Yuanfudao and Zuoyebang: A Clash of Titans in China's K12 Online Education Market

Consumer Discretionary Author: Qasim Khan, Zixuan Kang Dec 14, 2020 12:10 PM (GMT+8)

A deep dive into the industry, the two unicorns’ strategies and the most crucial business risks.


An ever-growing K12 online education market

Boosted by the COVID-19 epidemic, China's online education industry witnessed rapid development during the first half of 2020. The online-merge-offline (OMO) model became more common as offline institutions remained closed for months. 

Among the clear advantages of online education we find the absence of time and space limitations, the flexibility of courses and learning process personalization – these and other traits are essential in lifting the market growth rate in 2020. 

zyb aikk.jpg.jpg

According to a report by iiMedia, the number of online education users in China will reach 351 million with a market size of CNY 485.8 billion by the end of 2020. 

Online education products can be roughly divided into early childhood training, K12 and adult training – and among them, K12, which refers to basic education from kindergarten to high school –  has always been the largest segment, attracting a great deal of global investor interest. 

With the epidemic acting as one catalyst along with other factors, K12 education in China was ushered into an accelerated growth stage, with a constantly increasing online scale.

zyb dooo.jpg.jpg

Per some projections, the number of K12 users in the country is expected to reach 162 million in 2020, with the K12 online education users exceeding 37 million. 

This vast market can be further divided into sub-fields, including tutoring, English language training, programming, art and critical thinking, among other domains. In China, many startups have been benefiting from this uptrend. These companies can be segmented into three categories: online, offline and OMO.

asli maal.jpg.jpg

What makes the K12 circuit so popular?

● Economy

As of 2019, the proportion of the Chinese government's fiscal education expenditure in the country's GDP had been exceeding 4% for seven consecutive years. 

In 2019, the scale of China's online education market exceeded CNY 320 billion, of which 21.3%, or over CNY 68 billion, was in K12 education.

With the rapid development of the domestic economy in recent years, people's living standards have gradually improved, and household savings have also increased. K12 education-related services account for 20.6% of household expenditures; meanwhile, 52.3% of households let their children participate in off-campus tutoring in commercial organizations, and this figure is as high as 67% in the first-tier and second-tier cities.

Essentially, online education has an excellent economic foundation and development prospects.

● Technology

Online education relies on Internet technology, and the improvement of hardware performance enriches the online learning experience. The development of big data, artificial intelligence and other technologies and concepts has helped to unlock a huge number of new teaching and learning services.

Compared with offline education, online education has more innovative business models modifying the traditional learning process; in the near future, new tech marvels, such as VR/AR, will make the online education industry branch into yet more development paths.

● Policies

From 2018 to 2019, various national policies in the online education field provided many dividends for its development in China. 

The government has come up with various preferential policies to encourage offline schools to go online during the peak of the COVID-19 outbreak. 

The above factors have been fostering the online K12 field. For various reasons – such as favorable policies, capital injections and competition – the market track will continue booming.

The market leaders: introducing Zuoyebang and Yuanfudao

Among China's K12 online education players, two unicorns – Zuoyebang and Yuanfudao – stand out the most with their special business models. Although Zuoyebang was only separated from Baidu in 2015, the problem-searching function: where users take a picture of a problem or a question, allowing the system to recognize the problem and search it in the database, finally providing the correct answer along with the explanation, had been developed by the same team in 2014 and offered to its users as the first of its kind. A year later in 2015, Yuanfudao launched a similar problem-searching function on its app. This simple yet useful study assistance tool until today manages to attract users' interest as Zuoyebang and Yuansouti (Yuanfudao's problem-searching app) sit atop in terms of MAU/DAU among all elementary and secondary education apps.

zyb chaar.png.png

The two companies solidify the huge user base by refining their technology, expanding the database and launching more features, including composition aids and arithmetic autocorrecting, classical Chinese assistants and Q&A communities. They make use of their huge user traffic by selling VIP value-added services, peripheral books and stationery products and, most importantly, Livestream courses, which act as the main revenue source for most edtech companies. 

While the competition in the online education industry is getting fiercer by the day, due to the relatively high barrier, the problem-searching market is and will likely still be dominated by Zuoyebang and Yuanfudao (According to Zuoyebang, its app takes up (link in Chinese) more than 75% in this market, thus at least 20% for Yuansouti). The tremendous traffic and data advantage will benefit these two edtech companies in the heated competition within the K12 online education market.

Moreover, because of their unique traffic-driving method, Zuoyebang and Yuanfudao have a comparative advantage in China's low-tier cities – a market with huge potential. With a low number of edtech operating in these regions, users are more likely to be lured by the practical nature of the problem-searching apps.


How the edtech giants compete – and who is winning 

The two companies leverage their technologies as the key competitive power. According to Luo Liang, vice president of Zuoyebang, in each problem searching action, the system conducts more than 260 iterations of neural network projection and finishes the text recognition within 200 ms, searching through a database that contains over 200 million problems. The AI technology is also applied in various other scenarios, including voice searching, whole-page searching where users can simply take the picture of the whole page and the algorithm will automatically detect all the questions within the page, auto-correction options and other details.

● Talking about tech, Yuanfudao owns 17 patents for invention and was ranked first place in the 2018 MS MARCO NPL test, exceeding other teams from tech giants like Baidu and Microsoft. It has been recently listed among the 'Smartest Companies TR50' on EmTech China 2020. On the other hand, Zuoyebang has shown its competence in technology owning more than 10 patents for innovation according to the tianyacha app and has received honourable mention in the Excellence in Digital Disruption category of the World Economic Forum Awards. 

Both companies claim that their technology and immense data pools have helped improve overall class quality, but the real effect is yet to be seen. In the K12 online education survey report by the Chinese Academy of Sciences, the two companies score lower than Xueersi and Zhangmen (other top players in the field) in 'willingness,' 'usage,' 'customization,' 'textbook quality,' and 'class experience.'

zyb paanch.jpg.jpg

● In the report, two companies have similar scores in 'teacher quality,' and they both claim that their teacher hiring process is very strict, with a 1% acceptance rate. According to the companies' official information, as of early December 2020, Zuoyebang is offering more than 150 teaching positions (excluding teaching assistants) with already 300 lecturers working for the company, while Yuanfudao has opened 50 positions and currently has 270. According to Zuoyebang it has built a complete system to exam and recruit quality teaching resources. The teachers are full-time, including approximately 800 teachers on pedagogical approaches and teaching. The company claims that more than 90% of their teachers have graduated from top universities. 

● The class quality can be measured by the customer retention rate. While the two companies are yet to disclose the numbers, we have projected them from the open app data. Yuanfudao and Yuansouti have monthly app-user retention rates of 88% and 86.7% respectively, slightly higher than Zuoyebang's 80%; Yuanfudao's two apps have an average daily use time per user of 42.5 and 30.9 minutes respectively whereas Zuoyebang's is a mere 19.6 minutes. Yuanfudao's lead in these metrics has been perpetual

The driving force of the rapid expansion comes from their huge amount of user traffic. Yuanfudao claims to have 400 million accumulated users, and Zuoyebang has been activated on over 800 million smart devices. In the summer of 2020, which saw a grand battle of players in the education business, Yuanfudao obtained (link in Chinese) 1.6 million long-term paid users, a 33% year-on-year increase; meanwhile, Zuoyebang achieved 1.71 million, a 350% year-on-year increase. Moreover, according to Zuoyebang, 67% of the new paid users come from the internal traffic (these users sign up and pay for classes after seeing the in-app ads), making the customer acquisition cost only half of the industry average. We expect Zuoyebang to keep making use of its strengths in large traffic and relatively low acquisition cost, attracting more paid users.

The money-burning rivalry

The huge traffic does not come out of the blue. According to Chinese media, for the summer of 2020, Zuoyebang and Yuanfudao had estimated budgets of CNY 1 billion and CNY 2.5 billion for marketing only; in reality, it was more than that. Both companies are running massive advertising campaigns. Their marketing presence can be seen in numerous short videos online, on billboards, on screens inside elevators, in TV shows involving Chinese celebrities, and even in the 2022 Winter Olympics-related events.

Spending huge on advertising is not the only method to remain competitive in the online education area. While Yuanfudao prices their winter courses at CNY 600-900 (lower than Zuoyebang's CNY 900-1,400), the latter provides 90% discounts for some high school courses, scrambling for potential customers. In addition, with the popular '9-yuan' summer classes widely adopted in the industry, for each of which the company loses more than CNY 100, the 'money-burning' marketing strategies have constantly increased the customer acquisition cost. For Yuanfudao, the cost has been brought up to CNY 3,000 per student, much higher than the critical industry breakeven point of CNY 2,300. Even for Zuoyebang whose acquisition cost is significantly lower due to their traffic advantage, the 'strategic loss' should also hold, as no sign of profits or loss contraction has been reported. 

The tremendous spending on such aggressive advertisement/marketing is backed by sizable capital support. Backed by Chinese search giant Baidu (BIDU:NASDAQ), Zuoyebang has raised a total of USD 1.8 billion over five funding rounds; Yuanfudao, on the other hand, is backed by Chinese gaming and social media tycoon Tencent (00700:HK); it has even higher funding of USD 3.8 billion over eight rounds of funding and a staggering USD 15.5 billion valuation, which makes it the world's highest-valued edtech unicorn. With Baidu and Tencent data and traffic support, as well as the enormous cash flow from the funding pools, the money-burning game of K12 online education is expected to continue, until players of less competence exhaust and the final winners come out.

zyb chayy.jpg.jpg

With over a billion dollars raised in multiple rounds of financing, both firms might consider going public in 2021-2022, which can help them further boost the marketing budget. Other than that, Baidu, arguably the largest shareholder of Zuoyebang, is currently falling behind its big tech rivals in the market cap, as well as in the combat for China's best software engineers. Baidu's decay can negatively affect the upstart's financial situation.

Bottom line

Looking into the future of the two edtech unicorns, their characteristic strengths are likely to make them stand out in the highly competitive K12 online education industry. With technology being their core edge, Zuoyebang will continue benefiting from the large internal traffic and Yuanfudao will keep maturing its holistic online education ecosystem. 

However, one underlying hindrance for the two companies' development may be about their products – the course quality, which determines their reputation, is an essential factor in the education business. And the inability to make profits, the elephant in the room of this industry, will remain the main concern for a longer period. 

As chunks of money keep being burnt, we shall see whether Zuoyebang, with its cost advantage, or Yuanfudao, with its astounding capital reservoir, will capture the winning flag in China's K12 online education, the promising yet exhausting battlefield.