[VIP] Zillow Q2/2019 Earnings: Going All In

When Rich Barton took (back) over as CEO of Zillow earlier this year, I wrote a Red Dot and titled it, “The Return of the King.” I didn’t realize then that the king was not just a fighter, but a gambler. With giant brass ones. After the Q2 earnings results, I know that now.

Zillow’s Q2 earnings came in more or less as I expected: huge spike in revenues, but an even larger spike in expenses, resulting in absolutely astronomical losses. Seriously. I had to find a way to format the percentages as I’ve never needed the thousands separator in percentages. But I needed it this quarter. Net loss widened by 2,227%? I mean… what?

Thing is, that number doesn’t scare me, and I don’t think it scares Barton and his team. I’m sure we’ll see all kinds of takes on Zillow’s latest results, and all of them will be reasonable. I think I’m generally a bull because of some specific detailed things I see, almost all of which I’ve been predicting for years… which could mean that there’s some confirmation bias going on.

But this quarter tells me that Zillow under Rich Barton is going all in. He’s pushing all the chips to the middle of the table. That alone seems significant to me from an industry perspective.

Let’s get into it.

The Numbers

Let’s start as we always do with the numbers. As an aside, because Zillow releases Supplemental Financial Tables in Excel, it’s always easier to manipulate and make visible via Google. I hope other companies take note!

The sea of red you see is not a visual illusion, and those numbers are not a typo. Zillow really did lose $72 million in Q2, or $800K per day for 90 days. But if you look at the numbers, and listen to the explanation, it’s quite obvious why: Homes and Mortgage.

If we isolate just the IMT segment, which was more or less what Zillow was a couple of years ago, we find a rather profitable little business: pretax income of $13.2 million, or 4.1%, with gross margins of 91.9%. I mean… 92% gross margins, y’all. I feel like something that might get overlooked because of the giant numbers involved in Homes and Mortgage is the fact that YOY, the IMT segment grew its profits by an eye-popping 11,935%, from 110K in Q2 of 18 to over $13.2 million in Q2 of 19. Greg Schwartz and his team ought to be feted for this result.

Then again, hold your horses. Because Premier Agent was basically flat: 0.5% growth YOY means no growth at all. If it weren’t for Rentals and Other (display advertising, Dotloop, etc.) posting double-digit growth YOY, the entire IMT segment would have fared pretty poorly. We’ll discuss this below.

But we need to understand something here: when people complain or poo-poo Zillow because it has never made a profit… Zillow as we knew it two years ago did make a profit: $13 million of it in one quarter. In an alternate universe where Zillow never got into Instant Offers (except maybe as a lead generation platform, which was the very first incarnation of Instant Offers), after this quarter’s results, we’d be talking about Zillow’s $13 million in profits, how it has stopped growing and is now trying to make real money.

Traffic was up to 194.3 million average monthly uniques, or up 4.4%. That seems small, but we are still talking about 8.2 million more monthly unique visitors year over year. That’s a pretty gigantic add.

Wither IMT?

From the earnings call, it seems pretty obvious that analysts are trying their damnedest to figure out where Zillow is headed with its core IMT business. They recognize that Zillow is no longer just a portal, but IMT is still a billion dollar business. It’s where most of today’s value is. So they were asking all kinds of questions of Zillow’s management team.

Maybe I’ll do a far more detailed line-by-line analysis of what Rich Barton, Greg Schwartz and others said about Flex, but here are my major takeaways.

Zillow Flex is the Future of IMT

The future of IMT is Flex, the 35% success fee model. Zillow is still positioning it as trials and learning and so on, and Flex is still only available in 4 markets, as Zillow announced it was adding Phoenix and Atlanta. But listen to the call and I think it’s obvious that Flex is IMT and IMT is Flex.

In my June 2018 Red Dot, looking at the Q1/2018 earnings reports, the section for Zillow was titled, “The Revolution Will Not Be Televised.” In it, I pointed out that the change to Premier Agent back then presaged a total change in the relationship between Zillow and its customers, the Premier Agents:

Throughout this transformation, perhaps nothing transforms more than the relationship between Zillow and the Premier Agent.

Today, the Premier Agent is an advertiser on Zillow. For a certain amount of money, Zillow promises a certain number of impressions (CPM-based pricing) of that Premier Agent.

Tomorrow, the Premier Agent becomes something far closer to the windows installer for HomeDepot. Sure, she is still an advertiser. She will still have a customer service rep at Zillow, and a salesperson at Zillow who will be trying to get her to spend more with Zillow.

But when Zillow holds the relationship with the actual buyer or seller, passing them on to her only after they have been “validated”, the relationship changes slightly… but in a profoundly important way.

Now Zillow becomes more like a source of revenue for the Premier Agent, in much the same way that a local windows installer regards HomeDepot as a source of revenue, not as an advertising platform.

That was under Spencer Rascoff’s leadership; it appears to have gotten even more aggressive with Rich Barton at the helm. For example, we have this from the prepared remarks:

We’re using data and customer feedback to select our broker partners in Zillow Offers markets, and our machine learning algorithms are already helping to identify the Flex agents most likely to close deals with the highest satisfaction level. The future of these partnerships is key to our seamless real estate transaction experience vision.

This path was fairly obvious in late 2018 when Greg Schwartz announced that Zillow was no longer interested in taking money from substandard agents. But there were signs of it even in 2015. Longtime readers know I’ve been talking about the Home Depot Effect and how Zillow’s vision of the future was fewer agents doing more deals.

But even the “Best of Zillow” program came in after an agent chose to become a Premier Agent first, then went through the CSAT survey process, and then got scored. Only those who didn’t measure up and didn’t improve would be kicked out of Premier Agent.

I realize this is a subtle point, but what Barton said above is that with Flex, Zillow will be the one identifying which agent is more likely to close deals, which agents will have highest customer satisfaction levels, and ultimately, choosing who gets to participate. I mean, with the structure of Flex, an agent can be “in the program” and not actually participate… because no leads are sent his way.

To reinforce that, here’s Rich Barton in the Q&A:

And the frame to apply to this is we’re moving to a transaction model. We’re doing the transaction model with the finest real estate professionals in the land. And we’ve got a much larger TAM to address with this new Flex program as we get to it. So there’s a bunch of upside on the bids. We just got to get everything lined up and we got to get some full data back from these higher scale tests in these important Zillow markets, and then we will good. [Emphasis added]

So yes, Zillow is doing tests and learning and so on, but there is no doubt in my mind that Flex is the future of IMT.

Zillow will Raise the Bar in Real Estate

Closely related to the above, it seems clear that Zillow will raise the bar in real estate whether real estate wants that bar raised in this way or not. Here’s an interesting passage from the Q&A, where an analyst straight up asks Rich, “If Flex is successful over time, then do you see a world where you have more leads and more transactions going through higher quality agents, so the agent count could fall further over time?” His answer:

And then the question on agent account. We intend to have a selection of the most productive agents in the business. Connections allow them to pick up the phone and have a live customer who’s been vetted, who wants to talk to them and to get appointment, go out and see a house, get connected to them. This is a really important efficiency driver for them. So we expect that the best get bigger. You asked if that’s the question. We certainly expect that to occur.

And the team model is very well suited to this, which we’ve invested in now for many, many years. A lot of wonderful individual practitioners have now become businesses, hiring buyers’ agents, hiring showing agents, hiring listing agents, hiring transaction coordinators on top of our platform. We expect that to accelerate. And so the total customer count may decline early but the number of agents working the volume that we send downstream will probably grow, and each of them will get more of their business from us, but it’s early… [Emphasis added]

Here’s what I wrote in 2015:

Unless something changes dramatically, this is the inevitable end of increased technology and the Internet. I’ve been talking about this ever since I started this blog. (A quick search finds this post from 2011 where I mention “he that hath, gets.”)

Zillow has read the tea leaves and has decided to bet the farm on the top 5-10-15% of the producing agents, who have no trouble spending $5,000 per month on Zillow because they have the systems, staff, technology, and the expertise to turn that $5,000 investment into $50,000 in income. The rest of the industry — franchises, brokerages, Associations, MLSs — continue to try and preserve headcount-based business models.

When the entire economic model of real estate is a zero-sum game, where the number of homes sold and the prices of those homes have nothing to do with the industry and everything to do with macroeconomic factors that no one (besides maybe the Federal Reserve) controls… productivity gains for the Best of the Best have to come from somewhere.

For all the Raise the Bar hoopla of the real estate industry over the past decade or so, maybe it’ll ultimately be Zillow that does it for us, over our objections, over much weeping and gnashing of teeth, as the bottom 60-70% of the agent population find themselves completely locked out of the Top Producing Agents Club because they can’t afford the investment it will take to compete with the big boys and big girls.

But that is the future of the industry that Zillow has foreseen, and is now committed to bringing about. And Zillow has put its money where its mouth is. It has actually change the product lines at Trulia to rid itself of the low-performing, low-producing agents.

The inevitable result is that the agents whom Zillow has blessed will get bigger, capture more market share, and more and more of their business will come from Zillow. Because they capture more and more of a zero-sum game market, many other agents will wither away and become Uber drivers.

It must be noted that there are great agents out there who have never spent a dime on Zillow. They have a fantastic book of business, a wonderful sphere, and are active in their local communities. They don’t need Zillow, and likely never will. And still others are wonderful agents who consistently rank among top producers, but they don’t want to manage a team. Those individuals are not likely to be big Flex agents.

But those great agents are a minority in the industry. Most MLS CEO’s know that half or more of their members do no transactions. Look at agents doing two or fewer deals a year, and suddenly, you’re up to a supermajority of REALTORS in a given marketplace. It has been a while since the real estate industry moved from a pareto principle of 80/20 to something like a super-pareto principle of 90/10… or more.

The path that Zillow has committed to will supercharge that existing trend and make it difficult for marginal agents to stay in business, especially as more and more sellers start their journey not with a phone call to an agent they know, but on Zillow requesting an offer.

It’s still early yet, and Barton and Gang aren’t going to plant flags or make predictions or whatever. But I can, and will. Flex and Zillow’s selectivity is the future of IMT; it will result in a minimum of 30% decline in the total number of REALTORS in the United States within the next 3-5 years. The majority of the top producers in the industry (like those who appear on RealTrends The Thousand list) will be partnered one way or another with Zillow.

Zillow the Market Maker: Homes Segment

It seems absolutely crystal clear from the management’s commentary that as much as they talk about IMT being important, and how the goal is for IMT to be a $2 billion a year business, the future of Zillow is Zillow Offers. At one point, Barton actually used the phrase “market making with Zillow Offers” which made me smile a little bit, since I think I’m one of the first to insist that iBuyers were not house flippers or investors, but market makers.

So let’s take a look at the Homes segment, including the unit economics.

Yeah, Homes just hemorrhaged money. But that really doesn’t matter to most investors. Because (a) revenues almost doubled from Q1 to $248.9 million, and (b) Homes still generated 3.3% in gross margins. Zillow sold 786 homes in the quarter, again, almost double that of Q1, and almost 4.5x Q4/2018 sales of 141. In six months, Zillow nearly quintupled the Homes business.

And the topline numbers are stupendous. Zillow said it received 70,000 requests for Offers in Q2, bought over 1,500 properties, and sold 786. Revenues were up huge to $316.7 million, and costs were up huge as well.

Savvy investors (or stupid ones, depending on your point of view) understand that that kind of explosive growth is going to take enormous investment in people, overhead, staff, technology, systems, etc. Indeed, Zillow poured in over $73 million into sales and marketing, technology and G&A for the Homes segment in Q2 vs. $47.5 million in Q1.

Some, like Steve Eisman of Neuberger Berman, think Zillow is nuts. Watch this segment from CNBC below:

Others don’t have a problem with Zillow’s pivot to becoming a housing market maker per se, but they do rightfully point out that Zillow is no longer a technology company deserving of tech company multiples.

Frankly, I have no opinion on either of those takes because I am not an investment analyst. If Zillow’s share price takes a beating because investors decide it isn’t a tech company, I don’t own any Zillow stock, I’m not short Zillow, and I have no business relationship with Zillow… so… yeah, I don’t really care.

What I care about is what the emergence of Zillow as a market maker and as the frontrunner for the Iron Throne in Realestateros (see below) means for the industry as a whole.

The unit economics of Zillow Offers are fascinating as well, and let me take a moment here to sincerely thank Barton and team for releasing these numbers. Others *coughRedfincough* have chosen not to release any meaningful numbers on their iBuyer operations. I can’t wait for Opendoor to go public one day so we can see how things work over there too.

What I’m seeing here is that both revenue and acquisition costs are more or less steady; in fact, on a Q/Q basis, Zillow appears to be getting slightly better at selling high and buying low: revenues up 2.1% and acquisition costs up 1.5%. But that’s pretty steady. Same with selling costs, which rose 1.5%. The violence in the unit economics is in renovation costs (up 6.7%), holding costs (up 9.3%) and in interest expense (up 12.4%).

That last piece makes me wonder. We can see that the return before interest doubled from Q1: Zillow made $1,578 per home sold in Q2 vs $730 in Q1. That’s really excellent!

But then Zillow paid out some $4,500 in interest per home and ended up losing almost $3,000 per home sold in Q2. Since Zillow holds the home for an average of 105 days (in Phoenix at least), paying out $4,500 in interest alone seems rather high… but that’s likely the terms of the $1 billion revolving line of credit that Zillow is using. From the 10-Q, p. 17:

Further, borrowings against any eligible property are due upon its sale or at maturity of the applicable facility, or if the property’s ownership period exceeds the agreed aging criteria. Each of the credit facilities permits only a portion of the financed properties to be owned longer than 180 days, and no financed properties may be owned for longer than one year. Any financed property excluded by such aging criteria will drop out of the borrowing base, and the applicable borrower will be required to repay any resulting overadvance.

By my rough calculation, without asking anybody at Zillow, I think Zillow might be paying something like $26K per month on the average $310,000 house it bought in PHX, and interest alone for the first 3 months comes to over $4,200. That’s right about in line with the unit economics. And the rates Zillow is paying on the revolver are averaging 4.95%. When 15-year fixed rate mortgages are going for 3.25% (as of today), that seems kinda high from a cost of capital perspective.

One issue here is that those interest payments are FAR more than what a consumer would pay, unless I’m completely misreading something, which changes the financials of the sell to Zillow vs. list with an agent. But that’s for another post on another day.

I think I need to do a deep deep DEEP dive into Zillow’s numbers. That’s going to take some time. Look for future posts on this, but for now, let’s move on. I’ll merely observe that I’m certain that the finance people over at Zillow are looking at the whole cost of capital thing very, very closely.

Zillow Homes vs. Redfin Now

As you know, I’ve been saying for a while that Redfin has to beat Zillow at the iBuying game. It can lose just about everywhere else, but if Redfin is better than anybody else at buying and selling homes, and Redfin has ten-plus years of experience as a real estate broker, then it cannot lose to Zillow, a portal until about a year ago. I held off final judgement on Redfin’s Q2 results until I got to see Zillow’s for this reason.

Now, using just the plain numbers provided by both companies, and looking at just the segment information in the charts above, Zillow Homes had gross margins of 3.3% while Redfin Properties had gross margins of negative 2.5%. That’s… a solid buttkicking involving Zillow’s foot and Redfin’s booty.

However, in the Redfin Q2 call, Glenn Kelman expressed some frustration that other iBuyers were not using GAAP (Generally Accepted Accounting Principles) metrics:

And what drives me crazy about this space is that almost everybody in the space accounts for their margins differently, which makes it hard for you to give an apples-to-apples comparison of who’s really making money and who’s losing money and how much money they’re losing. That’s the reason we invented accounting principles. I wish we would use them more consistently.

Since the only other iBuyer who reports any numbers other than Redfin is Zillow, we know who Glenn is talking about. But as above, we can simply take the Homes segment revenue, subtract cost of revenue, and get to gross profit of $8.2 million for Q2. Divide that by the 786 homes sold, and we get a per home gross profit of $10,422. That can’t be helpful to Redfin’s cause, can it?

So I reached out to Redfin and spoke with Chris Nielsen, Redfin’s CFO, to get some color on why such a gap and he pointed out something important and interesting. The two companies use different definitions of “Cost of Revenue” and “Sales and Marketing.”

Here are Zillow’s definitions from the 10-Q, relevant to Homes segment (p. 30):

Cost of Revenue. For our Homes segment, our cost of revenue also consists of the consideration paid to acquire, make certain repairs and updates to, and sell each home, including associated overhead costs, as well as inventory valuation adjustments.

Sales and Marketing. For our Homes segment, sales and marketing expenses also consist of selling costs, such as real estate agent commissions, escrow and title fees, and staging costs, as well as holding costs, including utilities, taxes and maintenance.

Here are Redfin’s definitions from its 10-Q, relevant to Properties segment (p. 24):

Cost of Revenue and Gross Margin

Cost of revenue consists primarily of personnel costs (including base pay, benefits, and stock-based compensation), transaction bonuses, home-touring and field expenses, listing expenses, property costs related to our properties segment, office and occupancy expenses, and depreciation and amortization related to fixed assets and acquired intangible assets. Property costs related to our properties segment include the property purchase price, capitalized improvements, selling expenses directly attributable to the transaction, and property maintenance expenses.

What this means is that at least two lines from Zillow’s Homes Non-GAAP Measure, Holding costs and Selling costs, are not included in the cost of revenue while those would be included in Redfin’s cost of revenue. Well, so what if we moved those two lines into the Cost of revenues for Zillow’s Homes segment and compared it on a gross profit and gross margin basis with Redfin?

As you can see, Zillow still beats Redfin at the iBuying game. It’s not a buttkicking, but neither is it Zillow getting its butt kicked by Redfin. It’s 50 bps better on this rough basis, and perhaps if someone had access to all of the financials, he or she could really make sure. The best you can say, if you’re Redfin, is that your gross margins are about the same as Zillow’s gross margins.

In the meantime, I’m good with accepting Nielsen’s explanation as to the huge gap between Zillow and Redfin. I’m also good with sticking with my concern for and criticism of Redfin: you cannot lose to Zillow in the buying and selling homes game. You just can’t, but you did. At best, you tied.

By the way, Glenn Kelman was likely a tiny bit too critical of Zillow using its non-GAAP measure as it reports in the supplemental financials. Because Nielsen told me that GAAP allows discretion as to what should and should not be included in “cost of revenues.” What Zillow did is perfectly acceptable accounting practice, as is what Redfin did: it’s a matter of judgment as to whether an expense ought to be counted as cost of revenues or overhead. Now, could I request that Redfin do a Supplemental Financials release and tell us what their unit economics look like so we can compare apples to apples? Use whatever non-GAAP measures you’d like, as long as you tell us something.

I realize that to most people, this whole GAAP vs non-GAAP really doesn’t make a difference; it’s a six of one or half dozen of the other. But we focus on it because I think it is important for Redfin to beat Zillow at least on a gross margin basis on iBuyer.

Let’s move on.

The Grand Ambition Becomes Plain

In case anybody was not taking all of the pronouncements out of New Zillow seriously, we have yet another indication that these boys ain’t playin’. Zillow is no longer a media company dabbling in related fields; it’s a market maker that happens to run the largest portal in the real estate vertical.

Read/listen to Jeremy Wacksman on the call:

This is Jeremy, I’ll take that one. I mean long term at scale, we think this is a really, really big market and that’s why we’re investing so aggressively. That’s why we’re accelerating our market rollouts we’ve announced new markets. I think our buy box as we talked about today would cover half the homes in the country around, if we were available everywhere. And we seek to reach and expand the types of homes we buy over time. And ultimately at scale, when you’re offering something like Zillow Offers, this really should be the way every homeowner start to think about selling, not just requesting an offer from us but eventually looking at a standing offer we can make to them as a way to think about their selling options, whether with us or not.

So we’ve given a three to five year target, that’s around 60,000 transactions run rate, that’s a $20 billion business. That’s just 1% of the market of transactions today. We clearly see the opportunity is far, far bigger than that, that’s a step along the way. And when we’re able to deliver a service like this to those consumers, that opens up on top of the Zillow offers business all these adjacent opportunities, so mortgage, and title, and escrow and private transaction itself, as well as the knock on services that you might get around the transaction. [Emphasis added]

For all intents and purposes, this means that Zillow will be the residential real estate industry. This is the Iron Throne, the Platform for Real Estate, that I’ve been writing about for a while now, including in the September Red Dot: The Game of Platforms.

The massive investments into Mortgage have to be understood in this context: it is both a necessary component of a better consumer experience (which makes Zillow into the Platform) and a critical future profit center as Zillow takes the Iron Throne. It’s not quite there yet, as per the call, but Zillow will keep investing in it because it is a strategic asset.

A Quick Note on Zillow Homes and Market Conditions

So many skeptics love to predict that once the market turns, Zillow Homes will be a disaster and everyone at Zillow will join the gigantic homeless army that is camping out in Seattle. Some of those skeptics are really well-respected investors and analysts, such as Steve Eisman at Neuberger Berman as discussed above.

One of the things Eisman says is: “I’m sure there will be write downs and impairments.”

Well, here’s Allen Parker from the call:

Now, I would like to discuss an item that impacted the Homes segment cost of revenue included in our Q2 results. We recorded an inventory valuation adjustment for an immaterial amount during the quarter. This adjustment represented less than 1% of our inventory balance at period end, and was the primary driver of the increase in our Homes segment cost of revenue as a percentage of revenue in Q2 compared to Q1. Like any company that maintains physical inventory, we expect to incur these adjustments going forward as a regular course of business. This is anticipated as part of managing our portfolio of Homes, and the adjustment is well within our expectations.

Hey look! Write downs and impairments! He did not sound worried or concerned. This is perfect normal, and if the market turns, then Zillow will write down more.

Many other New Zillow bears think that once the market turns, Zillow will be going out of business the way so many investors and home flippers back in the Bubble Years went belly-up.

And since Zillow has about $550 million in Inventory as of June, 2019… let’s say they’re forced to write down 10%. I think if home prices plummeted by 10%, we’d all say the market has shifted, right? That’s $55 million in additional losses. Seeing as how Zillow has $767 million or so in cash, I think they’re going to be okay with a mere $712 million in cash. What do you think? If the housing market craters and we see 20% declines, triggering panic in the streets, emergency meetings of the Fed, and so on… then Zillow would have to write down $110 million and somehow make ends meet with only $657 million in cash.

But in turn, Zillow will pay less for the houses it purchases, since the market will affect everybody. And sellers will suddenly find Zillow’s “lowball” offer far more preferable to spending seven months waiting for someone, anyone, to please come look at my house, while the value of the house drops by 1% every month. And buyers will find the idea of touring homes using an app, no appointment necessary, and the home being renovated and refurbished, and negotiating against a seller who has zero emotional ties to the property interesting at the very least.

Those of us who lived through the 2008-2013 timeframe remember what that was like. I see no reason to think the next downturn (hopefully a mild, slow, soft landing) will be much different.

Rich Barton, the Gambler

This has already gotten super long. I’m fairly certain that we’ll be talking about Zillow and insights from this quarterly results going forward, so let me try to wrap things up.

One of the impressions I got from the earnings call and the Q2 results is that IMT has no growth, and Rich Barton doesn’t care. Alan Parker, the CFO, talked about how the implementation of Flex — an unproven product — will lower revenues and delay revenues into the future. And nobody on the call sounded even remotely worried about it.

And nobody from Zillow on the call sounded even remotely concerned that they lost $71.9 million in three months, mostly due to losing $65 million on Homes. They’re not worried about market conditions, because portfolio management is a key skill of any company trying to be a market maker. You win on some trades, you lose on some trades, and as long as your wins > your losses, you’re fine.

Still, IMT is flat… and Zillow is taking even more gambles with IMT by rolling out Flex to more markets and outlining a vision of Flex in which Zillow moves to a transaction model and gets to select agents to work with, instead of the agents choosing to advertise on Zillow. That’s a gamble.

Investing in the Mortgage segment, to the tune of $32.8 million in sales and marketing, technology and G&A is a gamble. That segment lost $10.4 million in Q2. And nobody even flinched. This is a strategic asset, that fits in with Homes and with the new Flex-based vision of IMT. Barton isn’t even close to worried about losing money on Mortgages, as long as it gets to where it needs to be to help Zillow win the Iron Throne.

Especially compared to the commentary, as well as the actions from Redfin, the other public technology company in real estate, the entire thing reminds me of a high stakes poker table. Barton is sounding and acting like the big stack at the table, bullying others out of pots by betting big, expanding the range, and keeping up the pressure. Kelman is being smart, being cautious, and literally telling people that anyone in the iBuying business should be scared and if they’re not scared, then investors need to be scared because of the significant risks involved.

It’s as if Rich Barton heard that, and said, “Hold my beer.” That man don’t sound scared in the least bit. And he’s challenging investors who are scared that he’s not scared, and he’s pushing Redfin and Opendoor and all the others to think twice about entering the pot against Zillow.

At the end of the day, Eisman and other skeptics like him may very well be correct, and Zillow might lose a lot of money, and many of its employees may be out on the streets. On the other hand, if the reward is control of the real estate industry in the United States, and permanently changing the way we buy and sell homes in much the same way that Amazon changed the way we buy and sell products… and you’re the big stack at the table… maybe the right play is to push all-in and dare others to bet their companies too.

As the noted financial analyst Young Jeezy once said, “Scared money don’t make no money.” I think you can call Rich Barton a lot of things, but scared money isn’t one of them.


(Video NSFW)

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Rob Hahn

Rob Hahn

Managing Partner of 7DS Associates, and the grand poobah of this here blog. Once called "a revolutionary in a really nice suit", people often wonder what I do for a living because I have the temerity to not talk about my clients and my work for clients. Suffice to say that I do strategy work for some of the largest organizations and companies in real estate, as well as some of the smallest startups and agent teams, but usually only on projects that interest me with big implications for reforming this wonderful, crazy, lovable yet frustrating real estate industry of ours.

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11 thoughts on “[VIP] Zillow Q2/2019 Earnings: Going All In”

  1. Rob,

    Fantastic breakdown! Really, really well done. The insight from Chris Neilson was very helpful and enlightening.

    If I may make a comment. Wall Street viewing Zillow as a technology company is a MUST for their I-buying business to succeed. Yes, they have enough cash to lose $72 million a quarter or $800K per day as long as they can continue to dilute their shares and raise gobs of money at technology valuations and at the expense of shareholders. If Wall Street turns on Zillow (as I believe they will) or even Sony their largest investor Caledonia, the entire Zillow I-buying business is destroyed in less than 2 years. As you would say, it becomes worth Zip. Zero. zilch. Nada!

    It’d be gone and Zillow will end up with a mess of a company. A diluted share price with a declining flex/PA model and a mortgage company. Barton will leave & the whole thing will end in a delayed blast fireball financial collapse.

    I listened to Q2 earnings call too. Several times both audio and I reread the script. I heard a change in the tones of voices during the call as the stock price continued to spiral down 20% during the call in AH market. Those voices sounded very concerned to me. I heard an uh oh in the background, I believe in reference to their business losing 1 Billion in market cap in less than 30 minutes. A loss that acceleratated the following day.

    Redfin doesn’t need to raise money any time soon, although they have less in the bank than Zillow. A slow steady approach to I-buying and de-risking by partnering with Opendoor is the right long term play. It’s smart strategic business. Redfin will win this game. Consumers will benefit.

    Zillow is pushing the cards to the middle now, but they are doing it with a 10,7 off suit. Kelman has a much better hand. He’ll play it when the times right.

    Very long Redfin. Long Glenn Kelman in perpetuity.

    Dr BPT

    • This is a fantastic comment, Ben. Thank you.

      I guess I need to study this a bit more, but… there are numerous scenarios where investors turn on Zillow (the way they turned on Realogy) and things go south in a hurry. I just don’t really see it.

      I mean, if previous Zillow investors just want to ignore that IMT Segment, which is pretty much Zillow 1.0 before the Return of the King, made pretax income of $13.2 million, or 4.1%, with gross margins of 91.9%, then who am I to stop them? I guess if push came to shove, IMT can be spun off into its own company. Then Greg Schwartz can implement Flex, expand internationally, do all kinds of stuff without the Offers business and enter into an Opendoor-Redfin type of a deal with the new Zillow Offers company or something.

      I also agree that if investors stop treating Zillow like a tech company, it might be tough going. Maybe. But the same can be said for Redfin. If investors started treating Redfin like a real estate brokerage… like say Realogy, what then? So I don’t pretend to know what investors will or won’t do.

      What I *do* find super interesting is the idea that Zillow needs tech company valuations. Do they really? There are public companies who have huge market making businesses, like Virtus and Glencore. They seem to be doing just fine.

      Plus, 194 million monthly uniques + profitable IMT segment… that’s not a 10-7 offsuit. At the worst, that has to be like a A-10 suited. 🙂

      Having said that, look, I’m a big fan of Redfin and of Glenn Kelman both. If I could invest in any of these companies without completely losing my credibility and raising all kinds of conflict issues in my day job, I’d be long Zillow, long Redfin.

      Good comments and thoughts. Thanks again.

      • I can defend my large positon in Redfin with a single word… Flywheel. It’s the most important word in the english language. It should be taught with the same importance as reading, writing and arithmetic.

        Redfin wins because it has demonstrated the ability to create a powerful flywheel in its 1st Cohort – particulary Seattle, Virginia & So Cal. It is in the early stages in Cohort 2 and Cohort 3, but it’s only a matter of time. Once Redfin establishes a new market the flywheel begins to spin. Each consumers improves the experience of the next consumer and enhances the brand. Yard signs and paid advertising spin the wheel. Increased agent efficiency and deeper local knowledge spins the wheel. Increased listings allow for better consumer experiences including on demand tours and direct access. Lower prices improves the customer experience. Add in digital closing, Concierge, Mortgage, Now & Direct. Vroom, Vroom!

        The whole system starts with the website and is driven by data. Kelman will keep innovating like a mad scientist. Spinning his flywheel!

        Watch this twenty eight minute and thirty two second video very closely. Watch it twice. Then go read Redfin & Zillows earnings calls again… Kelman is laying down a Royal Flush!


        @Dr BPT

      • You don’t need to defend your position in Redfin. I’m a big Redfin fan. 🙂

        But “Flywheel” isn’t what makes Redfin so attractive, to me. It’s the 31 transactions per average Redfin agent and 30+% gross margins in brokerage, double that of traditional and low-cost models. Layer Direct, Redfin Now, Concierge, mortgage, title, escrow and other stuff on top of that and it gets interesting.

        Still… scared money don’t make no money… so hard to discern between fear and wisdom sometimes.

  2. “maybe the right play is to push all-in and dare others to bet their companies too”

    I like this frame of thinking. Who else will bet the farm? I suspect, not many.

  3. Great assessment Rob. Maybe I missed this, but it seems like the investor community does not understand that Zillow’s true goal is not to flip homes – its to flush out potential sellers and connect them to agents who will sell the home traditionally. I’m not sure how it gets lost in the mix, but 68,000+ home seller leads in Q2 did not take Zillow up on the offer…..so thats listing pipeline for the flex program participants. The margins of buying/selling homes is not that interesting….but the margin on referral fees on 68k seller leads is very interesting.

    This iBuyer thing is simply misunderstood by wall street today. It’d be easier for wall street to understand if Zillow simply acknowledged that their goal is sell-side lead gen…and in order to achieve that they’ll have to buy a small fraction of homes.

    • One thing I am unsure of longterm is how an offering with a 99% (or somewhere around there) rejection/failure rate will stand the test of time with consumers? They will eventually determine that it’s a waste of time for them to engage, no?

      • Good question. Today, its a data point that doesn’t hurt to know – even if very few people proceed with the offer. Over time, if it feels like a mousetrap to become a lead for an agent, I’m certain consumers will clue into it quickly.

        Here’s a tricky thing Zillow will have to navigate with investors: If they start to generate significant referral income from seller leads (handed over to flex agents) it will be reported in the IMT segment…not the homes segment. That may get a positive response from investors….but ultimately the program will be outed as a lead gen initiative – not a home buying initiative. And that will filter down to the consumer.

        Interesting times…..

      • Judging by Rich Barton’s own words, about how he wants every Zestimate to be a bid price on a home, I don’t think Zillow’s goal longterm is to use Offers as a “bait and switch” for seller lead generation. I think they genuinely want to buy every home in the U.S. if they could make a market in it.

        I’ll need to do some more analysis and write something up on what I think Zillow is really up to.

  4. ROB,

    Lots of great stuff!

    That’s a really big “if”. I’ll bet most of your working agent readers, including me, have trouble with the offer side (list price) much less the bid side. Most housing above $500,000 is unique and requires a completely different evaluation process (if profits are important). Making a two sided market outside of the iBuyers current price points is….let’s just difficult. Clearly, it could be done, but it may take the Fed to bail out losses. Great goal………but realistic?

    IMHO, at the end of the end of the day (after iBuying and the rest), the big players ultimate goal is to be able to operate fully with or without the MLS. If control and power are tops, then the winner needs to be able to survive on their own…..


    We’ll see 🙂


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