Not much has changed over the years in terms of how consumers buy and sell homes in the United States. Real estate technology company Redfin (NASDAQ:RDFN) is in the process of rebuilding this multitrillion-dollar industry around the consumer. With a modest market cap and enormous growth potential, let's explore why Redfin's fresh approach to home buying could make it a home run for investors.

Buying a home in the U.S. isn't fun

Home ownership is a cornerstone of the "American Dream," yet few people actually enjoy the process of buying one. Consumers rely on real estate agents, banks, and lawyers to get into a new house, and each party takes their pound of flesh along the way. Sellers lose out on 4% to 6% of the home's sale price to commissions, while buyers are paying banks and lawyers thousands of dollars too.

The process is tedious with as many as 12 steps to closing on a house, and a study showed that up to 88% of home buyers are nervous throughout the process. There are more than 1.5 million active agents in the U.S. and over 100,000 active brokerages, according to the National Association of Realtors. The market is fragmented with no clear leaders for consumers to gravitate to.

Family standing in front of a sold home.

Image source: Getty Images.

Buying a home is the single largest financial decision most consumers will make in their lifetimes, and the state of the industry has left it ripe for disruption.

Putting the consumer first

Redfin is a digital real estate brokerage that leverages technology to offer home buyers and sellers an "end-to-end" transaction process where an offer can be made, accepted, and closed, all under its roof.

This is done via the company's three primary segments:

  • Redfin Brokerage & Redfin Now (buyers and sellers agree to a sale)
  • Redfin Mortgage (buyers fund the sale)
  • Title Forward (the sale can be closed)

Redfin uses agents but employs them directly with salaries and benefits versus commissions to align their interests with the customer, aimed at providing a more seamless transaction and a more satisfying experience.

The company also offers a website and mobile app with tools to make it easier to find the right home, including map-based searches, 3D home tours, and the ability to buy and sell directly from Redfin without the help of an agent. Redfin collects data with each transaction and learns from them to train its algorithms that set the values of offers and estimates. And sellers save money using Redfin, paying just a 1.5% listing fee.

Redfin has competition, but it's not who you think

Redfin has grown revenue at a 36.5% compound annual rate over the past five years with the top line reaching $886 million in 2020. With just a 1.1% share of U.S. homes sold (by value) as of the first quarter, the company has a huge opportunity to continue growing and pick up market share.

While it competes with other real estate disruptors such as Zillow and Opendoor -- and this trio of companies is often lumped together -- they aren't stepping on each others' toes in the market. Opendoor has estimated its market share at 2%, and Zillow is only getting started in transactions while its primary business is advertising.

The reality is that these "disruptor" companies each have a lot of room to run before they actually bump into each other. Redfin's real competitors remain the traditional brokerages that exist throughout the U.S.

The company has clear competitive advantages over most traditional brokerages, including its seamless transaction process, technology-driven web/app tools, customer-oriented experience, and lower fees. Mediocre brokerages could struggle against Redfin, leaving only high-quality and niche realtors who can justify their pricey commissions. Redfin doesn't need to beat out Opendoor and Zillow to succeed -- it can grow by winning against the thousands of "mom and pop" type brokerages.

Is Redfin a buy today?

Redfin's stock is trading at a price-to-sales (P/S) ratio of 6.3 times as of this writing, down from the stock's peak multiple of 11 earlier this year. A hot housing market boosts business, and analysts expect 2021 revenue to grow 88% to $1.67 billion. Compared to the size of the U.S. housing market, Redfin's modest $6.1 billion market cap means investors can still get in while this growth story is in its early chapters.

But investors should note Redfin is not currently profitable. Gross margin in the first quarter was just 15.8%, but the company plans to grow its higher-margin services that allow buyers to work directly through Redfin for transactions.

Investors will need to monitor Redfin's progress as it expands and builds its edge against the competition, but given its leading role in transforming the real estate market, its long-term potential is enticing.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.