Will Zillow Survive After Leaving the Home-Flipping Business?
Zillow posted a massive loss in the third quarter of 2021 because of an inventory write-down. Will the real estate marketplace survive?
Jan. 27 2022, Published 8:53 a.m. ET
Zillow, working to digitize the U.S. real estate market, is the go-to for people looking for a property. In 2021, the Seattle-headquartered company announced it was quitting the home-flipping business. Its stock crashed following the news and has fallen almost 70 percent over the last year.
Zillow also said that it would cut its workforce by 25 percent and posted a massive loss in the third quarter of 2021. Will Zillow survive?
What made Zillow exit the home-flipping business?
As a home-flipper, Zillow buys homes directly from sellers and then sells them to interested buyers. The model is capital intensive, with a huge amount of money needed to maintain an inventory of homes. Also using the home-flipping model are Offerpad and Opendoor, which went public through a SPAC sponsored by Chamath Palihapitiya.
Home flipping is fraught with risks. Misjudging the future price of one home can wipe profits from the sales of several homes, and a housing crash could leave a home-flipping company with too many homes on its balance sheet.
Zillow admitted to being overoptimistic. It overpaid for homes, and as a result, saw a huge loss in the third quarter.
Zillow's massive inventory write-down on homes
As the U.S. housing market is still quite strong, Zillow should be able to liquidate its inventory without a lot of damage. The company estimated that it would incur a pre-tax charge of between $240 million and $265 million in Q4 2021 for the winding down of its home-flipping business. The company had an inventory write-down of $304 million in Q3 2021 as well.
During Zillow’s Q3 2021 earnings call, CFO Allen Parke said, “The Zillow Enterprise remains in a strong position with more than sufficient liquidity to weather the impact of home purchases in Zillow Offers in Q4.” He added, “We expect the net effect of the wind-down of Zillow Offers to be at least cash flow-neutral in the aggregate.”
The company also discussed its strong core business and said that, after the winding down of the home-flipping busines, it expects to be profitable and free-cash-flow positive. The company ended the third quarter with total debt of $4.4 billion and cash and investments of $3.2 billion, giving it a net debt of $1.2 billion.
Will Zillow survive?
Zillow's decision to exit the home-flipping business has come at a huge cost. However, the company is now transitioning toward a leaner and capital-efficient enterprise. Its balance sheet should start looking a lot healthier by the middle of 2022 as it sells the inventory on its balance sheet.
To sum up, Zillow should be able to survive the turbulence and might emerge as a stronger company after exiting the home-flipping business. Wall Street analysts are mixed on the stock, giving it six "buy," nine "hold," and two "sell" ratings. Their average target price of $88.60 implies an 88 percent upside.