Is Chegg Stock Undervalued?

Is Chegg Stock Undervalued? Shares of education technology company Chegg (NYSE:CHGG) crashed by nearly 50 percent following the company’s Q3 earnings call. While that call included unwelcome future guidance regarding the company’s revenue and growth, the overwhelming drop in its stock is widely believed to have been an overreaction.

Since early November, the stock has been stuck below the $35 mark. Prior to that, however, the stock had traded well over the $50 price point for more than a year.

 

The rapid losses at the beginning of November were the result of the company’s announcement of substantially lower enrollments going into Q4.

 

Due to the declining enrollment, Chegg adjusted its revenue guidance to $194-196 million. Previously, the consensus estimate for Q4 had been $241 million. This lower revenue guidance triggered the massive November 2nd selloff and has kept the stock price depressed since.

 

In Q3, Chegg’s total net revenues were $171.9 million, 12 percent higher than the previous year. Revenue from the company’s core business, Chegg Services, grew by 23 percent to reach $146.8 million.

 

While this growth in Chegg’s core service revenues is overwhelmingly positive, it is very likely to be slower in coming quarters due to the lower enrollment numbers.

 

In Q3, Chegg reported earnings of $0.20 per share, up from $0.17 the previous year. This was in line with the consensus estimate, neither missing nor beating expectations.

 

In Q2, the company had strongly beaten expectations by delivering an EPS of $0.43 on a consensus estimate of $0.38.

 

In the four quarters ending in Q3 2021, Chegg beat expectations twice, missed once and met the consensus estimate in the final quarter. Overall, Chegg has a decent history of meeting or exceeding earnings expectations.

 

Chegg saw a 23 percent increase in top line sales from its core business year-over-year in Q3. Another crucial metric for the company’s growth was its number of users. As of Q3, Chegg had 4.4 million subscribers. This represented user growth of 17 percent from Q3 2020.

 

The company did, however, temper expectations for continued growth in enrollments going into Q4 and beyond. The lower enrollment was largely based on the ongoing COVID-19 pandemic and a tight labor market.

 

As a result, Chegg’s future growth is likely dependent on normalization and the end of pandemic-related pressures.

 

The market for online tutoring and homework assistance was worth $5 billion, up from $4.2 in 2018.

 

Much of this market growth was a result of distance learning during the height of COVID-19 lockdowns. While pandemic-related restrictions on in-person learning have largely faded, there are good reasons to believe that the online tutoring market will continue to grow in the years to come.

 

Chegg also has the advantage of catering to a massive demographic worldwide. The company estimates that there are around 102 million students across the globe that could benefit from its services.

 

Such a large natural market means that Chegg still has plenty of room to grow, even if that growth will proceed at a slower rate.

 

Thanks to the massive surge in education technology over the last several years, Chegg operates in a very competitive market.

 

Some of the company’s competitors include Vedantu, 2U and Varsity Tutors. However, Chegg dwarfs many of its direct competitors when it comes to revenue and user count. It should also be noted that the same labor market pressures that have affected Chegg also apply to its competition.

 

Thanks to its push to build up content on its platform, Chegg has a fairly strong moat insulating it from its competition. Chegg has more than 60 million pieces of educational content, making it very difficult to competitors to scale up quickly enough to build similar libraries. 

 

Despite its challenges, it’s almost certain that Chegg is currently undervalued. Even with slowing growth, Chegg seems well positioned to take advantage of future demand for online tutoring and homework assistance. The company’s margin is also a bright spot that shows its potential. In 2021, Chegg is projected to achieve an overall gross margin of 65-66 percent.

 

Chegg is also expanding into new areas of online learning that could bolster its growth going forward. Late in November, the company acquired Busuu, a startup focused on online language learning. The acquisition consisted of an all-cash purchase for $436 million.

 

Thanks to that purchase, Chegg will now have access to the large market for online language instruction. This market is expected to grow at a compounded annual rate of 10.2 percent over the next five years and reach $25.7 billion by the year 2027.

 

Analyst ratings suggest that Chegg is trading well below its real value. The median analyst target price for Chegg stock is $50, with a low of $37 and a high of $60. Although these targets are well below where the company traded a year ago, they are all considerably higher than the current price. Even the lowest target price would present investors with a 21 percent upside. At the median price, the upside rises to 64 percent.

 

Chegg’s stock has certainly suffered considerable losses in recent months, and the company likely faces a slowing growth rate going forward. However, it seems very probable that the selloff that began in November has overcorrected for the company’s obstacles and left it undervalued. While it is a risk, Chegg could be a decent candidate for value investors seeking bargains in today’s volatile market.

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