Lesson Learned: Gaotu Tastes Early Success in Business Transformation

Facing a delisting threat after its shares fell below $1, the battered education company has responded with a major buyback plan in a bid to boost its price

Key Takeaways:

• Gaotu Techedu’s revenue has resumed quarter-to-quarter growth and its loss narrowed by 94% as it transforms following China’s education crackdown last year
• The company and its chairman plan to purchase up to a combined $50 million worth of its shares, hoping to bring the stock back above the $1 mark

By Tina Yip

It used to boast of its ability to mint great students in better days when it was head of its class. But these days Gaotu Techedu Inc. (GOTU.US) is taking its own crash course in how to simply avoid being delisted from the New York Stock Exchange.

The latest searches in Google and Baidu show Gaotu is still ranked tops for its signature mantra boasting how it produces the best students. Its continued top-ranking for that catchphrase, even after it was kicked out of its core extracurricular K-12 tutoring business following a government crackdown last year, might have led most companies to abandon the education sector completely.

Instead, its founder and Chairman Larry Chen has refused to take his eye off the blackboard and turned his attention to the adult education market. He has set a special focus on students preparing to enter graduate school, aiming to top the nation’s graduate school entrance tutoring market in two years.

That said, we’ll take a look at how Gaotu is faring overall as it transitions to a more adult-focused business. The company’s third-quarter financials published last week showed its revenue fell 45.6% year-on-year to 606 million yuan ($84.7 million) in the third quarter, its fifth consecutive decline. But we should also note the latest figure was up 12.7% from the previous quarter, as Gaotu began gaining momentum in its newer customer base.

The company posted a 61.35 million yuan loss in the latest quarter, though that was a huge improvement over its 1.05 billion yuan loss a year earlier, mainly as a result of sales, R&D and administrative costs falling by 60% or more and the absence of asset depreciation and losses from asset disposals related to business restructuring after last year’s education crackdown.

In fact, adult education is just part of Gaotu’s new roadmap. Its four new focus areas include professional education for college students and adults, vocational education, well-rounded education and digital educational products. Speaking on the company’s latest earnings call, management said revenue from the learning services business accounted for 90% of the total in the third quarter, with 30% of that from college student and adult tutoring services. Revenue associated with digital educational products only accounted for around 60.62 million yuan, or about 10% of its total. By comparison, the more established Youdao Inc. (DAO.US) generated 357 million yuan from its digital device business in the same quarter.

Delisting threat

Gaotu has been thrown for quite a few loops in the past two years. In 2020 it was targeted by several short sellers and later found itself in the crosshair of the U.S. securities regulator over the allegations in the short seller reports. But it still managed to thrive as its core K-12 tutoring business did well amid strong general demand for online education in China. Despite the setbacks, its revenue grew by 2.4 times in 2020, and its shares ultimately more than doubled that year.

But the loss of its main business was a much bigger matter, sending the company’s stock into a nosedive. The shares closed at just $1.06 on Monday, losing most of their value from a high of $130 early last year. Gaotu pointed out in its latest results that it received a piece of good news on Oct. 19 when the U.S. securities regulator said it wouldn’t pursue charges in relation to its 2020 probe of the short seller allegations.

Despite a recent rally for the stock that has pushed it above the $1 mark, the New York Stock Exchange warned the company that its average 30 trading-day price as of Nov. 15 was only $0.90. It said to get the average above $1 within six months, or face potential delisting.

To restore investor confidence and keep its shares above $1, the company announced it would buy back up to $30 million worth of shares over the next three years the same day as its latest quarterly results. At the same time, it said founder Chen would personally buy up to $20 million worth of shares in the company.

The company had 3.34 billion yuan in cash, cash equivalents, restricted capital and short-term investment at the end of September, 330 million yuan less than at the end of last year, but more than enough to finance the buyback.

The narrowing loss, combined with the buyback plans, sent the company’s share price up by 20% in early trade the day of Gaotu’s latest results announcement. But the momentum later ran out, and the shares closed up by a far more modest 1.9% on the day. Clearly investors aren’t completely convinced yet about the company’s new plans.

Lackluster livestreaming

Gaotu certainly isn’t alone in trying to find a new story for investors. New Oriental Education (EDU.US; 9901.US) and its Koolearn Technology (1797.HK) online unit have looked for new life in livestreaming e-commerce. Some early signs of success for that and other initiatives have helped both companies’ shares post strong gains since June.

Inspired by New Oriental’s success, Gaotu’s Chen launched his own live e-commerce channel on Douyin, the Chinese version of TikTok, on Sept. 20 with a famous former physics teacher as the channel’s first host. Since then its subsidiaries have applied to register several live-commerce trademarks.

But unlike New Oriental, Gaotu’s livestreaming e-commerce hasn’t fared nearly as well. Two months after its establishment, the channel had only 19,000 followers, a far cry from the 28 million for New Oriental. And its sales per livestreaming session were at paltry levels between just 1,000 yuan and 2,500 yuan.

At the end of the day, each company hit by the education crackdown is trying to find its own way forward. Chen has chosen to stay in education and also tried his hand at livestreaming e-commerce. But such efforts take time – a precious commodity that’s in short supply these days in capital markets.

In such a difficult situation, a buyback might not be enough to restore investor confidence. Instead, Gaotu’s management needs to focus on returning to profitability as soon as possible and winning back long-term investor support with a sustainable business model.

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