Duolingo, Inc. (NASDAQ:DUOL) Q1 2024 Earnings Call Transcript

Duolingo, Inc. (NASDAQ:DUOL) Q1 2024 Earnings Call Transcript May 8, 2024

Duolingo, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Deborah Belevan: Good evening, everyone and welcome to Duolingo’s First Quarter 2024 Earnings Webcast. Just a fun fact before we get started, that catchy song, Spanish or Vanish, is already 1 million listens on Spotify, if you can believe it. Today after markets close, we released this quarter’s shareholder letter, a copy of which you can find on our IR website at investors.duolingo.com. On today’s call we will have Luis von Ahn, our Co-Founder and CEO; and Matt Skaruppa, our CFO. They’ll begin with some brief remarks before opening the call to questions. Analysts will be able to ask a question by using the raise hand feature. Please note this event is being recorded and all attendees are in listen-only mode. Just a reminder we’ll make forward-looking statements regarding future events and financial performance, which are subject to material risks and uncertainties.

Some of these risks have been set forth in the risk factors of our filings with the SEC. These forward-looking statements are based on assumptions we believe to be reasonable as of today and we have no obligation to update these statements as a result of new information or future events. Additionally we’ll present both GAAP and non-GAAP financial measures on today’s call. These non-GAAP measures are not intended to be considered in isolation from a substitute for or superior to our GAAP results and we encourage you to consider all measures when analyzing our performance. And with that I’ll turn it over to Luis.

Luis von Ahn: Thank you, Debbie, and welcome everyone. We’ve started 2024 on a strong note with another stellar quarter. In Q1, we grew revenue and bookings by 45% and 41% respectively, delivered record profitability, and grew DAUs 54% year-over-year. These results show how powerful our product-driven flywheel is. Our excellent product fuels word-of-mouth growth, which in turn provides data to continuously improve the product, ultimately driving higher engagement and subscriber conversion. Our three-pronged approach of teaching better, growing users, and converting them to subscribers continues to be a winning strategy for us. This year, our monetization efforts are focused on optimizing our subscription offerings, including our Family Plan and our third-tier Duolingo Max.

We feel good about the progress we’ve made on Max based on the results of our experiments to date. Because of that, we rolled out Max more broadly in April, and today, roughly 5% to 10% of our DAUs have access to it. We will make it available to more countries and courses in the next few months. We’re also improving our Family Plan experience by streamlining the invite flow and having more engaging social features. Our progress on these initiatives, alongside other monetization initiatives and our current trends give us the confidence to raise our full-year guidance. Finally, our English Learner initiative will lay the foundation for long-term user and monetization growth. Although the vast majority of global language learners are learning English, English learners represent less than half of our DAUs, which is why we see a substantial opportunity to expand into this part of the market to grow users and bookings over the next couple of years.

This growth area, along with the continued momentum in our core product, highlights the massive opportunity ahead of us. With less than 1% of the language learning market, which is estimated to reach $115 billion by next year, you can see that we are just getting started. Our continued execution against our strategy is why we are confident that we can sustain rapid growth for years to come. And with that, I’ll turn it over to Matt.

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Q&A Session

Matt Skaruppa: Thanks, Luis. I’ll provide some additional color on our Q1 results before updating you on our guidance for the remainder of the year. As Luis shared, we saw very strong Q1 performance, with a combination of 41% bookings growth, 45% revenue growth, and a record 26% adjusted EBITDA margin, showing the continued strength of our business. We beat our Q1 guidance thanks to the compounding impacts of our growth and monetization experiments and our social-first marketing. This strategy continues to drive organic growth and increasing subscriber conversion. The continued strength in the business is what gives us the confidence to raise our 2024 bookings and revenue guidance. At the midpoint, we are guiding to bookings and revenue growth of 31% and 38% respectively.

I’d note that this growth comes even as we lap an incredibly strong 2023. For Q2, we are guiding to similar bookings and revenue growth rates as the full year, despite comping an unseasonably strong Q2 last year. As we mentioned on the last call, we expect Q3 and Q4 growth rates to step down from Q2. Note that if foreign currency rates were constant year-over-year, our Q2 bookings growth rate would be about 3 points higher, and our full year bookings growth rate would be about 1 point higher. We are also raising our adjusted EBITDA margin guidance to 23.5% at the midpoint. Our updated full year adjusted EBITDA guidance reflects the operating leverage we expect to achieve across all expense categories this year. Our profitability typically varies a bit from quarter-to-quarter, given our bookings and expense seasonality.

Specifically, as we said on the last call, we expect Q2 margin to be lower than Q1 and are guiding to 21.5% at the midpoint. And in Q2, we expect to see some deleverage across all the spend categories, driven by increased hiring and R&D and normal course increases in sales and marketing and G&A. We expect adjusted EBITDA margin for Q3 will be lower than Q2 because it’s typically our largest hiring quarter, and because we’ve shifted some sales and marketing spent into that quarter. And Q4 will be similar to Q1. For the full year, we are guiding to an incremental adjusted EBITDA margin of 39%, which is slightly above our long-term adjusted EBITDA margin target of 35%. Finally, we ended the quarter with approximately 49 million fully diluted shares outstanding using the quarter-end close price.

And in 2024, we expect to end the year with about 1% net dilution from equity issued to employees, which is similar to the dilution we had in 2023. And with that, I’ll turn it back to Luis.

Luis von Ahn: Thanks, Matt. I want to close by saying that this quarter’s results are a testament to the dedication of our team and to the support of our subscribers, both of whom help us expand our mission to more learners. Finally, I’d like to extend a huge thank you to Laela Sturdy, a long-serving board member who will be stepping back to focus on other priorities. Laela has been a tremendous supporter of Duolingo for the past decade and was instrumental in the progress we’ve made to date. So thank you, Laela. And now we would be happy to take your questions. I’ll turn it back to Debbie to manage the queue.

A – Deborah Belevan: All right. Thanks, Luis. And as I mentioned earlier, if you have a question, just use the raise hand feature. Your first question comes from Ralph Schackart of William Blair.

Ralph Schackart: Good afternoon, Luis and Matt. Two questions if I could. In the letter, you talked about optimizing subscription tiers throughout the year. I think you’ve talked about this previously. Maybe just give an update on that, if you could, please, what you’re finding there. I’m guessing you’re doing some testing. And then I know you don’t manage ARPU, but just sort of any impact as it may relate to impacting ARPU as we progress through the year. And then I have a follow-up.

Luis von Ahn: Thank you, Ralph. Thank you for the question. So in terms of subscription tiers, historically, we’ve had two tiers. The free tier and super Duolingo. About a year ago, we started experimenting with a third tier, which we call Duolingo Max, where the idea was that this coincided with the large language models and generative AI coming out. So we decided to use the AI features as a good kind of excuse to start the third tier, which is something we’ve wanted to do for a while. So we started experimenting with Duolingo Max, which had a couple of AI features, which are mainly conversational features. And as we said, it was going to take us about a year to get to a wider rollout. And this is what just happened. We started a wider rollout because we’re pretty happy with the results.

I mean, generally, we’re seeing that users that there’s a desire from users to have a higher tier. What you’ll see us do over the next few quarters is, first of all, roll it, roll out Max to other countries and other languages. Right now, Duolingo Max is accessible only to people who are learning French and Spanish on iOS in six countries. We expect to put it on Android and in many more countries and in many more languages to learn, which will get it to a higher fraction of the use. The other thing that you’ll see us do is we’ll see us start shifting features around to see what is the best packaging. And there’s no real reason for the highest package to be just AI features. So we’re doing experiments, for example, to put unlimited hearts, which, hearts, you lose a heart every time you make a mistake.

We’re running an experiment to put unlimited hearts in Max. So what you’ll see happen is that, by towards the end of the year, we’ll probably have a pretty set of features. And then at that time, there will be work to be done to try to move as many of our subscribers to Max as possible. That’s kind of what we’re doing for the tiers. I’ll let Matt answer the ARPU question.

Matt Skaruppa: Yes, on the ARPU side, there’s a general trend that we’ve talked about before with our ARPU trending back towards, basically flat year-over-year growth. If nothing else happened, if you add in a higher mix of either family plan or Max, you can see that have some upside to it. And so that’s how we think about it Ralph, in the model.

Ralph Schackart: All right. Just one more maybe for Luis. Just in terms of advanced English product, obviously, it’s a big strategic focus. Maybe just a quick update how it’s progressing. But maybe more importantly, if you get this right or if the consumers really adopt this product, sort of give a sense of like how impactful this could be for the overall business.

Luis von Ahn: Yes, great question. Thank you for asking, because it’s something we’re very excited about, our English learner opportunity. Just to put things into context, if you look at the global language learning market, outside of Duolingo, the overwhelming majority of people who are learning a language are learning English. And the overwhelming majority of the spend is in people who are learning English. With Duolingo, we are underrepresented in users and we were even more underrepresented in terms of revenue when it comes to English learners. Less than 50% of our DAUs, for example, are learning English. So we see this as a pretty major opportunity. And this is why we’re investing in teaching English better. And in particular, the thing that we’re doing for teaching English, just to remind everyone, we have a different English course for different base languages.

So, for example, we have an English course for Chinese speakers and that’s a different course than the English course for Spanish speakers, etc. So we have about 20 English courses. And, if you look three years ago or so, they got you to different levels of proficiency, each one of these courses, and none of them got you to a very high proficiency. What we have done over the last couple of years, and this is one of the major achievements of this company, is we’ve made it so that our English courses, in particular 18 of our 20 English courses now, get you pretty high proficiency. So that’s the first thing we needed to do is get people to more advanced levels because English, in particular, English learners usually are at more advanced levels than other languages.

So first thing is we needed to get people to higher proficiency. The content is now there as of the last few weeks. So that’s good. That’s kind of checkmark one. The next thing that we’re working on is getting placing people into the right spot in the course. Now that we have way more advanced content, when new users come in that have prior proficiency, we need to put them in the right place in the course. This is more important with English than with other languages, because, if for people who are learning Swedish or, whatever other language that is not English, most of them come to Duolingo as complete beginners. English learners, it just turns out most people in the world just know some amount of English. So they come in with prior proficiency.

But this prior proficiency that they come in with is pretty patchy because they may have learned it by watching some movies or they took English in third to the fifth grade or just listen to some songs. So what they know in English is pretty patchy. So the problem of putting them in the right place in the course is tricky. But that’s what we’re working on and we’re making good headway. Once we are able to do that, which will happen throughout this year, we’re going to start marketing so that Duolingo is now known as a good place to learn intermediate to advanced English. And when that happens, I think we’re going to start seeing some, meaningful contribution of these English courses more than they have now. In terms of how large this opportunity is, it’s hard to say exactly.

But, we think that it’s going to be pretty meaningful. So this is and this is one of the main reasons why we think there’s in the span of the next, midterm, kind of three-ish years, we see that this is going to be a strong contributor.

Ralph Schackart: Thanks, Luis. Thanks, Matt.

Deborah Belevan: All right. Next question comes from Justin Patterson of KeyBanc.

Justin Patterson: Great. Thank you very much and good afternoon. Luis, in the letter you teased having family quests, more family plan optimizations in there. From what we can tell, friend quests have been pretty popular in terms of driving daily engagement. So I’d love to hear more about just how you’re thinking about some of these optimizations around family plan going forward, what that could do for the business. And then, Matt, for the financial part of the question, we’ve often found that family plan is much better retention characteristics, much higher ARPU for companies, pretty price elastic. So as you see more value, see KPIs really improving around family plan. How are you thinking about that right price to value ratio going forward? Thank you.

Luis von Ahn: So I’ll start with the feature. So family plan is an interesting feature. Family, the family plan was built by our monetization teams. There was no team that was called family plan or anything. Just we built one of the plans to build family plan. And as soon as they built it, they moved to doing something else. So they kind of left it there. It was pretty bare bones family plan. And it just started growing by itself organically. So we found that there’s just a lot of desires, desire from people to get a family plan. And what we love about the family plan, of course, is that it has much higher retention than our other plans, because if you buy a family plan and it has multiple users in your family, as long as any of them keep using it, you’re still on that plan.

So it’s been really great for us. We saw it get to about 18% of our subscribers are on a family plan now. And that’s without really spending any real effort improving the plan. So about two months ago or a couple of months ago, we started a new team that’s basically to work on improving the family plan. They’ve done a number of things. They started out by just fixing some things that were really should have just been fixed from the beginning. For example, it was the case, even though it grew, family plan grew that much, it was the case that if you had some kids under 13 in your family plan, the adults couldn’t see the kids names. This just made no sense. So we have fixed that. We are making it so that it is easier to find your family. So we’re working on that.

We are adding a lot more social features, like basically ways for the whole family to collaborate or compete. So we think that over the next few quarters, we’re going to see an increase in the fraction of our subscriptions that our family plan. I don’t know, Matt, if you have more to say about that with the pricing.

Matt Skaruppa: Yes, on the price to value, Justin, I think it’s a great question and I’ll just take a second to broaden it out. So we have added a ton of value to our super subscription and to family plan. And now we’re working on adding even more value with Max. And I think that’s why when you hear us talk about experimenting with pricing, that’s part of what we’re trying to do just in general is find ways to see if we’ve added enough value to consumers that they’re willing to pay us more for their subscriptions. I think on family plan in particular, what Luis just mentioned is adding value to a plan that historically has had one defining value addition feature, which was adding more people. And so as we add more value, I think we will continue to experiment with the price, the price of family plan.

And I know that my two daughters get a lot more value out of it already because they can consistently nudge me to do a lesson. So it’s not hard for me. I’m biased, of course, to squint and see us experimenting with pricing because we are definitely already improving the value of the plan.

Justin Patterson: Good stuff. Thank you both.

Deborah Belevan: Thanks, Justin. Next question comes from Bryan Smilek of JPMorgan.