CHEGG, INC 10-K

ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS You should read the following discussion of our financial condition and results of operations in conjunction with our audited consolidated financial statements and the related notes included in Part II, Item 8, “Consolidated Financial Statements and Supplementary Data” of this Annual Report on Form 10-K. Aside from our discussion on net revenues, we have omitted discussion of the earliest of the three years of financial condition and results of operations and this information can be found in Part I, Item 7, “Management's Discussion and Analysis of Financial Condition and Results of Operations” of our Annual Report on Form 10-K for the fiscal year ended December 31, 2021, filed with the SEC on February 22, 2022, which is available free of charge on the SEC's website at sec.gov and on our website at investor.chegg.com. In addition to historical consolidated financial information, the following discussion contains forward-looking statements that reflect our plans, estimates, and beliefs. Our actual results could differ materially from those discussed in the forward-looking statements. See the section titled “Note about Forward-Looking Statements” for additional information. Factors that could cause or contribute to these differences include those discussed below and elsewhere in this Annual Report on Form 10-K, particularly in Part I, Item 1A, “Risk Factors.” Overview Millions of people all around the world Learn with Chegg. Our mission is to improve learning and learning outcomes by putting students first. We support life-long learners all over the world, starting with their academic journey and extending through their careers. The Chegg platform provides products and services to support learners with their academic course materials, as well as their career and personal skills developments. During the years ended December 31, 2022, and 2021, we generated net revenues of $766.9 million and $776.3 million, respectively, and in the same periods had net income of $266.6 million and net loss of $1.5 million, respectively. We have changed our revenue disaggregation to Subscription Services and Skills and Other to better reflect the nature and timing of revenue and cash flows. Subscription Services includes revenues from our Chegg Study Pack, Chegg Study, Chegg Writing, Chegg Math, and Busuu offerings. Skills and Other includes revenues from our Skills, advertising services, print textbooks and eTextbooks offerings. We no longer present our Required Materials product line separately as we no longer expect to have significant revenue from our print textbook and eTextbooks offerings due to recognizing a revenue share as a result of our partnership with GT. In April 2022, we entered into definitive agreements with GT Marketplace, LLC (GT) such that we will continue to offer our print textbook and eTextbook offerings on our website and maintain relationships with the students, however, GT has purchased our existing print textbook library and will continue to make print textbook investments and provide fulfillment logistics for print textbook transactions. Beginning December 2022, GT also began fulfilling eTextbook transactions. We expect that our partnership with GT provides an opportunity to grow faster with higher margins as we will no longer incur significant costs of revenue such as order fulfillment fees primarily related to shipping and fulfillment, publisher content fees for eTextbooks, and print textbook depreciation and write off expense. We will continue to incur costs of revenue such as payment processing fees and employee related costs as well as ongoing operating expenses such as platform infrastructure maintenance and transition costs. In January 2022, we completed our acquisition of Busuu Online S.L. (Busuu), an online language learning company that offers a comprehensive solution through a combination of self-paced lessons, live classes with expert tutors and the ability to learn and practice with members of the Busuu language learning community. Our long-term strategy is centered upon our ability to utilize Subscription Services to increase student engagement with our learning platform. We plan to continue to invest in the expansion of our offerings to provide a more compelling and personalized solution and deepen engagement with students. In addition, we believe that the investments we have made to achieve our current scale will allow us to drive increased operating margins over time that, together with increased contributions of our Subscription Services, will enable us to sustain profitability and remain cash-flow positive in the long-term. Our ability to achieve these long-term objectives is subject to numerous risks and uncertainties. These include our ability to attract, retain, and increasingly engage the student population, reduced traffic to our services, and other factors, such as global macroeconomic conditions, which continue to evolve and affect our business and results of operations. Further, the education industry has experienced a slowdown as a result of decreased enrollments, which have not returned to pre-pandemic levels. Employment opportunities, compensation and other factors have led to steadily decreasing enrollments. Moreover, those students who have enrolled have been taking fewer and less rigorous classes and receiving less graded assignments. As a result, 38 Table of Contents we are experiencing a deceleration in the growth rates of our services and revenues that may continue. These risks and uncertainties are described in greater detail in Part I, Item 1A, “Risk Factors.” We have presented revenues for our two product lines, Subscription Services and Skills and Other, based on how students view us and the utilization of our products by them. More detail on our two product lines is discussed in the next two sections titled “Subscription Services” and “Skills and Other.” Subscription Services Our Subscription Services can be accessed internationally through our websites and on mobile devices and include Chegg Study Pack, Chegg Study, Chegg Writing, Chegg Math, and Busuu. Students typically pay to access Subscription Services on a monthly basis. Our Chegg Study subscription service provides “Expert Questions and Answers” and step-by-step “Textbook Solutions,” helping students with their course work. When students need writing help, including plagiarism detection scans and creating citations for their papers, they can use our Chegg Writing subscription service. Our Chegg Math subscription service, including Mathway, helps students understand math by providing a step-by-step math solver and calculator. We also offer our Chegg Study Pack as a premium subscription bundle of our Chegg Study, Chegg Writing, and Chegg Math services, which also includes additional features such as flashcards, concept videos, practice questions and quizzes, and instructor-created materials through Uversity. Our Busuu language learning platform offers a comprehensive solution through a combination of self-paced lessons, live classes with expert tutors and the ability to learn and practice with members of the Busuu language learning community. Subscription Services revenues were 88%, 79%, and 71% of net revenues during the years ended December 31, 2022, 2021, and 2020, respectively. Skills and Other Our Skills and Other product line includes revenues from Skills, advertising services, print textbooks and eTextbooks. Our skills-based learning platform offers professional courses focused on the most in-demand technology skills. We work with leading brands and programmatic partners to deliver advertising across our platforms. We also provide a platform for students to rent or buy print textbooks and eTextbooks, which helps students save money compared to the cost of buying new. Skills and Other revenues were 12%, 21%, and 29% of net revenues during the years ended December 31, 2022, 2021 and 2020, respectively. Seasonality of Our Business Revenues from Subscription Services are primarily recognized ratably over the subscription term which has generally resulted in our highest revenues and profitability in the fourth quarter as it reflects more days of the academic year. Certain variable expenses, such as marketing expenses, remain highest in the first and third quarters such that our profitability may not provide meaningful insight on a sequential basis. As a result of these factors, the most concentrated periods for our revenues and expenses do not necessarily coincide, and comparisons of our historical quarterly results of operations on a sequential basis may not provide meaningful insight into our overall financial performance. Components of Results of Operations Net Revenues We recognize revenues net of allowances for refunds or charge backs from our payment processors who process payments from credit cards, debit cards, and PayPal. Revenues from Chegg Study Pack, Chegg Study, Chegg Writing, Chegg Math, and Busuu are primarily recognized ratably over the monthly subscription period. Revenues from Skills are recognized either ratably over a six month course offering depending on the instruction type of the course, adjusted for an estimate of non-redemption. Revenues from advertising services are recognized upon fulfillment. Beginning in April 2022, revenues from print textbooks owned by GT are recognized immediately on a net basis based on our role in the transaction as an agent. Prior to April 2022, revenues from our print textbooks offering included operating lease income from print textbooks that we owned recognized as the total transaction amount, paid upon commencement of the lease, ratably over the lease term or rental term, generally a two- to five-month period. Beginning in December 2022, revenues from eTextbooks fulfilled by GT are recognized immediately on a net basis based on our role in the transaction as an agent. Prior to December 2022, eTextbooks revenues were recognized ratably over the contractual period, generally a two- to five-month period. Revenues from print textbooks owned by 39 Table of Contents a partner are recognized as a revenue share on the total transaction amount of a rental or sale transaction immediately when a print textbook ships to a student. Cost of Revenues Our cost of revenues consists primarily of expenses associated with the delivery and distribution of our products and services. Cost of revenues primarily consists of content amortization expense related to content that we develop, license from publishers, or acquire through acquisitions, web hosting fees, customer support fees, payment processing costs, amortization of acquired intangible assets, order fulfillment fees primarily related to outbound shipping and fulfillment as well as publisher content fees for eTextbooks, write-downs for print textbooks, the gain or loss on print textbooks liquidated, the net book value of print textbooks purchased by students at the end of the term or on a just-in-time basis, print textbook depreciation expense, personnel costs and other direct costs related to providing content or services. In addition, cost of revenues includes allocated information technology and facilities costs. As a result of our partnership with GT, we no longer incur costs associated with order fulfillment fees related to outbound shipping and fulfillment, write-downs for print textbooks, the gain or loss on print textbooks liquidated, the net book value of print textbooks purchased by students at the end of the term or on a just-in-time basis, and print textbook depreciation expense, Operating Expenses We classify our operating expenses into three categories: research and development, sales and marketing, and general and administrative. One of the most significant components of our operating expenses is employee-related costs, which include salaries, benefits, and share-based compensation expenses. We expect to continue to hire new employees in order to support our current and anticipated growth. In any particular period, the timing of additional hires could materially affect our operating expenses, both in absolute dollars and as a percentage of revenues. Our operating expenses also contain information technology expenses such as technology costs to support our research and development, sales and marketing expenses, depreciation expenses, amortization of acquired intangible assets, and outside services. We allocate certain costs to each expense category, primarily based on the headcount in each group at the end of a period. As our business grows, our operating expenses may increase over time to expand capacity and sustain our workforce. Research and Development Our research and development expenses consist of salaries, benefits, and share-based compensation expense for employees on our product, engineering, and technical teams who are responsible for maintaining our website, developing new products, and improving existing products. Research and development costs also include technology costs to support our research and development, and outside services. We expense substantially all of our research and development expenses as they are incurred. In the past three years, our research and development expenses have increased to support new products and services as well as to expand our infrastructure capabilities to support back-end processes associated with our revenue transactions and internal systems. We intend to continue making significant investments in developing new products and services and enhancing the functionality of existing products and services. Sales and Marketing Our sales and marketing expenses consist of user and advertiser-facing marketing and promotional expenditures through a number of targeted online marketing channels, sponsored search, display advertising, email marketing campaigns, and other initiatives. We incur salaries, benefits and share-based compensation expenses for our employees engaged in marketing, business development and sales and sales support functions, and amortization of acquired intangible assets. Our marketing expenses are largely variable and to the extent there is increased or decreased competition for these traffic sources, or to the extent our mix of these channels shifts, we could see a corresponding change in our sales and marketing expenses. General and Administrative Our general and administrative expenses consist of salaries, benefits and share-based compensation expense for certain executives as well as our finance, legal, human resources and other administrative employees. In addition, general and administrative expenses include outside services, legal and accounting services, and depreciation expense. 40 Table of Contents Interest Expense, Net and Other Income (Expense), Net Interest expense, net consists primarily of interest expense on the amortization of debt issuance costs related to the convertible senior notes. Other income (expense), net consists primarily of interest income, gains/losses on early extinguishment of the convertible senior notes, foreign currency gain on purchase consideration, realized gains/losses on the sale of our investments, loss on the change in fair value of derivative instruments and gains on the sale of our strategic equity investments. Benefit From (Provision For) Income Taxes Benefit from (provision for) income taxes consists primarily of the United States valuation allowance release, partially offset by income taxes in foreign jurisdictions in which we conduct business. Results of Operations The following table summarizes our historical consolidated statements of operations (in thousands, except percentage of total net revenues): Years Ended December 31, 2022 2021 Net revenues $ 766,897 100 % $ 776,265 100 % Cost of revenues (1) 197,396 26 254,904 33 Gross profit 569,501 74 521,361 67 Operating expenses: Research and development (1) 196,637 26 178,821 23 Sales and marketing (1) 147,660 19 105,414 14 General and administrative (1) 216,247 28 159,019 20 Total operating expenses 560,544 73 443,254 57 Income from operations 8,957 1 78,107 10 Total interest expense, net and other income (expense), net 94,989 13 (72,368) (9) Income before benefit from (provision for) income taxes 103,946 14 5,739 1 Benefit from (provision for) income taxes 162,692 21 (7,197) (1) Net income (loss) $ 266,638 35 % $ (1,458) 0 % (1) Includes share-based compensation expense as follows: Cost of revenues $ 2,484 $ 1,621 Research and development 41,335 37,131 Sales and marketing 13,857 13,887 General and administrative 75,780 56,207 Total share-based compensation expense $ 133,456 $ 108,846 41 Table of Contents Years Ended December 31, 2022, 2021 and 2020 Net Revenues The following table sets forth our total net revenues for the periods shown for our Subscription Services and Skills and Other product lines (in thousands, except percentages): Years Ended December 31, Change in 2022 Change in 2021 2022 2021 2020 $ % $ % Subscription Services $ 671,968 $ 616,817 $ 460,612 $ 55,151 9 % $ 156,205 34 % Skills and Other 94,929 159,448 183,726 (64,519) (40) (24,278) (13) Total net revenues $ 766,897 $ 776,265 $ 644,338 $ (9,368) (1) $ 131,927 20 Subscription Services revenues increased by $55.2 million, or 9%, during the year ended December 31, 2022, compared to the same period in 2021. The increase was primarily due to an increased global brand awareness and penetration, including our acquisition of Busuu, which closed in January 2022, and increased students subscribing to the Chegg Study Pack. Subscription Services revenues represented 88% and 79% of net revenues during the years ended December 31, 2022 and 2021, respectively. Skills and Other revenues decreased by $64.5 million, or 40%, during the year ended December 31, 2022 compared to the same period in 2021. The decrease was primarily due to lower revenues from print textbooks as a result of our partnership with GT beginning in April 2022 and lower unit volumes driven by decreased college enrollments, partially offset by an increase in revenues related to our Skills offerings. Skills and Other revenues represented 12% and 21% of net revenues during the years ended December 31, 2022 and 2021, respectively. Subscription Services revenues increased by $156.2 million, or 34%, during the year ended December 31, 2021, compared to the same period in 2020. The increase was primarily due to our efforts to reduce account sharing, increased global brand awareness and penetration, including our acquisition of Mathway, which closed in June 2020. Subscription Services revenues represented 79% and 71% of net revenues during the years ended December 31, 2021 and 2020, respectively. Skills and Other revenues decreased by $24.3 million, or 13%, during the year ended December 31, 2021 compared to the same period in 2020. The decrease was primarily due to lower unit volumes driven by decreased college enrollments and various print textbook logistics challenges. Skills and Other revenues represented 21% and 29% of net revenues during the years ended December 31, 2021 and 2020, respectively. Years Ended December 31, 2022 and 2021 Cost of Revenues The following table sets forth our cost of revenues for the periods shown (in thousands, except percentages): Years Ended December 31, Change in 2022 2022 2021 $ % Cost of revenues (1) $ 197,396 $ 254,904 $ (57,508) (23) % (1) Includes share-based compensation expense of: $ 2,484 $ 1,621 $ 863 53 % As a result of our partnership with GT, cost of revenues decreased due to lower order fulfillment fees, net change in the gain on textbook library, lower print textbook depreciation expense, and lower cost of textbooks purchased by students. Cost of revenues decreased $57.5 million, or 23%, during the year ended December 31, 2022, compared to the same period in 2021. The decrease was primarily attributable to lower order fulfillment fees of $41.4 million driven by lower unit volumes, net change in the gain on textbook library of $15.9 million, driven by the sale of print textbooks to GT in April 2022 and lower write-downs, lower cost of textbooks purchased by students of $11.2 million, lower print textbook depreciation expense of $9.2 million, lower transitional logistic charges of $5.9 million, lower customer support fees of $1.5 million, partially offset by higher other depreciation and amortization expense of $18.4 million, incremental cost of tutors, as a result of our acquisition of Busuu, of $8.8 million and higher web hosting fees of $1.1 million. Gross margins increased to 74% during the year ended December 31, 2022, from 67% during the same period in 2021. 42 Table of Contents Operating Expenses The following table sets forth our total operating expenses for the periods shown (in thousands, except percentages): Years Ended December 31, Change in 2022 2022 2021 $ % Research and development (1) $ 196,637 $ 178,821 $ 17,816 10 % Sales and marketing (1) 147,660 105,414 42,246 40 General and administrative (1) 216,247 159,019 57,228 36 Total operating expenses $ 560,544 $ 443,254 $ 117,290 26 (1) Includes share-based compensation expense of: Research and development $ 41,335 $ 37,131 $ 4,204 11 % Sales and marketing 13,857 13,887 (30) 0 General and administrative 75,780 56,207 19,573 35 Share-based compensation expense $ 130,972 $ 107,225 $ 23,747 22 The increases in employee-related operating expenses noted below during the year ended December 31, 2022, compared to the same period in 2021, are largely driven by incremental employees from our acquisition of Busuu. Research and Development Research and development expenses during the year ended December 31, 2022 increased by $17.8 million, or 10%, compared to the same period in 2021. The increase was primarily attributable to higher employee-related expenses, including share-based compensation expense, of $13.0 million and higher technology expenses to support our research and development of $4.7 million. Research and development expenses as a percentage of net revenues were 26% during the year ended December 31, 2022 compared to 23% of net revenues during the same period in 2021. Sales and Marketing Sales and marketing expenses during the year ended December 31, 2022 increased by $42.2 million, or 40%, compared to the same period in 2021. The increase was primarily attributable to increased international marketing spend, including incremental marketing spend from Busuu, of $17.9 million, higher other depreciation and amortization expense of $9.5 million, and higher employee-related expenses, including share-based compensation expense, of $8.8 million. Sales and marketing expenses as a percentage of net revenues were 19% during the year ended December 31, 2022 compared to 14% of net revenues during the same period in 2021. General and Administrative General and administrative expenses in the year ended December 31, 2022 increased by $57.2 million, or 36%, compared to the same period in 2021. The increase was primarily due to higher employee-related expenses, including share-based compensation expense, of $44.5 million and impairment of lease related assets of $5.2 million. General and administrative expenses as a percentage of net revenues were 28% during the year ended December 31, 2022 compared to 20% during the same period in 2021. 43 Table of Contents Interest Expense, Net and Other Income (Expense), Net The following table sets forth our interest expense, net, and other income (expense), net, for the periods shown (in thousands, except percentages): Years Ended December 31, Change in 2022 2022 2021 $ % Interest expense, net $ (6,040) $ (6,896) $ 856 (12) % Other income (expense), net 101,029 (65,472) 166,501 n/m Total interest expense, net and other income (expense), net $ 94,989 $ (72,368) $ 167,357 n/m _______________________________________ *n/m - not meaningful Interest expense, net decreased by $0.9 million, or 12%, during the year ended December 31, 2022, compared to the same period in 2021. The decrease was primarily due to the partial extinguishment of the 2026 notes in 2022 as well as the full redemption of the 2023 notes in 2021. Other income (expense), net increased by $166.5 million during the year ended December 31, 2022, compared to the same period in 2021. The increase was primarily due to the $93.5 million gain on early extinguishment of a portion of the 2026 notes, $5.7 million increase in interest income, the $4.6 million gain on foreign currency remeasurement of purchase consideration related to our acquisition of Busuu, and the absence of certain items in 2021 including the $78.2 million loss on early extinguishment of debt of a portion of the 2025 notes and the $7.1 million net loss on the change in fair value of derivative instruments, partially offset by a $9.5 million increase in realized losses on the sale of certain investments primarily to align with our updated investment policy, and the absence of the $12.5 million gain on the sale of the strategic equity investments in 2021. See Note 11, “Convertible Senior Notes,” of our accompanying Notes to Consolidated Financial Statements included in Part II, Item 8, “Consolidated Financial Statements and Supplementary Data” of this Annual Report on Form 10-K for additional information on the gain on early extinguishment of a portion of the 2026 notes and 2025 notes. Benefit from (provision for) income taxes The following table sets forth our benefit from (provision for) income taxes for the periods shown (in thousands, except percentages): Years Ended December 31, Change in 2022 2022 2021 $ % Benefit from (provision for) income taxes $ 162,692 $ (7,197) $ 169,889 n/m _______________________________________ *n/m - not meaningful The change in benefit from (provision for) income taxes was primarily due to the release of the valuation allowance against a substantial amount of our U.S. and certain state jurisdictions deferred tax assets. See Note 17, “Income Taxes,” of our accompanying Notes to Consolidated Financial Statements included in Part II, Item 8, “Consolidated Financial Statements and Supplementary Data” of this Annual Report on Form 10-K for additional information. Liquidity and Capital Resources As of December 31, 2022, our principal sources of liquidity were cash, cash equivalents, and investments totaling $1.3 billion, which were held for working capital purposes. The substantial majority of our net revenues are from e-commerce transactions with students, which are settled immediately through payment processors, as opposed to our accounts payable, which are settled based on contractual payment terms with our suppliers. In June 2022, our board of directors approved a $1.0 billion increase to our existing securities repurchase program authorizing the repurchase of up to $2.0 billion of our common stock and/or convertible notes, through open market purchases, block trades, and/or privately negotiated transactions or pursuant to Rule 10b5-1 plans, in compliance with applicable securities laws and other legal requirements. The timing, volume, and nature of the repurchases will be determined by management based on the capital needs of the business, market conditions, applicable legal requirements, and other factors. In February 2022 and December 2021, we entered into accelerated share repurchase (ASR) agreements with financial institutions for $600 million. 44 Table of Contents During the year ended December 31, 2022, we also repurchased 1,146,803 shares of our common stock for $23.1 million through open market repurchases. Additionally, we've repurchased $500.0 million principal amount of the 2026 notes, $100.0 million principal amount of the 2025 notes and $57.4 million principal amount of the 2023 notes in privately-negotiated transactions for aggregate consideration of $734.4 million. As of December 31, 2022, $642.6 million remaining under the repurchase program, which has no expiration date and will continue until otherwise suspended, terminated or modified at any time for any reason by our board of directors. In February 2021, we completed an equity offering in which we raised net proceeds of $1,091.5 million, after deducting underwriting discounts, commissions and offering expenses (2021 equity offering). In August 2020 and March/April 2019, we closed offerings of our 2026 notes and 2025 notes, generating net proceeds of approximately $984.1 million and $780.2 million, respectively, in each case after deducting the initial purchasers’ discount and estimated offering expenses payable by us. The 2026 notes and 2025 notes mature on September 1, 2026 and March 15, 2025, respectively, unless converted, redeemed, or repurchased in accordance with their terms prior to such dates. As of December 31, 2022, we have incurred cumulative losses of $70.6 million from our operations and we may incur additional losses in the future. Our operations have been financed primarily by our convertible senior notes offerings, our 2021 equity offering, and cash generated from operations. The following table is a summary of our contractual obligations and other commitments as of December 31, 2022 (in thousands): Less than More than Total 1 Year 1-3 Years 3-5 Years 5 Years Convertible senior notes (1) $ 1,202,166 $ 875 $ 1,312 $ 1,199,979 $ — Purchase obligations (2) 54,632 42,048 12,454 130 — Operating lease obligations (3) 22,542 7,733 8,262 6,122 425 Total contractual obligations $ 1,279,340 $ 50,656 $ 22,028 $ 1,206,231 $ 425 _____________________________________________________ (1) Includes semi-annual cash interest payments of $0.4 million. Our convertible senior notes are recorded on our consolidated balance sheets at the carrying amount of $1.2 billion as of December 31, 2022. (2) Represents contractual obligations primarily related to information technology services. (3) Our corporate offices are leased under operating leases, which expire at various dates through 2028. In addition, our other long-term liabilities include $5.0 million related to uncertain tax positions as of December 31, 2022. The timing of the resolution of these positions is uncertain and we are unable to make a reasonably reliable estimate of the timing of payments in individual years beyond one year. As a result, this amount is not included in the above table. We believe that our existing sources of liquidity will be sufficient to fund our operations and debt service obligations for at least the next 12 months. Our future capital requirements will depend on many factors, including our rate of revenue growth, our investments in research and development activities, our acquisition of new products and services and our sales and marketing activities. To the extent that existing cash and cash from operations are insufficient to fund our future activities, we may need to raise additional funds through public or private equity or debt financing. Additional funds may not be available on terms favorable to us or at all. If adequate funds are not available on acceptable terms, or at all, we may be unable to adequately fund our business plans and it could have a negative effect on our business, operating cash flows and financial condition. Most of our cash, cash equivalents, and investments are held in the United States. As of December 31, 2022, our foreign subsidiaries held an insignificant amount of cash in foreign jurisdictions. We currently do not intend or foresee a need to repatriate some of these foreign funds; however, as a result of the Tax Cuts and Jobs Act, we anticipate the U.S. federal impact to be minimal if these foreign funds are repatriated. In addition, based on our current and future needs, we believe our current funding and capital resources for our international operations are adequate. 45 Table of Contents The following table sets forth our cash flows (in thousands): Years Ended December 31, 2022 2021 Consolidated Statements of Cash Flows Data: Net cash provided by operating activities $ 255,736 $ 273,224 Net cash provided by (used in) investing activities 104,891 (365,768) Net cash (used in) provided by financing activities (744,803) 466,722 Cash Flows from Operating Activities Net cash provided by operating activities during the year ended December 31, 2022 was $255.7 million. Our net income of $266.6 million was adjusted by significant non-cash operating expenses including share-based compensation expense of $133.5 million, other depreciation and amortization expense of $90.0 million, realized loss on the sale of investments of $9.7 million, partially offset by the gain on early extinguishment of debt of $93.5 million and the tax benefit related to release of valuation allowance of $174.6 million. Net cash provided by operating activities during the year ended December 31, 2021 was $273.2 million. Our net loss of $1.5 million was adjusted by significant non-cash operating expenses including share-based compensation expense of $108.8 million, the loss on early extinguishment of debt of $78.2 million, other depreciation and amortization expense of $63.3 million, the net loss on textbook library of $11.0 million, which was primarily due to increased write-downs, print textbook depreciation expense of $10.9 million, the net loss on the change in fair value of derivative instruments of $7.1 million, operating lease expense, net of accretion, of $6.0 million, and amortization of debt issuance costs of $5.9 million, partially offset by the gain on sale of our strategic equity investments of $12.5 million. Cash Flows from Investing Activities Net cash provided by investing activities during the year ended December 31, 2022 was $104.9 million and was related to the maturity of investments of $884.9 million and proceeds from sale of investments of $458.5 million partially offset by the purchases of investments of $730.5 million, the acquisition of business of $401.1 million, and purchases of property and equipment of $103.1 million. Net cash used in investing activities during the year ended December 31, 2021 was $365.8 million and was related to the purchases of investments of $1.7 billion, purchases of property and equipment of $94.2 million, purchases of textbooks of $10.9 million, and the acquisition of business of $7.9 million partially offset by the maturity of investments of $1.2 billion, proceeds from sale of investments of $206.0 million, proceeds from the sale of our equity investments of $16.1 million and proceeds from disposition of textbooks of $8.7 million. Cash Flows from Financing Activities Net cash used in financing activities during the year ended December 31, 2022 was $744.8 million and was related to the repayment of a portion of our convertible senior notes of $401.2 million, repurchase of common stock of $323.5 million, payment of $26.5 million in taxes related to the net share settlement of equity awards offset by the proceeds from the issuance of common stock under stock plans of $6.5 million. Net cash provided by financing activities during the year ended December 31, 2021 was $466.7 million and was related to the net proceeds from our equity offering of $1,091.5 million, proceeds from 2023 notes and 2025 notes capped call instruments of $69.0 million, and the proceeds from the issuance of common stock under stock plans of $8.9 million, offset by the repayment of a portion of our convertible senior notes of $300.8 million, repurchase of common stock of $300.0 million, payment of $94.4 million in taxes related to the net share settlement of equity awards, and payment of escrow related to an acquisition of $7.5 million. Critical Accounting Policies, Significant Judgments and Estimates Our consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States (U.S. GAAP). The preparation of these consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, costs and expenses and related disclosures. These estimates form the basis for judgments we make about the carrying values of our assets and liabilities, which are not readily 46 Table of Contents apparent from other sources. We base our estimates and judgments on historical experience and on various other assumptions that we believe are reasonable under the circumstances. On an ongoing basis, we evaluate our estimates and assumptions. Our actual results may differ from these estimates under different assumptions or conditions. An accounting policy is deemed to be critical if it requires an accounting estimate to be made based on assumptions about matters that are highly uncertain at the time the estimate is made, if different estimates reasonably could have been used, or if changes in the estimate that are reasonably possible could materially impact the financial statements. We believe that assumptions and estimates of the following accounting policies involve a greater degree of judgment and complexity. Accordingly, these are the policies we believe are the most critical to aid in fully understanding and evaluating our financial condition and results of operations. For further information on all of our significant accounting policies, see Note 2, “Significant Accounting Policies”, of our accompanying Notes to Consolidated Financial Statements included in Part II, Item 8, “Consolidated Financial Statements and Supplementary Data” of this Annual Report on Form 10-K. Revenue Recognition and Deferred Revenue For sales of third-party products, we evaluate whether we are acting as a principal or an agent. Where our role in a transaction is that of principal, revenues are recognized on a gross basis. This requires revenue to comprise the gross value of the transaction billed to the customer, after trade discounts, with any related expenditure charged as a cost of revenues. Where our role in a transaction is that of an agent, revenues are recognized on a net basis with revenues representing the margin earned. Our determination is based on our evaluation of whether we control the specified goods or services prior to transferring them to the customer. There are significant judgments involved in determining whether we control the specified goods or services prior to transferring them to the customer including whether we have the ability to direct the use of the good or service and obtain substantially all of the remaining benefits from the good or service. We have concluded that we control our Subscription Services, print textbooks that we own for rental or purchase until April 2022, and eTextbook service until December 2022 and therefore we recognize revenues and cost of revenues on a gross basis. Beginning in April 2022 for print textbooks and December 2022 for eTextbooks, we have concluded that GT controls the service and we recognize revenues on a net basis based on our role in the transaction as an agent. In relation to print textbooks owned by a partner, we recognize revenues on a net basis based on our role in the transaction as an agent as we have concluded that we do not control the use of the print textbooks, and therefore record only the net revenue share we earn. Some of our customer arrangements include multiple performance obligations. We have determined these performance obligations qualify as distinct performance obligations, as the customer can benefit from the service on its own or together with other resources that are readily available to the customer, and our promise to transfer the service is separately identifiable from other promises in the contract. For these arrangements that contain multiple performance obligations, we allocate the transaction price based on the relative standalone selling price (SSP) method by comparing the SSP of each distinct performance obligation to the total value of the contract. We determine the SSP based on our historical pricing and discounting practices for the distinct performance obligation when sold separately. If the SSP is not directly observable, we estimate the SSP by considering information such as market conditions, and information about the customer. Some of our customer arrangements may include an amount of variable consideration in addition to a fixed revenue share that we earn. This variable consideration can either increase or decrease the total transaction price depending on the nature of the variable consideration. We estimate the amount of variable consideration that we will earn at the inception of the contract, adjusted during each period, and include an estimated amount each period. In determining this estimate, we consider the single most likely amount in a range of possible amounts. This estimated amount of variable consideration requires management to make a judgment based on the forecasted amount of consideration that we expect we will earn as well as the time period in which we can reasonably rely on the accuracy of the forecast. Our estimate of variable consideration is constrained to only include the amount of variable consideration for which it is probable that a significant reversal in the amount of cumulative revenue recognized will not occur, as the amounts that we could potentially earn in outer years can change significantly based on factors that are out of our control. If our forecasts are inaccurate, the estimated amount of variable consideration could be inaccurate which could impact our revenue recognition in a given period. Impairment of Acquired Intangible Assets and Other Long-Lived Assets We assess the impairment of acquired intangible assets and other long-lived assets at least annually and whenever events or changes in circumstances indicate that the carrying amount of such assets may not be recoverable. Factors that we consider in determining when to perform an impairment review include significant negative industry or economic trends or significant changes or planned changes in the use of the assets. When measuring the recoverability of these assets, we will make assumptions regarding our estimated future cash flows expected to be generated by the assets. If our estimates or related 47 Table of Contents assumptions change in the future, we may be required to impair these assets. We did not record any impairment charges related to acquired intangible assets or other long-lived assets during the years ended December 31, 2022 and 2021. Goodwill and Indefinite Lived Intangible Asset Goodwill and our indefinite lived intangible asset are tested for impairment at least annually or whenever events or changes in circumstances indicate that their carrying values may not be recoverable. We first assess qualitative factors to determine whether it is necessary to perform a quantitative impairment test. In our qualitative assessment, we consider factors including economic conditions, industry and market conditions and developments, overall financial performance and other relevant entity-specific events in determining whether it is more likely than not that the fair value of our reporting unit is less than the carrying amount. Our qualitative assessment requires management to make judgments based on the factors listed above in our determination of whether events or changes in circumstances indicate that the carrying values may not be recoverable. Should we conclude that it is more likely than not that our carrying values have been impaired, we would recognize an impairment charge for the amount by which the carrying amount of goodwill and our indefinite lived intangible asset exceed our fair value. We have not recognized any goodwill or our indefinite lived intangible asset impairment charges since our inception. Share-based Compensation Expense We measure and recognize share-based compensation expense for all awards made to employees, directors and consultants, including restricted stock units (RSUs), performance-based RSUs (PSUs) with either a market-based condition or financial and strategic performance target and our employee stock purchase plan (ESPP) based on estimated fair values. We estimate a forfeiture rate to calculate the share-based compensation expense related to our awards. Estimated forfeitures are determined based on historical data and management’s expectation of exercise behaviors. We continue to evaluate the appropriateness of the forfeiture rate based on actual forfeiture experience, analysis of employee turnover and other factors. Quarterly changes in the estimated forfeiture rate can have a significant impact on our share-based compensation expense as the cumulative effect of adjusting the rate is recognized in the period the forfeiture estimate is changed. If a revised forfeiture rate is higher than the previously estimated forfeiture rate, an adjustment is made that will result in a decrease to the share-based compensation expense recognized in the financial statements. If a revised forfeiture rate is lower than the previously estimated forfeiture rate, an adjustment is made that will result in an increase to the share-based compensation expense recognized in the financial statements. Share-based compensation expense for PSUs with a market-based condition is recognized regardless of whether the market condition is satisfied subject to continuing service over the requisite service period. Share-based compensation expense recognized related to PSUs with a financial and strategic performance target is subject to the achievement of performance objectives and requires significant judgment by management in determining the current level of attainment of such performance objectives. Management may consider factors such as the latest revenue forecasts and general business trends in the assessment of whether or not a PSU award will be obtained. Subsequent changes to these considerations may have a material impact on the amount of share-based compensation expense recognized in the period related to PSU awards, which may lead to volatility of share-based compensation expense period-to-period. If the performance objectives are not met or service is no longer provided, no share-based compensation expense will be recognized, and any previously recognized share-based compensation expense will be reversed. We will continue to use judgment in evaluating the assumptions related to our share-based compensation expense on a prospective basis. As we continue to accumulate additional data related to our common stock, we may refine our estimates, which could materially impact our future share-based compensation expense. Provision for Income Taxes We account for income taxes under the asset and liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in our consolidated financial statements or tax returns. In estimating future tax consequences, we generally consider all expected future events other than enactments or changes in the tax law or rates. In assessing the realization of deferred tax assets, we consider whether it is more likely than not that all or some portion of deferred tax assets will not be realized. The ultimate realization of the deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Valuation allowances are provided to reduce deferred tax assets to the amount that is more likely than not to be realized. In assessing the need for a valuation allowance, we consider all available evidence including future reversals of existing taxable temporary differences, projected future taxable income, taxable income in prior carryback years if permitted 48 Table of Contents under the tax law, and tax-planning strategies. In the event that we change our determination as to the amount of deferred tax assets that can be realized, we will adjust our valuation allowance with a corresponding impact to the provision for income taxes in the period in which such determination is made. We record uncertain tax positions on the basis of a two-step process in which (1) we determine whether it is more likely than not that the tax positions will be sustained on the basis of technical merits of the position and (2) for those tax positions that meet the more likely than not recognition threshold, we recognize the tax benefit as the largest amount that is cumulative more than 50 percent likely to be realized upon ultimate settlement with the related tax authority. The calculation of tax expense and liabilities involves dealing with uncertainties in the application of complex global tax regulations. We recognize potential liabilities for anticipated tax audit issues in the U.S. and other tax jurisdictions based on our estimate of whether, and the extent to which, additional taxes will be due. Significant judgment is required in determining our provision for income taxes and evaluating our uncertain tax positions. To the extent that the final tax outcome of these matters may differ from the amounts that were initially recorded, such differences will impact the income tax provision in the period in which such determination is made. As a result, significant changes to these estimates may result in an increase or decrease to our tax provision in a subsequent period. Recent Accounting Pronouncements For relevant recent accounting pronouncements, see Note 2, “Significant Accounting Policies”, of our accompanying Notes to Consolidated Financial Statements included in Part II, Item 8, “Consolidated Financial Statements and Supplementary Data” of this Annual Report on Form 10-K.