Zillow Shutters Their Home Buying/Selling Business

Last week I wrote about breaking news in the real estate industry that Zillow was underwater on their home buying/selling business, Zillow Offers. Hours after I published my article, to the surprise of many, Zillow announced it was shutting down Zillow Offers and reducing their workforce by 25% as a result.

The purpose of last week’s article was to discuss what Zillow’s problems meant for the real estate market and Zillow. For those who didn’t read and don’t intend to, the bottom line was that Zillow’s issues are not an indicator of trouble in the broader real estate market or for Zillow’s business overall, they’re simply a bad bet by Zillow that will cost them about $1B since they started Zillow offers in 2018.

However, ARLnow Commenter “Arlington Robin” made a great point that while Zillow’s issues may not be indicative of trouble in the nationwide/DC area real estate market, it will likely create problems in local markets like Phoenix where Zillow will be selling a lot of homes, likely with a priority on selling quickly vs extracting top dollar.

Background

Zillow entered the iBuying business in April 2018 (launched in Phoenix) with a home buying program called Zillow Offers in which they’d quickly purchase homes using their internal pricing algorithm (built off the Zestimates algorithm) directly from homeowners for cash. The incentive structure is simple: fast, cash, reliable, no list prep. In 2019 I wrote a column on iBuying and discussed the approach, pros, and cons.

Since 2018, Zillow Offers expanded to over 20 markets around the country (mostly in the south and out west) and bought tens of thousands of homes. Three weeks ago, Zillow announced it was freezing home buying through 2021 to focus on selling ~7,000 homes they had accumulated and last week an analyst at KeyBanc found that 2/3 are selling for less than their purchase price at an average discount of 4.5%.

Soon after these reports surfaced and hours after I wrote my article about it, Zillow announced they were shutting down their iBuying program completely (although they still have thousands of homes to sell).

Zillow vs iBuying Competitors

Zillow wasn’t the only one in the business of large scale iBuying. Opendoor and Offerpad both operate in this space with better margins and, at least for now, do not seem to be heading for the same fate as Zillow. Although, based on my reading of their earnings statements, they’re both operating at a loss, like many tech start-ups.

Even though Zillow has access to more resources and data, there are a few good reasons why Zillow has tapped out.

Setting the right offer price (high enough to buy homes at scale, low enough to make money) and forecasting the market 3-6 months out are critical to the success of an iBuying business. Zestimates, Zillow’s market valuation tool that drives these buying/forecasting decisions, was designed to attract and engage consumers, not to drive a massive home buying and selling business. Companies built around iBuying designed their pricing algorithms specifically for the purpose of maximizing margins in buying/selling real estate at scale.

Furthermore, Zillow needs to protect its core business from the high volatility of iBuying at scale ($1B in losses in 3.5 years). Zillow investors likely have less of an appetite for the risks associated with large scale iBuying, but the investors in iBuying focused businesses like Opendoor and Offerpad know exactly what they’re signing up for and are likely more willing to accept early losses. As a large publicly traded company, Zillow couldn’t just ask itself whether they could make it in iBuying, but whether the payoff in making it in the iBuying business was worth the risk of compromising its core business and brand. Clearly, Zillow leadership decided that it was not worth it.

Opendoor and Offerpad both have earnings calls scheduled for this Wednesday Nov 10 so it’ll be very interesting to see how their numbers compare to Zillow’s and what they have to say about Zillow’s exit from their business.

My Thoughts

Zillow’s foray into iBuying via Zillow Offers feels more like a lab experiment with tight guardrails than a genuine attempt to stand-up a lasting business. They’re well aware of their high margin of error predicting home sale prices via Zestimates for off-market sales (in other words, when they don’t get to tune the Zestimate based on a list price), disruptive market events are the norm not the exception, and every market is tremendously risky when buying and selling into short windows. All of these, and more, make iBuying an inherently risky business.

I doubt Zillow went into iBuying simply hoping to get lucky with market timing or that they under valued the risk associated with the business. So now that we’ve seen Zillow exit the business in less than four years instead of pause, recalibrate, and continue, my theory is that a large part of their reasoning for starting Zillow Offers was for the data and lessons learned. If they timed it right and their tech worked as hoped, it could have transformed their business (they projected the market could be worth $20B annually to them), but if it didn’t they walked away with incredible data they will certainly leverage for future ventures.

Zillow has clear intentions of growing from a search and marketing platform to becoming more integrated in the transaction (including title and mortgage) so this may ultimately be a small price to pay (~$1B in losses) towards finding the most profitable and scalable way to reach their goals. Even if it takes a few more $1B mistakes to figure it out, there’s too much return in disrupting the business of buying and selling real estate for Zillow to not keep investing in potentially disruptive ventures.

The next step for Zillow in their quest to be more integrated into the transaction is likely Power Buying whereby Zillow will buy the house you want, allow you to move in, sell your previous home, and then sell your new home back to you. It’s essentially a more involved bridge loan for people who need to sell a current home in order to buy their next home. This model is less risky and allows Zillow to profit off the transaction in multiple ways.

I’d love to hear other thoughts and theories about Zillow Offers and Zillow’s next ventures in the comments!

If you’d like to discuss buying, selling, investing, or renting, don’t hesitate to reach out to me at Eli@EliResidential.com.

Zillow’s Home Buying/Selling Issues

Question: Can you share your thoughts on the latest news about Zillow’s issues with their home buying program?

Answer: I don’t usually comment on real estate news, but the recent issues reported with Zillow’s home buying/selling program are interesting and worth discussing.

Catch Me Up

Zillow entered the i-Buying game in April 2018 (launched in Phoenix) with a home buying program called Zillow Offers in which they’d quickly purchase homes using their pricing algorithm (Zestimates) directly from homeowners for cash. The incentive structure is simple: fast, cash, reliable, no list prep. I wrote a column on this type of “i-Buying” in 2019 and discussed the approach, pros, and cons.

Since 2018, Zillow Offers has expanded to over 20 markets around the country (mostly in the south and out west) and bought thousands of homes (maybe tens of thousands, but I couldn’t find a good source). Two weeks ago, news broke that Zillow was freezing home buying through 2021 as they work to offload ~7,000 homes.

Yesterday, news broke that an analyst at KeyBanc, Edward Yruma, studied a sample of 650 homes Zillow is currently selling (about 20% of their total inventory) and found that 2/3 are selling for less than their purchase price at an average discount of 4.5%.

What Does it Mean for the Market?

Does this signal a falling/collapsing real estate market?

People, especially news outlets, love looking for signs of a market or business collapse and will certainly play-up this angle. However, I think it’s a lot of nothing at this point.

First, Zillow’s i-Buying program doesn’t represent the housing market, so I don’t buy that it’s an early indicator of a downturn. It’s a new technology-driven business model for buying and selling homes and even if you expect i-Buying to find long-term success, you expect bumps along the way as algorithms and processes evolve through different market cycles.

Zillow relies on its Zestimate home valuation algorithm to determine their offer price and they have a published median error rate of 6.9% for off-market sales, which is essentially what a Zillow Offers home purchase is. Zestimates is within 10% of the final sold price on an off-market deal just 63.8% of the time.

Their published, and more visible, 1.9% error rate for on-market sales is misleading because the Zestimate algorithm adjusts to asking prices and days on market data once a listing is posted, which brings Zestimate accuracy for on-market sales (majority of sales) much closer to the sold price.

Combine Zillow’s 6.9% error rate for off-market sales with the difficulty in tweaking their pricing algorithms in a rapidly appreciating market (they’ve had to adjust values higher on the fly for their offers to have a chance of being accepted) and it’s easy to understand how they ended up with too much inventory worth less than what they paid.

This isn’t a housing market issue, but growing pains of a new business model and technology.

What Does it Mean for Zillow?

Did Zillow reach too far from their core business and get itself in trouble?

Business Insider reported that if Zillow sold everything at the current list price in Phoenix (Zillow Offer’s second largest market), they’d lose about $6.3M. Let’s say they take even more losses on these homes and take similar losses in the rest of their markets, we’re probably looking at losses of ~$50M-$100M against a market cap of approximately $22B and ~$3.7B cash on hand as of today. Far from trouble and probably losses they’re willing to accept in return for the lessons learned/experience.

These losses are also offset by the financial gains Zillow gets in the other businesses they have that benefit from their home purchase/sale transactions. Zillow bought a mortgage company in 2018 and market their loans to buyers of their homes and likely convert quite a few home sellers via Zillow Offers into Zillow Home Loans borrowers on their next purchase. Zillow also has their own title and escrow business, Zillow Closings, a notably profitable business. The transaction activity also strengthens their very lucrative revenue stream from real estate agents who purchase leads from, and pay referral fees to, Zillow.

Not only is this news about underwater inventory unlikely to materially impact Zillow’s business, but it’s hard to even call it an embarrassing misstep at this point given the valuable information/lessons learned they likely picked up along the way.

Does Zillow Offers Operate Here?

Zillow Offers does not operate in the DC area, in fact, the closest market to us that they operate in is Raleigh NC. I believe we don’t see Zillow Offers here because our housing inventory is more diverse and older than most/all of their current markets.

A diverse housing supply makes it more difficult for algorithms to predict values compared to markets Zillow Offers operates in that have huge developments of homes with very similar inventory. An older housing supply is likely considered too risky for a hands-off buyer like Zillow making it hard for them to make competitive offers that account for the added risk factor.

Looking Forward

I’m very interested in when Zillow restarts their i-Buying program and if they make significant adjustments to the markets they operate in, their fee structure (fees are already high for homeowners), or process. There’s so much potential in i-Buying for a company like Zillow because of all the different ways they can create revenue/profits, even if they take some losses on the actual sale, that it’s hard to imagine they don’t come back better and stronger than before.

On the flip side, they could decide that i-Buying creates too much risk/distraction for their core business(es) and find revenue elsewhere, leaving i-Buying to companies that specialize in it like Opendoor.

If you’d like to discuss buying, selling, investing, or renting, don’t hesitate to reach out to me at Eli@EliResidential.com.

Data Suggests You’re Searching For a House Today

Question: I partied too hard last night and am nursing my hangover searching for homes online. Am I alone in my misery?

Answer: Congratulations, you are among the millions of Americans who choose to nurse their New Years Eve hangover by searching for homes online. In fact, New Years Day ranks among the top three most active days for people to search for a home online, along with July 6 and the weekend after Thanksgiving. Conversely, these tend to be some of the slowest days/weeks for showings and offers.

 

If you’re searching for homes today, chances are you’re using one of the Big ThreeZillow, Trulia, or Realtor (Yahoo Homes is ranked as third most traffic, but I’ve never heard of somebody using it and couldn’t find it online).

For years I told clients that these third-party sites were their best bet for search because our MLS failed to deliver a good client-side search experience compared to what was being offered by other sites. However, earlier this year MRIS went through a merger and rebranded to BRIGHT MLS and finally created a respectable client-side search portal that gives buyers access to more search fields, a much better user interface, and better collaboration tools with their Agent. A major advantage of searching through the MLS is you have real-time, accurate new listing alerts, status changes, and price reductions. 

Check out the short YouTube video (LINK) highlighting some of the new features and tools of the client portal.

I hope everybody had a great 2018 and wishing you all an even better 2019. Happy (online) house hunting to many of you today. If you’d like me to get you set-up with a BRIGHT MLS search portal send me an email to Eli@EliResidential.com and I’ll be happy to add you.

Question: How accurate and reliable are online home value estimates like Zestimates (Zillow) and Redfin Estimates? My neighbor used his Zestimate to determine the asking price of his home. Can I trust that number?

Answer: Online estimates, like Zestimates and Redfin Estimates, are similar to doing a Rough Order of Magnitude estimate on a project, meaning it’s a good way to quickly determine approximate value. I suggest that clients only trust Zestimates/Redfin Estimates within +/- 10 percent of the value it provides.

In fact, I think that it’s irresponsible for Zestimates and other online estimates to be listed so prominently on their respective sites without an obvious disclaimer (readers must click for a short disclaimer). The fact that it’s a single number, down to the dollar, not a range or rounded falsely suggests it is highly accurate.

Why It’s Wrong

Zestimates, Redfin Estimates and other online estimates rely on public information like square footage, lot size, number of bedrooms, year built, tax appraisal (inaccurate), etc. and past sales in the area, but have no way of knowing details that drive true market value like quality of lot, natural light exposure, curb appeal, and age of major systems like appliances, roof and windows.

These details are critical to determining the actual market value and cannot be priced in without a full inspection of the home and understanding of their influence on local sales. In fact, there’s currently a lawsuit filed against Zillow for inaccurate Zestimates.

Zillow Admits Inaccuracies, Worse In Arlington

Zillow itself acknowledges that its Zestimates are inaccurate, stating that it has a median error rate of 5 percent (I’m sure the average error rate is much higher), only 53.9 percent of estimates are within 5 percent of the sale price, and only 75.6 percent are within 10 percent of the sale price. These last two stats are probably median error rates, with even worse error rates if you look at averages.

Further, because they’re national stats, they benefit from the large number of communities around the country that are full of nearly identical homes. When housing inventory is homogenous and there’s little variation in pricing by neighborhood (common in much of the country, not in Arlington), it’s much easier for online estimates to be accurate. I’m sure that the margin of error in Arlington and Northern Virginia is worse than the national numbers.

Comparing Popular Online Estimates

Industry spends a lot of money developing these estimate tools, so let’s take a look at how some of the most popular sites for estimates compare to each other. I’ve chosen to compare estimates on a few randomly selected properties in different sub-markets from Zillow, Redfin, and REALTORS Property Resource (RPR, created by the National Association of REALTORS for agents).

Note: there’s less variation between estimates on properties recently sold (recent sale price factors heavily) and listed properties (asking price factors into estimate formulas). Estimates below are rounded to nearest $1,000.

Listed Properties:

  • Crystal City, condo: Zillow ($376,000), Redfin ($418,000), RPR ($395,000)
  • Fairlington/Shirlington, condo: Zillow ($384,000), Redfin ($429,000), RPR ($231,000)
  • Rosslyn-area, townhouse: Zillow ($957,000), Redfin ($818,000), RPR (unavailable)
  • Donaldson Run, single family home: Zillow ($1,063,000), Redfin ($1,175,000), RPR ($1,125,000)

Unlisted Property (no recent sale):

  • Lyon Village, single family home: Zillow ($3,465,000), Redfin ($1,821,000), RPR ($2,751,000)

How To Price Your Home

With unreliable estimates from online tools and limited or no access to data on sales from 12+ months, it’s difficult for homeowners or anybody without access to your home and historical data to accurately determine the market value of your home. I frequently start with sales dating back 5 years when I price a home in order to capture true market data and trends, as 6-12 months simply isn’t enough in most cases.

If you want historical data on comparable or neighborhood sales for your home or would like an opinion on the market value of your home, shoot me an email at Eli@EliResidential.com or give me a call at (703) 539-2529 and I’ll be happy to help.