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5 takeaways from Zillow’s nightmare

The company's future is uncertain after the stunning collapse of its iBuying division

Rich Barton - HW+
Zillow CEO Rich Barton.

“Look, similar to other technology companies that have gone before us, we strongly believe in taking big swings and failing fast. We have learned from our experience in Zillow Offers in Q3 and are applying those learnings as we look ahead.”

Those were Zillow CEO Rich Barton’s closing remarks on Tuesday’s earnings call, after the CEO shockingly announced the wind down of the Zillow Offers iBuying program, plus a pending lay off of 2,000 employees.

Is Zillow a technology company that may yet dominate U.S. real estate? Or is it a 16-year-old business good at aggregating home listings, but bad at developing beyond that? Here are five takeaways from yesterday’s news.

  • Massive employee turnover.

A Zillow spokesperson confirmed Wednesday that the company expects to lay off 2,000 employees, or 25% of the 7,999 employees that Zillow reported having as of Sept. 30.

The current number of Zillow staff has, in fact, increased 32% in the last nine months, mostly due to Zillow’s iBuying ramp up, the spokesperson said. Also, iBuying represented 68% of Zillow’s $1.7 billion in quarter three revenue, and, of course, the lion’s share of the company’s expenses and debt (more on Zillow’s borrowing in a sec).

All which raises the question – Is the 2,000 jobs lost an excessively conservative figure?

Zillow has contended that it will reallocate employees to other divisions, but has not specified what those divisions might be. Barton did allude to a couple of reinvestment strategies on the call, including improving the virtual home shopping experience.

“One of the big things that we have invested a lot of people and R&D in is making that shopping experience much more immersive 3D, digital floor plans, and giving shoppers a much more realistic sense for what the home is like,” Barton said.

  • 11th Hour spending

Even by the standards of CEO speak, Barton’s public about-face on Zillow Offers is remarkable. Barton three months ago called his iBuying division “more than durable.” But he pulled the plug Tuesday, stating, “Fundamentally, we have been unable to predict future pricing of homes to a level of accuracy that makes this a safe business to be in.”

Did Barton mislead investors and the public? Or did he really believe Zillow Offers was on the right track?

Whether it was because executives were still believers or merely trying to right the ship, Zillow Offers was borrowing big until the end. It issued a $700 million debt note toward the iBuying program as recently as Oct. 1.

And between July and October, Zillow agreed with divisions of Credit Suisse, Citibank, Goldman Sachs to raise the amount available in revolving credit facilities from a total of $1.5 billion to $3.75 billion. Zillow Offers did not draw down all this debt before raising the white flag. But the iBuying division did report $2.9 billion in total debt, the vast majority of the company’s overall $4.4 billion debt load.

Zillow will pay off this debt by unloading its $3.8 billion in unsold home inventory, the company has said.

  • A Zillow problem, an algorithm problem, or an iBuying problem?

For all the metaphorical ink spilled and venture capital monies given to fuel iBuying, there are now really just two nationwide companies – Opendoor and Offerpad – primarily focused on buying homes for cash and then reselling them.

An Opendoor spokesman said Wednesday that, “Opendoor is open for business,” adding, “We have demonstrated strong growth and unit economics.”

“At Offerpad, we’ve been in the iBuying business for nearly seven years,” a spokesperson there said. “Our real estate DNA and unique model allows us to proactively adjust our pricing, renovating, and selling process through changing market conditions.”

In other words, as analysis from KeyBanc and industry consultant Mike DelPrete indicated, Zillow overvalued homes in markets like Phoenix and Atlanta more than its competitors.

Does that mean Opendoor and Offerpad had better valuation models? Or did those companies just have people with the rudimentary common sense to not pay $566,000 for a home languishing 57 days on the market at a $509,000 listing price?

Automated valuation models for homes have been around since at least 1996 when Fannie Mae and Freddie Mac developed the “automated underwriting score card,” said Clifford Rossi, the founder of Chesapeake Risk Advisors and business professor at the University of Maryland.

Unclear, Rossi said, is if technology has developed much beyond putting county property records into a database and developing a formula from those numbers. “I’m a very pro-automated valuation model person, they are an extraordinarily important part of risk management,” Rossi said.

But Rossi added that automated models cannot control how valuation decisions are made – or be a silver bullet for fast-scaling iBuyers.

  • We don’t need no stinking ancillary services

“IBuyers have been clear that their businesses are built to mostly make money off of ancillary services like mortgage, title insurance and escrow, rather than on home transactions themselves,” reported a Sept. 28 Wall Street Journal article.

But Zillow only gradually developed its ancillary services. Its mortgage division netted $70 million in third quarter revenue and posted a $5.6 million net loss. Look at those figures again. Anyone can lose money on iBuying. But Zillow also lost money in a sector – home loan origination – that has soared over the past year.

The company, meanwhile, has not broken out its title insurance earnings. Perhaps with iBuying itself no more, part of the reallocation will go to mortgage and title.

  • 226 million

That’s how many unique visitors Zillow reported were on its website in September. For years, the company modestly exploited this impressive web traffic by selling ads and leads to real estate agents through Premier Agent, which in the latest quarter generated $339 million in revenue.

Beyond Premier Agent, the company has the aforementioned Zillow Home Loans, ShowingTime – the agent touring scheduler it paid $512 million for in a deal that closed last month, and not too much else.

“Zillow overall still only participates in a mid-single-digit market share of transactions today, despite being used by almost every shopper, dreamer, renter, financer and mover in the country,” Barton said on the earnings call.

That’s been the case for several years now. And there’s no immediate sign it’s changing.

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