IPO REVIEW: Tree House Education & Accessories

 

TREE House Education and Accessories was incorporated in 2006 and operates in the preschool and K-12 (Kg to Class-12) segments. As of June 15, it has 223 pre-schools operating under the brand name of 'Tree House' across 33 cities in India. In order to fund its expansion plans, construct infrastructure for educational complex in Rajasthan and Gujarat and to repay debt, among others, the company has come out with an IPO to garner up to `127 crore.

STRONG BRAND, RAPID EXPANSION PLANS

The company operates primarily through self-operated schools (67 per cent of its total), rather than franchisees. This reduces the risk of brand dilution, as it helps the company to maintain quality, hygiene and safety control. The 'Tree House' brand is well recognised in the pre-schools market, enabling it to attract talent, as well as push up student enrollments. The company is very selective when appointing franchisees, to ensure quality standards. It has a scalable business model and intends to open more schools to meet demand.

Of the total issue proceeds, the company plans to deploy close to one-third amount each on expanding its pre-school business in various geographies in India and for constructing educational complexes in Rajasthan and Gujarat. About `29 crore will be spent to repay its loans' enabling the company to become debt-free. The rest will be spent to procure office space and exclusive rights to provide educational services. The company aims to open additional 120 selfoperated pre-schools in India by FY14, taking the tally to 285. Also, by FY13 it will add about seven K-12 schools to existing 12. It can leverage on its existing preschool student base to raise enrolments in its K-12 schools.

COMPETITIVE BUSINESS

The company operates in a segment wherein entry barriers are low, making it vulnerable to higher competition from both existing as well as new players. Any delays in getting approval for using the land in Jhunjhunu, Rajasthan, to develop the educational complex will impact its financials and return ratios.

While the company's existing mix consists of 149 self-operated (74 franchise-based), which helps in keeping a tab on costs and quality, its ability to control these as it expands aggressively needs to be monitored. The company is relatively new in the K-12 business which could limit its ability to respond quickly to market needs and compete effectively. Among regulatory risks is that the government of Maharashtra is looking to regulate the fees as well as overall operations of such schools (up to K-12 level). Since about 70 per cent of its schools are in western India (about 100 schools in Mumbai; 122 in Maharashtra), any adverse ruling could impact its financials and business operations.

VALUATIONS

Tree House has witnessed robust compounded growth of 97 per cent in its revenues and 329 per cent in net profit over FY09-11. Its Ebitda margins have also witnessed steady expansion over the last three financial years. After taking into account the `6per share discount to retail investors, the issue is priced at 47.3-53.8 times its FY11 earnings. Barring its closest peer, Zee Learn, trading at 107.61 times FY11 earnings and Aptech (at PE of 80), all others are trading at a PE of 9-25 times and notably, have delivered a higher return on equity of 10-24 per cent as against 7.5 per cent of Tree House. Even assuming a 50 per cent growth in profits in FY12, the post-IPO PE work out to 34-38. In this backdrop, the IPO pricing suggests near-term growth is already priced in.