Indonesia, the Philippines, Vietnam, Malaysia and Thailand are expected to be among the world’s top 25 economies by the half-century mark. The unprecedented growth in these nations should usher hundreds of millions of households into the middle class, and they will, in turn, become major consumers with growing disposable incomes. In the long term, a significant amount of this newly created wealth is expected to be directed towards private education. The short term, however, requires expedited maturation of the private education market to remedy lagging education standards and ensure the creation of workforces capable of achieving the ADB’s lofty projections.
Private equity and other investors should be reading the tea leaves, and seeking to capitalize on this necessary market maturation by targeting one or more of the region’s private education subsectors: (i) education delivery (eg, pre-K education, K-12 education, vocational education and higher education); (ii) education services (eg, test preparation, curriculum development, student tutoring); (iii) education support services (eg, housing, textbook distribution, catering); and (iv) education infrastructure (eg, property maintenance and information, communications and technology networks).
The upside to investment in Southeast Asia’s private education sector is high, but it is not without risk and challenges. Consequently, a diligent investor must understand the available investment plays and potential regulatory hurdles (and the likely government policies to alleviate these hurdles) before settling on the investment structure best suited for its risk appetite and expectation on returns.
The sale and leaseback play
One play for investing in the region’s private education sector is through acquisition and leaseback of land and property assets. This investment play offers the seller access to capital in non-core assets for expansion or return on equity, while also keeping operations seamless, a priority for campuses being showcased as flagships for future expansion under an asset light model. This play offers the buyer predictable cash flow as well as the opportunity to recoup capital investment upon asset disposal. With initial yields in the region currently hovering around 7–10 percent, this lower-risk investment strategy is more suitable for the education delivery subsector, specifically plays for institutes with healthy balance sheets and proven track records.
Western businesses and investors have long relied on the sale and leaseback play to expand education businesses and generate fixed returns. In recent years, this strategy has gained traction in the Middle East, where GEMS Education sold and then leased back two campuses in Dubai, and Promoseven sold-leased back the British School of Bahrain. The verdict is out as to whether this strategy will gain traction in Southeast Asia, but early indications are promising. In 2017, Alpha REIT, a Malaysia-based unlisted REIT, entered into a sale and leaseback with Paramount Corp Bhd, the operator of two international schools, in a transaction valued at USD38.5 million.
For operators, growth of the sale and leaseback play within Southeast Asia’s private education space largely depends on the availability of traditional forms of financing. Family conglomerates tend to be the dominant regional players in real estate and education, but are often overleveraged. Coupled with urbanization and rising land costs, this overleveraging often leads to a restrictive lending environment where a sale and leaseback may be a more palatable financing option.
To attract additional financing, some operators are even sweetening the pot by including operational revenues as a percentage of rental.
For investors (particularly foreign investors) seeking to capitalize on any such tightening of lenders’ purse strings, this play requires a thorough analysis of the target countries land ownership laws and most efficient means to retain ownership of the real estate.
Investments into Thailand, for example, may require certain “value add” upgrades to the property in order to qualify for Board of Investment promotion (and preferential tax treatment), and thereafter allow the land to be held outright by the foreigner investor; otherwise, a local joint venture partner may be required in light of Thailand’s onerous laws on foreign land ownership.
Investments into Malaysia, where foreign ownership of land is relatively unrestricted, may require consents from the state authorities, and confirmation that the land acquisition and business satisfies the purchase price and zoning requirements under the National Land Code and the Guidelines on the Acquisition of Properties issued by the Economic Planning Unit.
Investments into Indonesia and the Philippines - jurisdictions less friendly to foreign land ownership but more aggressive in promoting private education — may require a joint venture and lobbying with the relevant authorities to demonstrate how the investment strategy ties to nation-building via educational investment.
When seeking to undertake a sale and leaseback in emerging Southeast Asia, the only constant seems to be that no two real estate investments are alike.
The greenfield play
A second play for investing in the region’s private education sector is through acquisition of land and development of a bespoke campus for an operator. Upon completion, the developer may either sell the property or lease the property and receive stable returns. If the former, the land ownership restrictions set out in respect to the sale and leaseback play will need to be considered.
Investors looking at greenfield plays are advised to look out for the supply-demand gaps and government initiatives rolled out to fill those gaps. For example, in 2016, Indonesia implemented reforms that required Ministries and governors to improve and establish more vocational high schools, while issuing directives to encourage educational investment in tourism, maritime programs, food security, creative industries, construction and energy. Similarly, in 2018, Malaysia’s education Ministry pledged to make technical and vocational education and training students’ first study choice by 2023. Coupled with the local human capital requirements of China’s One Belt One Road initiatives, these reforms provide entrepreneurial investors with the opportunity to capitalize on the region’s need for a highly skilled workforce.
Not limited to vocational schools, higher education is also the subject of less protectionist reforms. Indonesia, for example, acknowledged in 2018 that legislation is being drafted to open up the university sector, and allow overseas institutions to open campuses. When these laws are passed, Indonesia’s higher education sector will go from 0 percent to 100 percent foreign ownership, presenting unique opportunities to first mover foreign operators and investors under a greenfield play.
Growth-focused acquisition play
The third, and the least real-estate focused play for investing in the region’s education is through debt or equity investment in a single school operator or, more often, a platform that operates multiple institutions schools. Some of the recent high-profile transactions have included Barings Private Equity Asia and Canadian Pension Plan Investment Board’s acquisition of Hong Kong-based Nord Anglia, and Temasek Holding acquiring 30 percent of Singaporean Mindchamps Preschool Fund. These investments tend to be higher on the risk/return ladder as the investment goes direct to the operating company, often with no real estate to serve as collateral.
While regulations on private education in Southeast Asia tend to be friendly towards foreign investment, there are possible barriers through growth-focused acquisition plays. This is particularly true in Thailand, the Philippines and Indonesia, in none of which is foreign majority ownership of the operating entity permitted. There are regulations on school fee caps in certain countries, such as Malaysia and the Philippines, that would also need to be considered. Furthermore, for operators that may have prospects of listing on a regulated exchange, investors should be wary of whether listing would cause the operator to lose tax benefits, currently a hot button topic in Thailand following the 2018 listing of SISB Co Ltd, the operator of Singapore International School of Bangkok, on Thailand’s Market for Alternative Investment.
Against this regulatory landscape, investors in a growthfocused acquisition play should carefully review the local regulations on foreign educational investment to gauge their potential impact on investment returns.
As the economies of Southeast Asia continue to grow, investors will continue to explore opportunities in private education. But the extent to which investors put hard money into the region’s education space will depend largely on local governments creating a legal and regulatory environment that is transparent, less restrictive and offers incentives. Fortunately, local governments have recently shown a willingness to create such an environment, which bodes well for Southeast Asia reaching its full potential. It is widely expected that this trend will continue.