Chegg: Retention Rate Going Up.
Update
Edited by Brian Birnbaum and an update of my original Chegg deep dive.
Chegg continues to display signs of a potential turnaround. Namely, their retention rate is up considerably since Q2 2024, potentially suggesting newfound relevance in the marketplace.
Chegg’s traffic continues to plummet and is now down 49% YoY as a result of Google answering student questions in situ instead of redirecting traffic to Chegg. This disruption at the top of the funnel is the main driver of Chegg’s quickly worsening financials. Revenue declined 24% YoY in Q4 2024, coming in at $143.5M. As you can see in the graph below, net income (blue line) and cash from operations (purple line) exhibit similar weakness.
As more students opt to ask questions of general LLMs, Chegg’s subscriber base has also declined 21% YoY to 3.6M subscribers. However, I see above zero odds of a turnaround.
The number of subscribers is still higher than in early 2020. The declining nature of the business is now likely baked into the stock price, which trades at just 0.17 times sales. Indeed, Chegg could evolve to be an asymmetric pick if they manage to get back on track.
Chegg is now focused on leveraging its proprietary data to bring to students AI tools that are more accurate and personalized than generic LLMs. In this sense, Chegg’s proprietary dataset could prove to be a long-term structural advantage over generic AI models. The future likely involves training specialized models by infusing generalized models with proprietary data via RAGs, which stands for Retrieval Augmented Generation, as I explain in my Mondo DB deep dive.
In the Q4 2024 earnings call, Chegg management claims that they have successfully combined proprietary models with third party ones, thus delivering more value to students than general models alone. They claim to have built an AI model-agnostic infrastructure that enables them to incorporate any frontier model which maximizes value to end customers. As a result, Chegg students now allegedly enjoy a highly personalized learning experience.
See CEO Nathan Schultz’s remarks during the call:
On the product, we have significantly advanced and differentiated Chegg's AI-powered question-and-answer experience.
At the front end, we have simplified the question submission process and allowed for more natural inputs and interactions. Learners now instantly receive step-by-step explanation and reinforcement, adaptive and personalized based on their individual strengths and weaknesses.
While it’s hard to truly gauge how much value Chegg subscribers derive from these advancements, global retention is up noticeably QoQ. It came in at 82.3% in Q4 2024, up from 81.8% in the previous quarter. This is a considerable increase from the 78.5% retention in Q2 2024. As you can see in the graph below, the trend is rather appealing and likely indicative of increased student satisfaction. Further, as far as I can see in their public filings, Chegg wasn’t disclosing retention rates until Schultz’s appointment in Q2 2025.
Total questions asked on the platform were up 78% YoY by the end of Q3 2024. At the end of 2024, questions asked were up 66% versus 2023. I view this cautiously as further evidence of the potentially rising relevance of Chegg’s service. In aggregate, the rising retention and number of questions asked paint an interesting picture.
Another sign of Chegg’s business evolving in the right direction is the rising operating leverage. I consider gross profit divided by ARPU as a good indicator of the latter, because if it goes up it means Chegg is able to bring in more money by charging less. This metric is up from 2.77 to 3.3 QoQ, while ARPU has decreased from $33.6 to $31.3 in the same period.
This is also likely indicative of the business operating in a far more automated manner quarter over quarter. This serves as tentative evidence of management’s claims regarding advancements on the product side. Here’s what CFO David Longo said about this during the last earnings call:
And yes, our model ends up being super-efficient in terms of the gross margin and falling directly to the bottom line. So our overall -- if we added an incremental $1 million worth of sales, I think we're dropping $900,000 of that to the bottom line. It's just -- it's super-efficient in that sense.
This adds further potential asymmetry to the thesis, should they figure things out.
Further, management announced a series of interesting features in the Q3 2024 earnings call. Unfortunately, they provided no specific update on the evolution of said tools on the Q4 2024 call. They did announce two new features: ‘Solution Scout’ and a personalized practice and answer exam experience. The former fixes the problem of students having to triangulate between various LLMs in order to retrieve accurate information. The latter is self explanatory.
While we have no information about how students are engaging with these features beyond the aforementioned retention rate, my impression is that Chegg is moving toward genuine customer centricity. The CEO talks about features that solve real student problems in a way that comes across as coherent. It resonates along the same frequency of the rising retention rates, which continues to paint an attractive picture. Here’s an example from the Q4 2024 earnings call:
Solution Scout allows students to see side-by-side answers from multiple LLMs along Chegg's solution. But what's most important is that Chegg, through our proprietary technology, can compare and contrast the solutions, providing students a massive time save and value, and our early indications are very positive.
On a similar note, Chegg seems to now have gained traction in the enterprise market. On average in the US, 40% of students fail to graduate and, according to Schultz, this is a considerable pain point for schools. Schools thus need a solution to increase the success rate of these students, which Chegg can provide. . Schultz stated that enterprise revenue was up 45% YoY as they have onboarded customers like Total Energy and Carrefour. Further, Schultz expects to add 35 enterprise customers by the end of 2025. On top of the rising retention, this is also an interesting dynamic.
See Schultz’ remarks on this topic during the Q4 2024 call:
We're continuing to expand our business-to-institution pilot program, which began in late 2024. With five pilot programs active, we hope to work with approximately 35 additional institutions by the end of the year.
There is a tremendous opportunity to support a broader range of students in achieving their academic goals and increase persistence and graduation rates, which is a major issue in higher education today.
Meanwhile, free cash flow came in at just $4.8M, despite having paid $25M in cash outlays during the quarter. Although I welcome the positive free cash flow, both cash from operations and free cash flow are declining fast. At the moment I have no visibility into when this dynamic could stabilize. Therefore, for now I continue to study the company quarterly and have no plans to invest in it.
Until next time!
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