The latest technology in the world of online-only digital alternatives to traditional business models has ripped through, or ‘disrupted’ as the tech start-up industry likes to call it, one major sector at a time over the past decade or so. Travel and tourism, personal finance and investment, media, education – the list goes on.
The property market, as one of the sectors with the most capital tied up in it internationally, and a hugely valuable one in terms of transaction fees, has inevitably not been overlooked. Traditional high street real estate agency brands have seen the way they operate change and new digital-only, well-funded start-up rivals provide a new kind of competition. But there are signs that online-only real estate agents are encountering resistance from the buyers and sellers of homes in the UK. There are clues that the kind of service package tweaking that allows online real estate agencies to undercut the prices of their traditional bricks and mortar peers may not in fact be a trade-off many of their potential customers are ready to make.
Adam Day, the founder of Hatched, a digital-only real estate agency sold to Connells, one of the UK’s larger chains of traditional real estate agencies in 2015, recently made the shock assessment:
“It doesn’t work for the customer and it doesn’t work for the estate agent. It’s not executing brilliantly well as a long-term, sustainable business model”.
A damning appraisal from a man who founded one of the sector’s more successful start-ups and since selling Hatched to Connells worked at two other online-only real estate agencies. Cornells closed Hatched down in September of this year with its new owner announcing the decision came as a result of it coming to the conclusion its acquisition’s business model is ‘fundamentally flawed’.
And Hatched is not the only company in the space to suffer from similar woes. Peer Emoov, which recently went through a £100 merger with two other smaller companies in the space, is up for sale less than six months later. The company is said to be in financial difficulties.
Day believes that the core of the problem is that home buyers and sellers want to ‘have their hand held’ and the pricing model adopted by online-only real estate agencies doesn’t allow for that. Instead of being able to call up the real estate agent responsible for the sale of their property, they are put through to a call centre.
With flat fees rather than a commission on sale often charged the online-only model has faced the accusation that digital real estate agencies are not incentivised in the same way to achieve the best possible price for their vendors. In fact, they often get paid their flat fee regardless of whether or not the property sells. While sellers can often initially be enticed by the prospect of savings on the sale of their home, they quickly realise the different service model they get for the lower price is not what they want.
That disappointment of individual sellers has now begun to ripple out into waning enthusiasm for the model. The larger companies in the online-only space believe scale is the answer. If enough properties are sold at lower fees, they can afford the richer kind of service being demanded despite tight margins. However, to achieve scale brand building is necessary. That means they are ramping up marketing budgets, an expense that could prove risky if expected results are not achieved, especially within the context of increasingly challenging market conditions. UK property prices and transaction volumes are on the slide, leaving a smaller pie to be split between an intensely competitive market.
Purplebricks, the London Stock Exchange-listed online-only real estate agency spent £42 million on marketing over the twelve months to the end of April. Since the beginning of 2018, the company’s share price has slumped to a little over £31 from a January high of around £97. Prominent market analysts believe that the real estate agency sector is naturally fractured.
With a product difficult to differentiate and the relatively long average periods between property transactions, real estate agencies have always struggled with building brand loyalty. Mike DelPrete, an academic specialised in real estate technology who teaches at the University of Colorado Boulder, believes the pursuit of scale by online-only real estate agencies is a challenge they most will fail as a result of the market’s underlying fundamentals.
“I rolled my eyes last year when analysts were talking about 20, 25 per cent market share [for digital leaders]. That’s not how real estate goes. Real estate is very fragmented, there are relatively low barriers to entry to get into the business of selling houses, the products are undifferentiated and there’s no customer loyalty. That leads to this natural fragmentation.”
There are also concerns about the risk being taken onto the balance sheet by digital estate agents adopting an alternative model to attract customers. Company’s such as UK property tech start-up Nested promise to cut out the ‘chain’ that holds up many property transactions. This chain delay is caused by the buyer having to sell their own home before being able to secure the mortgage on a new property. In turn, the seller is delayed in being able to make their own next property acquisition and so on along the chain.
Nested’s solution is to use an algorithm to predict the sales price of a property and to provide a cash loan of up to 95% on that value, against a fee of around 2% – the typical discount cash buyers can often negotiate. However, if the property sells for less than what Nested’s algorithm has forecast, the company absorbs the cost of the difference, effectively taking the property’s sales value temporarily onto its own balance sheet. To date, Nested claims close to 100% accuracy in its algorithm’s sales price forecasts. However, what happens if its AI is caught out by a sudden downturn in the market that results in hundreds of properties selling for less than it forecast?
The company is confident that won’t happen and their system is sophisticated enough to minimise any losses in that scenario.
But until it actually happens, the question will hang over Nested and other peers who try to operate the same model. That will concern potential investors and possibly stymie growth. Over the Atlantic, in the bigger U.S. residential property market, local equivalents to the UK’s property tech start-ups are facing the same travails. Redfin is a U.S. peer of Purplebricks and last year listed on the Nasdaq after achieving quick traction. It has a market capitalisation of $1.4 billion. However, like Purplebricks, its share price has plunged this year, down to under $50 from around $100 in January.
New Digital-Only Business Models Not a Default Holy Grail
Despite the growing realisation that, at least for now, buyers and sellers of residential properties are not completely ready to transition to the kind of service that online-only real estate agencies believed they would for a lower price, the industry’s digital transformation should not be expected to be strangled at birth. Property tech start-ups may have to backtrack to some extent and, indeed, some already have.
Refin originally wanted to cut out real estate agents altogether from its business model. But chief executive Glenn Kelman came to the grudging realisation that this would be possible and started hiring them:
“What we’ve learned about US consumers is that they are very risk-averse. They want full service, they want to see the house and ask questions of us . . .”
It can be presumed the mindset of UK consumers will prove to be just as difficult to wean off the need to have their ‘hand held’.
However, the latest technology in the world will not be rolled back out of the UK or international property market. Many of the heavily funded start-ups in the sector may not survive, especially with a stagnant market anticipated over the next few years. But others will and adjust and expand their offer until they find the ‘magic sauce’ that keeps them both profitable and at a scale that justifies their investment.
Purplebricks, for example, sees its platform as developing into more than just a real estate agency. It has the stated ambition to ‘become a dashboard for home-related transactions such as utilities, broadband and insurance’. That alone, unless adoption by those who buy or sell a house through it is extraordinarily high, is unlikely to be the silver bullet in terms of growing revenues significantly. However, it’s a start. Online-only real estate agencies will have to build out added value ‘ecosystems’ of related products and services one way or another.
It is far too early to call the tech-led ‘disruption’ of the real estate agency sector a failure. But its history to date does provide a lesson for anyone who thinks that replacing the human touch with technology is an inevitable recipe for success as long as their platform is well-designed and promises to bring end user costs down. It only works if the full service suite that can be made available at that lower cost comes close enough to the human-led system it aims to ‘disrupt’.