NetDragon Hopes To Deliver Lesson In Value With Education Spinoff

Key Takeaways:

• NetDragon will separately list its international education business in New York through a backdoor listing using Gravitas Education
• The company believes the education unit being listed is worth $750 million, far less than its current valuation based on Gravitas’ and NetDragon’s share prices

By Doug Young

It’s not easy being an educator.

That’s the lesson contained in an interesting new spinoff plan from NetDragon Websoft Holdings Ltd. (0777.HK), one of China’s oldest gaming companies that also gets about half of its revenue from its newer education services. In a move that looks aimed at returning the company to its gaming roots, NetDragon has announced a backdoor listing plan for its overseas education unit that will see that asset sold to New York-listed Gravitas Education Holdings Inc. GEHI in exchange for new shares.

This deal has quite a few noteworthy elements, led by NetDragon’s hopes that such a deal will unlock some major new value for its overseas education business, which will be called Mynd.AI after the backdoor listing. After the deal’s completion, the newly listed Mynd.AI will be a distinctly overseas business, helping NetDragon to shed risks associated with China’s difficult private education market.

The new listing will also give Mynd.AI its own fundraising platform, which it will probably need since it is currently losing big money. The company’s business centers on the Promethean brand of interactive educational panels for use in classrooms. NetDragon is currently trying to get those panels into as many classrooms around the world as possible. Its medium-term aim is to eventually transform from the lower-margin hardware business to the more lucrative business of providing educational software as a service (SaaS) for its panels.

NetDragon says the deal will value its non-China education business being injected into the new New York-listed company at $750 million, according to its announcement issued after the Hong Kong market closed on Tuesday.

By comparison, the Hong Kong-listed NetDragon itself is now worth just over $1 billion. A simple 50-50 split between NetDragon’s education and games business would imply investors currently value the education business at just $500 million. But the reality is that NetDragon’s gaming business is far more profitable than the education part. More specifically, the gaming business had an enviable gross margin of 95.6% last year, versus a far lower 23.2% for its education business.

That means education is a bit of a slacker in NetDragon’s overall business mix, at least at the moment, and should probably only account for one-third or less of the company’s value. If we’re generous and assume it’s one-third, that would still mean the market currently values NetDragon’s education business at just $333 million, or less than half of what the company thinks it’s really worth, based on its own $750 million valuation.

NetDragon’s shares rallied slightly after the announcement, rising 3.6%, though the stock is still down about 18% year-to-date. Gravitas did a bit better, rising 28.8%. But Gravitas is a tiny company, with a market value of just $27 million, even after the big rally. The new backdoor listing would give NetDragon 72.9% of the New York-listed company through the issue of new shares. So, some simple math would show that after those shares are issued, the new Mynd.AI would be worth just about $100 million based on the latest Gravitas stock price – again, a far cry from the $750 million that NetDragon thinks it’s worth.

All this shows that shares of both NetDragon and Gravitas are both currently grossly undervalued, at least if we believe NetDragon’s assessment.

Offshore Asset

Having established that NetDragon believes its education business isn’t sufficiently appreciated by investors, we’ll spend the second half of this space showing why it believes the unit has such big potential. That brings us back to our earlier points about the company’s desire to transform from a hardware to software provider, and also to shed its China roots.

We’ll look at the China angle first, as that’s an issue that has dogged not just NetDragon, but pretty much any private company offering education services in China these days. Beijing launched a major crackdown on private education services providers nearly two years ago, effectively crushing an entire multibillion-dollar industry by banning all companies from providing after-school tutoring services for K-12 students.

NetDragon’s China education business was relatively unaffected by the crackdown, since it provides teaching devices and supporting services for use in classrooms, rather than actual instruction. But given the fickle nature of Chinese regulators, it should come as no surprise that the educational assets being moved into the new Mynd.AI include everything except for China. At the same time, Gravitas, which mostly provides early childhood education services, will dispose of its core China business and only retain its Singapore operations post-merger.

That will leave Mynd.AI with a relatively global operation, including business in developed markets like the U.S., Britain, Italy and Australia. The company has also begun moving into emerging markets, and mentioned Egypt and Thailand as two countries where it is actively developing its business.

The new Mynd.AI will be helmed by Vin Riera, who currently heads NetDragon’s Promethean business. Riera is notable both for his tech background, including a senior position at former PC seller Gateway, as well as his non-Chinese status. All that shows that NetDragon is trying to make this business distinctly non-Chinese, which will not only protect it against new regulation in China, but could also insulate it from future accusations of having close Chinese ties like those currently dogging social media sensation TikTok.

Then there’s the business transformation that we previously mentioned, which has Promethean trying to aggressively place its panels into classrooms worldwide in hopes of planting the seeds for a future lucrative business providing software for that hardware. The company sold 253,000 such panels last year, and said in its latest annual report that its panels are now used in 1.9 million classrooms worldwide.

That said, Promethean’s transformation is still very much a work in progress, with NetDragon reporting its education business overall lost 299 million yuan ($43 million) last year.

NetDragon’s stock currently trades at a depressed price-to-earnings (P/E) ratio of just 6, again reflecting the low value for the education business that we discussed earlier. By comparison, mid-sized gaming peer CMGE (0302.HK) trades at a much higher ratio of 33, while the much larger NetEase NTES also trades significantly higher at a multiple of 21.