Home Brokers & Agents In Which I Defend Realogy, Yet Again (It IS Fun!)

In Which I Defend Realogy, Yet Again (It IS Fun!)

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You in MY house now!
You in MY house now!

In the comments section of my post on Alex Perriello’s confidence in denying a bankruptcy for Realogy, a commenter by name of “Still Don’t Agree” raises several very interesting points.  And because SDA wasn’t a raving lunatic, but apparently a very smart, very logical, and a calm & measured commentator, I thought it worth using his comment as the springboard to challenge some of the conventional wisdom circulating out there.

[And just in case some non-regulars don’t realize, I used to work at Realogy, but never in the corporate executive suites, and haven’t since November of 2007.  I have no special access to anyone, no inside info (although I would love to get some *hint, hint*), blah blah blah.  These are just my opinions as an industry observer.]

So SDA raises three points worth countering: Unprofitability, Cut in Services –> Loss of Revenues, and the Apollo Factor.

Unprofitability

First, the whole unprofitability issue.  SDA writes:

But bottom line, Realogy has little to no cash reserves, is running out of credit and their revenue isn’t covering interest payments AFTER making $350 million in operational cuts.

Sure it’s a profitable company without that debt hanging over their heads, and kudos to their managers for that, but that debt IS there and it isn’t going to just go away- so looking at revenue before the interest is quite frankly irrelevant. Spin it anyway you or Realogy wants, THEY ARE OPERATING IN THE RED.

To survive, they either have to make more cuts that don’t hurt revenue, increase revenue, find a lender to extend them more credit until the market gets better or get their lenders to restructure debt and/or wave interest payments.

Now, to be fair, SDA makes a great point here.

It is an indisputable fact that Realogy is losing money; it is in fact operating $50M in the red.  In SDA’s view, the reason why they’re in the red is irrelevant, since Realogy doesn’t have cash reserves, and lenders don’t care.

In my view, it’s highly relevant why a company is in the red if I’m a lender.  If a company is in the red because their core operations suck ass, then my likelihood of seeing my money back decreases, and I’m going to freak out.  But if their core operations are profitable, and they’re throwing off cash in desperate economic times, and they are making interest payments… and because of said interest payments to me, they’re in the red, well, then I’ll be cautious and watchful but happy to cash their checks.

Why would I want to mess with someone making payments and bring lawyers and bankruptcy judges and special masters and such into the picture?  Because I like the idea of going a couple of years before a distribution is made in which I’ll get a few pennies on the dollar on my unsecured debt?  And that only after I’ve spent a couple of million bucks paying my own creditor counsel?  Yeah, okay.

Now, let’s examine this “Realogy has no cash reserves” statement.  During to the Q3, 2008 Earnings Call, which is the latest available, Tony Hull the CFO said this:

Turning to the balance sheet on page 7 of the 10-Q, we ended the third quarter
with a $280 million balance on our revolving credit facility along with a reported cash balance of $269 million. This total includes $226 million of available cash from a draw-down on our revolver. We elected to hold cash because of current market uncertainty.

So they’re holding $269M in cash, and $280M on the revolver of which $226M is available?

Since Realogy’s net loss after interest and depreciation was $50M in Q3, this would imply that Realogy can limp along under Q3 circumstances (the latest quarter for which we have data) for some ten quarters, or two-and-a-half years?  Geez — call the lawyers and get to the courthouse!  They’re going down!

So in brief, to survive, Realogy doesn’t have to make any cuts, doesn’t have to get any more loans (assuming that the revolver is appropriately papered by sophisticated lawyers and relatively ironclad), until Q3 of 2011.

Could business get worse and shorten that timeline?  Sure.  It could also get better.  But the “Realogy ain’t got no cash” argument rings hollow to me.  Then again, what do I know?  I’m not a Wall Street analyst….

Cut in Services –> Loss of Affiliates

The second point that SDA brings up — and others have brought this up as well — is that the $350M in cuts at Realogy, and the expectation of further cuts down the line, will lead to affiliates and agents leaving Realogy family:

After $350 million in operational cuts I question how they could make further cuts that wouldn’t impact revenue. The company’s customers aren’t people buying homes, rather it’s the agents and franchise brokers they service. At some point in time if services are cut too drastically, franchises will leave and agents, who are independent contractors, will find other brokers to work for.

With the market and economy as they are and all the negative media starting to swell around their company I doubt they can drastically increase revenue. That would mean recruiting successful agents away from other companies at a time when ever competitor is waving that US News report in front of the agents they already do have.

Okay, let’s take this at face value for now and agree, for the sake of discussion, that SDA is absolutely correct that the budget cuts lead to service cuts.

For those service cuts to lead to mass exodus of productive affiliates, Realogy has to be providing some set of franchisee/agent services that these cuts is impacting.

For the vast majority (and I mean well over 90%+) of franchisees, the reason they became franchisees in the first place was not because of some ill-defined service Realogy provides but simply because of the (perceived) power of the brands like Coldwell Banker and Century 21.

I’ve sat in on some of the “VIP meetings” where corporate staff try to sell a franchise to an affiliate.  I’ve even made presentations at those.  And you know what?  Despite all the goodies we dangle in front of them (“10% off at Staples!” and “Discounts on your cellphone plan!” and so on), at the end of the day, the decision to sign up is based on the principal broker’s feeling that the brand will bring them business they wouldn’t otherwise get.

The argument that service cuts will inevitably lead to loss of affiliates is somewhat like saying that folks aren’t going to buy Gulfstream G650’s because of the price of fuel.  It’s completely ancillary to the core decision.  Keep in mind that affiliates sign a ten-year agreement during which they fork over 6% of all commission income in exchange for use of the brand.  They’re going to jet because the Realogy field rep only comes once a quarter instead of once a month?  Come on now.

Further, to claim that even if the affiliate broker won’t leave, the agents will is to not understand agents very well.  And it is to be ignorant of the real revolution going on at the heart of real estate today.  If even a single agent really leaves his Coldwell Banker branded brokerage to go to some other franchise brand over the “cut in services”, I’ll print this blogpost out and eat it.  In fact, that the agent cares not at all about the services provided by the Realogy brand is the real problem here.

You can verify for yourself if you’d like — go grab your local Century 21 agent and ask her what services she’s afraid of losing when Realogy cuts another $20m in costs.  If her answer is anything other than “Nothing”, please come back and tell us.

Now, let’s actually examine that assertion for a moment.  Again, from that same earnings call transcript, here’s Richard Smith, Chairman of Realogy:

As to NRT management’s ability to attract and retain top-producing agents, as in prior periods, NRT retained approximately 92% of GCI from its top two quartiles of sales associates in the third quarter. The top two quartiles generate approximately 88% of NRT’s revenue.

Consider that the NRT is Realogy’s company owned stores (if you will).  If the budget cuts have a service impact, the NRT agents are the ones who will be most directly impacted.  Affiliates have their own budget, their own issues, but the NRT is directly tied to Realogy’s financial problems.

If cuts in services lead to mass defections, then the NRT should have been losing droves of these top producing agents.  They have not.  I have no idea whether 92% retention is good or bad for brokerages, but it certainly doesn’t smell like panic to me.

And one final piece of counter-evidence from the wider agent world.  This is from a Keller Williams agent in Boise ID speculating on the coming bankruptcy for Coldwell Banker and ERA (this is the “competitor waving that US News article” thing):

It seems a high debt load and low cash reserves may be signaling a likely default in a troubled market. Why am I surprised? Well mostly because the of number brokerages Coldwell Banker has been buying up in the Boise area. I’ll be watching this one closely in the weeks and months to come.

Here’s a hint: when someone is buying up competing brokerages, that someone ain’t hurting that bad.

The Apollo Factor

The final point that SDA raises is that lenders might want to push things to force Apollo to cough up some dough:

That means Realogy’s survival basically hangs on the charity of lenders who, at some point in time in the near future, will more than likely have to wave interest payments in order to allow the company to make payroll. Problem is, Carl Icahn, their largest lender, isn’t exactly known for his charity and other lenders have their back so far against the wall right now that you can’t be sure they will always do the logical thing.

More important, if you’re a lender in this situation, it’s pretty hard to forfeit the interest you are owed when equity holder Apollo has mighty deep pockets.

Okay.  Maybe this makes sense to someone on Wall Street, but as a former bankruptcy guy, I just don’t get it.

Unless Apollo signed a guarantee of some sort on Realogy’s debt that puts them on the hook in the event of a default or bankruptcy, that Apollo has deep pockets is completely irrelevant to bankruptcy.  Because Apollo presumably is the equity interest here.  With such a high debt load, in the event of even a Chapter 11, Apollo’s interest is likely to be extinguished completely.  That sucks for Apollo, but it isn’t as if Apollo is going to then be liable to the creditors.

An equity holder’s liability is limited to the amount of equity in the company.  That’s the whole premise of limited liability.

So all that a lender would achieve here is taking over Realogy’s equity from Apollo in some sort of satisfaction for the debt.  Think of it as a giant foreclosure.  But to do that, we’re talking about years — and I mean years — of litigation in bankruptcy court with Realogy, with Apollo, with other creditors, with the Trustee possibly, with vendors, with unions, with landlords and so on and so forth.  And during these years of litigation, no one gets paid a damn thing.

If you’re a lender — even a nasty one like Icahn — and you’re actually making a vulture play to take over Realogy via the credit path, you’d be far far better off just offering Apollo a private deal to swap equity for debt.  Everyone keeps getting paid, Icahn takes over Realogy, and Apollo goes away, and no one is much affected.

Anyhow, I have no earthly idea why I keep writing on this topic, but I do confess a weird sort of fun in it. 🙂  But then, I’m not a Wall Street guy, and those guys are financial experts who wouldn’t ever make a mistake on debt valuation or things like that now… would they?

-rsh

PS: Final parting thought.  Why is this robust defense of Realogy happening on my widdle WordPress blog and not on the Realogy corporate blog?  By people who know what the hell they’re talking about?  Mark (Panus) — call me, I can help you with a social media strategy. 🙂

24 COMMENTS

  1. Are you kidding me???

    The Ravens defense smothering a New England Patriot? I demand a retraction!

    Great followup, as usual. The media and the competition’s tasteless attempts to exploit a fundamentally weak blog post are doing little to impair the great work that is being done to not only survive but thrive in this environment.

    Keep having fun!

  2. Are you kidding me???

    The Ravens defense smothering a New England Patriot? I demand a retraction!

    Great followup, as usual. The media and the competition’s tasteless attempts to exploit a fundamentally weak blog post are doing little to impair the great work that is being done to not only survive but thrive in this environment.

    Keep having fun!

  3. Oh come on now, Derek! That’s HEATH EVANS we’re talking about here… 🙂 And I see Bart Scott, Dawan Landry, and Kelly Gregg in that picture. Any one of those guys > Heath Evans! Heh.

    Thanks for your other kind words.

    -rsh

  4. Oh come on now, Derek! That’s HEATH EVANS we’re talking about here… 🙂 And I see Bart Scott, Dawan Landry, and Kelly Gregg in that picture. Any one of those guys > Heath Evans! Heh.

    Thanks for your other kind words.

    -rsh

  5. The core of your argument – that Realogy appears to be in a position to continue servicing its debt for now – may be valid, but it is largely beside the point. Realogy’s debt trades at less than 25 cents on the dollar for a reason (i.e., the debt holders don’t expect to be repaid), and the dynamics of distressed debt investing are ultimately going to determine how this one plays out. The key risk Realogy faces in 2009 is that it violates the most significant debt covenant, which requires that the company’s total secured debt (approx. $3.2 billion) be no more than 5.2 times its EBITDA in the trailing 12-month period. At the end of Q3-2008, this ratio was reported to be 4.8. If EBITDA in Q4-2008 is $60 million lower than it was in Q4-2007 (very plausible), it will be put the company in violation of this covenant. At that point, the ball is in the creditors’ court. Creditors are not only concerned with receiving interest payments, they also want to protect their principal, i.e. the repayment of the loan itself. They can do this is various ways, including renegotiating terms with the equity holders, in this case Apollo. If they don’t like the terms Apollo offers, they can always force a bankruptcy, not because they are “irrational,” but because doing so can give them control of the company and maximize their total return on investment. Because the assets at Realogy walk out the door every night, they will have to be careful not to kill the golden goose while engaging in this high-stakes game of poker, but ultimately the competing interests of the various classes of debt and equity holders will drive the dynamics here. Fundamentals of the business are important, but are by no means the only factor that matters.

  6. The core of your argument – that Realogy appears to be in a position to continue servicing its debt for now – may be valid, but it is largely beside the point. Realogy’s debt trades at less than 25 cents on the dollar for a reason (i.e., the debt holders don’t expect to be repaid), and the dynamics of distressed debt investing are ultimately going to determine how this one plays out. The key risk Realogy faces in 2009 is that it violates the most significant debt covenant, which requires that the company’s total secured debt (approx. $3.2 billion) be no more than 5.2 times its EBITDA in the trailing 12-month period. At the end of Q3-2008, this ratio was reported to be 4.8. If EBITDA in Q4-2008 is $60 million lower than it was in Q4-2007 (very plausible), it will be put the company in violation of this covenant. At that point, the ball is in the creditors’ court. Creditors are not only concerned with receiving interest payments, they also want to protect their principal, i.e. the repayment of the loan itself. They can do this is various ways, including renegotiating terms with the equity holders, in this case Apollo. If they don’t like the terms Apollo offers, they can always force a bankruptcy, not because they are “irrational,” but because doing so can give them control of the company and maximize their total return on investment. Because the assets at Realogy walk out the door every night, they will have to be careful not to kill the golden goose while engaging in this high-stakes game of poker, but ultimately the competing interests of the various classes of debt and equity holders will drive the dynamics here. Fundamentals of the business are important, but are by no means the only factor that matters.

  7. Very nice article. I’m a recent employee of Realogy, but thankfully escaped before the mass beheadings (expense cuts) began. I have friends and colleagues that remain however.

    Everyone is stressed and morale is understandably in the toilet. There is a feeling that no one is safe and your job will be eliminated without warning or reason. Keeping your job is almost worse though, since the survivors are required to absorb the duties of former colleagues.

    I recognize the brand represents a lot of value, but that brand needs supported by infrastructure. In the rush to pay the interest on this debt Realogy is hacking with wild abandon at the foundation of the company.

    At this point, no one wants to work at Realogy. Those who remain, feel trapped by circumstances and are simply waiting for their bell to toll.

    Lastly, I’m not oblivious to the fact that this is being felt worldwide by lots of companies & industries. However, the impulsive decisions being made in Realogy have surely been surely been shining examples of WTF?-style lunacy.

  8. Very nice article. I’m a recent employee of Realogy, but thankfully escaped before the mass beheadings (expense cuts) began. I have friends and colleagues that remain however.

    Everyone is stressed and morale is understandably in the toilet. There is a feeling that no one is safe and your job will be eliminated without warning or reason. Keeping your job is almost worse though, since the survivors are required to absorb the duties of former colleagues.

    I recognize the brand represents a lot of value, but that brand needs supported by infrastructure. In the rush to pay the interest on this debt Realogy is hacking with wild abandon at the foundation of the company.

    At this point, no one wants to work at Realogy. Those who remain, feel trapped by circumstances and are simply waiting for their bell to toll.

    Lastly, I’m not oblivious to the fact that this is being felt worldwide by lots of companies & industries. However, the impulsive decisions being made in Realogy have surely been surely been shining examples of WTF?-style lunacy.

  9. @Still Skeptical –

    Not sure you’re the same SDA, but you make great points. None of which I’m denying — frankly, that ain’t my job. 🙂

    I’m thinking, though, that there are two “IF”s in your scenario.

    One IF is that Realogy will violate their covenants. They might, but I’m guessing that Tony Hull and Richard Smith’s lives are currently consumed with not violating that covenant. 🙂

    The second IF — and this was the real thrust of my arugment — is that if the covenant is violated, the creditors will then choose bankruptcy. That is irrational on the part of creditors. Let us review the facts:

    The principal on the loans is not due until 2013.

    Realogy is making debt service — even if they end up violating debt covenants, triggering default provisions, we can’t ignore that the company is making payments.

    Realogy has no real assets it can liquidate to raise cash in a Chapter 7.

    Taking over equity might maximize total ROI, but you now have to figure in the loss of payments while the company is in Ch. 11 (or Ch. 7), the legal fees you have to pay lawyers, consultants, i-bankers, etc. then figure what your equity stake will do once you own Realogy instead of just Realogy’s debt. Further bankruptcies in say 2013 are not out of the question.

    And… as you rightly point out, the creditors have to be careful they don’t kill the golden goose.

    In terms of competing interests of various classes of debt, I don’t know the specifics of course since I’m not one of those creditors and don’t know anyone at one of those creditors, but…

    If I’m a senior bondholder, and I’m getting my payments, is it really in my interest to let a subordinated creditor drive the company into bankruptcy? Wouldn’t it behoove me to just buy the subordinated debt at (as you put it, 25 cents on the dollar)?

    The other last thing is that your point re: covenants has very little to do with the substance of what I was refuting. It has nothing to do with cash reserves, nothing to do with so-called agent flight, and nothing to do with Apollo’s deep pockets. 🙂

    Thanks for the input! Keepin’ it fun. 🙂

    -rsh

  10. @Still Skeptical –

    Not sure you’re the same SDA, but you make great points. None of which I’m denying — frankly, that ain’t my job. 🙂

    I’m thinking, though, that there are two “IF”s in your scenario.

    One IF is that Realogy will violate their covenants. They might, but I’m guessing that Tony Hull and Richard Smith’s lives are currently consumed with not violating that covenant. 🙂

    The second IF — and this was the real thrust of my arugment — is that if the covenant is violated, the creditors will then choose bankruptcy. That is irrational on the part of creditors. Let us review the facts:

    The principal on the loans is not due until 2013.

    Realogy is making debt service — even if they end up violating debt covenants, triggering default provisions, we can’t ignore that the company is making payments.

    Realogy has no real assets it can liquidate to raise cash in a Chapter 7.

    Taking over equity might maximize total ROI, but you now have to figure in the loss of payments while the company is in Ch. 11 (or Ch. 7), the legal fees you have to pay lawyers, consultants, i-bankers, etc. then figure what your equity stake will do once you own Realogy instead of just Realogy’s debt. Further bankruptcies in say 2013 are not out of the question.

    And… as you rightly point out, the creditors have to be careful they don’t kill the golden goose.

    In terms of competing interests of various classes of debt, I don’t know the specifics of course since I’m not one of those creditors and don’t know anyone at one of those creditors, but…

    If I’m a senior bondholder, and I’m getting my payments, is it really in my interest to let a subordinated creditor drive the company into bankruptcy? Wouldn’t it behoove me to just buy the subordinated debt at (as you put it, 25 cents on the dollar)?

    The other last thing is that your point re: covenants has very little to do with the substance of what I was refuting. It has nothing to do with cash reserves, nothing to do with so-called agent flight, and nothing to do with Apollo’s deep pockets. 🙂

    Thanks for the input! Keepin’ it fun. 🙂

    -rsh

  11. @Edmund –

    The friends I do have left at Realogy confirms the whole low morale thing. I think that’s happening across the economy, though. I don’t get the feeling, based on conversations, that folks over at RE/MAX for example are going, “Woohoo! Good times are here again!” either.

    But “foundations of the company”? The company’s foundations are its brands (which is a different discussion), its salesforce, the UFOC, and its technology systems. And affiliates were never really in love with the technology systems.

    So what are we talking about exactly?

    -rsh

  12. @Edmund –

    The friends I do have left at Realogy confirms the whole low morale thing. I think that’s happening across the economy, though. I don’t get the feeling, based on conversations, that folks over at RE/MAX for example are going, “Woohoo! Good times are here again!” either.

    But “foundations of the company”? The company’s foundations are its brands (which is a different discussion), its salesforce, the UFOC, and its technology systems. And affiliates were never really in love with the technology systems.

    So what are we talking about exactly?

    -rsh

  13. I have to commend you for parts fo your defense. However there are a few points that must be clarified. Please correct me if I am incorrect.

    1) Realogy has been able to meet interest payments on a majority of its debt by issuing more debt to the bond holders. The (some of) Bond holders have not received actual cash payments from Realogy.
    2) Realogy may not survive due to its covenants included in its debt agreements. This was seen earlier in 2008 when they borrowed money to add to the balance sheet to keep the EBITA in line with these covenants. If Realogy does not meet the terms then the Bond holders CAN force them to pay their bonds and most likely force a Bankruptcy.
    3) Realogy and its Brokerage units derive a majority of their income from the lower tier agents on splits that are more advantagous to the company. Example: agent making $30,000 gross commissions and has a 70/30 plan will pay the brokerage $9,000. A similar top producing agent on a 90/10 would have to generate at least $90,000 in gross commissions to have the same impact. CB in our markets in Ohio are having to offer the higher splits to retain agents.

    IMO Realogy also has a similar problem to GM, too many similar brands competing for the same dollars. They may be better off spinning off a brand or two and focusing resources to make that the superior one in the Markets.

    Finally, there have been comments made that Apollo will rescue Realogy if it needs to. It also states that Apollo raised $15 Billion recently and uses this fact to strengthen the argument of their survival. The funds that were just raised have nothing to do with Realogy and are a seperate fund all together. Question, why would Apollo bail out Realogy when it did not do it for Linens and Things? Both companies had significant investments.

  14. I have to commend you for parts fo your defense. However there are a few points that must be clarified. Please correct me if I am incorrect.

    1) Realogy has been able to meet interest payments on a majority of its debt by issuing more debt to the bond holders. The (some of) Bond holders have not received actual cash payments from Realogy.
    2) Realogy may not survive due to its covenants included in its debt agreements. This was seen earlier in 2008 when they borrowed money to add to the balance sheet to keep the EBITA in line with these covenants. If Realogy does not meet the terms then the Bond holders CAN force them to pay their bonds and most likely force a Bankruptcy.
    3) Realogy and its Brokerage units derive a majority of their income from the lower tier agents on splits that are more advantagous to the company. Example: agent making $30,000 gross commissions and has a 70/30 plan will pay the brokerage $9,000. A similar top producing agent on a 90/10 would have to generate at least $90,000 in gross commissions to have the same impact. CB in our markets in Ohio are having to offer the higher splits to retain agents.

    IMO Realogy also has a similar problem to GM, too many similar brands competing for the same dollars. They may be better off spinning off a brand or two and focusing resources to make that the superior one in the Markets.

    Finally, there have been comments made that Apollo will rescue Realogy if it needs to. It also states that Apollo raised $15 Billion recently and uses this fact to strengthen the argument of their survival. The funds that were just raised have nothing to do with Realogy and are a seperate fund all together. Question, why would Apollo bail out Realogy when it did not do it for Linens and Things? Both companies had significant investments.

  15. @Brian –

    Thanks! And thanks for your comments/points — they’re rock solid. 🙂 I only have a few points.

    First, yes, if Realogy violates the covenants, then bondholders can force them into bankrutpcy. But that don’t mean they will or that to do so is rational. I can try to see if I’m bulletproof; don’t mean I will.

    Second, the big point you raise is about agent splits. I think your point is that Realogy’s core business may be weaker (than whom?) because they rely heavily on inexperienced agents who are on House-Favorable splits.

    Frankly, that is a much larger topic for which I simply don’t have any data. I haven’t seen any information that suggests the “majority” of any affiliate (nevermind Realogy units) income comes from these high-margin agents. If anything, anecdotal evidence might suggest that the low-margin agents are the ones who bring in the revenues through volume. Broker/owners constantly talk about the 20/80 rule in real estate where 20% of the agents bring in 80% of the revenues.

    Unless we know some of the nitty-gritty details of GCI, transaction count, cost to support (aka, “desk costs”), profitability, and so on — then be able to get the same data for all of the competitors (like Re/Max and Prudential and KW and so on) it would be rank speculation to suggest that somehow Realogy brands are uniquely in trouble.

    As to the too-many-brands problem… I happen to agree with you. Realogy is like a family, with really competitive siblings. 🙂 Back when I was working at Realogy, I suggested (sort of half-jokingly) that every single corporate staff at the brand level should rotate every two years to ensure that no one gets too attached to any one brand at the expense of the company.

    They may end up restructuring in some way as they come out of this crisis — we’ll see.

    As for Apollo — I just don’t see the relevance one way or the other. I don’t think they’ll ‘rescue’ Realogy anymore than I think creditors will get more $$ out of Apollo. My point is more that creditors wouldn’t/shouldn’t put Realogy into bankruptcy — unlike Linens ‘n’ Things which presumably had at least some inventory that could be auctioned off — Realogy has no real hard assets.

    You know what I think is going on, is that Wall St. and “financial reporters” (who don’t know squat, as it turns out) look at homebuilders like Kara Homes going bankrupt and think, “Hey, real estate is in trouble; I bet Realogy goes down too.” Except that homebuilders have enormous assets in land, development rights, unsold properties, and the like. And 9 times out of 10, a creditor is more likely to get $$ back in bankruptcy. Not so with a services company like these guys.

    -rsh

  16. @Brian –

    Thanks! And thanks for your comments/points — they’re rock solid. 🙂 I only have a few points.

    First, yes, if Realogy violates the covenants, then bondholders can force them into bankrutpcy. But that don’t mean they will or that to do so is rational. I can try to see if I’m bulletproof; don’t mean I will.

    Second, the big point you raise is about agent splits. I think your point is that Realogy’s core business may be weaker (than whom?) because they rely heavily on inexperienced agents who are on House-Favorable splits.

    Frankly, that is a much larger topic for which I simply don’t have any data. I haven’t seen any information that suggests the “majority” of any affiliate (nevermind Realogy units) income comes from these high-margin agents. If anything, anecdotal evidence might suggest that the low-margin agents are the ones who bring in the revenues through volume. Broker/owners constantly talk about the 20/80 rule in real estate where 20% of the agents bring in 80% of the revenues.

    Unless we know some of the nitty-gritty details of GCI, transaction count, cost to support (aka, “desk costs”), profitability, and so on — then be able to get the same data for all of the competitors (like Re/Max and Prudential and KW and so on) it would be rank speculation to suggest that somehow Realogy brands are uniquely in trouble.

    As to the too-many-brands problem… I happen to agree with you. Realogy is like a family, with really competitive siblings. 🙂 Back when I was working at Realogy, I suggested (sort of half-jokingly) that every single corporate staff at the brand level should rotate every two years to ensure that no one gets too attached to any one brand at the expense of the company.

    They may end up restructuring in some way as they come out of this crisis — we’ll see.

    As for Apollo — I just don’t see the relevance one way or the other. I don’t think they’ll ‘rescue’ Realogy anymore than I think creditors will get more $$ out of Apollo. My point is more that creditors wouldn’t/shouldn’t put Realogy into bankruptcy — unlike Linens ‘n’ Things which presumably had at least some inventory that could be auctioned off — Realogy has no real hard assets.

    You know what I think is going on, is that Wall St. and “financial reporters” (who don’t know squat, as it turns out) look at homebuilders like Kara Homes going bankrupt and think, “Hey, real estate is in trouble; I bet Realogy goes down too.” Except that homebuilders have enormous assets in land, development rights, unsold properties, and the like. And 9 times out of 10, a creditor is more likely to get $$ back in bankruptcy. Not so with a services company like these guys.

    -rsh

  17. Rob-

    I read your response to my comments a few days ago. I apologize I haven’t had the time to write up until now but maybe this will give you a reason to make another post!

    Quick clarification, I am not “Still Skeptical” as you questioned (although he/she made some excellent points that I wish I had made). However I was the poster on the U.S. News blog that you commented on which is what brought me to your site in the first place.

    I would also like to congratulate you on having educated followers to your blog and/or your excellent moderation of posts. It’s refreshing to read comments from posters that make solid points (for and against my arguments) without the emotional name calling and irrational love/hate statements you see in the comment sections on other discussions on this topic.

    I will also add that I am a real estate agent but have never worked for a Realogy owned brand or NRT owned brokerage but do have friends at both. With that said, I don’t believe I have anything personal to gain or loose by Realogy’s success or failure. Bottom line, a complete failure of Realogy would just send their agents to other franchises not out of the industry- so nothing really changes at my level. Now if U.S. News is correct and Krispy Kreme were to fail, THAT would make an impact on my world! Seriously though, my fascination (and more to the point- fear) with this topic has more to do with the pending failure of dozens of these private equity companies, not just Realogy, that would otherwise be solid had they not been saddled with massive debt. The loss of Mervyn’s, Linens-n-Things, etc were all avoidable and it’s sad that companies like Apollo, Cerberus etc are able to still profit from all of this.

    Let me next say you are absolutely correct with your comments on franchises being locked into long term contracts and thus being unable to make snap decisions to leave Realogy for another franchise quite as easy as a real estate agent with independent contractor status can leave for another broker. I also agree that agents aren’t going to leave a franchise just because Century 21 stopped TV ads or other little things like that. Believe it or not, I originally elaborated on those point in my posting but removed them as the post was getting rather lengthy.

    Anyway, although I could elaborate on my original post and your response to it, I don’t want to beat the same points to death as there’s been plenty of excellent discussion on them already. However it has occurred to me that the one area you and I disagree on which hasn’t been addressed yet. At the core basis of your argument you feel a bankruptcy means a liquidation of an otherwise solid company and there would be little value to a lender to do that. I disagree.

    Where you and I do agree is that there are some very valuable pieces of Realogy. Over the past couple of years Cartus, for example, has been able to shed itself of the unprofitable contracts they signed when the market was extremely hot and is now capitalizing on the weakened economy by growing their market share at the expense of lesser rivals. The franchise division’s resurrection of the Better Homes and Garden franchise was also a brilliant maneuver to bring to market a franchise name that already has market recognition from years past at a time when brokerages and agents are grasping for new ways to differentiate themselves. Even NRT has individual brokerage operations that are performing well, and when I look at the office’s they’ve closed locally by “merging” them with other offices I would generally have to give NRT management a “thumbs up” for the decisions I’ve seen them make.

    But a bankruptcy doesn’t have to mean, “lock the doors and sell off the furniture.” I believe Realogy’s lenders would be best served in taking over the company and parting out their divisions as functioning business units rather than to leave the company in the hands of Apollo. A perfect example to draw parallels to was December bankruptcy of LandAmerica. LandAm was a Fortune 500 title company that despite the economy was doing better in the title business than many of their title competitors. However they had one division (a 1031 business) that had become extremely toxic and was dragging the entire organization down with its huge losses. Ultimately, however, bankruptcy allowed the viable title operations, which was the core of the company, to be parted off to Fidelity before the bad debt of that 1031 division forced their closings.

    Now, for those that lost money and jobs when LandAm took bankruptcy, don’t think I’m implying that there wasn’t pain in this process. Shareholder equity of a company that had been trading above $100/share as late as 2007 was wiped out. There was some minor disruption to customers (and agents) and there were people who lost their jobs. But bottom line, the solid, sellable, title divisions of LandAm are still mostly open for business with only a few changes.

    But back to Realogy going into bankruptcy. My opinion is that the sooner the lenders take over Realogy the more value Realogy’s assets are going to be to the lenders- and I also believe Carl Icahn knows that which is why he sued to stop their reorganization of debt last year.

    Every company has fat it can cut when a market shifts. My guess is, the majority of that $350 million in cuts Realogy has made so far probably hasn’t really impacted their services yet. But as I pointed out in my posts, the $350 million in cuts they made in early 2008 still wasn’t enough to avoid taking on more debt. As things now stand Realogy’s management is being forced to make more cuts and eventually they will be drastic enough that they will begin to do real damage if they haven’t already. At the same time, the negative press that now surrounds the company as a result of it’s massive debt is probably more damaging to the company than the actual debt itself. As you said, agents won’t leave because services were cut. However they WILL leave when the local TV station runs a story on the company’s pending failure- and my experiences have been that when that happens the brokerages usually implode pretty quickly with a manger or two going to a competitor and the agents leaving en masse to follow them- and we’re just beginning to see signs of that happening (read yesterday that 35 NRT/Corcoran agents in Florida- basically one of their offices- just left for a competitor and I’ve heard rumors of that happening in my market as well).

    Now, yesterday Realogy reported their Q4 numbers. Although there are people who probably see positives in the story and other who see negatives, I see a report that says, “nothing has changed.” Because they tapped out a line of credit earlier in the year, they have the cash on hand to avoid being out of compliance with credit agreements. But Apollo’s announcement that they MAY lend them $150 million really means nothing in my opinion. It’s just lip service to get the media off Realogy’s back. If Apollo wanted to protect this investment they would have written them a check and put it in Realogy’s bank account already so Realogy wouldn’t be forced to continue to scale back services to a point it harms their revenue.

    When you read the fine print, Apollo’s promise to help is “based upon management’s current financial outlook”. To paraphrase another posting I saw on this topic, “if a few million bucks will keep Realogy in compliance with their senior debt, then yes Apollo will do something to protect their assets. But if things change for the worse and Realogy needs operating cash to make payroll or even interest payments then Apollo isn’t going to spend a dime to keep this company in business.” To back this up, read this fine article on how Apollo makes their profits and why they don’t really care if Realogy fails. http://www.portfolio.com/views/columns/wall-street/2009/02/11/Analysis-of-Private-Equity-Business

  18. Rob-

    I read your response to my comments a few days ago. I apologize I haven’t had the time to write up until now but maybe this will give you a reason to make another post!

    Quick clarification, I am not “Still Skeptical” as you questioned (although he/she made some excellent points that I wish I had made). However I was the poster on the U.S. News blog that you commented on which is what brought me to your site in the first place.

    I would also like to congratulate you on having educated followers to your blog and/or your excellent moderation of posts. It’s refreshing to read comments from posters that make solid points (for and against my arguments) without the emotional name calling and irrational love/hate statements you see in the comment sections on other discussions on this topic.

    I will also add that I am a real estate agent but have never worked for a Realogy owned brand or NRT owned brokerage but do have friends at both. With that said, I don’t believe I have anything personal to gain or loose by Realogy’s success or failure. Bottom line, a complete failure of Realogy would just send their agents to other franchises not out of the industry- so nothing really changes at my level. Now if U.S. News is correct and Krispy Kreme were to fail, THAT would make an impact on my world! Seriously though, my fascination (and more to the point- fear) with this topic has more to do with the pending failure of dozens of these private equity companies, not just Realogy, that would otherwise be solid had they not been saddled with massive debt. The loss of Mervyn’s, Linens-n-Things, etc were all avoidable and it’s sad that companies like Apollo, Cerberus etc are able to still profit from all of this.

    Let me next say you are absolutely correct with your comments on franchises being locked into long term contracts and thus being unable to make snap decisions to leave Realogy for another franchise quite as easy as a real estate agent with independent contractor status can leave for another broker. I also agree that agents aren’t going to leave a franchise just because Century 21 stopped TV ads or other little things like that. Believe it or not, I originally elaborated on those point in my posting but removed them as the post was getting rather lengthy.

    Anyway, although I could elaborate on my original post and your response to it, I don’t want to beat the same points to death as there’s been plenty of excellent discussion on them already. However it has occurred to me that the one area you and I disagree on which hasn’t been addressed yet. At the core basis of your argument you feel a bankruptcy means a liquidation of an otherwise solid company and there would be little value to a lender to do that. I disagree.

    Where you and I do agree is that there are some very valuable pieces of Realogy. Over the past couple of years Cartus, for example, has been able to shed itself of the unprofitable contracts they signed when the market was extremely hot and is now capitalizing on the weakened economy by growing their market share at the expense of lesser rivals. The franchise division’s resurrection of the Better Homes and Garden franchise was also a brilliant maneuver to bring to market a franchise name that already has market recognition from years past at a time when brokerages and agents are grasping for new ways to differentiate themselves. Even NRT has individual brokerage operations that are performing well, and when I look at the office’s they’ve closed locally by “merging” them with other offices I would generally have to give NRT management a “thumbs up” for the decisions I’ve seen them make.

    But a bankruptcy doesn’t have to mean, “lock the doors and sell off the furniture.” I believe Realogy’s lenders would be best served in taking over the company and parting out their divisions as functioning business units rather than to leave the company in the hands of Apollo. A perfect example to draw parallels to was December bankruptcy of LandAmerica. LandAm was a Fortune 500 title company that despite the economy was doing better in the title business than many of their title competitors. However they had one division (a 1031 business) that had become extremely toxic and was dragging the entire organization down with its huge losses. Ultimately, however, bankruptcy allowed the viable title operations, which was the core of the company, to be parted off to Fidelity before the bad debt of that 1031 division forced their closings.

    Now, for those that lost money and jobs when LandAm took bankruptcy, don’t think I’m implying that there wasn’t pain in this process. Shareholder equity of a company that had been trading above $100/share as late as 2007 was wiped out. There was some minor disruption to customers (and agents) and there were people who lost their jobs. But bottom line, the solid, sellable, title divisions of LandAm are still mostly open for business with only a few changes.

    But back to Realogy going into bankruptcy. My opinion is that the sooner the lenders take over Realogy the more value Realogy’s assets are going to be to the lenders- and I also believe Carl Icahn knows that which is why he sued to stop their reorganization of debt last year.

    Every company has fat it can cut when a market shifts. My guess is, the majority of that $350 million in cuts Realogy has made so far probably hasn’t really impacted their services yet. But as I pointed out in my posts, the $350 million in cuts they made in early 2008 still wasn’t enough to avoid taking on more debt. As things now stand Realogy’s management is being forced to make more cuts and eventually they will be drastic enough that they will begin to do real damage if they haven’t already. At the same time, the negative press that now surrounds the company as a result of it’s massive debt is probably more damaging to the company than the actual debt itself. As you said, agents won’t leave because services were cut. However they WILL leave when the local TV station runs a story on the company’s pending failure- and my experiences have been that when that happens the brokerages usually implode pretty quickly with a manger or two going to a competitor and the agents leaving en masse to follow them- and we’re just beginning to see signs of that happening (read yesterday that 35 NRT/Corcoran agents in Florida- basically one of their offices- just left for a competitor and I’ve heard rumors of that happening in my market as well).

    Now, yesterday Realogy reported their Q4 numbers. Although there are people who probably see positives in the story and other who see negatives, I see a report that says, “nothing has changed.” Because they tapped out a line of credit earlier in the year, they have the cash on hand to avoid being out of compliance with credit agreements. But Apollo’s announcement that they MAY lend them $150 million really means nothing in my opinion. It’s just lip service to get the media off Realogy’s back. If Apollo wanted to protect this investment they would have written them a check and put it in Realogy’s bank account already so Realogy wouldn’t be forced to continue to scale back services to a point it harms their revenue.

    When you read the fine print, Apollo’s promise to help is “based upon management’s current financial outlook”. To paraphrase another posting I saw on this topic, “if a few million bucks will keep Realogy in compliance with their senior debt, then yes Apollo will do something to protect their assets. But if things change for the worse and Realogy needs operating cash to make payroll or even interest payments then Apollo isn’t going to spend a dime to keep this company in business.” To back this up, read this fine article on how Apollo makes their profits and why they don’t really care if Realogy fails. http://www.portfolio.com/views/columns/wall-street/2009/02/11/Analysis-of-Private-Equity-Business

  19. @SDA –

    Thanks for a great, detailed, and well-reasoned response. 🙂

    I don’t think we’re actually that far apart. If you will, I think the main difference is related to this:

    But a bankruptcy doesn’t have to mean, “lock the doors and sell off the furniture.” I believe Realogy’s lenders would be best served in taking over the company and parting out their divisions as functioning business units rather than to leave the company in the hands of Apollo.

    I never thought Realogy would go into a Ch. 7 bankruptcy. My issue is that even in a Ch. 11 (a “Reorganization”), I’m not sure I see a whole lot of incentive for the creditors to push Realogy into bankruptcy.

    Again, keep in mind that Realogy is currently servicing its debt. Once Realogy starts to miss payments, then all the pessimism in the world is justified. But while they’re making payments… why kill the golden goose?

    Plus, I don’t know the internals of Realogy’s operations, but what’s the equivalent of the LandAmerica’s 1031 company? Is there one toxic division that — if it were cut out — would make Realogy a wonderful growth opportunity? I don’t see it.

    Finally, for the creditors to take over the equity in bankruptcy… two things have to be true (IMHO). One, the creditors must believe that the equity will eventually recover the value in such a way as to compensate them for their debt-related losses. Two, the creditors must believe that they can do a better job of running Realogy than Apollo has. This is a bit difficult to believe since Apollo is not an operator; it doesn’t operate Realogy in any significant way. Realogy’s management does. So unless creditors are going to bring in all new management, who they believe are better than current management, not sure how equity takeover helps them.

    -rsh

  20. @SDA –

    Thanks for a great, detailed, and well-reasoned response. 🙂

    I don’t think we’re actually that far apart. If you will, I think the main difference is related to this:

    But a bankruptcy doesn’t have to mean, “lock the doors and sell off the furniture.” I believe Realogy’s lenders would be best served in taking over the company and parting out their divisions as functioning business units rather than to leave the company in the hands of Apollo.

    I never thought Realogy would go into a Ch. 7 bankruptcy. My issue is that even in a Ch. 11 (a “Reorganization”), I’m not sure I see a whole lot of incentive for the creditors to push Realogy into bankruptcy.

    Again, keep in mind that Realogy is currently servicing its debt. Once Realogy starts to miss payments, then all the pessimism in the world is justified. But while they’re making payments… why kill the golden goose?

    Plus, I don’t know the internals of Realogy’s operations, but what’s the equivalent of the LandAmerica’s 1031 company? Is there one toxic division that — if it were cut out — would make Realogy a wonderful growth opportunity? I don’t see it.

    Finally, for the creditors to take over the equity in bankruptcy… two things have to be true (IMHO). One, the creditors must believe that the equity will eventually recover the value in such a way as to compensate them for their debt-related losses. Two, the creditors must believe that they can do a better job of running Realogy than Apollo has. This is a bit difficult to believe since Apollo is not an operator; it doesn’t operate Realogy in any significant way. Realogy’s management does. So unless creditors are going to bring in all new management, who they believe are better than current management, not sure how equity takeover helps them.

    -rsh

  21. Rob – keep me in your loop, I’m interested in hearing your take on the matter, having spent the better part of 8 years leading the #1 Commercial office worldwide for Coldwell. I’ve left the firm recently and am still interested in seeing how it fares during this current market downturn.

  22. Rob – keep me in your loop, I’m interested in hearing your take on the matter, having spent the better part of 8 years leading the #1 Commercial office worldwide for Coldwell. I’ve left the firm recently and am still interested in seeing how it fares during this current market downturn.

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