Greenlight Capital, the hedge fund run by David Einhorn (Trades, Portfolio) with over $10 billion in assets under management, purchased 380,000 shares in Yelp (YELP, Financial), the beleaguered local search site and app. With the stock down almost 65% in the last year, why did Einhorn make the purchase?
The new stake, which is worth about $6.46 million, represents 0.065% of Greenlight’s total capital, so it’s not the biggest or highest confidence stake in the company. Also, at 0.57% of the company’s total shares outstanding, Greenlight’s purchase isn’t a sign that he is planning on becoming an activist owner –Â at least not yet.
A close look at the company’s cash flow, past controversies and underlying business model is illuminating. By viewing these three in contrast to the stock’s plummeting value, we see that Yelp is in a strong position to be acquired by a bigger player.
Yelp’s cash flow situation
A primary concern with Yelp at the moment is that it is producing less cash from operating activities than it used to –Â after monstrous growth in 2014, cash flow fell almost 1% in 2015 from the prior year:
This occurred while the company issued $20.7 million in new stock, thereby diluting shareholder ownership in the company and also seeing a decline in cash on hand of $75.7 million.
High growth companies are expected to burn through cash to grow revenues, and Yelp did grow revenues by 40% on a year-over-year basis in the last quarter of 2015:
While that’s good and was above expectations, the company intends on some heavy spending that will cause EBITDA of about $97.5 million in 2016 while sales growth slows to a 26% year-over-year clip. This is likely to hurt cash flow further, cause more stock issuances and effectively lower shareholder ownership further.
Mobile traffic shifts
The spending is necessary because Yelp is facing fierce competition. While food delivery companies like Seamless in the U.S. and Food Panda in Asia are limiting Yelp’s Eat24 expansion plans, it’s also resulting in less searching within Yelp itself.
Also hurting Yelp’s search growth is a change in Google’s algorithm, which has been partly blamed for the company’s 3% year-over-year decline in international website traffic in the second quarter of 2015. The company has said that it is focusing on more traffic through the mobile Yelp app, which will hopefully offset less usage of the desktop site. In the last quarter, average monthly desktop unique visitors fell 4% year over year.
Fortunately, that was more than offset by a 14% year-over-year increase in monthly unique mobile visitors, meaning that overall usage of Yelp is still growing even in the face of growing global competition.
The takeover candidate
With continued growth and a shift to mobile usage, Yelp becomes immediately attractive as a mobile asset for outside tech firms to acquire as they look to dominate mobile. Yelp has an entrenched user base, terabytes of data on local companies, sales people on the ground in cities around the world and experience with making local web advertising actually work for users and businesses alike.
For tech companies, this is an extremely appealing mix, since they have mostly failed at mixing local shopping with internet commerce.
For instance, Google, parent company Alphabet (GOOG, Financial)(GOOGL, Financial), has struggled in its attempts to become a shopping destination. Its Google Shopping app remains a less popular destination than Amazon (AMZN, Financial), and it has virtually no presence in the large and growing economy of local restaurants and cafes, where Yelp dominates. With Google Offers, the company tried to get into this market by working with local retailers; it failed, and Google Offers is dead. While Google Wallet could theoretically help it get closer to the point of sale, it remains unpopular and likely unappealing for most local small businesses. At a $1.3 billion market cap, Google could easily buy Yelp and spend only 1.7% of its 2015 revenue. To put this in perspective, it would be like the average American household buying an iPad Pro.
With Alibaba’s (BABA, Financial) recent purchase of a sizable stake in Groupon (GRPN, Financial), a similar move with Yelp wouldn’t be surprising at all. Yelp still is a tremendous traffic driver and has already established connections and relationships –Â however strained –Â with local business owners throughout major American cities. With an injection of capital, professionalism and focus, the company could easily revive itself and once again dominate the still green fields of local search.
