My mother is a real estate agent. In 1996, as a student at Penn State, I thought real estate might be the place to build my own career. During primary school, my brother and I would help market properties by stuffing flyers with details and photographs of listed properties into bags and distribute these bags, which hung from door-knobs, in neighborhoods of targeted buyers. I recall thinking about the implications of the math of being a Realtor:
Number of Transactions x Average Transaction Size x Average Commission Rate x Production Credit from Broker = Total Income
This was an oversimplification, I suppose, but it seemed to me that you could have a really good income and lifestyle if you did a few transactions each month at the higher end of the market. I took a pair of classes during June ’98 at the Landsdale School of Business and became a licensed Realtor. (Economists call this a “low barrier to entry.”)
One area that became interesting to me was commercial real estate (CRE) finance, based in large part to my thoughts on the math above. It was notable to me that, as a real estate agent, you received “first look” at many deals and, while representing buyers seeking to invest, the liquid agent could acquire the best properties for themselves. I wondered, was the best way to create (and extract) value from the business as a broker, focused on maximizing the number of sales agents within the agency? Or, was it better to remain in personal production, focus on a luxury niche, and maximize the payout by owning the brokerage license personally? Or, was it best to focus energy on sales in a lower end niche, let someone else broker and deal with the administrative activities of the business, and grab mispriced and distressed properties as they revealed themselves for my own portfolio?
I ended up choosing a career path in insurance, employee benefits, and financial advisory, but I remain interested in real estate and the way technology influences and, dare I say, plays a role in disrupting legacy industries.
During lunch last year I was discussing technology in real estate with my mom. She shared with me that a large real estate technology player, Zillow, moved into buying and selling real estate for its own account. I was curious about this and invested some time into looking at their recent 10-Q. I’ve occasionally looked at the developments of Zillow Offers and thought it would be an interesting blog post this weekend. Here are some thoughts:
Thoughts on the Customer Value Chain | Residential Real Estate
According to IbisWorld, the US real estate brokerage and sales market is USD $163.7B. Below I attempted to articulate a simple customer value chain from “contemplation about a transaction” to “close.” I included in the purple balloons areas in this value chain where Zillow has products or services that are germane.
Zillow
From Zillow’s most recent 10-K, the business is described as follows:
Zillow Group, Inc., the largest portfolio of real estate brands on mobile and the web, is building a trusted, on-demand real estate experience. Whether selling, buying, renting or financing, customers can turn to the Zillow family of businesses to find and get into their next home with speed, certainty and ease. In addition to Zillow’s for-sale and rental listings, Zillow Offers buys and sells homes directly in dozens of markets across the country, allowing sellers control over their timeline. Zillow Closing Services offers customers title and escrow services to support a more seamless transaction experience. Zillow Home Loans, our affiliate lender, provides our customers with an easy option to get pre-approved and secure financing for their next home purchase. Other consumer brands include Trulia, StreetEasy, HotPads, Naked Apartments and Out East. In addition, Zillow Group provides a comprehensive suite of marketing software and technology solutions which include Mortech, dotloop, Bridge Interactive and New Home Feed.
From a strategic perspective, by engaging with consumers early in the process (read: “contemplation,”) across digital properties including Zillow, Trulia, and StreetEasy, Zillow is able to charge premium to real estate agents to advertise to these potential customers; Furthermore, by growing into a large player, there are incentives for agents and sellers to include their properties on Zillow platforms. There is obvious value to being big.
Zillow reports on three segments: the Homes segment, the Internet, Media & Technology (“IMT”) segment, and Mortgages segment.
I was interested in looking at revenue, growth, and operating income by segment over time. Here are a few charts:
The second quarter of 2020 was highly affected by COVID-19. I’m uncertain how to think about the positioning of data within the shareholder letter; The adjusted EBITDA margin for IMT improved from 19.8% to 25.6%; Zillow Offers temporarily paused home acquisition, selling 1,437 and acquiring only 86; Mortgages revenue grew 25% to USD $34M (EBT loss of USD $0.2M.)
Of particular interest in the Zillow Offers economics is the following chart from Q2:
I will be curious to return to this blog post next year. I am curious about the effects of the learning curve on this segment; Can Zillow become more discriminating on purchases, and improve acquisition cost by 500+ bps? Can selling costs be improved by leveraging the technology platform for direct sales to consumers in such markets? I imagine there are benefits through network effects and increasing scale on this segment, as well. I wonder how much worse the actual results are, though, given that this doesn’t reflect the property that sits idle on the balance sheet as inventory…. (Not sure you can “make that up in volume”…)
As a matter of curiosity, I pulled the stock performance for maximum period and compared against the NASDAQ Composite.
It will be interesting to see how the unit economics of Zillow Offers develop, and which priorities Zillow chooses.
Post Script: I had been thinking about writing this post for a few weeks. Over the past few days, I noticed an interview with Chamath Palihapitiya about his decision to invest via a SPAC in OpenDoor, which is reported to value the business at USD $4.8 Billion. [TEV for Zillow when I ran the Capital IQ report was approximately USD $16.1 Billion on USD $6.2 Billion of capital.] I think there are some interesting insights from his analysis, which he links in the following Tweet:
If you would like to learn more about the @Opendoor business and how we developed our investment thesis which led to the merger of $IPOB and OpenDoor, you can see a detailed presentation from myself and OpenDoor CEO @ericwu01 here:https://t.co/RuHI6SnvzL
— Chamath Palihapitiya (@chamath) September 15, 2020
Here is some of the information from the press release:
It will be interesting to see how this additional financing impacts the real estate industry and various constituents. Here is a snippet of the interview with Chamath:
. @Chamath unveils #SPAC target @Opendoor and explains why 👇 pic.twitter.com/5iOWp3rIir
— Squawk Box (@SquawkCNBC) September 15, 2020