To The Moon

The Hong Kong stock market after hours yesterday, $New Oriental Education & Technology(EDU)$ announced its fiscal third-quarter results for 2024 (covering the three months ending February 29th this year) , and its share price plummeted by nearly 20% today.

What's going on? Did their earnings blow up?

In revenue, New Oriental revenue was $1.2 billion in the third quarter, a whopping 60% increase year-over-year.

By segments, the number of schools and learning centers hit 911, up 27.9% from the previous year. Revenue from new educational businesses surged 72.7% year-over-year.

New Oriental didn't separately disclose the revenue and financial status of $EAST BUY(01797)$ , which doesn't publish quarterly reports, so we'll have to wait until August to get the full picture.

But in any case, New Oriental's revenue growth is red-hot. And when it comes to operating profits, they clocked in at $113 million, up 70.6% year-over-year. Everything seems perfect！

However, when the focus is on net profit, things don't look so bright. In the third quarter, New Oriental's net income was only $87.17 million, a mere 6.8% increase year-over-year.

Oh no, it's a bombshell! Growing revenues but not profits is a big no-no in the capital markets, sending the stock price tumbling.

Why is this happening?

Looking at the cost side, operating expenses hit $6.4 billion in the third quarter, a whopping 74.5% increase year-over-year, outpacing revenue growth.

The surge in costs has dragged down New Oriental's gross margin to 46.6%, down from 51% in the same period last year.

And on top of that, expenses are also shooting up. Sales expenses hit $160 million, an increase of 57%, administrative expenses of $288 million, an increase of 33.6%.

In addition, there was a loss of $13.33 million from investments under the equity method in the third quarter, compared to again of $10.6 million in the same period last year. This combination of factors has led to almost no growth in net profits.

Management attributed the surge in costs and expenses to the increase in related costs and expenses from East Buy's self-operated products and live streaming e-commerce business.

It's not news that East Buy has been ramping up its self-operated business, which has led to a decline in profit margins. According to East Buy's mid-year report disclosed on February 21st this year, its revenue in the 2024 fiscal year hit $2.795 billion, up 34% year-over-year.

But due to a decline in gross margin from 47.2% in the mid-fiscal year of 2023 to 39%, coupled with rising expense ratios, East Buy's net profit margin fell to 9.6%, far below the 27.2% in the same period last year, resulting in a sharp 57.4% decline in net profits!

Is this increased focus on self-operated business causing such financial pressure on East Buy a temporary phenomenon or a long-term trend?

Among China's top three e-commerce players, $JD.com(JD)$ relies most heavily on self-operated products. While service and product quality are guaranteed, it also brings extremely low profitability. Both gross margin and net profit margin will be significantly lower than those of its peers, Taobao $Alibaba(BABA)$ $Alibaba(09988)$ and $PDD Holdings Inc(PDD)$ .

From this perspective, ramping up self-operated business will inevitably lead to lower profitability, and the trend of revenue growth without profit growth is likely to continue for some time.

And the kicker is that after a surge in its stock price earlier, New Oriental's P/E ratio is now over 40 times, which is obviously high compared to its single-digit profit growth rate.

New Oriental's education business has emerged from the mud and is thriving, but East Buy is expected to continue ramping up its self-operated business, and the pressure on costs and expenses may continue to haunt its stock price.