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EX-31.02 - EXHIBIT 31.02 - CHEGG, INCex31022017-06x30.htm
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EX-31.01 - EXHIBIT 31.01 - CHEGG, INCex31012017-06x30.htm


 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
FORM 10-Q
 
(Mark One)
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2017
or
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from _________ to _________             
Commission file number 001-36180
 
currentchegglogoa11.jpg
CHEGG, INC.
(Exact name of registrant as specified in its charter)
 
Delaware
 
20-3237489
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
3990 Freedom Circle
Santa Clara, CA, 95054
(Address of principal executive offices)
(408) 855-5700
(Registrant’s telephone number, including area code)
 



Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 (Exchange Act) during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer ¨
Accelerated filer x
Non-accelerated filer ¨
 (Do not check if a smaller reporting company)
Smaller reporting company ¨
Emerging growth company x
 
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. x
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
As of July 27, 2017, the Registrant had 96,009,084 outstanding shares of Common Stock.
 






TABLE OF CONTENTS

 
 
 
  
Page
 
 
 
 
 
  
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
  
 
 
 
 
 
 
 
 
 
 
 
  
 
 
  
 
  
 
 
 
 
  
  

Unless the context requires otherwise, the words “we,” “us,” “our,” “Company,” and “Chegg” refer to Chegg, Inc. and its subsidiaries taken as a whole.

“Chegg,” “Chegg.com,” “Chegg Study,” “Chegg for Good,” “Student Hub,” “internships.com,” “Research Ready,” “EasyBib” and “#1 In Textbook Rentals,” are some of our trademarks used in this Quarterly Report on Form 10-Q. Solely for convenience, our trademarks, trade names, and service marks referred to in this Quarterly Report on Form 10-Q appear without the ®, ™ and SM symbols, but those references are not intended to indicate, in any way, that we will not assert, to the fullest extent under applicable law, our rights to these trademarks and trade names. Other trademarks appearing in this Quarterly Report on Form 10-Q are the property of their respective holders.


2



NOTE ABOUT FORWARD-LOOKING STATEMENTS

This Quarterly Report on Form 10-Q contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. All statements contained in this Quarterly Report on Form 10-Q other than statements of historical fact, including statements regarding our future results of operations and financial position, our business strategy and plans, and our objectives for future operations, are forward-looking statements. The words “believe,” “may,” “will,” “estimate,” “continue,” “anticipate,” “intend,” “project,” “endeavor,” “expect,” “plans to,” “if,” “future,” and similar expressions are intended to identify forward-looking statements. We have based these forward-looking statements largely on our current expectations and projections about future events and trends that we believe may affect our financial condition, results of operations, business strategy, short-term and long-term business operations and objectives, and financial needs. These forward-looking statements are subject to a number of risks, uncertainties, and assumptions, including those described in Part II, Item 1A, “Risk Factors” in this Quarterly Report on Form 10-Q. Moreover, we operate in a very competitive and rapidly changing environment. New risks emerge from time to time. It is not possible for our management to predict all risks, nor can we assess the impact of all factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements we may make. In light of these risks, uncertainties, and assumptions, the future events and trends discussed in this Quarterly Report on Form 10-Q may not occur and actual results could differ materially and adversely from those anticipated or implied in the forward-looking statements.

We undertake no obligation to revise or publicly release the results of any revision to these forward-looking statements, except as required by law. Given these risks and uncertainties, readers are cautioned not to place undue reliance on such forward-looking statements.

3


PART I - FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS (UNAUDITED)

CHEGG, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except for number of shares and par value)
 
June 30, 2017
 
December 31, 2016
Assets
(unaudited)
 
*
Current assets
 
 
 
Cash
$
66,086

 
$
77,329

Accounts receivable, net of allowance for doubtful accounts of $180 and $436 at June 30, 2017 and December 31, 2016, respectively
8,750

 
10,451

Prepaid expenses
6,950

 
2,579

Other current assets
7,571

 
21,014

Total current assets
89,357

 
111,373

Textbook library, net

 
2,575

Property and equipment, net
40,294

 
35,305

Goodwill
116,239

 
116,239

Intangible assets, net
17,970

 
20,748

Other assets
4,297

 
4,412

Total assets
$
268,157

 
$
290,652

Liabilities and stockholders' equity
 
 
 
Current liabilities
 
 
 
Accounts payable
$
809

 
$
5,175

Deferred revenue
12,457

 
14,836

Accrued liabilities
27,861

 
44,319

Total current liabilities
41,127

 
64,330

Long-term liabilities
 
 
 
Total other long-term liabilities
4,974

 
4,383

Total liabilities
46,101

 
68,713

Commitments and contingencies (Note 6)

 

Stockholders' equity:
 
 
 
Preferred stock, $0.001 par value – 10,000,000 shares authorized, no shares issued and outstanding

 

Common stock, $0.001 par value 400,000,000 shares authorized; 95,684,945 and 91,708,839 shares issued and outstanding at June 30, 2017 and December 31, 2016, respectively
96

 
92

Additional paid-in capital
605,638

 
593,351

Accumulated other comprehensive income (loss)
76

 
(176
)
Accumulated deficit
(383,754
)
 
(371,328
)
Total stockholders' equity
222,056

 
221,939

Total liabilities and stockholders' equity
$
268,157

 
$
290,652

* Derived from audited consolidated financial statements as of and for the year ended December 31, 2016.
See Notes to Condensed Consolidated Financial Statements.

4


CHEGG, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(in thousands, except per share amounts)
(unaudited)
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
Net revenues:
 
 
 
 
 
 
 
Rental
$

 
$
12,006

 
$

 
$
26,570

Services
56,317

 
37,795

 
118,919

 
77,547

Sales

 
3,235

 

 
15,573

Total net revenues
56,317

 
53,036

 
118,919

 
119,690

Cost of revenues:
 
 
 
 
 
 
 
Rental

 
5,346

 

 
18,859

Services
17,042

 
12,606

 
38,438

 
26,481

Sales

 
3,455

 

 
14,990

Total cost of revenues
17,042

 
21,407

 
38,438

 
60,330

Gross profit
39,275

 
31,629

 
80,481

 
59,360

Operating expenses:
 
 
 
 
 
 
 
Technology and development
19,899

 
16,033

 
39,201

 
32,991

Sales and marketing
10,098

 
11,747

 
26,062

 
26,193

General and administrative
14,501

 
14,569

 
29,843

 
27,235

Restructuring charges (credits)
59

 
(154
)
 
959

 
(198
)
Gain on liquidation of textbooks

 
(2,191
)
 
(4,766
)
 
(3,196
)
Total operating expenses
44,557

 
40,004

 
91,299

 
83,025

Loss from operations
(5,282
)
 
(8,375
)
 
(10,818
)
 
(23,665
)
Interest expense and other (expense) income, net:
 
 
 
 
 
 
 
Interest expense, net
(18
)
 
(61
)
 
(37
)
 
(121
)
Other (expense) income, net
(9
)
 
(63
)
 
(208
)
 
2

Total interest expense and other (expense) income, net
(27
)
 
(124
)
 
(245
)
 
(119
)
Loss before provision for income taxes
(5,309
)
 
(8,499
)
 
(11,063
)
 
(23,784
)
Provision for income taxes
716

 
509

 
1,363

 
909

Net loss
$
(6,025
)
 
$
(9,008
)
 
$
(12,426
)
 
$
(24,693
)
Net loss per share, basic and diluted
$
(0.06
)
 
$
(0.10
)
 
$
(0.13
)
 
$
(0.28
)
Weighted average shares used to compute net loss per share, basic and diluted
95,047

 
90,416

 
93,943

 
89,767

See Notes to Condensed Consolidated Financial Statements.


5


CHEGG, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (LOSS)
(in thousands)
(unaudited)
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
Net loss
$
(6,025
)
 
$
(9,008
)
 
$
(12,426
)
 
$
(24,693
)
Other comprehensive income (loss):
 
 
 
 
 
 
 
Change in unrealized (loss) gain on available for sale investments

 
(8
)
 

 
25

Change in foreign currency translation adjustments, net of tax
153

 
(71
)
 
252

 
(36
)
Other comprehensive income (loss)
153

 
(79
)
 
252

 
(11
)
Total comprehensive loss
$
(5,872
)
 
$
(9,087
)
 
$
(12,174
)
 
$
(24,704
)
See Notes to Condensed Consolidated Financial Statements.


6


CHEGG, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
 
Six Months Ended June 30,
 
2017
 
2016
Cash flows from operating activities
 
 
 
Net loss
$
(12,426
)
 
$
(24,693
)
Adjustments to reconcile net loss to net cash provided by (used in) operating activities:
 
 
 
Textbook library depreciation expense

 
7,220

Other depreciation and amortization expense
9,093

 
6,068

Share-based compensation expense
17,377

 
22,491

Gain on liquidation of textbooks
(4,766
)
 
(3,196
)
Loss from write-offs of textbooks
314

 
473

Interest accretion on deferred consideration
(626
)
 

Other non-cash items
(55
)
 
(18
)
Change in assets and liabilities, net of acquisition of business:
 
 
 
Accounts receivable
1,989

 
2,607

Prepaid expenses and other current assets
9,072

 
(10,908
)
Other assets
115

 
(398
)
Accounts payable
(3,591
)
 
1,016

Deferred revenue
(2,379
)
 
(650
)
Accrued liabilities
1,181

 
(6,942
)
Other liabilities
858

 
(193
)
Net cash provided by (used in) operating activities
16,156

 
(7,123
)
Cash flows from investing activities
 
 
 
Purchases of textbooks

 
(551
)
Proceeds from liquidations of textbooks
6,943

 
14,794

Purchases of marketable securities

 
(7,633
)
Proceeds from sale of marketable securities

 
22,830

Maturities of marketable securities

 
6,844

Purchases of property and equipment
(12,507
)
 
(14,217
)
Acquisition of business, net of cash acquired

 
(25,164
)
Net cash used in investing activities
(5,564
)
 
(3,097
)
Cash flows from financing activities
 
 
 
Common stock issued under stock plans, net
9,765

 
1,110

Payment of taxes related to the net share settlement of RSUs
(14,850
)
 
(8,240
)
Payment of deferred cash consideration related to acquisitions
(16,750
)
 

Net cash used in financing activities
(21,835
)
 
(7,130
)
Net decrease in cash and cash equivalents
(11,243
)
 
(17,350
)
Cash and cash equivalents, beginning of period
77,329

 
67,029

Cash and cash equivalents, end of period
$
66,086

 
$
49,679

 
 
 
 
Supplemental cash flow data:
 
 
 
Cash paid during the period for:
 
 
 
Interest
$
48

 
$
19

Income taxes
$
821

 
$
252

Non-cash investing and financing activities:
 
 
 
Accrued purchases of long-lived assets
$
1,144

 
$
1,193

See Notes to Condensed Consolidated Financial Statements.

7


CHEGG, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Note 1. Background and Basis of Presentation

Company and Background

Chegg, Inc. (Chegg, the Company, we, us, or our), headquartered in Santa Clara, California, was incorporated as a Delaware corporation in July 2005. Chegg is the leading student-first connected learning platform. Our goal is to help students transition from high school to college to career, with a view to improving student outcomes. We help students study more effectively for college admission exams, find the right college to accomplish their goals, get better grades and test scores while in school, and find internships that allow them to gain valuable skills to help them enter the workforce after college. Our student-first connected learning platform offers products and services that help students transition from high school to college to career.
Basis of Presentation

The accompanying condensed consolidated balance sheet as of June 30, 2017, the condensed consolidated statements of operations and the condensed consolidated statements of comprehensive income (loss) for the three and six months ended June 30, 2017 and 2016, the condensed consolidated statements of cash flows for the six months ended June 30, 2017 and 2016 and the related footnote disclosures are unaudited. In the opinion of management, the accompanying unaudited condensed consolidated financial statements contain all adjustments, including normal recurring adjustments, necessary to present fairly our financial position as of June 30, 2017 and our results of operations for the three and six months ended June 30, 2017 and 2016, and cash flows for the six months ended June 30, 2017 and 2016. Our results of operations for the three and six months ended June 30, 2017 and cash flows for the six months ended June 30, 2017 are not necessarily indicative of the results to be expected for the full year.

We operate in a single segment. Our fiscal year ends on December 31 and in this report we refer to the year ended December 31, 2016 as 2016.

The condensed consolidated financial statements and related financial information should be read in conjunction with the audited consolidated financial statements and the related notes thereto that are included in our Annual Report on Form 10-K for the year ended December 31, 2016 (2016 Annual Report on Form 10-K) filed with the U.S. Securities and Exchange Commission (SEC).

Except for our textbook library, there have been no material changes to our significant accounting policies as compared to the significant accounting policies described in our 2016 Annual Report on Form 10-K.

We no longer consider our textbook library to be a significant accounting policy as we no longer have a balance as of March 31, 2017.

Reclassification of Prior Period Presentation

In order to conform with current period presentation, $0.1 million and $0.5 million of sales revenues during the three and six months ended June 30, 2016, respectively, have been reclassified to services revenues and $0.3 million and $0.7 million of sales cost of revenues during the three and six months ended June 30, 2016, respectively, have been reclassified to services cost of revenues on our condensed consolidated statements of operations. Additionally, we have reclassified $1.2 million from other current assets to accounts receivable on our condensed consolidated balance sheet as of December 31, 2016. These changes in presentation do not affect previously reported results.


8


Use of Estimates

The preparation of financial statements in conformity with generally accepted accounting principles in the United States (U.S. GAAP) requires management to make estimates, judgments, and assumptions that affect the reported amounts of assets and liabilities; the disclosure of contingent liabilities at the date of the financial statements; and the reported amounts of revenues and expenses during the reporting periods. Significant estimates, assumptions, and judgments are used for, but not limited to: revenue recognition, recoverability of accounts receivable, restructuring charges, share-based compensation expense including estimated forfeitures, accounting for income taxes, useful lives assigned to long-lived assets for depreciation and amortization, impairment of goodwill and long-lived assets, and the valuation of acquired intangible assets. We base our estimates on historical experience, knowledge of current business conditions, and various other factors we believe to be reasonable under the circumstances. These estimates are based on management’s knowledge about current events and expectations about actions we may undertake in the future. Actual results could differ from these estimates, and such differences could be material to our financial position and results of operations.

Recent Accounting Pronouncements

Except for the following accounting pronouncements, there have been no material changes to recent accounting pronouncements as compared to recent accounting pronouncements described in our 2016 Annual Report on Form 10-K.

In May 2017, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) No. 2017-09 Compensation - Stock Compensation (Topic 718): Scope of Modification Accounting. ASU 2017-09 clarifies when changes to the terms or conditions of a share-based payment award must be accounted for as a modification. The guidance is effective for annual periods after December 15, 2017, with early adoption permitted, and the guidance requires a prospective application to awards modified on or after the adoption date. We have elected to early adopt this standard as of July 1, 2017 and will account for any modifications after this date under the new guidance.

In January 2017, the FASB issued ASU No. 2017-04 Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment. ASU 2017-04 eliminates step 2 from the annual goodwill impairment test no longer requiring the comparison of the implied fair value of a reporting unit's goodwill with the carrying amount of goodwill. Early adoption is permitted and the guidance requires a prospective application. The guidance is effective for annual periods after December 15, 2019, and we are currently in the process of evaluating the impact of this guidance.

In January 2017, the FASB issued ASU No. 2017-01 Business Combinations (Topic 805): Clarifying the Definition of a Business. ASU 2017-01 clarifies the definition of a business to assist entities with evaluating whether a transaction should be accounted for as acquisitions of assets or businesses. Early adoption is permitted and the guidance requires a prospective application. The guidance is effective for annual periods after December 15, 2017, and we are currently in the process of evaluating the impact of this guidance.

In March 2016, the FASB issued ASU No. 2016-09 Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting to provide for simplification involving several aspects of the accounting for share-based payment transactions. The new standard requires excess tax benefits and tax deficiencies to be recorded in our consolidated statements of operations as a component of provision for income taxes when stock awards vest or are settled and an option to recognize gross share-based compensation expense with actual forfeitures recognized as they occur. In addition, it eliminates the requirement to reclassify cash flows related to excess tax benefits from operating activities to financing activities on the consolidated statements of cash flows and clarifies that all cash payments made to tax authorities on an employee’s behalf for withheld shares should be presented as a financing activity on the consolidated statements of cash flows. The standard also allows us to withhold more of an employee’s vesting shares for tax withholding purposes without triggering liability accounting.

We have adopted this standard in the first quarter of 2017 with the adoption having no impact to our consolidated financial statements. The requirement to record excess tax benefits and deficiencies in our consolidated statements of operations as a component of provision of income taxes when stock awards vest or are settled does not impact our provision of income taxes as we currently have a full valuation allowance recorded against our deferred tax assets related to share-based compensation. Additionally, we have elected to continue to recognize share-based compensation expense net of estimated forfeitures. We have not recorded an adjustment to retained earnings to reflect the modified retrospective adoption of this standard update as neither of these updates change the accounting of the prior period financial results.

We have elected to adopt the elimination of the requirement to reclassify cash flows related to excess tax benefits from operating activities to financing activities on the condensed consolidated statements of cash flows prospectively and therefore

9


prior periods have not been adjusted. Further, there was no change related to the requirement that all payments made to tax authorities on an employees' behalf for withheld shares be presented as a financing activity on the consolidated statements of cash flows as we have always recorded such amounts as a financing activity.

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842). ASU 2016-02 requires an entity to recognize a right-of-use asset and lease liability for all leases with terms of more than 12 months. Recognition, measurement, and presentation of expenses will depend on classification as a finance or operating lease. The amendments in this update also require certain quantitative and qualitative disclosures about leasing arrangements. Early adoption is permitted, and the guidance requires a modified retrospective adoption. The guidance is effective for annual periods after December 15, 2018 and we plan to adopt the guidance starting in the first quarter of 2019. We are currently in the process of evaluating the impact of this guidance.

In May 2014, the FASB issued ASU No. 2014-09 Revenue from Contracts with Customers, as amended (Topic 606) (the ASU), which will change the way we recognize revenue and significantly expand the disclosure requirements for revenue arrangements. In July 2015, the FASB approved a one-year deferral of the effective date of the ASU for public companies and further amendments and technical corrections were made to the ASU during 2016. The ASU allows for companies to choose to apply the standard retrospectively to each prior reporting period presented (full retrospective application) or retrospectively with the cumulative effect of initially applying the standard as an adjustment to the opening balance of retained earnings of the annual reporting period that includes the date of initial application (modified retrospective application). We plan to adopt the ASU under the modified retrospective application. The ASU is effective for annual reporting periods beginning after December 15, 2017, including interim periods within that reporting period. Early application is permitted only as of annual reporting periods beginning after December 15, 2016, including interim periods within that reporting period. We plan to adopt the ASU starting on January 1, 2018. We are currently in the process of evaluating the impact the ASU may have on our consolidated financial statements, accounting policies, and related disclosures. We have initially determined three potential areas of impact which are subject to further evaluation. First, the timing of revenue recognition relating to our Enrollment Marketing and Brand Partnership product offerings is anticipated to be recognized earlier in the contract life under the ASU than under the current guidance. Second, we will estimate and account for the variable consideration earned relating to our performance related obligation with Ingram over the period in which it is earned under the ASU as opposed to at the completion of the period under the current guidance. Finally, revenues previously recognized from shipping and handling activities will be recognized as a reduction of cost of revenues under the ASU as these activities do not represent a separately identifiable performance obligation. These are the significant areas that we have identified will be different under the ASU and we will continue to evaluate the ASU as we near our adoption date.

Note 2. Net Loss Per Share

Basic net loss per share is computed by dividing the net loss by the weighted-average number of shares of common stock outstanding during the period. Diluted net loss per share is computed by giving effect to all potential shares of common stock, including stock options, warrants, restricted stock units (RSUs), and performance-based restricted stock units (PSUs), to the extent dilutive. Basic and diluted net loss per share was the same for each period presented as the inclusion of all potential common shares outstanding would have been anti-dilutive.

The following table sets forth the computation of historical basic and diluted net loss per share (in thousands, except per share amounts):
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
Numerator:
 
 
 
 
 
 
 
Net loss
$
(6,025
)
 
$
(9,008
)
 
$
(12,426
)
 
$
(24,693
)
Denominator:
 
 
 
 
 
 
 
Weighted average shares used to compute net loss per share, basic and diluted
95,047

 
90,416

 
93,943

 
89,767

 
 
 
 
 
 
 
 
Net loss per share, basic and diluted
$
(0.06
)
 
$
(0.10
)
 
$
(0.13
)
 
$
(0.28
)


10


The following potential weighted-average shares of common stock outstanding were excluded from the computation of diluted net loss per share because including them would have been anti-dilutive (in thousands):
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
Options to purchase common stock
3,119

 
10,950

 
3,395

 
11,060

RSUs and PSUs
107

 
4,689

 
66

 
2,571

Employee stock purchase plan
8

 
18

 
8

 
18

Warrants to purchase common stock
200

 
200

 
200

 
200

Total common stock equivalents
3,434

 
15,857

 
3,669

 
13,849


Note 3. Restricted Cash and Strategic Investment
 
As of June 30, 2017 and December 31, 2016, we did not carry a balance of cash equivalents, short-term or long-term investments.

As of June 30, 2017 and December 31, 2016, we had approximately $0.5 million and $0.1 million, respectively, of restricted cash that consists of security deposits for our offices. These amounts are classified in other assets in our condensed consolidated balance sheets as these amounts are restricted for periods that exceed one year from the balance sheet dates.

Strategic Investment

We previously invested $3.0 million in a foreign entity to explore expanding our reach internationally. Our investment is included in other assets on our condensed consolidated balance sheets. We did not record other-than-temporary impairment charges on this investment during the three and six months ended June 30, 2017 and 2016 as there were no significant identified events or changes in circumstances that would be considered an indicator for impairment.

Note 4. Intangible Assets

Intangible assets as of June 30, 2017 and December 31, 2016 consist of the following (in thousands, except the weighted-average amortization period):
 
June 30, 2017
 
Weighted-Average Amortization
Period
(in months)
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net
Carrying
Amount
Developed technologies
60

 
$
15,077

 
$
(9,159
)
 
$
5,918

Customer lists
47

 
9,970

 
(4,653
)
 
5,317

Trade names
47

 
5,513

 
(2,717
)
 
2,796

Non-compete agreements
30

 
1,728

 
(1,389
)
 
339

Master service agreements
21

 
1,030

 
(1,030
)
 

Indefinite-lived trade name

 
3,600

 

 
3,600

Total intangible assets
 
 
$
36,918

 
$
(18,948
)
 
$
17,970


11


 
 
December 31, 2016
 
Weighted-Average Amortization
Period
(in months)
 
Gross
Carrying
Amount
 
Accumulated
Amortization
 
Net
Carrying
Amount
Developed technologies
60

 
$
15,077

 
$
(8,245
)
 
$
6,832

Customer lists
47

 
9,970

 
(3,673
)
 
6,297

Trade names
47

 
5,513

 
(1,998
)
 
3,515

Non-compete agreements
30

 
1,728

 
(1,249
)
 
479

Master service agreements
21

 
1,030

 
(1,005
)
 
25

Indefinite-lived trade name

 
3,600

 

 
3,600

Total intangible assets
 
 
$
36,918

 
$
(16,170
)
 
$
20,748


During the three and six months ended June 30, 2017, amortization expense related to our acquired intangible assets totaled approximately $1.4 million and $2.8 million, respectively. During the three and six months ended June 30, 2016, amortization expense related to our acquired intangible assets totaled approximately $1.2 million and $1.8 million, respectively.

As of June 30, 2017, the estimated future amortization expense related to our finite-lived intangible assets is as follows (in thousands):
Remaining six months of 2017
$
2,572

2018
4,446

2019
3,510

2020
2,153

2021
815

Thereafter
874

Total
$
14,370


Note 5. Debt Obligations

In September 2016, we entered into a revolving line of credit with an aggregate principal amount of $30.0 million (the Line of Credit) with an accordion feature that, subject to the lender's discretion, allows us to borrow up to a total of $50.0 million. This new line of credit replaced the previous line of credit that expired in August 2016. The Line of Credit matures September 2019 and requires us to repay the outstanding balance upon maturity. We will pay a fee equal to 0.25% per year on the average daily unused amount of the Line of Credit and a base interest rate equal to the LIBOR. In addition, we will pay a fee for each issued letter of credit which will be determined based on our current leverage ratio at the time the letter of credit is issued. If our leverage ratio is less than 1.00%, we will pay a fee equal to 1.50% per year and if our leverage ratio is greater than or equal to 1.00%, we will pay a fee equal to 2.50% per year. Our leverage ratio is a ratio of all obligations owed to the bank divided by our consolidated EBITDA. EBITDA for the purposes of calculating our leverage ratio is defined as net profit (loss) before tax, plus interest expense, plus non-cash stock compensation (net of capitalized interest expense), plus depreciation expense, plus amortization expense and other non-cash expenses (assuming there are no future cash costs), plus expenses incurred in connection with permitted acquisitions (including without limitation accrued acquisition-related contingent expenses) in an amount not to exceed $6.0 million per calendar year, plus non-recurring expenses in an amount not to exceed $2.0 million per calendar year. We must maintain financial covenants under the Line of Credit as follows: (1) maintain a balance of unrestricted cash at the lender of not less than $30.0 million at all times, other than the three months ending March 31, 2017 and June 30, 2017, and not less than $25.0 million during the three months ending March 31, 2017 and June 30, 2017; and (2) achieve EBITDA, on a trailing 12 month basis, of not less than (i) $25.0 million for the period of time from September 30, 2016 through June 30, 2017, (ii) $30.0 million for the period of time from September 30, 2017 through June 30, 2018, and (iii) $35.0 million for the period of time from September 30, 2018 through the maturity of the Line of Credit. As of June 30, 2017, we were in compliance with the financial covenants of the Line of Credit. Further, we had no amounts outstanding and were able to borrow up to $30.0 million under the Line of Credit.


12


Note 6. Commitments and Contingencies

We lease our offices under operating leases, which expire at various dates through 2022. Our primary operating lease commitments at June 30, 2017 are related to our headquarters in Santa Clara, California, our office in San Francisco, California, and our office in India. We recognize rent expense on a straight-line basis over the lease period. Where leases contain escalation clauses, rent abatements, or concessions, such as rent holidays and landlord or tenant incentives or allowances, we apply them in the determination of straight-line rent expense over the lease term. Rental expense, net of sublease income, was approximately $0.7 million and $1.4 million during the three and six months ended June 30, 2017, respectively, and $0.5 million and $0.9 million during the three and six months ended June 30, 2016, respectively.

From time to time, third parties may assert patent infringement claims against us in the form of letters, litigation, or other forms of communication. In addition, we may from time to time be subject to other legal proceedings and claims in the ordinary course of business, including claims of alleged infringement of trademarks, copyrights, and other intellectual property rights; employment claims; and general contract or other claims. We may also, from time to time, be subject to various legal or government claims, disputes, or investigations. Such matters may include, but not be limited to, claims, disputes, or investigations related to warranty, refund, breach of contract, employment, intellectual property, government regulation, or compliance or other matters.

We are not aware of any other pending legal matters or claims, individually or in the aggregate, that are expected to have a material adverse impact on our consolidated financial position, results of operations, or cash flows. However, our determination of whether a claim will proceed to litigation cannot be made with certainty, nor can the results of litigation be predicted with certainty. Nevertheless, defending any of these actions, regardless of the outcome, may be costly, time consuming, distract management personnel, and have a negative effect on our business. An adverse outcome in any of these actions, including a judgment or settlement, may cause a material adverse effect on our future business, operating results, and/or financial condition.

Note 7. Guarantees and Indemnifications

We have agreed to indemnify our directors and officers for certain events or occurrences, subject to certain limits, while such persons are or were serving at our request in such capacity. We may terminate the indemnification agreements with these persons upon termination of employment, but termination will not affect claims for indemnification related to events occurring prior to the effective date of termination. We have a directors’ and officers’ insurance policy that limits our potential exposure up to the limits of our insurance coverage. In addition, we also have other indemnification agreements with various vendors against certain claims, liabilities, losses, and damages. The maximum amount of potential future indemnification is unlimited.

We believe the fair value of these indemnification agreements is minimal. We have not recorded any liabilities for these agreements as of June 30, 2017.

Note 8. Stockholders' Equity

Share-based Compensation Expense

Total share-based compensation expense recorded for employees and non-employees is as follows (in thousands):
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
Cost of revenues
$
88

 
$
41

 
$
155

 
$
69

Technology and development
3,387

 
3,632

 
6,628

 
7,758

Sales and marketing
1,201

 
1,958

 
2,327

 
3,851

General and administrative
4,423

 
5,590

 
8,267

 
10,813

Total share-based compensation expense
$
9,099

 
$
11,221

 
$
17,377

 
$
22,491


There was no capitalized share-based compensation expense as of June 30, 2017 or 2016.


13


Stock Option Activity

There were no stock option awards granted to employees, consultants, officers or directors during the six months ended June 30, 2017. During the three months ended June 30, 2016, we granted 232,700 stock option awards at a weighted-average grant date fair value of $2.58 solely to members of our board of directors.

As of June 30, 2017, our total unrecognized share-based compensation expense related to stock option awards was approximately $0.5 million, which will be recognized over the remaining weighted-average vesting period of approximately 0.8 years.

RSU and PSU Activity

Activity for RSUs and PSUs is as follows:
 
 
RSUs and PSUs Outstanding
 
Number of RSUs and PSUs
Outstanding
 
Weighted-Average Grant Date 
Fair Value
Balance at December 31, 2016
14,142,109

 
$
5.20

Granted
6,150,016

 
8.50

Released
(4,422,664
)
 
5.61

Canceled
(809,661
)
 
5.86

Balance at June 30, 2017
15,059,800

 
$
6.41


As of June 30, 2017, our total unrecognized share-based compensation expense related to RSUs and PSUs was approximately $61.6 million, which will be recognized over the remaining weighted-average vesting period of approximately 2.1 years.

Note 9. Income Taxes

We recorded an income tax provision of approximately $0.7 million and $1.4 million during the three and six months ended June 30, 2017, respectively, and an income tax provision of approximately $0.5 million and $0.9 million for the three and six months ended June 30, 2016, respectively, primarily due to state and foreign income tax expense and federal tax expense related to tax amortization of acquired indefinite lived intangible assets.

Note 10. Restructuring Charges (Credits)

2017 Restructuring Plan

In January 2017, we entered into a strategic partnership with the National Research Center for College & University Admissions (NRCCUA) where NRCCUA will assume responsibility for managing, renewing, and maintaining our existing university contracts and become the exclusive reseller of our digital enrollment marketing services for colleges and universities. As a result of this strategic partnership, approximately 50 employees in China and the United States supporting the sales and account support functions of our Enrollment Marketing offering were terminated, resulting in one-time workforce reduction costs of $0.9 million and lease termination and other costs of $0.1 million recorded during the six months ended June 30, 2017. We expect costs incurred to date related to this workforce reduction to be fully paid within nine months.

14



2015 Restructuring Plan

Restructuring credits recorded in 2016 of $0.4 million primarily related to a partial reversal of previously accrued lease termination costs due to our subtenant leasing additional space in our Kentucky warehouse. Costs incurred to date related to the lease termination and other costs are expected to be fully paid by 2021.

The following table summarizes the activity related to the accrual for restructuring charges (credits) (in thousands):
 
2017 Restructuring Plan
 
2015 Restructuring Plan
 
 
 
Workforce Reduction Costs
 
Lease Termination and Other Costs
 
Workforce Reduction Costs
 
Lease Termination and Other Costs
 
Total
Balance at January 1, 2016
$

 
$

 
$
55

 
$
2,463

 
$
2,518

Restructuring credits

 

 

 
(423
)
 
(423
)
Cash payments

 

 
(55
)
 
(1,734
)
 
(1,789
)
Balance at December 31, 2016

 

 

 
306

 
306

Restructuring charges (credits)
883

 
118

 

 
(42
)
 
959

Cash (payments) receipts
(803
)
 
(118
)
 

 
6

 
(915
)
Balance at March 31, 2017
$
80

 
$

 
$

 
$
270

 
$
350


As of June 30, 2017, the $0.4 million liability was comprised of a short-term accrual of $0.2 million included within accrued liabilities and a long-term accrual of $0.2 million included within other liabilities on our condensed consolidated balance sheets.

Note 11. Related-Party Transactions

Our Chief Executive Officer is a member of the Board of Directors of Adobe Systems Incorporated (Adobe). During the three and six months ended June 30, 2017, we had purchases of $1.3 million and $1.8 million, respectively, and during the three and six months ended June 30, 2016, we had purchases of $0.8 million and $1.8 million, respectively, from Adobe. We had no revenues in the three and six months ended June 30, 2017 and June 30, 2016, respectively, from Adobe. We had an immaterial amount and $0.3 million in payables as of June 30, 2017 and December 31, 2016, respectively, to Adobe. We had no outstanding accounts receivables as of June 30, 2017 and December 31, 2016, from Adobe.

One of our board members is also a member of the Board of Directors of Cengage Learning, Inc. (Cengage).  During the three and six months ended June 30, 2017, we had purchases of $1.3 million and $4.8 million, respectively, and during the three and six months ended June 30, 2016, we had purchases of $0.4 million and $4.4 million, respectively, from Cengage.  We had $0.2 million and $0.6 million of revenues in the three and six months ended June 30, 2017, respectively, and no revenues in the three and six months ended June 30, 2016 from Cengage. We had an immaterial amount in payables as of June 30, 2017 and December 31, 2016 to Cengage. We had no outstanding accounts receivable as of June 30, 2017 and $0.1 million as of December 31, 2016 from Cengage.

One of our board members is also a member of the Board of Directors of Groupon, Inc. (Groupon). During the three and six months ended June 30, 2017, we had purchases of $0.2 million and $0.3 million, respectively, and during the three and six months ended June 30, 2016, we had purchases of $0.1 million and $0.3 million, respectively, from Groupon.  We had no revenues in the three and six months ended June 30, 2017 and June 30, 2016, respectively, from Groupon. We had an immaterial amount in payables as of June 30, 2017 and December 31, 2016 to Groupon. We had no outstanding accounts receivables as of June 30, 2017 and December 31, 2016 from Groupon.


15


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 Statements (unaudited)” of this Quarterly Report on Form 10-Q. In addition to historical 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. Our goal is to help students transition from high school to college to career, with a view to improving student outcomes. We help students study more effectively for college admission exams, find the right college to accomplish their goals, get better grades and test scores while in school, and find internships that allow them to gain valuable skills to help them enter the workforce after college. We strive to improve the overall return on investment in education by helping students learn more in less time and at a lower cost.
Students subscribe to our digital products and services, which we collectively refer to as Chegg Services. These include Chegg Study, Chegg Tutors, Writing Tools (acquired in May 2016), Enrollment Marketing, Brand Partnership, Internships, and Test Prep. Our Chegg Study service provides step-by-step Textbook Solutions and Expert Answers, helping students with their course work. When students need additional help on a subject, they can reach a live tutor online, anytime, anywhere through Chegg Tutors. When students need help creating citations for their papers, they can use one of our Writing Tools properties, including EasyBib, Citation Machine, BibMe, CiteThisForMe, and NormasAPA. Through our strategic partnership with NRCCUA, we match domestic and international students with colleges, in the United States, to help them find the best fit school for them. We provide access to internships to help students gain skills and experiences that are critical to securing their first job. We provide high school students with an online adaptive test preparation service currently covering the ACT and SAT exams. Through our strategic partnership with Ingram Content Group (Ingram), we offer Required Materials, which includes an extensive print textbook and eTextbook library for rent and sale, helping students save money compared to the cost of buying new.

To deliver services to students, we partner with a variety of third parties. We work with colleges to help shape their incoming classes. We 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 have a large network of students and professionals who leverage our platform to tutor in their spare time and employers who leverage our platform to post their internships and jobs. In addition, because we have a large student user base, local and national brands partner with us to reach the college and high school demographics.

During the three and six months ended June 30, 2017, we generated net revenues of $56.3 million and $118.9 million, respectively, and in the same periods had net losses of $6.0 million and $12.4 million, respectively. During the three and six months ended June 30, 2016, we generated net revenues of $53.0 million and $119.7 million, respectively, and in the same periods had net losses of $9.0 million and $24.7 million, respectively. We plan to continue to invest in our long-term growth, particularly further investment in the technology that powers our connected learning platform, and the development of additional products and services that serve students.

Our strategy for achieving and maintaining profitability is centered upon our ability to utilize Chegg Services to increase student engagement with our connected learning platform. We plan to continue to invest in the expansion of our Chegg Services to provide a more compelling and personalized solution and deepen engagement with students. Further, we believe this expanded and deeper penetration of the student demographic will allow us to drive further growth in our existing Chegg Services. In addition, we believe that these 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 Chegg Services products, will enable us to accomplish profitability and become cash-flow positive for the long-term. Our ability to achieve 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 to revenue from Chegg Services and other factors described in greater detail in Part II, Item 1A, “Risk Factors.”


16


We have presented revenues for our two product lines, Chegg Services and Required Materials, based on how students view us and the utilization of our products by them. More detail on our two product lines is discussed in the next two sections titled "Chegg Services" and "Required Materials."

Chegg Services

Our Chegg Services for students primarily includes our Chegg Study service, our Chegg Tutors service, and our Writing Tools service. We offer enrollment marketing services to colleges, through our strategic partnership with NRCCUA, 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 Proctor & Gamble, Starbucks, The Truth, Microsoft, Best Buy, DirectTV, Bare Escentuals, and Shutterfly, to provide students with discounts, promotions, and other products that, based on student feedback, delight them. For example, for Proctor & Gamble, we inserted free laundry care samples and for Starbucks, we inserted free drinks in our textbook rental shipments to students. All of our brand advertising services and the discounts, promotions, and other products provided to students are paid for by the brands. We additionally provide Internship services and our Test Prep service currently covering the ACT and SAT exams.

Students typically pay to access Chegg 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. In the aggregate, Chegg Services revenues were 79% and 72% of net revenues during the three and six months ended June 30, 2017, respectively, and 56% and 46% of net revenues during the three and six months ended June 30, 2016, respectively.

Required Materials

Our Required Materials product line includes commissions from partners, such as Ingram and textbook publishers, on the rental and sale of print textbooks, as well as revenues from eTextbooks. Our web-based, multiplatform eTextbook Reader, eTextbooks and supplemental course materials are available from approximately 120 publishers as of June 30, 2017. We offer our eTextbooks on a standalone basis or as a rental-equivalent solution and for free to students awaiting the arrival of their print textbook rental.

We also use our website to rent and sell, on behalf of Ingram and textbook publishers, as well as source for used print textbooks for our partner Ingram. We attract students to our website by offering more for their used print textbooks than they could generally get by selling them back to their campus bookstore.

In the aggregate, Required Materials revenues were 21% and 28% of net revenues during the three and six months ended June 30, 2017, respectively, and 44% and 54% of net revenues during the three and six months ended June 30, 2016, respectively.

Strategic Partnership with Ingram

Our strategic partnership with Ingram has helped to accelerate the growth of our Chegg Services products by allowing us to utilize capital otherwise spent on the purchase of print textbooks, and at the same time allowing us to maintain our leading position and high brand recognition through our iconic orange boxes. We entered into a definitive inventory purchase and consignment agreement with Ingram that allows us to focus exclusively on eTextbooks and Chegg Services. Under the agreement, since May 2015, Ingram has been responsible for all new investments in the print textbook library, fulfillment logistics, and has title and risk of loss related to print textbook rentals. As a result of our strategic partnership with Ingram, our revenues include a commission on the total revenues that we earn from Ingram upon their fulfillment of a rental transaction using print textbooks for which Ingram has title and risk of loss. This partnership allows us to reduce and eliminate the operating expenses we historically incurred to acquire and maintain a print textbook library. We will continue to buy used books on Ingram’s behalf including books through our buyback program and invoice Ingram at cost.

Seasonality of Our Business

Historically, a substantial majority of our revenues were recognized ratably over the term a student rents our print textbooks and eTextbooks or has access to our Chegg Services. This has generally resulted in our highest revenues in the fourth quarter as it reflects more days of the academic year and our lowest revenues in the second quarter as colleges conclude their academic year for summer and there are fewer days of rentals. The recognition of revenues from our eTextbooks and Chegg Services will continue to follow these trends. As a result of our strategic partnership with Ingram, however, revenues from all print textbook transactions will now be higher in the first and third quarters as we recognize a commission on the transaction immediately rather than recognizing the revenues ratably over the term the student rents the print textbooks.

17


The variable expenses associated with our shipments of print textbooks and marketing activities historically were 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. However, these variable expenses related to the shipments of print textbooks have decreased as we have completely transitioned the shipping and fulfillment activities related to print textbooks to Ingram.
As a result of these factors, the most concentrated periods for our revenues and expenses did not necessarily coincide, and comparisons of our historical quarterly operating results on a sequential basis may not provide meaningful insight into our overall financial performance. Our strategic partnership with Ingram has shifted peak revenues in the periods that a student rents a textbook as a result of the immediate revenue recognition as well as our revenue sharing agreement such that we believe our revenues will provide more meaningful insight on a sequential basis going forward. Further, while our expenses associated with the print textbook rental business have decreased, our variable expenses related to marketing activities continue to remain highest in the first and third quarter such that our profitability may not provide meaningful insight on a sequential basis.


18


Results of Operations
The following table summarizes our historical condensed consolidated statements of operations (in thousands, except percentage of total net revenues):
 
Three Months Ended June 30,
 
Six Months Ended June 30,
 
2017
 
2016
 
2017
 
2016
Net revenues:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Rental
$

 
 %
 
$
12,006

 
23
 %
 
$

 
 %
 
$
26,570

 
22
 %
Services
56,317

 
100

 
37,795

 
71

 
118,919

 
100

 
77,547

 
65

Sales

 

 
3,235

 
6

 

 

 
15,573

 
13

Total net revenues
56,317

 
100

 
53,036

 
100

 
118,919

 
100

 
119,690

 
100

Cost of revenues(1):
 
 
 
 
 
 
 
 


 
 
 


 
 
Rental

 

 
5,346

 
10

 

 

 
18,859

 
16

Services
17,042

 
30

 
12,606

 
24

 
38,438

 
32

 
26,481

 
22

Sales

 

 
3,455

 
6

 

 

 
14,990

 
12

Total cost of revenues
17,042

 
30

 
21,407

 
40

 
38,438

 
32

 
60,330

 
50

Gross profit
39,275

 
70

 
31,629

 
60

 
80,481

 
68

 
59,360

 
50

Operating expenses(1):
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Technology and development
19,899

 
35

 
16,033

 
30

 
39,201

 
33

 
32,991

 
28

Sales and marketing
10,098

 
18

 
11,747

 
22

 
26,062

 
22

 
26,193

 
22

General and administrative
14,501

 
26

 
14,569

 
27

 
29,843

 
25

 
27,235

 
23

Restructuring charges (credits)
59

 

 
(154
)
 

 
959

 
1

 
(198
)
 

Gain on liquidation of textbooks

 

 
(2,191
)
 
(4
)
 
(4,766
)
 
(4
)
 
(3,196
)
 
(3
)
Total operating expenses
44,557

 
79

 
40,004

 
75

 
91,299

 
77

 
83,025

 
70

Loss from operations
(5,282
)
 
(9
)
 
(8,375
)
 
(15
)
 
(10,818
)
 
(9
)
 
(23,665
)
 
(20
)
Total interest expense and other (expense) income, net
(27
)
 

 
(124
)
 

 
(245
)
 

 
(119
)
 

Loss before provision for income taxes
(5,309
)
 
(9
)
 
(8,499
)
 
(15
)
 
(11,063
)
 
(9
)
 
(23,784
)
 
(20
)
Provision for income taxes
716

 
(1
)
 
509

 
(1
)
 
1,363

 
(1
)
 
909

 
(1
)
Net loss
$
(6,025
)
 
(10
)%
 
$
(9,008
)
 
(16
)%
 
$
(12,426
)
 
(10
)%
 
$
(24,693
)
 
(21
)%
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
(1) Includes share-based compensation expense as follows:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cost of revenues
$
88

 
 
 
$
41

 
 
 
$
155

 
 
 
$
69

 
 
Technology and development
3,387

 
 
 
3,632

 
 
 
6,628

 
 
 
7,758

 
 
Sales and marketing
1,201

 
 
 
1,958

 
 
 
2,327

 
 
 
3,851

 
 
General and administrative
4,423

 
 
 
5,590

 
 
 
8,267

 
 
 
10,813

 
 
Total share-based compensation expense
$
9,099

 
 
 
$
11,221

 
 
 
$
17,377

 
 
 
$
22,491

 
 


19


Three and Six Months Ended June 30, 2017 and 2016
    
Net Revenues    

Net revenues in the three months ended June 30, 2017 increased $3.3 million, or 6%, compared to the same period in 2016. Rental revenues decreased $12.0 million, or 100%, services revenues increased $18.5 million, or 49%, and sales revenues decreased $3.2 million, or 100%.

Net revenues in the six months ended June 30, 2017 decreased $0.8 million, or 1%, compared to the same period in 2016. Rental revenues decreased $26.6 million, or 100%, services revenues increased $41.4 million, or 53%, and sales revenues decreased $15.6 million, or 100%.

The decrease in rental revenues and sales revenues during the three and six months ended June 30, 2017 was due to our strategic partnership with Ingram. As a result of our strategic partnership, our rental revenues and sales revenues are classified as services revenues to represent the commission on the total revenues that we earn from Ingram upon their fulfillment of a rental or sale transaction using books for which Ingram has title and risk of loss rather than recognizing rental revenues or sales revenues from transactions using our print textbooks. The increase in services revenues during the three and six months ended June 30, 2017 was driven primarily from growth across our other offerings for students which included increased revenues from our Chegg Study service and Writing Tools service (acquired in May 2016) as well as an increase in the commissions earned from Ingram.

The following table sets forth our total net revenues for the periods shown for our Chegg Services and Required Materials product lines (in thousands, except percentages):
 
Three Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Chegg Services
$
44,700

 
$
29,877

 
$
14,823

 
50
 %
Required Materials
11,617

 
23,159

 
(11,542
)
 
(50
)%
Total net revenues
$
56,317

 
$
53,036

 
$
3,281

 
6
 %

 
Six Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Chegg Services
$
85,735

 
$
55,433

 
$
30,302

 
55
 %
Required Materials
33,184

 
64,257

 
(31,073
)
 
(48
)%
Total net revenues
$
118,919

 
$
119,690

 
$
(771
)
 
(1
)%

Chegg Services revenues increased $14.8 million, or 50%, and $30.3 million, or 55%, in the three and six months ended June 30, 2017, respectively, compared to the same periods in 2016 due to growth in new memberships for our Chegg Study service and revenues from our Writing Tools service. Chegg Services revenues were 79% and 72% of net revenues during the three and six months ended June 30, 2017, respectively, and 56% and 46% of net revenues during the three and six months ended June 30, 2016, respectively. Required Materials revenues decreased $11.5 million, or 50%, and $31.1 million, or 48%, in the three and six months ended June 30, 2017, respectively, compared to the same periods in 2016, primarily due to our strategic partnership with Ingram. Our Required Materials revenues are primarily comprised of a commission earned from Ingram rather than the full revenues from a print textbook rental transaction. Required Materials revenues were 21% and 28% of net revenues during the three and six months ended June 30, 2017, respectively, and 44% and 54% of net revenues during the three and six months ended June 30, 2016, respectively.
    

20


Cost of Revenues

The following table sets forth our cost of revenues for the periods shown (in thousands, except percentages):
 
Three Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Cost of revenues(1)
$
17,042

 
$
21,407

 
$
(4,365
)
 
(20
)%
 
 
 
 
 
 
 
 
(1) Includes share-based compensation expense of:
$
88

 
$
41

 
$
47

 
115
 %
    
 
Six Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Cost of revenues(1)
$
38,438

 
$
60,330

 
$
(21,892
)
 
(36
)%
 
 
 
 
 
 
 
 
(1) Includes share-based compensation expense of:
$
155

 
$
69

 
$
86

 
125
 %

Cost of revenues during the three months ended June 30, 2017 decreased by $4.4 million, or 20%, compared to the same period in 2016. The decrease was primarily due to a decrease in textbook depreciation of $2.7 million and lower cost of print textbooks sold of $2.7 million. These savings were partially offset by higher amortization of digital content of $0.3 million and higher employee-related expenses of $0.3 million. As a result, gross margins increased to 70% in the three months ended June 30, 2017, from 60% in the same period in 2016.

Cost of revenues during the six months ended June 30, 2017 decreased by $21.9 million, or 36%, compared to the same period in 2016. The decrease was primarily due to a decrease in textbook depreciation of $7.2 million, lower order fulfillment costs of $6.9 million, and lower cost of print textbooks sold of $12.8 million. These savings were partially offset by higher amortization of digital content of $2.1 million, handling fees paid to Ingram of $1.2 million as a result of higher print textbook volume, and higher employee-related expenses of $0.8 million. As a result, gross margins increased to 68% in the six months ended June 30, 2017, from 50% in the same period in 2016.

The decreases in cost of revenues and improvement in total gross margins in the three and six months ended June 30, 2017 compared to the same periods in 2016 resulted primarily from Ingram's fulfillment of print textbook rental and sale orders.

Operating Expenses
The following table sets forth our total operating expenses for the periods shown (in thousands, except percentages):

 
Three Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Technology and development(1)
$
19,899

 
$
16,033

 
$
3,866

 
24
 %
Sales and marketing(1)
10,098

 
11,747

 
(1,649
)
 
(14
)
General and administrative(1)
14,501

 
14,569

 
(68
)
 

Restructuring charges (credits)
59

 
(154
)
 
213

 
n/m

Gain on liquidation of textbooks

 
(2,191
)
 
2,191

 
(100
)
Total operating expenses
$
44,557

 
$
40,004

 
$
4,553

 
11
 %
 
 
 
 
 
 
 
 
(1) Includes share-based compensation expense of:
 
 
 
 
 
 
 
Technology and development
$
3,387

 
$
3,632

 
$
(245
)
 
(7
)%
Sales and marketing
1,201

 
1,958

 
(757
)
 
(39
)
General and administrative
4,423

 
5,590

 
(1,167
)
 
(21
)
Share-based compensation expense
$
9,011

 
$
11,180

 
$
(2,169
)
 
(19
)%


21


 
Six Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Technology and development(1)
$
39,201

 
$
32,991

 
$
6,210

 
19
 %
Sales and marketing(1)
26,062

 
26,193

 
(131
)
 
(1
)
General and administrative(1)
29,843

 
27,235

 
2,608

 
10

Restructuring charges (credits)
959

 
(198
)
 
1,157

 
n/m

Gain on liquidation of textbooks
(4,766
)
 
(3,196
)
 
(1,570
)
 
49

Total operating expenses
$
91,299

 
$
83,025

 
$
8,274

 
10
 %
 
 
 
 
 
 
 
 
(1) Includes share-based compensation expense of:
 
 
 
 
 
 
 
Technology and development
$
6,628

 
$
7,758

 
$
(1,130
)
 
(15
)%
Sales and marketing
2,327

 
3,851

 
(1,524
)
 
(40
)
General and administrative
8,267

 
10,813

 
(2,546
)
 
(24
)
Share-based compensation expense
$
17,222

 
$
22,422

 
$
(5,200
)
 
(23
)%
_______________________________________
n/m - not meaningful
    
Technology and Development

Technology and development expenses during the three months ended June 30, 2017 increased $3.9 million, or 24%, compared to the same period in 2016. The increase was primarily attributable to an increase in employee-related expenses of $3.0 million, and web hosting and software licensing fees of $0.7 million, respectively, compared to the same period in 2016. These increases were partially offset by lower share-based compensation expense which decreased $0.2 million compared to the same period in 2016. Technology and development as a percentage of net revenues were 35% during the three months ended June 30, 2017 compared to 30% of net revenues during the same period in 2016.

Technology and development expenses during the six months ended June 30, 2017 increased $6.2 million, or 19%, compared to the same period in 2016. The increase was primarily attributable to an increase in employee-related expenses of $4.5 million, web hosting and software licensing fees of $1.9 million, outside services of $0.4 million, and amortization of intangible assets of $0.3 million, respectively, compared to the same period in 2016. These increases were partially offset by lower share-based compensation expense which decreased $1.1 million compared to the same period in 2016. Technology and development as a percentage of net revenues were 33% during the six months ended June 30, 2017 compared to 28% of net revenues during the same period in 2016.
    
Sales and Marketing

Sales and marketing expenses during the three months ended June 30, 2017 decreased by $1.6 million, or 14%, compared to the same period in 2016. The decrease was primarily attributable to a decrease in employee-related expenses of $0.8 million, advertising and marketing expenses of $0.6 million, and share-based compensation expense of $0.8 million, respectively, compared to the same period in 2016.  These decreases were partially offset by higher outside services expense of $0.2 million compared to the same period in 2016. Sales and marketing expenses as a percentage of net revenues were 18% during the three months ended June 30, 2017 compared to 22% during the same period in 2016.

Sales and marketing expenses during the six months ended June 30, 2017 decreased by $0.1 million, or 1%, compared to the same period in 2016. The decrease was primarily attributable to a decrease in employee-related expenses of $0.4 million, and share-based compensation expense of $1.5 million, respectively, compared to the same period in 2016. These decreases were partially offset by higher web hosting and software license fees of $0.6 million, amortization of intangible assets of $0.6 million, and outside services of $0.6 million, respectively, compared to the same period in 2016. Sales and marketing expenses as a percentage of net revenues were 22% during both the six months ended June 30, 2017 and 2016.


22


General and Administrative

General and administrative expenses in the three months ended June 30, 2017 remained flat compared to the same period in 2016. General and administrative expenses as a percentage of net revenues were 26% during the three months ended June 30, 2017 compared to 27% during the same period in 2016.

General and administrative expenses in the six months ended June 30, 2017 increased $2.6 million, or 10%, compared to the same period in 2016. The increase was primarily attributable to an increase in employee-related expenses of $3.4 million, facilities expenses of $0.7 million, and professional fees of $0.8 million, respectively, compared to the same period in 2016. These increases were partially offset by lower share-based compensation expense of $2.5 million. General and administrative expenses as a percentage of net revenues were 25% during the six months ended June 30, 2017 compared to 23% during the same period in 2016.

Restructuring Charges (Credits)

Restructuring charges of $0.1 million and $1.0 million recorded during the three and six months ended June 30, 2017, respectively, were related to our strategic partnership with NRCCUA which resulted in the termination of employees supporting the sales and account support functions of our Enrollment Marketing offering. We expect costs incurred to date related to workforce reduction to be fully paid within nine months.

Restructuring credits of $0.2 million recorded during the three and six months ended June 30, 2016 were related to a partial reversal of previously accrued lease termination costs due to our subtenant leasing additional space. We expect costs incurred to date related to the lease termination and other costs to be fully paid by 2021.

Gain on Liquidation of Textbooks

We did not record a gain on liquidation of print textbooks during the three months ended June 30, 2017 as our print textbook library was fully liquidated during the first quarter of 2017. During the three months ended June 30, 2016, we had a gain on liquidation of print textbooks of $2.2 million, resulting from proceeds received from liquidation of previously rented print textbooks on our website and through various other liquidation channels.

During the six months ended June 30, 2017 and 2016, we had a gain on liquidation of print textbooks of $4.8 million and $3.2 million, respectively, resulting from proceeds received from liquidation of previously rented print textbooks on our website and through various other liquidation channels.
    
Interest Expense and Other (Expense) Income, Net

The following table sets forth our interest expense and other (expense) income, net, for the periods shown (in thousands, except percentages):
 
Three Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Interest expense, net
$
(18
)
 
$
(61
)
 
$
43

 
(70
)%
Other expense, net
(9
)
 
(63
)
 
54

 
(86
)
Total interest expense and other expense, net
$
(27
)
 
$
(124
)
 
$
97

 
(78
)%

 
Six Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Interest expense, net
$
(37
)
 
$
(121
)
 
$
84

 
(69
)%
Other (expense) income, net
(208
)
 
2

 
(210
)
 
n/m

Total interest expense and other (expense) income, net
$
(245
)
 
$
(119
)
 
$
(126
)
 
n/m

_______________________________________
n/m - not meaningful

Interest expense, net decreased slightly during the three and six months ended June 30, 2017 compared to the same period in 2016 as a result of entering into our new line of credit in September 2016.

23



Other (expense) income, net, decreased during the three months ended June 30, 2017 primarily attributable to lower accretion expense related to the deferred cash consideration as a result of our acquisition of Imagine Easy. Other (expense) income, net, was a net expense during the six months ended June 30, 2017 and a net income during the six months ended June 30, 2016 primarily attributable to higher accretion expense in 2017 as we acquired Imagine Easy in May 2016.

Provision for Income Taxes

The following table sets forth our provision for income taxes for the periods shown (in thousands, except percentages):
 
Three Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Provision for income taxes
$
716

 
$
509

 
$
207

 
41
%

 
Six Months Ended 
 June 30,
 
Change
 
2017
 
2016
 
$
 
%
Provision for income taxes
$
1,363

 
$
909

 
$
454

 
50
%

We recorded an income tax provision of approximately $0.7 million and $1.4 million during the three and six months ended June 30, 2017, respectively, and an income tax provision of approximately $0.5 million and $0.9 million during the three and six months ended June 30, 2016, respectively, which was primarily due to state and foreign income tax expense and federal tax expense related to tax amortization of acquired indefinite lived intangible assets. The increase during the three and six months ended June 30, 2017 compared to the same periods in 2016 was primarily due to an increase in foreign profits.

Liquidity and Capital Resources

As of June 30, 2017, our principal source of liquidity was cash totaling $66.1 million, which was held for working capital purposes. The substantial majority of our net revenues are from e-commerce transactions with students, which are settled immediately through payment processors, as opposed to our accounts payable, which are settled based on contractual payment terms with our suppliers. We also have an aggregate principal amount of $30.0 million available under our Line of Credit with an accordion feature that, subject to the lender's discretion, allows us to borrow up to a total of $50.0 million. The Line of Credit expires in September 2019. As of June 30, 2017, we were in compliance with the financial covenants of the Line of Credit. Further, we had no amounts outstanding and were able to borrow up to $30.0 million under the Line of Credit.

As a result of our strategic partnership with Ingram, we will continue to buy used print textbooks on Ingram’s behalf, including print textbooks through our buyback program, and invoice Ingram at cost. We provided Ingram with extended payment terms in 2016 for the purchase of print textbooks, before moving to normal payment terms in January 2017. We have a reimbursement balance included within other current assets on our condensed consolidated balance sheets related to the purchase of these textbooks of $4.9 million and $18.8 million as of June 30, 2017 and December 31, 2016, respectively. As a result of our strategic partnership with Ingram, we have significantly more working capital.

As of June 30, 2017, we have incurred cumulative losses of $383.8 million from our operations and we expect to incur additional losses in the future. Our operations have been financed primarily by our initial public offering of our common stock (IPO) and cash generated from operations.

We believe that our existing sources of liquidity will be sufficient to fund our operations and debt service obligations for at least the next 12 months. Our future capital requirements will depend on many factors, including our rate of revenue growth, our investments in technology and development activities, our acquisition of new products and services and our sales and marketing activities. To the extent that existing cash and cash from operations are insufficient to fund our future activities, we may need to raise additional funds through public or private equity or debt financing. Additional funds may not be available on terms favorable to us or at all. If adequate funds are not available on acceptable terms, or at all, we may be unable to adequately fund our business plans and it could have a negative effect on our business, operating cash flows and financial condition.

Most of our cash is held in the United States. As of June 30, 2017, our foreign subsidiaries held an insignificant amount of cash in foreign jurisdictions. We currently do not intend or foresee a need to repatriate these funds. In addition, based on our current and future needs, we believe our current funding and capital resources for our international operations are adequate.

24



The following table sets forth our cash flows (in thousands):
 
Six Months Ended June 30,
 
2017
 
2016
Consolidated Statements of Cash Flows Data:
 
 
 
Net cash provided by (used in) operating activities
$
16,156

 
$
(7,123
)
Net cash used in investing activities
$
(5,564
)
 
$
(3,097
)
Net cash used in financing activities
$
(21,835
)
 
$
(7,130
)

Cash Flows from Operating Activities

Although we incurred net losses during the six months ended June 30, 2017 and 2016, our net losses were fully or partially offset by non-cash expenditures such as other depreciation and amortization expense, share-based compensation expense, and print textbook library depreciation expense.

Net cash provided by operating activities during the six months ended June 30, 2017 was $16.2 million. Our net loss of $12.4 million was increased by the non-cash gain on liquidation of textbooks of $4.8 million and offset by significant non-cash operating expenses including other depreciation and amortization expense of $9.1 million and share-based compensation expense of $17.4 million.

Net cash used in operating activities during the six months ended June 30, 2016 was $7.1 million. Our net loss of $24.7 million was increased by the change in our prepaid expenses and other current assets of $10.9 million and accrued liabilities of $6.9 million. These account balance changes were partially offset by significant non-cash operating expenses, including print textbook library depreciation expense of $7.2 million, other depreciation and amortization expense of $6.1 million, and share-based compensation expense of $22.5 million. During the six months ended June 30, 2016, we saw a decline in our textbook depreciation expense and an increase in the change of our prepaid expenses and other current assets, which was a result of our strategic partnership with Ingram, where we are no longer making investments in our print textbook inventory yet continue to buy books on Ingram's behalf, while providing them with extended payment terms. The change in accrued liabilities was due to Ingram's share of revenue on a print textbook rental transaction that was paid during the six months ended June 30, 2016. The effects of these three items were the primary reasons we had net cash used in operating activities for the six months ended June 30, 2016.

Cash Flows from Investing Activities

Cash flows from investing activities have been primarily related to the purchase of property and equipment and marketable securities, offset by proceeds from the proceeds from the liquidation of print textbooks and the sale or maturity of marketable securities.

Net cash used in investing activities during the six months ended June 30, 2017 was $5.6 million and was primarily used for the purchases of property and equipment of $12.5 million, partially offset by proceeds from the liquidation of print textbooks of $6.9 million.

Net cash used in investing activities during the six months ended June 30, 2016 was $3.1 million and was primarily used for the acquisition of business of $25.2 million, purchase of marketable securities of $7.6 million, and purchase of property and equipment of $14.2 million offset by proceeds from the sale or maturity of marketable securities of $29.7 million and proceeds from the liquidation of print textbooks of $14.8 million.

Cash Flows from Financing Activities

Net cash used in financing activities during the six months ended June 30, 2017 was $21.8 million and was related to the payment of deferred cash consideration related to prior acquisitions of $16.8 million and payment of $14.9 million in taxes related to the net share settlement of RSUs which became fully vested during the period partially offset by the proceeds from the issuance of common stock under stock plans totaling $9.8 million.

Net cash used in financing activities during the six months ended June 30, 2016 was $7.1 million and was related to the payment of $8.2 million in taxes related to the net share settlement of RSUs, which became fully vested during the period offset by $1.1 million for common stock issued pursuant to our 2013 Employee Stock Purchase Plan.

25



Contractual Obligations and Other Commitments

Except for a new lease signed for our office in India, which is discussed below, there were no material changes in our commitments under contractual obligations, as disclosed in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in our Annual Report on Form 10-K for the year ended December 31, 2016.

During the six months ended June 30, 2017, we entered into a new operating lease for our office in India. The following is a summary of the contractual commitments associated with our operating lease obligation as of June 30, 2017 (in thousands):
 
 
 
 
Less than
 
More than
 
 
Total
 
1 Year
 
1-3 Years
 
3-5 Years
 
5 Years
India operating lease obligation
 
$
1,470

 
$
588

 
$
882

 
$

 
$


Off-Balance Sheet Arrangements

Through June 30, 2017, we did not have any relationships with unconsolidated organizations or financial partnerships, such as structured finance or special purpose entities that would have been established for the purpose of facilitating off-balance sheet arrangements or other contractually narrow or limited purposes.

Critical Accounting Policies, Significant Judgments and Estimates

Our consolidated financial statements are prepared in accordance with generally accepted accounting principles in the United States (U.S. GAAP). The preparation of these condensed consolidated financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues, costs and expenses, and related disclosures. These estimates form the basis for judgments we make about the carrying values of our assets and liabilities, which are not readily apparent from other sources. We base our estimates and judgments on historical experience and on various other assumptions that we believe are reasonable under the circumstances. On an ongoing basis, we evaluate our estimates and assumptions. Our actual results may differ from these estimates under different assumptions or conditions.

Except for our textbook library, there have been no material changes in our critical accounting policies and estimates during the six months ended June 30, 2017 as compared to the critical accounting policies and estimates disclosed in Part II, Item 7 “Management’s Discussion and Analysis of Financial Condition and Results of Operations” contained in our Annual Report on Form 10-K for the year ended December 31, 2016.

We no longer consider our textbook library to be part of our critical accounting policies and estimates as we no longer have a balance as of March 31, 2017.

Recent Accounting Pronouncements

For relevant recent accounting pronouncements, see Note 1-Background and Basis of Presentation of our accompanying Notes to Condensed Consolidated Financial Statements included in Part I, Item 1, "Financial Statements (unaudited)" of this Quarterly Report on Form 10-Q.

ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

There have been no material changes in our market risk during the six months ended June 30, 2017, compared to the disclosures in Part II, Item 7A, “Quantitative and Qualitative Disclosures about Market Risk” contained in our Annual Report on Form 10-K for the year ended December 31, 2016.

ITEM 4. CONTROLS AND PROCEDURES

(a)
Evaluation of Disclosure Controls and Procedures

Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of the effectiveness of the design and operation of our disclosure

26


controls and procedures, as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (Exchange Act), as of the end of the period covered by this report.

In designing and evaluating our disclosure controls and procedures, management recognizes that any disclosure controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. In addition, the design of disclosure controls and procedures must reflect the fact that there are resource constraints and that management is required to apply its judgment in evaluating the benefits of possible controls and procedures relative to their costs.

Based on management’s evaluation, our principal executive officer and principal financial officer concluded that our disclosure controls and procedures are designed to, and are effective to, provide assurance at a reasonable level that the information we are required to disclose in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in SEC rules and forms and that such information is accumulated and communicated to our management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosures.

(b)
Changes in Internal Control over Financial Reporting

We completed the implementation of our new Enterprise Resource Planning (ERP) system during the three months ended June 30, 2017. In connection with this ERP system implementation, we updated our internal controls over financial reporting, as necessary, to accommodate modifications to our business processes and accounting procedures. The implementation of the new ERP system did not have an adverse effect on our internal control over financial reporting. Except for this change, during the six months ended June 30, 2017, there were no other changes in our internal control over financial reporting identified in connection with the evaluation required by Rules 13a-15(d) and 15d-15(d) of the Exchange Act that occurred during our most recently completed fiscal quarter that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

27


PART II - OTHER INFORMATION

ITEM 1. LEGAL PROCEEDINGS

From time to time, third parties may assert patent infringement claims against us in the form of letters, litigation or other forms of communication. In addition, we may from time to time be subject to other legal proceedings and claims in the ordinary course of business, including claims of alleged infringement of trademarks, copyrights and other intellectual property rights; employment claims; and general contract or other claims. We may also, from time to time be subject to various legal or government claims, disputes, or investigations. Such matters may include, but not be limited to, claims, disputes or investigations related to warranty, refund, breach of contract, employment, intellectual property, government regulation or compliance or other matters.

We are not aware of any other pending legal matters or claims, individually or in the aggregate, that are expected to have a material adverse impact on our consolidated financial position, results of operations or cash flows. However, our analysis of whether a claim may proceed to litigation cannot be predicted with certainty, nor can the results of litigation be predicted with certainty. Nevertheless, defending any of these actions, regardless of the outcome, may be costly, time consuming, distract management personnel and have a negative effect on our business. An adverse outcome in any of these actions, including a judgment or settlement, may cause a material adverse effect on our future business, operating results and/or financial condition.

ITEM 1A. RISK FACTORS

The risks and uncertainties set forth below, as well as other risks and uncertainties described elsewhere in this Quarterly Report on Form 10-Q including in our consolidated financial statements and related notes and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” or in other filings by Chegg with the SEC, could adversely affect our business, financial condition, results of operations and the trading price of our common stock. Additional risks and uncertainties that are not currently known to us or that are not currently believed by us to be material may also harm our business operations and financial results. Because of the following risks and uncertainties, as well as other factors affecting our financial condition and operating results, past financial performance should not be considered to be a reliable indicator of future performance, and investors should not use historical trends to anticipate results or trends in future periods.

Risks Related to Our Business and Industry

Our limited operating history, recent business model transition and evolving digital offerings make it difficult to evaluate our current business and future prospects.

Although we began our operations in July 2005, we did not launch our online print textbook rental business until 2007 or begin generating revenues at scale from print textbook rentals until 2010. We began transitioning to a new model for our Required Materials product line in August 2014 through our strategic partnership with Ingram to accelerate our transition away from the more capital intensive aspects of the print textbook rental business. We completed our transition to a fully digital company as of November 2016 as Ingram now fulfills all print textbook rental orders. We continue to market, use our branding and maintain the customer experience around print textbook rentals, while Ingram funds all rental textbook inventory, fulfillment, logistics, and has title and risk of loss related to textbook rentals for the textbooks they own.
Since July 2010, we also have been focused on expanding our other offerings, in many instances through the acquisition of other companies, to include supplemental materials, multiplatform eTextbook Reader software, Chegg Study, Chegg Tutors, Chegg Test Prep, Chegg Writing Tools, College Admissions and Scholarship Services, purchases of used textbooks, internships, careers, college counseling, enrollment marketing services and brand advertising. Our newer products and services, or any other products and services we may introduce or acquire, may not be integrated effectively into our business, achieve or sustain profitability or achieve market acceptance at levels sufficient to justify our investment.
Our ability to fully integrate new products and services into our connected learning platform or achieve satisfactory financial results from them is unproven. Because we have a limited operating history, in particular operating a fully digital platform, and the market for our products and services, including newly acquired or developed products and services, is rapidly evolving, it is difficult for us to predict our operating results, particularly with respect to our newer offerings, and the ultimate size of the market for our products and services. If the market for a connected learning platform does not develop as we expect, or if we fail to address the needs of this market, our business will be harmed.

28


We face the risks, expenses and difficulties typically encountered by companies in their early stage of development, including, but not limited to our ability to successfully:
execute on our relatively new and evolving business model;
develop new products and services, both independently and with developers or other third parties;
attract and retain students and increase their engagement with our connected learning platform and our mobile applications;
attract and retain colleges, universities and other academic institutions and brands to our marketing services;
manage the growth of our business, including increasing or unforeseen expenses;
develop and scale a high performance technology infrastructure to efficiently handle increased usage by students, especially during peak periods prior to each academic term;
maintain and manage relationships with strategic partners, including Ingram, NRCCUA, and other distributors, publishers, wholesalers, colleges and brands;
develop a profitable business model and pricing strategy;
compete with companies that offer similar services or products;
expand into adjacent markets;
navigate the ongoing evolution and uncertain application of regulatory requirements, such as privacy laws, to our business, including our new products and services;
integrate and realize synergies from businesses that we acquire; and
expand into foreign markets.

We have encountered and will continue to encounter these risks and if we do not manage them successfully, our business, financial condition, results of operations and prospects may be materially and adversely affected.

Our operating results are expected to be difficult to predict based on a number of factors.

We expect our operating results to fluctuate in the future based on a variety of factors, many of which are outside our control and are difficult to predict. As a result, period-to-period comparisons of our operating results may not be a good indicator of our future or long-term performance. The following factors may affect us from period-to-period and may affect our long-term performance:

our ability to attract and retain students and increase their engagement with our connected learning platform and mobile applications, particularly related to our Chegg Services subscribers;
the rate of adoption of our offerings;
our ability to successfully utilize the information gathered from our connected learning platform to enhance our Student Graph and target sales of complementary products and services to our students;
changes in demand and pricing for print textbooks and eTextbooks; Ingram's ability to manage fulfillment processes to handle significant volumes during peak periods and as a result of the potential growth in volume of transactions over time; changes by our competitors to their product and service offerings;
price competition and our ability to react appropriately to such competition;
our ability and Ingram's ability to manage their textbook library;
our ability to execute on our strategic partnership with Ingram;
disruptions to our internal computer systems and our fulfillment information technology infrastructure, particularly during peak periods; the amount and timing of operating costs and capital expenditures relating to expansion of our business, operations and infrastructure;
our ability to successfully manage the integration of operations, technology and personnel resulting from our acquisitions;
governmental regulation in particular regarding privacy and advertising and taxation policies; and
general macroeconomic conditions and economic conditions specific to higher education.

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We have a history of losses and we may not achieve or sustain profitability in the future.

We have experienced significant net losses since our incorporation in July 2005, and we may continue to experience net losses in the future. Our net losses for the three months ended June 30, 2017 and 2016 were $6.0 million and $9.0 million, respectively, and for the six months ended June 30, 2017 and 2016 were $12.4 million and $24.7 million, respectively. As of June 30, 2017, we had an accumulated deficit of $383.8 million. We expect to make significant investments in the development and expansion of our business and our cost of revenues and operating expenses may increase. We may not succeed in increasing our revenues sufficiently to offset these higher expenses, and our efforts to grow the business may prove more expensive than we currently anticipate. We may incur significant losses in the future for a number of reasons, including slowing demand for print textbook rentals or our other products and services; increasing competition, particularly for the price of textbooks; decreased spending on education; and other risks described in this Quarterly Report on Form 10-Q. We may encounter unforeseen expenses, challenges, complications and delays and other unknown factors as we pursue our business plan and our business model continues to evolve. While Chegg Services revenues have grown in recent periods, this growth may not be sustainable and we may not be able to achieve profitability. To achieve profitability, we may need to change our operating infrastructure and scale our operations more efficiently. We also may need to reduce our costs or implement changes in our product offerings to improve the predictability of our revenues. For example, in January 2017 we transitioned substantially all of our print textbook rental revenues to commissions-based revenues. If we fail to implement these changes on a timely basis or are unable to implement them due to factors beyond our control, our business may suffer. If we do achieve profitability, we may not be able to sustain or increase such profitability.

We operate in a rapidly changing market and we have recently transitioned our business model to a fully digital business. If we do not successfully adapt to known or unforeseen market developments, our business may be harmed.

The market for our connected learning platform is still unproven and rapidly changing. Historically, we generated the majority of our revenues from print textbooks. Print textbook rental is highly capital intensive and presents both business planning and logistical challenges that are complex. To reduce our investment in the highly capital intensive nature of print textbook rentals, we entered into a partnership with Ingram wherein Ingram makes all new investments in the rental library of print textbooks, taking title and risk of loss for the books, and provides logistical and fulfillment services for the print textbooks that we rent and sell. The partnership allows us to market, use our branding and maintain the customer experience around print textbook rentals, while reducing our investments in textbook inventory, fulfillment and logistics operations. As a result of this change, we stopped making additional investments in our textbook library beginning in May 2015 and we liquidated our remaining inventory of print textbooks during first quarter of 2017 and have now fully transitioned these aspects of our print textbook offerings to Ingram. Our partnership with Ingram is non-exclusive and subject to significant risks, including Ingram's ability to acquire textbooks and manage logistical and fulfillment activities for us, our ability to create a successful and profitable partnership, and that we or Ingram may elect to terminate the partnership sooner than anticipated.
    
We have added and plan to continue to add new offerings to our connected learning platform, including, for example writing tools, to diversify our sources of revenues, which will require us to make substantial investments in the products and services we develop or acquire. New offerings may not achieve market success at levels that recover our investment or contribute to profitability. Because these offerings are not as capital intensive as our print textbook rental service, the barriers to entry for existing and future competitors may be lower and allow for even more rapid changes to the market. Furthermore, the market for these other products and services is relatively new and may not develop as we expect. If the market for our offerings does not develop as we expect, or if we fail to address the needs of this market, our business will be harmed. We may not be successful in executing on our evolving business model, and if we cannot provide an increasing number of products and services that students, colleges and brands find compelling, we will not be able to continue our recent growth and increase our revenues, margins and profitability. For all of these reasons, the evolution of our business model is ongoing and the future revenues and income potential of our business is uncertain.

If our efforts to attract new students to use our products and services and increase student engagement with our connected learning platform are not successful, our business will be adversely affected.

The growth of our business depends on our ability to attract new students to use our products and services and to increase the level of engagement by existing students with our connected learning platform. The substantial majority of our revenues depends on small transactions made by a widely dispersed student population with an inherently high rate of turnover primarily as a result of graduation. Many of the students we desire to attract are accustomed to obtaining textbooks through bookstores or used booksellers. The rate at which we expand our student user base and increase student engagement with our connected learning platform may decline or fluctuate because of several factors, including:


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our ability and Ingram's ability to consistently provide students with a convenient, high quality experience for selecting, receiving and returning print textbooks;
our ability and Ingram's ability to accurately forecast and respond to student demand for print textbooks;
the pricing of our physical textbooks and eTextbooks for rental or sale in relation to other alternatives, including the prices offered by publishers or by other competing textbook rental providers;
the quality and prices of our offerings compared to those of our competitors;
the rate of adoption of eTextbooks and our ability to capture a significant share of that market;
our ability to engage high school students with our College Admissions and Scholarship Services, Chegg Tutors, Chegg Test Prep and Chegg Writing Tools;
changes in student spending levels;
changes in the number of students attending college;
the effectiveness of our sales and marketing efforts; and
our ability to introduce new products and services that are favorably received by students.

If we do not attract more students to our connected learning platform and the products and services that we offer or if students do not increase their level of engagement with our platform, our revenues may grow more slowly than expected or decline. Many students use our print textbook service as a result of word-of-mouth advertising and referrals from students who have used this service in the past. If our efforts to satisfy our existing student user base are not successful, we may not be able to attract new students and, as a result, our business will be adversely affected.

If our efforts to build a strong brand are not successful, we may not be able to grow our student user base, which could adversely affect our operating results.

We believe our brand is a key asset of our business. Developing, protecting and enhancing the “Chegg” brand is critical to our ability to expand our student user base and increase student engagement with our connected learning platform. A strong brand also helps to counteract the significant student turnover we experience from year to year as students graduate and differentiates us from our competitors.

To succeed in our efforts to strengthen our brand identity, we must, among other activities:

maintain our reputation as a trusted source of textbooks, content and services for students;
maintain the quality of and improve our existing products and services;
maintain and control the quality of our brand while Ingram handles our textbook fulfillment logistics;
introduce products and services that are favorably received;
adapt to changing technologies;
adapt to students’ rapidly changing tastes, preferences, behavior and brand loyalties;
protect our students’ data, such as passwords and personally identifiable information;
protect our trademark and other intellectual property rights;
continue to expand our reach to students in high school, graduate school and internationally;
ensure that the content posted to our website by students is reliable and does not infringe on third-party copyrights or violate other applicable laws, our terms of use or the ethical codes of those students’ colleges;
adequately address students’ concerns with our products and services; and
convert and fully integrate the brands and students that we acquire, including Imagine Easy Solutions and Internships.com, each into the Chegg brand and Chegg.com.

Our ability to successfully achieve these goals is not entirely within our control and we may not be able to maintain the strength of our brand or do so in a cost effective manner. Factors that could negatively affect our brand include:

changes in student sentiment about the quality or usefulness of our connected learning platform and our products and services;
problems that prevent Ingram from delivering textbooks reliably or timely;
technical or other problems that prevent us from providing our products and services reliably or otherwise negatively affect the student experience on our website or our mobile application;
concern from colleges about the ways students use our content offerings, such as our Expert Answers service;
brand conflict between acquired brands and the Chegg brand;
student concerns related to privacy and the way in which we use student data as part of our products and services;
the reputation or products and services of competitive companies; and
students’ misuse of our products and services in ways that violate our terms of services, applicable laws or the code of conduct at their colleges.
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