Help! Yelp has Arrived

By Eric Volkman - March 3, 2012 | Tickers: GOOG, GRPN, P, YHOO, YELP | 0 Comments

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Never underestimate first day excitement. Buoyed by an ocean of hype and a rock star-level brand name, Yelp (NYSE: YELP) surged ahead in its debut as a publicly traded company. The company’s shares popped more than 60% higher on an otherwise unremarkable trading day. The lucky investors who managed to nab some of that paper can spend the weekend showing off before they take profits early next week.

They’ll be strongly tempted to do so because Yelp is clearly not a good buy-and-hold candidate. Despite its powerful brand name -- as in, “hey, why don’t you Yelp that restaurant and see if it got good reviews?" -- the company is draining money and will almost certainly continue to do so into the future. Revenue’s up, sure, but the pace of that growth is slowing. Top line more than doubled between 2008 and 2009, then calmed to 85% in 2010 and 75% in 2011. More worryingly, sales are not growing as fast as costs. The latter figure nearly doubled in percentage terms from 2009 to 2010 compared to the previous year. Meanwhile, revenue from “local” (i.e., the businesses Yelp covers) advertising surged 122% year-on-year in 2009, but only advanced 68% in 2010. Since the company depends on these ads for anywhere from 70% to 80% of its total revenue, those numbers aren’t good, particularly considering the growth in costs. We won’t even talk about the company’s net results; suffice it to say the firm posted its first eight-figure loss this past fiscal year.

This wouldn’t be such a concern if Yelp had more potential than it does, or a higher barrier to competitive entry. But it doesn’t -- its business model is easily replicated for anyone willing to shell out the money for data on a particular city’s shops and restaurants. One thing Yelp has going for it is volume, with around 22 million user reviews (as of this past September) and 60-some million unique visits. When matched against some of the big internet brand names that are broad enough to offer a Yelp-like service, however, those numbers are small. Additionally, a company like Yahoo! (NASDAQ: YHOO) hungry for new revenue streams, if it were so determined to play the local business listings game, would only need to bring a fraction of its almost $1.5 billion in cash to bear on building up such a site. With a little coding magic and a dash of publicity targeting its many millions of users to its various sites, it would be a serious competitor to Yelp in a hurry. More threateningly, Google (NASDAQ: GOOG) is a monster entity that doesn’t like to lose in any online category; if it made a move against Yelp, few sensible investors would put money on the smaller company to win. Even with its many projects GOOG still has an awful lot of cash to spend, and it’s got the one powerful advantage that rules them all -- it controls the world’s default search engine. If it starts a series of review sites, what’s to stop it from favoring those sites and burying Yelp’s in any and every user search for a local business?

Yelp is a well-liked and useful online destination, but it’s hardly unique or difficult to imitate. Meanwhile, its fundamental underpinnings aren’t strong enough to sustain a hefty share price and they have little prospect of improving. In the most likely scenario, the stock will go the way of other recent IPOs from name startups like daily deal site Groupon (NASDAQ: GRPN), which after a 30%-plus initial pop now trades nearly a dollar off its $20 debut price, or internet music portal Pandora (NYSE: P), currently down more than two George Washingtons from its first-day launch of $16. Once the excitement of Yelp’s fresh listing dies down -- and there’s little reason to suspect it won’t, and soon -- look for the stock to trade at a sub-launch price, just like the other popular kids who’ve graduated so far from the 2011-12 IPO class.

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