By: Steve Smith
Social media stocks are still a tough call for investors. Growth in the space is much stronger than offline advertising media, but investors have been largely disappointed by monetization. Even powerhouse Facebook (NASDAQ: FB) saw shares plunge more than 50% from its IPO in 2012 when enthusiasm waned and revenue growth failed to live up to the high valuation.
A real-time bidding interface and management’s commitment to growth in mobile turned Facebook’s fortune, and shares have surged more than 360% since their low.
Other social media companies are still caught in the paradox of strong growth but slow monetization and have lagged in 2014. Shares of Twitter (NYSE: TWTR) have plummeted 41% this year. Yelp Inc. (NYSE: YELP) while not down as much, is off 23% year to date.
But there is good reason to believe Yelp may have a Facebook moment soon.
The company provides a unique service in the advertising world. While offline advertising remains focused on brick-and-mortar sales and most online marketing targets online sales, Yelp is integrating the two worlds to provide online marketing for brick-and-mortar sales.
Yelp operates on a social review model. Consumers review local businesses and post to the site for other consumers who can then use the Yelp platform to connect with the businesses. Yelp also provides account services to businesses that can advertise on the platform and access valuable consumer data.
With local brick-and-mortar businesses struggling against the unstoppable shift to online sales, Yelp holds a valuable advantage in the advertising space, and revenue growth could jump as offline sellers turn to online ad spending.
Organic Growth Already Built In
Active local business accounts grew 51% year over year in the third quarter to 86,200, and monthly average users grew 19% to 139 million. Yelp has an online community in 29 countries, but only currently sells advertising in eight of them. That means there is built-in organic growth in 21 countries as the platform builds its brand and starts selling advertising accounts.
Besides this existing potential for international growth, Yelp is well positioned in an industry with strong tailwinds. Forrester Research forecasts online advertising spending will nearly double in the next five years to $37.6 billion from $19.8 billion in 2014. In comparison, the offline ad market will likely grow just 1% annually to $239 billion in 2019. Ad spending on mobile devices is expected to grow the fastest, increasing from 24% of all online display ad spending this year to 40% by 2019.
According to Yelp’s recent investor presentation, online and mobile ad spending are projected to account for 15% of the $145 billion total advertising marketing in the United States in 2016. These trends pose an interesting problem for local businesses that may not offer online sales. How do they reach an increasingly online community with their offline offers?
Yelp is positioned to bridge that gap for local businesses, and new user capabilities this year are helping to strengthen the user experience. The site implemented the ability to message business owners in June and reservation capability in May.
Earn Extra Income All the Way Back Up to $100
YELP is down 48% from its high of $101.75 this year, but shares have found consistent support above $50. We can take advantage of a recovery while generating income to lower our risk with a covered call strategy.
With YELP trading at $52.94 at the time of this writing, we can buy 100 shares and simultaneously sell a Yelp Feb 55 Call, which is trading around $3.90 ($390 per contract). This gives us a net cost of $49.04 per share, which is 7% below current prices and just under the 52-week low.
If YELP is above the $55 strike price at expiration on Feb. 20, our shares will be sold for that price. In this case, we will make a $5.96 per-share profit, or 12.2% in just 54 days. If we were able to make a similar trade every 54 days, we could earn an 82% rate of return in a year.
I like the trade as long as we can get in for a cost basis of $50 or less, which still leaves us with a gain of 10% and a good discount to the current price. I have set the strike price relatively close to the current price on this trade because I want a little more downside protection. The February options leave us exposed to the fourth-quarter earnings release earlier in the month, which could move shares.
If YELP fails to rise above $55 by expiration, we keep the shares and the option premium. We’ll then have the opportunity to sell another call to generate more income and lower our cost basis further. I like the long-term potential of the company and the social media space, but I also want to generate a short-term cash return on my investment.
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