Are You High on Yelp?

    March 6, 2012

On Friday, popular online review site Yelp began trading on the New York Stock Exchange. The company had a successful first day with shares jumping from $15 per share initial pricing to nearly $25 per share, making early investors very happy.

While the shares dipped 14 percent yesterday in the company’s second day of trading, some fluctuation is to be expected in the early days of trading. However, one can’t help but wonder if the high about Yelp will continue or diminish.

Can Yelp meet investor and consumer expectations going forward? Let us know what you think in the comments.

While Yelp has experienced significant growth since its launch in 2004, the company has also experienced its share of criticism, which is the reason people are questioning its future. Most people associate Yelp with restaurant and other business reviews, but it is actually an Internet advertising company. In other words, it competes with the likes of Google and Facebook.

As we know, this marketplace is very competitive and is growing. Foursquare is even breaking into the review space by allowing users to offer local recommendations and tips after they check in to places of business.

For Yelp, this means that it has to defend its position. The company has had a rough road in this sense as it has been accused of ripping off the small businesses that advertise through it. Rocky Agrawal on VentureBeat wrote:

“At a time when much online advertising is being sold for 60 cents per thousand impressions (CPMs), Yelp is charging some local advertisers $600 per 1,000 impressions.

That’s not a typo. Yelp is charging small businesses 1,000-times the standard online CPM rates for local ads that appear on Yelp. Even when compared to its own ads for national advertisers, the company is charging a 100x premium.”

Unfortunately, for Yelp, many of its users feel that Agrawal presented an accurate portrayal of how Yelp’s advertising model works. In a follow up article written by WebProNews CEO Rich Ord that focused on “defending online advertising,” we received numerous comments similar to this one from AJ:

Is Yelp misleading its advertisers? If so, how? Please share you experience with us.

Francis Gaskins, President of IPODesktop In addition to these ongoing advertising concerns, there are also other issues regarding its advertisers and the economy. Francis Gaskins, the President of IPODesktop, told WebProNews:

“In this flat-lined economy, customers that Yelp deals with are not experiencing a lot of growth, so they have to claw and fight for every ad dollar that they get.”

This information raises some big red flags for investors in terms of long-term profitability, which is another questionable area of the company. Yelp has always struggled with making money, and the following chart shows that the company is actually losing money.

An even greater red flag for analysts and investors, however, is the fact that Yelp relies on its competitor Google for traffic, which, of course, ultimately means that it depends on it for revenue as well. According to Yelp’s S-1 filing, the company revealed just how dominant of a role Google plays in its business:

“Google in particular is the most significant source of traffic to our website accounting for more than half of the visits to our website from Internet searches during the year ended December 31, 2011.”

Incidentally, Yelp has taken a particularly outspoken stance against Google claiming that it shows favoritism toward its own products in search results. The filing also stated:

“Google has removed links to our website from portions of its web search product, and has promoted its own competing products, including Google’s local products.”

Yelp’s stand against Google is similar to that of, which is an organization made up of various companies that believe Google has monopoly power. The group and Yelp are working to encourage policymakers to take action against the search giant in order to, based on information from FairSearch’s site, “protect competition, transparency and innovation in online search.” Yelp has even testified toward this effort, but at this point, the government has not acted.

When WebProNews spoke to Gaskins about these issues, he equated it to Demand Media/Google situation. If you remember, the companies had a deal where Google directed searches to Demand Media’s eHow platform. In Google’s infamous Panda algorithm update, this all changed.

“I don’t know whether the people buying the stock… at $25 or $24 realize that Google can turn off half their revenue faucet by changing the algorithms and putting their own searches up there,” said Gaskins.

He went on to say Google could easily do this since it is a private enterprise that controls its own products. As he explained, Google doesn’t need to worry about what could happen to Yelp.

However, it is these concerns that have Gaskins and other analysts qualifying Yelp as a risky investment. Rick Summer, an senior stock analyst, recently wrote why his firm Morningstar wasn’t applying for Yelp’s IPO:

“Unfortunately, the company faces challenges translating the small advertising budgets of local businesses into profitability, as about 70% of ad revenue is eaten up by sales and marketing expenses. Although we ultimately expect operating leverage and resulting profitability, success is far from certain.”

It’s clear that Yelp has several challenges to overcome, but only time will tell if it can prove its naysayers wrong. Do you think it can? We’d love to hear your thoughts in the comments.