>EDUCOMP (HDFC SECURITIES)

• Smart class will continue to dominate private school segment
The company maintained that smart class would continue to be an industry leading product. Also, Educomp is changing its model for Smart Class. It plans to sell content and hardware together and receive money outright. The model would reduce the cash burden on the company and lighten its working capital needs. It plans to increase its sales staff by 40 people in FY10. We believe that Educomp will continue to get the early mover advantage in this space and will be able to ward off competition, thereby retaining its leadership positions. We have factored in 2825 schools for FY10 and 3750 schools for FY11.

• Gujarat ICT contract comes with better margin
The company recently won an ICT order from Gujarat government for 1,780 schools and the margin for this contract is comparatively better than the previous ones. In the ICT space, due to few PAN India participants, many state players have entered considering this a sound business opportunity. This has resulted in unwarranted competition. The local players offer huge discounts and have no proven management skills. The company said that this concern no longer exists and expected the ICT segment to be more profitable going forward. We have factored in 17,250 schools for FY10 and 22,500 schools for FY11.

• Dry management contracts to drive K12 business
The focus of K12 business of Educomp is shifting towards dry management contracts as this model does not involve any capex and Educomp gets a fair share of revenues (about 20%). The management attributed this change to the fact that many private schools were not managed properly and this model did not involve capex. The company currently operates 20 schools and has visibility of another 23 schools in FY10. We estimate it would take up 45 schools in FY10 and 60 in FY11.

• FCCB conversion is not a concern
Educomp had outstanding FCCBs of US$80m (raised in July ’07) convertible at Rs2,950. The bonds are due for redemption in July ’12. Currently, the bonds are trading at 5% discount. Considering the expected growth of the company, we believe the conversion price is not a concern and expect the entire FCCBs to get converted into equity.

• Outlook and Valuation
We expect Educomp to record a revenue and net profit CAGR of 46.4% and 45.3% between FY09 to FY11. At the CMP, the stock is trading at a P/E of 24.7x and 18.7x our estimated EPS of Rs106.8 and Rs140.9 for FY10 and FY11. With a stable government geared to growth at the centre we expect sectors including Education will get a boost benefiting companies like Educomp. We continue to rate Educomp a ‘Marketperformer’ with a revised target price of 2,670. Though, we earlier valued Educomp at 22x of FY10 estimated EPS, we now value Educomp at 25x of its FY10E EPS of Rs106.8 as we believe the PE ratios of high growth companies in the education sector will expand faster due to the strong government at the centre.

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