Down 77%, Here's Why Zillow Stock Is a Buy Hand Over Fist

Transformations are never easy, especially when a company is forced to abandon its single largest source of revenue. But real estate technology giant Zillow Group (Z 1.68%) (ZG 1.70%) is thriving in that precise scenario.

The company just reported its financial results for the first quarter of 2023 (ended March 31), and it continues to make progress after winding down its iBuying (direct buying) segment over the last two years. While this resulted in a substantial decline in revenue, Zillow's business is now in a much healthier financial position.

The stock remains 77% below its all-time high, but here's why investors should consider adding it to their portfolios.

The new-look Zillow Group

Zillow Offers was Zillow's largest driver of revenue from 2019 to 2021. The company was purchasing homes from willing sellers by the thousands with the intention of flipping them for a profit, which worked great when the real estate market was hot. But as it began to cool off, Zillow found itself sitting on billions of dollars in inventory that was declining in value.

As a result, the company reported a whopping $881 million net loss in 2021 from direct buying alone, and subsequently decided to cease operating in that segment. While eliminating an unhealthy part of Zillow's overall business is positive, iBuying accounted for $6 billion of the company's $8.1 billion in total revenue that year, which has left a big hole to fill.

Nonetheless, Zillow has worked hard to refocus on its other business units like agent services, closing services, mortgages, and in-person touring. The company estimates that a typical real estate transaction involves $17,000 in various fees for such aspects as the mortgage, seller services, and closing services. Zillow currently only captures about $4,100 of that total, and it is working toward a goal of capturing $5,200 of that amount by 2025.

Zillow is tying all of them together through its housing super-app, which builds upon its industry-leading digital presence. In Q1, the company served 212 million unique users across its online platforms each month, with 2.5 billion total visits.

To further enhance the user experience, Zillow is experimenting with OpenAI's ChatGPT. Users will be able to converse with an artificial intelligence-powered chatbot and ask it questions about property listings. The ChatGPT plugin can give the user links to specific houses listed on Zillow, based on the parameters they input, like location, price range, and bedroom count.

Zillow's business is now capital-light

Direct buying required a lot of capital to operate. Now that Zillow has exited the industry, its remaining portfolio of real estate services businesses have much higher profit margins and present substantially less risk. 

When measuring profitability, Zillow relies on the adjusted EBITDA metric. It's the company's earnings before interest, tax, depreciation, and amortization, minus any one-off and non-cash expenses like restructuring charges and stock-based compensation. 

As the table below shows, Zillow's adjusted EBITDA fell 53% year over year during Q1. However, revenue was down 89% because of the absence of Zillow Offers. The math suggests the new-look Zillow (without direct buying) could be quite profitable, even if it generates just a fraction of the earlier revenue!

Data source: Zillow Group.

Why Zillow stock is a buy now

Zillow stock is down 77% from its all-time high as investors reassessed the company's valuation based on its reduced revenue going forward. And it now has a market capitalization of $11 billion.

Analysts expect Zillow to generate $1.9 billion in revenue this year, and based on that estimate, its stock trades at a forward price-to-sales (P/S) ratio of 5.7. But after accounting for the $3.3 billion in cash, equivalents, and short-term investments on its balance sheet, that P/S ratio shrinks to just 4. 

Therefore, Zillow stock is a long way from its peak P/S multiple of 13.5, despite having a much healthier business. In fact, analysts predict the company will deliver $1.10 in total earnings per share in 2023, followed by powerful growth of 47% in 2024 which will lift the figure to $1.64. 

Investors can buy Zillow stock at an attractive price right now with potential upside over the long term on the back of its new low-risk, high-profit-margin business model.