Compass The Next Potential Victim Of The Real Estate Business Cycle

Compass The Next Potential Victim Of The Real Estate Business Cycle

If you’ve been involved in the real estate industry for long enough, you’ve seen it happen. Real estate brokerages have flashes of success and popularity for a few years, only to be replaced by a competitor. Several years ago it was Keller Williams. Before that, it was The Agency. Before that, it was Sotheby’s. Now, it’s Compass.

Compass’s quick rise to popularity is obvious to the average onlooker – drive through any high-end neighborhood and you will see the Compass logo on real estate signs everywhere. What very few realize is that what is happening within the company is very different from how it appears from the outside, with the company stock sitting at 10% of its original value, massive layoffs, and annual losses to the tune of half a billion dollars.

How It Started

Compass was originally founded in 2012 by Robert Reffkin. The concept for the company was to offer agents a technology platform that would allow them to seamlessly operate all aspects of their business from their phones. With this promise of differentiating itself from its competitors through technology, Compass raised substantial investment funds from SoftBank, who has reportedly invested approximately $1.5 billion into the company in exchange for a 35% interest.

Compass quickly and aggressively entered the real estate scene by targeting and recruiting high-producing agents. As they say in real estate, 20% of the agents do 80% of the work, so targeting high-producing agents is a sure-fire way to make an immediate impact in the market. In addition to offering its technology platform, Compass also poached these agents from other brokerages by offering significant signing bonuses (an uncommon practice in the real estate industry), equity in the company (also an uncommon practice in the real estate industry), and better commission splits than its competitors (i.e. agreeing to allow the agents to keep more of the commission from each deal).

From an outsider’s perspective, the strategy was extremely effective. Over the past few years, Compass’s for-sale signs have taken over neighborhoods, particularly areas where real estate is expensive. With their sleek signs and logo, buyers and sellers are often under the impression that Compass agents have some sort of inside-scoop to success. Behind the scenes, however, is a different story.

How It’s Been Going

In 2020, Compass’s last year as a private company, it posted an annual loss of $270 million. In April of 2021, it became a publicly traded company. In its initial filings, Compass anticipated offering 36 million shares at $23-$26 per share. The company’s almost $10 billion valuation received harsh criticism, largely because “the company looks more like a traditional brokerage with flashy marketing, whose only advantage is a virtually unlimited ability to burn cash.” On March 31, 2021, the day before its IPO, the offering was reduced to 25 million shares at $18-$19 per share, thereby reducing the valuation to about $7 billion. Compass stock closed its first day at about $20 per share. It has steadily declined since then.

2021 was an extremely lucrative year in the real estate industry, with demand for housing soaring and home prices hitting record highs. However, by the end of the year, Compass had almost doubled its losses from the prior year, posting a loss of close to half a billion dollars in 2021. On December 31, 2021, its stock was trading at $9.09 per share, less than half of what it was worth at its IPO just 8 months earlier. During that same period, the S&P500 was up almost 20%. Although Compass had increased its annual revenue by 72.6% to $6.4 billion as a result of its aggressive recruitment and increased sales, the company simultaneously increased its operating expenses by 80.3% to $6.9 billion.

Things have gotten worse for Compass in 2022, particularly as the real estate market has slowed. In the first half of the year, Compass posted losses of close to $300 million. It has also decreased its projected annual revenue from $7.6-$8 billion to $6.15-$6.4 billion. In light of its significant losses, Compass has announced significant cost-cutting measures, including no longer offering bonuses and/or equity in its agent recruitment efforts and no longer offering aggressive commission-splits for agents. In June of 2022, Compass laid off 450 employees (about 10% of its work force), wound down its title and escrow arm, and put a pause on market expansion. In September of 2022, Compass conducted another round of layoffs, although it was unclear precisely how many employees were laid off. Many cuts will reportedly come to the tech team. Some news agencies, like Vice, have compared Compass to “the WeWork of the residential real estate market” due to its high-spending strategy and reliance on technology in an attempt to take over an industry, despite any real difference it makes money in comparison to other brokerages.

As of the date of this article, Compass stock sits at less than $3 per share, close to 10% of what it was worth at its IPO just 1.5 years ago.

What Happens Next

Compass is now in a position where it must reduce its costs. It has expressly stated it will be downsizing its technology team, will stop expanding into new markets, and will no longer aggressively recruit agents. Its competitors, on the other hand, have remained profitable, and are poised to take advantage of the opportunity.

There is no doubt that Compass has recruited a team of excellent agents. In fact, we have worked with many of those agents, and it has always been a pleasant and professional experience. What remains to be seen, though, is whether Compass will be able to retain those agents in the midst of its cost-cutting measures. Without the promise of an evolving technology platform, signing bonuses, and/or equity, it can no longer offer many of the things that made it attractive when recruiting agents. At a minimum, this creates an excellent opportunity for competitors to enter the scene and potentially attract high producing agents that Compass has acquired over the past few years.

If you would like to further discuss this issue, or how Esquire Real Estate Brokerage can help you in the Southern California real estate market, feel free to give us a call at 213-973-9439 or send us an email at info@esquirereb.com.

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