What: Shares of Yelp (NYSE:YELP), an online guide that connects local business with consumers, rose by a healthy $1.52, or 3.4%, to close at $46.18 on Wednesday following an upgrade from research firm Brean Capital to "buy" from "hold." Brean Capital's upgrade comes less than a week after Yelp stock lost 22% in a single trading session following its fourth-quarter earnings results.
So what: According to Tom Forte, the covering analyst of Yelp with Brean Capital, Yelp's $134 million cash and stock acquisition of Eat24, which was announced before the opening bell on Wednesday, could "serve as a catalyst for transactions revenue and advertising sales, with the company able to prove ROI [return on investment] to merchants via transaction data."
Yelp is working on keeping users on its website longer and, more importantly, having those users complete purchases and reservations while logged into Yelp. If Yelp can establish that it's an essential middleman to boosting restaurants' and local retailers' sales and profits then it could command higher ad rates and may be able to generate new sources of revenue.
In addition to expanding Yelp's platform, Forte and his firm believe the move makes it less reliant on third-party operators in order to execute its business strategy. Ultimately, Brean Capital placed a $50 price target on Yelp, implying an additional 8% upside based on Wednesday's closing price.
Now what: The real question that investors need to ask themselves here is whether or not Brean Capital's upgrade really makes sense. In other words, should you go out and buy Yelp here?
Following its fourth-quarter results I'm not convinced. In case you happened to miss Yelp's fourth-quarter synopsis, it delivered 56% revenue growth to $109.9 million and turned in $0.08 in EPS, excluding a substantial one-time tax benefit. These headline figures were A-OK with Wall Street.
Once you dug deeper you discovered that average monthly unique users grew at a much slower pace of 13% year-over-year to 135 million and shrank from Q3's 139 million. It's the first time Yelp has reported a sequential quarter decline in monthly active users. Also, mobile unique visitors was essentially flat quarter-over-quarter.
This is concerning because it signifies that either fresh competition is entering Yelp's turf, or that Yelp is simply doing a poor job of capitalizing on its opportunity to connect consumers to businesses. Personally my biggest qualm with Yelp is that it has a relatively low barrier to entry, meaning any large company could enter the space and potential knock Yelp out of the picture in short order.
I'm of the opinion that the stock at 25 times 2017's estimated EPS is still a frothy valuation and would encourage potential investors to really weigh their risk-willingness before jumping into Yelp.