Chegg Revenue Could Trend Lower Before Resuming Growth In 2017

Barrington Research reiterated its Outperform rating on Chegg Inc (NYSE: CHGG) with a $10 price target on the shares, which represents 47 percent upside from the current levels.According to the analysts, Chegg management's growth strategy at the time of its IPO on 11/13/13 called for a shift in the company's mix of business from one focused predominantly on print textbook rentals (slower growth, gross margins of 10-15 percent) to one with a wide range of high-growth, high-gross margin (60-70 percent) digital and non-print services, over the next several years. "With the expansion of its strategic partnership with Ingram Content Group, the shift to higher-margin digital revenue has been accelerated and it is now expected that 100 percent of Chegg's revenue will be digital by 2017, up from 30 percent of revenue in 2014." wrote Barrington, mentioning that due to this accelerated digital transformation, GAAP revenues have come down (during the transition period as low-margin textbook revenue is replaced by high-margin commission revenue), while digital revenue and free cash flow were immediately and positively impacted. "As a result, GAAP revenues decline in 2016 but re-accelerate in 2017, when all of Chegg's revenue is digital." the analysts wrote, noting that under the new model, management expects revenue growth to be 25 percent-plus (including the slow-growth but higher-margined textbook commission revenue), compared to a 2011-2014 average of 20 percent; gross margins of 60 percent-plus, compared to a 2011-2014 average of 30 percent; and adjusted EBITDA margins of 25 percent-plus, compared to a 2011-2014 average of -6 percent.