2023-05-02 05:44:11 ET
Summary
- Chegg's new account growth slows down due to increased student interest in ChatGPT.
- The company attempts to counter AI-driven competition with the launch of CheggMate.
- Chegg's financials weaken, raising questions about its long-term prospects in the AI-dominated education market.
Chegg ( CHGG ), a once-promising online learning platform, is facing significant challenges in the rapidly evolving education sector. The company's Q1 earnings call revealed a decline in new account growth, attributed to the rise of AI-driven solutions like ChatGPT. Chegg has attempted to counter this threat with its own AI-powered tool, CheggMate, but concerns remain about its ability to compete effectively in the emerging AI landscape. In this article, we will explore Chegg's financial performance, the growing influence of AI technologies in education, and the implications of these trends for Chegg's future prospects. After consideration, we believe Chegg continues to be overvalued even at $8.00 per share and thus assign the stock a Sell rating.
Scary Q1 Warning
Chegg's shares are under significant pressuring following their Q1 earnings call . Management noted that in the first two month of the quarter, Chegg experienced no significant impact from ChatGPT on its new account growth. However, since March, there has been a considerable spike in student interest in ChatGPT, which has now started to affect Chegg's new customer growth rate. This warning spooked investors, to say the least.
Chegg's acknowledgment of customers on the margin who might have paid for its services now trying ChatGPT indicates that the company is facing significant challenges in the AI-driven market. Despite Chegg's claim of still attracting millions of new customers each year, with high renewal rates and a high take rate for Chegg Study, we believe that the company's future success is uncertain, especially as it contends with the rapid adoption of AI solutions like ChatGPT.
CheggMate or CheckMate?
Chegg's recent announcement of the release of its new generative AI companion tool, CheggMate, powered by OpenAI's GPT-4, marks the company's commitment to adopting AI technology in the education space. During a fireside chat between Chegg CEO Dan Rosensweig and OpenAI CEO Sam Altman at the ASU+GSV Summit , they discussed the implications of ChatGPT for Chegg and the positive response it has received in the education sector. Despite initial skepticism from teachers, many now advocate for its implementation in schools, recognizing the benefits of personalized and efficient learning.
Rosensweig emphasized that Chegg has decided to go all-in on AI and aims to be at the forefront of this technology in education. The rapid rollout of CheggMate, which combines GPT-4 with Chegg's datasets and learning professionals, demonstrates the company's dedication to embracing AI. While the long-term implications remain uncertain, Chegg is moving forward with the belief that AI is the future of education.
However, it is too early to determine the impact of integrating generative AI into Chegg's offerings and how it will affect monetization efforts, customer adoption and retention, and cost structure. After Chegg's Q1 earnings, it has become clear that ChatGPT is much more of a threat than a partner, contrary to the impression given by Rosensweig's chat with Sam Altman.
With the limited early access to CheggMate scheduled for May, we will be particularly interested in details surrounding CheggMate's pricing, effects on the company's cost structure due to AI implementation, customer dynamics and interest in the technology, and trends in the competitive landscape given the rise and adoption of AI broadly.
CheggMate, blending Chegg's platform of 150,000 subject-matter experts and proprietary datasets with OpenAI's GPT-4 model, aims to provide a highly personalized and interactive learning experience. The AI-generated conversational tool can generate quiz and test banks, recommend content based on individual learner needs, and provide context and support through conversation.
It is worth noting that ramping up CheggMate will require significant investment at a time when the company's financials are not strong, with 2022 revenues down 1.2% and 2023 expected to be down at least 2%. While we commend Chegg for its swift adoption of the latest AI technology, we maintain a cautious stance due to the uncertainties surrounding the long-term impact of AI on the company and the broader education sector, as well as the financial challenges that the company is currently facing.
Financials and Valuation
Chegg experienced a substantial boost from the COVID pandemic, as students were forced to transition to online learning, driving increased demand for Chegg's tutoring services and answer banks. This surge in demand led to a remarkable 67% increase in subscribers in 2020 and a 19% jump in 2021. However, this growth lost momentum in 2022, slowing down to just 4.8% while sales declined by 1.2%.
It is important to highlight that we are not discussing EPS here, as Chegg's management refers to a highly adjusted non-GAAP EPS. In fact, with the exception of 2022, GAAP EPS has consistently been negative, including consensus estimates for 2023, which forecast -$0.01 in EPS. Consequently, we do not believe Chegg is a profitable company.
Prior to its disappointing Q1 earnings, the stock traded at 3x EV/Sales (based on forward 12-month estimates). Assuming the stock gets cut in half, it would trade at 1.5x sales, which may attract bargain hunters. However, we would caution that an unprofitable company expected to grow negatively by 2% in 2023 hardly represents a "value" opportunity.
Furthermore, given the weakness observed in March and the rapid adoption of ChatGPT, we believe it is unlikely that the company will meet these numbers. As a result, we argue that the stock remains considerably overvalued even at $8.00 per share. In our opinion, investors should exercise caution and consider the risks associated with Chegg's slowing growth, lack of profitability, and the increasing competition from AI-driven solutions such as ChatGPT.
Conclusion
As Chegg contends with the rapid adoption of AI solutions like ChatGPT, its future success remains uncertain. While the company has demonstrated its commitment to embracing AI technology with the launch of CheggMate, it is unclear whether this tool will be enough to compete effectively in the AI-driven market. Furthermore, Chegg's deteriorating financials and lack of profitability raise concerns about its ability to withstand the challenges of this new landscape. Investors should exercise caution and consider the risks associated with Chegg's slowing growth, increasing competition from AI-driven solutions, and the uncertainties surrounding the long-term impact of AI on the education sector.
For further details see:
Chegg's Q1 Earnings: A Sign Of AI-Driven Disruption In The Education Space