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CHGG > SEC Filings for CHGG > Form 10-Q on 8-Aug-2014All Recent SEC Filings

Show all filings for CHEGG, INC

Form 10-Q for CHEGG, INC


8-Aug-2014

Quarterly Report


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 Information" of this Quarterly Report on Form 10-Q and our audited financial consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2013 filed with the SEC. In addition to historical condensed 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 "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, particularly in Part II, Item 1A, "Risk Factors."

Overview

Chegg is the leading student-first connected learning platform, empowering students to take control of their education to save time, save money and get smarter. We are driven by our passion to help students become active consumers in the educational process. Our integrated platform, which we call the Student Hub, offers products and services that students need throughout the college lifecycle, from choosing a college through graduation and beyond. Our Student Graph builds on the information generated through students' and other participants' use of our platform to increasingly enrich the experience for participants as it grows in scale and power the Student Hub. By helping students learn more in less time and at a lower cost, we help them improve the overall return on investment in education.

We have an extensive print textbook and eTextbook library available for rent and sale. Our Chegg Study service helps students solve problems and master challenging concepts on their own. We also offer free services to students, such as helping high school students find colleges and scholarship opportunities and helping college students decide which courses to take and find supplemental materials. These and other free services we offer are designed to round out the Student Hub as a one-stop destination for critical student needs. We intend to expand our user base to reach students beyond college, including graduate and professional school students and other lifelong learners.

We partner with other key constituents in the education ecosystem, such as publishers, colleges and brands, to provide a comprehensive, student-first connected learning platform. We currently source print textbooks, eTextbooks and supplemental materials directly or indirectly from thousands of publishers in the United States, including Pearson, Cengage Learning, McGraw Hill, Wiley and MacMillan. We are working to become the digital distribution platform of choice for these publishers. We also partner with approximately 875 colleges in the United States to help them achieve greater efficiency in student recruiting by offering connections to interested students. We offer leading brands compelling marketing solutions for reaching the college demographic. As we continue to grow our platform, we believe it will become increasingly valuable to the education ecosystem and benefit publishers, content providers, colleges, educators and brands as they connect to our student user base.

Our digital learning and advertising offerings, which we refer to as "digital offerings" are experiencing rapid growth. During the three months ended June 30, 2014 and 2013, we generated net revenues of $64.5 million and $55.9 million, respectively, and in the same periods had net losses of $8.2 million and $3.4 million. During the six months ended June 30, 2014 and 2013, we generated net revenues of $138.9 million and $116.9 million, respectively, and in the same periods had net losses of $34.0 million and $21.2 million. We plan to continue to invest in the long-term growth of the company, particularly further investment in the technology that powers the Student Hub and the Student Graph and in the development of products and services that serve students. On June 5, 2014, we acquired InstaEDU, Inc., (InstaEDU) to expand our digital offerings to help students excel in school. The acquisition of InstaEDU will provide us a method to connect Chegg's book offering and service offerings. On April 9, 2014, we acquired The Campus Special, LLC and The Campus Special Food, LLC (together, the Campus Special), a company offering local campus deals, serving students at over 500 universities nationwide. We plan to rebrand Campus Special as Chegg Deals. We see the acquisition of Campus Special as a future growth opportunity to expand into local and national advertising. On March 7, 2014, we acquired Bookstep LLC, (Bookstep) to expand our technical resources and research and development capabilities. We cannot assure you that our newer products and services, or any other products and services we may introduce or acquire, will be integrated effectively into our business, achieve or sustain profitability or achieve market acceptance at levels sufficient to justify our investment.

Our strategy for achieving and maintaining profitability is centered upon our ability to expand the number of students using our products and services and increase student engagement with our connected learning platform. For the foreseeable future we expect to continue to invest in our print textbook business as a means of expanding student acquisition and generating operating cash flow. To deepen student engagement we will continue to invest in the expansion of our digital offerings to provide a more compelling and personalized solution. We believe this expanded and deeper penetration of the student demographic will allow us to drive growth in our enrollment and brand marketing services. 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 higher margin digital offerings, will enable us to accomplish profitability and become cash-flow positive for the long-term. Our ability to accomplish these long-term objectives is subject to numerous risks and uncertainties, including our ability to attract, retain and increasingly engage the


student population, intense competition in our markets, the ability to achieve sufficient contributions from our digital offerings and other factors described in greater detail in "Risk Factors."

Our Print Textbook Business

With our print textbook business, we purchase textbooks, rent them to students for the academic term at a substantial discount from list price to attract volume and realize return on our investment by renting the same book over multiple academic terms.

Our print textbook rental business is highly capital intensive. While we generate positive cash flows from operations on an annual basis, this has been more than offset by the cash we use for our investing activities, primarily due to the purchase of print textbooks. We expect this trend to continue in the foreseeable future. We capitalize the investment in our textbook library and record depreciation expense in cost of revenues over its useful life using an estimated liquidation value. During the six months ended June 30, 2014, our investment in print textbooks, net of proceeds from textbook liquidation, was $34.0 million. We recently entered into an agreement whereby, for an initial period of eight months, Ingram Content Group (Ingram) will own and provide the fulfillment services for a portion of the books rented by our student customers. We expect Ingram will purchase approximately $25 million of textbooks during the initial period, some directly from Chegg and some in the open marketplace.

We also increasingly use our website to liquidate textbooks from our textbook library, which allows us to generate greater recovery on our textbooks compared to bulk liquidations, while at the same time providing students substantial savings over the retail price of a new book. We are able to adjust what we liquidate based on expected rental demand. As an example, in the second half of 2013, we elected to optimize our textbook library more for rental than liquidation in anticipation of greater rental demand for the winter rush cycle. This decision led to less site liquidations in that quarter of the books that typically have higher source cost recovery but also increased our available inventory of books for rent. We source both new and used print textbooks for rental or resale from wholesalers, publishers and students. Purchasing used textbooks allows us to reduce the investments necessary to maintain our textbook library while at the same time attracting students to our website by offering them more for their textbooks than they could generally get by selling them back to their campus bookstore. Through these refinements to our model, we have achieved greater overall efficiency, enabling us to lower our per unit rental rates, which has driven revenue growth and, to a greater extent, print textbook unit volumes beginning in 2012.

Our Digital Offerings Business

Our digital offerings for students include the Student Hub, our connected learning platform, our web-based, multiplatform eTextbook Reader, eTextbooks and supplemental materials from approximately 120 publishers, which we offer as a rental-equivalent solution and for free for students awaiting the arrival of their print textbook rental, online tutoring, our Chegg Study service, College Admissions and Scholarship Services and free course planning and internship services. In addition, we offer enrollment marketing services to colleges, allowing them to reach interested college-bound high school students that use our College Admissions and Scholarship Services. We also work with leading brands, such as Adobe, Microsoft, Red Bull and Serve from American Express, to provide students with discounts, promotions and other products that, based on student feedback, delight them. For example, for Red Bull, we inserted a free can of Red Bull in select textbook rental shipments to students, and Microsoft sponsored a "Free Study Week," which included free access to our Chegg Study service as well as additional free study materials. All of our brand advertising services and the discounts, promotions and other products provided to students are paid for by the brands.

Students typically pay to access eTextbooks for the academic term or subscribe for other services such as Chegg Study on a monthly or annual basis, while colleges subscribe to our enrollment marketing services and brands pay us depending on the nature of the campaign. While none of our digital offerings individually has amounted to more than 10% of our net revenues to date, in the aggregate these offerings amounted to 29% and 26% of net revenues during the three and six months ended June 30, 2014, up from less than 1% in 2010.

Seasonality of Our Business

A substantial majority of our revenue is recognized ratably over the term the student rents our textbooks or has access to our digital offerings. This generally results in our highest revenue in the fourth quarter as it reflects more days of the academic year and our lowest revenue in the second quarter as colleges conclude their academic year for summer and there are fewer days of rentals. The variable expenses associated with our shipments of textbooks and marketing activities are highest in the first and third quarters as shipping and other fulfillment costs and marketing expenses are expensed when incurred, generally at the beginning of academic terms. As a result of these factors, the most concentrated periods for our revenue and expenses do not necessarily coincide, and comparisons of our quarterly operating results on a sequential basis may not provide meaningful insight into our overall financial performance.


Results of Operations

The following table summarizes our historical consolidated statements of
operations (in thousands):



                                         Three Months Ended             Six Months Ended
                                              June 30,                      June 30,
                                        2014            2013           2014           2013
Net revenues                         $    64,492     $   55,857     $  138,885     $  116,872
Cost of revenues (1)                      38,596         29,607        104,081         79,061

Gross profit                              25,896         26,250         34,804         37,811

Operating expenses(1):
Technology and development                12,189          9,799         23,509         19,352
Sales and marketing                       14,817          8,674         29,844         22,422
General and administrative                10,654          7,574         20,494         14,283
(Gain) loss on liquidation of
textbooks                                 (2,122 )        1,670         (3,800 )         (609 )
Total operating expenses                  35,538         27,717         70,047         55,448
Loss from operations                      (9,642 )       (1,467 )      (35,243 )      (17,637 )
Interest and other income (expense),
net                                           29         (1,734 )           88         (3,204 )
Loss before provision for (benefit
from) income taxes                        (9,613 )       (3,201 )      (35,155 )      (20,841 )

Provision for (benefit from) income
taxes                                     (1,367 )          152         (1,150 )          337
Net loss                             $    (8,246 )   $   (3,353 )   $  (34,005 )   $  (21,178 )

(1) Includes stock-based
compensation expense as follows:
Cost of revenues                     $       134     $      142     $      312     $      296
Technology and development                 2,635          1,730          5,017          3,344
Sales and marketing                        2,263            450          3,595          1,499
General and administrative                 3,449          1,559          6,487          2,892
Total stock-based compensation
expense                              $     8,481     $    3,881     $   15,411     $    8,031

The following table summarizes our historical condensed consolidated statements of operations data as a percentage of net revenues for the periods shown:

                                        Three Months                      Six Months
                                            Ended                           Ended
                                          June 30,                         June 30,
                                    2014             2013            2014            2013
Net revenues                             100 %           100 %           100 %           100 %
Cost of revenues                          60              53              75              68

Gross profit                              40              47              25              32

Operating expenses:
Technology and development                19              18              17              17
Sales and marketing                       23              16              21              19
General and administrative                16              14              15              12
(Gain) loss on liquidation of
textbooks                                 (3 )             3              (3 )            (1 )
Total operating expenses                  55              51              50              47
Loss from operations                     (15 )            (4 )           (25 )           (15 )
Interest and other income
(expense), net                             -              (2 )             -              (3 )
Loss before provision for
(benefit from) income taxes              (15 )            (6 )           (25 )           (18 )
Provision for (benefit from)
income taxes                              (2 )             -              (1 )             -
Net loss                                 (13 )%           (6 )%          (24 )%          (18 )%


Three and Six Months Ended June 30, 2014 and 2013

Net Revenues

The following table sets forth our net revenues for the periods shown, in
addition to revenue details for our print textbook business and digital
offerings business (dollars in thousands):



                                   Three Months Ended
                                        June 30,                  Change
                                    2014          2013          $         %
               Print textbooks   $   45,796     $ 43,748     $ 2,048        5 %
               Digital offerings     18,696       12,109       6,587       54
               Net revenues      $   64,492     $ 55,857     $ 8,635       15 %




                                    Six Months Ended
                                        June 30,                  Change
                                   2014          2013           $          %
               Print textbooks   $ 102,421     $  94,043     $  8,378        9 %
               Digital offerings    36,464        22,829       13,635       60
               Net revenues      $ 138,885     $ 116,872     $ 22,013       19 %

Net revenues in the three months ended June 30, 2014 increased $8.6 million, or 15%, compared to the same period during 2013 as a result of an increase in our digital offerings of 54% primarily from growth in new memberships of our Chegg Study service, an increase in eTextbook volumes, and growth in our enrollment marketing services. Digital offerings represented 29% and 22% of net revenues during the three months ended June 30, 2014 and 2013, respectively. Revenue from print textbooks increased $2.0 million in the three months ended June 30, 2014 as compared to the same period last year as a result of higher rental units and sales of textbooks.

Net revenue in the six months ended June 30, 2014 increased $22.0 million, or 19%, compared to the same period during 2013 as a result of an increase in our digital offerings of 60% primarily from growth in new memberships of our Chegg Study service, an increase in eTextbook volumes, growth in brand advertising and growth in our enrollment marketing services. Digital offerings represented 26% and 20% of net revenues during the six months ended June 30, 2014 and 2013, respectively. Revenue from print textbooks increased $8.4 million in the six months ended June 30, 2014 as compared to the same period last year as a result of higher rental units and sales of textbooks.

We anticipate that our digital offerings will continue to grow at a rate greater than our overall revenue growth in future periods.

Cost of Revenues

The following table sets forth our cost of revenues for the periods shown
(dollars in thousands):



                                                 Three Months Ended
                                                      June 30,                  Change
                                                  2014          2013          $         %
 Cost of revenues(1)                           $   38,596     $ 29,607     $ 8,989       30 %

 (1) Includes stock-based compensation expense $      134     $    142     $    (8 )     (6 )%




                                                  Six Months Ended
                                                      June 30,                 Change
                                                 2014          2013          $          %
 Cost of revenues(1)                           $ 104,081     $ 79,061     $ 25,020       32 %

 (1) Includes stock-based compensation expense $     312     $    296     $     16        5 %


Cost of revenues in the three months ended June 30, 2014 increased $9.0 million, or 30%, compared to the same period during 2013. The increase in absolute dollars and as a percentage of revenues for the three months ended June 30, 2014 was primarily due to an increase in, textbook depreciation of $3.7 million, write-offs and reserves related to our textbook library of $2.2 million and the cost of digital content of $1.1 million. The cost of digital content increased during the three months ended June 30, 2014 due to our expansion of digital content solutions made available to students. In addition we experienced an increase in the cost of textbooks purchased of $2.3 million, which was primarily driven by increased unit shipments.

Cost of revenues in the six months ended June 30, 2014 increased $25.0 million, or 32%, compared to the same period during 2013. The increase in absolute dollars and as a percentage of revenues for the six months ended June 30, 2014 was primarily due to an increase in order fulfillment and payment processing costs of $4.3 million, textbook depreciation of $7.3 million, write-offs and reserves related to our textbook library of $4.5 million and the cost of digital content of $1.9 million. The costs of digital content increased during the six months ended June 30, 2014 due to our expansion of digital content solutions made available to students. In addition we experienced an increase in the cost of textbooks purchased of $6.2 million, which was primarily driven by increased unit shipments.

Operating Expenses

The following table sets forth our operating expenses for the periods shown
(dollars in thousands):



                                               Three Months Ended
                                                    June 30,                     Change
                                               2014          2013           $             %
Technology and development(1)               $   12,189     $   9,799     $  2,390            24 %
Sales and marketing(1)                          14,817         8,674        6,143            71
General and administrative(1)                   10,654         7,574        3,080            41
(Gain) loss on liquidation of textbooks         (2,122 )       1,670       (3,792 )         n/m
                                            $   35,538     $  27,717     $  7,821            28 %

(1) Includes stock-based compensation
expense of:
Technology and development                  $    2,635     $   1,730     $    905            52 %
Sales and marketing                              2,263           450        1,813           n/m
General and administrative                       3,449         1,559        1,890           121
Stock-based compensation expense            $    8,347     $   3,739     $  4,608           123 %

                                               Six Months Ended
                                                   June 30,                    Change
                                              2014         2013           $             %
Technology and development(1)               $ 23,509     $  19,352     $  4,157            21 %
Sales and marketing(1)                        29,844        22,422        7,422            33
General and administrative(1)                 20,494        14,283        6,211            43
Gain on liquidation of textbooks              (3,800 )        (609 )     (3,191 )         n/m
                                            $ 70,047     $  55,448     $ 14,599            26 %

(1) Includes stock-based compensation
expense of:
Technology and development                  $  5,017     $   3,344     $  1,673            50 %
Sales and marketing                            3,595         1,499        2,096           140
General and administrative                     6,487         2,892        3,595           124
Stock-based compensation expense            $ 15,099     $   7,735     $  7,364            95 %


_______________________

n/m - Not meaningful


Technology and Development

Technology and development expenses during the three months ended June 30, 2014 increased $2.4 million, or 24%, compared to the three months ended June 30, 2013. During the three months ended June 30, 2014 our employee-related expenses and stock-based compensation expenses totaled $0.8 million and $0.9 million, respectively, compared to the same period in 2013. Stock-based compensation expense increased primarily due to expense associated with restricted stock units (RSUs) for which there was no expense prior to our IPO. In addition, we experienced an increase in web hosting costs of $0.7 million. Technology and development as a percentage of net revenues was 19% of net revenues in the three months ended June 30, 2014 compared to 18% of net revenues in the three months ended June 30, 2013.

Technology and development expenses during the six months ended June 30, 2014 increased $4.2 million, or 21%, compared to the six months ended June 30, 2013. During the six months ended June 30, 2014 our employee-related expenses and stock-based compensation expenses increased by $3.2 million compared to the same period in the prior year. Stock-based compensation expense increased primarily due to expense associated with RSUs for which there was no expense prior to our IPO. In addition, we experienced an increase in web hosting costs of $1.0 million. Technology and development as a percentage of net revenues was 17% of net revenues in each of the six month periods ended June 30, 2014 and 2013.

Sales and Marketing

Sales and marketing expenses during the three months ended June 30, 2014 increased by $6.1 million, or 71%, compared to the three months ended June 30, 2013. The increase in absolute dollars and as a percentage of revenues is primarily attributable to an increase in advertising and marketing expenses of $1.0 million as a result of search engine marketing to increase customer acquisition and online or social media marketing during the period compared to the three months ended June 30, 2013. In addition, during the three months ended June 30, 2014 our employee-related expenses and stock-based compensation increased $2.4 million and $1.8 million, respectively, compared to the same period in the prior year. The increase in employee related expenses increased primarily due to a higher average headcount and stock-based compensation increased primarily due to expense associated with RSUs for which there was no expense prior to our IPO. Sales and marketing expenses as a percentage of net revenues increased 23% during the three months ended June 30, 2014 compared to 16% of net revenues during the three months ended June 30, 2013.

Sales and marketing expenses during the six months ended June 30, 2014 increased by $7.4 million, or 33%, compared to the six months ended June 30, 2013. The increase in absolute dollars and as a percentage of revenues is primarily attributable to an increase in advertising and marketing expenses of $2.1 million as a result of search engine marketing to increase customer acquisition and online or social media marketing during the period compared to the six months ended June 30, 2013. In addition, during the six months ended June 30, 2014 our employee-related expenses and stock-based compensation increased $3.1 million and $2.1 million, respectively, compared to the same period in the prior year. The increase in employee related expenses increased primarily due to a higher average headcount and stock-based compensation increased primarily due to expense associated with RSUs for which there was no expense prior to our IPO. Sales and marketing expenses as a percentage of net revenues increased 21% during the six months ended June 30, 2014 compared to 19% of net revenues during the six months ended June 30, 2013.

General and Administrative

. . .

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