Yelp is still not a profitable. In Q3, it lost $2 million on revenues of $36 million.But CEO Jeremy Stoppelman says don’t worry: He’s sitting on a pile of cash from the IPO ($123 million at the last count). And he intends to invest it until Yelp becomes dominant in local listings in the U.S., and internationally. At that point, presumably, Yelp can pull back on its ruinous sales and marketing expenses and, finally, become profitable.
“The growth strategy is simple: leverage our platform to become ubiquitous across all devices; expand our geographic presence through existing and new markets; and serve our growing base of local business customers,” Stoppelman told Wall Street on his last conference call.
But before yelp becomes “ubiquitous,” however, Stoppelman must solves these 6 contradictions.
1. Sales and marketing expenses are killing Yelp’s profits
A close examination of Yelp’s financial statements and its track record show that the company faces a number of huge hurdles before it gets there. It could fall at any of them.
To give Stoppelman some credit, Yelp so far is doing what he says it should be doing: Scaling up, getting big, and positioning itself to fed off competitors. But that growth has come at a cost.
Currently, sales and marketing consumes about 60 per cent of Yelp’s revenues. That portion is declining, but coupled with the rest of its expenses, it has left the company chronically unprofitable. In only one of the company’s reported quarters has it ever seen an operating profit: Q2 2012.In that quarter, Stoppelman dramatically pulled back on his expenses. But in the following quarter, sequential revenue growth started to flatten — and expenses increased again.
Yelp employs about 500 salespeople, according to Fast Company. From that perspective, Yelp looks less like a local listings firm and more like an old school phone sales operation. It’s an open question whether Yelp can survive without its army of telemarketers.Yelp, in fact, admits this in a routine disclosure on page 26 of its 10-Q:
We have incurred significant operating losses in the past, and we may not be able to generate sufficient revenue to achieve or maintain profitability, particularly given our significant ongoing sales and marketing expenses. Our recent growth rate will likely not be sustainable, and a failure to maintain an adequate growth rate will adversely affect our results of operations and business.
The problem will be compounded as Yelp enters new markets. It’s already saturated the best ones — New York and San Francisco, most obviously. The future is filled with less exciting neighborhoods. Yelp expanded to Helsinki (that’s the capital of Finland) and Singapore in Q3, requiring the company to spend more on sales and marketing.
2. Only lousy businesses need to advertise.
Yelp wants local merchants to pay for advertising to promote their listings. But the listings are only useful because of users’ reviews. If a store gets great user reviews, it really shouldn’t need to pay for ads. There is no better advertising than rave reviews.
3. Yelp is at war with its best friend, Google.
An even bigger contradiction comes in the form of Yelp’s war with Google. Yelp has accused Google of republishing its data free in search query results. Stoppelman says Google won’t list his web site unless it allows selections of its data to be displayed on Google.
Yet Yelp is dependent on Google. More than half of the visits to Yelp’s website came from Internet searches in the last quarter. Yelp is literally at war with the company on which its business depends. Google can change its algorithm, to the detriment of Yelp, at the flip of the switch.
Some of those switches have already been flipped, in fact. Google bought Zagat with the apparent purpose of competing directly against Yelp. In Google Maps, Zagat reviews are now displayed — not Yelp reviews.
4. And then there’s the mobile app problem.
It’s obvious to everyone that the promise of hyper-local marketing lies in mobile phones. Phones relay on GPS and satellite data to deliver local results, and advertisers can target users on their phones precisely.
It’s the kind of environment that’s perfect for Yelp. And mobile now makes up nearly half of all searches on Yelp. Yet the company has yet to make a dime from its mobile app. The company will begin rolling out advertising for the first time on the Yelp app in Q4 2012. The company warns it may not work:
Because we do not currently deliver advertising on our mobile app, we have not materially monetized our mobile app to date. As a result, we may not be able to generate meaningful revenue from our mobile app for the foreseeable future.
5. The reputation issue.
In 2009, loads of small businesses claimed that Yelp will remove or hide negative reviews for companies that advertise on its site. Stoppelman denied the allegations, but two law firms filed a class-action lawsuit in 2010, alleging unfair business practices.
Businesses have also recently complained that people are posting reviews with false accusations. Some businesses are even suing customers for writing bad reviews.
Then there’s the “extortion” issue. Businesses that advertise with Yelp get their listings displayed more prominently than those who don’t. The implication is always that if your business doesn’t pay up, a competitor might. This isn’t extortion, of course. But it feels as if there’s always an unspoken threat every for Yelp client: stop advertising, and your rival gets the top slot.
That’s actually good news for Yelp, of course. This looks a lot more like ongoing subscription revenue than ad revenue. But if your business is genuinely good, then once you’ve locked in your regulars it’s hard to see what further marginal gains you might make by continuing to advertise, especially when your own reviews on Yelp are glowing.
6. Don’t forget about the earthquakes!
Lastly, like a lot of San Francisco-based businesses (Zynga is another), Yelp’s servers are located near the San Andreas earthquake fault. One decent temblor could hurt the company, it warns:
Our U.S. corporate offices and one of the facilities we lease to house our computer and telecommunications equipment are located in the San Francisco Bay Area, a region known for seismic activity.
That’s a lot of “ifs.” Interestingly, the market hasn’t hasn’t made its mind up about whether Stoppelman can solve these problems either. The stock was down near $19 at the time of writing, up from a low of $15.22 but down from a high of $28.89.
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