Notorious R.O.B. – Conversations on Marketing, Technology, Real Estate

Almost a year ago, at a time when various folks in finance and real estate were ready to write eulogies for Realogy, I spent a few posts arguing that the rumors of Realogy’s demise were ahh… premature.  My basic point then was that the bondholders of Realogy have very little incentive to push Realogy into bankruptcy:

The reason isn’t that I know something others don’t about the strength of Realogy or any such thing.  The reason mostly has to do with incentives for bankers and bondholders to allow a default and the consequences of such.  There is next to zero incentive for any creditor of Realogy to force the company into bankruptcy.

Realogy has next to no assets.  Really.  If you think about their business model, as a franchisor of service businesses, their main assets are the brand names and the people who work at their various company-owned stores or franchisees.

In the case of some of the other firms named by Crains, such as JetBlue or Hovnanian Enterprises, they own real assets that can be auctioned off or sold off to raise a fair amount of money.  Airplanes and real estate are both real assets.  In those cases, it might make a lot of sense for creditors to push those companies into Chapter 7 liquidation proceedings and recover their losses that way.

But Realogy’s real assets are negligible, to say the least.  It owns no buildings that I know of (unlike other franchise models where the franchisor owns the franchise location and receives rent from the franchisee).  All of its company owned stores are lessees of other landlords.  Whether its servers, technology equipment, office equipment, and such are worth a lot is unknown, but one suspects that Realogy probably doesn’t own the equipment in its datacenters (it probably leases them from the hosting facility), and used furniture isn’t exactly going to make a huge dent in the billions owed.

A year later, the latest news from Realogy (PDF) is that it has posted $58m in profits in Q3 of 2009 on $1.2b in revenues.  Critically, Realogy managed to stay in compliance with the debt-to-income ratio in its loan covenants.

Looking through some of the details, however, it appears that Realogy has really dodged a bullet this time around… but the way in which they dodged said bullet augurs a promising future.

Read the rest of this entry »

So it seems my little tweet the other day has engendered a bit more discussion — you can find the fascinating back and forth here on AgentGenius.  One of the more interesting comments there comes from Russell Shaw, who says:

REALTOR.com is cluttered on every page with banner and tower ads that endlessly attempt to “distract” the shopper (who was attracted there in the first place with our listings) to click on the banner ad and wind up on that agent’s site. In short, our listings are nothing but bait for MOVE to sell ads to other agents so they can attempt to poach the client that would have naturally been ours.

Setting aside the utterly idiotic fees they charge, if it weren’t for NAR’s original bungling of REALTOR.com (*giving* it to Homestore, aka, MOVE) all these “other sites” like Trulia, Zillow, etc. would not even exist. Not at all. They were created because NAR gave away our name.

In Canada, http://www.realtors.ca/ is FREE, as in included with their dues to Canadian Realtors. Enhanced listings and all. (Emphasis added)

Verrra interesting… so here’s some unpaid, free “consulting” for Move, Inc.  It’s worth every penny you’ve paid for it.

Read the rest of this entry »

Sell Your House for Top Dollar!

It’s a very personal, a very important thing. Hell, it’s a family motto. Are you ready, Jerry?  I wanna make sure you’re ready, brother. Here it is: Show me the money.

- Rod Tidwell, Jerry Maguire

I was recently researching a somewhat different topic (deflation, inflation, and price sensitivity in real estate) when I came across a paper written in 2007 by a trio of economists at respected institutions.  This paper has me in a tizzy.  I need to know what you think of it, and how we as an industry might answer it.

The paper is called The Relative Performance of Real Estate Marketing Platforms: MLS versus FSBOMadison.com (PDF) and the authors are Igal Hendel and Aviv Nevo at Northwestern University, and Francois Ortalo-Magne at the University of Wisconsin.

The findings are… disturbing to say the least if you work in or near the real estate industry:

After controlling for houses and seller heterogeneity, we …find no support for the hypothesis that the MLS delivers a higher sale price than FSBO. Considering that realtors charge a 6% commission versus $150 for FSBO, FSBO sellers come ahead fi…nancially. The lack of a MLS premium does not mean realtors do not provide value to the seller. It means instead that the cost of the convenience provided by realtors seems to be the full commission.

And more:

The raw price comparison shows that the average sale price of homes that sell on FSBO is higher than the average price of homes that sell with a realtor. The characteristics, reported in the city assessor’s database, of houses sold on the different platforms are somewhat different. However, after controlling for these observed characteristics a significant price gap persists. Naturally, platform selection is the main suspect behind the persistent premium. We take several approaches to deal with selection. All the approaches support the same conclusion: MLS does not deliver a price premium.

Emphasis are mine.  If you are so inclined, read the whole paper.  I read through it, but didn’t have time to dive in.  For that matter, I don’t have the Ph.D. in economics to really criticize their work.

Turns out, the New York Times had covered this paper, both in an article and on its Freakonomics Blog.  This is from the blog:

But the paper supports the argument that, unless you’re the kind of person who needs a little help through a “stressful and maybe difficult period,” and unless you’re unwilling to wait a little longer to sell your house, then the commission that you pay your Realtor is in essence a big fat tip.

Oh wow.  This is a problem, y’all.

Read the rest of this entry »

A really fun discussion on Twitter with Robin Greenbaum (@cobrokenation) led me to just do a very quick, very back-of-napkin, and likely very inaccurate comparison between two rental units.  As Robin pointed out, since comparisons are very difficult, depends on many factors, and the like, no matter what I come up with, this is likely to be wrong.

Nonetheless, I’m curious to see if we might see any interesting bits of data.

One unit is a 1BR at 22 River Terrace, a luxury rental building constructed in 2001:

22 River Terrace

Detailed info can be found here, but the vitals of the unit are:

Floorplan, 22 River Terrace

725 sq. ft., monthly rent of $2,880, 23rd floor but facing east (aka, no river views).  I know the floorplan is hard as heck to see, but it’s pretty standard fare for NYC apartments.

The second unit is located at The Verdesian, a LEED Platinum certified building located right by 22 River Place.  See the map here.

LEED Platinum certified, The Verdesian

The Verdesian is a newer building, built in 2006, and LEED Platinum is not given to just about anybody with a solar panel or two.  There was quite a lot of thought and technology devoted to the building.

The unit here is a 1BR as well:

Floorplan of 1BR at Verdesian

The vitals here are:

750 sq. ft, $3,065 per month, and east-facing on the 13th floor.  Clearly, the little alcovey “Den” area means a smaller living room, but the floorplan might be better for some, worse for others.  Who can say?

On a straight $$/sq.ft. basis, however, the difference is only $0.12 between the newer, eco-friendly unit and the older, non-green unit: $3.97/sq. ft. for 22 River Terrace vs. $4.09/sq. ft. for The Verdesian.  If we hold the square footage equal at 725, that means a monthly rental difference of $87.00.

To my untrained, unpracticed, and non-realtor eyes, this seems rather insignificant and would tilt the decision towards the Verdesian.  According to GreenbuildingsNYC.com, the Verdesian’s advanced systems, EnergyStar appliances, and various other design & architectural choices, means a 40% savings on electric bills for residents.

According to ConEdison, the average NYC resident can expect to pay $104.97 per month in electric bills.  A 40% savings on electricity alone is $41.99 per month.  Nearly half of the “green premium” (if that’s what it is) is taken care of simply from savings in electric bills.

Now add in the fact that The Verdesian is five years newer, and offers “Fresh filtered air, continuously humidified or dehumidified, depending on climate conditions” to every unit, and it isn’t clear to me that the green premium starts to head towards zero.

Again, comparing different units, different buildings, with slightly different amenities and the like is hazarding error.  But it does seem significant to me that the actual cost difference may be as low as $45 or so per month — less than the cost of a cup of Starbucks latte per day.

If this is true, then the green premium at least in the NYC rental market is heading towards zero, and renters really have to ask why they would go to a non-green building vs. a green building.

I for one would love to see some real comparisons by real professionals — realtors, appraisers, I summon thee!

-rsh

PS: Note that I am a heretic when it comes to anthropogenic global warming hype, so this has nothing to do with religious views on carbon footprints and such nonsense.

One of the most valuable pieces of data in our industry, I think, is the annual Power Broker Report and Survey conducted by RISMedia.  The 2008 edition is no exception, and is available here.  I highly recommend it if you’re interested in our industry as a whole.

I like to play with the numbers as soon as I can get my hands on them.  I’ll probably be writing about one or more aspects of this over the next few weeks, but thought I would share some interesting tidbits.

I only looked at the top 750 brokerage companies in the survey report because the numbers started getting wacky.  For example, the #961 company did 13 transactions totalling $70,000 in volume in 2008.  That just doesn’t sound right — either there’s a data entry error, or that company ain’t in business no mo’.

Plus, I excluded the top three companies: NRT, HomeServices of America, and Long & Foster, simply because they are such outliers that they really skewed the results.  For example, #3 Long and Foster more than doubled the sales volume of the #4 company, Prudential Douglas Elliman.

In any case, here are some numbers to chew on:

• The average number of transactions in 2008 was 1,894; the median, however, was 931.
• The average sales volume in 2008 was $498.2m; the median was $208.6m.
• Assuming a 2.5% GCI rate, the average GCI for the Top 750 was $12.5m, with the median coming in at $5.2m.
• Assuming a 26.7% company dollar retained (taken from the 2007 REALTrends Brokerage Performance Report), the average Company Dollar was $3.33m, with the median at $1.39m.
• The companies in the Top 750 employ an average of 271 agents; the median number comes in at 128 agents.
• The average GCI per agent is $53,444, while the median GCI per agent is $38,031.
• The average Company Dollar per agent is $14,269; the median is $10,154.
• In total, the top 750 companies added 43,906 agents in 2008, while 51,753 agents “left” — a net loss of 7,847 agents.  (Note that there’s a pretty good likelihood that many of the 51K agents who “left” went to another company, and forms a portion of the 43.9K number.)
• Similarly, 293 offices were opened in 2008, while 355 offices were shuttered, a net loss of 62 offices among the Top 750 companies (less the top 3 outliers).
• Regardless of the above disclaimer about outliers, among the Top 15 companies ranked by sales volume, the #1 company (NRT) did more than #2 – #14 combined: $132B vs. $131.8B.
• If you take the Top 15 companies by Sales Volume and re-rank them by GCI Per Agent, the only company to appear on both lists is Keller Williams Realty, Oklahoma City, who is #7 on Sales Volume and #6 on GCI/Agent with $403K in GCI produced per agent.  This would make them the most efficient large brokerage in the country.  (At least, based on calculation assumptions.)
• The second most efficient company in the Top 15 by Sales volume is Alain Pinel Realtors, who is #9 in sales volume and #28 on GCI/Agent with $115K in GCI produced per agent.  Incidentally, the #1 company, NRT, is 158th in GCI/Agent with $65K GCI per agent according to this report.
• Without question, Keller Williams dominates the Top 750 list in terms of brokerages represented under its brand.  337 of the top 750 are Keller Williams franchises.  Coming in second is RE/MAX with 141 of the top 750.  Coldwell Banker comes in third with 50 franchises.

There are more interesting tidbits, and there are conclusions to be drawn from the information.  But for now, I thought some of the above was pretty interesting.

More to come.

-rsh

If you could go ahead and try to go virtual, that'd be great, okay?

Let us talk about land.  About buildings.  The pure physicality of bricks, wood, steel beams, stairways, elevators, walls and roofs.  You know, real estate.

Normally, the conversation would be all about homes, condos, and the like — the stuff of the daily business of realtors and consumers.  But I have in mind a slightly different take.

Let’s discuss brokerage offices.

This topic has been swirling around the industry for quite some time now, but a few recent events brought it into focus for me.

First, the LeadingRE Conference in Scottsdale.  I got to speak with Matt Dollinger quite a bit while out there, and thanks to Pam O’Connor’s graciousness, I had the opportunity to hear some of the top broker-owners in the country talk about some of their top issues. The cost of leasing office space and how to minimize it was a frequent topic of discussion.

Second, a brief conversation on Twitter with Derek Massey (@derekmassey) about the desirability of virtual setups vs. physical offices.

Third, conversations off and on with people like Joe Ferrara (@jfsellsius), Eric Stegemann (@ericstegemann), and others who are either trying to start or thinking heavily about “virtual brokerages” with no overhead for office space.

Fourth, this report the existence of which just crossed my RSS feed: Beyond Brick and Mortar, Rethinking the Real Estate Office.  I haven’t read it, and at $299 for a copy, I’m not likely to read it anytime soon.  But if you have, or plan to, please let us know what the findings are.

Direct Cost…

The direct cost of brokerage office is actual, measurable, and large.  According to the RealTrends 2007 Brokerage Performance Report (yes, I need to get the 2008 report), all respondents had Rent & Related Occupancy costs that came in at 4.94% of GCI.  This figure, however, is a bit misleading in my opinion, because rent and occupancy costs are paid entirely by the brokerage.

Since average company dollar is 26.7% among respondents, the actual direct cost is about 3.7 times the GCI figure in terms of impact on the bottomline.  For example, a company with $10m in GCI would end up with $2.6m in company dollar.  Occupancy costs, at 4.94% of GCI is $494,000 or 18.5% of company dollar.

Add in the 0.83% of GCI for Supplies (pens, paper, etc.) that having a physical office necessitates, and we’re looking at 21.6% of company dollar going to expenses associated with having physical space.

In contrast, the combined expenses for Communications (e.g., telephone, high-speed internet, etc.) and Technology (e.g., website) for respondents were 5.1% of company dollar.  Even if you assume that going to a virtual brokerage setup would double the cost of Communications and Technology, we’re looking at 10% of company dollar expenses vs. 21%.

A 50% reduction in cost is something anyone is going to look at, especially now.

vs. Indirect Cost

There is, however, another side to the equation.  Actually, two other sides.  That makes no sense at all, so I suppose it’s more like two factors on the other side.

First, agent productivity.

Some of the brokers at the LeadingRE show expressed the view that agents are unquestionably more productive when they are sitting together in a physical office.  Unfortunately, I don’t know that there is any study or data available on the relationship between office and productivity.  Are we talking a 100% improvement or a 1% improvement?

The impact of productivity is far-ranging, however.  Let’s take that hypothetical brokerage from above and extend the analysis.  Based on my bad math, it goes something like this:

To do $10m in GCI, at an assumed rate of 2.5% per side, and a avg. Home Price of $250,000, that brokerage had to do 1,600 transaction sides totalling $400m in volume.

If we further assume that every agent did 20 transactions, that translates to 80 agents.  (Now, I know the reality is 80/20 rule, where 20% of the agents do 80% of the transactions, but for simplicity’s sake, let’s pretend they’re all robots.)

A 10% decrease in agent productivity by going virtual means a loss of $1m in GCI, resulting in a $267K in lost company dollar.  The net savings from shutting down the office then is only $227K.  If the productivity loss is 20%, then Hypo Realty ends up losing $40K from the ‘cost-saving’ move as the $534K loss in company dollar more than offsets the $494K in savings.

Second factor, however, is agent splits.  One of the justifications for a brokerage charging a split is to pay for overhead, such as office space.  Get rid of that, and it seems unlikely that the brokerage can maintain the same splits.

Moving from a 26.7% company dollar scenario to a 5% decrease — 21.7% company dollar — means that even if the productivity loss is only 10%, Hyop Realty is now losing $140K from its ‘cost-saving’ measure: decline of $717K in company dollar vs. saving $494K in rent.

All of a sudden, going all virtual doesn’t seem quite so attractive.

And neither of these factors take into account possible ’soft’ costs, such as loss of brand value due to not having any storefront space in a highly visible street, or possibly a more difficult time in recruiting, or any of the other hard-to-measure impacts.

So What’s the Answer?

Because the financial ‘model’ above is so quick and dirty, it may be that there’s a balance point, especially given the 80/20 rule of productivity where you provide office space to your most productive 20% and gain the benefits of that, while saving on occupancy costs for the 80% who aren’t producing much anyhow.

Without analyzing a particular company’s financials and its market conditions — e.g., prevailing rents for store-front office space — it’s impossible to say whether Virtual is better or Physical is better.

But I figure folks more knowledgeable than I will step forth and provide further insight.  In particular, I think some sort of metrics of agent productivity would be enormously helpful.  Perhaps the Inman report has that answer.

Looking forward to your thoughts.

-rsh

Here is the house / Where it all happens - Depeche Mode

So it turns out that in addition to ruling the world from the Skull & Bones tomb, Yalies also get involved in real estate from time to time.  There’s even a group called Yale Alumni Real Estate Association (YAREA, pronounced Y-Area) that just held its annual conference.  I was invited, so… I went.

Since the theme of the conference was on “Green Real Estate”, and this was an area about which I was more or less wholly uneducated, the day turned out to be one of the most enlightening of my career in real estate.  A blogpost is really not the place to describe everything I’ve heard and learned, and the people I’ve met, but I do want to touch on some of the high points.

Green Capital also means y'know... the other Green

Green Capital

It turns out that in the world of real estate high finance, green is more or less a requirement.  Panelists such as Cherie Santos-Wuest, the Director of Global Social and Community Investments for TIAA-CREF, and Victoria W. Kahn, Managing Director of ING Clarion, made it clear that for them to consider investing in real estate projects, those projects have to meet certain green standards, such as LEED.

Considering that these folks have billions-with-a-B dollars under management, and make eight and nine-figure investment decisions… one would do well to take notice.

Which makes me wonder whether large-scale residential developers, such as Lennar or Hovnanian, ever put together a green subdivision.  And by that, I do not mean — and the folks at the conference do not mean — slapping solar panels on McMansions and calling them “green” houses.

My thought is that while this development is still limited mostly to high-end commercial real estate projects, I see the requirement to be much more environmentally conscious filtering down the ranks first to regional banks then local banks.  It might not be tomorrow, or next year, but I could see a time in the near future when your local S&L will be demanding that the local developer putting up a spec home include rain harvest and greywater recovery systems.

Green Ain’t Mainstream Until It Can Move to the Suburbs

One thing that was very evident — primarily because one of the panelists on the Green Cities panel said it — is that there is a very strong hostility to suburbia.  The green movement is the urbanist movement is the green movement.

The reasoning is extremely solid.  Cities cut down on transportation from one building (your house) to the next (your office, the store, etc.).  Cities enable walking or biking to locations, or public transportation, whereas suburbs are inherently built for the car culture.  Indeed, one might say that the American car culture would be impossible without suburbia, and that suburbia was made possibly only because of Henry Ford and his progeny.

Having said that… unless there is a wholesale change in American culture, most families and people are going to head to suburbia at some point in their lives.  Homeownership is the American Dream, and for whatever reason, owning a co-op ain’t really the same thing psychologically.  Also, people tend not to feel the need for more space and a backyard and such until they are expecting their second child… but once they do….

Plus… let us face facts.  Living in the city — in any city — is far more expensive than living in the ‘burbs on a per-square-feet basis.  I would have loved to have stayed in New York City with my two kids, but the equivalent space I have in my tiny little house in Millburn would have cost not double, not triple, but quadruple in NYC.  To me, it seems a simple matter of supply & demand.  Cities have less land; more people want the convenience of city living; ergo, prices will be high.

My sense right now is that this movement is here to stay, whether you believe in the whole Anthropogenic Global Warming thing or not.  (For the record, I do not, and I think Al Gore is a buffoon.)  Because there are other economic benefits to green buildings — lower energy costs, less water usage, and better health are all great things to have even if you think carbon footprint is something to be maximized if at all possible.

But equally clear at the moment is that the green building movement is still restricted to large commercial developments or large multifamily projects, and remains a fairly small niche.  Until it can cross the gap into the suburbs, impacting single family residences and suburban buildings, and leave behind the elitist disdain for suburbia, I don’t think green buildings can be a mainstream phenomenon.

Costs of Green Technology Must Come Down

A big part of the equation is the cost of green technology and green building techniques.  I got to listen to what was one of the most fascinating discussions about Green Buildings by some of the premier practitioners of the craft.  Architects such as Mark Simon of Centerbrook, Stephen Kieran of KieranTimberlake, and Rafael Pelli of Pelli Clarke Pelli gave presentations on some of the techniques they used on their green building projects and… let me just say that my respect for the architect profession increased by orders of magnitude.

The amount of thought these talented architects put into things like designing a wall — a topic to which I have never given a moment’s thought — is simply amazing.  And the impact of that design is similarly amazing.  I wish I had slides of Stephen Kieran’s presentation where he showed that a properly designed wall has three times the impact of solar panels on energy efficiency.

Kroon Hall, Yale University

This intellectual work has to make its way into the mainstream of American homebuilding industry before the crossover can truly happen.  We’re starting to see it with EnergyStar appliances, and with double-pane windows and such.

But technology like geothermal heat pumps, dual-flush toilets, greywater recovery, rainwater harvesting, and of course the photovoltaic cells have to all come down in price and become far more widely available.  I was privileged to take a tour of Kroon Hall, the new home for Yale’s Forestry and Environmental Studies Department, and the building is simply a marvel.  I wanted almost all of the features in that building in my house — and keep in mind that once again, I do not believe in AGW — but the cost is still exorbitant for single family homes.

Last, But Most Important… Consumer Demand

Today, the consumer demand for green buildings is simply… meh.  In other words, all things being equal, people would prefer to be in a green building.  But all things can’t really be equal when you’re investing in green technology.  Yes, for large multifamily or for big commercial buildings, the savings in energy alone could probably pay for the investment.

But as yet — and based on like, no evidence, but plenty of anecdotes — consumers aren’t willing to pay a significant premium for green homes.  There has to be a relatively short horizon for payback on any investment for consumers to take green buildings really seriously.

Having said that… the Green Building trend is here to stay.  And it will accelerate and continue to do so.  Even after the whole global warming fraud is exposed as pseudo-science, the green building trend will stick because so much of what it proposes is common sense: use less energy, use less water, be smarter about designing buildings, and don’t stuff your home with dangerous chemicals if you don’t have to.  As prices of technology come down, and smart architectural and materials design continue to filter downwards from the big commercial projects, I think consumer demand will be there.

I think I got a glimpse of the future last Friday.  And the future is green.

-rsh

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.

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.

Feelin' Good!

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

So it appears that commercial real estate isn’t going to escape the imploding economy after all. (H/T: Peter Pays Paul) This is probably not the best time for NAR to be talking up commercial real estate. But that’s another story, for another time.

This is the time to look on the bright side of the coming CRE bust.

As Calculated Risk points out (quoting Reuters):

U.S. office vacancy rose to 13.6 percent, up 0.5 percentage points from the second quarter, its largest one-quarter jump since the second quarter of 2002. The third-quarter vacancy rate was the highest since the second quarter of 2006 and was 110 percentage points higher than its recent low of 12.5 percent set in the third quarter of 2007.

And as we all have heard, U.S. unemployment has hit 6.7%. While that’s pretty good compared to places like, say, France (7.7%) or Germany (9.1%), it is a 15-year high for the United States.

So uh… just where the heck is the good news in all this?

There has not been a better time to start a company in the past decade.

Think about it.

Unemployment is relatively high, which means labor costs will be lower, and you can find some really talented people at very attractive cost.

Commercial real estate is getting hammered, with higher vacancies and delinquencies and the like, which means that you can probably drive rents to historic lows as well if you’re looking for office space, or retail space for your new concept.

If you’re an investor, and you’ve got cash (or rock-solid credit able to overcome higher lending standards), you probably can pick up some incredible deals on commercial properties. Sure, maybe wait it out some more, wait for more landlords to get truly desperate, but… I suspect that the whole fear-driven atmosphere will make it pretty sweet for those who keep their wits about them and have cash to back it up.

So, in the immortal words of Monty Python,

If life seems jolly rotten
There’s something you’ve forgotten
And that’s to laugh and smile and dance and sing.
When you’re feeling in the dumps
Don’t be silly chumps
Just purse your lips and whistle – that’s the thing.

-rsh