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The Science of Hitting
The Science of Hitting
Articles (587) 

Yelp: An Intriguing Setup Into 2020

A look at the company's 3rd-quarter results

November 10, 2019 | About:

Yelp (NYSE:YELP) recently reported financial results for the third quarter of fiscal 2019.

Revenues for the period increased 9% to $262 million, with a significant increase in ad clicks (+42%) offset by a decline in the average cost per click (-22%). Note that this is a material increase in the pace of growth from the first half of the year, when revenues increased by roughly 5%. In addition, management expects another acceleration in growth in the fourth quarter (and possibly into 2020), with revenues expected to climb by a low double-digit percentage year over year.

Yelp is seeing continued success among its largest clients, with a 21% increase in revenues from multi-location customers (and the likely reason behind an acceleration in paying advertiser locations growth). Importantly, the increase was driven by continued engagement among existing advertisers (mid-teens growth in that segment), as well as the addition of new clients. As I noted last quarter, I take comfort in the fact these customers are likely the most capable at understanding the efficacy of their ad spend. If they are allocating additional dollars to Yelp, it’s likely because they are seeing returns on the investment that justifies incremental spend.

User engagement continues to grow as well, reaching 38 million app unique devices in the quarter (up 11% year over year), along with a 17% increase in cumulative reviews. That said, as shown below, the pace of app-unique device growth has slowed a bit in recent quarters. While that partly reflects the reality of trying to sustain growth off of a larger base, I would start to be a bit concerned if the number of net additions continued to decline (it added roughly 3.6 million net devices year-over-year in the third quarter, compared to an average of roughly 4.5 million devices added per quarter over the past two years).

Across the platform, Yelp continues to see user activity in its key categories move beyond the legacy directory and review product. In restaurants, this includes reservations through Yelp Waitlist and Yelp Reservations (the number of seated diners more than doubled year over year) and online ordering through its long-term partnership with Grubhub (GRUB). And in categories like Home and Local Services, Yelp’s most important vertical in terms of revenues, this includes offerings like Request A Quote, Portfolios, and Verified License. In my opinion, these changes have resulted in a better product for app users, advertisers and the company (with revenues in the vertical increasing by nearly 40% over the past two years to $95 million in the third quarter).

A shift toward self-serve customers (with self-serve revenues up nearly 40% in the quarter) and larger accounts means Yelp can generate the same dollar of revenues with fewer salespeople. As a result, sales headcount in the quarter declined by 1% year over year, with local sales headcount falling 5% (offset by a one-third increase in salespeople serving multi-location customers).

The reduction in headcount, combined with mid-to-high single-digit growth in revenues, is leading to sales and marketing expense operating leverage: year to date, sales and marketing expense has been equal to 50.2% of revenues – an improvement of roughly 160 basis points.

The improvement in local salesforce productivity is the primary driver of the nearly 200 basis point gain in year-to-date Ebitda margins (to 20.5%), with operating income increasing 17% over the same period. Based on the long-term guidance that management has committed itself to, it’s clear they expect this trend to continue over the next few years as well.

Yelp currently has $417 million in cash and equivalents and no long-term debt (roughly $6 per share of net cash). The company has accelerated the pact of capital returns to shareholders, with $475 million spent on share repurchases through the first nine months of the year (at an average cost of $34 per share). The result has been a mid-teens decline in the diluted share count. While the pace of repurchases will almost certainly slow going forward, the strength of the balance sheet still gives them some flexibility to pursue opportunities when given the chance to do so.


Anybody that builds a simple financial model based on the long-term guidance that management has put forth will clearly see Mr. Market remains quite skeptical that the company will come anywhere close to hitting these targets. Personally, I agree with that conclusion. Assuming revenue growth will accelerate another 500 basis points and that it will expand margins by roughly 250 basis points a year over the next four to five years is too aggressive for my blood.

But with lesser assumptions, I still can see a scenario where the equity looks attractively valued here. If management can get anywhere close to their expectations, that would be icing on the cake. If they even deliver 10% annual revenue growth and 30% Ebitda margins, the stock will almost certainly be a home run from current levels. I think the fact that they continue to improve the product offering (for consumers and advertisers alike), in addition to the shift toward larger customers and self-serve, should put it in a position to generate better economics. For that reason, I’m intrigued by the implied odds on this bet.

By my math, even if the company falls well short of its publicly stated financial targets, it will earn somewhere around $3 to $3.5 in 2023 (that assumes roughly 8% annualized revenue growth, 27% Ebitda margins in the terminal period and a small benefit from repurchases, which still leaves a lot of net cash sitting on the balance sheet). Said differently, the stock trades at roughly 10 times earnings if you look out a few years.

That’s a long way of saying I like the risk-reward at these levels. For that reason, I continue to be a Yelp shareholder. This isn’t my highest-conviction position, but it is one where I believe the upside in the event of favorable business results could be massive. I wish the stock had not run higher on the third-quarter results, but that’s life. Hopefully this bout of optimism fades. If I’m given the chance to add to my position at a lower price, I will happily do so.

Disclosure: Long Yelp.

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About the author:

The Science of Hitting
I'm a value investor with a long-term focus. My goal is to make a small number of meaningful decisions a year. In the words of Charlie Munger, my preferred approach is "patience followed by pretty aggressive conduct." I run a concentrated portfolio - a handful of equities account for the majority of its value. In the eyes of a businessman, I believe this is sufficient diversification.

Rating: 5.0/5 (3 votes)



New Moon
New Moon premium member - 1 week ago

I have been watch Yelp too (and Trip Advisors) but intuitively I cannot get over the doubt that Google (map) would take their businesses away. Any thoughts on this would be appeciated?

The Science of Hitting
The Science of Hitting - 1 week ago    Report SPAM

New Moon - The threat from Google (and others, like Facebook) has been a persistent concern for the past decade. That's not to dismiss the risk, it's simply to say that it isn't new. Meanwhile, the number of app unique devices and reviews on Yelp continues to increase at a double digit pace (YoY), which suggests to me that engagement remains quite strong. (The number of people who use the app has roughly tripled over the past five years.) All that said, they need to continue to improve the product and make it a more effective tool for users and advertisers alike. I think some of the changes they are currently making are doing just that. Let me know if you'd like to discuss further. Thanks for the comment!

Lamgabejambo - 1 week ago    Report SPAM

Given the fine looking financials on Yelp, I nearly pulled the trigger on this stock early this year, but the conclusion drawn from my field research showed that Yelp's small business owners are really dissatisfied with Yelp because they act like mafia. Let me explain... A mom and pop shop must pay Yelp in order to show good ratings and good comments, similar to mafia demanding protections fees or risk losing "protections" to their business. If the general public can't trust and rely on genuine Yelp ratings/comments, then the whole business model breaks down. I feel like the market sees through this and assign their valuation accordingly. The Science of Hitting- I want to hear your thoughts on this. Thanks!

The Science of Hitting
The Science of Hitting - 6 days ago    Report SPAM

Lamgabejambo - As it relates to the general public's trust in Yelp ratings / comments, I'd argue the significant increase in app unique devices over the past five years indicates that there are tens of millions of people who find value in what they offer. And as it relates to the persepctive of small business owners, this has been a hotly debated topic for years. I don't want to wade into the discussion on where the truth lies in terms of Yelp extorting small businesses. What I will say is that I think the evolution of the business model (currently underway) is likely to improve that relationship over time. We'll see if that's correct. Hopefully that answer helps. Thanks for the comment!

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