This Growth Stock Won't Last

Chad is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Some companies just aren't able to go it alone. Their business model either doesn't have a great barrier to entry, or they can't handle the expenses that come with their natural growth trajectory. When this happens, generally one of two things occur. Either the company has to slow down its growth to match its cash generation, or the company is attractive enough that another company decides to buy them out. I believe this is the situation occurring at OpenTable (NASDAQ: OPEN). 

Who is this company?
For those who aren't familiar with OpenTable, they offer both a seating management system, and online reservations. For the restaurant owner, the benefits of a seating management system are obvious. The more efficient the restaurant is getting diners in and out, the higher customer satisfaction, and the better profits for the restaurant. What gets more focus is OpenTable's online reservations system.

This offering allows patrons to book their own reservations, which are sent electronically to the restaurant. This eliminates the cost of having someone answer the phone, look at the expected seating, and take the reservation. In addition, this also allows customers to quickly determine when they can get a reservation instead of going back and forth with the restaurant over the phone.

How are they doing?
Based on OpenTable's recent quarter, they are doing very well. The company saw revenue increase 16% to just under $40 million, and non-GAAP net income increased to $9.7 million. These results were primarily driven by the domestic market, as the company's international market is a work in progress.

In North America, OpenTable grew its restaurant base 17% to a total of 18,975. The company saw revenue increase 19% on the back of a seated diner increase of 26%. This strong organic growth led to non-GAAP EBITDA growth of 31%. On the international front, OpenTable operated under the TopTable name, but many restaurants decided not to move over to the OpenTable system. This change led to revenue down 1% year-over-year, but with adjustments for TopTable, the restaurant base grew by 80% to 7,385. Seated diners overseas grew by 30% to 2.3 million.

Why should investors care?
Investors should keep an eye on OpenTable as a potential takeover target. The company currently sports a $1.2 billion market cap. and they offer a potential acquirer two important features. First, OpenTable knows the preferences of millions of diners at local restaurants. This is data that will only grow as the company expands. Second, the company has relationships with over 26,000 restaurants. OpenTable also generates free cash flow and had over $80 million in net cash on the balance sheet.

Who could be a buyer?
Logical buyers would have to be separated from the restaurant business enough that they wouldn't be natural competitors to these over 26,000 restaurant owners. In addition, the company would need to be technology savvy to take advantage of the OpenTable system and app. offerings. The top three that come to mind are: Apple (NASDAQ: AAPL), Google (NASDAQ: GOOG), and maybe Yahoo! (NASDAQ: YHOO). While it might sound like an odd fit to suggest these companies, let me show you how OpenTable could integrate into each of these companies relatively seamlessly.

Just another way to sell iPhones and iPads:
While OpenTable would be little more than a rounding error for Apple's revenue stream, there is some logic to this acquisition. OpenTable is already integrated into Apple Maps, and OpenTable potentially benefits from every iPhone sold. The company's reservation system is the default in iOS, and OpenTable said that one-third of diners in North America booked their reservation through mobile. Apple would have the opportunity to sell an iPad (or multiple iPad) based seating system to these thousands of restaurants. Last but not least, OpenTable wouldn't have to worry about expansion costs, as Apple's war chest of over $120 billion could be put to good use.

What better way to stick it to Apple:
A Google acquisition of OpenTable would in part be about having yet another arrow in the quiver to stick it to Apple. Apple already integrates OpenTable into Apple Maps; imagine this same integration into the more popular Google Maps. This would improve this already popular system, and offer Google better data for its search engine through the knowledge of these 26,000+ restaurants. Google would also gain valuable data about these restaurant customers, and would be able to offer more targeted advertising for these restaurants to former diners. Google's stock at over $700 a share would be a relatively cheap currency, or the company could use some of its over $3 billion quarterly cash flow to make the acquisition.

A little right field, but if it works for Google...
If it works for Google, in theory it would work for Yahoo as well. Yahoo needs whatever it can get to improve its competitive position. Yahoo's advertising could get a boost from the same dynamics that would benefit Google. Yahoo would also automatically gain a closer relationship with Apple, and given Yahoo's search agreement with Microsoft, having these two allies against Google wouldn't be a bad move. Yahoo also generates almost enough free cash flow per quarter to buy OpenTable outright. If the company didn't want to go that route, part of the company's normalized $5 - $6 billion in cash and investments would do the trick.

OpenTable's acquisition might be more a question of when, rather than if it will happen. These three companies could find OpenTable a good fit, or a company more tied to the restaurant industry could make the buy. While the stock does trade for about 27 times forward estimates, the company's expected growth rate of nearly 24% seems to justify the valuation. Without a buyout, OpenTable should do just fine; but as an acquisition opportunity, the stock could present excellent value.

MHenage owns shares of Apple. The Motley Fool recommends Apple, Google, and OpenTable. The Motley Fool owns shares of Apple and Google. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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