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Passport Capital Gives Yelp Inc (YELP) A Positive Review

Published on February 12, 2013 at 7:45 pm by The Motley Fool in Hedge Funds
John Burbank PASSPORT CAPITALYelp Inc (NYSE:YELP) saw San Francisco-based Passport Capital take a stake of over one million shares, or 6.3% of Yelp’s outstanding shares. Other notable hedge funds that have been upping their Yelp stake over the past few months include Joho Capital, now with 974,000 shares, and FMR, which owns 1.9 million shares (check out hedge funds loving Yelp).
After shutting down its materials fund in mid-2012 following a 31% loss, Passport Capital could use some good fortune, and it appears it is looking to the tech industry. During the third quarter, Passport is not only betting on Yelp, but also upped its stake in Google Inc (NASDAQ:GOOG) by 200% and eBay by 70% (see Passport’s top picks). Although I don’t dislike Yelp, there appears to be a number of questions surrounding the company, despite it being a ‘good house in a bad neighborhood,’ with the neighborhood being newly IPO’d companies.

Yelp’s primary business model includes a social review site covering restaurants and other businesses. The social review company is quickly becoming a top-tier search engine for finding reviews, and is taking market share from the likes of Google and Yahoo! Inc. (NASDAQ:YHOO). As far as U.S. search market share goes, Google is still the unprecedented leader, owing over 66% of the market at the end of the 2012. Yahoo! still struggles to hold its own, as Microsoft still holds the second spot with 15%, versus Yahoo!’s 12%. Google’s industry leading position bodes well for Yelp, given the social review site gets the majority of its traffic from Google.

Yelp managed to raise over $100 million in its IPO, pricing shares at $15 each. The stock has risen 40% since its March 2012 IPO, which is much better when compared to other major recent IPOs. Zynga Inc (NASDAQ:ZNGA)  is down 70% and Groupon Inc (NASDAQ:GRPN)  80% since they started trading. The weakness in both of these newly IPO’d companies brings up questions surrounding their business models. Groupon is being hit by competition, including Amazon-backed Living Social, and Zynga is trying to tailor to a rapidly changing social gaming consumer. Zynga has been struggling to get users to fork out cash for games or game ‘perks.’ Meanwhile, the social gaming company is also struggling with continued growth, as the number of monthly active users contracted from 311 million users in the third quarter to 298 million in the fourth quarter. Daily users also decreased from from 60 million to 54 million. Groupon has been seeing fundamental issues related to sputtering growth. Last quarter the company posted revenue of $568 million, well below analysts estimates of $590, and weakness in Europe continued to plague the company.

As if the competition from Google and Yahoo! was not enough, Facebook Inc (NASDAQ:FB)  appears to be breaking into the into the search and review market with its newest search option. Facebook’s Graph Search will allow its over one billion users to search their social sphere for relevant info. This includes infringement on Yelp territory with places search. With almost 45% of all searches occurring on mobile, many tech companies will indeed need to beef up their mobile offerings. This ‘need’ is part of what has put pressure on Facebook’s stock since its May 2012 IPO. Questions continue to swirl surrounding concerns related to mobile monetization, but last quarter’s results helped give investors some hope. The social networking company’s total advertising revenue was up 41% year over year, while mobile ads made up up 23% of the total. This is an increase from the 14% of revenue mobile ads made up in the previous quarter.

Yelp’s grand plans

Boding well for Yelp are partnerships with Bing search and Apple maps, while other major opportunities include international expansion plans. This includes launching operations in Poland, Denmark, Norway and Finland. Over half of Yelp’s users are now accessing the site via mobile devices, and so Yelp should be able to leverage its user base via its mobile app. Yelp currently runs no ads on its mobile apps, which also presents a growth opportunity for when Yelp finds ways to monetize mobile.

Don’t be fooled

While Yelp is still trying to get a grasp on proper monetization, it has posted negative earnings for the last three quarters, but is expected to post EPS of $0.02 in 2013. With this, its price to earnings multiple (based on next year earnings) is scary high at over 1000. Other reasons for concern include the future expectations for Yelp. Although the social review company has seen the best earnings growth over the last five years of the high profile IPO companies, Wall Street expects only most modest growth for Yelp in the future:
Yelp Zynga Facebook Groupon
Historical 5-Year EPS Growth 94% 48% -41% -2%
Expected 5-Year EPS Growth (Wall Street estimates) 18.50% 21% 29% 27%
It seems that all the newly IPO’d tech companies are still trying to figure out monetization, with Facebook showing some of the best progress in being able to address its mobile monetization issue. This is a similar issue that Yelp will likely face. This leads me to remain a bit uneasy, despite Passport’s positive review of the company. Google spent $151 million on fellow Yelp competitor Zagat in 2011, and Google’s purchase of Zagat was based on a roughly 3.75 price to sales multiple; meanwhile, Yelp trades at a P/S multiple of 11. The social review company may well be an exciting high growth story and worth taking another look at in a few quarters, but for now it’s still rather speculative.

The article Passport Capital Gives Yelp A Positive Review originally appeared on Fool.com and is written by Marshall Hargrave.

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