OpenTable (Nasdaq: OPEN) is the market leader in online restaurant reservations. The company has achieved this dominance largely through its simple but effective business model: matching diners and restaurants on its online platform.
Diners win because they get easy access to reviews, recommendations, and seat availability, and can cancel without having to suffer the subtle scowl of the concierge. Pile onto that OpenTable's rewards system, which grants points to frequent diners and gives them free meals at their favorite eateries (on OpenTable's dime), and "Spotlight," a way to bid for big coupons, and you've got a lot of happy patrons.
Restaurants win by gaining access to OpenTable's estimated audience of more than 150 million diners, not to mention better overall table management, access to customer preferences, and a chance to target promotions and special offers to high-value customers. Investor confidence in this model, and OpenTable's unquestionable dominance in the market that it basically created, has launched the stock more than 150% higher over the past year. OpenTable's management has helped add fuel to this steady burn by consistently beating analyst estimates, demonstrating that this fledgling company has a solid understanding of its business. OpenTable's CEO, former eBay GM Jeff Jordon, clearly knows what he's doing.
But will all this success translate into a similar win for shareholders?
Overreaction, party of two?
Skeptics are running through the streets, arms akimbo, in disbelief of this company's hyperbolic P/E ratio: 160, as of this writing. How could this ephemeral service generate enough consistent revenue growth to justify this valuation? As an amateur Rule Breaker, I'm beginning to understand that companies that create new markets and break the rules can't be examined through the same lens as businesses that make the rules.
But still, we must check some basic facts, if only to make sure there isn't a wild disconnect between Wall Street's expectations and what OpenTable really can do.
OpenTable estimates that there are roughly 30,000 reservation-taking restaurants in North America, of which it's already captured nearly half. It's difficult to know for sure, but I reckon that the remaining market is the long tail of rural/suburban restaurants that stand to benefit less from OpenTable's value proposition of increased exposure. Additionally, it will be hard to inexpensively leverage the company's sales staff in these locations. No matter how you cut it, OpenTable simply won't be able to capture market share as quickly as it has in the past. Even OpenTable's own 10-K emphasizes that likelihood.
Two paths to more plentiful portions
With domestic growth constrained, the international market is no doubt a top strategic priority for OpenTable as it expands in Europe. My colleague Rick Munarriz has already covered OpenTable's recent acquisition of Britain's TableTop.com. But growth and profits have both been elusive in Europe. If OpenTable can prove that its model works in a significant, non-American location, then its market gets a whole lot bigger and a whole lot greener.
Price might offer the company another avenue to growth. The warm welcome that OpenTable's Electronic Reservation Book (ERB) has received from the restaurant industry might be a sign that eateries are willing to pay more for value-adding services. A price increase could initially benefit competitors such as IAC's (Nasdaq: IACI) Urbanspoon, or perhaps one of the Internet giants, but OpenTable would still hold significant advantages.
The company has become the de facto standard for both diners and restaurants. It has an in-depth appreciation for restaurant management and tight relationships between its sales staff and its client restaurants. The biggest barrier to a price increase is that restaurants could grow bitter with OpenTable's increased rates, and simply handle reservations themselves, like they did before.
An uncertain recipe for success
For now, this shareholder won't add more shares of OPEN. The company has yet to prove out its international appeal in at least two significant non-American locales, nor show that it can provide more value to, and thus command a higher price from, restaurants.
That said, this company has been in the business for some time, and management is well aware of its situation. Given OpenTable's proven record of success, I'm not selling, either. I look forward to watching this stock and interacting with my fellow Rule Breakers for many years to come.
