Zillow is offloading 7,000 homes, laying off a quarter of its staff, and taking huge losses. But why do we care?
Zillow is dumping 7,000 homes at a discount
Today, let’s talk about Zillow. Let’s look at what this pause in their iBuyer program means for us here in the East Bay and the effects of offloading all these properties at a discount. But before anything else, here is a little bit of context for those who are unfamiliar with the situation. Zillow had an iBuyer program for about three years, and they just hit pause on it. Now, they’re reportedly going to offload nearly 7,000 homes. Many of which they’re going to list well below what they originally paid for them through the iBuyer program. In addition, they hired around 2,000 employees, supposedly to help blow this side of their business up. However, those people are probably getting laid off soon if they have not already been.
So why should we care about all these? Well, simply put, there are a couple of things.
All the talk about Zillow trying to manipulate the market
First and foremost, there’s all this talk about Zillow trying to manipulate the market. As you may know, real estate values are determined based on comparables. This means that you look at homes in the neighborhood that have recently sold. However, the homes should be of similar size, bed-bath count, and quality to get a basis for value. In other words, you’re looking at dollar-per-square-foot—what your house is worth based on what your neighbor sold.
But, you might wonder, what does this have to do with Zillow trying to manipulate the market? Well, suppose they just kept paying more and more and more in a given neighborhood. In that case, an argument could be made that they were trying to raise the value of the neighborhood. Then, as a result, the comps get driven higher to sell at a higher and more profitable price. However, frankly, this doesn’t seem feasible at all. It’s because, even though they were buying so many houses, they were only like 5% of a given market. Therefore, it doesn’t feel like that percentage was enough to drive the market up actively. That happening is very unlikely, even if it’s in some of these very dense neighborhoods where they were buying.
People are still not taking what Zillow and other iBuyer companies are offering.
However, there is still something to be learned from this entire situation. It shows that Zillow still has to compete, whether with other buyers, other iBuyer institutions, or just against sellers’ expectations. Keep in mind that we are ultimately in a seller’s market. Over the last 18−24 months, we’ve seen home values rise. Hence, their equity has grown substantially. And most of the time, people are unwilling to walk away from substantial amounts of money. This is especially true if it’s their primary asset, as it is for many people. Therefore, even if they were going to Zillow, they weren’t willing to take a substantial haircut to do all of that. That is despite an iBuyer program like Zillow’s, guaranteeing a faster process.
By the way, iBuyer offers home sellers the option of not having to stage, move out, do open houses, and all that stuff. I did a video specifically about iBuyer earlier this year, I’ll link it up here so you can check it out if you want. But ultimately, that convenience and that streamlined process still weren’t enough for people to get the haircut. It still wasn’t enough to fulfill the criteria that one would need to flip a home profitably.
iBuyer companies have a narrow profit margin but are paying more.
On a similar note, the other leading iBuyer company, called Open Door, runs on roughly a 5% profit margin. That is too skinny of a margin, I’d say. If you talk to any flipper, money lender, or anybody in the industry, they’d probably tell you the same thing. That is really very little for a profit margin in the real estate industry. There’s not enough margin for error or enough in it to absorb or cushion things if something terrible happens. Also, with such a narrow margin, you could very, very quickly go underwater. You should at least be looking for a minimum of 10% return on the cash you’re putting into a deal. For example, suppose some unexpected repairs occur, and it takes you an extra month or two to finish. This scenario would be really problematic if you only had a 5% profit margin. But with the 10% return, you can absorb all those unexpected expenses and still make a decent amount of money. And that right there is the game. So if you’re looking at buying a home, generally speaking, you want to buy it for $0.70 on the dollar.
However, because Zillow was buying, buying, buying, buying, they were clearly paying way more than 70 cents on the dollar. They are probably paying closer to market value since they now list many of these homes below what they bought them for. And that purchase that they were making wasn’t adequate for their strategy.
So what does that all mean for us?
1. Finding the answers to “What happens if I overpay?”
Something I always hear from buyers is “What happens if I overpay?” My immediate response to this is, “What are you trying to do with the property?”
What is your ultimate goal? Are you trying to live there for 10 or 20 years? Are you going to raise a family, make memories, and have a wonderful place to live on a great block? If your answer to those last two questions is both yes, then who cares if you “overpay” today, right? I mean, you want to stay, obviously, within some level of reason. But, you also want to make sure that it’s meeting your needs.
By doing that, paying a bit more today to have it for the next 10 or 20 years may not matter in the end.
2. If you’re flipping a home, you need to know your numbers.
However, it’s another story if you’re like Zillow, trying to turn that house over in 30, 60, or 90 days, or even just a couple of years. If that’s your goal, then you at least need to know what your numbers look like.
So, here’s an anecdote just to give you some idea. For those who don’t know, I have some experience flipping homes. I’ve done a handful of out-of-state rental properties. Also, I’ve helped my clients essentially do light renovations and flip their homes when we go and list them. Thus, I am very tuned into the short-term numbers here. And in general, you want to make sure that for every dollar you’re putting in, you get $2–$5 out. That’s pretty simple math. In addition, you also need to think about the opportunity cost and all that other stuff. However, that’s not necessarily the main point of this blog.
My point is, you should know your reason for going in when you’re trying to buy a home. Zillow stated that they wanted to turn these houses over, then make a profit. But that whole process would require holding costs before they could start making a profit. Moreover, that would also require renovation costs, the acquisition, and then, of course, the sale on the back end. That’s a lot of expenses, I’d say. And if you’re not careful, these costs could really start to eat up your profit margin.
And clearly, it’s no longer profitable where Zillow is in this process. They’re going to lose money on a lot of this stuff, so they’re going to dump it. Therefore, it would be really beneficial to know your numbers and intentions before going in.
3. Removing chunks of inventory can increase competition and prices.
But on a broader scale, this next one is something that I find very interesting, especially in the markets they were buying heavily in. In case you’re wondering, the houses they’re dumping will not go back immediately on the market or into the MLS. Instead, those houses are going to go to institutional investors. Therefore, that inventory has effectively been completely removed from the average owner and buyer in the marketplace. Thus, when you remove those huge chunks of homes, what it actually does is create less inventory. Hence, more competition, especially in some of these local markets. In addition, this could also potentially increase prices even further. So, it will be really interesting to see what happens on those local levels and then how that permeates out at a larger level over the next 3 or 6 to 12 months or so.
4. You want to see who is buying in your market and where the buyers are coming from.
Admittedly, our market hasn’t experienced the level of iBuyer and institutional activity that some other markets have. However, an important stat you may want to pay attention to and see is who is buying in your market. Where do our buyers come from? In the case of our market, generally, it’s people coming from the Peninsula or San Francisco. It has been like this for, like, 18 months or more, and it has driven up a lot of prices.
Now, I can’t emphasize enough how important it is to know who’s actually buying in your market. Of course, that includes where that inventory is going and what those buyers are doing with it. Especially at a micro level, or at least single-family real estate, condos, or what have you. That’s because, ultimately, that is how you value real estate—you look at comps and at what’s happening around you.
For example, consider a neighborhood that has a lot of flips. That means that many people buy dilapidated houses and then fix or flip them within, say, six months. Next, consider a more established community with a great school district and where people don’t generally sell every two years. Instead, they sell it, say, every 10 or 20 years. Now, if you take the valuation on each neighborhood, you’ll get two entirely different results. And that’s due to the different comps in those two neighborhoods. Therefore, knowing the competition and what’s going on in your neighborhood is absolutely critical.
5. You have to pay attention to what your goal is for buying the property.
Lastly, the most important thing to pay attention to, frankly, is to determine what your goal is with it. I know I’ve mentioned this in basically every advice video or blog I’ve ever done. However, I can’t emphasize enough how critical that is.
When you’re looking at making a play in real estate, whether you’re buying, selling, or investing, you need to know your why. What are you trying to accomplish, especially at some of the luxury price points that we’re talking about? And frankly, this county is a luxury price point unto itself. But when you’re talking about spending this much money, you need to be very clear on what it gets you. You have to be aware of what you’re buying with it and what you’re giving up for it. Give yourself time to think about what it’s doing to you in the long term, short term, etc. In short, get clear on your goals.
Really think about what you want. And not just the superficial, obvious things like having three bedrooms and two bathrooms. But why do you want that? What will it do for you, your family, your loved ones, or yourself? Be 100% clear on that aspect. Learn from the blunders of Zillow. Because Zillow, while they were clear on why they wanted it, some of the people who were making these acquisitions were not clear on how to actually make that happen. They were paying too much, and now they’re getting burned. They couldn’t put those two things together, and as a result, they are now in the position of offloading these properties at a loss.
Conclusion
So the takeaway here is, don’t be like Zillow. Unlike them, get clear on what you want and think about your timeline. Suppose you are going to do something more short-term. That means doing something around 2, 3, or 4 years, or something short. In that case, look at your numbers before you actually pull the trigger.
On the other hand, if you’re going to be there for a lot longer, remember that the added cost of the acquisition is spread out over a long period of time. So, if you look at it from that perspective, it becomes not that significant or won’t matter at all. As a matter of fact, it only matters when you actually go to sell the property. And that’s when you actually take the loss in reality versus on paper.
I hope my blog "Zillow is dumping 7,000 homes at a discount" has helped you.
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