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ASSIGNMENT FOR: MSC FINANCE(INTAKE 6) BUY OUT STRATEGIES

Issued by:

Dr. V Rana Prepared by: NIKHILESH MORE A4028484

NIKHILESH MORE: Msc Finance Intake -6 A4028484

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CHINA EDUCATION ALLIANCE. INC

Background: I Nikhlesh More had been assigned the job of finding a suitable acquisition candidate with having good assets base and adequate cash flow . Most important I am trying to figure out whether it was underpriced in the market or not .

Executive summary
This report provides evaluation for China Education Alliance by using Comparable Company analysis and DCF analysis, and also provides assessment for potential Leverage buy out transaction. China Education Alliance, Inc. (NYSE:CEU) the education services company operating in China is valued between $59.6 million to $126 million by companies comparable analysis with implied share price between $1.92 to $4.09 per share , 53 million to 124 million by DCF analysis based on management operating assumption with implied price of $3.89 to $6.19 per share. After considering relative consistency between above two method and premium of transaction, implied range valuation come up between $60 million to $126 million with implied share price $1.93 to $4.06 per share which is quiet high to current share price of $0.89. By following typical LBO financing structure of 80:20 Debt to Equity, outcome credit ratio are seems to quite satisfactory to convince lender for injection of their into LBO transaction. Moreover, in downside operating situation these ratio are fairly healthy to get support of lender. LBO transaction of China Education Alliance is offering enjoyable Internal Rate of Return (IRR) between 36% to 61% and Cash Return after investment between 4.7x to 10.9x in both upside and downside operating structure. It is recommended to use capital structure of 80:20 Debt- to- Equity which give higher IRR and cash Return to investor

NIKHILESH MORE: Msc Finance Intake -6 A4028484

3|Page Company profile or Background . China Education Alliance is educational services company provide high quality online education material, vocational training services and on-site tutoring services in china. The company has been providing services since 1996 and listed on OTCBB in 2004, AMEX in July 2009 and on NYSE in January 2010. China education Alliance offers online exam preparation and onsite tutoring services to student ages 6-18 for High School and College Entrance. This all-time necessary and high demanded service has contributed 61% in total revenue in 2010 with high gross margin of 83.2%.China education alliance also market professionals by offering management training to Chineses corporation and to adult students with vocational training program such as IT training and pre-employment training.

Industry Overview Education industry in china has recently being experiencing dynamic growth and become 3rd largest category of consumer spending in 2010 according to Wall Street research. Moreover, spending on educational resource is one of family major expenditure in Chinese tradition.

Valuation Analysis All the information of Superior Industries indicates that it had great potential so valuation is approached with real optimism. Analysis on the basis of DCF Valuation , LBO Model and Comparable comps are as under.

DCF Approach: Cash Flow: In order to estimate the free cash flow assumption are taken basing the historic data and future industry growth  Sales : Forecasted sales growth is based on analyst estimates and historic data  COGS: COGS is forecasted as a percentage of sales based on percentage achieved in previous years and assumed that the gross margin will not improve much. Management is focusing to reduce its cost to enhance its profit margin.

NIKHILESH MORE: Msc Finance Intake -6 A4028484

4|Page  SG&A: Figures were forecasted as a percentage of sales based on an historical average.  Depreciation.: This element was forecasted on the basis of past experience.  Working Capital : Working capital is being forecasted as the percentage of sales on the basis of historic data and future projections. The free cash flow that result from assumptions are shown in the DCF model worked out (Attached in appendix) WACC: Weighted average cost of capital (WACC) of 13.3% would remain constant throughout the forecast period. Considering the management operating scenario, china education alliance enterprise value stands at $ 53 million to $124 million. The implied share price will then rages from 3.89 to 6.19 with an implied EV/EBITDA of 4.5x to 5.5x. A summary of DCF based valuation is provided below while the detailed analysis model is provided in Appendix.
Enterprise Values/Implied Share Price Under Discounted Cash Flow Analysis Operating Scenario Base Management Upside Downside 1 Downside 2 WACC 12.8% - 13.5% 12.8% - 13.5% 12.8% - 13.5% 12.8% - 13.5% 12.3% - 14.3% Multiple Range 4.5x - 5.5x 4.5x - 5.5x 4.5x - 5.5x 5.0x - 5.5x 6.0x - 7.0x Enterprise Value 38,297 - 99,479 53,376 - 124,885 90,127 -181,091 16,392 - 36,735 11,776 -13,493
Less : Debt

Implied Equity value Implied Share Price 38,297 - 99,479 53,376 - 124,885 90,127 -181,091 16,392 - 36,735 11,776 -13,493 3.41 - 5.37 3.89 - 6.19 5.07 - 8.01 2.1 - 3.35 1.37 - 2.16

0 0 0 0 0

Comparable Companies analysis approach China Education alliance is compared with similar business and financial profile companies using them as benchmark to establish its implied valuation range. China education alliance is benchmarked with key financial ratio and statistics of comparable as the core value driver and then trading multiples of closest comparable companies are translated into relative valuation. China Distance Education Ltd, China Edu Corporation Ltd, has been taken as comparable companies to benchmark against China education Alliance to drive appropriate valuation range. In order to drive true and impartial trading multiples figures of closet comparable, nonrecurring item has been eliminated and analyst estimate are used to arrive at expected future sales in all over comparison. As a final point, the valuation of China Education Alliance is established on the basis of forward EV/EBITDA multiples of both ChinaEdu NIKHILESH MORE: Msc Finance Intake -6 A4028484

5|Page Corporation and Chinacast Education Corporation, selecting the range of 3.0x to 4.5x 2012E EBITDA, 3.5x to 5.0x 2011E EBITDA. Summary of implied Valuation of China education is given below. (Analysis has been attached as Appendix) .

Valuation Implied By Enterprise Value -To- Earning Before Interest,Tax,Depriciation and Amortisation [EV/EBITDA] [$ in '000 ,except share]
EBITDA Financial Matric Multiple Range Implied Enterprice Value Less : Debt Implied Equity value Fully Diluted Share Implied Share Price LTM 2011E 2012E 13,246.50 22,548.10 28,185.10 5.5x - 4.5x 3.5x - 5.0x 3.0x - 4.5x 72,855.75 - 59,609.25 78,918.35 - 112,740.50 84,555.30 - 126,832.95 72,855.75 - 59,609.25 78,918.35 - 112,740.50 84,555.30 - 126,832.95 30976.81 30976.81 30976.81 2.35 - 1.92 2.55 - 3.64 2.73 - 4.09

Football field Analysis: Removing the inconsistency between both comparable companys analysis and DCF analysis, football field gives the valuation range of $60 million to $126 million with implied price of $1.93 to S4.06 per share. Graphically presentation is depicted the value below.

China Education Alliance Football Field Displaying Comparable Companies and DCF Analysis ($ in million) Comparable Companies
4.5x - 5.5x LTM EBITDA 3.5x - 5.5x 2011E EBITDA 3.0x - 4.5x 2012E EBITDA

DCF Analysis
12.8% - 13.5% WAAC 4.5x - 5.5x

20M

40M

60M

80M

100M

120M

140M

NIKHILESH MORE: Msc Finance Intake -6 A4028484

6|Page LBO Model: Capital Structure is being estimated in the LBO model if the Company is being Buy out. Four different capital Structure is figured out to satisfy the maturity off the transaction. After putting the figures on the model based on assumption it have a positive IRR and good cash return at the exit point which support that the selection of the company is ok and if everything goes well there is a strong chance to get the deal closed satisfying all the parties the seller the share holders and the purchaser. The typical LBO transaction the 20:80 debts to equity are used, the buyer may have to raise a maximum of 101 million debts of which 67mllion can be finance by cash and cash equivalent. And remaining can be raised by collateralize the property plant and equipment and account receivables. Both in base and management case CEU will have strong credit ratio to finance the debt and to satisfy the lenders.
Credit Statistics (In Times )with 20:80/ Debt- To- Equity Years Total Debt / EBIT DA EBITDA / Total Interest Expense (EBIT DA - Capex) / T otal Interest Expense 2011 2.6 4.2 70.7 2012 1.5 5.8 2.7 Operating Senario: Base 2013 1.2 7.8 3.6 2014 0.9 9.7 4.6 2015 0.8 12.1 5.7

Credit Statistics (In Times )with 20:80/ Debt- To- Equity Operating Senario: Downside 2 Years Total Debt / EBITDA EBITDA / Total Interest Expense (EBITDA - Capex) / Total Interest Expense 2011 2.6 4.2 70.7 2012 1.7 5.4 2.6 2013 1.4 6.7 3.2 2014 1.2 7.8 3.7 2015 1.1 9.0 4.3

CAPITAL STRUCTURE Currently the company is having no debt and the capital structure of the company is 100% equity but if the deal get matured then there are 3 different scenario in which company is being loaded with debt with different percentages and in all the 3 scenario company is having adequate cash flow to meet the interest burden with good cash return at exit level . If the transaction get closed with positive approach then company will also enjoy the Tax benefit due to its interest burden and is well enough to take this burden .The best option is option 1 of the company strategy to deal with to close this deal which allow it to exit with proper and fruitful returns. NIKHILESH MORE: Msc Finance Intake -6 A4028484

7|Page In proposed structure 1(one) CEU have high rate of return as compared to remaining two structures, this structure is recommended for financing the LBO transaction for CEA. But as compared to other structure cash return is also good in this structure. Structure 01 (80% Debt: 20% Equity)
Financing Structure: 01 Operating Scenario Internal Rate of Return ( IRR ) - % Cash Return - T imes 80:20 Debt - To - Equity Base 57.0% 9.7x Upside 61.0% 10.9x Downside 2 44.0% 6.2x

Structure 02 (75% Debt: 25% Equity).

Financing Structure: 02 Operating Scenario: Internal Rate of Return ( IRR ) - % Cash Return - T imes 75:25 Debt - To - Equity Base 52.0% 8.1x Upside 55.0% 9.1x Downside 2 40.0% 5.3x

Structure 03 (70% Debt: 30% Equity).

Financing Structure: 03 Operating Scenario Internal Rate of Return ( IRR ) - % Cash Return - T imes 70:30 Debt - To - Equity Base 48.0% 7.0x Upside 51.0% 7.8x Downside 2 36.0% 4.7x

NIKHILESH MORE: Msc Finance Intake -6 A4028484

8|Page Regulatory/Legal/ Tax disclosure: In order to close the deal the company has to take all the legal approvals required and must follow the Hart-Scott-Rodino . Both the parties to the transactions are required to file respective notification and report form with the Federal Trade Commission (FTC) and Antitrust Division of the department of Justice (DOJ) As the company is listed on NYSE a prior approval of the share holders is required. Minimum of Six week time is required to get the deal closed if all other legal formalities is meet with . After above steps if the deal get closed then approval of SEC is mailed to the share holders and a meeting is scheduled to approve the deal . In parallel with obtaining all necessary approvals and consent as defined in the definitive agreement , the buyer proceeds to source the necessary capital to fund and close the deal. Once all the above steps is being followed with proper consideration and the financing is received and the conditions of the definitive agreement is met the transaction is funded and closed. Case / Brief write up of the deal for the buyer. Dear willing Buyer for your investment proposal we have worked out the company financial and after through research about the company we offer this deal to you as from the document submitted ,you can see that the company is having a promising IRR and good amount of Cash return it will be a nice investment decision at your end . Not only this after proper working on it we have forwarded this analysis report to the banker also and they are ready to fund the buyout requirement provider they need a prior meeting with you to discuss in detail. As the DCF model , LBO Model and comparable comps is attached with this, please go through it and feel free to ask about any doubt . I will be happy to answer your doubts.

NIKHILESH MORE: Msc Finance Intake -6 A4028484

9|Page Reff: 1. 2. 3. 4. 5. 6. 7. 8.

http://www.google.com/finance?q=NYSE%3ASUP http://www.chinaeducationalliance.com/ http://finance.yahoo.com http://www.bvsource.com Morning Star Bloomberg website Investment Banking Book by Joshua Rosenbaum , Joshua pearl www.reuters.com

Appendix: 1. DCF Model 2. LBO Model 3. Comparable Comps.

NIKHILESH MORE: Msc Finance Intake -6 A4028484