CHEGG, INC 10-Q

ITEM 2. 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 condensed consolidated financial statements and the related notes included in Part I, Item 1, “Financial Statements (unaudited)” of this Quarterly Report on Form 10-Q. 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 Quarterly Report on Form 10-Q. 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 starting with their academic journey and extending into their careers. The Chegg platform provides products and services to support learners to help them better understand their academic course materials, and also provides personal and professional development skills training, to help them achieve their learning goals. 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 and technology platform 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 including our ability to attract, retain, and increasingly engage the student population, reduced traffic to our services, and other factors, such as the rapidly changing development of artificial intelligence technologies and global macroeconomic conditions, which continue to evolve and affect our business and results of operations. Student interest in and usage of artificial intelligence technologies have increased, which we believe has and may continue to negatively impact the number of subscriber acquisitions. As a result, we are experiencing an adverse effect on our operating results, growth and financial condition, which may continue. These risks and uncertainties are described in greater detail in Part I, Item 1A, “Risk Factors.” During the three months ended March 31, 2023 and 2022, we generated net revenues of $187.6 million and $202.2 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. 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 90% and 86% of net revenues during the three months ended March 31, 2023 and 2022, respectively. 20 Table of Contents 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 10% and 14% of net revenues during the three months ended March 31, 2023 and 2022, 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. Results of Operations The following table summarizes our historical condensed consolidated statements of operations (in thousands, except percentage of total net revenues): Three Months Ended March 31, 2023 2022 Net revenues $ 187,601 100 % $ 202,244 100 % Cost of revenues (1) 49,150 26 55,085 27 Gross profit 138,451 74 147,159 73 Operating expenses: Research and development (1) 46,907 25 52,415 26 Sales and marketing (1) 37,017 20 42,498 21 General and administrative (1) 58,973 31 46,870 23 Total operating expenses 142,897 76 141,783 70 (Loss) income from operations (4,446) (2) 5,376 3 Total interest expense, net and other income, net 10,808 5 4,583 2 Income before provision for income taxes 6,362 3 9,959 5 Provision for income taxes (4,176) (2) (4,217) (2) Net income $ 2,186 1 % $ 5,742 3 % (1) Includes share-based compensation expense as follows: Cost of revenues $ 527 $ 623 Research and development 10,914 11,776 Sales and marketing 2,499 4,386 General and administrative 19,806 16,299 Total share-based compensation expense $ 33,746 $ 33,084 21 Table of Contents Three Months Ended March 31, 2023 and 2022 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): Three Months Ended March 31, Change 2023 2022 $ % Subscription Services $ 168,440 $ 173,037 $ (4,597) (3) % Skills and Other 19,161 29,207 (10,046) (34) Total net revenues $ 187,601 $ 202,244 $ (14,643) (7) Subscription Services revenues decreased $4.6 million, or 3% during the three months ended March 31, 2023, compared to the same period in 2022. The decrease was primarily due to a decrease in overall students subscribing to Chegg Study and Chegg Study Pack. As a result of an increase in student interest and usage of artificial intelligence technologies, we are currently experiencing an adverse impact to our business and results of operations, which may continue in the future. Subscription Services revenues were 90% and 86% of net revenues during the three months ended March 31, 2023 and 2022, respectively. Skills and Other revenues decreased $10.0 million, or 34%, during the three months ended March 31, 2023 compared to the same period in 2022. The decrease was primarily due to lower revenues from print textbooks and eTextbooks as a result of recognizing revenue on a net basis from our partnership with GT Marketplace, LLC that began in April 2022, and lower advertising revenues, partially offset by an increase in revenues related to our Skills offering. Skills and Other revenues were 10% and 14% of net revenues during the three months ended March 31, 2023 and 2022, respectively. Cost of Revenues The following table sets forth our cost of revenues for the periods shown (in thousands, except percentages): Three Months Ended March 31, Change 2023 2022 $ % Cost of revenues (1) $ 49,150 $ 55,085 $ (5,935) (11) % (1) Includes share-based compensation expense of: $ 527 $ 623 $ (96) (15) % Cost of revenues decreased $5.9 million, or 11%, during the three months ended March 31, 2023, compared to the same period in 2022. The decrease was primarily attributable to the absence of print textbook and eTextbook related costs of $10.3 million and lower web hosting fees of $2.3 million, partially offset by higher other depreciation and amortization expense of $5.3 million. Gross margins increased to 74% during the three months ended March 31, 2023, from 73% during the same period in 2022. 22 Table of Contents Operating Expenses The following table sets forth our total operating expenses for the periods shown (in thousands, except percentages): Three Months Ended March 31, Change 2023 2022 $ % Research and development (1) $ 46,907 $ 52,415 $ (5,508) (11) % Sales and marketing (1) 37,017 42,498 (5,481) (13) General and administrative (1) 58,973 46,870 12,103 26 Total operating expenses $ 142,897 $ 141,783 $ 1,114 1 (1) Includes share-based compensation expense of: Research and development $ 10,914 $ 11,776 $ (862) (7) % Sales and marketing 2,499 4,386 (1,887) (43) General and administrative 19,806 16,299 3,507 22 Share-based compensation expense $ 33,219 $ 32,461 $ 758 2 Research and Development Research and development expenses decreased $5.5 million, or 11%, during the three months ended March 31, 2023 compared to the same period in 2022. The decrease was primarily attributable to lower employee-related expenses, including share-based compensation expense, of $2.1 million. Research and development expenses as a percentage of net revenues were 25% during the three months ended March 31, 2023 compared to 26% during the same period in 2022. Sales and Marketing Sales and marketing expenses decreased by $5.5 million, or 13%, during the three months ended March 31, 2023, compared to the same period in 2022. The decrease was primarily attributable to lower marketing expenses of $3.5 million and lower employee-related expenses, including share-based compensation expense, of $1.2 million. Sales and marketing expenses as a percentage of net revenues were 20% during the three months ended March 31, 2023 compared to 21% during the same period in 2022. General and Administrative General and administrative expenses increased $12.1 million, or 26%, during the three months ended March 31, 2023 compared to the same period in 2022. The increase was primarily due to higher employee-related expenses, including share-based compensation expense, of $9.6 million and higher information technology service expenses of $1.4 million. General and administrative expenses as a percentage of net revenues were 31% during the three months ended March 31, 2023 compared to 23% during the same period in 2022. Interest Expense and Other Income, Net The following table sets forth our interest expense and other income, net, for the periods shown (in thousands, except percentages): Three Months Ended March 31, Change 2023 2022 $ % Interest expense, net $ (1,268) $ (1,597) $ 329 (21) % Other income, net 12,076 6,180 5,896 95 Total interest expense, net and other income, net $ 10,808 $ 4,583 $ 6,225 136 Interest expense, net decreased $0.3 million, or 21%, during the three months ended March 31, 2023 compared to the same period in 2022, primarily due to the partial extinguishment of the 2026 notes in 2022. 23 Table of Contents Other income, net increased $5.9 million, or 95%, during the three months ended March 31, 2023 compared to the same period in 2022 primarily due to an increase in interest income of $9.8 million, partially offset by the absence of the $4.6 million gain on foreign currency remeasurement of purchase consideration related to our acquisition of Busuu. Provision for Income Taxes The following table sets forth our provision for income taxes for the periods shown (in thousands, except percentages): Three Months Ended March 31, Change 2023 2022 $ % Provision for income taxes $ (4,176) $ (4,217) $ 41 (1) % Provision for income taxes remained relatively flat during the three months ended March 31, 2023 compared to the same period in 2022, however, there were significant changes due to the benefit of releasing uncertain tax positions in India partially offset by the absence of a valuation allowance benefit in the current quarter as a result of releasing our valuation allowance against a substantial amount of our U.S. deferred tax assets in 2022. Liquidity and Capital Resources As of March 31, 2023, our principal sources of liquidity were cash, cash equivalents, and investments totaling $1.2 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. We have entered into accelerated share repurchase programs with financial institutions for $750.0 million, repurchased shares in open market transactions for $23.1 million and repurchased our convertible senior notes in privately-negotiated transactions for aggregate consideration of $734.4 million. As of March 31, 2023, we had $492.6 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 and 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 March 31, 2023, we have incurred cumulative losses of $68.4 million from our operations and we may incur additional losses in the future. Our operations have been financed primarily by our initial public offering of our common stock (IPO), our 2017 follow-on public offering, our convertible senior notes offerings, our 2021 equity offering, and cash generated from operations. Aside from the changes in operating lease obligations as disclosed in Note 1, “Background and Basis of Presentation,” of our accompanying Notes to Condensed Consolidated Financial Statements included in Part I, Item 1, “Financial Statements (Unaudited)” of this Quarterly Report on Form 10-Q, there were no other material changes in our commitments under contractual obligations, as disclosed in Part II, Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in our Annual Report on Form 10-K for the year ended December 31, 2022. 24 Table of Contents 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 March 31, 2023, our foreign subsidiaries held an insignificant amount of cash in foreign jurisdictions. We currently do not intend or foresee a need to repatriate 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. The following table sets forth our cash flows (in thousands): Three Months Ended March 31, 2023 2022 Condensed Consolidated Statements of Cash Flows Data: Net cash provided by operating activities $ 73,160 $ 80,035 Net cash used in investing activities (106,779) (363,072) Net cash used in financing activities (158,902) (307,461) Cash Flows from Operating Activities Net cash provided by operating activities during the three months ended March 31, 2023 was $73.2 million. Our net income of $2.2 million was increased by significant non-cash operating expenses including share-based compensation expense of $33.7 million and other depreciation and amortization expense of $25.5 million. Net cash provided by operating activities during the three months ended March 31, 2022 was $80.0 million. Our net income of $5.7 million was increased by the change in our prepaid expenses and other current assets of $21.7 million. We also had significant non-cash operating expenses including share-based compensation expense of $33.1 million and other depreciation and amortization expense of $20.3 million. Cash Flows from Investing Activities Net cash used in investing activities during the three months ended March 31, 2023 was $106.8 million and was related to the purchases of investments of $497.4 million and the purchases of property and equipment of $17.2 million, partially offset by the maturities of investments of $407.8 million. Net cash used in investing activities during the three months ended March 31, 2022 was $363.1 million and was related to the acquisition of a business of $401.1 million, the purchases of investments of $273.3 million, the purchases of property and equipment of $29.5 million, and the purchases of textbooks of $3.7 million, partially offset by the maturity of investments of $342.1 million and proceeds from the disposition of textbooks of $2.5 million. Cash Flows from Financing Activities Net cash used in financing activities during the three months ended March 31, 2023 was $158.9 million and was primarily related to the repurchases of common stock of $151.3 million and payment of $7.7 million in taxes related to the net share settlement of equity awards. Net cash used in financing activities during the three months ended March 31, 2022 was $307.5 million and was primarily related to the repurchases of common stock of $300.5 million and payment of $7.5 million in taxes related to the net share settlement of equity awards. 25 Table of Contents Critical Accounting Policies, Significant Judgments and Estimates Our condensed consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States. The preparation of these condensed 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 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. There have been no material changes in our critical accounting policies and estimates during the three months ended March 31, 2023 as compared to the critical accounting policies and estimates disclosed in Part II, Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in our Annual Report on Form 10-K for the year ended December 31, 2022. Recent Accounting Pronouncements For relevant recent accounting pronouncements, see Note 1, “Background and Basis of Presentation,” of our accompanying Notes to Condensed Consolidated Financial Statements included in Part I, Item 1, “Financial Statements (unaudited)” of this Quarterly Report on Form 10-Q. 26 Table of Contents ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK There have been no material changes in our market risk during the three months ended March 31, 2023, compared to the disclosures in Part II, Item 7A, “Quantitative and Qualitative Disclosures about Market Risk” contained in our Annual Report on Form 10-K for the year ended December 31, 2022.