Investors in Duolingo (DUOL 2.71%), the world's top-grossing education app, are having a fun learning experience. Duolingo's shares have soared over 40% from its IPO price of $102 -- a sign of affection for this growing educational tech start-up.
Alphabet (GOOG 1.43%) (GOOGL 1.42%) has a 13% stake in Duolingo -- making it the biggest outside investor in the company. In fact, Duolingo co-founder Luis von Ahn has sold two inventions to Alphabet. One of these inventions, reCAPTCHA, is used everywhere online today to guard websites from fraud and abuse. After snapping up reCAPTCHA in 2009, Alphabet went on to back von Ahn's next venture, Duolingo, which has become an even greater success.
Clearly, there is something Alphabet likes about Von Ahn and his ability to create successful tech products. With this in mind, Duolingo deserves a closer look.
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Duolingo's business model
Duolingo started in 2011 with the audacious goal to "develop the best education in the world and make it universally available." To achieve this, the founders built Duolingo from ground up to meet the needs of an increasingly mobile generation. Anyone with a web browser or smartphone can access the platform, which has won accolades for being innovative and easy to use. In 2013, the platform won Apple's App of the Year award -- the first time any education app had won this prize. Today, Duolingo has 40 million monthly active users (MAUs) using the platform to take courses in 40 different languages. Users have downloaded the app more than 500 million times, making it the top-grossing education app on Google Play and Apple's App Store.
There are many reasons why Duolingo is so popular. To start, users can use the app to learn a new language anywhere and anytime. That's pretty convenient, considering the location-based, deadline-driven structure of traditional education programs. In the old system, students follow a standardized lesson plan irrespective of their abilities, which results in a mixed learning outcome. Duolingo solves this problem by using artificial intelligence (AI) algorithms to personalize each lesson for every individual learner so users progress at their own pace.
Anyone who has tried to learn something new knows that staying motivated is hard. To keep users coming back, Duolingo deploys gameplay mechanics like experience points, streaks, and leaderboards. By gamifying the learning process, Duolingo helps users stay engaged -- boosting their chances of success.
Perhaps the most disruptive thing about Duolingo is its price. All course content is free, and Duolingo monetizes its audience by serving ads at the end of each lesson. For an ad-free experience and some additional features, users can subscribe to Duolingo Plus for $6.99 a month. Comparatively, attending a physical class to learn a new language can easily cost hundreds -- if not thousands -- of dollars.
In 2016, Duolingo began offering a second product: the Duolingo English Test. This is an online, on-demand English proficiency test that anyone can take on their phone from anywhere, at any time. More than 3,000 higher-education programs -- including top undergraduate programs at Stanford, MIT, Yale, and Columbia -- accept Duolingo English Test results as proof of English proficiency.
In 2020, subscriptions accounted for 73% of Duolingo's revenue. The rest is from ad income (17%) and other services (10%), such as Duolingo English Test fees and sales of virtual goods.
Duolingo's prospects and risks
Over the last few years, Duolingo has been firing on all cylinders. Revenue grew 128% to $162 million in 2020, up from $71 million in 2019. This came on the back of growth in its paying user base, which rose 84% to 1.6 million users. The momentum continued into the first quarter of this year, with revenue surging 97% to $55 million.
But for Duolingo, this is just the tip of the iceberg. The market for online language learning is expected to be worth $47 billion in 2025, up from $12 billion in 2019. And Duolingo sees itself as much more than "just" a language learning app. It aims to expand its platform to tackle other subjects like math, riding the ongoing shift toward digital learning. This will help Duolingo grab a bigger slice of a market that GSV Ventures -- an edtech venture capital firm -- estimated will be worth $1 trillion by 2026.
There are many ways Duolingo can grow from here. For one, it can continue attracting new users from across the world. In the meantime, it can convert existing users into paying subscribers. Duolingo had 1.8 million paying subscribers as of March 31 -- just 4.5% of its MAUs. For the record, that's up from 3.3% in 2019, but there's still a lot of room for growth here. On top of that, Duolingo can roll out new courses and products -- such as proficiency tests -- which will further expand its revenue stream.
Still, the road ahead isn't all clear. There are thousands of free language learning apps jostling with Duolingo for user time and mindshare -- something the company acknowledges in its IPO prospectus. Duolingo also competes with education companies and universities, some of which offer free products in as many as 50 languages. So far, Duolingo has successfully defended its market position. It remains the top-ranked language learning app worldwide, and its financial performance has been impressive. But there's no guarantee this always be the case. As demand for online learning grows, more rivals will likely emerge with innovative products of their own, keeping Duolingo on its toes.
Should investors buy the stock now?
Duolingo appears to have the ingredients for success. It has a popular, engaging platform, a massive, global user base, and enormous room for future growth. On top of that, it stands to benefit from Alphabet's backing and expertise in scaling technology companies.
But at a market cap of $5.13 billion, Duolingo trades at an eye-popping 32 times 2020 sales. Facebook -- the biggest social media platform and one of the world's most innovative tech companies -- trades at less than 10 times sales.
Right now, Duolingo is riding high on investor optimism and the success of its IPO. But at such a steep valuation, the stock is too hot to touch. Keen investors should monitor Duolingo for a few quarters to see if it can sustain its strong performance.
