Analyzing Purplebricks' FY18 Results

Earlier this month, Purplebricks announced its full-year financial results for 2018, with revenues doubling to £93.7 million.

Why it matters: This is the first public glimpse into Purplebricks' U.S. launch, and across the entire group, there are a number of key takeaways:

  • The U.K. business is materially profitable.
  • The U.S. launch is very expensive, and tracking behind Australia in key metrics from the first eight months.
  • Marketing ROI in the U.K. is flat.

Coverage of Purplebricks

The media and the overall industry's response to Purplebricks' really grinds my gears.

The headlines are all negative, and revolve around "mounting losses" at the business. Some alternate -- and just-as-true -- headline suggestions:

  • Revenues double (again) at Purplebricks
  • Purplebricks' international expansion makes gains
  • Purplebricks maintains steady growth and profitability in the U.K.
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But none of these are as sensational -- nor do they play into the existing narrative -- of mounting losses for a doomed business.

Then you have the inevitable "the sky is falling" comment from the investment bank Jefferies, whose singular achievement has been being consistently and definitively wrong on the sector for the past three years (if you invested money on their recommendation you would have lost 88%). It's alarming that they still have enough credibility to be the go-to quotable source for these matters.

The narrative of "mounting losses"

What's most surprising about the "mounting losses" narrative is that it is unsurprising. Purplebricks recently raised £100 million from Axel Springer. The value of £1 sitting in the bank is exactly £1. Wouldn't you expect Purplebricks to spend it instead?

And like all growing businesses (the financial markets still like growth, right?), you need to spend today to make money tomorrow. The majority of growth-stage businesses are in the same boat -- which is exactly why they are raising money and spending it.

When you spend money today in an effort to grow your business, it's called investment. It's "losing money" in the same sense that you are "losing flour" when you bake bread. It's not about "mounting losses" in your flour reserves; it's about what you can make with that flour.

Materially profitable in the U.K.

Now on to the analysis! The first and most important takeaway from the results is that the U.K. business is materially profitable. The model works, it makes money, and -- at scale -- is profitable.

Whether you look at operating profit (£4.2 million), adjusted EBITDA (£8.1 million), or my preferred EBITDA with stock-based compensation added back in (£5.7 million), the business is finally generated profits after years of investment.

 
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The U.S. launch takes shape

The big question on everyone's mind is how the U.S. launch is tracking. Based on the numbers reported in its full-year results, Purplebricks USA generated $2.6 million in revenue from around 580 listings.

 
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That comes out to a hefty cost per listing of around $21,000 (compared to around $400 per listing in the U.K.). To put that in context: it's still early days so that number should be high, and, wow, that number is pretty high.

Comparing the first eight months in a new market: Australia vs. the U.S.

What I find most interesting is a direct comparison of Purplebricks' first eight months in Australia and the U.S. It's clear that Purplebricks is going big in the U.S., spending more than double what it spent for its Australian debut.

 
 

But the increased spend isn't yielding results (yet). Despite the massive spend, revenues in the U.S. are still small, with a return on investment about 1/4 of that in Australia. Remember: this is a direct comparison of the first eight months in a new market.

You're probably wondering why. It's a complex situation, but for starters Purplebricks may have launched in the wrong U.S. markets, as I've written about previously.

A few other points to note when comparing launch markets:

  • The price points are about the same: $3,200 in the U.S. compared to $3,300 USD in Australia at launch.
  • The first eight months in Australia yielded around 1,050 listings, compared to around 580 in the U.S.

One factor that's really driving costs in the U.S. is the sales and marketing spend, which is expensive in the launch markets of Los Angeles and New York City. Compared with its Australian launch, Purplebricks is spending more than double.

 
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Marketing ROI flat in the U.K.

One impressive aspect of the Purplebricks operation is its marketing efficiency. I've always been interested in the customer acquisition costs, as it's a critical KPI for the online agency model.

As we can see, the cost per instruction (CPI) has improved slightly from last year, but is relatively flat. (My chart is on the left, with Purplebricks' own chart on the right.)

A more granular view of the overall marketing ROI (revenue / sales and marketing) shows an overall improvement, but with a recent dip.

 
 

This is no cause for alarm. Marketing ROI is still positive and a number of factors may be at play here, including the overall housing market in the U.K. But the data does show a change from what we've seen in the past. Keep an eye on this.

Purplebricks expands to Canada in a big way

Last week, Purplebricks announced that it had acquired DuProprio/ComFree, the leading fixed-fee and for-sale-by-owner business in Canada, for £29.3 million.

Why it matters: This is a great deal for Purplebricks and further strengthens its position as the online agency leader with global ambitions.

Disclaimer: I played a small but important part in this deal, and in the past I have done strategy work with DuProprio. All information in this update is in the public domain (and sourced), and the opinions are my own.

Deal background

If you're looking at the leaders that are changing the way consumers buy and sell houses, two of the biggest global names are Purplebricks and DuProprio.

DuProprio/ComFree is one of the most successful real estate companies no one has ever heard of. I've written about the business in past. Why is it a big deal? With a model similar to Purplebricks, it lists over 40,000 properties each year (about the same number as Purplebricks last year), generates over $40 million (Canadian) in revenues, and has over 20 percent market share in Quebec (by comparison, Purplebricks has around 5 percent market share in the U.K.).

This deal represents two global leaders combining forces under one banner, and an excellent market entry into Canada for Purplebricks.

A big boost for Purplebricks

This acquisition is a big deal for Purplebricks. From a revenue standpoint, Canada immediately becomes Purplebricks' second-largest market.

 
 

That's a 25% bump in revenue from just one deal. And what a deal it was.

Deal of the year?

Purplebricks acquired DuProprio for a steal. Let me illustrate by looking at the relative enterprise value (EV) of each business compared to their revenues (source).

 
 

This is huge. The financial markets are valuing the Purplebricks business at a ratio ten times higher than the implied value of DuProprio.

In other words, when Purplebricks spent £29.3 million to acquire DuProprio, it instantly created nearly £240 million in value to shareholders (£23 million in revenues valued at Purplebricks' revenue multiple).

The big question is why DuProprio was valued so low. It was acquired by the Canadian Yellow Pages in 2015 for $50 million Canadian, and sold in 2018 for $51 million Canadian. This quote provides our only clue:

"As we continue to streamline and focus our operations, we believe the divestiture of [DuProprio/ComFree] is another very positive step for Yellow Pages and our stakeholders. Under the terms of our senior secured notes, the cash proceeds will be included in the next scheduled note redemption payment, on November 30, 2018" said the Company's Chief Executive Officer, David A. Eckert. 

DuProprio's revenues in 2014 were around $40 million Canadian (source), and Purplebricks' guidance is for around $43 million Canadian in revenues for its next financial year. So while the business has not gone backwards under Yellow Pages, growth has been muted.

Build vs. Buy

The question of build vs. buy is always top of mind when a business looks to enter a new market. Does it spend big money to launch an operation from scratch, or simply acquire an existing player?

Including Canada, Purplebricks has now entered three new markets. In the case of Australia and the U.S., it started from scratch, spending big to build market share over a number of months and years.

 
 

Based on its full-year financial results, Purplebricks spent £17.8 million to generate £2 million in revenue in the U.S. Those are expensive -- but not surprising -- start-up costs for a big new market.

Over the past 20 months in Australia, Purplebricks has spent £26 million to generate £17 million in revenues. It's taken a long time and a big investment, but that business is finally approaching breakeven.

By comparison, Purplebricks spent £29.3 million for £23 million in revenues in Canada, a materially better ROI, that took no time at all. And keep in mind that's a one-time expense; the revenues keep on coming year after year.

It's not every day an opportunity like this comes up. But given the chance, buying its way into Canada was a smart move for Purplebricks.

Strategic implications

A few key takeaways stand out from this deal:

  • Global by design. International expansion is a unique and key tenet of Purplebricks' strategy. No other company in this space (Opendoor, Redfin, Compass, Emoov, Yopa, and dozens of others) has expanded beyond one market. Purplebricks is now in four.
  • A great deal. This was a good use of capital and has manifested in a new, valuable asset for Purplebricks. Good deals like this exist in the space; you just have to know where to look.
  • Canadian growth potential. With new (and arguably better capitalized) ownership, DuProprio/ComFree is primed for growth, with Purplebricks ready to invest £15 million further into the business.

Traditional agents wade into instant offers

A Keller Williams team in Phoenix recently launched OfferDepot, an instant offer play, to "help with all the confusion with cash offers vs bringing your home to market."

Why it matters: This is the first move from a traditional real estate company into the instant offers space.

Welcome, incumbents. Seriously.

The idea that traditional real estate incumbents would enter into the iBuyer's instant offers party isn't new. Back in February, I wrote:

"...the more successful Opendoor becomes, the more of a threat they become to industry incumbents, which forces them to respond. The most logical response from a major player such as Realogy or Keller Williams would be to launch their own iBuyer program."

This isn't a top-down corporate initiative on the part of Keller Williams. Rather, this is a local team reacting to the rising interest in iBuyers and pushing to stay relevant.

The Keller Williams team isn't buying houses directly. It is collecting inbound leads from potential sellers, gathering information on the home, receiving instant offers on their behalf, and presenting everything back to the home owner (including an option to list the home on the open market) in a comparative analysis.

Why now?

We can speculate as to the reasons this Keller Williams team decoded to jump in to the fray:

  • It doesn't want to miss the boat. Whether it's Opendoor raising another $325 million or Zillow jumping in with both feet, interest in the space has never been stronger. Traditional real estate agents -- and Keller Williams  -- are in the business of selling homes. Why would they let this new model pass them by? Doing nothing is not an option.
  • A one-stop-shop. It's relatively easy for traditional agents to bolt on an instant offer service, thereby turning them into a one-stop-shop for home sellers (and negating the need to contact an iBuyer like Opendoor or Offerpad).
  • Seller leads are super valuable. This is another form of lead generation for traditional agents, with each request representing a likely customer.

Implications for iBuyers

In my previous analysis, I summed up the major implications of incumbents entering the instant offer space. The first deals with the user experience:

"Make no mistake, the offer and the experience from the incumbent is going to be bad. They’re simply not set up to provide the same quality of service as Opendoor."

The online experience isn't great. In a design reminiscent of the mid- to late-90's, users must struggle through a form to submit their home's information. It's a far cry from the premium experience Opendoor strives to offer its customers through the entire process.

But it works. It does what it needs to and collects leads. And it is this dilutive effect that is the biggest implication to dedicated iBuyers like Opendoor. As I wrote in that same analysis:

"The proposition from the incumbents will be poor, but it will be enough to soak up a portion of the demand in the market and take momentum away from Opendoor and other iBuyers."

It's simple economics. If we assume the demand remains constant, the addition of supply will dilute the amount of business any one iBuyer receives.

There will also be more customer confusion as incumbents get into the game. When Opendoor was the only option in town, it was simple. But now there are a variety of choices: multiple dedicated iBuyers (Opendoor, Offerpad), a popular web portal (Zillow), a tech-enabled brokerage (Redfin Now), and a traditional real estate agent (OfferDepot). What's the difference? Who do I trust? It's difficult to explain the various propositions to consumers.

At the end of the day, that's good for traditional brokers and agents (as they can soak up additional demand), and bad for dedicated iBuyers (because of the dilutive effect and customer confusion).

Where to from here

This is just the start! Expect a lot more activity in this space by the incumbents. It's only a matter of time before a big incumbent launches a well-funded, well-designed initiative. And it may not stop at just presenting offers on an iBuyer's behalf...

Online agents consolidate in the U.K.

Two of the top runner-up online agencies in the U.K., Emoov and Tepilo, recently merged their businesses in an effort to grow market share and more effectively compete with leader Purplebricks.

Why it matters: This is the first major online agency consolidation, a natural result of unsustainable unit economics at low volumes.

Winner take most; followers fight for relevancy 

As I've highlighted in the past, the online agency sector in the U.K. is a "winner take most" market. Purplebricks, the leader, has 70%+ market share of the online agent segment.

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The online agency business model only works at scale. A key hallmark of the model are low fees combined with centralized and specialized operations that process listings at an exponentially higher rate than traditional agents.

Purplebricks is profitable in the U.K.; the others are not. The unit economics are favorable at scale (thousands of listings per month), but anything less is a money-losing endeavor. Given this, industry consolidation is a natural outcome.

Runner-up spot up for grabs

As in my last analysis, using updated new listing data from Rightmove shows two clear trends:

  • The #2 spot behind Purplebricks is very much up for grabs. The combined Emoov+Tepilo entity is neck-and-neck with Yopa (in terms of new listings per month).
  • Yopa is seeing sustained, strong growth, nearly doubling its business since January.
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Purplebricks is still the undisputed leader, with 5.9 times the new listings of Yopa and 7.6 times the new listings of Emoov+Tepilo for the month of May. 

It's also worth noting that Yopa is seeing strong growth since its capital raise last year. One can imagine that the business is spending big to acquire new customers, so it is unlikely to be sustainable or profitable. But it is growth nonetheless.

Total market share of the top 5 online agents is down slightly to 5.4 percent (based on new listings) in May. Post-merger, I would expect increased activity from Emoov+Tepilo that grows overall market share.

Strategic implications

This deal raises several important considerations in the online agency space:

  • Expect more industry consolidation, and for the slower horses to eventually drop out. The math is simple; the model doesn't work at low volumes.
  • Pay now vs. pay later. When considering the relative traction of Purplebricks vs. Yopa, Emoov, and Tepilo, keep in mind that all of the Purplebricks customers are committing to paying upfront; Yopa and the others offer options to defer payment until after a successful sale. In that sense, it's less surprising that Yopa is seeing such strong growth (no risk for new customers).
  • Two brands or one? Emoov has announced that it will retain both the Emoov and Tepilo brand. This may not allow the combined entity to realize the full synergy of consolidation, but we'll have to see.

Purplebricks targets mid-market America (finally)

Purplebricks launches in Phoenix and Las Vegas this week. This is on the back of its previous launches in Southern California and the New York metro area, and is the latest step in its U.S. expansion.

Why it matters: This is Purplebricks' first foray into mid-market America, the true sweet spot of its business model.

Picking the right target market

Purplebricks’ U.S. launch strategy is markedly different in terms of target markets. In the U.K. and Australia, evidence shows that the typical Purplebricks customer is at the mid-end of the market. However, the U.S. launch targeted high-end markets and customers.

In June of last year, Purplebricks CEO Michael Bruce said the average Purplebricks customer in the U.K. sold for around £240k (data on tens-of-thousands of transactions backs this up). The average house price in the UK is around £230k. 

To use Mr. Bruce’s own words, Purplebricks' success is down to "a higher concentration in the heart of the market rather than the top end where it has been extremely tough."

The story is similar in Australia. An analysis I conducted in 2017 shows similar trends in Victoria and Queensland. My analysis shows an average sale price of $415k AUD in H1 2018, below the overall market median home value.

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Then we come to the U.S. According to Zillow, as of January 2018 the median home price was $229k.

Los Angeles County, Purplebricks’ launch market in the U.S., has a median home price of $583k. San Diego County, one of the next launch markets, has a median home price of $540k. And Purplebricks’ latest launch market, the New York Metro area, has a median home price of $374k.

An analysis of 150 Purplebricks listings in the U.S. shows a median listing price of $552k. All of these numbers are significantly higher than the national average (in some cases, over twice as much).

Purplebricks decided to launch in U.S. markets where the median home value is more than double the national average. That’s a completely different launch strategy than its successful international markets.

It’s like taking a budget airline that caters to price-conscious families and launching a New York-to-London route for business travelers. It might not be the right fit. And for a business very much reliant on marketing spend to generate leads, it picked two of the most expensive advertising markets.

The Purplebricks proposition challenge

Purplebricks is clearly the low cost option when compared to alternatives in the U.K. But in the U.S., that's not the case.

In the U.K., the cost savings versus using a traditional estate agent are clear: on average, a home seller saves around £2,000 (outside of London and using national median home sale prices). And yes, this fee is paid upfront regardless of an eventual sale or not.

In the U.S., however, Purplebricks’ price-point puts it right in the middle of a crowded pack (and it just raised its fee from $3,200 to $3,600). It’s less expensive than a traditional listing agent. It’s slightly less or slightly more than Redfin depending on a 1 percent or 1.5 percent Redfin fee, and it’s slightly more expensive than other fixed-fee providers like Redefy and Trelora.

And that’s just the listing fee, which is paid regardless of the house selling or not. A homeseller still needs to pay a typical buyer’s agent fee of 2.5–3 percent.

In short, Purplebricks is not the clear low-price leader that it is in the U.K. There are a number of alternatives, Redfin being the biggest. And the competitive field is big, leaving Purplebricks with a relatively undifferentiated product in a crowded field (this is also true in the U.K., but the difference is that Purplebricks is already #1 in that market).

Strategic implications

There are a number of key points to consider in Purplebricks' U.S. expansion:

  • Its U.S. launch markets were not in its "sweet spot." Phoenix and Las Vegas are, which begins the true test in the U.S.
  • Advertising in L.A. and New York is expensive. Expect Purplebricks to get more bang for the buck for its advertising dollar in mid-range markets like Phoenix.
  • Purplebricks is operating in a crowded marketplace of low-cost and fixed-fee alternatives. It is not the least expensive option, and Redfin is a sizable competitor.