To The Moon

First, let’s address a common question.

 Historically, September is typically the worst-performing month of the year for stocks. So, there’s a lot of talk about selling stocks now and buying them back in October. Does this strategy work? Let me explain. I’ll share insights about a company that has recently experienced a puzzling drop in its stock price, likely reaching an undervalued stage.

Which company is this? Could it be a good long-term investment? Last Friday, the stock market saw a significant pullback, with tech stocks, led by $NVIDIA(NVDA)$  , experiencing sizable declines. This reminds us that September is often the worst month of the year for stocks. There’s a 56% probability that stocks will drop in September, so many suggest selling stocks before September starts and buying them back in October. To me, this approach is completely misguided. Even if there’s a 56% chance of a decline, so what? If you’re a student with a 56% chance of failing an exam, would you skip the exam?

That’s absurd, right? The analogy isn’t perfect, but you get my point.

As a long-term investor, you don’t sell stocks just because there’s a 55% or 56% chance of a bad month. That’s pretty foolish. Stick to your plan. If you think a stock is overvalued, sell a portion. If you think it’s undervalued, start building a position gradually. Whether it’s a “black September” or not, it doesn’t matter. The most important thing is to stick to your plan. Now, let’s move on to the company we’re analyzing today: Duolingo ($Duolingo, Inc.(DUOL)$  ).

WHAT IS DUOLINGO

Launched in 2011, Duolingo was created by Luis von Ahn and Severin Hacker with the aim of making education accessible to everyone.

Number of users: Over 500 million learners worldwide to date, of which 74 million are active users.

Languages offered: Over 100, from the world’s top five most spoken languages, namely English, Spanish, French, Japanese and German, to less commonly taught languages such as Hawaiian, Navajo and Scottish Gaelic. You can also learn High Valyrian from Game Of Thrones, and Klingon from the Star Trek series, as well as math and music.

Most popular languages in Singapore: Japanese, Chinese and Spanish.

How to learn: Membership levels start with the free Duolingo tier, where users go from the start to end of a course without paying a cent.

It also offers two paid subscription tiers. Super Duolingo, at S$13.98 (US$10.40) per month, that allows users to fast track their learning. Bednarczyk said the majority of learners are on the Super Duolingo tier.

Duolingo Max costs S$27.98 per month, which includes all the benefits of Super Duolingo and the new AI-powered features. It is currently available only for the Chinese, French for English Speakers and Spanish for English Speakers courses.

Remember when its stock price surged to $400 after its earnings report? Now, it’s under $300. 

What’s going on? Most people know Duolingo as a language-learning app. It’s expanding its business, offering not just language learning but also subjects like music. It doesn’t provide live tutoring but uses AI and a systematic course structure to teach languages and other subjects. I’ve used it myself, and you may have too—that green bird mascot, right? Why are we talking about Duolingo? In May this year, its stock price hit $540, but now it’s around $290, essentially cut in half. Why? Like many software companies, Duolingo has been hit hard. Companies like Salesforce (CRM) and Adobe are also down significantly. The market seems to believe that AI will replace everything, including software companies, rendering them obsolete. This sounds absurd, but that’s the current market sentiment. So, let’s explore whether Duolingo still has value and if it’s worth buying after this massive pullback.According to Morningstar, Duolingo has a narrow economic moat, meaning it has some competitive advantages as the leading language-learning app, but not the widest moat.

AI could potentially disrupt its business model.

Morningstar estimates its fair value at $260, while its current price is $297, suggesting it’s slightly overvalued. But is that true? We’ll share our valuation later.Looking at Duolingo’s financials, it’s been profitable for less than two years, so its earnings are not yet stable, and its price-to-earnings (P/E) ratio is high. However, its free cash flow metrics are very reasonable. Its outstanding shares haven’t decreased, indicating some dilution, which is a slight concern. On the positive side, its balance sheet is strong, with over $1 billion in cash against a $13 billion market cap, meaning no near-term bankruptcy risk. Its free cash flow is $328 million, showing consistent quarter-over-quarter growth, which is impressive.Why did its stock surge 20% on the day of its latest earnings report, only to fall back?

The second-quarter revenue grew 41%, free cash flow grew 61%, and paid subscribers increased 37%. Monthly active users (MAUs) grew 20% to 128 million, and daily active users grew 40%. These numbers crushed Wall Street expectations and the company’s own guidance from the first quarter. For the full year, Duolingo raised its revenue growth guidance to 35-36%, up 3% from its prior forecast, and adjusted EBITDA is expected to grow 50% in Q3 and 54% for the year. These are stellar figures, showing no signs of AI disrupting its fundamentals.So why the recent drop?

After the earnings-driven surge, $Alphabet(GOOG)$   announced new AI-powered live translation and language-learning tools for Google Translate. This feature rolled out in the U.S., allows users to set their language proficiency level (beginner, intermediate, advanced) and choose specific contexts (e.g., dining, school, or travel).

Google Translate then provides tailored lessons for speaking or listening. This news caused Duolingo’s stock to drop 7% in a single day. Unlike Duolingo, Google Translate’s feature reportedly has no usage limits, which is bad news for Duolingo.Additionally, Duolingo made a controversial change on July 3, switching from a “hearts” system to an “energy” system. Previously, users could practice unlimitedly if they answered correctly, as wrong answers deducted hearts.

Now, the energy system limits usage regardless of correct or incorrect answers, forcing users to wait until the next day or pay for a premium subscription. This change sparked outrage on forums like Reddit, with many users threatening to abandon Duolingo. While some may upgrade to premium, others may leave entirely, making the financial impact unclear. This policy change, not AI, is the bigger concern for Duolingo’s user retention. Regarding user acquisition, Duolingo added 24.7 million MAUs from Q2 2024 to Q2 2025. Its sales and marketing expenses over the past 12 months totaled $107 million, equating to a customer acquisition cost (CAC) of $4.30 per user. Compared to Uber, which also added 24 million users in the same period, Duolingo’s low CAC reflects its strong brand and word-of-mouth growth, as it faces little competition among publicly listed language-learning apps.Duolingo’s earnings surprises are impressive: over the past 12 quarters, it missed earnings expectations only once and beat revenue expectations every quarter. 

 For valuation, its P/E ratio exceeds 100, but using free cash flow ($328 million) and assuming a conservative 20% growth rate, we estimate a fair value of $409. Given its projected 54% earnings growth and 36% revenue growth for 2025, this valuation seems reasonable.

In conclusion, Duolingo appears undervalued, especially if you’re a satisfied user. Its business model is less vulnerable to AI disruption than companies like Adobe, as language learning requires structured, long-term systems, which Duolingo excels at. However, the recent energy system policy could alienate users, posing a bigger risk than AI. I’d be cautious about buying aggressively until the impact of this change is clearer in Q3 earnings. If you use Duolingo, please share in the comments how you feel about this policy change—are you upset, or do you think it’s fine?

I believe the green bird will fly...

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