What is iBuying? Which is the stock to buy for the next 10 years?

What is iBuying?

An iBuyer is a company that buys your existing home and then (usually) resells it on the open market.

iBuying (instant Buying) companies such as Opendoor, Offerpad, Zillow Offers, RedfinNow, Knock, eXPI and over 20 others use online technology to estimate a home’s value and make an offer in one to two days. If the offer is accepted and the sales transaction closes, the iBuyer assumes the burden of owning, marketing, and reselling the home.

Opendoor provides a simple app to get estimates

Who is the customer?

The process of buying or selling a home takes 6-8 weeks from finding an agent, listing the property, preparing the home for sale, inspections, “showing” the home, confirming mortgage, getting escrow and finally closing.

The customer for iBuying is a home seller, frustrated with this lengthy process and would like to sell their home in less than a week or less, and get a good price for their home, quickly. This is so they can then buy another home that they may have already selected or just keep the cash.

Similarly the buyer of the home has to go through a lengthy process of selecting a broker, viewing homes, getting mortgage pre-approval, selecting a home, getting inspections done, and finally closing on a home (escrow, title, etc.)

Home Selling Process: 12 Steps You Should Know | HOMEiA
The home selling (and buying) process is long and cumbersome

What is the customer problem?

In an iBuying transaction, there is no need for the homeowner to hold open houses, consider multiple bids, or wait for a buyer to work out financing.

Simply sign up on any one of their websites/mobile app and you can get a cash offer. Sometimes you can expect that offer within 1-24 hours.

iBuyers make cash offers on “livable” houses That are supposedly close to the actual market value of the house.

The owner selects the closing date, which can be as soon as a week after signing the iBuyer contract. It also offers advantages to consumers who want to sell their existing home and purchase a newly built one in a single transaction and wait to move out until their new home is completed.

How big is the market?

In the US there are 5.3 Million (new and existing) homes sold and bought each year. That represents a $1.4 Trillion market. The commissions paid to realtors alone is $150 Billion. The closing and escrow is another $30 Billion market. The US mortgage (refinancing included) is a $4.5 Trillion market.

iBuyers represent a small part of the market in 2019 and 2020

What are the pros and cons of iBuying?

Pros of Selling to an iBuyer

Quick close on a day of your choosing – instead of waiting for many weeks.

No showings (except inspectors) – saves time and hassle.

Buy your next home without a contingency – this means you can buy another home without having to wait to sell your current home.

Better than selling to a flipper – Flippers tend to undervalue the price of a home, “fix” it and “flip” it for a large profit.

Cons of Selling to an iBuyer

Less than full fair market value – iBuying can pay you less than if you use a realtor.

High fees – Realtor commissions and closing costs tend to be 6% whereas iBuying charges 8-10%.

Not so “guaranteed” offer – some offers are withdrawn if the iBuying firm finds the home to be in less than acceptable condition.

Few homes/markets qualify – Of the homes in the US the estimate is < 15% qualify for iBuying

How do iBuying companies make money?

iBuying is a low margin, high volume business. The companies make money in 2 ways:

  1. Service fees
  2. Price appreciation of the home
iBuyers make money with fees and home price appreciation because of the fixes they peform

E.g. If a home is priced at $250,000, the iBuying company charges $25K (10%) as their service fee (for the entire process, cleaning, title, escrow) and then will “upgrade” your home by making cosmetic changes and sell it for $260,000.

In this example they make $25K in fees and $10K in appreciation.

If you look at this unit economics for e.g. (below) and assume an average 11% just in service fees, their margin is about 4%.

If you look at “agent commission” – that is the area to improve for iBuyers. Margin can get to 6-7%

Who are the key companies in this iBuying space?

There are over 20 companies in various markets, but the leader is Opendoor, followed by Zillow Offers and Offerpad.

Opendoor is the leader, but Zillow is catching up fast

Is iBuying available everywhere?

No, Opendoor is in 21 “markets” or cities, Zillow in 25. Redfin in 5, eXPI in 7 and Offerpad in 5. Rest are in under 5 markets.

The market needs to have enough inventory, sufficient transactions and resonsably priced homes
iBuying will likely remain a US phenomenon for decades

Will every home be sold with iBuyers in 20-30 years? Is this a long term trend?

Currently the iBuyers are in the top 25-50 markets as the chart shows below. There are a total of 250+ markets in the US. So the penetration by the iBuyers is relatively small.

The sweet spot for iBuyers seems to be the $250K (+/- 20%) price point for the home, which is the median US home price, representing about 42% of all US homes. This means iBuyers will likely only be (for the next decade) in the top 50-60 markets.

Markets where iBuyers operate
Markets where iBuyers operate

Open door intends to operate in 50 markets by 2025.

The 50 markets where Opendoor intends to operate

Who is iBuying disrupting? Is the real estate agent in trouble?

In 2020 and for the next few years the easy 25K “home flippers”, in the US, i.e. people who buy a home, do minor fixes (paint, clean, etc.) and then flip (sell it) are the ones that are feeling the pressure from iBuyers. The heavy-lifting flippers (who buy run down properties and rebuild) are not going to care about the iBuyers since those run-down homes are not the target for iBuyers.

There are between 1.5 to 2 Million registered real estate brokers in the US. Of those < 200K do more than 2 transactions a year. The others are “casual realtors”.

How Many Real Estate Agents Are There Globally? - FBW
In 2020 there were over 1.4 Million real estate brokers in the US

Over time, with volume, iBuying will disrupt the long tail of realtors, and also reduce the fees for real estate brokers.

What about regulation?

The existing real estate brokerages (there are over 104K in the US) and many real estate brokers are threatened by the iBuying phenomenon. This is because it cuts into their commissions (which have been 6% of the home price forever) and know that iBuying companies might eventually cut them out of the transaction.

Sellers beware - Why America's real-estate brokers are such a rip-off | United  States | The Economist
Real Estate Broker commissions across the world

In terms of regulation, there are no proposed laws against iBuyers in any states yet.

Many brokers, mortgage companies and escrow firms think iBuying will continue to be a small part of the business overall. For e.g. after 25 years of ecommerce, it is still < 10% of all retail in the US. However, ecommerce has disrupted many brick and mortar retail companies.

It is very likely that iBuying will do the same to traditional real estate brokerages.

Do iBuyers offer the best price? If not, why are people still choosing iBuyers?

Not always. If a buyer values time over the best price they will choose iBuying. If not, the traditional process might yield a better price.

An analysis of 1000 iBuying transactions showed that that iBuyers offer between 90% – 95% of the current value of the home.

How big is iBuying now? How big will it get?

iBuying is very small as a segment (< 2% of homes sold in the US are bought / sold by iBuyers), but it is growing fast.

iBuying is expected to have large growth

The market slowed in 2020 (thanks to Covid) but with a) millennials looking to buy homes in the suburbs, b) remote working being acceptable now, and c) low interest rates, iBuying will see dramatic growth from 2020 – 2030.

It is anticipated that iBuying will be 3%-5% (currently < 2%) of all homes bought and sold by 2025 and 5% – 10% by 2030.

At 5% in 2025, the total transactions (homes bought) by iBuyers will be 265,000 homes (60K in 2019) in the US and the transaction volume will be $66B (4.4X 2020 of $15B). The implied revenue to iBuyers is $8B – $10B.

Transaction volumes have increased exponentially over the last few years

In some of the mature markets (e.g. Phoenix), iBuying is already over 15% of transactions.

What is a “Market” according to the iBuying companies?

According to the National Association of Realtors, each MSA (Metropolitan Statistical Area) or County in the US is a market. There are 256 markets in the US.

You might hear realtors refer to “buyers market”, “sellers market” or “balanced market”. The term market in iBuying is a location (city, county, MSA) where there is enough inventory of homes to buy and sell.

Top iBuying markets of 2020

How do iBuying companies finance their home purchases?

All companies have lines of credit, or have raised billions in debt. In 2018 alone Opendoor raised $1.3 Billion and have over $3B in 2020.

This chart is as of 2018

What is the competitive differentiation between these companies?

The differentiation comes from having more data about the market, buying homes at the “right price”, selling them “quickly” and automating the operations to reduce unnecessary costs.

Opendoor is the pioneer in the space and has done the most transactions. So they have a lot of data about the home and use ML/AI to price homes based on multiple photos and images of the home.

Zillow is the leader in real estate technology and has data for pricing on over 100 Million units in the US.

Redfin has the most “in house agents” to get potential customers interested so they are using that to their advantage.

Which stock should I buy?

Ticker2020 Rev (TTM)2020 iBuying Tx*Mcap# MarketsExpected Rev (2025) from iBuying
OPEN~$3B – $4B~20K – $22K$4.8B*15$50B
ZG$4B~6K – 7K$30B22$40B
RDFN$900M~ 1.5K – 2K$7B7$15B
EXPI$1.5B< 500$4.6B5$10B
OPEN will list by Dec 2020 or Jan 2021. This is the expected valuation

The 2020 iBuying Transactions (# of homes) is obtained from their projections, so subject to changes.

The 2025 expected revenue is disclosed in their conference calls with analysts and is a “likely number”.

Who is Opendoor? Why are they going public?

Opendoor was founded by Eric Wu (ex Trulia – sold to Zillow), Keith Rabois and JD Ross in 2014. After multiple rounds of funding from Softbank and General Atlantic, it last raised $300M in 2019 valuing the company at $3.8B.

In Sep 2020, Opendoor announced it would go public by merging with Social Capital Hedosophia Holdings Co (IPOB), a company launched by Chamath P of Facebook.

The deal valued Opendoor at $4.8B.

Opendoor has strong history and metrics in the space to be a leader

What is Opendoor’s moat or unique value proposition?

Given that the business is simple to understand but difficult to execute, any company that has to succeed will have to get these 3 important things right:

  1. Buy at the right price. Not too low that the homeowner would prefer to sell it via a real estate agent and not too high that that cant make an appreciation, given that fees are difficult to raise.
  2. Assess the conditions of the market and neighborhood well to ensure they dont “buy and hold” properties that required a lot of upgrades or markets where inventory moves slowly.
  3. Optimize operations to reduce the costs – the big cost is realtor fees at 3%.
Algorithms and large data sets (with network effects) power Opendoor

Opendoor collects a lot of data about a company by doing “feature inspection and data recording. This in turn generates better estimates and better data to price intelligently. The new data in a market helps make the next purchase better.

Zillow has more data on US homes than any of these companies, so I would be very bullish in their ability to leverage their proprietary data and be the #1 or #2 in this market quickly

Given that Redfin chose to partner with Opendoor, I see this as a 2 horse race – Zillow (which might acquire others in specific markets) vs. Opendoor + Redfin combined.

What is vertical integration in real estate? Why is that important?

If you look at the process of buying and selling homes, there are multiple steps. iBuyers eventually want to own the entire process end-to-end. This is called vertical integration. It gives the iBuying companies bigger markets to grow into.

For example iBuyers can:

  1. Help you select a home from their inventory – eliminating broker fees
  2. Provide inspections and get pre approval – lower inspection fees
  3. Obtain mortgage – make money on mortgage referrals
  4. Provide escrow and closing – lower escrow fees
  5. Help with upgrades, repair and maintenance – increase revenue potential
The Home Buying Process - Atlanta Ben
Home buying process for vertical integration

The reason this is important is because each of the markets in the process is large.

  1. Real estate commissions $150B market
  2. US residential real estate mortgages: $4.5 Trillion
  3. Escrow and closing: $25B
  4. Home setup, showing and preparation $10B
  5. Home insurance, title insurance, etc. $25B

Resources and Links for more reading

  1. https://www.theceshop.com/sites/default/files/block_image/eBooks/iBuying-Ebook.pdf
  2. https://www.nar.realtor/sites/default/files/documents/BE-Pinehurst-iBuyers-The-Good-The-Bad-The-Ugly-BLublin.pdf
  3. https://www2.deloitte.com/content/dam/Deloitte/us/Documents/finance/us-in-focus-usell-ibuy.pdf
  4. http://floridarealtors.geniecast.com/wp-content/uploads/sites/7/2020/08/Lublin-Bill-CE-Class-Text-iBuyers-The-Good-The-Bad-And-The-Ugly.pdf
  5. https://dynamix-cdn.s3.amazonaws.com/metrobrokerscom/metrobrokerscom_194552090.pdf
  6. https://www.collateralanalytics.com/wp-content/uploads/2019/08/CA-RESEARCH-iBuyers-A-new-choice-for-home-sellers-but-at-what-cost.pdf
  7. http://reia.asn.au/wp-content/uploads/2019/05/22-May-2019-iBuying-is-coming-to-real-estate-but-not-through-REA-Group-or-Domain.pdf
  8. https://assets.empirefinancialresearch.com/uploads/2019/05/Zillow-slide-presentation-Edion-Hysi-4-22-19-1.pdf
  9. https://1zubki95x8hev77r4cdd9314-wpengine.netdna-ssl.com/wp-content/uploads/2020/08/edge082420.pdf
  10. https://www.opendoor.com/w/wp-content/uploads/2020/09/Opendoor-Overview_vPDF_02.pdf
  11. https://cdn.expworldholdings.com/wp-content/uploads/sites/2257/2020/12/Investor-Deck-Dec-2-Edit-Uploaded-to-Site-4pm-PT.pdf
  12. https://www.slideshare.net/MikeDelPrete/the-2020-ibuyer-report-preview