- Small investors say the demise of Zillow’s offerings shows there is no substitute for local knowledge.
- Investors across the United States have seen Zillow buy homes by overpaying for homes.
- Compare one of the top real estate investors to a fast food franchise.
There is one basic tenet of brokers, builders, and lenders: all real estate is local.
But that hasn’t stopped a new breed of patriotic corporations called instant buyers, or iBuyers, from joining the hordes of ordinary Americans trying to “fix and flip” real estate for profit.
Companies like Opendoor, Offerpad, Redfin – and, until recently, Zillow – entice sellers across the US with near-instant cash offers for their homes determined by algorithms. Companies are following them with a quick shutdown. They collect a fee, effectively replace a realtor’s commission, and then do light renovations on the properties before they can be resold.
This has heightened competition in a chronically tight housing market and pitted small investors against Silicon Valley-style tech savants with billions of dollars in capital. So far, little guys are more than owning, according to conversations with individual investors.
Those investors point to Zillow, which abruptly shut down its iBuyer arm, Zillow Offers, this month, blaming labor and supply constraints and deficiencies in an algorithm used to rate homes. They said they’ve seen Zillow overpay for homes, underestimate the cost of renovations, and expect to flip properties in impossibly huge numbers.
said Mike Webb, a 38-year-old firefighter in Maryland who has a batch of 35 units.
The parent-and-pop property investors interviewed by Insider certainly are a fraction of the thousands owned by iBuyers, which it collects at a frantic pace with as many as 15,000 homes per quarter.
But whether they’re buying with plans to flip homes or rent them out, small business owners assert they have an edge when it comes to properties and exits to a city, neighborhood, or just a street, from Sacramento to Springfield, Massachusetts.
“Zillow has not been in touch with what is going on at the local market level,” Webb said.
Zillow, which did not respond to requests for comment, attributed its failure to buy iBuying to a lack of labor and supply, which increased cost and time for renovations, as well as difficult to predict home prices in the 24 cities in which it operates.
Small investors and large online buyers face the same challenges
No matter their size, real estate investors have one goal in mind: to profit from a quick sale or long-term rental of a home. Their buying process is the same too. According to lenders and investors, the key steps include plenty of research about your chosen market, arranging financing, and keeping experts on the ground — including inspectors — and contractors who won’t break your budget.
Private lender We Lend warns on his advice sheet for fins that even “minor” quirks in a neighborhood can have big effects on volatility. It’s such a detail that investors say is not always appreciated by iBuyers.
Quentin D’Souza, a 48-year-old former teacher who owns 30 homes, has been vocal about what he sees as the shortcomings of the iBuyer model. “The challenge with using the algorithm is that you can’t see behind walls,” he told Insider.
Matthew Tortorello, co-owner of 200 units, believes Zillow has failed to identify differences in local markets. In Springfield, Massachusetts, the city in which he works, there are at least a dozen distinct neighborhoods, booked by the village-like Indian Orchard to the north and Forest Park, full of multifamily rentals, to the south.
“You can’t take a single-family home in Springfield and Forest Park and compare it to an Indian home,” said Tortorello, 42, who is also COO of YellowBrick Management. “Values are very different and even on the same streets. Unfortunately, with Zillow’s approach, this is really difficult because it is a very market specific industry with choppy homes. And I think they will always be overcome by younger guys who can keep their costs low.”
A local investor made the bank flip houses to Zillow
Some of these investors said they were sad to see Zillow shut down the home buying unit, because it provided them with a quick exit and good profits.
For example, investor Tim Monkey recently bought a property for $186,000 including closing costs, which is $26,000 more than he originally wanted to pay, and that cuts profits if the house could be sold for $250,000 planned dollars. He thought it was a risky bet for his company, Easy Sale 4U: The Halfplex—a half-duplex—was loaded with trash, crack pipes, and insects.
“This is a landfill,” Manke, 47, said of the property at 1 Sumo Court, which he bought in June.
But he said profits that he thought would fall in fact increased thanks to Zillow. After the cleaners at Monkey removed some of the trash, he turned around and sold the house to Zillow the following month for $286,000, turning him in an $85,000 profit after fees, he said.
“They pay a lot of money,” he said. “love them.”
Zillow may still make money on the property – but Manke earns more. It’s not clear how much Zillow spent on beautifying the venue, but its website shows an original asking price of $327,900 in July, reduced three times to $309,900 in September. Pending sale, the site appears.
Small investors say they are in a better position to make renovations
In addition to the core value of the property, measuring the cost of renovations has become less predictable during the pandemic. Both Zillow and Opendoor presentations acknowledged that they were affected by a shortage of labor and construction, which could leave homes sitting on balance sheets for longer than expected or spoil budgets.
Sam Brim, co-founder of Faster House, a St. Louis company that offers fast home purchases, said in the email. “Trying to do that with thousands of homes seems like a recipe for disaster,” added Primm, 33, who owns 167 rental apartments.
Prices for building materials and components since May 2020 have recorded their fastest increase since at least the early 1970s, according to
Bank of St. Louis FRED database.
While home flipping increased in the second quarter of 2021, what owners earn after costs continued to fall, according to ATTOM Data Solutions. Gross earnings rose 2.4% to $67,000 over the quarter, but margins narrowed to a decade-lowest 33.5%, from 37.2% in the first quarter and 40.6% a year earlier, according to the data.
Meanwhile, Zillow has been reducing the discounts it will reap on the purchase price of any repairs or cosmetic improvements needed for quick resale, according to employees familiar with the initiative to match the size of its Opendoor competition. Manke wasn’t aware of the so-called Zillow ketchup project, but he said he’s seen Zillow turn more aggressive and make questionable judgments about costs.
When Monkey contracted the sale of his property in Sumo Court, expect Zillow to demand at least $28,000 from the seller’s lien for repairs and cleaning. The closing statement showed that Zillow was asking for only $21,397.
“They were crazy about things,” said Monkey. “In my opinion, there is no way to make these numbers work. But it does work for me as a seller.”
Investors are wondering if home buying in bulk can really work
Of course, local players will always play with their unique local knowledge. And spot buying, while spreading across the United States, is still more prevalent in a handful of large markets, and is still in its early days nationwide.
While Zillow has shut down home buying, its competitors continue to buy homes, in some cases accelerating the pace of acquisitions. Opendoor, which pioneered iBuying in 2014, swept over 15,000 home purchases last quarter, for example.
But for now, individual real estate investors Insider have spoken out to remain convinced that home flipping doesn’t make room for the kind of scope iBuyers need.
Brimm told Insider that flipping is not a “tools” business that can be organized nor a model where money solves all problems. He thinks it’s “almost impossible” to flip homes in huge numbers, against the more targeted strategies of mom-and-pop companies, echoing the sentiments of many investors who spoke with Insider.
Will Pritchett, who owns a 20-unit portfolio mostly in San Antonio, Texas, with his wife Veronica, put it another way.
“iBuyers are the franchisees of fast food that may or may not survive through volume, while the individual investor is the restaurateur who knows his customers and serves his food with pride and care,” said Pritchett, 43.
Although Zillow is no longer operating in San Antonio – or anywhere else – Redfin and other iBuyers remain active. But Pritchett said he does not view them as a threat.
“I don’t fault iBuyers for entering the space, and I don’t worry about them as competitors,” he said. “I will only stay here to serve hot pancakes to my neighbors.”