What Are The Prospects For Yelp? What
Are Their Keys To Success?             
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What are the prospects For Yelp? What are their
keys to success? In this article I'll examine these
and related issues.

First, here are a few basic facts about Yelp. As mentioned
in my
previous IPO article, Yelp, a social media online
review site, had 2011 revenue of $83.3 million, up 75%
over the prior year. It generated a net loss of –$16.7
million, almost twice its loss in 2010. It has a total 25 million
reviews on its site, a 66 percent jump from the previous
year. It’s accumulated these reviews since its inception in
2004. It currently has 66 million monthly visitors to the site,
63 percent higher than a year ago.  

Yelp’s current total valuation is over $1.4 billion. It
obviously has a long way to go to justify that lofty figure.
Indeed it has never been profitable, yet it is worth $1.4
billion (they say)?  This seems to harken back to the
heady late ‘90’s valuations of some internet companies,
although I actually don’t believe it’s that much of a stretch.

What does it need to do from a financial perspective to
achieve this goal? It’s revenue increased by 75% last year
- It will need at least another five to seven years of
outsized growth (50% plus) to have a chance of generating
earnings that will provide a commensurate yield for that
capital. Yelp will probably need to grow its revenue to $500
million or more to justify its current valuation. I believe it
has a chance to do that. It will inevitably diversify its
revenue streams over the coming years, but even given its
current revenue sources, its traffic growth is the ultimate
key to its success or failure. And it has very impressive
traffic growth (63%). I don’t expect it to continue at that
pace over the next five years but it may be close enough
to keep the revenue line growing at the necessary pace.

One reason it may be able to maintain this is that it is the
number one player in the standalone online review sites
field. Its closest competitors in terms of traffic are
Citysearch, InsiderPages (both IAC), Angieslist, and a few
others. However, Yelp is significantly ahead of them. All of
these firms are growing but the firm that has the most
reviews and biggest market presence, Yelp, must be given
the best chance of continued future growth. Critical mass
matters in this business. Especially as these businesses
try to further enmesh themselves in the local social media
arenas, the more current users they have, the more
attractive they become to a future user. This is similar to
how Facebook’s growth accelerated when it reached a
critical mass of users, because a new user was likely to
find enough of his/her friends already on the site.   

Yelp currently generates its revenue in a few different
ways.  Its primary source is advertising. Within this, its
largest type is local advertising from businesses that are
reviewed on its website. This is the kind where a company
pays for itself to be featured at the head of the list in a
related user search. This accounts for 77% of its
advertising revenue. The remaining ad revenue is largely
general brand advertising, banner or similar ads, and
other text ads, primarily through Google. Current
participation in the former ad program is actually fairly low,
despite it being the company’s primary source of revenue.
Higher participation rates represent a significant
opportunity for future growth.   

Currently the online advertising market is $30 billion and
growing at approximately 15% per year. Yelp is at $83
billion in revenue and needs to grow at 50% per year. It
needs to grow with the market plus get an outsized amount
of ad dollars that are moving out of traditional and other
online media into the hyper-local online market.

Besides advertising, Yelp has a big opportunity to increase
traffic and revenue by becoming a serious player in the
social media interactivity space. For instance, Yelp users
can create profiles, post their own photos of restaurants,
etc, and make comments and start discussions about their
experiences. Users can connect to Facebook and start
discussions with a much larger universe of users, hopefully
drawing them in to Yelp’s world.

They are also getting into the local “daily deals” portion of
business, now dominated by Groupon, LivingSocial and
others. Although many players have and are trying to
make a go of this business, Yelp should be well positioned
to thrive in it. After all, they already have the infrastructure
of companies listed on their site with the people who have
and will patronize those businesses. If Yelp can’t sell users
a deal for those businesses, no one can.   

Another challenge will be to manage its marketing costs.
Selling local advertising has been an expensive
proposition. Part of this problem can be solved by making
its ad solution more valuable to the businesses on the site,
generating higher Cpms. But part of the likely solution will
be in finding efficiencies in the sales and marketing
process itself. Otherwise too much of its increased
revenue will not make it down to the bottom line.

In summary, I believe its key challenges are growing its
traffic, increasing its revenue by penetrating its potential
ad business base further, increasing its revenue per
customer through its deals and social media participation,
and decreasing its unit marketing expenses.

Of course, Yelp’s bottom line may not be quite as
important if it becomes an acquisition target in the future. It
may be an attractive investment for this reason as much as
any other. If they have the platform that the big players
need, making a profit may not be as important as
continuing to strive to be the biggest and best online
review site.

In December 2009, it was reported that Google and Yelp
were seriously considering a deal where Yelp would be
acquired for around $500 million or more. That certainly
seemed to establish a benchmark, one that seems to have
risen over the past few years leading the $900 million IPO
transaction earlier this month. It remains to be seen if the
they can be worth even more in the future to the big
players in the market.

Click here for the previous IPO article.         

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