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

All right. So welcome back, everyone. My name is Brad Erickson. I cover Internet services here at Needham & Company. Very pleased today to have the CFO from Zillow Group with us, Allen Parker. Allen, good to see you. My neighbor to the north in Seattle.

Yes, yes.

Yes. Thanks for being here. So obviously, like all these sessions, if anyone who's on the line wants to add a question to the box, I'll do my best to try and get to some of those through the time. I have my own list of questions, but feel free to chime in with stuff if investors want additional things answered.

I think we'll start off. It's been quite a year for you guys, obviously. Things have changed a little bit over the last 6 or 9 months. I think the single biggest question for people who are either well apprized of real estate success or newly reintroduced to the Zillow story is that they understand they're like, okay, so we've gone through this great migration or we're going through this great migration, great reshuffling. As we look out to next year, like so many digital businesses that have benefited through this, like what does the downhill slide look like if a vaccine works next year as we come out of this? And Rich -- you and Rich have both been very clear and forthright with investors throughout this, but you're like, look, we see signs in the business of durability and sustainability here of what's -- of something that's changed structurally. Can you just kind of expand on that a little bit to start as we level set here? Because I think that's the part that a lot of investors are obviously debating that point. We'd love to just get your quick take there.

Yes. So first, Brad, I'll start out by saying, it'd be great to see a vaccine come as soon as possible. So we're tired as anyone else to kind of be done with this pandemic and get back to -- to some of the way our life was. But having said that, we do believe there is some trends that have kind of been kind of accelerated over the last few months during this pandemic that we do believe are durable. Rich has talked about the great reshuffling and we are believers that even as we do get a vaccine and stabilize the pandemic side, employees and employers have been figuring out ways to work in a more distributed way, and we believe some of that sticks. A recent survey said that 2/3 of -- excuse me, 3/4 quarters of employees who are currently working from home would like to continue working from home at least part of the time. And 2/3 of those employees would consider moving if their employer offered them that flexibility. And then in another recent survey of employers, 2/3 of those employers are starting to, I guess, at least get comfortable with the idea of having a more distributed workforce. So we believe that there's some trends with this great reshuffling that are durable and persists even after we're able to kind of protect ourselves on the medical side. And so the great reshuffling, we think, is going to create people moving. And then the -- I think Rich called it the O2O, the off-line to online trend that also accelerated during this pandemic, started out for safety concerns, but we believe it's going to be used by consumers and customers to be convenient in the future that virtual tours and closing remotely, starting to leverage technology in a way that makes it a more seamless, frictionless or friction-free process is also durable. And we see both of those things, obviously, helping us with respect to our traffic over the last few months in some of the growth that we've seen and reported. But we do believe it's durable, still a lot of uncertainty, but we're excited. We believe we're well positioned. We think we actually managed the moment well. And so as things kind of shake out, we think we're well positioned to benefit and continue to take our customers through the funnel and get them into the home they want, whether that be a rental or a new home.

Got it. Yes, I would agree. I think you managed it well, as well. In terms of the actual -- because of what's happened, obviously, the Premier Agent business has upsided nicely over the last few quarters. I know you don't report the metric anymore in terms of the number of PAs, but just understand the composition of where that growth is coming from a little bit more. If you figure one side of it could be just organically more spend out of the average Premier Agent versus just adding agents, which of those was a bigger factor as you think about the upside that we've just come through over the last 6 to 7 months?

Yes. And so what I'd say, Brad, is the majority of our revenue still comes from agents that have worked with us for a long period of time, and I think that our inputs are strong. We are obviously seeing great top of funnel. And as we move those to our Premier Agents and we work through some of the tools we're investing in, like schedule a tour in 3D homes, we believe we're getting high-intent customers to our Premier Agents who are helping them transact and close their deals. And so our retention rates are at record highs. Having said that, we do continue to look at and acquire new partners. And what I'd say is that new PA partner growth has grown, but it would be more of a modest growth and that most revenue comes from those partners that have been with us for a while. So it's a little bit of both. The majority is partners that have been with us for a while.

Got you. That's helpful. And then just I'm going to -- we've got one question in here that ties on to just from a macro perspective. When you look at all the indicators right now, so tight supply, low interest rates, it looks like, obviously, we're in front of a fairly pronounced home price appreciation. Obviously, on the one hand, that boosts -- the broker commission pool, which theoretically is good for your business. On the other hand, theoretically, we could argue it could be a headwind to transaction volumes. So as we net those 2 things out, how do we view a potentially upcoming price appreciation inflection, we'll call it, as being good or not as good for your business? How do you think about that?

Yes. I guess what I'd say is when we think about our inputs and some of the economic trends, price appreciation, it is probably supply and demand. So right now, inventories are low, there is demand as people start to think about moving, and that is driving prices up higher. We benefit in that situation in that turns are quick. So the transaction volume is happening relatively quick on conversion. If it were to slow and more supply were to come in with the same demand and so turns got a little longer and HPA or home pricing appreciation slowed a little bit, we still feel like we're well positioned to take advantage of that given the tools that we've built to provide high-intent customers to our Premier Agents. So we think our business actually operates very well in a variety of conditions, including our home offers business, with these economics or macro trends that we see with HPA and lower inventory levels even in our iBuying business, we expect some customers want to use the more traditional approach, but we're also still able to offer some customers economics that make sense for them to remove the friction, remove the need to market their house themselves and to close on a schedule that works for them. And so what I like about, or we like about this business is we believe we are able -- well positioned to kind of work within any of these changes in a way that works for our customers, works for our partner agents and works for our business.

Got it. That's perfect. And then just moving down from the Premier Agent line related to Flex, you've been in Phoenix and Atlanta there a little over a year now exclusively. What have you learned from Flex in Phoenix and Atlanta that led you to no longer flip on full markets and just sort of work with kind of the high-performing partners? Just talk about the decision there.

Yes. So it was a different time last year as we were going through and introducing this new monetization model, and we made a decision to flip, as you mentioned, Phoenix and Atlanta, where we had Zillow Offers and strong relationships with some agent partners who were helping us with Zillow Offers. We, obviously, learned the high-performing partners have better close rates and better customer satisfaction. That wasn't a surprise. We continue to believe and find that strong entrepreneurial-minded partners, who want to scale their business, find Flex to be a model that works really well for them. But we've also found as we've gone through this that there are some very high-performing partners who prefer market-based pricing. And we've been able to, by managing the inputs and providing, I'll call it, high-converting leads through our Connections (sic) [ Connect ] program and some of our technology to our MBP partner agents, we've been able to grow that business and maintain high retention rates and continue to resell new inventory as the traffic comes in. So I guess what I'd say is that the biggest learning was Flex and MBP can actually operate quite well. They can coexist. There are agents that have different needs. And both of those agent partners could be or are good at serving our customers and providing a great CSAT and providing high conversion. And actually, by doing this hybrid approach, or operating these monetization models within the same area gives us more degrees of freedom for maximization to improve our customer experience, to improve the return and conversion rates that our partner agents see; and the output of that is improved revenue per lead for us. It's the biggest learning that these are complementary, not [ binary ] [indiscernible].

You're right. You're saying you've seen evidence that supports the view that you can manage that lead allocation for sort of an optimal outcome, if I'm hearing you correctly. Is it safe to assume then that we should -- I know you said it's still too early to know on Flex expanding, but obviously, given how it fits well with the down-funnel thesis and Zillow Offers where you're live, I think, in 25 or 26 markets now, is it fair to assume that that the progression towards hopefully expanding Flex into some of those other markets is happening? Or is that overly presumptive of me to say?

Yes. I think what we would say is we're going to continue to focus on maximizing customer satisfaction, conversion and revenue per lead. We believe that that's most likely a mix. They'll continue to expand Flex where we find partners that want to scale with us and also continuing to work with our current MBP partner agents, and we believe MBP is continuing to raise the bar on growth. And so we're very excited about that group of partner agents. So I would say that instead of being kind of on the heels of our feet last year as we were trying to rebuild that subscription pool and we were suffering from lower growth rates, I think we're really on the balls of our feet now providing better and better experience for the customers as they move through the funnel, executing with our partners, either through Flex or MBP to get our new -- our customers into the home they love. And customers are starting to understand that it's not just dream and shop at Zillow, but you can transact with Zillow. And so I see both of those continue to expand. I wouldn't say one will expand more than the other, but we'll continue to add Flex partners.

Got it. And one other question from an investor here. And I -- this is a little in the weeds, so we can move through it quickly, but I do think it's important given that you just had this revenue recognition change you talked about in the quarter and maybe just take the chance to clarify it one more time. The question is just around that recent required revenue recognition change in Flex. The question is around what dollar amount are you recognizing per lead? And how does this get trued up over time based on take rate of the commission calculated off the transaction value? Maybe just talk about the accounting process that you're deploying with Flex these days in the model.

Yes. Yes. So I'll try to keep it at high level.

Yes, yes.

So the revenue recognition was not new guidance or anything like that. But we started a program where early in the program without any history, we were unable to ascertain or estimate what the value of the leads we were providing our partner agents through [ our ] Flex model would eventually end up at. As we've been successful in managing that program, we have now 12 months in some markets under that program, we are able with some certainty to estimate the value of the lead tool we provide in any given month to those agents under Flex. And the guidance requires you from revenue recognition to record that revenue based on performance, thus providing these leads when you can't estimate it, and that's what we can't estimate. So again, I'm not sharing any revenue per lead or anything like that. What I would say we called out that going forward from Q3 on, leads we provide to our agents, either through the MBP model, which are recognized on a subscription basis and Flex, which are now recognized as we deliver those leads on an estimated lead value basis are being reported. And so they're very consistent with that rev rec. However, there were leads that we provided last year that will be recognized when we receive a fee for a closed transaction, and those -- the impact of those leads are going to, we estimate, cause about 400 basis points of revenue growth in Q3, caused about 100 basis points of revenue growth in Q2, and we'll have about a 200 basis point impact on the growth rate in Q4. And then because of the timing of how those leads actually convert, we don't expect there to be a material impact going forward. So what I would say is we believe there are opportunities to grow revenue per lead as we grow customer satisfaction and conversion in both MBP and Flex. And we think it allows us to estimate that across both of those.

Yes. That's perfect. And I guess, a couple of other questions that are flowing in around the same topic and it's pretty straightforward is that I think there's a view that real estate's had such a good year this year. Obviously, PA accordingly has had a great year. As we think about the longer-term growth trajectory of that business, what -- how closely should that follow the end-market strength versus being sort of secular and potentially growing ahead of the market? Just talk about that.

Yes. So I mean I look at it a few different ways. Obviously, we're -- we believe due to the great reshuffling and also some of this offline to online, we've got a lot of opportunity to continue to grow our Premier Agent business and our other marketplaces in real estate for that matter. And top of funnel has been fairly strong. We may or may not see the continuing growth rates at top of funnel that we're seeing during the last few months. But when you go down funnel and you move from just primarily providing a dreaming and shopping experience to actually being able to close transactions, we believe there is a lot of opportunity for us to continue to perform better and get those customers through to a transaction and increase our market segment share. And I think about it kind of 3 ways that we've been fairly strong for customers who want to buy with Zillow and work with an agent partner to buy. With Zillow Offers and some of the other opportunities we have as we work through the funnel, we want our customers to be able to sell with Zillow, and that's been an area we haven't penetrated as much. And then we think about some of the adjacent services, such as loan originations and closing services that we continue to build and develop and are starting to show progress and growth. We were really pleased with the performance of our Zillow Home Loans, the loan origination service in Q3, and the guidance shows continued performance in Q4. So we think there's just a lot of opportunity as we move from continuing to perform well in the buy with our Premier Agent partners and our marketplaces, moving into the sell and these adjacencies that we believe are going to have a little bit of an ecosystem impact. And that's kind of when Rich talks about 2.0 and why we're super excited to basically have the customers in Northstar and help the customer get from dream to in the home they love, unlock [indiscernible] next chapter, we think there's a lot of opportunity for us to execute in that environment, and that will yield growth. We're focused on the inputs, but we believe the outputs look pretty good if we're able to execute.

Got it. Yes. And I think related to Zillow Offers, I want to come back to a few questions on that. But I guess as we think about -- you mentioned primarily Zillow having historically been built around buying customers who are looking to buy versus just those looking to [indiscernible] obviously, you've announced starting to roll out licensed employees after the first of the year, I believe. Talk about the mechanics of how that will work and how you think that might be able to address some better presence on the sell-side of the equation.