TAL Education Group (TAL) 2014 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the TAL Education Group first quarter of fiscal year 2014 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. (Operator Instructions). I must advise you that this conference is being recorded today, Monday, July 22, 2013. I would now like to hand the conference over to your host for today, Ms. Mei Li. Thank you, ma'am. Please go ahead.

Thank you, operator. Thank you all for joining us today for TAL Education Group's first fiscal quarter 2014 earnings conference call. The first fiscal quarter earnings release was distributed earlier today and you may find a copy on the Company 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 certain 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 expectations. Potential risks and uncertainties include, but are not limited to, those outlined in public filings with SEC. For more information about these risks and uncertainties, please refer to our filings with SEC. Also, our earnings release and this call include 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 fiscal quarter 2014.

We are pleased to report first fiscal quarter results that reflect a solid quarter of execution-on-plan. Net revenues increased by 24.5% year-over-year to $61.4m, over $2m above the top end of our guidance. Revenue growth was supported by a 17.1% increase in enrolments. As expected, our small class business in new markets outside of Beijing and Shanghai remain the key engine of our growth. While the tutoring environment in Beijing continued to be challenging, Shanghai has definitely turned the corner with its business performance again showing strong growth momentum this quarter, following a year of transition.

As planned, we have re-entered the investment stage in the first quarter. Even though we had no net change in the number of centers, we added a gross 137 classrooms, net 104 classrooms, across our network for our small class business in this quarter. With this expansion, we are well on track to achieve our planned addition of at least 150 gross classroom additions in fiscal year 2014. In addition to solid top line results, we had better-than-expected net income growth of 62.7% year-on-year, on the back of exchange gains, interest income, and short-term investment gains, as well as savings from certain operational expenses. We expect to continue to incur operational costs and expenses in coming quarters as we invest in ongoing center expansion, as well as the human capital necessary to drive both our competitive advantage in our core business and expansion into new businesses.

Our key rationale for opting for classroom additions rather than opening new centers is that expanding from existing capacity is a more cost-efficient way of investing that allows us to achieve greater scale in each facility. A new hub involves start-up costs including hiring people, training personnel, setting up new customer acquisition and registration processes, among other efforts. The more incremental approach we try to take of adding classrooms to existing centers, on the contrary, allows us to avoid many of these people-related costs, and demonstrates the discipline with which we seek to achieve long-term growth in our small class business.

Let me walk you in more detail through the changes in center numbers. We opened a new small class center in each of Beijing, Guangzhou, Wuhan and Zhengzhou, which were also among the cities where we added significant classroom capacity. We also added classroom capacity in Shenzhen, Tianjin, Xi'an and Shanghai. We closed three small class centers in Beijing, as lease contracts expired. We opened a one-on-one center in Xi'an while closing a one-on-one center in each of Guangzhou and Nanjing. Overall, we had 255 centers by end of May 2013, which is unchanged from the previous quarter, of which 160 were small class learning centers, including four learning centers for our Mobby branded pre-school and young learners aged three to eight business, and 95 were for one-on-one.

Let me now go over the different business lines. The small class business in new markets continued to drive our growth. In the quarter, small class revenues once again more than doubled in cities other than Beijing and Shanghai, primarily driven by enrolment growth.

In terms of revenue contribution, cities other than Beijing and Shanghai accounted for 34% of small class revenues in the first quarter, compared to 21% during the same period last year and 29% in the previous quarter. It is the first time that quarterly revenue contribution from markets other than Beijing and Shanghai comprised over one-third of small class revenues.

In Shanghai, business metrics strengthened further building upon the step-up in enrolment growth we experienced last quarter. We currently also see Summer enrolments have further accelerated compared to the Spring term. This gives us confidence that we have turned the corner following last year's transition to better manage our growth and refocus on the quality of our teaching and curriculum.

As for Beijing, our business is still under pressure from last year's change in policy on the use of exam and competition results for selection at key junior high schools. As I mentioned in previous quarters, we continued to feel the impact from the change of Beijing policy not only on small classes but also on our one-on-one business in Beijing, which we position largely as a cross-sell offering with our small classes. While we have not yet seen a meaningful bounce in enrolments momentum in the summer semester, we continue to believe that over time we can bring more students back to our classes to enjoy the continuous improvements we are making to our curriculum. When we have better visibility on the recovery of the Beijing business, we will update you.

Our Zhikang branded one-on-one business, as expected, has seasonal upward momentum in the first fiscal quarter, given that Spring term is the peak season for one-on-one tutoring to help students prepare for their exams. Revenues from one-on-one contributed 29% of revenues in the first quarter, an increase from 22% for the previous quarter, reflecting the seasonality of this business, but a decrease from 31% for the same year-ago period. That Zhikang's contribution was again down year-over-year reflects how we position one-on-one primarily as a complement to our small class business.

While, as we foresaw last quarter, one-on-one continued to be adversely impacted in Beijing, it has started to see improved growth in other cities outside Beijing, most notably in Guangzhou, Shenzhen, Nanjing and Xi'an.

We monitor one-on-one learning center performance on an ongoing basis and look for better cost-efficiencies given the relatively fixed cost structure of this business. At the same time, we aim to realize the growth potential of one-on-one, using this format to address a greater portion of the needs of our students.

Our online platform eduu.com continues to serve an important role, helping us to establish our initial branding in new markets and to bring online target parents and students to both our offline and online course offerings. The traffic on each of these local market websites will be among the factors, though not our exclusive determining criterion, when we consider which cities we will enter in the fourth fiscal quarter of this year.

Overall, with our strong top and bottom line performance in the first quarter and renewed investment drive to expand classroom capacity as well as our geographic footprint as we go into next year, we are setting the stage this year for new growth opportunities. We expect ongoing positive growth momentum as we continue to execute our expansion plan in fiscal 2014.

Over the coming years, we will continue to invest behind expanding our overall network capacity and footprint, building upon the success we've had in realizing increasingly meaningful revenue contributions from cities outside of Beijing and Shanghai over the last three years. At the same time, we will put in place a multi-brand architecture to support the development of each of our family of top quality K-12 tutoring services brands. The first step will be to change the name of our umbrella brand from "Xueersi" to a new name in Chinese that we intend to announce next month. The name "Xueersi" will continue to be the brand name of our small class math and science business and operate alongside our Lejiale English, Dongxuetang Chinese, Mobby pre-school and young learners aged three to eight business, xueersi.com online school and Zhikang one-on-one brands.

Let me now go over the financial results with you.

We delivered $61.4m in revenue in the quarter, representing revenue growth of 24.5% versus the same period in the previous year. The revenue growth was mainly driven by an increased number of total student enrolments. Total student enrolments increased 17.1% to approximately 192,650 from approximately 164,510 in the same period one year ago. The increase was primarily from the small class offerings.

The year-on-year ASP increase of 6.3% to $319 for the quarter was primarily driven by the hourly rate increases of a portion of center-based course offerings and the foreign exchange rate fluctuation.

Cost of revenues increased by 23.8% year-on-year to $31.9m. The increase in cost of revenues was primarily due to an increase in teacher compensation, rental costs and other staff costs associated with an expansion of learning center capacity as well as increases in wages and teacher fees versus the year-ago period. We also invested in a new center layout featuring mini-classrooms for our Zhikang business in certain pilot centers which we had not incurred in the previous year. The response from students and parents has been positive as it allows for more private study experience between teacher and students that the previous cubicle format did not afford.

GAAP gross profit for the first quarter was $29.5m as compared to $23.5m for the same period of the last year. GAAP gross margin for the first quarter was relatively stable at 48.0%, as compared to 47.7% for the same period of last year.

Selling and marketing expenses increased by 27.1% to $7.8m. The increase in selling and marketing expenses in the first quarter was primarily a result of an increase in compensation to sales and marketing staff to support a greater number of programs and service offerings, as well as an increase in brand promotion and advertising expenses, primarily in our Zhikang and online courses business units.

General and administrative expenses increased by 31.5% to $15.0m. The increase in general and administrative expenses was mainly due to an increase in compensation to our general and administrative personnel to support a greater number of programs and service offerings, depreciation expenses for Beijing office space not incurred in the year-ago period and an increase in consulting, management training and other third-party services fees as compared to the year-ago period.

Operating income was $6.7m, representing a year-over-year increase of 10.8%. Operating margin in the first quarter was 10.9% as compared to 12.2% in the same period of the previous year.

For the first quarter of fiscal year 2014, other income was $0.8m compared to other expenses of $1.2m in the first quarter of fiscal year 2013. The other income or other expense in each year was primarily driven by exchange gains or losses in each respective quarter. 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.

Our net income for the quarter was $8.1m, and increased by 62.7% year over year. Non-GAAP net income for the first quarter, which excluded share-based compensation expenses, was $9.9m, an increase of 38.5% year over year.

Basic and diluted net income per ADS were both $0.10 for the quarter. Non-GAAP basic and diluted net income per ADS, which excluded share-based compensation expenses, were both $0.13.

As of May 31, 2013, the Company had $231.7m of cash and cash equivalents and $39.4m of term deposits, as compared to $185.1m of cash and cash equivalents and $24.1m of term deposits as of February 28, 2013.

As of May 31, 2013, the Company's deferred revenue balance was $154.2m, as compared to $108.2m a year ago, representing a year-on-year increase of 42.5%.

Capital expenditures for the first quarter of fiscal year 2014 were $2.0m, representing an increase of $0.8m from $1.2m in the first quarter of fiscal year 2013.

Based on the Company's current estimates, total net revenues for the second quarter of fiscal year 2014 are expected to be between $88.5m and $90.5m, representing an increase of 30% to 33% on a year-on-year basis. As you'll remember from our previous earnings call, given the timing of the Chinese New Year holiday we had approximately one class for our spring term that last year was recognized in the fourth fiscal quarter, which this year resulted in one extra class in the second fiscal quarter. The impact from this study term to fiscal quarter reconciliation was approximately RMB20m. Without this impact, the revenue increase we would expect in the second quarter would be between 25% and 28%.

These estimates reflect the Company's current expectation, which is subject to change.

That concludes my prepared remarks. Operator, I am now ready to take questions.

(Operator Instructions). Your first question from the line comes from Fang Fei from Goldman Sachs. Please ask your question.

Thanks, Joe and Mei, for the opportunity. These are great results. My first question is on network expansion. You added 137 classrooms during the quarter, and meanwhile didn't cause much volatility on margin. So what would be the pace of expansion in the next few quarters? And how many cities do you intend to penetrate by the end of fiscal year 2014? Thank you.

Sure. Thanks, Fei. We're still on track to add another four cities by the end of our fiscal year. It'll probably be in the calendar year '14 before we start doing that. Remember, we're a February yearend, fiscal yearend. So you could see January and February that we start to sign these learning centers in these new cities, and they'll come on board first for short-term classes likely in the spring term. We'll begin, of course, preparing school heads and the related personnel to help us build out those new cities over the coming months.

In terms of the center expansion number, you're right; we're well on our way to the goal of at least 150 classrooms for this fiscal year with 137 gross adds in the first quarter. I expect that we'll have at least that number at the end of August, probably closer to 200 in terms of a gross adds number, and then we'll evaluate that. Remember that I said that based on the utilization ramp-up at that time, we'll decide about how aggressive we want to be in terms of new adds over the coming quarters, in Q3 and Q4. But right now it looks like that we'll meet this 150 yearend target in Q2, as expected, and then evaluate further expansion in the second half of the year, depending on the utilization ramp-up.

That's great. A second follow-up question from me. Regarding balance sheet, your cash flow has been great in the past few quarters and apparently the cash position is building up. How do you plan to use the cash going forward and whether you're exploring potentially dividend opportunities -- dividend possibilities for this year?

And also, if we look at the deferred revenue, it went up 43% year on year, substantially higher than the revenue growth during the quarter. So is that by any chance indicative of your future growth momentum? Thanks.

Yes, sure, Fei. Let me answer each of those questions. In terms of the dividend, we're unlikely to do a dividend in the near term, for the reasons I mentioned on previous calls about preferring to be able to do a larger dividend less frequently in order to make it more efficient for ADR holders net of fees. So we have a great track record since being a listed company of giving back to shareholders, but we want to do it in a way that is efficient for our ADR holders.

We also could use our cash balance to make investments in new business opportunities that are close to our core business, as this will position the Company well in the long term as the education market evolves. We particularly see it evolving more in terms of the use of technology in learning, so we want to be well positioned in that area.

So that, I hope, addresses your question related to use of cash, in addition, of course, to the center expansion and new city developments, etc., that I talked about in your previous question, of course.

In terms of the question on deferred revenue, I wouldn't read too much into the deferred revenue numbers. Deferred revenues are typically, as you know, recognized over multiple quarters. For example, students may register for both the summer and the fall term in May. The timing of when these enrolments come in in terms of registration are also very different year by year.

In this case, part of what's driving that large deferred revenue balance is also what I mentioned in my prepared remarks, is the RMB20m of deferred revenue that's actually carried over from the first class of spring term, that would typically be recognized in Q4. That's where it was recognized last year, based on the Chinese New Year term that year, and it's now going to be recognized in Q2. So, since it hadn't yet been recognized, it sat in deferred as of the end of our Q1. Also, this year, of course, we're taking a price increase in some markets, so that also affects the deferred revenue balance, which I expect will also impact the recognized revenue as well.

So I guess, just to summarize, you have a timing impact and you also have the Chinese New Year in particular timing impact particularly affecting this year.

Very helpful. Thank you very much.

Thank you. Your next question from the line comes from Philip Wan from Morgan Stanley. Please ask the question.

Hi, Joe. Thanks for taking my question and congrats on a very strong quarter. My first question is about your Beijing operation. I wonder if you could share with us what kind of enrolment growth for Beijing in the first quarter.

And then, also, what's the reason are you seeing simply a slower than expected recovery? And then I have a follow-up. Thank you.

Sure. Beijing enrolments were still down in the single digits in the most recent quarter. We're expecting Beijing to take a little bit longer to recover than we'd expected. Enrolments we expect to still be down in the summer term, though the gap is closing versus the spring, so that's good news.

For the fall semester, we still expect the end of the semester enrolments net of refunds to be higher this year than it was during the same period last year. However, we're positive that we're doing the right things in terms of the long-term recovery of this business in terms of the focus on curriculum, teaching quality, etc. And we're also quite pleased by our performance of our cities outside of Beijing, which of course are helping us during this transition period.

Right. And in particular in Shanghai, you mentioned about a very positive momentum. Are you seeing a faster growth in small class or in one-on-one? And then what is your expectation in Shanghai, given what you have done to turn the corner round? Thank you.

Sure. Yes, that growth in Shanghai business is being driven by our small class business, which is performing exceptionally well. We also see growth in the one-on-one business, but it's really the small class business that's driving the growth.

In terms of Shanghai, there was really no magic there. We had the discipline to focus on the basics of teaching quality, allocating resources from headquarters to support on product development, curriculum development, localization, teacher training, the basics of our business. We also didn't expand our learning center network in Shanghai and had the patience to endure a couple of semesters. You'll remember last year, where we weren't focusing on enrolment growth until we can ensure we were absolutely satisfied with the high quality of the offering.

In Chinese there's a word called "wushi" which is one of our core values of the Company, which I guess can be roughly translated as low key and focused on getting things done. So that's what we believe the business is about in the end, taking responsibility to deliver absolute best-quality teaching curriculum to our students. So that's what's happening in Shanghai. Nothing more than that, just executing and getting back to the basics of what we believe drives this business.

Thank you. Last question from me. Could you talk about the margin outlook for the coming quarters? I wonder if there's any spending or investments being postponed into the later part of this year. Thank you.

Sure. Overall, in terms of margins, again, I'll just give a sense of trend; we don't give guidance on margins. I'll talk about it in terms of our budget. Our budget is still showing operating margins to be lower than they were last year. However, based on the outperformance of Q1 and the stronger than expected revenue guidance for Q2, there is an opportunity for us to outperform this internal budget.

I think the right time to evaluate this again will be the end of Q2, because we'll have a better read on fall-term enrolments then, and we'll also have a better read, as I mentioned, to say about the center expansion as well as continued new business investment in the second half of the year. So my sense is that at this point the margins will still be down, but probably by not as wide of a margin as I initially expected due to the outperformance we've had so far this year.

Right. That's very helpful. Thank you.

Thank you.

You're welcome.

Your next question comes from Chao Wang from Merrill Lynch. Please ask the question.

Thanks. Good evening. Thanks for taking the question. My first question is a follow-up on the Beijing market. You mentioned about competition in Beijing market in the prepared remarks, so just wondering do you mean that you are losing market share to a competitor? Could you give us more color?

And secondly, regarding the guidance, could you let us know how much is driven by the ASP increase and how much by enrolment increase? Thank you.

Yes, sure, Chao. I think there may have been a misunderstanding in terms of my prepared remarks. I didn't in any way mean to imply that we were losing share to local competitors. If anything, I would say that the overall pie may have shrunk as a result of the policy, but we believe that our position within that pie has remained the same as the market leader within the space. So I think that may just be a misunderstanding in terms of my prepared remarks.

In terms of the guidance, I would expect that the ASP portion would be up a bit versus Q1. So you can see it maybe being closer to the high single digits for the ASP component, because we are taking the price increase in Beijing and a number of other markets in the quarter. Now, as I've mentioned in the past, that won't all be recognized in the quarter. You'll have coupons that will be given to a current student. So I wouldn't expect a massive increase in ASP versus Q1 levels, but you will see that effect. And then the remainder of the difference to get to our overall revenue growth target 30%-33% will be enrolments driven.

Got that. Thank you.

Thank you, Chao.

Your next question comes from Ella Ji from Oppenheimer. Please ask the question.

Thank you. Congratulations on a strong quarter. I want to go back and discuss the drivers of your strong growth for 1Q. So obviously Shanghai performed very well. In addition to Shanghai, what are the cities that you are seeing that are the main drivers of the outperformances? And how many years -- on average, how many years of operation do you have at those cities?

Sure. Yes, we are seeing a lot of improvement across the board. The cities that -- if you look at it, they are all performing quite well. You have no real defined aspect in terms of which are performing particularly well based on years. I would say that Shanghai is one of the 2008 ones, and that one is performing quite well.

And then you have the other cities outside that I mentioned are growing over 100% in terms of revenues again in the quarter. So those are led by cities like Guangzhou, like Shenzhen. Guangzhou was started in 2009. Shenzhen was started in 2010. Then you had the cities that we entered in 2011 and are just really turning it on. So you had Xi'an, Nanjing, Chengdu that are -- Hangzhou also performing really well. And then the ones that we added most recently is the much smaller base, but markets like Suzhou, Chongqing, Shenyang, Taiyuan.

So we are getting good levels of growth from each of these markets. And what's encouraging is that we are seeing growth from some of the 2008 markets, like Shanghai and Wuhan, that are also quite exceptional in the quarter. So it's really been across the board, Ella.

Okay.

That's in terms of the small class business. In terms of the one-on-one business, I would say that Guangzhou, Nanjing, Xi'an and Chengdu are the ones where you're seeing the best growth. Each of those has over 100% enrolment growth.

Great. So would you say that -- with regard to the outperformance, is there anything in terms of execution that you're doing differently from the previous times that are the drivers of the growth? And would you think such strong growth is really sustainable in the longer term?

I do. I think that we've talked about our business before as being kind of a tipping point business, where in the early days you don't get a lot of enrolment growth from that first semester because we actively manage the growth of enrolments in that first semester. So, rather than going after enrolments right off the bat we purposely limit the enrolments in the initial stages, in order to establish the strong word of mouth reputation we have in each market. So that's really paying dividends for us.

Now, Guangzhou, I remember even on the IPO road show, Shenzhen, they were all relatively small in terms of enrolment contribution, but now they are both really meaningful parts of our business and continuing to grow nicely. So our belief is if you focus on the basics of teaching quality, making sure you have good utilization levels in the centers, then this is what creates the basis for long-term sustainable growth.

Great. And then my next question is with regard to your online businesses. What's the percentage of its revenue contribution for this quarter?

And also, recently we are seeing a lot of discussions on the marketplace with regard to online education. Could you comment your thoughts about the outlook of online education in the next two to three years? Are you seeing your online business to be like an independent profit driver, or do you think it will continue to be largely a sales channel for your offline business?

Sure. I think it's important to differentiate between our various online businesses. The online courses business we do expect to deliver profit over the longer term. This year, the internal budget is for it to break even. We do hope that it will turn a profit in the next fiscal year, fiscal year '15. That one is about 3% of revenue now. So, our online courses business, we are quite positive about it over the longer term.

As a company, we've invested a considerable amount of resources over the last few years into the online business. You'll recall that last year the businesses -- the new businesses, and online was most of it, were $6.5m loss. That included Eduu online courses and Mobby, and Eduu and online courses were the bulk of that loss. And this year we are still expecting a $7m to $8m loss out of those new businesses.

So we are very much focused on online. We think that in terms of the trend for the future that online will definitely have a place in the overall way that students learn. So we are going to continue to focus our energies in this area going forward.

In terms of Eduu, I mentioned in my remarks that's a business that's really helped to support us, especially as we go into new markets, and being able to get students into our classes in new markets. We've talked a lot about how Eduu will be there initially. And through the discussion boards on Eduu, we'll get a sense of the captive demand for our courses, and that helps us to have a very strong success rate in getting into these new markets and not have to spend a lot on advertising, brand promotion expenses, etc.

So, each of those businesses has a different role within our overall platform. Eduu is really, as you mentioned, about supporting the growth of our online courses business -- online courses, actually, as well as our offline courses businesses. And then the online courses business we do expect to have greater revenue contribution and profit contribution over time.

Great. That's very helpful. Thank you.

Thank you, Ella.

The next question comes from Clara Fan from Jefferies. Please ask the question.

Hello. Thank you for taking my question. I've got a few questions. Firstly, do you see any improvement in utilization compared to the last quarter?

And secondly, can you give us some update on your new investment initiatives and the impact, any impact on your expenses?

And lastly, your top line guidance for next quarter beats the consensus. Can you give us some more color on it? Is it a strong growth in particular provinces or cities? Thank you.

Sure. In terms of the utilization question, yes, we are seeing improvements in utilization. We've actually had improvements in utilization in each of our markets except for Beijing. So every other market that we have we saw utilization improvements on the back of very strong class fulfillment and classroom utilization metrics. So that's been very encouraging, and that's what's led us to be more aggressive in terms of the number of new centers that we add in the first half of the year. That was the question that Fei asked.

We are measuring this stuff every day. We are trying to get more and more detailed in terms of how we measure our center expansion, really focusing on these kinds of metrics. And then based on underperformance or over-performance in terms of utilization, we'll try to adjust our center expansion accordingly. So it was on the back of improved utilization levels that we actually turned the gas up on increased center expansion.

And then, in terms of the investments, I think I may have answered this question a bit as part of Ella's question. We still do expect that we'll have a $7m to $8m loss from new businesses in this year. That will include online courses, Eduu and the Mobby businesses. So there is not really a change in terms of that versus what I said last quarter.

The only difference may be if the utilization levels are good, you'll likely see us expand more centers than I said in previous quarters. But if utilization levels are good, then that should imply that each of those centers that we've added in the first half of the year are ramping up more quickly than expected and delivering more profit to the bottom line. So we'll be evaluating our center expansion strategy based on utilization in that regard.

And then, in terms of Q2, the guidance, I did mention an important factor in my prepared remarks about the guidance is that if you take out that RMB20m impact from the timing of Chinese New Year, we are at about a 25% to 28% revenue increase for the quarter, which is great. It's still a really nice acceleration based on the 24.5% we achieved this quarter and then a nice ramp up from the 14% in Q4.

So the business continues to move in the right direction. And I expect that that will continue to be based on very strong performance, particularly for our small class business and particularly in those cities outside of Beijing, though, as I mentioned in my prior remark, Beijing is also on a nice recovery trend.

Thank you. Just a follow-up question. What about on, say, new IT systems such as online registration systems? Are there any updates?

Yes. We are -- no real updates in that regard. We are continuing to focus on various ways to improve our registration, including online and also including mobile. So that will likely be an area of investment for us over the coming quarters but also over the coming years. To put the right strategy in place for making sure that we have the right kind of mobile strategy for each of our businesses is important. In terms of the online registration piece of that, yes, there will be continued investment in that over the coming quarters.

Thank you.

Thank you, Clara.

Thank you. Your next question comes from Mark Marostica from Piper Jaffray. Please ask the question.

Yes. Thank you and nice work in the quarter. My first question is related to the Zhikang business. And I wanted to get your thoughts around the strategy for this business in terms of whether or not you're marshaling it to be a certain percentage -- target percentage of revenue, and just in general if you could talk through how you're looking at this business in the quarters ahead, perhaps also touch on the margin profile of the one-on-one business versus small class at present. Thanks.

Sure. In terms of the one-on-one business, what I can say is we are seeing positive developments in the Zhikang business. We are managing that business for the health of the overall business in the long term. So we are continuing to focus on things that we think are sustainable over a longer period of time, to improve the overall teaching quality and really the value that we are delivering to parents and students through this platform.

So that has included initiatives like increasing the frequency and quality of the feedback that our teachers are giving to parents after the sessions when they are with the students, improving the rate of students who actually come in for classes. There are -- in that model, it's a very strong deferred revenue model, so people sign up for many hours. And then getting them to come into classes we think is important in terms of achieving their overall study plans. So we have been focusing in this area.

And we've also been doing some pilots with an improved VI or layout of the centers, where we are using mini-classrooms which we believe will help students to have a much more dedicated space where they are able to concentrate more than they are in kind of a cubicle environment.

So, we are managing the growth of this business. I don't have a specific target, but I do expect that it will be less than the 23% of revenues that it was last year. I think probably somewhere between 20% and 23% is probably the right number, on the low end of that range, because we expect in the second -- in the following three quarters it will also continue to grow at a lower rate than our small class business.

Did I knock off all of your questions there, Mark?

Yes. I guess the last piece would be with the investments in one-on-one, do you view the business as margin dilutive here, or how can we look at the margin profile of one-on-one versus small class? If you could help us dissect that, that would be helpful.

Yes, it is margin dilutive, because of the scaling of the human capital in that business is just not as strong. So the ASP difference between the two can't nearly mitigate that factor. So it depends on the quarter. We haven't given specific margin by business unit. But for Q1 as an example, if you take out all the headquarters costs, there is still going to be a 10% gap between one-on-one and small class. And keep in mind that the first quarter is among the best quarters in terms of profitability for the one-on-one business, because that's when you have the best utilization ahead of the Gaokao, Zhongkao in those periods.

So that will give you a sense of what we are talking about. So that is part of the consideration in terms of managing the growth of that business in terms of managing our overall margins. But it's also about making sure we are delivering the best quality, best value to parents and students, as this part of the overall education sector we feel like has become pretty overheated over the last couple of years. So I think a return to quality is very important for the one-on-one long-term value proposition. So, in order to do that, we believe we have to manage our growth in the near term so we can focus on that.

Great. Thanks for that. And then one last question from me. Your thoughts regarding Alibaba's announcement of entering the education arena, thoughts there?

Interesting question, Mark. Well, we hope that Alibaba's entry will deliver more value for parents and students. They have obviously an amazing platform in China. Early days to know what they'll bring to the market, but we do think that the platform value of Alibaba is overall a benefit for the overall education industry. We hope that it brings education to more people.

And in terms of our position, we focus on content. So we focus on having the best product, the best content. So we believe that it's -- we are doing different things, so we don't necessarily expect a big impact to our business. We'll continue focusing on what we do well, which is delivering top teachers, high-quality content. And even for our online courses, that's how we differentiate. We want to demonstrate a really deep understanding of the content that needs to be delivered, and we focus a lot of R&D on doing that.

So we are quite happy to see that. I think it's overall likely a positive thing for the education sector in China. We'll just have to see how things play out as Alibaba continues to focus on that.

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

Ladies and gentlemen, we have come to the end of the question and answer session. That does conclude our conference for today. Thank you for your participation. You may all disconnect.