China’s education crackdown is a welcome move away from a profit-obsessed growth model

Despite the temptation to see the edtech squeeze as a harbinger of stronger regulatory headwinds, it is in fact more of an epiphany
The merits of entrepreneurship and equity financing will increasingly be judged by how they benefit or undermine China’s development

Ni Tao

Published: 9:15am, 11 Aug 2021

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No industry’s fortunes have perhaps declined more precipitously than China’s education technology, or edtech, sector in the past year. Its leading players were jubilant around this time last year, buoyed by fresh rounds of funding as though the tap would never run dry.

Private equity firms injected 103.4 billion yuan (US$15.9 billion) into the sector last year, according to itjuzi.com, a start-up-focused media outlet. K-12 education service providers alone received 46 billion yuan in funding, with industry heavyweights Yuanfudao and Zuoyebang getting the lion’s share (a whopping 38 billion yuan).

However, all the optimism evaporated when the Ministry of Education announced a directive to further lighten the burden on students in compulsory education as a result of school assignments and after-school tutoring.

Spooked by Beijing’s “sudden” crackdown on the edtech sector, the market reacted quickly and stocks of US-listed firms such as New Oriental and TAL Education tumbled by 54 per cent and 70 per cent respectively.

But market-watchers who look more closely will see that the move was not so sudden or rash. A major industry shake-up had been in the making long before the clampdown. The writing was on the wall, but only a very small number took note.

A message that went viral in WeChat groups recently hinted at what might really have prompted the edtech debacle. At a conference on education in September 2018, President Xi Jinping issued a sternly worded reprimand to after-school tutoring operators, criticising them for breaching rules governing education and student development.

Why China cracked down on education, upending a US$70 billion industry

Such operators had “increased students’ academic burden and their families’ financial distress”, Xi said, while disrupting the way schools normally teach students and drawing widespread complaints.

“A conscientious sector should not degenerate into a profit-seeking industry,” he said. “After-school tutoring operators should be dealt with according to the law, so as to bring this sector back into the business of nurturing talent.”

With this in mind, it is not too far-fetched to argue that the authorities deliberately delayed dealing a fatal blow to the edtech sector by at least a year, presumably after taking into account the country’s economic woes at the height of the Covid-19 pandemic.

With the economy on a more solid footing, Beijing seems to have decided to pull no punches in its attempt to overhaul an industry that until recently had been left to its own devices.

There will, of course, be consequences for an industry that directly and indirectly employs millions. Mass lay-offs are expected. Firms have been advised to transition to vocational or so-called “quality-oriented” education services or replace their services with curriculums more tailored to adult consumer needs.

Their financial backers have been left in a more precarious situation, since authorities have ruled out initial public offerings as an exit strategy. With the notable exception of Hillhouse Capital, which had cashed out all its holdings in TAL and Yiqi Education shares by May, most venture funds with a fixation on edtech are likely to see their investments go down the drain.

But despite the temptation to perceive the edtech crackdown as a harbinger of stronger regulatory headwinds, or even the darkest hour of China’s fledgling private equity industry, it is more advisable to see it as an epiphany.

In the past, the ploy of many venture capitalists was to “chase the whirlwind”. They excelled in performing due diligence and industry-specific analysis to minimise the moral risks of transactions. But few had the appetite for sifting through the mind-numbing language in official media coverage for the information that guides deal-making.

If the demise of after-school tutoring has taught us anything, it is that political risk assessment carries as much weight as business insight and acumen. This message cannot be lost on the savviest, politically sensitive minds. Some venture capitalists are already poring over the three volumes of Xi’s The Governance of China in search of any signs of what realms to steer clear of, or where to double down.

At an equity investment seminar I attended recently, one veteran fund manager observed that operators like him should align their strategies with the few initiatives Beijing appears to be pushing vigorously. He outlined a number of areas that were, in his view, being primed for private entrepreneurship and investment, including new infrastructure, carbon neutrality, peak emissions and the Belt and Road Initiative.

On the flip side, he said, sectors whose short-term utility is viewed only as expedient and can occasionally cause more problems than they solve are likely to be thrust into the firing line.

With China’s entire tech space jittery about who might be in the regulatory crosshairs next, Beijing would do well to send a soothing message. Going forward, the merit of entrepreneurship and equity financing will be increasingly judged in the context of how they benefit or undermine China’s next phase of more balanced and equitable development.

From population control reforms that allow couples to have a third child; to drastic measures aimed at quelling the frenzied buying of exorbitantly priced school-district housing; from a wide-ranging antitrust probe into Big Tech; to the crusade against after-school tutoring service providers – the recent spate of policies signals a deepening realisation on Beijing’s part of the need to revert to more regulated, refined and human-centred growth.

In this sense, the “tragedy” to befall the edtech industry is actually a healthy departure from the previous growth model characterised by a nexus between industry and capital hell-bent on seeking profits and little else.

This connection has helped fuel breakneck growth, albeit at the expense of widening the wealth gap and nudging the country further towards a demographic cliff. Now, clearly, Beijing has decided it has had enough.

Ni Tao is a journalist-turned-entrepreneur who specialises in cross-cultural communication. He is an independent business analyst and university lecturer