OpenTable, an IPO Star With Growing Reservations (for Investors)

Hot tech IPOs have been in short supply for years. Even a once-sizzling offering like virtualization software maker VMWare (VMW) trades well below its record high of $125. Some smaller, focused Web-based companies have had success, especially OpenTable (OPEN), which lets customers book restaurant reservations online.

OpenTable is the best-performing initial public offering in the U.S. since underwriting of new stock issues began a slow recovery early last year. It's currently valued more than twice its $20 offering price a year ago, rallying steadily on four consecutive quarters of stronger-than-expected earnings.

OpenTable is small but growing. Analysts expect its revenue to increase 30% this year to $89 million and earnings per share to rise to 52 cents from 33 cents.

So OpenTable looks like an encouraging sign that a well-managed company with a strong market share in a growing niche can have a bright future -- even in today's volatile stock market. But that may not be the whole story. Because last week, on the one-year anniversary of OpenTable's debut on the stock market, it became clear that the company might be facing some tough competition on its turf.

IAC's Urbanspoon and Rezbook

In its 10-K filing, OpenTable remarked that new competitors could threaten its strong lead in the market for online reservation systems. "Currently, our primary competitors in North America are the pen-and-paper reservation book used by most restaurants and the phone used by diners," the filing said before warning about competitors that "could introduce new solutions with competitive price and performance characteristics or undertake more aggressive marketing campaigns than ours."

One such competitor is IAC (IACI), Barry Diller's mix-and-match collection of online enterprises. One of IAC's businesses is Urbanspoon, best known for its iPhone app that has been downloaded 10 million times. That qualifies it as a hit in the nascent mobile Web market, but it's not the original Urbanspoon app that could cause problems for OpenTable. It's a new iPad app called Rezbook that will be released next month.

Restaurants that buy a $500 iPad can throw out their pen-and-paper reservation books and download the Rezbook app and have a new reservation system that connects with customers. Which customers? For starters, any of the 10 million people who are actively using the Urbanspoon app on their iPhones to find a place to eat -- not to mention people searching for restaurants on CitySearch, which is also owned by IAC. The app also lets restaurant staff easily manage tables and openings, while keeping track of customer histories and preferences more easily than paper records can. TechCrunch has some screen shots showing how the app will look.

Right now, RezBook is lagging far behind OpenTable. It's been tested with 50,000 diners in 100 restaurants in Seattle, and it recently expanded to Los Angeles. By contrast, OpenTable has 13,000 restaurant customers in all 50 states, booking reservations for 150 million diners in the past 12 years. But with RezBook, IAC is taking aim at some weaknesses in OpenTable's business model, namely its pricing system.

Vulnerable to Lower-Priced Business Models

According to The Wall Street Journal, OpenTable charges an initiation fee of $600 to $700, a $270 average monthly fee and $1 for each diner seated. Urbanspoon charges a $99 monthly fee and $1 per head. (A third service, ReservationGenie.com, which serves 31 restaurants, charges $49 a month and $2 per head.)

Some restaurant owners complained to the Journal of their frustrations with OpenTable's pricing, especially its insistence on charging 25 cents per guest booked through the restaurant's own website. Urbanspoon charges only for bookings through its service. There are other complaints as well. The blog Eater.com says restaurateurs have long disdained OpenTable's "clunky" interface, while RezBook's design is smoother. And the Journal cites conspiracy therories of restaurants offering inferior service to guests who book through OpenTable.

It will take some time for Urbanspoon and others to steal market share away from OpenTable. But once it begins, OpenTable will face increasing pressure to cut its fees. And the company is already facing pressure on its profit margins. OpenTable's operating margins rose steadily through 2009 to 21.4% in the fourth quarter, from 5.2% in the first. But margins dropped to 17.7% in the first quarter of 2010 as sales and administrative costs increased because of new hiring.

Of course, OpenTable's substantial lead gives it plenty of room to adapt to competitors. But the low installation costs of Urbanspoon -- a $500 iPad, versus OpenTable's more expensive proprietary hardware, which requires training -- and cheaper fees will be costly to match. Which may serve as a warning not only for OpenTable's investors but for IPO investors in general: Even the best-performing IPO of the past year can be vulnerable to newer, better upstarts.