TAL Education Group (TAL) 2013 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the TAL Education Group first quarter FY 2013 earnings conference call.

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

There will be a presentation followed by a question and answer session (Operations Instructions).

I must advise you that this conference is being recorded today, Tuesday the 24th of July, 2012.

I would now like to hand the conference over to your first speaker today, Ms. Mei Li, Investor Relations Manager for TAL Education Group.

Thank you.

Please go ahead.

Thank you all for joining us today for TAL Education Group's first quarter of fiscal year 2013 earnings conference call.

The first quarter earnings release was distributed earlier today, and you may find a copy on the Company's IR website or through the newswires.

During this call, you will hear from Chief Financial Officer, Mr. Joseph Kauffman.

Following his prepared remarks, Mr. Kauffman will be available to answer your questions.

Before we continue, please note that the discussions 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 are subject to risks and uncertainties that may cause actual results to differ materially from our current expectation.

Potential risks and uncertainties include, but are not limited to, those outlined in public filings with the SEC.

For more information about these risks and uncertainties, please refer to our filings with the SEC.

Also, our earnings release in this call includes discussions of certain non-GAAP financial measures.

Please refer to our earnings release, which contains a reconciliation of the non-GAAP measures to the most directly comparable GAAP measures.

I would now like to turn the call over to Mr. Joseph Kauffman.

Thank you, Mei.

And thank you all for joining us on our earnings conference call for the first quarter of fiscal year 2013.

We're very pleased to report another quarter of solid top line growth, and that our efforts on improving center utilization have begun to have a positive impact on margins versus the last three quarters which saw significant margin declines.

These results reflect our more balanced approach to improving the quality of our revenue growth, while at the same time investing in the core competencies needed to support our healthy long-term development.

On the revenue side, net revenues increased by 48.4% year over year to $49.3 million exceeding the top end of our guidance by $3.5 million.

This growth was supported by solid enrollments growth at 34.1%.

Our center-based business consisting of small class and one-on-one delivered solid top line growth.

And particularly, we are pleased to continue to see the increasing revenue contribution for small class from cities other than Beijing and Shanghai.

Let me now take some time to update you on key developments in the first quarter.

In this first quarter of fiscal year 2013, we launched our tutoring services in one more city, Shenyang, bringing the total number of cities in which we have operations to 15.

In Shenyang, we started with one small class learning center and only plan to add an additional center when this first center reaches capacity.

As we have experienced in other cities when we first came in, the best way to drive word of mouth is to have fully occupied learning centers.

We wait to open a second center in Shenyang until there is pent up demand overflow to support another center.

While we opened one center in Shenyang, we closed one small class center in Beijing in favor of expanding another facility to optimize performance.

As a result, we had no net additions in our physical network, keeping the total of 270 learning centers unchanged from the fiscal fourth quarter of 2012.

Of these 270 learning centers, as in the fourth quarter, 159 were small class learning centers which include four learning centers for our Mobby branded pre-K business and 111 learning centers were for one-on-one.

I am pleased that again this past quarter we had outstanding growth in our small class business segment in the cities other than Beijing and Shanghai, our two core markets which also continue to grow, but naturally more slowly from a larger base than our new markets.

Cities other than Beijing and Shanghai contributed 21% of small class revenues in the quarter, compared to only 8% during the same period in the previous fiscal year, and 16% in the fourth quarter.

Revenues from these cities other than Beijing and Shanghai actually grew by over 200% versus the same period in the previous year.

In our Zhikang branded one-on-one business, we had greater than expected upside momentum even knowing that spring term is the peak season for one-on-one tutoring as students cram for exams.

For Zhikang, we are pleased to have been able to begin to improve utilization of the capacity we added last year and to refocus on driving cross-sell from small class.

Overall though, we expect our one-on-one personalized premium services business to grow at a much more moderate pace this year as we use Zhikang primarily as a complementary platform to our small class business.

Going forward, we still strictly monitor its learning center performance, close or convert underperforming one-on-one centers, and continue to seek better cross-sell from small class.

As for our other business units, online courses revenues were up over 100% year on year in the quarter.

While this is good growth momentum, it is very early days for our online business, and we are still looking at how best to grow and monetize this new business.

Meanwhile, in our Mobby branded pre-school small class business, we are zooming in on math and sciences subjects to give our brand a differentiated focus in line with our core businesses.

These business units fit well into our long-term growth strategy and will likely be areas of increased investment going forward.

Let me now step back for a moment to discuss how we run our business towards realizing TAL's long-term goals.

Over the years we have built up our brand differentiation in tutoring services around our small class Peiyou business model which is a specialized business focusing on the top students in the market, and therefore has greater barriers to entry than other segments in China's education sector.

This small class Peiyou business in the fiscal year ended February 2012 was over 70% of the total revenues of our overall business.

Given its pricing in the markets and because it is a one-on-many business model, our small class Peiyou business should naturally have higher margins than one-on-one after-school tutoring models, like those offered by our Zhikang line and our competitors.

One of the reasons for our success in operating the small class business model is the management attention we put on both the utilization rate of our facilities and student retention levels.

We constantly measure and monitor business health indicators and base our school heads performance reviews partially on these key performance indicators as well.

We have built in these quality standards because we know our long-term viability depends ultimately on how well we serve the many parents who have come to appreciate the support our services have provided their children in achieving greater academic outcomes in the Chinese education system.

Because of our early ingrained focus on the quality of our growth, you will see us go through cycles of invest and harvest.

We will first have a phase of investment in new centers, followed by a phase of spending energy on filling those centers, and refocusing on the health indicators for our business.

For example, in fiscal-year 2011, we raised prices, increased the number of hours per enrollment and invested in a lesser number of learning centers.

So margins were higher as we consolidated from a period of rapid expansion and investment.

During fiscal-year 2012, however, we more than doubled our city and learning center base, and of course had a corresponding increase in teacher staff, rental and other related costs incurred as part of the expansion of our business.

In our most recent annual report on Form 20-F filed as scheduled just last month, we expended considerable effort in order to provide such detail disclosure to investors on the breakdown of our cost of revenues.

Moving to our operating expenses, you will see that in fiscal-year 2012, we also invested heavily in controls, systems and processes at the expense of our operating margins.

We engaged PriceWaterhouseCoopers as our independent consultant for SOX 404 compliance before our initial public offering in October 2010 and their engagement extended through fiscal year 2012.

Also in fiscal-year 2012, we established our own internal control and optimization department, which aims at finding ways to optimize our cost structure and better manage and control our business through improved planning, systems and processes.

In line with what we consider to be best practice, this department is completely separate from our internal audit department.

Finally we engaged IBM and Roland Berger in consultancy projects to help us develop a sound and focused strategy for our overall business and design the right systems and processes for a sustainable scaling of the business.

We have already completed the strategy and organizational structure modules of these engagements and have now entered the phase focusing on systems and processes.

Later in the fiscal-year 2013, we will enter the IT design portion of the engagement to help us continue to improve our IT systems which will in turn feedback into helping us better control and manage our business.

Of particular note, we have recently kicked off a project with the objective of implementing improved IT systems for human resources, finance and administrative areas by the end of this fiscal year ending February 2013.

Specific areas of attention in the first quarter were the following.

We started a project with a new eHR system powered by PeopleSoft, using CapGemini as a consultant.

We also upgraded our finance system with automated PRC and US GAAP accounting capabilities.

These investments in our organization structure and systems are costly in the near term, but we believe will prove to pay huge dividends in the long term as we are able to better manage and control the growth of our business.

As with our approach to center investments, for our headquarters support functions, it is also the case that rather than singularly focusing on short-term growth and margin improvement, we regularly revisit the health indicators of our business and invest in improvements, and we will continue to do so.

During the second half of fiscal-year 2013 and beyond, we expect to further expand our network and operations by opening new learning centers and hiring additional teachers and support staff, as at the same time we continue to invest in the quality of our growth and core competencies.

Actual new centers we expect to open this year may number only in the low 20s, and we expect them all to be small class centers.

We will also increase our overall capacity by adding rooms to existing facilities, which is often a more cost-effective way to increase our overall capacity.

We still see a lot of opportunity for further optimization of our existing classroom capacity.

Before I go into more details on the financials for the first quarter, I would like to point out that we believe TAL follows best practices in how its corporate structure protects the rights of the shareholders of the listed Company.

We have contractual rights that give us the power to direct the activities of each of our variable interest entities.

These contractual rights provide us with the ability to effectively control our consolidated affiliated entities and their respective existing and future subsidiaries and schools.

I refer you to our most recent 20-F statement filed on June 27, 2012 for further details.

Let me now go over the financial results with you.

We delivered $49.3 million in revenue in the quarter, representing revenue growth of 48.4% versus the same period in the previous year.

Driving the quarter's revenue growth was strong enrollment growth of 34.1% combined with higher average selling prices.

Total student enrolments increased to approximately 164,510 from approximately 122,650 in the same period one year ago.

The increase in student enrolments was driven primarily by small class and online courses, and to a lesser extent by one-on-one tutoring services.

On the ASP side, the year-on-year ASP increase of 10.7% to $300 for the first fiscal quarter from $271 in the first quarter of the previous year was primarily driven by the hourly rate increases of a portion of our center-based course offerings and the foreign exchange rate fluctuation.

Given the first quarter is a peak season for the one-on-one business, I will also spend a bit of time on the contribution of the one-on-one business to the overall results in the first fiscal quarter.

One-on-one tutoring contributed 31% of revenues for the first quarter of fiscal 2013, compared to 24% for the previous quarter and 26% for the same period in fiscal-year 2012.

Given the seasonality of the one-on-one business ahead of the major Chinese school entrance exams which take place in June of each year, our first fiscal quarter historically has been the quarter in which the one-on-one business makes the greatest revenue contribution to the overall business.

In fact, in the quarter Zhikang posted its highest ever quarterly revenue total.

Zhikang utilization rates and corresponding profitability levels were also seasonally higher during the first quarter.

Now, moving back to the total Company numbers, cost of revenues increased by 42.1% to $25.8 million from $18.1 million in the first quarter of fiscal-year 2012.

The increase in cost of revenues was primarily due to an increase in teacher compensation and rental cost associated with the business expansion that took place during the fiscal-year 2012, as well as other staff costs to support the larger number of learning centers in operation.

Non-GAAP cost of revenues, which exclude share-based compensation expenses increased by 43.6% to $25.7 million, from $17.9 million in the first quarter of fiscal-year 2012.

GAAP and non-GAAP gross profit for the first quarter were $23.5 million and $23.6 million respectively as compared to $15.1 million and $15.3 million for the same period of the last year.

GAAP and non-GAAP gross margin for the first quarter were 47.7% and 47.8%, respectively as compared to 45.4% and 46.1% respectively for the same period of last year.

Selling and marketing expenses increased by 41.8% to $6.1 million from $4.3 million in the first quarter of fiscal-year 2012.

The increase primarily reflected increased expenses of sales and marketing staff to support a greater number of programs and services offerings in the larger learning center network as well as increased advertising expenses.

Non-GAAP selling and marketing expenses, which exclude share-based compensation expenses, increased by 42.6% to $5.6 million from $3.9 million in the first quarter of fiscal-year 2012.

General and administrative expenses increased by 53.3% to $11.4 million from $7.5 million in the first quarter of fiscal-year 2012.

The increase was mainly due to an increase in general and administrative staff expenses to support expanded operations and related rental and office expenses.

Non-GAAP general and administrative expenses, which exclude share-base compensation expenses, increased by 75.0% to $9.8 million, from $5.6 million in the first quarter of fiscal-year 2012.

The above factors combined to give us operating income of $6.0 million, representing a year-over-year increase of 74.8%.

Non-GAAP operating income increased 39.1% year over year to $8.2 million.

Operating margin in the first quarter was 12.2% as compared to 10.4% in the same period of the previous year.

Non-GAAP operating margin was [16.7%] (Company corrected after the conference call) as compared to 17.8% in the same period of the previous year.

Moving below the operating line, I wanted to highlight the impact of the exchange gain or loss to the other income/expense line of the P&L.

As we hold the vast majority of our cash balance in renminbi and report in US dollars, we benefit from exchange gains in times of relative strength of the renminbi and incur exchange losses in times of relative strength of the US dollar.

We record exchange gains or losses in the other income/expense line.

For the first quarter of fiscal year 2013, other expense was $1.2 million compared to other income of $1.4 million in the same period of the last year.

So we effectively had a $2.6 million swing in the other income/expense line in the quarter driven primarily by changes in the exchange rate.

While the operations performed strongly, the exchange rate had a relatively large impact on net income in the quarter.

Our net income for the quarter was $5.0 million, and increased by 8.2% year over year.

Non-GAAP net income for the first quarter was $7.2 million, up by 1.7% year over year.

The operating income/expense line was the primary driver of the net income growing at a slower rate than our operating income.

From the balance sheet, as of May 31st, 2012 the Company had $208.1 million of cash and cash equivalents and $15.7 million of term deposits as compared to $188.6 million of cash and cash equivalents and $10.3 of term deposits as of February 29th, 2012.

As of May 31st, 2012, the Company's deferred revenue balance was $108.2 million as compared to $63.3 million as of May 31, 2011.

Moving on to Q2 guidance, based on the Company's current estimate, total net revenues for the second quarter of fiscal year 2013 are expected to be between $64.8 million and $67.4 million, representing a year-over-year increase of 26% to 31% from the second quarter of fiscal year 2012.

We remain quite positive on the outlook for our full fiscal year ending February 2013 and our guidance for the second fiscal quarter keeps us well on track for the expected 30% to 35% revenue increase for the entire fiscal year which we communicated last quarter.

Overall we are pleased with the solid revenue and operating income growth we achieved in the quarter, demonstrating our ability to effectively utilize the large investment in our learning center network we put in place last year.

At the same time, at this early stage in the Company's development and given the large opportunity presented by China's fast growing after-school tutoring market, margin expansion while desirable is not our highest priority.

Over the coming quarters we will continue to focus on the health of the business for the long term and invest aggressively in our core assets and the operational support and systems required to sustain our successful business expansion.

That concludes my prepared remarks.

Operator, I am now ready to take questions.

(Operator Instruction) Philip Wan, Morgan Stanley.

Congrats on a very strong quarter.

My first question is about recent concern on the VIE.

Could you please talk a little bit more about the VIE structure employed by TAL Education in terms of shareholder protection and also the basis for consolidation from the VIE to the listed company?

And I have a follow-up.

Thank you.

Sure, Philip.

Let me first address your first question.

As I mentioned in my prepared remarks, I believe TAL follows current best practices on how its corporate structure protects the rights of the shareholders of the listed Company.

I mentioned we have contractual rights that give us the power to direct activities of each of our variable interest entities.

These contractual rights provide us with the ability to effectively control our consolidated affiliated entities and the respective existing and future subsidiaries and schools.

I refer you to page 16 of our most recent 20-F, which was filed with the SEC on June 27, 2012.

Keep in mind we have a February 29 fiscal year, so it was filed actually slightly ahead of schedule.

In addition -- and it goes over that on page 16, we've entered into agreements with our VIE and each of their respective shareholders which provide us with the ability to effectively control our VIEs and the respective existing and future subsidiaries and schools.

Specific agreements that provide respective control over our consolidated affiliated entities include a power of attorney and equity pledge agreement.

Hopefully that helps answer your first question.

I don't know if your follow-up question was also related to corporate structure or it was another question.

Right.

Thanks Joe.

And my next question is actually about your network expansion strategy.

Sure

Looks like, again, the number of learning centers have been largely flat over the past quarter and no net adds this quarter --- and I know you're probably looking for improving utilization -- while you may speed up on the expansion in later this year.

But just particular for this quarter, as I understand that you add some space for existing networks, I wonder how much space did you add to the existing centers and how does that compare to the number of new learning centers in the equivalent?

Sure.

In terms of expanding the centers, we actually added 36 classrooms across the networks.

So, each learning center is different, but if you kind of back of the envelope think of a learning center as having five classrooms, then it would be the equivalent of, say, seven new learning centers in terms of incremental capacity that we added in the quarter.

And you are right, I highlighted last quarter that you shouldn't expect a lot of incremental new adds in the first half of the year and that we would be adding learning centers in the second half of the year, and we're still on track to do that.

You can still expect us to add new learning centers in addition to the additional capacity.

And right now as I mentioned in my prepared remarks, the new learning centers will likely be somewhere in the 20s and be for our small class business.

And I think your other point was also spot on.

We're really focusing on utilization and the health of our business because we invested in significant capacity last year.

We added 138 new learning centers on a base of 132 learning centers last year.

And that's typical for our kind of business where we go through these invest and harvest cycles.

And this year, certainly for the first half of the year, it's more about the harvest cycle.

So we'll be refocusing on the health indicators that really drive our business.

All right.

Thanks, Joe.

That's helpful.

I'll go back to the queue.

Chao Wang, Merrill Lynch.

Firstly just a housekeeping question.

What is the revenue and enrollment mix of the online and offline business?

Thank you.

Yes, in terms of the enrollment mix for online this quarter, it was roughly 19% of enrollment for the online business.

Yes.

How about sales?

Sales, it was also low single digits, I believe around 2%.

Okay.

Secondly, could you explain a bit to us what drives the strong beat in top line this quarter?

So this quarter has changed after you gave the guidance last quarter during the earnings call.

Thank you.

Yes, sure.

Q1, we had and I tried to -- I mentioned this in my prepared remarks.

There are a couple of factors.

One is we continue to see a very strong performance from our cities outside of Beijing and Shanghai.

So they continue to -- especially for the small classes business, they grew over 200%.

And contribute to overall revenue for small class of 21% in the quarter, which is the highest contribution they've had so far since we've been a listed Company.

So that was a big driver.

The other big driver that I mentioned in the prepared remarks was one-on-one.

So one-on-one also was a big factor in the quarter.

So one-on-one, we had really good out delivery, and part of that has to do with the seasonality -- it's the seasonality of the business.

The one-on-one business is typically a business that in the spring you have all of the tests to take place, so one-on-one is typically going to be higher in terms of revenue in the spring.

But this year it was even better than what we expected.

And I think part of that has to do with the focus that we put on the business in terms of really focusing on optimizing that business, focusing on the cross-sell from our small class business, et cetera.

So those were the two major drivers in the first quarter.

And I've mentioned also that, as I mentioned in my prepared remarks, I wouldn't expect that one-on-one business will grow at the same gangbuster's pace it did last year.

We're intentionally managing its growth in the quarter and for the full year.

So this is seasonally a high quarter, that's why it got to the 31% revenue contribution, but I wouldn't necessarily expect that for the full year.

And then back to your first question, just to give you a more precise number, the revenue contribution for online courses was 3% in the quarter.

Thank you.

My last question is could you give us some color on the performance of the four cities that you entered in the first quarter of fiscal '12, Xi'an, Chengdu, Hangzhou, and Nanjing after one year ramp up?

Yes, they're still performing quite well.

I am not going to break down into the details.

Overall the cities outside of Beijing and Shanghai delivered over 200% revenue growth.

Those cities have all performed quite well, far exceeding our expectations for Xi'an, Hangzhou, Chengdu and Nanjing.

And then the cities that we added in January are still kind of in the early phases, so I'll be able to give more of an update on that later in the course of the year.

Okay.

Okay, thank you.

Congratulations on the good quarter.

Thank you.

Thanks, Chao.

Jennifer Gao, Credit Suisse.

Congratulations on a successful quarter.

My question is, the next quarter's guidance looks very weak to me.

Could you please give us more colors on the rationale behind?

Is it because of like the slowing down of Chinese economy or management concerns that latest ASP increase in Beijing and Shanghai could somehow be a drag, or anything else?

Thank you.

Yes, sure.

Well, first of all I would say that even with this guidance, we're well on track for the full year revenue growth that we've given.

Even with this guidance, we'll be tracking through the first half of the year at 35% to 38% revenue growth, and we're targeting 30% to 35% for the year.

So I wouldn't necessarily characterize it as weak.

In terms of what could have an impact, in terms of the economic slowdown, in our Q1 results we haven't so far seen a meaningful impact from the economic slowdown.

There may be some but we haven't really seen it yet.

In the second quarter, we have seen some slower growth in Beijing and Shanghai.

But these are more mature markets, and there are other factors involved as well, such as Shanghai going through a phase of managing its growth and refocusing on fundamentals after a period of rapid expansion.

We also see some softness in our one-on-one business as students have taken a break following exams.

So the first question just answered was about why we outperformed in the first quarter.

That had a lot to do with one-on-one.

I think that one-on-one -- now typically after the peak season, there will be kind of less one-on-one that happens in July.

I think people just get tired.

But we had seen some slow down in the July numbers to even less than what we expected.

So we can't rule out that due to the economic situation one-on-one may pick up more slowly at a lower growth rate, given the higher price point of one-on-one.

And there's also a lack of a fixed schedule for students in taking one-on-one classes.

So in other words, unlike small class they can postpone when they actually take the classes.

But we have already factored the relatively slow growth in Beijing and Shanghai and softness in one-on-one into our guidance.

Overall, we remain comfortable with our overall full-year growth expectation of 30% to 35%.

Also I'd say that we believe that history has shown that providing the best quality education to one's children remains a high priority item in the household budget of urban Chinese parents regardless of the macro-economic environment.

So we still have confidence in our full-year numbers and we think that even with this guidance, we're certainly on track to achieve that.

Understood.

Thank you.

Mark Marostica, Piper Jaffray.

Nice job on the quarter.

First question is related to the guidance for Q2, Joe.

And I'm curious how you characterize your expectations on margins.

I know that's not a top priority of the Company as you mentioned in your prepared remarks, but I'm interested in what you think we should be looking for in Q2, if we should see margin improvement or not, and then for the full fiscal year as well.

Yes, thanks Mark.

I'm not going to give quarterly margin guidance.

In terms of the full year, I'm still not ready to revise the kind of trend that I gave in the last quarter.

We are focusing on optimization, we are focusing on doing more with less, but at the same time we do have big areas of investment that I highlighted in my prepared remarks that I think are really important for the Company in the longer term, and those include the implementation of an e-HR system, our OA systems, financial system upgrades and renovation that will go into the office space.

So a portion of that will be capitalized, but I still think that it will affect the second half of the year.

So in terms of full-year margin outlook, I'm not ready to come off of what I said last quarter, which was that it could be potentially lower operating margins this year than last.

But I think you can see it from the most recent quarter that we're doing our best to really optimize the business and really focus on driving the long-term health of the business.

Okay.

Thanks for the color there.

And following up on the VIE structure that you described, are you aware of any inquiries or investigations by the SEC into TAL's VIE structure, whether it's an informal or formal investigation?

No, Mark.

Until now, we have not received any requests or inquiries from the SEC as a listed Company.

Okay.

Great.

And then last question regarding the ASPs this quarter are up, I believe, over 10%, how much of that increase was currency related versus price?

Sure.

I don't have that number right in front of me, but I think that the currency impact was roughly 4% to 5%.

And then as you look forward to the balance of the year, do you anticipate similar price increases?

Let's exclude the FX impact but just the price component, do you expect similar 5% price increases to hit the top line?

Yes, I mean, I think that for this year, our overall revenue growth will be driven mainly by enrollment growth and less so by ASP growth.

We did take an ASP increase in our Beijing and Shanghai markets, that I mentioned on previous calls, from RMB55 to RMB60 an hour in Beijing and from RMB50 to RMB60 in Shanghai.

But these have been phased in to our business.

So you don't see that full impact, and it's also the small class business and not the full business.

I mentioned on past calls that because online courses is a lower ASP business, that also creates a drag on ASP that is probably greater than the uplift on ASP from the one-on-one business.

In one-on-one, we do typically take a price increase every year.

We took a price increase in October of last year in Beijing, and we'll still continue to evaluate that.

I don't think we've made a call yet in terms of one-on-one, what we'll do there in the second half of the year.

So hopefully that gives you some direction.

I think we're going to be more enrollments-driven than price-increase-driven this year.

Got it.

Thank you, and I'll turn it over.

Thanks, Mark.

Fei Fang, Goldman Sachs.

Congratulations on a good quarter.

So my first question is, in terms of the geographical expansion, your past results have demonstrated the scalability of your service.

So when do you plan to launch the next round of your geographical expansion?

And relating to this, how many cities do you see yourself operating by the end of this year?

Yes, sure Fei.

In terms of the geographical expansion, I mentioned on last call that that's something that we'll make a call on typically after our Q2.

So it's quite possible that this year we won't actually add additional new cities.

Keep in mind that we added eight last fiscal year on the base of six, and we've already added one this quarter.

So we think that there's a lot of room for growth in the cities that we have now.

But that's something that we will make a call on later in the year.

We are cultivating management for the possibility of entering new cities, but right now I would say that it's more likely than not that we'll end the year with the same 15 cities that we have now.

Great.

My follow-up question is could you give us an update on the EDUU platform, how many cities do you cover right now and how much of the cost increase so far has been related to the EDUU expansion?

As far as I know, the EDUU is still in the 26 cities that we talked about previously with our aoshu.com, which is kind of our mathematics platform.

I don't believe that we're doing more expansion in terms of cities for EDUU again because last year we added a lot of cities for EDUU.

So we're really just continuing to ramp that up in the cities where they exist now and continue to try to see benefits in terms of helping us get into the cities that we --- helping us get into these new cities in a more meaningful way.

So I wouldn't expect big moves in terms of new cities from EDUU this year.

Great thanks.

I'll get back to the queue.

Cynthia Meng, Jefferies.

You mentioned that your current growth was mainly driven by Beijing and Shanghai.

This is different with your competitors' landscape.

Could you give me color on what is the reason (inaudible) performance in the second to third tier cities, especially the newly opened centers?

Thank you.

Okay.

Yes, we mentioned in the quarter that Beijing and Shanghai drove the majority of the growth.

I think that that has to do with the fact that Beijing and Shanghai are still a much larger part of our business.

We mentioned in the small class business that the cities other than Beijing and Shanghai were 21% of revenues.

So that means still 79% of revenues came from Beijing and Shanghai.

So that growth off of that relatively larger base will contribute to more growth.

Now, we're still seeing great growth out of cities not in Beijing and Shanghai.

I mentioned that in my prepared remarks, over 200% revenue growth.

So I don't think those are contradictory statements.

I think that it's just that we have a relatively large base in Beijing and Shanghai.

So in terms of absolute dollars of incremental revenue, it'll have the biggest contribution.

Okay, thank you.

Ella Ji, Oppenheimer.

Congratulations on strong quarter.

I have a quick follow-up question.

Joe, did you mention that the online enrollment represents 19% of your total in the quarter?

Yes, this quarter the online enrolments were 19% of the total enrollments.

Are those students that only enroll in online courses?

Not necessarily.

We do have students that may enroll in online and then also enroll in some of our other course offerings.

Generally speaking, the way we count enrollments in general for our business is that if one student enrolls in more than one course offering, then that counts as more than one enrollment.

Got it.

So do you have any data illustrating the ratio that you successfully convert your online students to also enroll them in offline courses?

Do you have such data available?

We don't, because that's not really how we think about the value of online.

First of all, with online, sometimes the cross-sell happens the other way where students will go to our learning centers or service centers and they'll learn about our online.

So they may go to a class-based session for one of those key classes like Math, English, Physics, whatever.

But there may be another class that they don't think they need a full 15 sessions, two-and-a-half or three hours per session, and then they think okay I get most of what I need to get here and I just need to take a small module, so I'll take that online.

So actually some of it happens in that way.

And then the other role of online is really to help us going to new markets where we don't have physical learning centers.

So in that case, you're actually expanding the reach of your business beyond your physical network.

So it's not really that meaningful for us to be looking at a cross-sell to our physical network, because we don't actually have a physical network in those places.

And so that's kind of how we think about it, and for that reason we haven't spent a lot of time to evaluate that cross-sell.

Right.

This 19% appears high.

So how much of those online students are coming from, say, Beijing and Shanghai and how much are from cities that you don't have a physical presence?

I don't have that number in front of me now, but I would say that we still do get a reasonable amount from cities where we don't have a physical presence, but I don't know the exact number in front of me now.

If I had to guess, I would say maybe less than 50% are coming from cities outside of Beijing and Shanghai, but I don't have a number for you for that, Ella.

Got it.

And I'm not sure if I missed it.

What is your revenue breakdown between small classes and one-on-one classes for this quarter?

Right.

So small class was 31% of revenues and then online courses is 3% of revenues and then the remaining was small class.

All right, so 31% should be one-on-one, right?

You just said a small class.

That's right.

One-on-one, okay.

One-on-one is 31%, 3% is small class.

So the remainder was --- 3% was online rather, the remainder was small class.

Got it.

And it looks like you are shifting toward small classes, to be more focused on small classes going forward.

Could you explain the strategy?

Is it because you still think small class is your strength or are you also considering the general market situation where we are seeing very stronger competition for the one-on-one?

And also are you also taking to consideration the economy slowdown and a consumer spending slowdown?

So any colors would be helpful.

Thank you.

Sure.

I think the primary driver of our strategy is our area of core competency and competitive advantage, right?

So we think that with small class, that's where we have the strongest competitive advantage.

It's what we've done the longest.

We have good track record with students.

We have very high teaching quality in this segment, and we think that we run it operationally quite well.

And we believe that the factors that go into the small class business like very high teaching quality, content development, making sure you have good track record of students, you are running the operation effectively, all those parts together as a combined whole are actually pretty hard to replicate.

So that's the primary driver of our decision-making process.

We got into the one-on-one business in the first place because there is a time when those top students that go to our small classes are also interested in one-on-one for cram, and that's the point I tried to highlight in Chao's question related to why we outperformed in the quarter.

I mean seasonally this Q1 is that quarter ahead of June.

So we wanted to make sure we also had --- we were providing those students with a satisfactory product to address their needs at that time.

So that's why we got into one-on-one in the first place.

And then last year we expanded one-on-one aggressively because we felt like we were relatively under-positioned in that area, and there was opportunity for us to expand outside of Beijing in particular.

But even at the time, I think I was very clear in my remarks at the time that we saw it as kind of a once-off movement last year and that going forward, one-on-one's position within the Company is still as a complementary platform to our small class business.

So I think that that's the main reason.

It's driving from our own area that we see competitive advantage.

I do think that the one-on-one business tends to be quite competitive, and tends to have lower barriers to entry, which is also a factor in the decision-making process.

But it's also a big market.

So ultimately when you have such a big market like this that's so fragmented, it's ultimately most important just to be sure that you're focusing on the areas where you have a competitive advantage in that market.

And we feel like we have the best competitive advantage in our small class Peiyou business.

That makes sense.

That's very helpful.

Thank you.

One last question if I may.

On the tax rate, I notice that your effective tax rate actually was lower in this quarter.

So could you explain that?

And also going forward, what's the tax rate that we should expect?

Sure.

The tax rate was lower in this quarter.

We will utilize one of our consolidated operating entities which qualified as a newly-established software enterprise and thus is exempted from income tax in calendar-year 2012.

In terms of going forward for the full year, right now we're thinking in the range of 13% to 14%, but that's just our current thinking at this time.

Right.

Thank you very much.

Thank you, Ella.

(Operator Instructions).

We appear to have no further question at this time.

I would like to hand it back to the management for any closing.

I'd like to thank you all for taking the time to be with us tonight.

And I encourage you to come out and see us in Beijing.

We'd be happy to meet with you here and also take you to see our learning centers in operation.

Thanks so much.

Have a good day.

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

Thank you for your participation.