Why Are Real Estate Companies with Zero Profit Being Valued at Billions?

wall st

$18.6 Million. $36.4 Million. $10.7 Million. Nope, those aren’t profit numbers, or even revenue. Those are the net losses sustained by Zillow, Redfin, and eXp, respectively, in the first quarter of 2018. And yet, those three companies combined are valued at over $3.3 BILLION dollars. How? Why? Why are these real estate companies receiving massive valuations when they are not even turning a profit?

In this new era of technology, the 4th industrial revolution, Wall Street is buying into the negative losses and placing bets on which real estate company will be able to “Amazon it”. These real estate companies are betting on themselves too, along with private equity firms, that they will be the next Amazon, except that there is only one Amazon. And only one, maybe two of these real estate companies are going to have explosive success, everyone else is going to lose.

On the other hand, Realogy, Remax, and Keller Williams Realty (if it were publicly traded) are valued at $3 Billion (Realogy) and $1.6 Billion (Remax), the difference is they are all highly profitable. But Wall Street continues to bet on eXp, Redfin, Open Door, etc. to be the ONE successful tech disrupter instead of betting on proven companies with positive cash flow. It blows my mind that companies can have such massive loses ($36.4 Million in one quarter!) and yet still be valued at over a billion dollars. And these aren’t just loses for one quarter, these loses are over several years and continue to increase year over year.

How can these companies sustain such loses and keep pushing forward? Why are they okay with such big loses in the first place? Well, venture capitalists and private equity firms are injecting money into those organizations (based on the hope that they will be one of the few successful tech disrupters). With these huge cash infusions, these real estate companies don’t actually have to figure out how to make money, it just shows up. They are not holding their money accountable. Sure, many of these companies are increasing their revenue, but they are also increasing their expenses, and thus their losses. Now, I’m not saying capital contributions aren’t helpful for fast growth. They can be a great way to hire more people and to build a stronger business foundation through systems and technology. But how much risk, how much loss is too much? Is there a smarter and more sustainable way to grow?

I think it should be noted that Warren Buffet got into the real estate game, but bought a profitable business; he didn’t invest into technology. He is looking for a cash on cash return while Wall Street and private equity is looking to make a fortune at each evaluation and round of investing. We’re seeing the largest growth in real estate right now, and venture capitalists are naturally hoping to capitalize on that. I’m not knocking their method; they are playing the game effectively. But what happens when the market shifts? What happens when Wall Street says enough? A shift in the economy could end the game. They will just loose more and more money. At some point it becomes unsustainable.

What we’re doing at Hergenrother Realty Group, and many other Expansion Teams are doing around the country, is quite similar to Redfin, eXp, and Compass. The biggest differences are that we are building these big companies within an existing real estate company that has proven systems and infrastructure, zero debt, and high profitability and we’re doing it at a slightly slower pace (to maintain said profit). We may not have these high valuations and capital injections, but we have profit. Other companies are not holding their money accountable. We are. Think of it from a personal perspective. When  you only have $100 to spend, you look closely at where even penny is going. When you have $100,000 in the bank, spending $20, $50, or $5 here and there doesn’t seem to make a difference… but it adds up. Quick. If you make $100K, but spend $150K, then you are worse off then if you made $50K and only spent $40k. It’s simple math.

If nothing else, it is a definitely an exciting time to be in real estate. The 4th Industrial Revolution is here and we’re just starting to scratch the surface of what that means for real estate and business in general. As challenging as it will be over the next few years, I wouldn’t want to be anywhere else. It’s those are that are hustling, that are grinding, that are in the arena, who will ultimate succeed when this all shakes out. I, for one, look forward to being part of history.

 

 

 

 

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