So we spent $94m of our IPO proceeds and bought back 1.4m ADSs at about $73 a share a few years ago.

So our US dollar balance is not high.

So we study it each time, but there is no movement on that right now.

And as you know there's also withholding tax in China that looks like it's 10% but when the companies actually goes through the process, it ends up being a lot of other taxes and the amount goes up into the 20s.

So the cost of dividends and repurchased stock repurchases becomes an overwhelming high unless you have a lot of US dollars, which we don't.

Understood, thank you.

Thank you.

Thank you, ladies and gentlemen, we are now approaching the end of the conference call.

I would now turn the call over to New Oriental's President and CFO, Mr.

Louis Hsieh for his closing remarks.

Again thank you, everyone, for joining us today.

If you have any further questions, please do not hesitate to get in touch with me or any of our Investor Relations representatives.

Have a good day, have a good evening.

Thank you.

Thank you.

Ladies and gentlemen, that does conclude our conference for today.

Thank you for participating.

You may all disconnect.