Newspaper article Sarasota Herald Tribune

Looking at Yelp's Risk versus Wildly Inflated Expectations

Newspaper article Sarasota Herald Tribune

Looking at Yelp's Risk versus Wildly Inflated Expectations

Article excerpt

MANY INVESTORS ARE PUZZLED when they see stocks with little or no history of consistently growing positive earnings or dividends selling at price-to-earnings ratios (P/E's) many times the market's P/E of 16.

They wonder whether this type of stock can possibly be a good longer-term candidate for an investor's portfolio.

In general, based on the historical record, the answer is "no."

The natural question is then: Why do investors push a stock to such a high valuation? The answer is excitement and hype. These can blind investors a company's real value. Also, these stocks are often thinly traded, so the most optimistic buyers set the market price.

We now consider Yelp, a company that lost 33 cents a share in 2012 and 15 cents in 2013. It's a company that operates an online city guide based on local residents' opinions of restaurants, hotels, etc. The stock trades on the NYSE (ticker: YELP). It recently traded at $96 a share and has more than quadrupled in the last year.

We demonstrate one screening analysis that can assist an investor evaluate a stock like YELP.

Some data investors should consider:

The consensus forecast is for Yelp is to lose 4 cents in 2014. However, a danger signal is that analysts' estimates vary widely, for example, for 2014 from -12 cents to 9 cents. For 2015, consensus is for 37 cents.

Yelp's earnings are forecast to grow about 43 percent a year.

YELP's $96 price gives it a P/E ratio of about 259, based on highly uncertain consensus forecast for 2015 earnings.

Based on volatility, YELP has about 4 times the risk of the S&P 500.

Let's look at some issues that potential buyers should consider.

How much of YELP's $96 price is supported by 2015's forecast earnings versus even more speculative future earnings? To estimate this, we pretend that its earnings in the future will be the same as 2015's, and they will be paid annually as dividends.

How much would an investor pay for a dividend of 37 cents? To estimate this, we divide the dividend by an appropriate interest rate. We'll use a current typical high-yield bond rate of 6 percent.

We calculate $0.37 divided by . …

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