Chegg, Inc. (CHGG) Earnings Call Transcript & Summary

Well, good afternoon, everyone. My name is Brian Peterson. I'm the lead application software analyst here at Raymond James. Very happy to have Andy Brown from Chegg here to kind of walk through some dynamics. We're going to have a fireside chat. If you have any questions, please feel free to email me it's bryan.c.peterson at raymondjames.com. But Andy, thanks for taking the time today.

That's good to see you, Brian.

Yes, going to see you, too. So first off, I think as you were familiar with Chegg. So I kind of wanted to go in on a key debate point of what happened on the third quarter call. I think a lot of people were focused on the fourth quarter guidance, maybe what happened in terms of enrollment late in the third quarter. Obviously, we saw that impact the fourth quarter. Maybe walk us through what happened and maybe how things trended relative to your expectations?

Yes. So it was particularly unusual period. I mean, I've said this to several -- to many people, and that is I've been a public company CFO for over 20 years, and I don't think I've ever seen a a headwind that we saw, how immediate it was towards the end of September going into early, early October. As you know, we handily met or beat our Q3 numbers. And obviously, we had to guide down Q4 as a result of what we are seeing in the industry. And so essentially, what we saw starting in late -- kind of mid- to late September and then more so in the early part of October was, we just saw traffic just wasn't coming to our site. And it was all of the other dynamics, once the traffic got to our site, things like conversion, things like the retention of our existing customers, things like to take way the bundle were all at where we thought they would be or even slightly better. But we saw a significant decline in traffic relative to our expectations. And so the first thing you do there is, okay, are we being eaten -- is the competition getting us, right? And so -- And this is stuff that's easy to figure out. There's plenty of analytical tools out there to take a look at traffic trends. But what we saw was across the industry -- we saw that across the industry, right? And whether it was -- we look at companies like a Brainly and a Quizlet, and a Course Hero and Khan Academy and even our other brands, Mathway and EasyBib is so exactly the same thing. So it was clear to us that it was more of an industry headwind. And then the question becomes is, why? And there were really 2 factors that we saw. One was enrollments are clearly down and they've been down for 2 years. And so if you've been following the education trends, and I'm talking about North America, not outside North America. So U.S. and Canada. What we've seen over the last 2 years is the largest decline in enrollments in the U.S. in 50 years. But that didn't explain it all. And so we still felt like that we were missing something. And so we went into the field, surveyed our students, and we found other mitigating factors. And the key things were students reported back, they're taking a lighter class load, so taking fewer classes. They reported back saying that we're taking easier classes. And thirdly, they were getting less assignment. So you kind of have this compounding effect, less students taking less classes, taking easier classes and getting less assignments and therefore, you just need less help. And so that's what we have seen. What we saw in the fall. We don't believe enrollment trends if we go back over history, enrollment trends, typically, they don't change in the spring, they typically change in the fall. But we do believe behavior of students is likely to change. We're hopeful, but we don't know at this point could be in the spring. And if it's in that's part of the reason, we decided not to give '22 guidance. Given the suddenness of what occurred. And we'll get a really good read before our next earnings call with respect to the spring semester. So that's kind of the synopsis that we saw.

Okay. So I want to kind of parse out those dynamics a little bit. And I think the role and decline over the last season is the largest decline in a 2-year period over the last 50 years. How do you think about that trend longer term, right? Is that a -- maybe there's a mix dynamic there or exposure, I'm curious how you think the enrollment trend is going to play out from here?

Well, if you think -- if you look at enrollments over a longer period of time, just go back in history, I mean, enrollments have typically not varied significantly, 1% or 2% up or down per year. Typically, in times of economic contraction, you typically get -- it tends to be positive. In terms of expansion, it tends to be negative, but not significant. So I don't think those trends will typically, I think, will continue. It's going to be small amounts. But I do think one of the trends that you're absolutely seeing and one of the reasons why we've talked about this a lot, and that is we do believe that there's going to be a -- and I mean in the next 10 years or 20 years, not the next year, but there's going to be an increase in what I'll call skills-based learning, right? Because at the end of the day, what employers want is, they just want to know you can do the job, right? You've got the skill to do the job. And so we do believe, over a longer period of time, that degree-based learning is going to be less relevant, which is why, once again, we've started to make investments on that skill side because we do think as we envision 20 or 30 years from now, skills-based learning will have a bigger share of the market than -- certainly than it does today as it's in currently and it's relatively infancy.

And so the other thing you kind of hit on was the course load in assignments. You mentioned some of the survey work. I'd be curious if there's any commonality in terms of the student types that what they are taking, they are taking and -- any sense, is this the new normal? Is it not? I mean, how do we kind of balance that or just the expectations because it is sort of a new dynamic here?

Yes. I don't think it's the new normal. I mean at the end of the day, if you're a student going -- wanted to get a degree, you still got -- you've got to take all of the classes and you've got to take even the harder classes. I equate it to, I'd be like myself. I was an accounting major, and I'm going back to school in my -- entering my junior year. And typically, what you do there is you take basically the hardest class in accounting, which is intermediate accounting. And -- maybe you go back this year and you go, no, I'm fatigue from COVID. I just don't want intermediate accounting. I'm going to take an e-com class much easier class. So I do -- we do believe, in fact, it's almost certain that the dynamic will change. But our assessment is there is being some level of COVID fatigue here. Students as they're getting back on to campus for the first time in what, 12 -- almost 18 months, maybe you just kind of taking it easy getting back in, but they still need to take the classes and including the harder classes. So like I said, we'll get a much better read as we get into the spring semester.

And so Andy, maybe more of a long-term question, right, maybe you can start with kind of near-term impact because I think COVID has helped your business overall, right, in terms of -- you're driving incremental adoption. I'd be curious what you think the longer-term impact will be, right, in terms of hybrid models or maybe learning. You already referenced sort of skills-based learning that may have happened anyway without COVID. But how do you think about the longer-term implications on your business from COVID?

I don't know. It's -- you can say it was COVID. I think what was really interesting last year, COVID came into play middle of March, April time frame. But we also did a lot of things to our business that changed things last year, right? I mean, right around the same time in August, we started clamping down on account sharing. We implemented device management, then we did MFA technologies in the November time frame. So we did a lot of things to capture more of the students than we had in the past. And so how much of that was COVID and how much it wasn't, don't know. But what I do think COVID revealed, and we've been betting on this since the day I joined Chegg and that is -- we call it betting on the inevitable. And that is more students are going to want things online, they go and want to be on demand, they're going to want affordable educational tools. So we do believe, from a long-term standpoint that, that accelerated that trend across the industry, forget Chegg, but across the industry. So we do believe that over time, you're going to see more and more educational services that are going to be -- and you're seeing this even at the traditional institutions where there's -- it's typically a hybrid model. Some are online and some are in person. So we do believe that trend will continue over a period of time, and we believe COVID has accelerated that.

Yes. But if you think about -- because it's interesting too, like in terms of things like office hours, right, or a way that students can typically get help, right? But in a hybrid world, are things like that, maybe not offered as much? Or is it online like I just it seems like the ways to get help will shift more towards online. But maybe -- I guess maybe that's an evolution and not a revolution as we kind of try to figure out what the new normal is.

Well, I think COVID has accelerated to that. I mean if you think about the world we live in and whether it's the student world or our world, we've gotten to a point and the students the same way where everything they do is on demand, right? The Office hours are like a thing of the past, right? Let's just -- let's be real.

I mean I guess that was my -- when I was back in college, a long time ago that that was me. Sorry, go ahead.

Well, it was for me. And I was in the dark ages when a tablet actually was a piece of stone, right? So -- but the point being is how we and how students consume any type of information, whether it's movies, whether it's purchasing, it's an on-demand environment, right? It's this thing right here. Your mobile device. And so yes, I do think that that's the trend that we are seeing, where students don't want to have to -- the office hours are from 2 to 4 were at 2:00 a.m. when they're cramming for a test, they need an answer on something. They want services that are available to them when they want them. And particularly when you think about the nonresidential college, it's even worse for nonresidential colleges, right? So if you're a community college student that you're in New York going to CUNY and you actually have to take the subway to get to CUNY, it's just hard. And so I do think that COVID generally has accelerated that need for, I'll just call it, on-demand education period. right? I mean, in fact, one of the things you saw during the pandemic, I mean, universities -- the online universe is like SNHU. They saw an increase in their enrollment because it was -- SNHU is, once again, it's online, it's on demand. So yes, that trend certainly has accelerated as a result of COVID.

And so it's interesting as I've talked to some investors kind of outlining the TAM, maybe kind of different than COVID and the near-term stuff. I think there's some debates on the level of like kind of STEM penetration domestically and what could that ceiling look like longer term? Where are you today? And what do you think is kind of a realistic penetration for you longer term?

Yes. So it's been a really interesting 2 years for us, right? So what you've seen in the U.S., and I'm talking specifically U.S., international is a different gig, -- We're just entering there now, is we've essentially doubled our penetration in 2 years, right? I mean if you just take a look at our subscription numbers, they've essentially doubled and yet the ceiling has come down, right? So there's been 2 things that have happened. We've doubled our penetration, the ceiling has come down over the last 2 years. So yes, the growth rate in the U.S. is -- we're clearly more penetrated in the U.S. Do we believe there's incremental penetration in the U.S.? The answer is yes. And we believe there's incremental revenue opportunities, absolutely, yes. We've talked about this in the past, is we do believe at some point, we have some potential pricing power. We've never increased prices since I -- well, period since I've been at the company or anybody. So we do believe there's there's optimizations around pricing. We believe there's optimizations around packaging. So we think there's a lot of things we can do in the U.S. But I do think it's more likely that you're -- it's likely to be -- ARPU growth is likely to be greater than subscriber growth because as we exercise both levers.

Okay. And so that's good color domestically. If you're thinking about international, you've already kind of exceeded your expectations for 2021. I think you mentioned that in the third quarter call. Would be curious to get your confidence on the growth vectors from international? And just how do you kind of see that on the ball being over the next several years?

Yes. So that's -- this is a super exciting area for us that we've only just scratched the surface truth be told. So we're -- it's interesting as well as international has gone for us. We are also a little bit handicapped right now. And so if you look at our international offering today, it's the U.S. offering that in many cases is just being represented in localized currency. So the same $15 and $20 offering, we're offering across the globe. And so one of the core investments that we've been making that we believe will come to fruition later in 2022 is our ability to do unique packaging and unique pricing for those international markets because, as you can imagine, student in India, for example, $15 a month is just -- for the most part, is just isn't going to work for them, right? Just take a look at Netflix as a good example of what that -- where they have a sub $5, I think it's in the $3.50 equivalent type of package for that Indian market. And so that's where we need to reach our full potential outside the U.S., we've got to have that in place and we believe we'll have that in place starting later in 2022. So we can really go after the market in a much more aggressive way.

So it's interesting if you're thinking about -- just kind of thinking about the reaction of the stock price, and I definitely want in on those 2, but -- you guys announced the $300 million ASR. And I'm just -- I'm kind of listening to you, Andy, just in terms of, well, you doubled your penetration on a lower ceiling, but the stock price is almost below where you were 2 years ago, right? So I think some investors are calling and saying, Hey, does this feel like an overreaction? I mean I'm curious to get your thoughts. I know the fourth quarter guidance was maybe not what people would hope for, but does this feel like an overreaction in the stock in your mind?

Without a doubt, shocking to me where we're trading at today. We -- as you mentioned, we could -- a little over a week ago, we entered into an ASR accelerated share repurchase. We -- if we're going to invest in any company right now, we're going to invest in our own company. So yes, we're going to aggressively scoop up chairs at these levels. We -- so yes, I think it's a massive overreaction in my opinion, for a company that is clearly, clearly the leader in the direct-to-consumer market for student services. Yes.

And so maybe just remind us, how does the ASR work in terms of the $300 million? Was that part of your old buyback? Or when do we start to see that actually play out in the market?

Yes. So there are 2 -- we made 2 announcements. One was to increase the buyback authorization by $500 million, and that gave us basically 6 -- and we had some left over on the prior authorization. So at that announcement, we had -- approximately $665 million left on the authorization. The ASR is part of that. And the reason we entered into the ASR was as you can imagine, we -- the acquisition of Busuu which we haven't talked about yet, but we knew about that prior to the earnings call, right? And so we basically add inside information, and therefore, it didn't allow us post the earnings call to actually go into the open market and repurchase shares because we're -- where restricted just as we, as a company, is restricted just as insiders are instructed when they have material nonpublic information. What the ASR does for us is allows us to enter into a contract, which we have done, to be able to buy back shares on an accelerated basis and be able to do it as we -- because as most companies go into a quiet period or a non-trading window prior to the end of the quarter, making the ASR commitment allows that to be executed through that window. And it's typically -- if you look at what ASRs are, there's typically a maximum number of months to buy back the agreed upon amount and there's a minimum number I'm not going to get into that, but that's typically what happens, and you're committed to buying it back no matter what, whereas the stock buyback is you've got variability how you buy it back.

Got it. So that's a commitment from your end to really step up...

Well, the $300 million is done. We've committed to the $300 million and it's going to get bought back. And truth be told, I think it's going to be a bargain for our shareholders.

Got it. And so it's funny with Busuu. Yes. I figured we've done that before now. So just -- obviously, that was a big announcement on the earnings call -- or I guess a couple of weeks after the earnings call, but shed some light on what you think that brings to Chegg. And how do you think about the market for language learning?

Well, language learning has been on our radar for a long time. In fact, one of the things that most people do not realize is Busuu, we've been talking to Busuu for 6 or 7 years. So we've known the CEO, Bernard for a long period of time. He was in Santa Clara. Five years ago, we had some of our team had dinner with him. And we have even considered buying the company back then. We love the product. We love the space. We love his product the way he -- they have developed that product we were reticent to buy the company a few years ago. We felt like we'd be better served him continuing to develop it. And at some point, we potentially would buy them when they were at more scale and where they are today. He decided he needed help to scale beyond where he's at today and being part of a bigger platform would make sense for him. So he put himself up for sale. It was a competitive process. We clearly won the process. we -- and like I said, it's a great company, a great team. They do language learning in 12 different languages. 70% of the or all of their teachings are non-English languages and approximately 90% of their revenues come outside the U.S. So we think there's a massive opportunity here both outside the U.S., which is particularly compelling to us and being able to give them more presence in the U.S. as a result of our platform and our reach here in the U.S.

So you've laid out that the business, I think, would have done $45 million in 2021. But you have like, hey, there's geo, there's content. There's a lot of different areas for potential synergies. How do you kind of stack order the rank of what you think are kind of the most visible in terms of some revenue synergies there?

Yes. So of all of the acquisitions we've made to date, I'd say this one has the greatest potential for revenue synergies, particularly, when you think about -- like I said just a few minutes ago, 90% or so of their revenues are outside the U.S., they really don't have a presence in the U.S., and we believe that's a massive opportunity for us. Whether it be part of our existing subscription architecture, whether it's -- we haven't decided that yet, it could be an add-on to Chegg Study or it could be its own individual subscription, but we do believe there's a massive opportunity in the U.S. And because they've been kind of a bootstrap type company, we still believe there's actually a significant opportunity outside the U.S., even though 90% of their revenues come from there. So we do think, given our reach, our resources, and it's not just throwing marketing dollars at it, it's resources, things like data analytics, where we believe we have a world-class team. It's like our SEO team being able to be engaged with them. So there's a whole bunch of things that we believe we can bring that can accelerate their growth, whether it's outside the U.S. or particularly inside the U.S.

And Andy, one of the other questions that we got from investors post deal was just on competitive dynamics there. There's obviously some well-known companies. How do you think about the Busuu offering maybe versus some other options in the market?

Well, first thing is what compelled us to Busuu was the quality of the offering and where Busuu has differentiated themselves in the market, and we often get questions around like a Duolingo, a fine company, don't get me wrong. But when you look at the market segmentation, how Busuu compares to others, it's more of, I call it a serious learner, where some -- there's a big intent to really learn over 50% of their learners on their platform are greater than 30. So what it also did for us beyond the product offering and getting us more outside the U.S. It also expanded our demographic to an older demographic, right? A lot of the acquisitions that we've made before this, have really taking us to a younger demographic. For example, the Writing Tools product that we did 5, 6 years ago and to some extent, Mathway. But this thing also expands us beyond, I call it, the 30-plus crowd.

Got it. And maybe kind of wrapping up here, I know we're coming up on time, but just with Busuu in the full, how do you think about M&A. And like this is a little bit of a different category. I think the geo expansion was already there. Are there other categories outside of what you addressed today that are still potentially interesting that you can look at from an M&A perspective?

Oh, yes. We -- I mean, to be clear, even after the acquisition of Busuu and the execution of the ASR, we're going to have approximately $2 billion of cash sitting on the balance sheet. There's a reason we have that cash there. It's not just to look pretty on a balance sheet, it's for us to be able to grow the business, increase shareholder value. And so yes, we will continue to be acquisitive, we continually look at opportunities in the broader learning space, whether it's academic, whether it's skills, we do believe there's assets that over time are likely to be part of our platform, and we'll continue looking for those opportunities. Once again, at the right price. So we're not going to overpay for an asset.

How does the pipeline of opportunities look? Obviously, we see markets kind of be a little unsettled in the last month or so. I don't think private markets injection in the public markets, but how do you think about that pipeline of opportunities looking forward?

It's always active out there. We've had this dialogue -- it seems like -- I feel like I'm -- I've had this dialogue forever. The private market valuations tend to be optimistic and that tends to be a bigger hurdle for us, where folks are asking valuations that are -- we think are unreasonable, and we're patient, even in the current environment, we still believe we have a great business. So there's nothing where we say we have to have this to be successful. We've got the assets to be successful and to continue to grow. But if we can find assets at the right price that can accelerate our growth, yes, we'll put those into the fold.

Right. Andy, I think that's all the time we have. everybody. Thanks for listening in.

Okay. Thank you.