Dissecting Yelp's Loss: Is It Time To Sell?

May. 3.12 | About: Yelp (YELP)

Yelp (NYSE:YELP) reported its first ever quarterly financial results as a public company yesterday and they were ripe with information about this young firm. As with many young technology companies that I follow, Yelp has a multitude of encouraging and negatives aspects that require careful analysis. As I did with Netflix, my objective here is to provide you with a rapid reaction of the quarter and to serve as a starting point for further research into the company.

Netflix had its IPO in March at $15 but most ordinary investors had to settle for a purchase price in the low-to-mid $20s. Despite rallying to $28 in late March, the stock has been on a steady decline and investors who purchased at $25 are sitting on an approximate nine percent loss. In contrast, much larger competitor Google (NASDAQ:GOOG) is up more than ten percent, despite getting flak for its synthetic split.

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(Source: Yahoo Finance)

Here is a sample of the headlines following the earnings release:

  • Yelp Quarterly Revenue Rises - Reuters
  • Yelp's Net Losses Triple on Expansion - CNNMoney
  • YELP Delivers Strong Revenue In Its First Ever Earnings Report - Business Insider

While all of these headlines are accurate, none of them provide a comprehensive picture. Yes, revenue was up sharply but that does not tell the entire picture. It is also true that the net loss greatly expanded, but the real question is why? Investors cannot simply rely on the basic news stories when making important investment decisions with their own money.

Here are the highlights you need to know:

  • Revenue: $27.4M (66% YoY Increase)
  • Sales and Marketing Expense: $18.7M (67% YoY Increase)
  • General and Admin ("G&A") Expense: $10.7M (200% YoY Increase)
  • Net Loss of ($9.8M) vs. ($2.8M) in Q1 2011

Should Yelp really get that much credit for growing revenue and expenses at the same rate? A sixty percent growth rate is quite impressive, but the shine is greatly diminished when it is accompanied by a dramatic increase in marketing expenses as well. Furthermore, guidance for second quarter revenue is only $29M, indicating that growth is already slowing.

The surge in general and administrative expenses relates primarily to share-based compensation, which also was the most significant cause of the sharp decline in earnings. Most news stories will zero-in on these increased G&A costs and decline in earnings but that is not the alarming part. This is another classic example of why you need to dive deeper when your own money is on the line.

Overall, I like Yelp as a service and it is not a poor choice for a stock. I would be hesitant to make a large bet against Yelp because it is one of the popular young technology companies that could be buoyed by the upcoming Facebook IPO. I do not believe a decline to the low twenties is out of the question but that would bring the market cap closer to $1B.

Ask yourself this, if Instagram with no revenue is worth $1B to a larger rival, how much could Yelp be worth to Google, Apple (NASDAQ:AAPL), or even Facebook? As a standalone company I am worried because local advertising growth is expensive to procure and I would bet on larger competitors to have the resources to win this battle. Look to invest your money elsewhere and be very careful if you decide to short this potential acquisition target.

Disclosure: I am long AAPL, GOOG.