Yelp To Follow Facebook's Footsteps – Seeks Private Investment

Yelp, the local business search and review site, is said to be in talks to raise additional financing instead of getting acquired or having a go at the IPO. According to reports Yelp is in talks with Elevation Partners – a major investor in Palm Inc., for the new round of funding. What’s significant about the round is the fact that it may include an option for employees and investors to sell their shares to the investors.

Yelp has previously raised $31 million in funding and was valued at $215 million during the last round in which it raised $15 million from DAG Ventures in 2008. Yelp’s prior investments propelled the service to become profitable in 2009, however, the company decided to reinvest its earnings to fuel more growth. According to estimates, Yelp has about $30-$50 million in revenues, however, the company doesn’t disclose these figures publicly.

Google’s talks to acquire Yelp for a rumored $500 million, fell apart in Dec 2009, when Google walked away from the deal citing concerns that Yelp was not transparent enough during the due diligence. Sources familiar to the deal disclose that Yelp received a secondary offer from another company and decided to decline both the offers.

After testing the IPO waters and discussing the acquisition possibilities Yelp has decided to take the investment path pioneered by Facebook. In Q2, 2009 Facebook accepted an investment of $200 million from Digital Sky Technologies in return for preferred shares in Facebook. Facebook employees sold an additional $100 million worth of common stocks to DST in July – allowing them to cash in on their stocks at $14.77 a share without having to wait for the IPO. The investment model was followed by Zynga, which accepted a $180 million investment from DST in Q4 2009. Similar to Facebook, a portion of Zynga’s investment was used to buy shares from the employees and early investors, whereas the remaining would go towards fueling future growth.

Following in the footsteps of Google, who used an irregular IPO model (dutch auction), Facebook is also crafting their own pre-IPO investment model. While Fred Wilson says that this new model of investing is being coined “DST deals“, due to DST being the investor using this new strategy with both Facebook and Zynga, it may be more of a sign of the current economic environment.

Due to the current financial crisis, the IPO market has  all but dried up. This has resulted in a significant plunge in the acquisition prices of startups which averaged $144.2 million in 2009, down from an average of $214 million in the fourth quarter of 2007 alone.

Private financing provides a best of both worlds. It enables investors and employees to sell their stock without the scrutiny and distractions of the IPO and simultaneously allows startups to fuel their growth and avoid getting acquired cheaply.

However, one side effect of private financing is that it increases the valuations to such stratospheric levels that an IPO becomes the only viable exit option. Having said this, companies like Facebook, Zynga and Yelp would rather try their luck with the IPO rather than getting acquired for pennies on the dollar.