- STARTS GETTING WORSE IN 2H14: We don’t care about 2Q14 results outside of the incremental data we receive from the reported metrics, but we’re expecting limited upside here. We’re focused more on 2H14/2015, which when we expect YELP’s fundamentals to start showing signs of deterioration (more so 2015). 2014 consensus estimates remain lofty, 2015 outside the realm of reason.
- 2014 GUIDANCE?: We’re not sure what management is going to do here. We believe the guidance raise on the 1Q14 print was rash move to buoy its stock that was approaching YTD lows at the time; especially since the raise was weighted toward 2H14 where management has limited visibility. If management chooses to make the same mistake, it will only create a higher hurdle the 4Q14 release, and worse, 2015, as consensus raises estimates in response.
- TODAY'S STRENGTH = TOMORROW'S WEAKNESS: Let’s just say we’re wrong about 2014, and YELP knocks the cover off the ball and crushes numbers. All that means is the setup for 2015 will be that much more challenging. The more accounts YELP enters 2015 with, the more accounts it will lose, and the more new accounts it must gain to compensate. This is the sad truth of any business model riddled by rampant attrition.
STARTS GETTING WORSE IN 2H14
We’re not expecting too much upside to consensus 2Q14 estimates. We're expecting revenue of $86.7M vs. consensus of $86.3M. Continued commodity cost pressure will not only impact attrition, but makes for a tougher selling environment as well. If YELP beats consensus revenues, it would likely be driven more by its Brand Advertising and Other segments, than Local Advertising, which is the focus of our short thesis (~85% of revenue).
However, we don’t care about 2Q14 results outside of the incremental data we get from the reported metrics. Our short thesis is focused on the TAIL duration: 2H14 is when YELP’s fundamentals start showing signs of deterioration, 2015 is when the street realizes the business model is flawed.
As we move into the back of the 2014, YELP’s attrition will accelerate simply because it has more accounts, regardless of the attrition rate itself (e.g. the 12K accounts YELP lost in 1Q14 = ~1/3 of the total accounts it lost in all of 2013). So, in order to drive the type of growth that both consensus and management are expecting in 2H14, YELP's salesforce would need to produce accelerating new account growth through the remainder of 2014, or YELP must curb attrition to historically rates...YELP's 1Q14 results suggest it is off to a bad start already, which means it must pick up the pace on both fronts. In 2015, YELP would need to produce BOTH of the above (and that’s based on consensus 2014 estimates).
We don't know how management will approach guidance. We thought the 2014 guidance raise on its 1Q14 release was a rash move to buoy a stock that was approaching YTD lows at the time; especially since the raise was weighted toward 2H14 (see above). We believe the raise is more of a bet on its aggressive sales rep hires than any measure of visibility, which is inherently limited by its attrition issues.
Post the guidance raise in 1Q14, management has fewer options to work with. Management could choose to play it safe, and only raise guidance by its 2Q upside (if any), which may not be enough to satisfy the street. Or, it could raise guidance again, and just hope for the best. The latter will just create a higher hurdle, particularly for 2015, as consensus tends to raise outer-year estimates more than current year on good news. In turn, the expected growth rate in 2015 climbs in response.
TODAY'S STRENGTH = TOMORROW'S WEAKNESS
The ongoing hurdle for YELP is it’s account base because of its attrition issues. As YELP’s account base grows, it’s attrition risk grows with it, and YELP must continually add more sales reps in order to drive enough new account growth to compensate. That’s YELP’s business model
Let’s just say we’re wrong about 2014, and YELP knocks the cover off the ball and crushes numbers. All that means is the setup for 2015 will be that much more challenging. The more accounts YELP enters 2015 with, the larger the hurdle, the lower its future growth. This is the sad truth of any business model riddled by rampant attrition.
Let us know if you have any questions, or would like to discuss in more detail
Hesham Shaaban, CFA