Greetings and welcome to Chegg, Inc. Third Quarter 2024 Earnings Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Tracey Ford, Vice President of Investor Relations. Thank you. You may begin.

Good afternoon. Thank you for joining Chegg's third quarter 2024 conference call. On today's call are Nathan Schultz, President and CEO; and David Longo, Chief Financial Officer. A copy of our earnings press release, along with our investor presentation, is available on our Investor Relations website, investor.chegg.com. A replay of this call will also be available on our website. We routinely post information on our website and intend to make important announcements on our media center website at chegg.com/mediacenter. We encourage you to make use of these resources. Before we begin, I would like to point out that during the course of this call, we will make forward-looking statements regarding future events, including the future financial and operating performance of the company. These forward-looking statements are subject to material risks and uncertainties that could cause actual results to differ materially from those in the forward-looking statements. We caution you to consider the important factors that could cause actual results to differ materially from those in the forward-looking statements. In particular, we refer you to the cautionary language included in today's earnings release and the risk factors described in Chegg's annual report on Form 10-K filed with the Securities and Exchange Commission on February 20, 2024 and Chegg's quarterly report on Form 10-Q filed with the Securities and Exchange Commission on November 12, 2024 as well as our other filings with the SEC. Any forward-looking statements that we make today are based on assumptions that we believe to be reasonable as of this date. We undertake no obligation to update these statements as a result of new information or future events. During this call, we will present both GAAP and non-GAAP financial measures. Our GAAP results and GAAP to non-GAAP reconciliations can be found in our earnings press release and the investor slide deck found on our IR website, investor.chegg.com. We also recommend you review the investor data sheet which is also posted on our IR website. Now, I will turn the call over to Nathan.

Thank you, Tracey. Hello, everyone and thank you for joining Chegg's third quarter earnings call. I'll start today by walking you through our Q3 results and then discuss important shifts in our competitive landscape and what they mean for our business going forward. In Q3, while the global education industry continues to experience tremendous change, we have shown early progress against the strategic plan we outlined in June. As a result of this work, in Q3, we delivered better-than-expected revenue of $137 million and $22 million in adjusted EBITDA. Engagement remained high, with the number of questions asked in the quarter up 79% year-over-year and our Q3 Chegg Study and Chegg Study Pack monthly retention rate increased 30 basis points year-over-year. However, technology shifts have created headwinds for our industry and Chegg's business specifically. Recent advancements in the AI search experience and the adoption of free and paid generative AI services by students have resulted in challenges for Chegg. These factors are adversely affecting our business outlook and require us to refocus and adjust the size of our business. Even in the phase of adversity, there continues to be a large market of students looking for high-quality, proven learning experiences that Chegg provides. We continue to enthusiastically serve this audience and I remain optimistic in the outlook for us to extend our brand, individualize our products and weather these challenges. The first impact I'd like to discuss is Google's broad rollout of its AI overviews, search experience, or AIO which displays AI-generated content at the top of the search results page. This experience keeps users on the Google search results page instead of leaving them to third-party sites such as Chegg. This rollout has been rapid and while we've been monitoring the development of AIO all year, it was not until mid-August that the search experience significantly expanded. It's our belief that the prevalence of AIO will only continue to increase and that Google, in an attempt to maintain market share and shifting from being a search origination point to the destination, is disintermediating content sites like Chegg. Second, across our industry, there has been a continued increase in the adoption of free and paid generative AI products. This has been widely reported and substantiated in the industry research; students are increasingly turning to generative AI for academic support for homework and exams. This issue impacts the education ecosystem at large, including universities and educational technology companies broadly. Where students see generative AI products like ChatGPT as a strong alternative to very specialized solutions for education such as Chegg. These factors, the speed and scale of Google AIO's rollout and student adoption of generative AI products have negatively impacted our industry and our business. We have seen a sharp decline in overall traffic and therefore, a decline in our outlook on revenue. Global nonsubscriber traffic to Chegg declined year-over-year, 8% in Q2, 19% in Q3, and we exited Q3 with trends looking even more unfavorable at negative 37% year-over-year for the month of October. We've taken all this into account and consequently, we do not expect to meet our 2025 goals of 30% adjusted EBITDA margin and $100 million in free cash flow. Earlier this year, we undertook a strategic restructuring based on the environment in which we are operating. Since then, these new factors have come into play with immense speed and impact. As a result, we are undertaking an additional restructuring to further manage costs and align with the market. Effective immediately, we are initiating a broad restructuring that will impact all groups across the company, where we will reduce headcount by an additional 21%. We anticipate that these actions, along with additional operating expense savings will result in an annualized non-GAAP cost savings of $60 million to $70 million in 2025. The cost savings from the restructuring announced in June, coupled with the restructuring announced today will result in a combined non-GAAP savings of $100 million to $120 million in 2025. Even with this, we remain optimistic that there is an audience for Chegg. While it's clear that some students will favor generative AI options, we believe our sale is a large market of students who care about learning and are seeking products that improve their competency and outcomes. In an August 2024 point-data study, we found that over 75% of high school and college students in North America show a high to medium willingness to pay for online educational tools if they significantly improve academic performance. Therefore, we believe there continues to be a substantial audience looking for high-quality content and proven learning expertise. This is what differentiates Chegg from other generative AI tools today and why millions of learners depend on Chegg to provide meaningful early experiences with the highest quality content possible. Our 15 years of deep expertise in understanding students, applying advanced learning science to subjects and topics students learn, providing an archive of 132 million high-quality solutions and human support output, has created a deep trust and awareness of Chegg. That's why students continue to come directly to Chegg even as competitive environments evolve. We've taken steps towards the strategic plan we laid out in June. We remain committed to developing a verticalized and individualized experience for education and supporting students throughout the entire learning journey, starting with academic support and eventually functional support. Let me acknowledge the progress we have made on our strategic plan in the third quarter. We launched our small steps, Big Win brand marketing campaign which is showing early signs of progress with year-over-year improvements and conversion rates across many of our paid marketing channels. We introduced a content quality and satisfaction guarantee, differentiating our service against generative AI and building trust and loyalty with subscribers. While it's still early, it is driving a lift in new subscriber conversion rates. We implemented an AI arena that allows us to evaluate and introduce new frontier AI models in real-time to deliver the most accurate solutions for students and integrate AI into the full learning journey. We upgraded our Q&A experience to align with our drive towards providing an individualized and adaptive learning solution. This effort has already shown an improvement in user engagement retention. We launched an app on Discord as well as an extension on Chrome to reach students where they're already spending time. These efforts connect study activities across sites, engage them with our products and create new pathways for product-driven growth which we expect will reduce our reliance on SEO. We moved to a new vendor-based commerce platform which will reduce our costs, provide flexibility, and allow us to move faster as we continue to evolve our pricing and packaging programs. And finally, we launched four direct institutional partnerships, providing access to Chegg Study paid for by the institutional partner. These pilots allow us to gather valuable insights on how Chegg can enhance classroom learning supporting our goal of diversifying our customer acquisition and revenue streams while strengthening Chegg's role in improving student learning outcomes. As we head into the spring semester, you will continue to see our commitment to building and generating momentum with our brand traffic and product capabilities. We will continue to raise brand awareness with a new spring brand campaign. Our creative strategy built on Chegg's long legacy of empowering students and our unique caring approach. The plan will activate across the full funnel which we believe will bring new users in, create strong consideration and connection, and ultimately drive emerging. Based on what we learned this fall from the Small Steps Big Wins program, we believe this strategy will bring both audience expansion and acquisition efficiency. On the product front, we will continue delivering individualized learning solutions, specifically focusing on expanding into two of the most highly relevant use cases: practice and solution comparison, due to durable needs and corollary behaviors in supporting learning. While we acknowledge the significance of the headwinds we covered earlier, Chegg has a deep legacy of serving students and we believe our brand and product experiences are resilient. We remain optimistic and we'll continue to be there for students who have grown to rely on us. And as you've heard, we've already taken steps to strengthen our experience and increase efficiencies across the business. This is a multiyear plan and will require patience, and we'll continue to manage our expenses prudently as the competitive landscape evolves. We will keep focused on doing the right things for our investors, our team, and the students we serve. Before I end, I want to thank our employees around the world for their hard work and dedication. Their efforts and talent have helped support students and bring learning to life. And while this is a trying time for us all, I'm confident we will get through it. With that, I'll turn it over to Dave.

Thank you, Nathan and good afternoon. Today, I will present our financial performance for the third quarter of 2024 and the company's outlook for Q4. We delivered a solid third quarter. During the quarter, we remained focused on executing our strategic plan to deliver our AI-driven experience to students around the world while we continue to prudently manage our expenses. We exceeded our Q3 guidance on both revenue and adjusted EBITDA and our balance sheet remains healthy. In the third quarter, total revenue was $137 million, down 13% year-over-year including subscription services revenue of $120 million which was down 14% year-over-year. We had 3.8 million subscribers in the quarter, representing a decline of 13%. Subscription services ARPU was down 2% year-over-year, a 1 point improvement from Q2 2024. Overall, monthly retention for Chegg Study and Study Pack remained strong and was up 30 basis points year-over-year. Still other revenue was $17 million, a decrease of 6% year-over-year. And we delivered adjusted EBITDA of $22 million which represented a margin of 16%. We had two notable items this quarter. First, we recorded an impairment charge against our goodwill, as a result of continued industry pressure and declines in our market capitalization. As required by accounting rules, we completed an impairment test on our goodwill which resulted in a $196 million noncash impairment charge that was excluded from our Q3 adjusted EBITDA. Second, we reached a settlement agreement to resolve the Leventhal class action securities lawsuit. We recorded $55 million for the estimated contingent liability for the loss, along with a $55 million receivable for the insurance proceeds we expect to see. These amounts had no impact on our Q3 adjusted EBITDA. While we strongly disagree with the premise of the case and deny all allegations of wrongdoing, the decision to settle the lawsuit was driven by the cost and burden of ongoing protracted class action litigation and the monetary costs of defending the case. We are happy to have this matter resolved. Free cash flow was $24 million in the third quarter. Capital expenditures were $15.8 million in the quarter, down 32% year-over-year, of which $10 million were content costs. As we harness the power of AI, CapEx content costs were down 28% year-over-year, while the number of questions asked increased 79%. Looking at the balance sheet, we ended the quarter with cash and investments of $631 million and a net cash balance of $30 million. Today, we announced that our Board of Directors has authorized an increase of $300 million as part of our securities repurchase program. The program will allow us to buy back our convertible notes and/or common stock. Chegg had approximately $3.7 million remaining from its previously announced program. As Nathan discussed earlier, we are executing a restructuring plan to better align our cost structure with recent industry challenges and the negative impact on our business. While these difficult decisions are essential for Chegg's future, we recognize the unfortunate impact they may have on many of our employees and their families. Our restructuring will impact 319 employees or approximately 21% of the company. In 2025, the company expects to realize non-GAAP expense savings of $60 million to $70 million from these employee departures, real estate savings as well as other cost rationalizations. Chegg expects to incur a $22 million to $26 million charge related to the restructuring. Of this charge, $18 million to $22 million will be incurred in cash, representing mostly severance payments, with the remaining amount representing noncash charges. We expect that a substantial portion of the cash and noncash charges will be incurred in the fourth quarter. We anticipate these activities and substantially all charges will be completed by June 30, 2025. The cost savings from the restructuring announced in June, coupled with the restructuring announced today will result in a combined non-GAAP savings of $100 million to $120 million in 2025. Moving on to Q4 guidance. We expect total revenue between $141 million and $143 million, with subscription services revenue between $126 million and $128 million. Gross margin is expected to be in the range of 67% to 68% and adjusted EBITDA between $32 million and $34 million. In closing, while our business outlook has significantly softened versus our prior expectations and these numbers are not where we want them to be. Like many companies in the ad-tech space, we are dealing with the challenges of a dynamically changing AI landscape. We are working to expand our best-in-class verticalized experience for students focused on improving their outcomes. However, it will take time to adjust to the new opportunity and see the benefits in our business results. In the meantime, we are committed to maintaining transparency about the industry and our business trends. With that, I will turn the call over to the operator for your questions.

Our first question comes from Eric Sheridan with Goldman Sachs.

When you look out to not just Q4 but over the medium term and you're trying to think about what are the key investments that have to be made in your longer-term initiatives when balanced against trying to reduce the overall cost structure of the company. Can you talk a little bit about striking that balance with an emphasis on what you see as some of the most critical investments that need to be made not sort of abandon any of the longer-term growth dynamics against some of the near-term headwinds you might be facing.

Thank you, Eric, for your question. I'm glad to address it and discuss the differentiation we plan to incorporate into our product. I want to reference our shareholder letter from June this year, which we still believe outlines a successful strategy. As I indicated in that letter and in later calls, our plans to support students academically and functionally will unfold over several years. Our core initiatives, even with the budget cuts, are simply a reallocation of our priorities, focusing on what we will tackle first, second, and third. These priorities remain centered on establishing differentiation from generic free AI products. We've already initiated some of this with the satisfaction guarantee and content satisfaction guarantee we launched in August, which has given us the flexibility to stand firmly behind the content and learning experiences we provide. The brand campaign Small Steps, Big Wins, which we will continue to develop, has also resulted in significant year-over-year increases in click-through and conversion rates across our paid marketing channels. As we enter the winter semester, you will notice further evolution of the product, especially in the areas of practice and solution comparison. These are two valuable use cases that we know students find appealing and that genuinely assist us in creating the personalized learning journey that students are willing to invest in.

Our next question comes from Ryan MacDonald, with Needham & Company.

Could you discuss the impact of the Google update and how much traffic you'll need to replace moving forward? Additionally, as we enter the fall semester and you begin testing new marketing channels, which ones are showing the most success in potentially compensating for the traffic loss from Google?

Thank you for the question, Ryan. I want to take a moment to clarify AIO reviews and emphasize that just because it appears on the page, we do not lose all of the SEO traffic that we have historically gained. Our organic listings are now positioned below the AIO review that Google displays to users. Like any company where SEO plays a role, it's not our sole focus. We have a robust direct channel and have been expanding our efforts significantly over the past 18 months, particularly on TikTok, where we aim to be an important educational partner. As mentioned in our prepared remarks, we are excited about launching our app on Discord and the Chrome extension, as we are working to integrate Chegg into students' existing workflows and introduce our products in these environments. This approach allows us to create experiences that drive new product growth directly through those channels. We will maintain a comprehensive marketing strategy across various channels and will roll out our brand campaign this winter, continuously seeking ways to engage the most impactful audience possible.

Appreciate the color on that, Nathan. Maybe just as a follow-up. As you look across the subscriber base today and student cohorts, what segment of the student population do you feel like you're having the most traction? And maybe perhaps what areas do you feel like you need to do incremental work in terms of driving, let's call it, brand awareness in conversion.

I appreciate that question because it highlights a common perception that students are often seen as one-dimensional. However, students are not solely focused on their studies throughout the semester. There are times when they need to deeply engage with the material to build their confidence and competence, while there are also moments when they'll turn to generic AI for quick answers. We are focusing on those students. Currently, we see that over 75% of U.S. high school and college students are willing to pay for a service aimed at delivering better outcomes and enhancing their confidence. Our brand campaigns are designed to communicate to students when and how to utilize Chegg effectively. We recognize that students will use a variety of services, and when they're dedicated to academic learning and preparing for exams, we want them to select Chegg. This is why our products are shifting towards areas that emphasize practice and solution comparisons, rather than just providing the next answer.

Our next question comes from Alex Fuhrman with Craig-Hallum Capital Group.

If I heard correctly in your prepared remarks, it sounds like the number of questions asked through Chegg was up pretty substantially versus last year. Just curious how you really reconcile how subscribers are down so much and yet it seems like just by the metric of questions asked, engagement is actually quite strong and wondering if there's any better way to take advantage of that and monetize your core users going forward?

That's a great question, and I appreciate it. You're correct that questions were up 79% year-over-year in Q3, and we see this as a trend that can continue as we enhance the Q&A experience I mentioned earlier. We are revamping that experience to shift from merely providing answers to creating a comprehensive learning environment. Our goal is to guide students who start with a question toward using flashcards, bookmarking content for study guides, or prompting them into additional questions. The engagement we're seeing indicates that this approach is effective. What we need to focus on now, which is why I'm encouraged by the early trends of our Small Steps Big Wins campaign, is to promote this further in our winter branding program and encourage our students, who are passionate about us, to become vocal advocates for our brand.

Our next question comes from Jeff Silber with BMO Capital Markets.

This is Ryan on for Jeff. Similar to the last question. I was just wondering on the retention rate; it seems like your retention is trending reasonably well, but you're having some difficulty getting the new subscribers in the door because of the new AI enhancements. Just wondering if you could give any thoughts on that. And where you're losing in the funnel as well.

Yes, I appreciate the question and the retention and the product experience certainly go hand in hand. Again, this is just a moment where there's clearly turbulence in the market around students and when to use certain tools. We're really stepping out and establishing ourselves as the place to come for learning and for improvements in your confidence and competency. Our brand campaigns are all around that. So when you hit the funnel now on Chegg, it is all about making sure you can understand the trust in our content. We'll continue to push on those packaging programs and those opportunities for students to explore our product a bit more before they're immediately hit with paywalls, and really get them into the product rather than just having to opt out if they're truly just looking for an answer. They are going to go somewhere else. We know that and we're going to look to get those students who are looking to learn.

Our next question comes from Josh Baer with Jefferies.

This is Ryan on for Josh from Morgan Stanley. Just curious if you guys could provide some further details on the softening in nonsubscriber traffic trends through October. I guess just like what are the primary drivers? And kind of with this in mind, what gives you guys confidence that this can stabilize over time?

Ryan, I appreciate the question. I think you heard some of this in the prepared remarks. The softness in the traffic, which therefore goes to the subscriber trends, is really a reflection of, in my opinion, the Google AIO experience, which is now rolled out and pretty pervasive. Obviously, students are seeking immediate solutions versus trying to dive deeper into learning and are getting what they need right there on the screen. So that's going to drive some softness in traffic. What we're doing about it, which is the important part, is making sure we really diversify how we get in front of students and where we get in front of them. You are seeing that specifically in the Discord app; the work we're continuing to do on TikTok, and the broad kind of push we're doing on the brand side, really stepping out there and getting the message to students on what Chegg is and where we really fit in that comparison set for when to come to us.

This concludes our question-and-answer session and concludes our conference call for today. You may disconnect your lines at this time and we thank you for your participation.