Raffles Education Corporation: Key asset to be securitised

Imputing impairment in 3Q09. Raffles Education Corporation (Raffles) reported a loss-making quarter (-S$16.5m) as it had decided to book in S$33.1m as allowance for impairment charges for its associate Oriental Century (ORIC). Excluding this non-cash charge and land sales (as continued payment for Oriental University City, or OUC), Raffles' 3Q09 net profit would have come in at S$14.7m. Student numbers held steady instead of a marginal increase as we anticipated as recruitment drive slowed.

Securitising OUC. Management continues to be optimistic about OUC and shares our sentiments that it is a well worth investment to embark on its next phase of growth. We were updated on the plan to pay for this asset by securitising it. To do that, management hopes to list OUC in China/HK (earliest in 2011) due to listing rules requiring operating history of three years under Raffles' jurisdiction. Currently, the majority of the debt (~S$320m) owed by Raffles for OUC is primarily to the provincial government supporting this University City project. While Raffles will continue to pay down this debt, we expect it to fulfil a significant part through the listing. As such, post listing, it will remain a major shareholder along with the provincial government.

No dividends. Raffles will not be paying any dividends this quarter. The Dividend Re-Investment Scheme (DRIS) has also been terminated in view of the volatile share price and poorer-than-expected take-up rate. We had earlier forecast that Raffles would cut its dividend to 0.75 S cents/quarter to preserve cash and pay off its debts.

Trough reached, next year will be better. Raffles has undergone a winter season in the last months with the ORIC scandal coupled with a tight liquidity situation that has prohibited the company in embarking on an M&A route to grow the business. However, we think that the next year would start bearing the first fruit of its labour when it finalises the securitisation plan for OUC, aggressively pay down its other debt and refocuses on student recruitment for its new schools. While the share price might take a tumble in view of its loss-making position this quarter, we look past this event and set our valuations to FY10F where the company will resume its growth trajectory. We roll our valuation to FY10F based on the same 12x PER, still close to its lower historical trading band. Our fair value is edged down slightly to S$0.59 (prev. S$0.60). Maintain BUY.

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