Please forgive the promotional sales pitch, but frankly, I’ve spent the last six months of my life setting things up to publish this… so I can’t quite contain my excitement.
The short to-the-point story (very un-Notorious):
The 7DS Capital Q2/2020 Residential Real Estate Report is finished and available.
It is, if I do say so myself, the absolute best publication on the state of the industry, key trends affecting it, and where the five public companies (Zillow, Redfin, Realogy, RE/MAX and EXPI) stand. With actual market data, proprietary data, charts and graphs, in-depth interviews and research with some of the best agent team leaders and broker-owners in the business, and of course, actual no spin, no holds barred analysis… I do think this is the publication if you want to know where residential real estate is headed.
If you are a member of the 7DS Investor Network, you should have already received your copy vial email. If you are not a member, well, contact me to become one. I am not actually accepting everyone into the Network, as it is intended for a fairly specific group of companies and individuals.
While the report is intended for the institutional investor, there are a limited number of spots for companies within the industry, especially if you are one of the five public companies, or are thinking about tapping the capital markets at some point. Again, contact me if you’re interested, as I’m fairly sure the Network is relevant just to a select few.
The Longer Version + Bonus: Excerpt from the Report
The longer version is that I’ve been working on this project for six months, because I felt that there was no real publication using actual data and research from across the industry to figure out where things had been, where things are today, and most importantly, where things are headed.
It took quite some doing to get the data necessary to understand what’s going on. Acquiring, normalizing, then analyzing data from 50 plus markets across the United States has not been easy. And it took enormous amounts of time and effort. This capability is something I am improving as we go, but the result is that I now have some real numbers to analyze.
The in-depth interviews also take enormous time and energy. From the start, I decided that the people who really know what’s happening on the ground are the top agent team leaders and local broker-owners who are operators. I didn’t see the point of doing a survey of agents who are doing a few transactions a year. We might start doing such surveys to supplement our understanding going forward, but we thought those men and women who are operating teams and brokerages steadily growing and capturing market share were the ones who really understood the dynamics on the ground. I think we’re right with that one.
Of course, as all of you VIP readers know, I’ve been paying attention to and thinking about the public companies because they have to report publicly, disclose their numbers, and discuss strategies. But this report goes further in depth.
I thought an excerpt would be warranted for you, my VIP audience, since y’all are the ones who actually give a damn about the industry and about my work.
The Excerpt: eXp Realty (EXPI)
eXp Realty is an interesting story. It is still very much a startup in so many ways that managed to “go public” by way of a reverse merger, with no real technology to speak of (because Virbela isn’t one, honestly). But eXp built out a recruiting engine and a business model that isn’t really about profitability, but about cash flow (using its stock to pay for part of the agent’s commission). The overall business model doesn’t really make a whole lot of sense. But….
You can’t argue with success. And eXp’s growth has been nothing short of spectacular.
Its Q2 earnings release was nothing short of fantastic. As I wrote in the Q2/2020 analysis of eXp’s earnings:
The topline results are astounding. From the press release:
- Revenue increased 33% in the second quarter of 2020 to $354 million, compared to $267 million in the second quarter of 2019.
Gross profit grew 55% to $34.4 million in the second quarter of 2020, compared to $22.1 million in the second quarter of 2019. Gross profit is calculated as revenues less commission and other agent-related costs.
- Net income was $8.3 million, or $0.11 per diluted share in the second quarter of 2020, compared to a net loss of $2.2 million, or $(0.04) per diluted share, in the second quarter of 2019.
- Adjusted EBITDA (a non-GAAP financial measure) was $13.6 million in the second quarter of 2020, compared to $3.8 million in the second quarter of 2019.
- Cash flow from operations increased 57% to $28.5 million in the second quarter of 2020, compared to $18.1 million in the second quarter of 2019.
The biggest eye-opener was, without a doubt, EXPI’s profitability numbers. Going from an operating loss of $2.2 million to an operating profit of $8.3 million is, well, let’s say “unexpected.” But what a result!
We expected a good Q2, because our data was showing that despite getting hammered by COVID like everybody else, eXp was actually doing quite well, comparatively speaking.
eXp’s closed units took a hit, but not as much as other major brands:
April and May transaction sides were down 12% and 25% YOY respectively. That’s not great, but compared to its competitors, eXp came out fine; in fact, it won the quarter in terms of actual closed transactions.
Sales Volume was similar: down 11% and 24% in April and May, but bouncing back strong in June with a 14% gain YOY. That means eXp won June, which is surprising since eXp tends to have greater presence in lower-priced markets than do Redfin, Realogy and BHHS. And eXp came in second only to Redfin for the whole quarter.
The one place for concern is in new listings performance, and it’s a very slight concern at that:
For the first five months of 2020, eXp outperformed everybody else in terms of taking new listings. Even the decline of 27% in April and 10% in May was the best out of the six brands. As we discussed above, despite Redfin’s boasting about how its technology platform gives it a major competitive advantage during COVID times, eXp handily beat Redfin and everybody else in terms of percentage gains.
So it’s only June where we have some small reason for concern: up 20% is fantastic, but it’s not as fantastic as the 38% YOY gain posted by BHHS, 28% by KW, and 25% by RE/MAX.
We think the reason eXp might have taken a step back on new listings in June is the inverse of the reason why RE/MAX had such a good June. If RE/MAX boasts some of the top producing agents, eXp tends to be filled with more marginal agents.
eXp’s per-agent productivity numbers have never been over 2.0 per quarter, and is usually below 1.5 per quarter. Even in Q2, with its record-setting quarter, the per-agent productivity number for eXp was 1.4 closed sides per agent. That is down 21% vs. Q2 of 2019, when eXp posted 1.8 closed sides per agent.
The implication is that most of the new agents recruited (some 11,000 from Q2 of 2019 to Q2 of 2020) were not particularly productive. Using eXp’s own reported numbers (since we only cover 50 markets), eXp increased agent count by 54% but increased closed transactions only by 22%, and the per-agent productivity went down.
The biggest difference between top agents and margin agents might be their ability to get more listings, to get more sellers to trust them, especially in a time of uncertainty like today.
This is not to suggest that eXp doesn’t have top producing agents — a few of the agent team leaders we interviewed are with eXp. We also believe that eXp will be enormously successful in recruiting top producers. But the numbers may be the result of the fact that eXp has not yet recruited many of them.
However, that disadvantage is fading and fading fast. eXp has been a monster of recruiting, with its unique model that the founder Glenn Sanford essentially borrowed from Keller Williams. Without getting into the nitty gritty details, suffice to say that each eXp agent is incentivized to recruit other agents.
So if this is a reason for concern, we think it’s a fairly small one. And the performance of eXp’s agents in April and May suggest that perhaps they already have a core nucleus of top agents and top teams who will be just fine as the V-shaped recovery really takes off in Q3.
Bullish Case for eXp
It is relatively easy to make the bull case for eXp: growth, growth, and more growth. Add on some ancillary revenues from Virbela, from title, escrow, mortgage and insurance and we could see revenue and cash flow growth that outperforms the rest of the industry.
Its low-overhead model will help drive profitability as well, especially as eXp starts to ramp up all of the ancillary services like title, escrow, mortgage and insurance.
That eXp’s virtual world benefited disproportionately from COVID is obvious, and the testimonials from top agents and teams about how they didn’t miss a beat when all work went virtual will help with recruiting going forward.
So as long as eXp can keep recruiting, it should continue to grow across the board. If eXp can start recruiting better agents and better teams, that will help even more.
Sprinkle on some judicious and opportunistic acquisitions, and it is entirely feasible to think eXp will emerge as the next major brand in real estate to join the ranks of Realogy, RE/MAX, Keller Williams, and BHHS.
Bearish Case against eXp
The bear case against eXp is harder to make but it can be made.
First, eXp might be recruiting thousands of agents, but it is not clear what the quality of those agents actually are.
Second, eXp might have greater exposure to legal liability than traditional brokerages because of its particular low-cost virtual model: broker oversight.
Third, its competitive advantage in infrastructure expenses might be eroded because of COVID. There is nothing special or unique about Virbela from a work perspective. Zoom, Slack, email, texting, Dropbox, and other existing business productivity tools that enable virtualization of the workforce help other traditional players close the gap with eXp.
Fourth, eXp doesn’t really have a defensible moat. Other companies can and will (and already are) implementing business practices and features that eXp boasts. eXp’s impressive growth can not but stall once real competitors start to implement all of the things that eXp has done.
Fifth, under eXp’s model, profitability can only worsen as better agents do more business. With a cap on commissions, as agent teams continue to dominate market share more and more, eXp should see very significant commission compression.
Overall, the bearish case against eXp is that it is somewhat like a shark: if it stops moving, it dies. As long as eXp can keep up the agent count growth, it should have time to transition its profit centers to ancillary services. If that growth falters — and the growing adoption of virtualization across the industry is the biggest reason for the growth to falter — then eXp has some real problems.
I hope you enjoyed that bonus content, and that some of you who haven’t yet joined the Investor Network would consider it.
Time to get back to work; the July Update needs to be done after all. 🙂