Educating India – Making Money!

Although there have been investments in the education sector across the world, the Indian
education sector is a new avenue for the Indian investment community. This sector is expected to
be driven by an increasing propensity of the middle class to spend on education. Low levels of
penetration of education in India and the absence of adequate infrastructure offer huge
opportunities for investment into this sector.

The education sector in India can be segmented into Formal and Non Formal segments. Formal
segment refers to K-12 and Higher education. Even though the formal segment constitutes more
than 80 percent of the market size, the opportunities to invest in this sector remain limited due to
strict regulations which prevent the participants from distributing profits. The Non Formal space
is relatively small in size, but the low levels of regulations allow the participants to distribute
profits.

Formal Education Sector

K-12

The K-12 segment accounts for close to 40 percent of the Indian Education Sector. This segment
is filled with charitable not-profit groups. Presence of corporates is slowly increasing at a steady
pace. Currently, there are no established participants with pan-India presence. Establishing a
considerable scale, good brand equity and an innovative structure are key to the success of this
model. The companies are interested in school ownership not because of stable fee income, but
because of the business coming out of selling content, technology and other services.

Higher Education

The student enrolments in India are expected to increase from 17 million in 2008 to 22 million in
2013 and 29 million in 2018. With the fund allocation of Rs 81,000 crores by the government for
the 11th five year plan, it is possible to crease only 2 million capacity for higher education higher.
The investment needed in this segment is five times the allocated amount. It is expected that
innovative PPP models and stand-alone investments from the private participants can help bridge
the gap

Limited accessibility of higher education is one of the important reasons behind high drop out
levels. Financial Accessibility (affordability), Physical Accessibility and Virtual Accessibility
(online education) are key elements to ensure success of an institution this segment. In spite of
the regulatory challenges, innovative models can scale up operations and generate legitimate
profit.

Non Formal Education Sector

Pre-School

The Pre-school segment is driven by low levels of penetration and characterized by the absence
of any regulatory challenges. Increasing propensity to spend and increasing awareness on
importance of elementary education are expected to drive this segment.
Increasing cost of infrastructure (rentals), small catchment area and pricing pressures on account
of high competition especially from the unorganized participants are the key challenges faced by
market participants in the Pre-School segment.

Multimedia in Private Schools / ICT in Government School

In recent years, urban schools in India are benefited by the use of Multimedia products to
supplement the conventional teaching methods thereby increasing the effectiveness of the
teaching process. The growth is likely to intensify in the upcoming years as the current
penetration (3%) is quite low. This business offers high EBIT levels as there is not much
recurring expenditure.

The ICT segment is driven by the Government’s initiative to provide IT and computer training in
public schools. Of the 10 lakh government schools, only one lakh schools has been covered in
under the ICT scheme by 2009. Delay in payments from government, pricing pressure on account
of intense bidding and high initial investment are a challenge for the participants. The ROCE for
this business is low on account of the various challenges.

Coaching Classes

Coaching classes, as a segment, has been growing on account of inefficiencies in the formal
schooling system. This segment can be further sub-divided into – tutoring at school level and test
preparation. Even though the former is large in size, it is highly localised and fragmented. The
subject tutoring accounts for more than 80 percent of this segment and the rest is accounted for by
the test preparation segment.

Vocational Training

The inability of the formal sector to produce employable graduates has lead to the growth of this
segment. Vocational Training imparts skills required for a specific vocation. The growth in the
services sector increased the need for employable graduates, but only one fourth of the graduates
in India are employable. It is expected to be one of the fastest growing segments in the entire
education sector.

Funding Deals and M&A

Most of the deals in this sector are less than $ 20 million. The reasons for this phenomenon are

Small scale operations make it difficult to absorb huge levels of investments resulting in
lower valuations. This results in the promoters having to shed a higher stake in the
business for a bigger funding deal.

Regulatory uncertainties make investors reluctant to foray into the education sector. Even
if they did, investors prefer to invest in the same company in various rounds, if the
promoter is able to demonstrate growth and scalability.

The increasing exit multiples in education sector has attracted the interested PE/VC investors.
Some of the main reasons for investor attractiveness in this sector include

High Profitability – The EBIT ranges anywhere from 15 percent to 60 percent in various
segments.

Freedom in pricing – There are less pricing pressures due to excessive demand and
appetite to pay for good services

Annuity model – Prior knowledge of the total enrolment, collection of fees in advance
and less attrition enables better planning.

Unrelated to Business Cycles – Most of the demand is of an autonomous nature and
derives most of it demand from the favorable demographics.

There have been close to 60 deals worth more than $ 640 million since 2006 in this sector. In
2010 alone, 21 deals have been stuck amounting to $ 250 million. The participation of the
investors has been low on account of regulatory barriers in the formal education segment. To
facilitate PE investment in this sector, the regulations have to be relaxed or the participants
have to adopt innovative models to distribute profits. Even though the there have been only 5
exits, the exits have given 7.2x returns making it a highly attractive option for investors.

Chart depicts the Deals in Various Segments of the education sector in India in the period 2006-
10

250.0

200.0

150.0
Deal
Value ($
million)
100.0

50.0

0.0
200 200 200 200 H1’
Year

Conclusion
The demand for Education Services in the country is expected to increase in years to come. The
participants in the segment are likely to benefit from the cyclical changes in the sector. Many
participants have diversified from their core competencies. One of the reasons for this
phenomenon is the presence of huge opportunities in all the segments of the education sector. The
diversified participants have seen huge synergies accruing in their businesses. As the industry
matures, there could be many companies having presence across the education value chain.

Scalability of the businesses and high levels of regulations are the biggest challenges facing the
participants. It takes 5-7 years for an institution to build a good brand visibility. The average time
span for a private equity investor in a company is 3-5 years. In order to exit at higher valuations,
it is beneficial if the investor has a longer investment horizon.