Yelp's 'Weakening' Engagement Prompts KeyBanc Downgrade

Concerning customer feedback trends at Yelp Inc YELP prompted KeyBanc to drop its bullish stance on the stock.

The Analyst

KeyBanc Capital Markets' Brad Erickson downgraded Yelp's stock rating from Overweight to Sector Weight with no assigned price target.

The Thesis

Yelp's overall platform remains "generally healthy," but there are multiple concerning developments that imply investors should no longer be aggressive on the stock, Erickson said in the downgrade note.

For example, the analyst's checks with recent new customers found a "clear lack of commitment and indifference" toward remaining on Yelp despite a no-contract commitment. In addition, customer feedback from those on the platform for a few months found "poorly perceived utility."

Higher churn rates are naturally a byproduct of a no-contract business model, but this can result in an ongoing and increasing requirement for high gross addition levels and lower margins to maintain the growth rates investors expect, the analyst said.

Yelp's margins benefit "immensely" when existing customers increase their spend on the platform, as seeking new customers is more expensive, Erickson said. Gross additions per sales person have been trending lower since fiscal 2013, but rebounded in the recent quarter — most likely due to the no-contract commitment, the analyst said.

The ratio needs to remain at levels that haven't been seen in over two years for the company to meet expectations, according to KeyBanc.