Nerdy Inc. (NRDY) Earnings Call Transcript & Summary

We are going to get started. So I'm Doug Anmuth, JPMorgan's Internet analyst. We're pleased to have with us today Nerdy's Founder, Chairman and CEO, Chuck Cohn; and CFO, Jason Pello. So Nerdy is leading online, live learning platform, leveraging technology to connect learners with experts. The company generates revenue from providing personalized creative learning experiences across a wide range of subjects and formats, including learning memberships, one-on-one instruction, small groups, large groups, even adaptive self study. Chuck founded Nerdy in 2007. He's previously an investment banker and works in private equity. Jason has been CFO since October of 2020 and previously served as VP of Corporate Finance at SAVE-A-LOT. So welcome, Chuck and Jason.

Thank you for having us, Doug.

Thanks, Doug.

All right. Let's see. So kicking off over the past year ago -- a year or so, really important business model transition that you've made toward memberships. Hoping you can talk through the rationale in terms of the transition and how you're coming out now on the other side?

Sure. Yes. So we just announced some pretty exciting results in the first quarter and they are related to the shift from what had been our historical model for selling products on our platform, which was oriented around selling packages, kind of groups of hours, groups of classes. And we announced about a year ago that we are undertaking this journey to shift all of these different products that were discretely sold into this all-access pass that we call learning memberships where people have, on a recurring basis and subscription format, access to tutoring in classes and asynchronous content and videos and another forms of modalities of learning. And what we had seen prior to that, that kind of caused us to do that make this big business model shift was that when we could bring together all of these different modalities, we saw a fundamentally different customer behavior. People used to us for more subjects. They were able to learn across a multitude of different learning formats and they ultimately stuck around longer. And so we're now to the point where learning memberships is now the vast majority of the business. So it's about 3/4 of our recognized revenue in the first quarter. About 90% of new customers joining the platform on the consumer side are joining in learning memberships. And we're on track to probably double lifetime value, holding customer acquisition costs constant, and we have happier customers, higher gross margins. It's a much simple business to operate, and we're getting a lot of leverage as a result of it, and it was a big contributor to what allowed for us to become adjusted EBITDA and free cash flow positive in the first quarter.

Okay. Great. So maybe just to dig in there a little bit more. I think you've talked about having all consumer revenue basically on membership by the end of the year. Just digging a little bit more on what we're seeing in terms of the changes on LTV and conversion rates and retention as well for membership versus kind of the old packaged model.

Yes, sure. Because of the way it's sold and packaged, consumers are just getting a greater value proposition out of the product offering. So beyond one-to-one tutoring as Chuck mentioned, they have access to 250 live classes a week, adaptive assessments and a whole host of other learning modalities that's driven at the 6-month point, revenue LTVs that are 50% higher under the new model versus the old model. And I only use a 6-month mark because that's really the duration of the experience we've got. But when you look at those cohorts, which we included in our shareholder letter, you would see that the steepness of them on a relative basis to the package model, we'll indicate that after 1 year, you should expect 2 to 3x LTV ratio compared to the prior package model, which we feel really good about. So higher revenue, better gross margins, higher levels of retention and engagement and then certainly just a simplified business model, which we feel really good about from a scaling perspective.

Okay. Great. How do you think about kind of retargeting, maybe reactivating some of the legacy packaged members who may have churned off or just had some degree of noise through the -- through a transition? How do you think about that, especially as you focus on back-to-school kind of a few months out?

I could take this one. So in the package world, the relationship with the customer is kind of defined. Somebody's buying you for one subject and a certain number of hours and implicitly when they run out, it was up to us to kind of convince them to continue. And in this new all access model, one, it's a subscription that's recurring in nature by default. But maybe more importantly, like the consumer psychology has totally changed because the product is being framed from the perspective of supporting somebody across all academic subjects, all modalities oriented to multiple academic school years and then multiple students per family, where you're encouraged to have multiple kids within the same family. And so people come in kind of expecting to use it for a long period of time. And that results in like fundamental separation of cohorts on -- over the first several months where you just see that people in the package model would fall out of habit and then people in the new model kind of stay in habit, which is then reflected in much, much higher lifetime value. So we shared in our earnings call that it was about 85% of active learning membership customers were new to the platform. So this is really, really resonating with new customers. And we've been able to shift the proportion of people that think we're at great value by almost 100%. So for like 50% of people that thought we were a great value in the package world is now like 90%, which is something that we think is really compelling and indicative of providing just a product that is resonating, winning, causing us to have strong like new customer additions. As you think about back-to-school, there's all of these people that had been in the package model. And given that kind of different consumer psychology fell out of habit, and every year, we have a big opportunity to resign them up. And we would expect that we're able to then target those customers as we've often done oriented around the school year and add them to learning memberships.

Okay. Great. You've recently mentioned that May is tracking in line with expectations. Just to clarify, is this membership gross adds? And can you unpack, I guess, if these are still mostly new users?

Yes. So we had a great first quarter. The engagement and the new customer addition trends that we saw on a year-over-year basis continued through April and May. So we feel really good about the retention levels that we're seeing in the engagement. And we think that, that will continue as we move throughout the summer.

I mean, like, I guess, every business, look at new customer additions on a year-over-year basis, trended over time to account for seasonality and the fact that those were like getting better, something that we feel really good about, and it's the result of like specific pieces of work that we've done that calls for the product to resonate more and ultimately result in higher conversion.

Got it. Okay. So if you think about membership, about 1/3 of active members are on monthly plans. So you see reduced friction during the sign-up process and kind of requires less commitment. But how has this informed your pricing strategy for membership as you look further out?

When we initially went to market, keep in mind this is a product we launched a year ago, and we kept it pretty simple in the 3-, 6-, 12-month contracts. And one of the things that we tested our way into is offering month to month, recognizing that some people had like a shorter duration need or there was perceived complexity associated with a long-term contract, and what's been kind of exciting is that as you like looked at the combined answer both month-to-month and then like contract customers, you end up with people kind of self-selecting into different buckets. So the total answer from a retention perspective, looks the same, but you're able to then sign up way more customers on the front end because there's no kind of perceived complexity associated with contracts. And so we've seen like conversion go up at the top of the funnel. We feel good about the retention trends there, and then you're able to charge 10% to 15% more for month-to-month customers, that is the case for longer-term contract customers.

Okay. Great. All right. So let's shift gears a little bit, talk about the institutional business. So you launched VTS in almost 2 years ago, August of '21. Maybe you can just help us understand -- I mean, first, just describe that business a little bit for people who may not be as familiar, but then also the shift that you're seeing in terms of selling strategy to our top-down and district-wide solutions as you're going toward large districts?

Sure. So our historical business is entirely consumer. We built up all these different capabilities that we believed made us uniquely qualified to deliver live learning at scale in a way that could be sold into K-12 school districts, it allowed for district administrators to achieve goals, help students that would otherwise have been difficult for them to do in the past. So nobody else has the same level of experience delivering live learning at scale through a software-based platform like this. And what we did was we created, at first, a product called high-dosage tutoring that we used those kind of oriented towards selling in to students that needed significant remediation. And we've kind of evolved that product portfolio over the course of the past year or so by adding in 2 new SaaS products that are district-wide in nature that, instead of being sold at the kind of school level, are oriented instead towards a more top-down and strategic conversation and partnership with superintendents and other district leaders. That coincided with Anthony Salcito, who was the Head of Microsoft's Worldwide Education business, globally, joining us and helping us kind of take some of these amazing product capabilities we had and then simplify them for school district administrators in a way that lent itself to really big partnerships and implementation. So we had our teachers signed product go live in January. That was a roughly $5 million software subscription that entitles teachers throughout a large school district to be able to prescribe tutoring to any student that needs it when they need it and as simple as that is to describe, it's never been done before. And that's kind of caused us to totally shift the orientation to these like broad, larger partnerships involving bubbled services as opposed to kind of the initial focus on smaller schools and smaller contract sizes.

And then maybe just to put a little bit of sizing to that business. We started Varsity Tutors for Schools about 18 months ago. Last year in 2022, it delivered $19 million of revenue. And we've guided that it will be about 15% of total revenue in 2023, which is $28 million or $29 million, and it would represent 50% growth year-over-year. So we're seeing nice product market fit there, especially with the new [ teaching trend ], and we feel like that business is scaling well.

What has surprised you most over these last 18, almost 24 months just on the VTS product journey? And maybe you could also just talk about differentiation versus peers.

Sure. So one is that the same kind of journey we went on the consumer side with the benefit of bundled services ultimately causing way more perceived value and utilization across a variety of different modalities and ultimately leading to stickier relationships. That same thing has happened on the school side as well. And then one of the things that we've seen in the institutional market is that there are a lot of chat-based providers that initially had significant success. Our superpower is delivering live relationship-based recurring sessions, which has always been proven to be highly active, sticky and also very difficult to do and something that we've been able to do well through the application of software that from the kind of consumers end looks easy, but from the back end is logistically complicated. And so we're now seeing the market shift back to appreciating live and that's something that we think accrues to our advantage over time.

And then the only thing I'd add is we're unique in that we've got 3 different products to sell into school. So high-dosage tutoring, Teacher Assigned an On Demand, and we can bundle those together to serve the entire student population and the diversity of needs of each of those students. So I think that that's a unique opportunity set in the market today.

The one other thing I'd add is we initially rolled out some of our AI products on the consumer side. First, given that there's kind of lower complexity and considerations to take into account. And we've been having school district partners actively ask us for access to those, which has been really exciting.

Okay. Great. The deadline to commit or funding expires in September of 2024. How would you expect school districts just to think about locking up contracts that run into 2025, 2026, for example?

Sure. So for those that aren't aware, the American Rescue Plan prescribed $24 billion to help remediate COVID learning loss. About 1/4 of those funds have been spent to date and the residual 75% or so needs to be spent by December of 2024. But beyond just that ARP money, there's also Title 1 funding, which is evergreen. And in the most recent spending bill was about $19 billion. And then the other source of funding that we see school districts utilize is just their own operating budgets. Because the products we sell are utilized during the day in the classroom, they're eligible for those funds. And given the teacher shortages that all school districts are experiencing, the majority of school districts are running budget surpluses. So as we think about the guide, it wouldn't infer a pull forward of those funds, but we're starting to certainly have conversations with school districts around multiple year deals because they need to deploy those [ funds ] before September of 2024. So I guess I would consider that upside.

Okay. And then I mean is there any risk just as you think about large districts and how they could face funding pressures without government help?

We feel pretty good about the opportunity here. I mean this product like should exist, right? Every teacher in every school district should be able to start tutoring to any student that needs it. It gives the teachers immense leverage. We're hearing about it and putting teacher retention. It Being used to attract school -- teachers to school districts that have it. And that's incredibly powerful where in many states, like there are states that have 10% vacancy rates, 10% of the open spots for teachers can be filled. This is a way where schools can provide teachers with leverage, put them at the center of the relationship have the control. And in doing so, not only are they helping the students and the teachers, but all these additional funding sources like normal operating funds, Title 1 funds also become available. And given that these products solve like the top 2 problems that school districts are facing, and given the novelty of what we've built here and how powerful we think it is, like it lends itself to a big opportunity to kind of regardless of funding.

Okay. Great. So let's shift gears a little bit, kind of putting together consumer and VTS. Just thinking about the strategy going forward. What is the playbook to really scaling both [indiscernible]?

One of the things that's really nice about having these all-access models is that you can then bundle in additional solutions that add incremental value, solve specific customer pain points, whether it's on the consumer side or on the institutional side, and then benefit from both higher conversion, right? Somebody being more likely to select product or ultimately higher retention, lifetime value. And as we've added additional products to both learning memberships, where we started off, first is effectively just a tutoring subscription that added in 259 live classes a week and computer-adaptive assessments and an AI tutor and Lesson Plan generators by AI and a number of other products as well, you've just seen like the proceed value go up consistently. And we've seen conversion in the funnel go up. We've seen retention go up. And the system of dynamics proving true on institutions. And there's a wide variety of other customer needs that we can solve.

The only thing I'd add is from an addressable market perspective, certainly, we've got 33,000 active members on the consumer side to end the first quarter. There is, on average, at any given time, 50 million students in the United States alone. So there's a significant opportunity to continue to extend this to different audiences, different subjects over the coming years. And certainly, I think, on the school side, the same situation exists where schools are much more willing post-COVID to utilize online providers from outside the schools' walls to support students and teachers inside the schools' walls within the school day.