14 17

Ed tech & educational services

Muddy Waters becomes third short-seller this year to accuse China’s GSX Techedu of systemic ‘fraud’

Muddy Waters has published a damning report on GSX Techedu calling it a “near-total fraud” – the third short-seller this year to accuse the New York-listed Chinese moonshot of systemic fraud.

GSX Techedu was four weeks ago called “the most blatant Chinese stock fraud since 2011” by Citron Research, after another short-seller, Grizzly Research, said in February that “GSX’s success is actually based on a fraudulent scheme”. VIPKid, one of GSX Techedu’s rivals, in April launched legal proceedings against the organisation related to alleged intellectual property theft.

Muddy Waters, similar to Citron and Grizzly before it, said “we think it’s quite likely that at least 80%” of GSX Techedu’s users are “fake”, adding that it based its findings on “user and attendance data files” downloaded “from more than 200 paid K12 classes covering 54,065 users”.

The short-seller claimed that “a former GSX manager corroborated our analysis, and explained various details of GSX’s extensive bot operation”, which, according to Muddy Waters, has been used to inflate student numbers and give weight to robust financial growth.

“We conclude that GSX is a massive loss-making business”, said Muddy Waters in its report, which included detailed break-downs of methodology and extensive evidence supporting allegations. “Without users, there is no revenue.

“We also conclude that GSX greatly understates expenses.

“Regardless of how one cuts it, though, GSX is an almost completely empty box.”

On publication of the new report, compiled by one of the world’s most prominent short-sellers, GSX Techedu’s share price fell from $35.43 to $29.71, before recovering to, and closing at, $32.84 on 18 May. In February, the business was trading at $45.

In a statement dated 19 May, GSX Techedu “refuted the false allegations” in Muddy Waters’ report: “The company respects Muddy Waters’ efforts. However, after analysing the report, the company believes that Muddy Waters lacks a basic understanding of GSX’s operations.

“The company’s management regrets to see confusion in the market and will continue to use its best efforts to ensure that investors fully understand all aspects of the business.”

US law firm Wolf Haldenstein Adler Freeman & Herz announced on 15 April that it was investigating “serious and disturbing class action claims” about GSX Techedu on behalf of shareholders in the company.

Listed on the New York Stock Exchange but based in China, GSX Techedu is an online after-school tutoring company that claims to achieve extremely high margins by employing high-quality teachers to instruct classes comprising thousands of students in middletier mainland cities.

In the fourth quarter of last year, GSX Techedu reported a standalone gross profit margin of 79%, and said full-year revenue for 2019 was ¥1.58 billion (£181 million), up 520% from ¥254.6 million the year prior.

The report by Muddy Waters, which said it is “highly confident” that at least 73.2% of the nearly 55,000 GSX Techedu users it analysed “are bots”, will likely carry more weight than previous allegations by less well-known short-sellers. The firm is perhaps best known for its short position on Sino-Forest Corp, a Canadalisted Chinese organisation, at which it uncovered fraud that

later led to criminal charges being tabled against the now-defunct company and its executives.

In its report, Muddy Waters said that GSX Techedu’s chairman, Larry Chen, “strangely tried to dissuade us from looking at GSX last month” in an interview with Chinese media on 8 April, during which he reportedly said: “I think if Muddy Waters analyses our data seriously, there is a high probability that think Muddy Waters will not be so stupid. The level and IQ of the people in Muddy Waters is quite high.”

GSX Techedu, which earlier this year became the first listed ed tech company to reach a market capitalisation of $10 billion, is currently valued at around $8.5 billion.

Muddy Waters explained that more than half (52.8%) of the unique GSX Techedu users it identified as bots were “precise joiners” – users which joined a class at the “same time, to the second, on the same day of at least two different weeks”. It compared the likelihood of this occurrence to “a weekly flight from city A to city B touching down two or more times at exactly the same second”.

Ed tech & educational services

China Distance Education gets takeover offer days after US announces regulatory crackdown on listed Chinese firms

China Distance Education’s management team has offered to buy the organisation, less than a week after US President Donald Trump ordered regulators to crack down on Chinese companies listed in the US that fail to uphold accounting standards.

The company received a preliminary non-binding offer from Zhengdong Zhu, co-founder and chief executive, and his wife, Baohong Yin, co-founder and deputy chair, to buy all outstanding shares for $9.08, in cash, per American depositary share ($2.27 per ordinary share).

Under the take-private deal, the management team and its “affiliated entity” – likely a financial sponsor – would pay $307 million for China Distance Education, whose market capitalisation currently stands at nearly $278 million.

China Distance Education’s board said it had “just received the proposal letter and has not had an opportunity to carefully review and evaluate the proposal or make any decision with respect to the company’s response to the proposal”.

The company’s share price climbed 12% when markets opened on 8 June following the announcement.

The organisation, which is listed in New York but based in China, is one of many in Trump’s sights, as his administration seeks tighter control over mainland-headquartered companies that tap global investors through US stock exchanges.

Less than a week ago, Trump set a 60-day deadline for US financial regulators to recommend ways to clamp down on US-listed Chinese organisations amid concerns that the Chinese government is preventing auditors from thoroughly assessing accounts – giving rise to fraud.

“China’s actions to thwart our transparency laws raise significant risks for investors,” said Trump. “The time has come to take firm action in an orderly fashion to put an end to the practice that has tacitly permitted companies with significant Chinese operations to flout protections United States law requires for investors in United States markets.”

It has been said that intensifying scrutiny stemmed from a scandal linked to Luckin Coffee, which vowed to become China’s answer to Starbucks and floated on the Nasdaq exchange in 2019 but earlier this year was found to have falsified £250 million of transactions.

Muddy Waters, the short-seller which first raised alarms over dubious accounting practices at Luckin Coffee, has since gone after GSX Techedu, an online tuition provider listed on the New York Stock Exchange whose operations are based in China. The short-seller – the third this year to accuse GSX Techedu of malpractice – called the company a “blatant fraud” and accused it of overstating profits by 70%. Numerous lawsuits have been filed against GSX Techedu but the firm denies all allegations.

One source suggested that “USlisted Chinese groups will de-list” as regulatory scrutiny is ratcheted up.

The source said: “China doesn’t allow the auditors to provide access to their workings to overseas regulators; China chooses to classify these as state secrets – presumably to avoid the company directors getting sued for the constant frauds.

“[The] US is using this as a threat to de-list them all.”

Private equity-owned e-learning provider files for bankruptcy to reduce $2bn debt burden

Skillsoft, a US-based e-learning company owned by private equity firm Charterhouse Capital Partners, has filed for pre-packaged chapter 11 bankruptcy to reduce its debt burden of around $2 billion.

The firm said it had agreed to a restructuring process with the majority of its lenders that would help slash its debt burden to $410 million.

Skillsoft filed for bankruptcy in Delaware, a low-tax US state where it has registered assets and liabilities of between $1 billion and $10 billion.

The firm said that it expects to have liquidity of around $50 million following the restructure, and, in the meantime, no employees will be affected and clients will continue to be serviced.

Skillsoft did not say whether the restructure was related to Covid-19 or the financial effects of the pandemic.

Companies which file for chapter 11 bankruptcy are typically on the verge of going bust but believe that, following a reorganisation of assets, debts and strategy, can once again become profitable.

John Frederick, Skillsoft’s chief administrative officer, said: “Today’s announcement marks an important step forward in significantly strengthening Skillsoft’s capital structure and positioning the company for long-term success.

“While our core business remains strong, with attractive profitability and cash flow characteristics, our debt levels are too high. We need to invest further and that requires our debt levels to come down to free up cash to further enhance our offerings.

“We look forward to benefitting from a stronger balance sheet and enhanced financial flexibility as we continue investing in new products, solutions and content to drive value for our customers and growth in the business.”

Ed tech & educational services

15 listed education companies that have grown despite Covid-19

Listed education companies with technology-driven delivery models have seen the greatest increase in value since January, an analysis by this publication has found, demonstrating to an extent the ed tech sector’s resilience to Covid-19.

At the beginning of June, the price of 15 out of 50 global education stocks tracked by this publication had risen since January, when the viral outbreak began to tear across the world.

Companies compiled under EducationInvestor Global’s analysis operate across a range of educational subsectors, including early years, K12, higher education, vocational training, ed tech, publishing and after-school tuition. Analysis of movements in their share prices and thus market capitalisations offers an insight – albeit limited – into how education businesses across the world are coping with the coronavirus crisis through the eyes of public-market investors.

Organisations that generate significant portions of their revenues from delivering technology-enabled education have, generally speaking, fared better throughout the pandemic than traditional providers.

China Online Education Group, which despite its name is listed in New York, soared 120% between 2 January and 2 June, making it the list’s best-performing stock of the past five months. In the first quarter, the company, which orchestrates online classes taught to Chinese students by foreign tutors, said its net revenue grew 52%, as active student numbers were boosted by 26% to 286,600.

Of five Hong Kong-listed businesses that made the cut, Koolearn, a provider of online courses founded by Chinese education giant New Oriental, witnessed the biggest growth as its share price climbed more than 85%. The group now has more than 8.5 million registered users who can choose from some 1,200 courses. Koolearn has a gross margin of 54% but is currently loss-making.

Chegg, a US-based ed tech listed in New York that sells digital textbooks and offers online tutoring, saw its share price swell by 62% between January and June. As of May, the firm had 2.9 million subscribers – up 35% on last year. In the first quarter, net revenue also expanded by 35%, Chegg said. Late last year, the group acquired coding school Thinkful after buying WriteLab, an artificial intelligence-driven company, and StudyBlue, an online studying platform, in the years prior.

In addition to Koolearn, four businesses whose market capitalisations increased despite the most turbulent economic environment in recent memory are listed in Hong Kong, a high-growth market whose education landscape institutional investors are familiar with. These are Huali University Group, Scholar Education Group, China Gingko Education Group and China Kepei Education Group – all of which operate private universities in China.

China Kepei, which focuses on career-oriented qualifications, jumped 75%. The firm, which operates Guangdong Polytechnic College, Zhaoqing Science and Technology Secondary Vocational School, records annual revenue of HK$776 million (£79 million) and net income totalling HK$496 million. China Gingko, which offers courses in disciplines including management, engineering and economics, climbed 63%. Scholar Education Group saw its share price jump by 46%, while Huali University Group gained 29%.

Yet, other private university operators across the world have been hammered by Covid-19, which stymied flows of international students and brought about unforeseen costs as institutions were forced to transition abruptly to online delivery. For instance, listed university operator Laureate, most of whose campuses are in the US and Latin America, saw its share price sink nearly 40% between January and June.

The eight remaining companies are listed either in New York or London. These are 2U, GSX Techedu, K12 Inc, NetEase, Strategic Education, TAL Education Group, Wey Education and Zovio.

The past five months have been kind to GSX Techedu. The New York-listed moonshot, whose business model is like that of rival China Online Education Group, has this year been accused of systemic fraud and financial misreporting not once but three times by short-sellers. Despite a string of active lawsuits against the company, one of which relates to intellectual property theft and was filed by a rival organisation, GSX Techedu’s share price was 53% higher on 2 June than it was 20 weeks prior.