Notorious R.O.B.

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.

I guess because of the recent story on US News.com, there’s been quite a lot of speculation about Realogy going bankrupt. My original post back in November of last year on why I thought Realogy made for a particularly poor bankruptcy candidate is getting rather large amount of traffic, and the comments have been illuminating as well.

Well, I have some followup.  Again, keep in mind that I no longer work at Realogy, and while they are a client of my employer, Onboard Informatics, I have no special access to any inside information.

I do, however, have friends in the RE.net and realestistas who send me interesting information, and the latest salvo is something Realogy sent out to various franchisees and agents who work for Realogy franchisees. I debated whether I should post it or not, but looking at the information in the email, I see nothing confidential, and a whole lot of information that is missing in the commentariat.

The email, from Alex Perriello, CEO of the Realogy Franchise Group, is full of confidence:

Earlier today we saw a business writer’s blog post get picked up as a “news” report pertaining to the financial condition of a number of companies, including our parent company, Realogy. This coverage generally focused on the long-term debt and viability of these companies.

Although Realogy is currently in a quiet period and we cannot release certain financial information in advance of our fourth quarter 2008 earnings call in March, we certainly could have addressed the fundamentals had this reporter taken the time to attempt to carry out his due diligence by contacting Realogy for the facts.

I want to point out a number of “silver linings” for Realogy that clearly have not been taken into consideration by either the media or the financial ratings agencies:

• During the past several years Realogy has moved aggressively to mitigate the impact of the economy on our company. We have successfully reduced our overhead by more than $350 million and continue to focus on maximizing the effectiveness of our cost structure.
• As we have focused on costs we have been equally focused on growth. In spite of the woes of the housing market we have made great progress in advancing our company. From new franchise sales to the retention of franchisees and their sales associates to signing new clients at Cartus and Title Resource Group, we continue to be forward thinking, highly focused on the future of our company and the industry.
• In 2009, we expect to benefit from considerably lower interest rates since a significant portion of our bank debt is tied to LIBOR;
• None of our corporate debt is due until at least 2013; and
• Unlike many companies in today’s economy, we have the support and commitment of one of the best financed private equity firms in the country, Apollo Management.

Please also remember that private equity funds managed by Apollo Management and co-investors originally invested $2 billion in our company. Apollo has a substantial ongoing interest in the success of Realogy. Our senior management team is highly confident of Apollo’s commitment to Realogy. If there is any question as to Apollo’s overall financial strength, one need only look to Apollo’s success in raising approximately $15 billion in capital last month for its newest investment fund.

That does not sound like a company that is preparing a bankruptcy filing, nor one that really needs to.

I can personally attest to the cost-saving measures that Realogy has undertaken being a multi-year effort that goes back long before the actual “bursting” of the housing bubble.  I was working on cost-cutting back in middle of 2007.  We saw the storm coming long before it actually hit.  Could more have been done?  Perhaps.  Does more need to be done?  Undoubtedly.  But it isn’t as if Realogy got caught with its pants down when the market downturn hit, wholly unprepared for what was to come.

The fact that Realogy’s debt is tied to LIBOR is significant — and Alex is absolutely right to point out that they’ll have an easier time making debt service in 2009.  How much easier?  Who can say — but certainly, low interest rates help Realogy on two fronts.

First, low interest rates helps buyers enter the market (assuming they can get credit), which helps Realogy’s core business of buying and selling real estate.  Second, it lowers their debt service burden.

The fact that Realogy’s corporate debt is not due until 2013 is significant — it really makes me wonder just how much pressure there could be given that Realogy has four years to turn things around before they really have to worry.

Unless I missed some major story, Realogy has yet to miss an interest payment on its debt.  It has renegotiated a bunch of loans, but in this economy, who wouldn’t at least try to do the same?

Seems to me that the confidence is not entirely misplaced here.

Why Realogy did not release this to the wide public, to the entire RE.net, is puzzling to me.  There’s nothing in here that is confidential, and the letter went to a large group of individuals: brokers, agents, and staff of Realogy franchisees.  I think Alex is right to excoriate the original “reporter” Rick Newman.  He simply didn’t do his homework.  But he should have also gotten his communications people to start engaging the RE.net on getting the word out.

(Plus, a bit of an aside but… seeing as how Mr. Newman’s books are about 9/11 at the Pentagon, and Vietnam-era bomber pilots, why is he writing a column on business and economics?  Shouldn’t he be writing about the War on Terror, and Iranian nukes, and leave business reporting to, y’know, people who write about businesses?)

So, I guess I’m back to reiterating points from the first post, but with new info:

• Realogy makes for a very unattractive candidate for bankruptcy;
• Realogy keeps making debt service payments, and hasn’t missed one yet;
• Chapter 11 Reorganization is possible as a corporate takeover play by bondholders seeking to extinguish Apollo’s equity in Realogy; but
• It doesn’t look like Realogy really needs to file bankruptcy; they seem awfully confident.

And I can’t say their confidence is entirely misplaced.  Seems pretty spot-on actually.

-rsh

Should the Big Brands in real estate start blogging?

Joel Burslem over at FOREM thinks so:

Even with its obvious bias, the blog is actually a fantastic resource for anyone interested in staying on top of the beer wars. Several years ago I worked for Molson, before it became Molson Coors, so the brewing industry is still of interest to me (both professionally and socially).

But I think there is a lesson here for the real estate industry. Often when I speak to brokers, I hear a lot of them complaining about the negative press the real estate industry gets in the mainstream media.

One thing I suggest is for them to create their own blogs to counter this noise. Not fill the space with meaningless marketing platitudes like “Now is Great Time to Buy…” but actually contribute meaningfully to the conversation and to debate the issues.

The big real estate brands would be wise to take a lesson from Miller; create a real estate blog and hire a full time blogger. It could be an agent – but they’re (hopefully) too busy selling real estate. Rather, carve out some dollars from that bloated print marketing budget and hire a social media guru or a cub reporter fresh out of journalism school, then let them off the leash a bit to create stories that are relevant to the conversation but maintain your brand integrity. (Emphasis mine)

It’s an interesting idea, and I’m sure that at least some folks in Big Brands are thinking about it and experimenting with it.

For some reason, however, the idea makes me sort of queasy in the belly.

For one thing, the Brewblog itself referenced in the WSJ story that sparked Joel’s post makes me sort of queasy in the belly.  For Miller, and for the limited purpose they’re trying to serve, the Brewblog works.  Basically, the Brewblog exists to piss off Anheuser-Busch.  I didn’t read the WSJ story as being all that complimentary to what Miller was doing with Brewblog.  It’s not exactly a trusted source of information, and its biases are plainly obvious.  (Although, I suppose the plain bias puts Brewblog ahead of things like the New York Times and Washington Post… so that’s saying something.)

But it does seem relatively clear to me that the Brewblog is not adding to Miller’s own brand in any significant way.  It’s an industry blog for the brewing industry, aimed at industry insiders.  And its goal is more or less to be an ankle-biting annoyance to Anheuser-Busch.

Does that hold true in real estate?

Would, for example, Re/Max spend a bunch of cash for an industry-focused website that trashes Century 21 or Keller Williams for the sake of annoying their competitors?  What purpose would that serve in our industry?

Furthermore, I’m afraid there’s an even bigger issue for the Big Brands.  As I’ve highlighted above, if a Big Brand is going to do nontraditional PR via blogging, then it has to let official blogger(s) create stories that are part of the conversation while maintaining brand integrity.

But brand integrity is the one thing that is honestly lacking from the Big Brands.  Seriously.

What is the brand image of Re/Max?  What is the brand image of Century 21?  Of Coldwell Banker?  Of Keller Williams?  Of Long & Foster?  Of anyone in the business?  How are the brands different and distinct from each other?  Say you take a survey of 1,000 real estate customers.  Put the logos of the top ten brands in real estate in front of them and asked them to write a sentence next to each one describing the brand image of the logo.  Could they actually do it?

Besides, do you really get the sense that the Big Brands actually compete against each other if the media?  I don’t.  If anything, I think it’s more of a Us vs. Them mentality, where it’s the real estate industry (particularly the brokerages) vs. the Media.  I don’t know that you’d get serious disagreement between the Big Brands or between real estate agents of every stripe and market about the treatment of the entire topic of real estate in the media.

That being the case… I think it might be smarter for the Big Brands to let the RE.net worry about messaging, and for the brand themselves to worry about creating distinctive brand identities.  Here’s how I’d handle it.

Rather than hiring a corporate blogger, hire a corporate blog PR person.  Make sure that you have a guy or gal whose job it is to reach out to the RE.net constantly.  Every good, bad, or indifferent thing that happens should be publicized to the RE.net as soon as possible.

They all already do this with the dead-tree media.  Why not the RE.net?  Don’t just think about press releases; think about getting word to Joel or to Dustin or Greg Swann or Pat Kitano or any one of the numerous industry-focused RE.net bloggers.

We’re all hungry for the inside scoop.  The RE.net has blogs that are industry-focused with an audience that is primarily industry participants.  The Big Brands could start to leverage this fledgling online trade media by a coordinated effort to keep us informed and up-to-date.  Some of us will knock them, and others will defend and praise them.  But they will be part of the conversation.

Add in an executive or two who may be willing to post comments, and I think you have the recipe for success in growing an alternative media.  No need to hire a blogger and let him go out on the limb under the company name.

Simon Baker of REA Group recently stopped by my little corner of the Internet.  Frankly, I was shocked.  And he provided some good detailed information.  Frankly, I was shocked again.  That’s amazing outreach.  Even if I were to go on and trash REA Group, Simon has a fan.  If some dead-tree media type wanted to find out about REA Group, my post may show up, with the conversation Simon and I are having about international real estate.

Imagine if Alex Perriello did that.  Or Dave Liniger.  And not on just my tiny blog, but on the big RE.net blogs.

Don’t become the media.  Don’t try to convert the dead-tree media that hates you anyhow and has no idea what the @&*% it’s talking about anyway.  Grow the media instead.

-rsh