Nearly seven million homes are sold each year in the United States, and their cumulative value makes residential real estate a multi-trillion-dollar market. However, the actual process of buying and selling homes is virtually unchanged from decades ago.
Real estate technology company Redfin Corporation (RDFN 7.43%) is trying to change that. The company is pursuing an end-to-end service that makes moving a delight instead of something that makes you want to pull your hair out.
Bold ambitions offer big rewards for investors, but there are some serious questions about the business that you need to know. Roll up your sleeves and let's dive in.
Building a one-stop shop
Redfin isn't new to the real estate landscape; the company was founded in 2002 and has been public since 2017. But Redfin has steadily evolved. Its core business uses in-house agents to facilitate home transactions, charging a 1.5% listing fee to sellers, or 1% if you buy and sell through Redfin. The typical fee paid by sellers is 5% to 6%, so Redfin users save thousands of dollars.
Image source: Getty Images.
In recent years, Redfin has built out its business model, setting up to handle mortgages, title, and escrow, and even offering iBuying, where Redfin will purchase your home outright and resell it.
I've bought a home; it takes a village. There are agents, bankers, lawyers, inspectors, and more who get something along the way -- ever heard of too many cooks stirring the pot? It's no wonder that an estimated 36% of adults cry during the home-selling process.
Redfin's solution sounds great in theory. Consumers have a streamlined process for buying or selling a home, saving them money while they're at it. But it's not that simple.
Question: Can Redfin's model be profitable?
Redfin has been in business for years, but it still isn't a profitable company. Both bottom line profits (net income) and free cash flow are in the red, which means that Redfin is burning cash.
RDFN Net Income (TTM) data by YCharts
The company's latest quarter, first-quarter 2022, showed that Redfin's revenue from its brokerage services was $168 million, but that the cost of revenue was $154 million. That's only a gross profit margin of 13%, which isn't enough to offset investments into the company like technology and marketing. Redfin's operating losses were $85 million in Q1 2022.
Redfin's business is much more than the brokerage segment. Still, it might be fair to wonder how profitable brokerage can be with human agents who require competitive salaries and benefits and can only handle so many transactions. More agents will be needed as Redfin does more volume of transactions.
Question: Is iBuying friend or foe?
Additionally, iBuying has forced its way into the conversation. Zillow tried to dive into the iBuying segment but failed, while Redfin seems to be taking a slower approach. It uses a balanced combination of human input and technology to prepare its offers and charges a fee ranging from 5% to 13%.
Redfin is still an iBuying underdog compared to market leader Opendoor, which has $11.3 billion in liquidity for iBuying, compared to $400 million for Redfin. But Redfin's end-to-end vision isn't centered around the iBuying model; investors should think of iBuying as the cherry on Redfin's cake and not the cake itself.
However, iBuying is still heavily affecting Redfin's financials. iBuying revenues were $380 million in Q1 2022, or 63% of total revenue. The gross profit margin on the properties was just 5%, and that's in a scorching home market.
The iBuying business is probably always going to be a low-margin business, where Redfin will need to price its homes competitively and make its money on the service fees attached to it. Redfin's challenge will be to offset this with its brokerage services, which carry higher profit margins.
Wrapping up
Redfin has a market cap of just $1 billion after the stock's tumble from highs of almost $100 to just $10 during this bear market. The massive real estate market is a huge opportunity, and long-term success could make Redfin a tremendous investment.
However, it's certainly not guaranteed to succeed, and it seems that the company needs to figure out its "identity" in a way that shows a path to profitability. CEO Glenn Kelman declared during the Q1 2022 earnings call that the business will post an operating profit this year and bottom line profits in 2024. Time will tell, but investors could consider Redfin a "moonshot" stock at its current stage.
