Duolingo: Weak Guidance + Uncertainty of Short-term Changes, Green Bird Falls from High Valuation Pedestal

$Duolingo(DUOL.US) released its Q3 2025 earnings after the market closed on November 5th, Eastern Time. The guidance for Q4 fell short of expectations (implying a significant slowdown in growth), but at the same time, the company stated its intention to make new investments and product changes from a long-term perspective. The core focus shifted from metrics directly related to monetization and profit (such as paid rate and EBITDA margin improvement pace) to user growth across the ecosystem (MAU, DAU), leading to market uncertainty about future monetization performance growth.

Following the earnings release, Duolingo's stock price fell by over 20%, clearly indicating the market's short-term stance. Dolphin Research believes that the short-term slowdown in growth guidance and uncertainty indeed poses a risk of valuation decline: If future organic growth remains below 20%, it will directly challenge the valuation level of over 30x EV/EBITDA before the earnings report.

However, from a long-term perspective, Dolphin Research believes that the current transformation (prioritizing user growth, accelerating product feature iteration, and temporarily weakening the operational goal of user payment conversion) is more conducive to the sustainable and stable expansion of the company's platform ecosystem, especially in resisting the early potential impact of AI chatbots.

Regarding the issue of AI-native products eroding and disrupting Duolingo's market share, we believe that Duolingo's product experience still differs from AI language learning experiences, with stronger actual user retention. As long as Duolingo continues to innovate and enrich its features, it can still leverage AI technology to reinforce its scenario barriers.

Currently, management indicates that after resuming its previous social marketing style, recent North American user growth has recovered to 30%. We will continue to monitor the sustainability of this recovery. Once signs of user improvement are established, it will quickly drive a valuation rebound. Before that:

If sentiment-driven valuation declines further to below 20x EV/EBITDA (USD 8 billion) in the panic range, there may be opportunities to play on valuation recovery. From a medium to long-term perspective, we slightly adjust our previous endgame assumption expectations downward and slightly slow down the pace of R&D rate optimization. Based on the DCF model, the neutral and optimistic expectations correspond to valuations of USD 13-20 billion, respectively.

Key Points of the Earnings:

1. Guidance Below Expectations: Duolingo's Q3 performance exceeded expectations, but the disappointing Q4 bookings and EBITDA guidance led to a stock price collapse. Dolphin Research believes the main issue lies with the bookings. The company guided Q4 bookings to be USD 330-360 million, implying a growth rate of only 21%-23%. This clearly does not match the previous 40-50x PE valuation.

2. User Growth Still Needs Recovery: The slowdown in bookings further breaks down into user growth issues. Due to the previous negative AI publicity impact, although the company later resumed its original exaggerated social media marketing, North American user growth in Q3 did not recover significantly, with new users mainly relying on international users (especially penetration into Chinese users through a fantasy collaboration with Luckin Coffee).

Existing user retention remained stable, with DAU/MAU continuing to rise slightly to 37.3%, comparable to most social platforms, and the paid rate increased to 8.8%, with the proportion of MAX subscribers rising from 8% in the previous quarter to 9%. Dolphin Research believes the "Energy" plan is conducive to enhancing user retention and further payment conversion.

Before the earnings report, the exposure of North American user data issues had been continuously suppressing valuation sentiment. In reality, Q3 user performance did show a significant slowdown, with year-on-year growth falling below 20%. Although management stated in the conference call that with the return of exaggerated social media marketing, recent user scale has returned to 30% growth, the aforementioned bookings guidance still implies concerns about potential recurring user issues in the future.

3. Price Increase Effects Gradually Manifest: The price increase at the beginning of the year gradually manifested in Q2 and Q3. Due to a high proportion of annual members, the average subscription per person over the past year saw a 4% year-on-year increase in Q3, further highlighting the trend of price increases and higher MAX subscription penetration compared to Q2's 3.3%.

4. Profit Margin Optimization Pace May Slow: Q3 profit margins continued to improve, with gross margin increasing by 0.1 percentage points quarter-on-quarter, and EBITDA margin declining quarter-on-quarter but still improving by 5 percentage points year-on-year. Although there are still some mismatches in AI investment (MAX products) output, as computing power costs decrease and external payment penetration on the user side increases, gross margin is expected to remain stable or slightly improve.

However, considering the current shift in the company's operational focus, subsequent efforts will accelerate product iteration and feature innovation to expand user scale, while payment conversion will not be pushed too rigidly. Although the company's performance will not lead to continuous deterioration of profit margins, we expect the final profit optimization pace to slow or temporarily stall.

5. Key Financial Indicators Overview