KEY PONTS
- ALGORITHIM STUNT: We suspect the 1Q beat was largely driven by the algorithm change to its CPC product, and that benefit probably came in the form of a lift in CPC bid rates since that is easiest lever for YELP to pull (see video context). We suspect YELP’s better ad “budget fulfillment” will exacerbate churn since those accts are now spending more, which means ROI is likely to decline without marked improvement in conversion. But most of those accts were going to churn off anyway, so it doesn’t really matter over the next three quarters. That said, the algorithim stunt is a net benefit that will carry through 2016.
- LAA GIVEAWAY: the 1Q16 surge in new accounts (LAAs) was driven by a “meaningful percentage” of lower ARPU self-serve accounts through free advertising promotions. The first question is what does meaningful percentage mean, the second is what would LAA growth have been without those self-serve accts? Even with the sell-serve promotion, YELP couldn't produce new account growth in excess of the rate that it had been onboarded reps over the past 3 quarters. But more importantly, a growing mix of self-serve means YELP is replacing its churning accts at a lower ARPU. In turn, YELP needs even more new account growth to offset its churn, which the algo change will likely exacerbate.
- RACE TO BE ACQUIRED: We question whether mgmt has fully thought through the ramifications of the algo stunt + LAA giveaway given its history of short-sighted moves, especially with a new CFO in place. The counter to that is that they do understand, and are laser focused on being acquired. We suspect it’s the latter, and YELP is doing whatever it can today to market itself as an M&A target. But if YELP isn’t acquired by year end, the story is going to get much uglier in 2017 given that YELP will be replacing its churning accounts at a lower ARPU (self-serve). That combination could lead to a considerable deceleration in revenue growth, if not declining revenues in 2017. In short, we see YELP as either a 2016 take-out, or a 2017 blow-up.
- NOT WORTH IT: The setup is moving against us and we don’t see the point of staying short without a hard catalyst in sight since we suspect that take-out risk may be increasing. It’s possible that YELP could produce upside to both 2Q & 3Q Local Advertising estimates given that the ARPU tailwind from the algo stunt will carry through 2016, and self-serve may continue padding the LAA metric as well. On the M&A front, if YELP produces 1-2 more quarters of decent results; its story may change from structurally broken to rebounding company vs. a stock with a sub $2B EV that is trading at less than 3x sales. We're not suggesting a take-out is probable, but it's possible if YELP shows signs of life. We’ll be looking to revisit the short later this year.
Let us know if you have questions, or would like to discuss in more detail.
Hesham Shaaban, CFA
Managing Director
@HedgeyeInternet
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