CAC-attack: The Cost of iBuyer Customer Acquisition

Over the past three years, the largest iBuyers -- Opendoor, Zillow, and Offerpad -- have spent over $200 million advertising directly to consumers. That spend peaked in 2019 before slowing during the pandemic. Historically and today, Opendoor appears to be vastly outspending its competition -- a reflection of its size, scale, and ambition.

Historically, Opendoor has bought and sold more houses than its iBuyer peers, so it's important to consider the advertising expense per customer, or customer acquisition cost (CAC). Last year appears to be an expensive outlier for Opendoor.

Generally, it's what you would expect: between $3k–$4k in a normal year. Given that each iBuyer pays a 1 percent referral fee to agents for a closed lead (or $2,500 on a $250k home), the numbers make sense. It's also a blended average, so mature markets are likely less expensive while new markets are more expensive.

A broad comparison, which includes newly-released data from Offerpad (with a CAC of about $3k), and advertising expenses from Redfin's brokerage business, provides further context around the iBuyer spend.

Some interesting observations:

• Customer acquisition costs for the majors iBuyers is all roughly the same: between $3k–$4k (if we consider 2020 an outlier for Opendoor).

• Zillow, with its massive audience advantage, has to spend much less on advertising, and has a meaningful CAC advantage.

• Compared to Redfin's brokerage service (which also has the advantage of an existing portal with millions of visitors), the iBuyers are spending 2x–4x more to acquire each customer. This is not an exact corollary, but is reflective of how difficult it is to convince consumers to try something new.

Shifting Headcount

The Sales & Marketing line for each iBuyer includes headcount expenses for employees involved in the sale of homes, a fairly broad definition. And there was a noteworthy shift in headcount during 2020.

Opendoor laid off staff and saw a "decrease of $26.7 million due to headcount reductions," while Zillow saw an "increase of $21.8 million in headcount-related expenses." Opendoor was trimming its sails while Zillow continued to invest for a future recovery; the advantage of being well-capitalized during 2020.

A Note on Methodology

Customer acquisition cost is calculated based on the total advertising spend divided by the number of homes purchased in a period of time. Direct advertising and headcount expenses are taken from each company's public filings, which is straightforward if you know where to look and are willing to do a lot of math.

The Economics of iBuying, 2020 Edition

With 2020 firmly behind us, the world's two largest iBuyers have released their full financial results for the year. Last week, we looked at their total financial losses. And today: A direct financial comparison of Zillow vs. Opendoor, and an individual look at the key points of difference from 2019.

An Overall Financial Picture

A comparison between Zillow and Opendoor highlights the tightening race between the two billion-dollar behemoths. In terms of revenue (which includes the full value of a home), Opendoor has managed to maintain a 50 percent lead over Zillow. But that lead is down from a whopping 250 percent in 2019.

Opendoor's 2020 experience was fluid. It managed to improve the efficiency of its business model, as measured by gross margin (driven by home appreciation and ancillary services), while reducing operational costs. This improved its contribution margin, but with robust overhead expenses, its net margin further deteriorated.

Zillow continued to grow its iBuyer business in 2020. It saw an increase in revenue and improved gross margins, with relatively static operational costs. It managed to reduce its overall net loss compared to last year.

The differences between Opendoor and Zillow, from a financial and unit economics perspective, are evident in the numbers:

• Opendoor is better able to monetize the transaction (higher gross margins).

• Zillow's Selling Costs are higher (due to the use of partner agents, an activity being phased out in 2021).

• Opendoor is eking out small efficiency gains in Holding Costs and Interest Expense, an advantage that accumulates at scale.

Or, in other words: Opendoor is more operationally efficient, Zillow is catching up, and both companies remain unprofitable.

Unit Economics

The following charts, which are to the same scale, illustrate the economics above in a more attractive visual fashion. Amongst other things, they highlight how large indirect expenses are in both businesses.

While not necessarily hidden, neither company is guilty of highlighting its overall net losses nor the unprofitable nature of the business (a topic I discussed in iBuyers Turning Obfuscation of Profit into an Art Form). There are various forms of financial misdirection at play that highlight unit economics, Adjusted EBITDA, or other metrics that don't convey a complete picture of the business.

The point is not that these business are unprofitable and therefore must be bad. Spending (and losing) money to gain market share is a well-worn path. The point is that these companies are actively doing it, and if you're in the real estate industry, concerning yourself with disruptors willing to lose billions is a good use of time.

Massive iBuyer Financial Losses Continue

The “Reinvention of Real Estate” comes with a staggering price tag. In 2020, the two largest iBuyers, Opendoor and Zillow, lost a total of $607 million buying and selling houses. That’s a loss of about $40,000 on each home bought and resold, about $1.6 million every single day, or about $1,100 per minute in 2020.

And that $607 million is on top of the $650 million lost in 2019 — well over $1.2 billion in the past two years.

Opendoor's Challenging 2020

Opendoor accumulated losses at a quickening pace during a challenging 2020. Like Zillow, it stopped buying houses earlier in the year, and its recovery since has been slow. This has corresponded to a striking decline in the number of homes sold throughout the year, especially compared to last year.

As expected, Opendoor’s decision to pause listing new homes for sale in late 2020 led to a dramatic drop in home sales in Q4 2020. Without a corresponding drop in corporate overhead expenses, Opendoor’s financial metrics reached a new milestone: a net loss of over $100k per home.

But it's almost certainly a temporary setback. On the plus side for Opendoor, and as a result of building up inventory in late 2020, it's going to have a blowout Q1 2021.

A Revealing Fourth Quarter

The key financial drivers for each iBuyer were quite different in the last quarter of 2020. Opendoor managed to blow Zillow away with a gross margin of 15.4 percent — which is a combination of service fees, price appreciation, renovation expenses, and ancillary revenue streams. Opendoor was better able to monetize the transaction.

The subsequent cost drivers show an equally revealing story. Especially Opendoor’s record-low selling costs of 2.1 percent. The bulk of this fee is brokerage commissions. The drop from 3 percent earlier in the year is notable, and is likely the result of Opendoor continuing to push down the buyer agent commissions offered on its houses.

Holding costs and interest expense are also lower — by about half — from earlier in the year, and both iBuyers appear evenly matched (aside from a slight interest expense advantage to Opendoor).

Good for Consumers

Despite their staggering financial losses, the evidence suggests that Zillow and Opendoor remain staunchly pro-consumer. Both businesses are determined to pass a financial benefit on to consumers alongside a streamlined experience:

• Opendoor lowering its service fee for homeowners, now down to 5 percent.

• Zillow Rewards offers savings when consumers bundle its services together.

• Opendoor offering savings when using its in-house services.

• Both iBuyers paying very close to fair market value.

Contrast this with another real estate tech disruptor, Compass, which is self-admittedly obsessed with agents (and not consumers). The difference shows. Compass’ strategy of gaining market share and promoting exclusive listings available only on its platform is good for business, but not for consumers.

Beginning to Unpack the Compass IPO in Four Charts

At long last, Compass' IPO filings have revealed the financials and other key metrics of the business. This Friday I'll be hosting a paid webinar to fully unpack the filing, along with examining key strategic questions and implications for the business. To start, here's a few key takeaways presented around four charts.

Financials

Compass is unprofitable -- a net loss of $270 million in 2020 -- a result of its operating expenses exceeding its gross profit (revenue after paying out agent commissions). Losses were growing into 2019, and contracted in 2020.

Historically there's been a wide gap between these figures, resulting in massive unprofitability. Last year was an outlier due to Covid-19; Compass saw a surge in revenue during Q3 and Q4, while its expense growth dropped significantly (partially driven by a reduction of headcount, operations & support, and sales & marketing).

Annual Growth and Efficiency

Between 2019 and 2020, Compass did 66 percent more transactions with 48 percent more agents (note: I'm using a midpoint total agent calculation, instead of the smaller Principal Agent figure provided by Compass). The result is an improvement in efficiency: on average, each agent did 12 percent more transactions.

Context: the market was crazy hot in 2020; many agents were doing more transactions. The market as a whole was up 5.6 percent for the year, and December alone was up 22 percent compared to last year. At the end of the day, 12 percent is an incremental improvement, and much of it could be driven by the hot market.

The real key is that the number of Compass employees was only up 29 percent. In other words, Compass was able to support 48 percent more agents and 66 percent more transactions with only 29 percent more employees. That's a promising sign of improving operational efficiency.

Improving Operational Efficiency

Another sign of improving operational efficiency is Compass' total Operations and Support expense ($225 million in 2020) relative to the number of agents and transactions the business supports. Over the past three years, it's gone down, a sign of improving efficiency.

Gross Margins

When all is said and done, the Compass financials are bleak if you care about profitability. One of the biggest challenges is Compass' gross margins -- which are total revenues minus agent commissions and other transaction-related expenses. It's the "net revenue" a business makes before all of its indirect expenses are taken into consideration.

Compass' gross margins are low (and have been dropping over the past few years). Its gross margin is on-par with traditional brokerage peers in the industry -- and, interestingly, are the same as aircraft manufacturer Boeing. These are not the 70%+ gross margins of a technology company.

Compass is losing less money per transaction as it scales, but it's still losing a lot of money. The path to profitability, which I'll cover in my webinar, is uncertain. The fundamentals of the Compass business model, anchored by its low, brokerage-style gross margins, coupled with sky-high expenses, paint a particularly interesting challenge for the business -- and the industry -- going forward.

Strategic Analysis: The Top Threat to Real Estate Portals

Real estate portals occupy a dominant position across the industry. Jealous of that power, potential competitors have long tried to challenge the status quo, with limited effect. But now a new threat emerges that, while still a long shot, possesses the greatest potential to disrupt the dominant position of the portals.

The Competitive Strength of Portals

Real estate portals benefit tremendously from network effects, which is the key factor that gives them unprecedented market power and an impregnable moat to repel competition.

Network effects is the phenomenon whereby a service becomes more valuable when more people use it. Online marketplaces and social networks such as Facebook, eBay, and Craigslist are classic examples of businesses with network effects.

Businesses that have the benefit of network effects are incredibly difficult to displace. Even if a new entrant’s product is objectively better, a smaller audience of potential buyers and sellers results in an inferior consumer proposition. Sellers want to advertise to the biggest audience possible, and buyers want the largest selection possible.

Real estate portals like REA Group in Australia and Zillow in the U.S. have a dominant competitive position because they have millions more buyers than any other platform. This key attribute, enabled by network effects, results in leading portals easily maintaining their leadership position against well-funded competition.

The Rise of Exclusive Content

In the past, various competitors have tried a variety of strategies to displace the dominant portals: product differentiation, massive media spend, brokerage alliances, and more. But time and again these strategies have failed.

There is one significant risk -- an achilles heel -- to portals: they don’t control their inventory. Disintermediating the flow of listings to the big portals, through exclusive content, is their greatest threat.

To illustrate this concept, look no further than video streaming services. Netflix, Disney+, Amazon, and AppleTV are investing billions into creating exclusive content. And this content -- available on only one streaming platform -- is the key differentiator that draws consumers to the service.

When it comes to browsing for real estate, consumers want access to all of the available inventory. If a certain portion of listings are held off-market, available exclusively on another platform, consumer eyeballs will naturally follow.

More than any other strategy, exclusive content has the potential to draw consumer eyeballs away from the dominant portals. But ultimately, while the move is pro-disruptor and anti-portal, it is also potentially anti-consumer, putting the benefits of a company ahead of consumers.

Industry Fragmentation and Consumers

For consumers, exclusive content creates a fragmentation of the search and discovery process. It forces buyers to visit more than one site, with no direct benefits. For sellers, it fragments and artificially reduces the number of possible buyers.

The only beneficiary is the portal disruptor -- the organization creating and promoting the exclusive content. By bringing more consumers directly to their web site, it creates a realignment of power from the portals to the disruptor.

What real estate portals brought to the market was transparency: easy access to all available listings. In the U.S., they democratized the search process by eliminating the information asymmetry between consumers and real estate agents. Fragmenting inventory across multiple platforms is a step backwards into the dark ages of real estate, where consumers no longer have easy access to all available listings.

Case Studies

The following case studies illustrate examples of exclusive content being leveraged to break the monopoly powers of portals. And some portals are fighting back, directly and indirectly, by promoting themselves as the most effective place to advertise a home for sale.

There are three case studies of real estate portal challengers attempting to disrupt the top portal: two large brokerages, and one challenger portal. The analysis concludes with a case study of what one top portal is doing to push back against exclusive content.

Case Study: The Challenger Portal

OnTheMarket is an upstart, industry-backed portal meant to challenge the dominance of Rightmove and Zoopla in the U.K. It launched in 2015 and has faced a slow, uphill battle to achieve relevance.

One of the legs of its strategy is around exclusive listings: “thousands of new properties a month, 24 hours or more before they are advertised on Rightmove or Zoopla.” According to OnTheMarket, this amounts to between 2,500 and 10,000 properties each month.

The strategy is credited with increasing the portal’s traffic, but after years its traffic is still a fraction of the dominant portals in the market. It has helped the challenger portal grow and build relevancy in the market, but has done nothing to dent the dominance of Rightmove.

Case Study: The Traditional Brokerage

Howard Hanna is the fourth largest brokerage in the U.S., with over 100,000 transactions closed in 2019. In June of 2019, it launched the Find It First program, where new listings are available only on the company’s web site, HowardHanna.com, for a set time before being published on the multiple listing service.

The service launched in an effort to increase traffic to the company’s own web site by leveraging exclusive content not available anywhere else; a fact highlighted by the company.

The benefit to potential home buyers is clear: register on HowardHanna.com to receive updates on exclusive content before they are posted anywhere else. The benefit to sellers is less clear. As the company says, “...it creates an urgency for their property to be offered first to highly motivated buyers, who are most likely to bring an offer.” But the pool of buyers is a fraction of the entire market: 2.1 million visits in July 2019 compared to over 700 million visits on Zillow.

Howard Hanna’s program offers another benefit for sellers, which is less about exclusive content and more a ding at Zillow’s business model: prospective buyers should be connected directly with the listing agent, who knows more about the property than anyone else. The benefit to consumers finding a property on HowardHanna.com first is that a connection to the listing agent can be made directly, without any intermediaries.

But the program is small. In September 2020 there were less than two dozen listings across the Northeast and Midwest. In February 2021, with over 20,000 listings in the Northeast, only 13 Find it First properties were found.

Case Study: The Tech-Enabled Brokerage

Compass is the fifth-largest brokerage in the U.S., with over 80,000 transactions closed in 2019. As mentioned in my 2019 strategic analysis of the business, Compass has an active history of promoting exclusive listings, either coming soon or private exclusives.

What sets Compass’ exclusive content strategy apart from others is its traction and promotion. Compass is not shy about promoting exclusive listings on the compass.com web site: it’s featured on the header and is highlighted immediately below the search bar.

All search results pages highlight private exclusive listings, which are only available to home buyers that contact a Compass agent. The fact that there are more listings that can be shown is dangled in front of consumers in a very prominent way.

Clicking through for more information on private exclusives makes it clear that to see more, you need a Compass agent. The additional listings are not available on “home search websites.”

The concept of a private exclusive listing is not new; what’s new is the degree of in-your-face marketing applied to the program by Compass. In comparison, consider Sotheby’s International Realty, which has no mention of nor listings of private exclusives or coming soons. Sotheby’s is not leveraging the power of exclusive content, while Compass is -- in a big, aggressive way.

That fact is sprinkled throughout the Compass web site, subtly and overtly. On the search results filter page, visitors are reminded that a large amount of listings are “only on Compass.”

The value proposition for home buyers (which, by the way, are how the U.S. real estate portals monetize their traffic) is quite clear: exclusive content not available anywhere else.

The value proposition of a coming soon listing for home sellers is less specific: increase exposure, generate buzz, and deliver market insights. Again, all to a smaller audience than what the national real estate portals deliver.

With regards to the seriousness of Compass’ program, the numbers paint a clear picture. According to compass.com, in September of 2020 Compass had over 17,000 listings nationally -- with over 2,800 as exclusive content (either Coming Soon or Private Exclusive). These 2,800 listings (16 percent of Compass’ total inventory) were only available on compass.com or via a Compass agent; none were on Zillow.

And the percentage of listings exclusively on compass.com is increasing. As of February 2021 there were around 12,000 Compass listings nationally, with 2,800 “only on Compass” -- or 23 percent. Nearly a quarter of Compass’ listings are exclusive content. In one of Compass’ biggest markets, San Francisco, 504 out of 913 total listings were exclusively on Compass, a massive 55 percent.

The concept is perhaps best illustrated in Compass’ own words, through this LinkedIn post by a Compass agent. Note the key phrase: “I have inventory on our platform that will never get listed on Zillow or Redfin. Get a Compass agent...or miss out.”

Case Study: The Incumbent Real Estate Portal

REA Group operates the dominant Australian portal, realestate.com.au, which also happens to be the world’s most profitable real estate portal. The team at REA understands the value of network effects, and has built marketing campaigns around having “Millions More Buyers” than the competition.

REA faces a challenge in the Australian market: property owners that wish to sell their homes “off market.” Similar to Compass’ exclusive listings, these properties never get advertised on a national property portal, and reach an audience through existing networks and word of mouth.

REA has met this challenge -- and the associated risk to its market-leading position -- head on with a series of direct-to-consumer TV advertisements.

The rhetorical message to consumers is clear: why would you not advertise your biggest asset in the one place buyers will definitely look?

Power Moves

The move towards exclusive content is about power. The organizations affecting this change are companies looking to grow revenues and maximize profits. The benefits of a potential shift in consumer eyeballs will accrue to these for-profit companies, at the expense of real estate agents and consumers.

There may be a short-term benefit for real estate agents, by reducing their reliance on a national portal, but that reliance just shifts to a different company. And it is that company, and no one else, that becomes the distributor of consumer eyeballs and leads to agents. The power remains with a company, and not with an agent.

Ultimately, the consumer may be the biggest loser. The creation of new advertising channels, especially in markets outside of the U.S., means that homeowners will need to pay an additional fee to advertise on those new channels. And, in the words of Compass, if listings “never get listed on Zillow or Redfin,” millions of potential buyers may never see them, which could lead to less demand and a lower price for a property, a cost paid for by homeowners.

Generating and publishing exclusive content appears to be one of the most effective possible strategies against the portals’ dominance. It is a relatively new, active battleground in the evolving war for the future of real estate. But as these billion dollar behemoths battle for supremacy of the real estate industry, with agents as their unwitting pawns, consumers may be left paying the price.

Opendoor Withholds Listings From the Market

In late 2020, while Opendoor continued to purchase hundreds of homes each week, it stopped listing new homes for sale. This unusual behavior lasted four weeks, and reveals an interesting consequence of the rise of new models in real estate, specifically iBuyers.

Between November 10th and December 10th, Opendoor listed no new homes for sale in any market, nationally (Opendoor also did not list homes during the week of Christmas). For comparison, during the same period Zillow continued purchasing and listing new homes for sale.

During this time, Opendoor continued to purchase homes from consumers. Its purchase levels in November and December -- while still well below the levels of 2019 -- remained robust, with no visible slowdown.

The result of Opendoor's action -- during the run up to its IPO -- created an artificial buildup of inventory. It was a concerted, company-wide effort -- but what was the purpose?

Understanding Why

Here's a hypothesis: An iBuyer books revenue when a home is sold. By withholding listings for a month, Opendoor pushed back the likely period when those houses would sell (and it would book revenue) into 2021 -- to its first full quarter as a publicly listed company.

Regardless of the specific reason for the action -- pumping up revenue numbers, maximizing home appreciation, or simply taking a break before the holidays -- a decision was made, and the results are the same: Opendoor's inventory of houses increased by withholding new listings from the market.

Implications for Consumers

While a relatively small move that kept 300⁠–400 houses off the market for an additional month, Opendoor's action is an example of what happens when home purchasing power aggregates to one company. (A previous example is Opendoor and Zillow's systematic move to reduce buyer agent commissions.)

What happens when a company -- backed by Wall Street and motivated by profit -- has the ability to withhold listings from the market in the midst of a once-in-a-generation housing shortage? With the rise of new models that change the paradigm of home ownership, careful attention should be paid to a possible collision between what's good for a company, and what's good for the consumer.

iBuyers Turning Obfuscation of Profit into an Art Form

A casual investor could be excused for confusing iBuying with a profitable business. Zillow's latest shareholder letter claims, "Average return on homes sold before interest expense was a gain of $21,830 per home," while Opendoor's investor presentation highlights "positive unit economics" with a contribution margin of $11k/home.

Both statements are factually correct. However, the figures provided are cloaked in asterisks and notes. Opendoor and Zillow are emphasizing unit economics of iBuying that exclude tens of millions of dollars of expenses -- ranging from salaries to marketing to technology -- that are necessary to operate the business.

It's the equivalent of an immaculate conception version of iBuying, where transactions magically occur without employees, customers materialize out of thin air, and technology is freely available for all.

When all indirect costs are included, profitability quickly drops into the negative for both companies.

Zillow's average return on homes sold before interest expense​ is a gain of around $22k per home, but after all expenses are included, the net loss per home is $72k. Tracking this number shows the true unprofitability of the business over time.

Both companies are unprofitable, losing roughly $300 million each in 2020. When all expenses are included, each company is losing tens of thousands of dollars per home. Opendoor is losing less money per home than Zillow, in both 2019 and the first nine months of 2020.

The profitability measure each company highlights is Adjusted EBITDA, which presents its own challenges. The "I" in EBITDA stands for "interest," which means that Zillow and Opendoor are excluding their collective interest expense from the calculation. Interest expense is a large and necessary component of the iBuyer business model, and amounts to tens of millions of dollars each year.

In 2019, Opendoor's interest expense was $105 million, which is not included in its only visual profitability measure. To find the true net loss (over $300 million), readers need to scroll to the very last slide in Opendoor's investor deck, in the appendix.

Turn On The Lights

One of Zillow's corporate values is to "Turn On The Lights." To quote: "We believe that information is power, and we’ve made it our business to increase transparency in real estate and within our company. Our purpose is to unlock information and empower our people, customers and partners to make better decisions."

I agree: information is power, and transparency is powerful. It leads to better decision making. Much of my work is aligned to the necessity of transparency.

iBuying is a new business model fueled by billions of investment dollars. The first question on many people's minds is, "Is it profitable?" Not when necessary expenses are excluded, but the entire business model.

My request is simple: talk about profitability. Don't shy away from it. Don't make readers flip to the appendix or supplementary financial tables and do a series of calculations to get their answer. Turn the lights on.

iBuyer Market Share Set to Drop By Half in 2020

From a transaction volume standpoint, the pandemic of 2020 was not kind to iBuyers. Overall volumes and market share are set to drop by 50 percent compared to 2019, a reflection of the iBuyer business model coming to a complete standstill followed by a slow recovery.

This drop stands in sharp contrast to the overall U.S. housing market, which is on fire. Overall transaction volumes are running well above last year's levels.

All of the major iBuyers saw a significant drop in 2020 compared to 2019, but Opendoor stands out for several reasons. First, it remains the largest iBuyer, with around 2x the transactions of its closest competitors. But it also saw the biggest year on year drop in volumes: down about 60 percent from 2019.

This is a reflection of both Opendoor's high-flying activity in 2019, and its painfully slow post-lockdown recovery. Opendoor's purchases are still down over 70 percent from the same time last year. Recovery is slow; much slower than the overall market.

Segment market share continues to shift among the big four iBuyers. Opendoor's share of the market is down to 50 percent -- a gradual decline from 2018 as new players entered the market and the overall segment grew rapidly. Zillow has made a strong entrance while Offerpad has maintained its position.

The pandemic of 2020 affected real estate in a variety of unprecedented ways. The drop in iBuyer market share and transaction volumes isn't a failure of the model, but it is a result of the model. The iBuyers face a slow climb back to the levels of 2019, as they conservatively ramp up operations in a new, uncertain housing market.

The Economics of iBuying

Sometimes it's easy to forget how much money iBuyers are losing. Investor presentations focus on positive unit economics, which don't include non-trivial expenses such as employee salaries, customer acquisition, technology development, office rent, and more. Neglecting these expenses -- which account for hundreds of millions of dollars per year -- paints an incomplete picture of iBuyer economics.

In the case of Opendoor, that's an additional $366 million -- or nearly $20,000 per home sold -- of expenses in the "Everything Else" category. Contribution margin is a perfectly legitimate metric, but it doesn't tell a complete story of profitability.

From Profit to Loss

A key measure of the iBuyer business model is gross profit, which is driven by service fees, purchase price, sale price, ancillary services (like title insurance and mortgage), and any necessary repairs. The metric focuses on the physical asset itself, and doesn't include costs associated with the process of selling the home.

In the first half of 2020, Zillow and Opendoor managed to generate around $17,000 in gross profit for each home bought and resold.

Zillow is catching up to Opendoor. If gross profit is a reflection of accurate pricing algorithms, competitive fees, and attaching adjacent services, the evidence suggests that operational efficiency is not the exclusive domain of Opendoor.

After gross profit, the largest direct expenses are selling costs (primarily composed of commissions paid to agents), holding costs, and interest expense. The data reveals that Opendoor has lower costs across all three categories.

Opendoor's lead in holding costs and interest expense are marginal. Zillow's recent announcement that it was hiring its own internal agents -- and will no longer be working with (and paying) premier agent partners on the homes it sells -- will reduce its selling costs to be closer in line with Opendoor.

Last come the indirect costs (employee salaries, marketing, office space, etc) -- perhaps indirectly linked to selling a home from an accounting perspective, but still critical to operating an iBuyer business. Zillow Offer's financials highlight how significant these costs ($266 million) are in an overall picture of profitability.

Once all expenses are included, the economics are complete: each iBuyer is losing tens of thousands of dollars on each home it buys and resells.

The overall economics are improving; between 2019 and the first half of 2020, each iBuyer lost less money on each home. But the totals are still negative, and when buying thousands of homes, total losses add up quickly: in the first half of 2020, Opendoor lost over $118 million and Zillow over $178 million.

Red is the New Black

At the end of the day, does it really matter? The information above is no secret; it's readily available in the public disclosures and filings from both companies. But it does take a rainy afternoon to find, compute, and digest the meaning of it all.

The public-facing presentations and shareholder letters focus on a single piece of the equation: unit economics, or contribution margin. An equally easy to digest explanation of the full economic picture is not always present.

The iBuyers are playing by a different set of rules where profitability doesn't apply. It doesn't matter that iBuyers are unprofitable; to-date, shareholders don't mind, and are happy to subsidize massive losses. Disruption in real estate is being led by companies -- and shareholders -- willing to bet and lose billions of dollars.

The iBuyer War on Real Estate Commissions

For years, the traditional real estate commission structure in the U.S. has remained relatively impervious to change. Buyer agent commissions -- the fee paid to a buyer agent when a house is sold -- is the focus of multiple class action lawsuits. But it turns out that the biggest threat to the traditional structure may be iBuyers, which have been waging a silent, systematic war on buyer agent commissions.

This research study looks at buyer agent commissions offered by iBuyers: 11,500 transactions over two years across four of the largest iBuyer markets (Phoenix, Atlanta, Raleigh and Dallas). 

The data is sourced from the multiple listing systems in each market, which records buyer agent commissions offered for every home listed for sale. The data does not include transactions that occur off-market (sales to REITs) nor to buyers that approach iBuyers directly, without an agent.

A History of Cost Optimization

Since the beginning, an iBuyer's biggest expense has been agent commissions -- specifically the buyer agent fee of around 3 percent when a home is resold. This fee is highlighted as “selling costs” in Opendoor's recent investor presentation.

Like many good businesses, Opendoor has attacked this cost with vigor (acquiring Open Listings, launching "Buy With Opendoor", and offering 1 percent savings when buying with a partner agent). Opendoor isn’t shy about it; the same investor presentation lays out a game plan to profitability which includes a further 0.6 percent “cost optimization” on each home sold.

In other words: Opendoor’s target for selling costs is 2 percent, of which the buyer agent commission is the single largest component.

Systematic Fee Compression

Opendoor has systematically reduced buyer agent commissions in Phoenix, its largest market, over the past 18 months. In early 2019 it started offering 2.5 percent commissions alongside 3 percent commissions (a wonderful A/B test). The results must have been promising, because Opendoor subsequently stopped offering 3 percent commissions in favor of an even-lower 2.25 percent starting in February 2020, well below Phoenix’s average buyer agent commission of 2.8 percent.

The trend and timing is similar in Dallas -- a reflection of a corporate-wide initiative to reduce expenses by lowering buyer agent commissions. At the same time in early February, Opendoor began offering 2.5 percent commissions in place of 3 percent.

Raleigh shows an identical trend with consistent timing. The average buyer agent commission is 2.4 percent, but at the same time -- February 2020 -- Opendoor pushed down its commissions to 2.2 percent.

Atlanta is where things get interesting. Opendoor began offering 2.75 percent commissions in late 2019, before introducing even lower 2.5 percent commissions in early February 2020. However, Opendoor also began testing super-low 1.5 percent commissions in late 2019.

Opendoor appears to be testing how low buyer agent commissions can go before it adversely affects time on market (agents may be less likely to show homes that are offering low buyer agent commissions).

Zillow Follows Suit

Opendoor is not alone in its drive to push down buyer agent commissions. Zillow has the same financial incentive, and has also been offering lower commissions over time in its biggest markets.

In Phoenix, Zillow matched Opendoor and began offering 2.25 percent buyer agent commissions in mid-2020, a significant reduction from the full 3 percent offered pre-Covid.

At the same time -- July 2020 -- Zillow dropped its buyer agent commission to 2.5 percent in Atlanta. The evidence suggests that, like Opendoor, this was a coordinated effort affecting multiple markets simultaneously.

In comparison to Opendoor, Zillow is both later to the party and less aggressive in its testing. Opendoor began reducing buyer agent commissions in April 2019, compared to Zillow waiting until July 2020. But the intent is identical to Opendoor: gradually reducing buyer agent commissions.

According to a Zillow spokesperson, “Agents can feel confident in a smooth, fast and easy sale when advising their client interested in a Zillow-owned home, knowing that some of the major hurdles of a traditional transaction have been taken care of prior to their clients having even toured the home.” For Zillow, the argument appears to be a lower fee for less work.

Offerpad, the third-largest iBuyer, is the outlier. It has not dropped buyer agent commissions in any of its large markets. They are “firmly committed to their agent community,” and “continue to offer buyer agents 3% in commissions,” according to a spokesperson. The data concurs.

Good for Opendoor or Good for Consumers?

Opendoor is effectively doing what consumers cannot: negotiating lower buyer agent commissions. The class-action lawsuits argue that buyer agents should “compete to be retained by offering a lower commission” -- in other words, a free market should dictate buyer agent fees.

While it is difficult for a consumer to negotiate -- and see a direct financial benefit from -- a lower buyer agent commission, it is very easy for Opendoor and Zillow. The iBuyers have the scale, financial muscle, and incentive to challenge the status quo.

Dropping buyer agent commissions has a direct financial benefit for iBuyers. The cost savings are not ending up in consumer’s pockets...yet. But Opendoor, in particular, appears to be indirectly passing some savings on to consumers. In September, it dropped its average service fee to just 5 percent, and has repeatedly stated its intent to further reduce fees.

With 2019 losses totaling over $300 million, Opendoor is highly incentivized to reduce its expenses. Systematically reducing the buyer agent commission is a logical move, but not everyone benefits. It appears that the success of the iBuyer model comes at the expense of the traditional real estate commission structure.

Zillow's Brokerage News and the 2 Megatrends of Real Estate Tech

Zillow recently announced that it was hiring its own agent employees to service its iBuyer business. At face value, the news is a relatively small shift, but is a clear reminder of several megatrends occurring in real estate tech.

An Unsurprising Move

If Zillow's announcement caught you by surprise, you haven't been paying close enough attention. For years, real estate portals around the world -- including Zillow -- have been moving closer to and getting involved in more of the transaction.

Zillow's move is a logical next step in this journey. Bringing agents in-house, as opposed to relying on a network of partners, moves Zillow closer to consumers and closer to the transaction. This megatrend -- which has been slowly occurring for years -- is covered at length in my 2018 Global Real Estate Portal Report. 

Ignore At Your Own Risk

With this latest news, some are suggesting that traditional agents fundamentally ignore it and focus on their own business. In other words, don't worry about the competition -- in this case, Zillow -- and just focus on providing the best service possible to your customers and clients.

That strategy is only half right. Ignoring what Zillow is doing brings its own peril; just ask travel agents and video store owners (both industries that Mr. Barton has had a hand in disrupting).

For the traditional industry, sitting still is not an option. To quote my State of the Industry presentation from January 2020:

The industry is moving so slow you can look around and think nothing is changing (or get caught up in the hype and think everything is changing). That’s why now – more than ever before – is the time to stay informed, understand the scope of change, and react appropriately.

Agents as Employees

Zillow's move is a clear reflection of a megatrend in real estate: agents as employees. Hiring agents as full-time, salaried employees (a model pioneered by Redfin) provides a number of benefits, all centered around greater control:

• A consistent consumer experience

• Greater operational efficiency

• Better economics

The benefit is perhaps best illustrated by Redfin's agent efficiency, a metric that consistently stands out among its brokerage peers.

Full-time, salaried agents also lead to higher attach rates for services like mortgage and title. Next-gen brokerage models like Orchard and Homie, which also employ agents, are seeing mortgage attach rates of 80+ percent. This is only possible with an integrated end-to-end experience, powered by employees, and not a loose confederation of independent contractors.

Zillow and Redfin are not alone. Other disruptors like Opendoor and Offerpad are hiring agents for new brokerage services. With the exception of Compass (who is stuck in the matter), all of the largest real estate disruptors are moving in this direction -- that's nearly $35 billion in enterprise value pushing in this direction. It's a megatrend that's possible, but not advisable, to ignore.

Opendoor's Path to Profitability: Attaching Title and Mortgage

Opendoor's path to profitability is paved with uncertainty. A key assumption for long-term success is the ability to attach adjacent services to the transaction, such as title insurance and mortgage. Let's look at the data around Opendoor's traction to-date.

In its investor presentation, Opendoor correlates early success with attaching title and escrow services to long-term margin improvement -- and profitability. The challenge is that title and escrow are the easiest ancillary services to attach by a wide margin, and success in a few markets doesn't mean ALL adjacent services will be nearly this easy.

Title insurance is a complicated business and regulations vary by state. Opendoor is seeing early success, but it's taken years (and an acquisition of a traditional title company) to get to this stage.

The below chart shows title attach rates on the sell side, where Opendoor is the owner and sells a home. When it comes to title and escrow, not all states are created equal, and success in one may not mean success in all.

Title insurance is just one of many adjacent services. The holy grail, from a revenue and profitability standpoint, is mortgage, and it's not nearly as easy to attach. Opendoor has been in the mortgage business for about a year and is seeing much lower attach rates to its mortgage product, Opendoor Home Loans.

Compared to title Insurance, which can simply be added into the transaction by the purchaser or seller of the home (Opendoor), mortgage needs to be sold directly to consumers, which is a much more difficult and complicated proposition.

An Uncertain Road Ahead

It should be noted that what Opendoor is attempting to accomplish is not unique. Traditional real estate brokerages have been attaching title and mortgage services for years (Berkshire Hathaway's HomeServices of America, for example). The field is crowded with large, well-entrenched businesses.

Just because Opendoor is seeing early success with title insurance, the easiest adjacent service to attach (especially when you own the home), doesn't mean it will find similar success with more difficult services, such as mortgage. The evidence suggest a long, difficult, and uncertain road ahead -- in a highly-contested and crowded field of incumbents and disruptors.

Opendoor's IPO: Believing the $50 Billion Playbook

As part of Opendoor's upcoming IPO, it has revealed a strategic playbook that takes it to $50 billion in annual revenue. Achieving this is both aspirational and uncertain. What needs to be true for Opendoor to achieve this goal?

A Plethora of Phoenixes

Phoenix. The birthplace of iBuyers. Opendoor's first market. In many respects, Phoenix is the perfect iBuyer market, and has consistently been the largest iBuyer market in the world (based on sales volume).

In the first three months of 2020, Opendoor's revenue run-rate in Phoenix was $1 billion. To achieve a $50 billion run-rate, Opendoor would need to develop 50 Phoenix-sized markets (or 100 markets of half the size).

Phoenix is a mega-market; it is significantly bigger than any other iBuyer market. It accounts for 25 percent of Opendoor's total revenue, and 20 percent of its total sales volume in 2019.

It has taken Opendoor over four years to build the Phoenix market up to four percent market share and $1 billion in sales volume.

While Opendoor has a number of other large markets, none comes close to the scale of Phoenix. The average sales volumes of Atlanta, Dallas, Las Vegas, Raleigh, and Orlando have remained relatively stagnant over the past 12 months.

Opendoor's IPO documents make the claim, which is true, that market share in new markets accelerates quickly in the first year. However, it is also true that growth slows after the first 12 months. And in the case of some markets (Orlando, Las Vegas, and Dallas) sales volume has declined. 

The growth of new markets is not a straight line up and to the right. In Opendoor's case, new markets experienced initial growth followed by a plateau. This is either a deliberate beachhead strategy, or reflective of a larger challenge reaching scale.

Phoenix: Outlier or Target?

Opendoor's $50 billion plan is ambitious. To achieve it, Opendoor needs to replicate the success seen in Phoenix across 50 other markets (or 100 smaller markets) -- no small feat.

Is Phoenix the outlier or the target? The evidence of the past four years suggests the former; other markets have struggled to achieve and sustain volumes anywhere close to the levels seen in Phoenix.

The path to $50 billion -- growing dozens of new markets to significant volumes -- is far from a straight line, and is quite uncertain. Opendoor's growth is not a simple copy-and-paste of the Phoenix playbook. Launching new markets and growing them to significant volumes -- against the headwinds of competition, consumer demand, and profitability -- remains a key challenge in Opendoor's future.

Covid-19's Effect on Global Real Estate Portal Revenues

Earlier this year I outlined the ways in which the world's leading real estate portals were reacting to the pandemic, including significant customer discounts. The results are in, and the revenue impact to portals is quite varied.

Taking a Hit to Revenue

Top of the list is Rightmove, the U.K.'s leading portal, which saw a massive 37 percent drop in revenue for the first six months of 2020 compared to the same period in 2019. That's ten times greater than any other portal. The others saw more modest revenue drops of a few percentage points, with some, like Germany's ImmoScout24 and The Netherlands' Funda, managing to grow revenue.

In absolute dollar terms (and in local currency), Rightmove again tops the list, with revenues dropping a massive £38 million year-over-year. Zillow lost a substantial $15 million, but from a much larger revenue base ($450 million vs. Rightmove's £105 million in H1 2019).

Rightmove as the Outlier

The evidence clearly shows Rightmove as an outlier, while other portals managed to weather the Covid-19 storm relatively unscathed. Why?

One critical component of the answer is the severity and length of lockdown. My earlier research (featured in this Financial Times article) highlighted the U.K. as having one of the most restrictive lockdowns around the world, with a correspondingly severe drop in new listing volumes.

The second critical component is business model. Australia's portals generate most of their revenue from vendors, not agents. The U.S. portals generate revenue from selling buyer leads. Rightmove generates revenue from agents advertising houses for sale -- and if new listings drop 90 percent, there are 90 percent fewer houses to advertise.

A combination of the U.K. lockdown's severity and length, coupled with Rightmove's business model, made it especially susceptible to Covid-19. It was forced to offer its customers deep discounts for many months while the lockdown was in effect.

The pandemic affected all real estate portals -- but not equally. The more severe the lockdown, the more significant the revenue drop. 

A Note on Data Sources

To create a true apples-to-apples comparison, the data used is from the period beginning January 1 2020 and ending June 30 2020. The six months reveal a complete picture of the start, middle, and recovery from the pandemic and associated lockdowns.

The data is from each portal's residential real estate segment: Zillow's Premier Agent revenue, realtor.com's real estate revenue, Scout24's residential real estate revenue, Rightmove's agency revenue, REA Group's Australian residential depth and subscription revenue, and Domain's residential real estate revenue.

Real Estate Lessons From New Zealand's Latest Lockdown

The reemergence of Covid-19 in New Zealand, along with new lockdowns, provides further examples of its effect on the property market. As a case study for markets around the world, the results highlight less severe outcomes the second time around.

Another Drop in New Listings

New Zealand's recent lockdowns, which began on August 12th, affected the country in a similar, but less dramatic, fashion than the strict lockdowns earlier in the year. The level 4 April lockdowns were a total shutdown, which saw new listing volumes drop 85 percent. The most recent level 2 & 3 lockdowns are less severe, with a much smaller drop in new listings.

Both lockdowns saw a return to the same behaviour: a drop in new listing volumes. But the effects are wildly different, and tightly correlated to the severity of lockdown.

The monthly change in new listing volumes was most pronounced in Auckland, which was under a strict level 3 lockdown. At level 2, the rest of the country was fundamentally unaffected.

The national drop in new listing volumes was driven by the country's largest market, Auckland. However, looking at only Auckland reveals a less severe impact than one might expect. The drop in new listings is noticeable, but marginal, and new listings are still higher than the same time last year.

With buyer demand remaining strong, the natural result is a drop in inventory. But similar to new listings, it is not as severe as one might expect: A small decline, rather than plummeting inventory levels.

Inventory is certainly constrained, but it's not quite the property armageddon that is sometimes portrayed in the media.

Strategic Takeaways for International Markets

New Zealand's Covid rollercoaster highlights several lessons that can be applied to markets around the world:

• Subsequent lockdowns appear to have less of an effect on consumer confidence in bringing a home to market. There is less overall impact on new listing volumes.

• The more severe the lockdown, the larger the drop in new listing volumes. However, the severity is not linear; the strictest lockdowns have an exponentially greater impact on the market (Auckland's level 4 lockdown saw a monthly decline in new listings of 46 percent, compared to a monthly decline of 7 percent during the August level 3 lockdown).

• If authorities can implement lockdowns in a targeted, focused way, the effect on the real estate market is significantly lessened. 

As the pandemic continues around the world, the evidence from New Zealand suggests that the worst for the property market may be over (at least in terms of new listings and inventory). Subsequent lockdowns appear to have less of an effect, with a targeted approach yielding the best results.

iBuyer Market Share Plummets, With a Measured Recovery Ahead

Like many businesses, iBuyers took a significant hit during the pandemic. Home purchases dropped 90 percent as the major iBuyers paused their operations, and as they come back to life, the iBuyers are rebounding cautiously and slowly, suggesting a long road to pre-pandemic levels.

Purchases Down 90 Percent

With the pandemic and associated lockdowns earlier in the year, iBuyer purchase volumes plummeted 90 percent. The major iBuyers (Opendoor, Offerpad, Zillow, and Redfin) paused new home purchases in March, citing safety concerns, before resuming operations in May.

With a gradual recovery in purchases throughout the remainder of 2020, total iBuyer purchases for the year could be half that of 2019.

Pausing new home purchases didn't stop the iBuyers from selling thousands of homes in inventory during the lockdown. In May, iBuyers only purchased 200 homes but managed to sell over 1,700, a clear sign they were trying to clear their inventory as quickly as possible. The pandemic stopped iBuyers from purchasing homes, but it didn't stop them from selling homes.

After announcing a resumption of purchases in May, all of the iBuyers have slowly ramped up their operations -- but at different velocities. In June, Zillow purchased around 50 homes, Opendoor about twice as many, and Offerpad about three times as many. The ramp up in activity is slow.

A Slow and Measured Recovery

iBuyer purchase volumes are recovering much more slowly than the overall markets they operate in. For example, in Phoenix, the overall market has recovered to pre-pandemic transaction levels. But iBuyer market share of that volume is still well below pre-pandemic levels.

The data suggests that iBuyers are taking a slow and measured approach to ramping up purchases. Many U.S. markets are hot: low inventory, massive buyer demand, and rising prices -- not a great environment for iBuyers.

Total iBuyer purchases across their top five markets are still a fraction of what they were earlier in the year.

Strategic Implications

The pandemic has put the iBuyer business model -- along with countless other businesses -- under strain. The past few months has seen them pivot and adapt, by launching traditional brokerage services, increasing agent referral fees, and Opendoor partnering with leading portal realtor.com.

The iBuyers are back to buying houses, but the evidence suggests a more slow and cautious approach. And once the iBuyers prove they can survive the pandemic, they're still faced with the same challenge they had pre-pandemic: profitability.

A Study of Market Recovery in the U.S., Sweden, and New Zealand

New listing volumes are an important lead indicator for the real estate market. The U.S., Sweden, and New Zealand offer three contrasting case studies of pandemic response and real estate market recovery.

Varying Drops in New Listing Volumes

The U.S. real estate market experienced a steep decline in new listings coming to market during lockdown in April and May. The recovery has been slow and gradual (a checkmark), with levels still down from last year. The pent-up supply from lockdown hasn't hit the market; there's a huge hole in available inventory.

In New Zealand, there was a hard and fast lockdown that resulted in an immediate and sharp drop in new listing volumes. However, once lockdown was lifted and Covid-19 was eliminated, the market quickly bounced back to normal. Unlike the U.S., new listing volumes surged to higher than normal levels -- a natural result of pent-up supply from the lockdown coming to market.

Sweden never really went into lockdown, with much of the country carrying on as normal. The real estate market followed suit, with new listing volumes only dipping slightly in April and May compared to the same time last year. There is no real market recovery because the market never dropped away like in the U.S. and New Zealand (the summertime drop is seasonal).

Summary of Evidence

All three countries are at different points on the spectrum of pandemic response and real estate market recovery.

Key observations:

• With the strictest lockdown, New Zealand experienced the largest drop in new listing volumes (65%), but recovered quickly with new listing volumes up 20%.

• With a moderate lockdown, the U.S. experienced a moderate drop in a new listing volumes (40%), but recovery is taking longer, with new listing volumes still down 5% compared to last year.

• With no lockdown, Sweden never experienced a drop in new listing volumes. The market continues to operate normally.

The data suggests that the harder the lockdown, the bigger the drop in new listing volumes -- and the faster the recovery. 

Many thanks to Redfin, Hemnet, and realestate.co.nz for the market-specific data.

New Zealand's V-Shaped Real Estate Recovery

With zero cases of Covid-19 in the community, New Zealand is one of the very few countries where life has returned to normal. After two months of lockdown, the country's property market is demonstrating healthy market dynamics on its road to a true V-shaped recovery -- and serves as an interesting comparison to the U.S.

New Listings Supply

New listing volumes at Barfoot & Thompson, Auckland's largest real estate agency with over 40 percent market share, rebounded quickly after the country emerged from lockdown. New listing volumes in June were higher than normal -- an expected effect of pent up supply from the lockdown.

At a national level, new listing volumes (as tracked from a major real estate portal) show a similar trend: an extreme dip during lockdown, followed by a healthy rebound.

Compare this to the U.S., where new listing volumes (as tracked nationally by Redfin) are still depressed and below last year's numbers.

New listings -- supply -- are the lifeblood of a healthy property market. A lack of inventory can create liquidity problems in a market recovery.

Buyer Demand

Critically, buyer demand has closely matched seller demand in New Zealand. The number of sales in Auckland has rebounded quickly and strongly, reaching levels higher than last year in June.

Comparatively, home sales in the U.S. are still recovering and below last year's levels. But the overall trend is the same: a temporary dip followed by a recovery. New Zealand appears to have recovered fully, while the U.S. is still catching up.

Inventory

A strong measure of a healthy market is inventory -- the number of active listings in a market -- and which direction it is trending. In some U.S. markets, buyer demand is outstripping new listings coming to market, creating a precipitous drop in inventory.

At a national level, inventory levels in the U.S. continue to drop in a season when they normally grow. Buyers are picking up houses faster than sellers are bringing new homes to market.

The story is different in New Zealand. Inventory levels in Auckland have remained relatively constant through lockdown, and -- most importantly -- have not dropped as buyers and sellers come back to the market. In other words, buyer demand is being matched by seller demand.

The evidence suggests that New Zealand's housing market is experiencing a true V-shaped recovery. Buyers and sellers are back on the market at levels similar to or exceeding last year (driven by pent up demand).

In New Zealand, life returned to normal fairly quickly, and the housing market appears to have followed suit. As the U.S. continues to wrestle with waves of the pandemic and increasing uncertainty about the future, the housing market is reacting with greater extremes. There is a frenzy of buyer activity, while new listing volumes continue to lag historical levels -- all leading to an unprecedented drop in inventory.

What Happens When Two Top Real Estate Portals Merge?

Zillow and Trulia in 2014. Immowelt and Immonet in 2015. When massive real estate portals join forces, it is for one reason: market power. These mega-mergers of leading real estate portals highlight the power of market dominance through greater reach, greater pricing power, and accelerated revenue growth.

Germany: Immowelt and Immonet

In 2015, Axel Springer brought together Immowelt (IW) and Immonet (IN), the #2 and #3 real estate portals in the German market. The combined entity managed to increase ARPA (average revenue per advertiser) 40 percent over the following two years, with only 5 percent customer churn -- a noteworthy achievement.

The merger allowed the combined entity to nearly double the pace of ARPA growth from €6/quarter pre-merger to €11/quarter post-merger.

The key to Immowelt's success was a strategy of forcing customers to adopt a more expensive DUO bundle (one contract, two portals), whereby listings appear on both sites. After 18 months, an impressive 85 percent of customers had adopted the DUO bundle, rising to 99 percent a year later -- all with minimal customer churn.

In 2018, Immowelt began converting customers to a more expensive DUO5 (five listings) bundle. Over the subsequent two years, customer churn increased to 19 percent while ARPA growth remained high at 33 percent.

Supercharging Zillow's Revenue Growth

The merger of Zillow and Trulia was the catalyst for strong revenue growth at the combined entity. In the two years following the merger -- and after consolidating the revenues of both businesses -- revenue increased a massive 52 percent.

In the case of Zillow and Trulia (and similar to Immowelt and Immonet in Germany), post-merger revenue growth was driven by ARPA and not an increase in paying customers. In the year following the merger, and after the customer bases were consolidated, the number of paying customers dropped by 11 percent while ARPA increased 42 percent.

The merger increased the market dominance of the combined entity, and allowed Zillow to increase its pace of revenue growth over the following three years.

The slope of the line -- the increase of revenue coming into the business, not as a percentage, but in absolute dollars -- materially shifted post-merger. Pre-merger, Zillow added an average of $5.9 million in new revenue each quarter; post-merger it averaged $9.6 million.

(And just for fun, here is realtor.com's corresponding revenue growth after its acquisition by News Corp in 2014, adding an average of $2.8 million in new revenue each quarter. There's a premium to being the market leader.)

More Money, More Value

The mergers allowed both groups to materially grow revenue, primarily through ARPA increases, at an accelerated pace.

While prices did increase after the mergers, it came with a corresponding increase in customer value. The combined entities were able to deliver more exposure and more leads for their customers. Zillow's increasing ARPA was closely matched by an increase in leads.

While ARPA increased 42 percent in the year after the merger, it was coupled with a 48 percent increase in total leads and an 11 percent decline in customers. The net result was a drop in the average price per lead.

Zillow's customers were paying more, but they were paying more for increased value.

The case was similar in Germany. Internal research showed that, on average, customers that advertised on both sites saw the number of leads per listing more than double. Customers were paying more, but were deriving more value.

The merger of two real estate portals consolidates market and pricing power within one organization -- allowing it to quicken its pace of growth. But in the cases above, an increase in prices was accompanied with a corresponding increase in value, arguably a good deal for customers and consumers.

Inventory Levels Down 20–40% Across U.S. Markets

There's a reason I've been talking about new listing volumes as the best lead indicator of the health of the real estate market. That reason is now clearly manifesting: a precipitous decline in available inventory across the U.S. Less new listings leads to less inventory, which is causing a supply vs. demand imbalance.

National New Listings and Active Inventory

Nationally, new listings dropped significantly -- down 40+ percent -- and are slowly recovering. The velocity of that recovery has slowed in recent weeks; new listings are coming to market slower, and are still down 18 percent compared to last year.

The significance is that when new listings stop coming to market, overall supply -- inventory -- drops. There are less available homes for prospective buyers to purchase. Nationally, the number of active listings is down 25% as of June 21st. And the slope of the line is heading down, both absolutely and compared to last year.

Active Listing Tracker

It's with this issue in mind that I'm happy to announce the addition of an Active Listings chart to my Real Estate Market Tracker. As with the other charts, it's interactive, so plug in whatever markets you want to compare.

An overview of some of the biggest markets in the U.S. shows, with few exceptions, that the number of active listings in most markets is down 20–40 percent compared to last year. Demand is strong, and buyers are gobbling up the available inventory.

Markets like Atlanta, Dallas, Seattle, Chicago, Phoenix, and others show a strinkingly common downward trend. Compared to last year, the number of active listings is plummeting downward. 

The Significance of Inventory

A drop in active listings isn't necessarily a problem, but it's a significant disruption to the market dynamics of supply and demand. If the amount of active buyers remains constant, and the available inventory drops, house prices will rise.

In many markets -- and nationally -- the available inventory continues to drop, and doesn't appear to have stabilized yet. The supply vs. demand imbalance, especially in certain markets, is acute. And with the recovery of new listings coming to market slowing, and buyer demand remaining strong, it does not appear to be changing anytime soon.