Zillow Group, Inc. (ZG) Earnings Call Transcript & Summary

Good morning and -- good morning, good afternoon, good evening, everyone, wherever you are webcasting or Zooming in from. My name is Brian Nowak. I'm the head of U.S. Internet coverage here at Morgan Stanley; continuing on with our day 1 of our conference of life after COVID and the way we think about some of the structural changes and really like the -- in this case, one of the big structural winners, my opinion, in Zillow. We're thrilled to have the Head of IR, Brad Berning, with us. He's Vice President of Investor Relations at Zillow. He's been with the company for almost a year, I guess. 11 months now, Brad, so it's been quite the 11-month initiation for you, but we're thrilled to have you.

Thank you. It's, yes, obviously been an interesting 11 months for the world, so...

A lot of changing dynamics in the real estate market, it's been, and in some cases just one of the most fascinating markets this year. So just first, the -- all of the blocking and tackling, the disclosures. Please note that our important -- all important disclosures, including personal holdings disclosures and Morgan Stanley disclosures, appear on the Morgan Stanley public website at www.morganstanley.com/researchdisclosures. They are also available, I think, in the digital sign-in pages that you may have gone through. Also as a reminder, this is for institutional investors only. If you're a member of the press, we please ask you to disconnect at this time. Now the basic format. I have a series of questions I want to sort of talk through with Brad about some of the changes and then exciting things that have been going on at Zillow. If you do have questions and you're watching at home or in your office, you can either put them into the webcast just to make sure we cover the topics that are most important to you all. Or if you're not on the webcast or [ you've heard us in a ] different way, you can also just e-mail them to me at brian.nowak@morganstanley.com, and we'll make sure that we cover the topics that are sort of most pressing in all of your minds.

So with all that covered, Brad, I wanted to sort of start with one big picture question. Sort of given the theme of the conference and how we're thinking about life after COVID and structural change, maybe talk to us about 1 or 2 of the key learnings or changes that have gone on at Zillow and how you guys are sort of thinking about the future now versus January and February of this year when you were first at the job.

Yes. Clearly there's been a couple of big projects, I think, to think about from a world perspective. And this work from anywhere, work from home, distributed workforce, lots of different acronyms and names that people are using to describe this. And if you'd ask us pre COVID, we would have never have ever thought that you'd have anything other than working in offices, [ or us. And I think ] a lot of companies felt very much the same way. And there's been an incredible learning that's been forced on all of us, that we were able to handle this incredibly well. And so there's -- Rich has talked about this. It's that what changed is we used to wrap our lives around where and how we work, and now we're trying to change that completely and twist the pretzel around it. We're trying to figure out how do we work around where and how we live. And that's the major change that has, I think, long-term societal impacts in lots of ways. And we see just different employer surveys that suggest, in March, if you've rated 1 to 10, 19% of employers were super comfortable with this; and now we're seeing that that's up to 32% in October. And so -- and over 70% of employers are more than half comfortable with it versus obviously a lot less than that in March. So employers are getting more comfortable that this makes sense. Consumers, we've shown 3/4 of those working from home would like to continue to work at home -- from home, at least part time, post COVID. And 2/3 of them would be interested in moving if they can and their employer enables it. And so we're early days. We've been upfront on this. We've obviously already announced that a large chunk of our workforce is going to have the options. They don't have to work outside of an office if they don't want to. They can work in an office if they can, but that optionality, we're leaning into. And it's still early days for us, as far as actual people moving. So we think it's early days for a lot of employers, a lot of people to figure out how this is going to work for them post COVID. But I think, the second one, I will just real quickly just talk about. We all know off-line to online in every part of our lives has gone far more digital. And you've seen it in different industries, where you've seen 5 years worth of market share growth in a matter of weeks and a few months, and we just don't think you go back. We think that this has been a huge educational opportunity for consumers, for employers, for brands, manufacturing companies, retail companies. Everybody has learned that we can live life more efficiently and more effectively with the digital transformation that have transpired. I think those are probably a couple of the biggest things that have broader implications than just [indiscernible].

Yes. No, that's helpful, I mean. And I guess, sort of bringing it more down to the Zillow level with your real estate agent customers that drive the business. Maybe talk to us about how all of those dynamics have sort of changed your relationships with the agents, the asks of the agents, friction points of the agency. How has kind of what the agents are asking you to do for them changed as you've seen all the evolution of the housing market?

Yes. I think one of the first things to take away, though, is that we've always believed that agents are important. We -- that's been a part of our model. We've always said that. And I think agents show incredible fortitude and adaptability to helping our mutual customers be able to transact in the middle of a global pandemic. And I think that we should all understand and appreciate the value that they bring to the table as our partners and helping our mutual customers. And so with that, the true partnership that we've had together, the "better together" discounts that we provided in March, April, May time frames, showed that we were in this together. There was incredible uncertainty on what the housing market would do at first. And we stepped up to make sure that we'd be able to help our partners. In return for that, they helped our customers. And then on the back side of that, the result of this is our partners showed that they valued the customer connections that we're providing to them. And so you saw in the September quarter here record sales, record retention levels. In March, when we were doing the standup call to help people understand that we were okay, probably people didn't expect that to come in the September quarter. We probably didn't either at that point in time. So I think those are -- that relationship is incredibly valuable to our customers and so valuable to us, and I think our partners are showing that we're valuable to them. And I think that's the important takeaway in the relationship.

One last, on the macro space. I just want to cover with you because I've been getting this question a lot in the last 48 hours. I think I know your answer, but I'm just curious. So question I've been getting is how do I think about the impact of a widely distributed vaccine and what it's going to do with the housing market. And sort of what are all the puts and takes that you all analyze when you sort of try to think about the '21 macro housing market in the U.S.?

Yes. I mean, first of all, progress on the vaccine, let's just all say it's great news, right? It's, for the world, this is incredibly positive for -- from a -- both from an economic and a health perspective. And let's make sure we keep that in perspective [indiscernible], but I think there's really 2 points I'd address from a more Zillow-specific purpose on the macro. One is that we've published surveys that said, prospective sellers, 1/3 of them are worried about whether it's safe [indiscernible]. And so when you think about the tight inventories we've had, it's not just inventories are down. New listings have been relatively flat, even plus or minus, in various weeks for a little while now. So even the strong housing market hasn't drawn a lot of new [indiscernible]. And so from our perspective, a safer environment certainly could draw people in that have been worried about that. And look, we also -- we all know that most sellers are also buyers. And so it's not just a matter of inventory going up. It's a matter of housing velocity can benefit from a safer environment. And then I think, from a macroeconomic perspective, there's a lot of people who are unemployed. And it's forced a lot of challenges on people from a housing perspective, a lot of consolidation of people moving back in with parents, a lot of people consolidating where they live. That's been incredibly challenging for a lot of families and a lot of individuals. And so a better macroeconomic environment to help people get the resources to be able to either move back on their own or be able to move -- look, regardless of reasons of why people need to move, we're here to help. And so we think that, that is a positive for moving and it's a positive for society. And we think that that's -- it's a good thing for Zillow as well.

Got it. That's helpful. And I think that vaccine is, correct, kind of big picture. And I want to kind of turn to IMT. There's a number of ways in which you've beaten my numbers this year, one of which is really being the IMT margins. And I remembered sitting down with Allen in February or March at our TMT conference, talking about all the puts and takes on IMT margins. And they still came in better than we thought, so I guess the kind of the question on IMT margins, the first one, is just maybe give us some examples of some of the largest areas where you've had optimization, sort of some cleanup over the course of this year. And then looking ahead, what are still some low-hanging-fruit areas for potential further efficiency in the IMT segment?

Yes. Interestingly enough, you guys did that on the phone for that conference as well. So that started, unfortunately, the trend that we're here today. So glad to be virtual via the video rather than just a phone back then. So but I think it's important to keep in context of the cost side of the equation hasn't been about buckets. It's been about prioritization. It's about operational rigor across the organization. And we talked about -- on this last call, we talked about that below the surface of kind of -- we talked about the $3 million kind of buckets of expenses that we put out, but underneath that, pretty much every single line item had a decrease in expenses on a year-over-year basis, except for like one [indiscernible], right? And so this is about prioritization, making sure that people are focused on the things that can drive the highest value for the overall enterprise. And when you point people in the right direction and the right team and everybody buys in and you all work together on things, it's amazing what you can accomplish to drive top line and meet the moment in this incredibly uncertain environment that we've all had to lean into and execute on. And I think the organization has done an incredibly great job with that. And so it's really been about driving top line growth in an uncertain environment where the expense lines have been held from an operational rigor perspective and out of some concerns obviously in the macro environment. And so that's what's delivered the revenue side of it. Now to be clear. We tried to spell out on this last call that we think of the kind of 47% IMT EBITDA margin this quarter as being more of where we'd be in a steady state type of [indiscernible], right? We clearly don't believe we're at the top of the S curve here. We believe there are substantial growth opportunities. We want to lean into the investments to continue to drive sustainable profitable growth. And when you think about the year for 2020 and think about the overall IMT EBITDA margin, we think that's the right base to be thinking about. Now at the midpoint of our 4Q guide, that would imply for 4Q to imply about [ 37% for the year ]. We think that's the right level to kind of think about going forward from. We wouldn't want you to take the second half of this year in the mid- to upper 40s as kind of the pace that has the right amount of investment for us to sustain profitable growth going forward.

Got it. No, that's helpful color. I guess, sort of following up on that question a little bit: We talk about prioritization and sort of leaning in kind of where you -- given where you are in the S curve. Maybe just kind of talk to us about some of the largest areas qualitatively from an investment perspective that you see yourselves investing in just to make sure you really kind of continue to capitalize on this surging online real estate opportunity.

Yes. Clearly top of funnel: Like our -- one of our biggest assets is obviously that we've built up a large audience over 15 years, right? And so we have to continue to invest in that audience and continue to improve the customer experience along that path. And so one of the announcements that we made in August, we talked a little bit about it on this call, is that we're going to join the National Association of Realtors. We're going to join the MLSes. We're going to get access to the IDX feeds. And so the data, both from a quality perspective and speed, will improve meaningfully as we were able to join those. And so starting in January, we should be able to improve the customer experience. Take for example, currently, if you were to go on to these -- some properties that might be delayed by a day of when we get the data, that might matter on your ability to execute on that house. And so in January, we'll start to correct for that and put us on a level playing field with other realtors and brokers out there. And so we'll have access to the data set and be able to provide our customers a better experience, but we'll continue to invest in that. Coming down the funnel, obviously connections. We're trying to create calls to action. And so help people search, help people get prioritization and what's important for them in their search process but then a call to action to actually help them execute on the transaction side. And so whether it's schedule a tour or click on a button to connect with us and then helping assess kind of where they're at in that process and figure out if it's time to connect them with an agent. That's really about finding more high-intent customers to connect with our high-performing agents, and that's the opportunity to us to continue. Obviously, on the investment side, the Zillow 2.0 replatforming. It's still early days from a [ technology tech -- stack tech ] platform aspect of this industry and for us and to be able to help people pull all of these products [indiscernible] experience [indiscernible] clearly that's an area we'll continue to invest in as we work toward Zillow 2.0.

That's helpful. No, I think you guys did a very good job on the earnings calls sort of talking about optimization and just sort of making sure you're converting the traffic as well as you can. Part of that, it seems like, is Flex. And so I guess, just for everyone on the call or on Zoom maybe, talk to us about sort of, one, just for anyone who doesn't know, how does the Flex model differ from the standard PA model? And what have sort of been some of the early positive surprises you've seen on the Flex side when you talk about optimization, conversion of traffic, et cetera?

Yes. So just to clarify: In our Premier Agent business, where we're providing leads to the premier agents that we have to help them get connections to be able to close transactions with customers, we have 2 kind of monetization models. One is what we call market-based pricing, which is where it's -- think of it as an advertising model upfront where they pay us on a monthly subscription-type basis and then we provide a share of a particular zip code, whatever they paid for, as a percentage. They get those leads during the particular month. And so they pay [ out upfront, yes ]. On Flex, it's really about we provide them the leads. And then when the transaction is closed, they'd pay us on a success-based type model. So we collect the cash, [ I mean, on the back side ] of that equation. I think we've talked a lot about this over times. We've had different kind of angles on it a little bit, so I think we want to make sure we're really clear about kind of what we've learned and where we're going from here. And clearly Phoenix and Atlanta, last year, were markets where we tested flipping an entire market to all Flex. And so I think our actions this year speak pretty clearly of the choices that we've made going forward. They'd kind of tell you what some of the learnings were. Is -- one is that we don't have to flip an entire market. We can actually have select Flex partners within a market, so market-based pricing and Flex can coexist within the same market. And we're excited about what we're seeing from both the market-based pricing and the Flex side in the same markets. And so we're extremely pleased with the success that we've seen from that standpoint. The other thing I think is clearly we've said we're working with high-performing partners in select markets for Flex. So clearly we're learning, regardless of whether it's market-based pricing or Flex, that working with high-performing partners do have meaningfully better close rates than a low-performing partner does, which makes logical sense. And so that's really what we've been focused on is finding the right partners to continue to roll Flex [indiscernible].

Got it, okay. And I guess then -- I have a couple of questions in e-mail on it as well. Just kind of remind us, what have you guys said about sort of expected pace of Flex rollout? Or is it more sort of, to your point, measured [indiscernible] entire markets? How do we think about the pace of Flex rollout...