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New Oriental: Ahead of the Class

In just 20 days, Olympians from around the world will gather to vie for the title of best in class in their respective sport. It's quite appropriate, then, that the games take place in one of the most competitive nations in the world: China.

With more than 1.2 billion residents, China's youth are determined to develop into best and brightest, in hopes of propelling themselves into one of the many newly established and prestigious jobs becoming available in China. As the results suggest, these education-hungry Chinese continued flocking to private education service provider New Oriental (NYSE: EDU  ) to sharpen their minds during the fiscal 2008 fourth quarter. Revenue increased 62.5%, and net income per diluted ADS, bolstered by share repurchases, clocked in at $0.05, compared to a $0.04 loss last year.

The company's expansion of course selection helped to drive top-line growth. Management further penetrated into the fragmented gaokao (think of a Chinese version of the SAT) test preparation market by rolling out its U-Can middle and high school training program in more than 20 cities, offering non-English subject class instruction. Additionally, the company purchased a 60% stake in a private school that specializes in tutoring students retaking the gaokao exam, which will provide long-term synergies with the company's current operations.

Despite New Oriental's grade-A performance, growth was slightly truncated by two events, causing student enrollment to drop 2.8% during the quarter. First, the devastating Sichuan earthquake brought daily life to a halt in China, as many students' attention was diverted from the classroom. Secondly, as Beijing, one of the company's prominent markets, draws its Olympic preparation to a close, access to New Oriental's schools and learning centers has become more difficult; the Olympics will remain an obstruction until their closing ceremonies.

These setbacks, however, are temporary, and management has already seen a boost in enrollment as the nation recovers from the earthquake. Young Chinese yearn for knowledge, and many parents, even in rural villages, work several jobs to ensure that their children are acquiring the proper training and schooling. This creates an enormous market for New Oriental's services, and further competitiveness among the Chinese will only drive demand higher.

As a result of these long-term growth prospects, however, the company is priced at nearly 60 times its trailing earnings. That's a hefty premium compared to U.S. private education players such as Apollo Group (Nasdaq: APOL  ) , Strayer Education (Nasdaq: STRA  ) , and ITT Educational Services (NYSE: ESI  ) , but fitting due to New Oriental's vast growth potential. However, given the stock's 14% gain the past two days and the volatility of the Chinese market, I'd take a recess on making a purchase.

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New Oriental is a Global Gains recommendation. Check out the market-beating international newsletter service free for 30 days.

Kristin Graham, a contributing analyst to Global Gains, does not own shares of any of the companies mentioned in this article. The Fool has a disclosure policy.

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