The rapid turnaround in Zillow's ( Z 8.96% )( ZG 8.35% ) core business, called Premier Agent, has been astounding. It was only about 15 months ago when growth in this business had slowed to near 0% and investors were asking hard questions.
Fast forward to last quarter, and it grew 24%. And the company's management team expects it to grow even faster next quarter. What happened here?
The rough patch
Historically, the Premier Agent business had been an incredible growth machine. Between 2014 and 2018, Premier Agent revenue grew from $239 million to $898 million. That's nearly a 4-fold gain in just four years, good enough for an impressive 39.2% annualized growth rate.
But in mid-2018, certain changes the company made to the way it distributed home buyer leads to agents did not go as planned. Specifically, management began screening leads and passing along only the higher-quality ones to agents, but stopped passing along the greater volume of lower-quality leads that agents were accustomed to getting.
While many of them liked the higher-quality leads, many were upset that they were no longer receiving the lower-quality leads as well. This caused a significant number of agent cancellations, which caused the business's growth to slow rapidly. By early 2019, Premier Agent revenue growth had slowed to a crawl and grew just 0.5% during the second quarter of that year.
To address the agent discontent, management started distributing the lower-quality leads to agents again, as well as the new, higher-quality leads it had been cultivating. That began to slowly improve sentiment among agents, but it took time for that improvement to show up in the company's financial results.
Slowly but surely, Premier Agent revenue growth ticked higher. First, it ticked up toward mid-single digits in the second half of 2019. Then it jumped to 11% growth in the first quarter of this year, before swiftly declining 17% in the second quarter as a result of COVID-19.
That's why the 24% growth the company just reported in its third quarter is so incredible. Management attributed the huge turnaround to connecting a greater number of high-quality leads to the best agents, who tend to convert leads into successful real estate transactions at a higher rate than average.
On the company's conference call, management explained the strong growth this way:
Our [agents] found increased value in the Zillow platform from strong growth in customer connections. Our connection growth continues to benefit from innovations in how we service customers, looking to work with our partner agents and the varied calls to actions that our customers can select on our sites. Our Premier Agent revenue was also positively impacted in Q3 by our postpaid Flex monetization model.
The rather jaw-dropping thing is that management's guidance for Premier Agent revenue in the fourth quarter calls for growth accelerating to a 31% year-over-year pace. That would be the fastest growth rate for Premier Agent since 2016, when it grew 35%.
Premier Agent seems poised to continue to grow nicely next year and the years that follow. For one thing, traffic to Zillow and its other web and mobile properties continues to grow very strongly. Average monthly active users and visits to Zillow's properties grew 21% and 32% last quarter, respectively. More traffic and visits mean more leads that can be sold to agents, which helps boost revenue.
Furthermore, mortgage rates are very low and home inventory is tight, which is causing home price appreciation. That causes agent commissions to appreciate as well, which increases the value of Zillow's home buyer leads. After all, when agents make more money per closing, they are naturally going to find home buyer leads more valuable.
The company's newer lead monetization model, called Flex, also appears to be contributing to the revenue growth acceleration.
Despite the 12% drop in the shares in October, the stock is still up 127% so far this year as of this writing. Investors who are wondering what justifies that should look no further than this huge turnaround in the Premier Agent business.