Is Real Estate Losing Its Business Compass?

Stribling & Associates, the venerable and highly respected New York independent brokerage, shocked the city earlier this month when it announced that it had been acquired by Compass. Compass, as firms in every major market know, swims the water of our business like a great white shark, rushing in for the kill when it smells blood in the water. Ironically, Compass itself has spilled much of that blood, creating the circumstances which undermine the independent brokerages it then can gobble up. With its bottomless war chest of SoftBank money, it buys brokers and brokerages with equal avidity, offering signing bonuses, enormous splits, equity, or whatever else it can use to pry agents from the loyalty they may feel to their legacy firms. As one of my agents said to me, “I understand that Compass would call me a couple of times after I said No. But to call me TWENTY more times, upping the ante, begins to seem a little unethical.”

Don’t get me wrong; as an industry, brokerage has been ripe for a shake-up. Real estate generates about $3 trillion per annum nationwide; around 20% of that is commission-related. And until quite recently real estate brokerage has been spared some of the enormous disruptions which rocked the stock brokerage and travel industries with the introduction of new technologies. That said, brokerages increasingly operate at razor-thin margins, more so every year as deep-pocketed competitors increase the splits and perks they offer to agents while also investing in beautiful offices and higher tech search and data aggregation functions. These tactics can generate a race to the bottom; in order to stay IN business, brokerages are increasingly forced to mollify top agents by offering them better tech, better perks, and commission packages which, unless the company finances are very carefully monitored, will simply put these brokerages OUT of business.

At a recent New York real estate panel discussion, the moderator, respected Wall Street Journal reporter Candace Taylor, asked Robert Reffkin how Compass could ever make money. Mr. Reffkin, a good talker, skillfully sidestepped the question. But in the end that IS the question. Compass’s predecessor in impractically generous splits and perks, Town Residential, drove itself out of business last year. Town bankrupted itself through the inability to pay its bills while retaining only an unsustainable 26 cents on every dollar earned. The other 74 cents of that dollar paid the enormous splits Town offered agents to entice them into its fold. Of course, unlike Compass, Town did not have hundreds of millions in venture money backing it up.

So The Wall Street Journal reporter’s question resonated for many in the audience. Residential real estate brokerage is a narrow margin business. Compass’s hiring and management practices defy the basic rules of earning money: you have to take in more than you pay out. So what’s the plan? There are only a few possible options:

• Go Public. This is what most people in the industry believe will happen. The question is, how? Realogy, a vastly larger company, has seen its stock struggle for years. Unless Compass has a revenue model other than brokerage tucked somewhere up its sleeve this should be a complete non-starter. There’s just not enough potential revenue upside. Compass’s vaunted technology seems not, after all, to be special enough to sell. Maybe ancillary businesses like mortgage and title? None of these possibilities seem to justify a market cap in the billions.
• Corner The Market. SoftBank has something of a history of investing in scorched earth companies. If Compass can disable or acquire enough of the market to become indispensable to its broker constituents, it can then reset the split-and-perk deals it has made with them to more sustainable, even profitable, numbers. The numbers argue against this as a possibility. Too many other big companies already control major market share nationwide, and they aren’t going away without a fight. And even if Compass were to succeed, wouldn’t an antitrust lawsuit lurk right around the corner?
• Gradually Trim Expenses. This seems to me the most likely long-term plan. As Compass tries to build an environment of attraction based on culture, they gradually let go of the upfront payment of staging costs, the army of engineers, the 80% splits for producing agents and 70% splits for non-producers (though as one of my colleagues says, it’s easy to offer those agents 70% or even more as long as they continue not to produce!) The challenge here lies in the fact that it’s a great deal easier to give something than to take it away. Agents hate to be rolled back, and competitors will be eager to recruit from the company which has recruited so aggressively from them.

One skill Compass’s Reffkin undoubtedly possesses is that of raising money. There will almost certainly more rounds of capital flowing into the firm’s coffers, so the denouement of this story may be years in the making. What will happen in the meantime, which firms will survive and prosper as the national real estate brokerage scene continues to evolve its response to Compass, to Zillow, to Redfin, to the 100% models? It’s our own Game of Thrones. We just have to wait and see.