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Yelp: a 5-star review

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Yelp effectively leverages its business and operating models to deliver value on both sides of its two-sided market.

 

Yelp, an American multinational company headquartered in San Francisco, prides itself on its mission of “connecting people with great local businesses” [i]. Having seen rapid growth since it was founded by two former PayPal employees in 2004 and made public eight years later in 2012, the company has become an everyday staple in the arena of business ratings and reviews.

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The business model

Yelp’s business model is based on a two-sided market that leverages network effects to deliver value on both sides: users and businesses. It creates value by providing users with business ratings and businesses with increased consumer traffic. Subsequently, it captures value by selling ads to local businesses, enabling them to place sponsored advertisements within the site. These advertising products come in two primary forms: local search ads that can cost $50-1000 per month and enhanced profiles with videos that can cost $50-100 per month[ii]. Interestingly, this local advertising makes up over 80% of Yelp’s revenues.[iii] Display advertising, or banner advertising, makes up another 6% of revenue (although planned to be discontinued by end of 2015), and the remaining revenue is distributed into Yelp Deals, Partnerships, and Other Services.[iv], [v]

The operating model

Yelp’s operating model is a heavy sales-driven process that focuses on bringing in local advertising accounts, typically through direct sales with small-business executives.[vi] Yelp has added a number of features for local businesses, including the abilities for business owners to respond to reviews, flag reviews to be removed if they violate content guidelines, and see traffic reports.[vii],[viii] Furthermore, Yelp’s operating model also delivers a range of additional features for users, including a native mobile app for easier navigation on the go, the ability to make restaurant reservations directly through OpenTable, and a proprietary filtering algorithm that evaluates whether reviews are authentic.[ix],[x] Another very interesting and unique aspect of Yelp’s operating model is the community that it has built around reviewers, those that supply the critical reviews that encourage users to use the site. Each year, Yelp invites a portion of its most active reviewers to the Yelp Elite Squad and hosts parties for them, incentivizing them and other future Yelp Elite Squad members to write more high quality reviews.

Bringing the two together

Yelp’s business model and operating model closely complement each other. Its sales-driven focus and product offering of analytical tools support its ability to capture the interest of small business owners, which in turn drives those owners’ likelihood to purchase local advertising. Likewise, its focus on community-building and product features for its users incentivizes high quality reviews and engagement, which creates additional value through the network effect. These features have been critical to creating and sustaining Yelp’s competitive advantage, especially in such a competitive environment. A study from BCG uncovered evidence that strongly supports this: companies reported generating incremental revenues of $8,000 annually through Yelp, and those that further invested in Yelp advertising campaigns saw that uplift increase to more than $23,000, a nearly 200% improvement.[xi]

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Yelp’s business model also leverages unique capabilities of its business model. For businesses, Yelp leverages its acquisition of SeatMe, an cloud-based online reservations solution, to allow users to not only view the companies’ local advertisements, but also to book reservations directly.

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For users, Yelp’s acquisition of Eat24 allows consumers to connect to local businesses online, such as ordering food delivery, improving its customer experience and value proposition for consumers.[xii]

Together, these two complementary models have shown to have several implications for performance. Yelp now boasts approximately 90 million cumulative reviews, 40% y/y growth in page views, and a quarterly revenue of $140MM[xiii]. In 2014, Yelp saw its first positive net income of $36MM, and it continues to drive top-line growth through expanding mobile reach, increased salesforce presence, and sustained consumer engagement.[xiv] All of these favorable metrics are a direct result of Yelp’s effectiveness and alignment between its business model and operating model.

[i] Yelp Investor Presentation Q3 2015. http://www.yelp-ir.com/phoenix.zhtml?c=250809&p=irol-sec

[ii] Ibid.

[iii] Yelp 10-Q for Q3 2015. http://www.yelp-ir.com/phoenix.zhtml?c=250809&p=irol-sec

[iv] Yelp: Display Advertising Will Be ‘Discontinued’ by End of Year. http://adage.com/article/advertising/yelp-brand-advertising-discontinued-2015/299721/

[v] Yelp Q2 Earnings Preview: Local Ads Business To Grow, Albeit At A Slower Pace. http://www.trefis.com/stock/yelp/articles/305517/yelp-q2-earnings-preview-local-ads-business-to-grow-albeit-at-a-slower-pace/2015-07-24

[vi] How Yelp’s Business Works. http://www.businessinsider.com/yelp-analysis-2012-3

[vii] Chafkin, Max (February 1, 2010). “You’ve Been Yelped”. Inc. Magazine.

[viii] How Do I Report a Review? Yelp. http://www.yelp-support.com/article/How-do-I-report-a-review?l=en_US

[ix] Chafkin, Max (February 1, 2010). “You’ve Been Yelped”. Inc. Magazine.

[x] “Yelp to allow restaurant reservations through site”. Associated Press. June 3, 2010.

[xi] Unlocking the Digital-Marketing Potential of Small Businesses. https://www.bcgperspectives.com/content/articles/digital_economy_marketing_sales_unlocking_digital_marketing_small_businesses/

[xii] Yelp Investor Presentation Q3 2015. http://www.yelp-ir.com/phoenix.zhtml?c=250809&p=irol-sec

[xiii] Ibid.

[xiv] Ibid.

2 thoughts on “Yelp: a 5-star review

  1. Very interesting post on how the business and operating models of Yelp work, David. I had no idea about the Elite Squad or that you could make reservations on OpenTable and it’s great to know that the company keeps growing. On the operating model, I was curious to know more about how they use tech to support their business model (e.g. how do they pick which recommendations to show, how they decide which features to roll out for businesses, do they suggest restaurants based on previous history of preferred type of food, etc.).

    Besides that, I wonder what are your thoughts on a couple of challenges that Yelp seems to face. On the one hand, you have Google that has great mapping skills and information about the location of different businesses and that has started to try to get more reviews on each of them. On the other hand, there are the competitors on both the “business recommendation” domain (e.g. Foursquare for day to day, or Tripadvisor and the like for when you travel) and for delivery (e.g. Seamless, GrubHub, Sprig) which also have embedded recommendations for their partner restaurants.

    1. Thanks! The proprietary recommendation filtering algorithm decides which reviews to hide; all other reviews appear on the site and can be sorted by date, rating, or elite/non-elite.

      I think competition is the biggest risk that Yelp faces over the next few years. Google is particularly troublesome due to the massive big data available, and they have even moved into this space through its recent acquisition of Zagat and creation of Google Local Insiders. However, Yelp still has a huge first-mover advantage, and Google is still behind on user-written reviews. Zagat was started by professional reviewers, and Google Local Insiders just kicked off recently.

      The business recommendation and delivery domains are also strong competitors. Foursquare has very few user-written reviews, and Tripadvisor focuses on travel and leisure more generally (thus having less branding around restaurants as Yelp does). In this recommendation industry, I think scale and brand are the most important drivers since they heavily influence network effect and consumer usage.

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