Yelp Is Worth $61.17

Yelp’s (NYSE:YELP) has been in the news for the past few quarters due to the gyrations in its stock price. The stock has underperformed the broader markets. While the return on Nasdaq and S&P has been 18.36% and 14.7% respectively, Yelp’s return has been -5.1%. The primary reason for this has been failure of Yelp’s management to achieve street analyst’s estimates, who were expecting a much higher growth rate than Yelp was able to deliver. However, we estimate that with the existing growth rate and revenue run rate the stock is fairly valued at $61.17. As the company is currently expanding into new geographies, which will negatively impact the monetization rate of its core local ads business, the stock is well placed to gain a significant foothold in the $130 billion local ads industry. In this article, we will explain the factors supporting our valuation of $61.

Check out our complete analysis of Yelp

Local Ads Business to Grow, Albeit At Slower Pace

According to our estimates, the local ads business makes up over 80% of Yelp’s estimated value. The key drivers for this division are the average revenue per active local business account and the number of active local business accounts listed with Yelp. According to BIA/Kelsey, online local ad spending in the U.S. is expected to increase to $31.7 billion in 2014 and $52.7 billion in 2018. ^[1] The company has a total addressable market (TAM) of 76 million local businesses in the world, of which 53 million are present in the Americas and Europe. This translates into a global market of nearly $130 billion. However, the number of active business, which pay for Yelp’s services, listed with the company is just a fraction of this market at 86,200 in Q3 2014.  While we expect that the base effect will limit the active business listing CAGR to 30%, we believe that the company can add at least 423,000 active business accounts by 2021. Our reason for this growth are as follows:

• Mature Cohorts Conversion: The number of claimed businesses, which have a listing with Yelp but do not pay for any of the premium services, stands at over 1.9 million. Most of these businesses are in regions where Yelp has been operational for more than five years. Considering that mature markets witness higher conversion rates from claimed businesses to active businesses, we expect strong growth in active business accounts from these regions.
• International Expansion to Help With Growth: One of the key to Yelp’s growth has been its expansion in the international markets, which not only increases the cumulative reviews on the Yelp site but also increases its appeal to advertisers and users alike. Recently, the company added Chile and Hong Kong to its addressed markets. As a result, international traffic grew over 40% year over year to approximately 30 million unique visitors on a monthly average basis. Furthermore, the company said that revenue from international markets is expected to gain traction in the coming quarters as it monetizes regions such as cohorts in Italy which were setup three years ago. We expect this expansion spree to bolster the number of active business accounts on Yelp in the coming years. While we expect that the base effect will limit the active business listing CAGR to 30%, we believe that the company can add at least 423,000 active business accounts by 2021.
• Popularity of Yelp’s Mobile App To Attract More Businesses and Users: Most of the users have a tendency to check up on local businesses particularly restaurants when they are on a move. As a result, Yelp’s mobile app has gained traction in the recent quarters. For example in Q3 monthly unique visitors grew to 139 million. Furthermore, 50% of these unique visitors (~73 million monthly users) used mobile devices for accessing Yelp’s services. During the quarter, 45% of new reviews, which were close to 5 million, came from mobile devices. Considering the rampant growth in the usage of mobile devices, we expect the mobile platform to become a major revenue driver for Yelp in the coming years. The growing number of consumers searching for local businesses online constitutes Yelp’s existing market. We believe adoption of Yelp’s mobile platform will drive this growth in unique visitors on the Yelp site, which in turn will lead to more businesses signing up for Yelp.

Average Revenue Per Active Business To Grow

Average revenue per active local business (ARPALB) is one of the most important drivers in our valuation for Yelp’s locals ads business. According to Yelp, the monetization rate of a city or region increases with time as more businesses sign up for premium services such as dedicated webpages and call to action to promote their products or services. The company’s ARPALB improved to $6,029 for regions where Yelp started offering services in 2005, and to $426 for regions where Yelp services started in 2010. ^[2] However, as Yelp introduces its services in new regions, we expect ARPALB to grow at a slower pace, as new regions such as Latin Americas have less spending power compared to the U.S., and fewer businesses in these regions are willing to pay for premium Yelp services. As a result, we expect that the blended ARPALB will grow at a slower rate.

Points Of Concern

While Yelp has had some success in monetizing the local ads business, it does face some challenges that can impact its valuation:

• Competition to Impact Revenue Growth: Our forecast is based on the assumption that Yelp will see reasonable success across its business lines and will be able to attract users in the new markets it enters. Although Yelp has a first mover advantage in social local review services, other Internet giants can leverage their data, experience and money to launch similar services in the future. Companies such as Google (NASDAQ:GOOG) and Yahoo (NASDAQ:YHOO) have competing services and there is always the risk of these companies expanding and leveraging their existing base to compete with Yelp. If this were to materialize, Yelp’s revenue growth could slow down.
• Expansion To Impact Margins: The single most important factor that drives Yelp’s value after its revenue growth is the growth in its operating expenses. Yelp has had to incur high operating expenses to fuel its rapid expansion. Yelp’s operating expenses were almost $242 million, 103% its overall revenues, in 2013. While SG&A expenses account for 72%, R&D expense accounts for 16% of the revenues. We expect SG&A costs to decline to around 43% of revenue by the end of the forecast period. However, the company has expended its services to Latin America, with Chile being Yelp’s newest market. We believe that Yelp’s planned expansion spree may lead to an increase in SG&A expense as it will have to increase its marketing and operational costs to sustain the growth in new markets. This will reduce Yelp’s cash profits in the future.

Our price estimate for Yelp stands at $61.17, which is inline with its current market price.

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1. U.S. Local Media Forecast, www.biakelsey.com [↩]
2. Yelp Q3 2014 Investor Presentation [↩]