Blog #96: “iBuy, iSell, But Will I Make a Good Living?”

iBuy, iSell, But Will I Make a Good Living?

Let’s take a look at what some folks call ibuyers (and, to some extent, isellers), as well as the business platform from which they operate (especially the ibuyers). We’ll take this look since their business model is disruptive of the traditional business model of the real estate broker. How? That model takes the broker out of the picture (or, at least, has that potential). Therefore, it merits our scrutiny and analyses.

While a disruption to the business model of the traditional real estate broker does not and will not affect us appraisers directly, it most definitely will have an indirect impact on (a) us, (b) what we do, how we do it, and, to some extent, (c) why we do it. In one sense, this indirect impact will make of us collateral damage. But let’s see how bad the damage to us from that disruption may be.

In the ibuyer model, the seller is the typical homeowner who, for all of the reasons there are, wants either to sell their house, or buy another one (thus requiring the sale of their current residence). In either event, the seller needs to sell to a ready, willing, and able buyer. It is common for seller to commission brokers to aid them in this quest. Indeed, that is the traditional brokerage business model.

Traditionally, that potential seller went either the FSBO route or called in a broker. Since this essay is about the disruption to the traditional broker business model, we’ll focus our attention on the broker’s end of things. However, as you’ll see, an ibuyer does not care about the presence or absence of a broker. That lack of concern is the disruption. Now, let’s cover how the disruption works.

In comes the ibuyer. While there have always been folks who invested in the purchase (and sale) of houses, the ibuyer is different. Because the current ibuyer is really a corporation whose business it is to ibuy and then isell their inventory, the ibuyer is flush with cash. Because of this, the ibuyer is able to make a cash offer: there is no worrying about a three (3) to six (6) month marketing period. There is no worrying about waiting for the buyer to receive the approval of a lender. There is no delay while the appraiser gets around to this assignment, then gets the appraisal back to the AMC, which then gets the appraisal back to the bank. There are no “low-ball” appraisals. There is no concern about the buyer having enough cash to close. Ibuyers are cash buyers; the purchase and sale transaction is potentially about as simple as it can get.

Because ibuyers are cash buyers, they are able to close essentially immediately (i.e., as soon as the closing agent can prepare the paperwork). In other words, from the time the seller accepts the offer, until the time the seller hands the ibuyer the deed and gets the closing check, could take as little as 10-days (maybe less?). If you think about it, that’s a major potential disruption to the traditional brokerage model. Yet, in and of itself, a quick closing with a hyper-qualified buyer does not affect us (and may be a real advantage to the seller).

Now, you’re probably not shedding a tear for the broker, most of whom appraisers consider to be over-paid and under-worked clerks. They’re not (they work hard for the money), but that’s not the point here. The point is, if ibuyers are willing to pay cash for practically any house (sometimes even sight unseen), what is the purpose of a broker? You’ve got a ready, willing, able, and cash-flush buyer and a seller who wants to sell. There is no need for a broker to bring them together and help negotiate a deal. Bye-bye brokers, right (at least potentially)? But, since we are analysts, let’s analyze the disruption this situation causes to see just how rosy (or non-rosy) it is to sell to an ibuyer.

It’s clear the ibuyer is in the business of buying houses. So, in order eventually to sell that house at retail, the ibuyer must buy it at wholesale, otherwise there is no profit motive, right? Therefore, the ibuyer must purchase the house at a discount substantial enough to sell it at a profit (and essentially build that profit into the eventual sale). Since there is no broker to pay in an itransaction, the ibuyer expects to pay market value for the house, less at least six percent (6%) commission, don’t you agree? Then, every house has some deferred maintenance, doesn’t it? So, the ibuyer expects that discount, too. Since the ibuyer is a smart entrepreneur, it does not leave mounds of cash sitting in the bank. It borrows the purchase money from a bank (or whatever), on its own corporate credit, thus has interest costs to pay. There is another discount to take from the purchase price. It’s reasonable to account for the ibuyer’s general & administrative costs and overhead, right? Another discount. Oh, and how about that profit we just mentioned? Ibuyers don’t do this for free, so there is another discount from the market value (and this one is likely large). This is quite a hefty nick, right?

Thus, to enable it to ibuy at wholesale, and then to isell (eventually) at retail, the ibuyer model requires a substantial discount for all of the costs we just enumerated.

At a recent sale and purchase in which I was involved, the seller paid 9.2% of the purchase price (including a commission, but not the mortgage pay-offs) in closing costs. For simplicity’s sake, call it 10%. Now, to that add all the other costs the ibuyer would expect to receive as discounts. Assuming a 10% profit (which may be low) and five percent (5%) for the other items, then the ibuyer expects a discount of at least 25% (if not more).

In August, 2019 the median price of an existing home in the US (see here for details) was $278,200. Assuming 25%, that’s a total discount of $69,550, or a net to the seller (before mortgage(s) pay-off) of $208,650. $278,200 less 10% is $27,800, or a net of $250,200 (again, before mortgage(s) pay-off). This $41,720 difference would go a long way toward any number of opportunities for that seller. Yet, with an ibuyer, this difference does to the ibuyer, not the seller. That should raise some questions, right?

So, you righteously ask, “Who, in their right mind, would sell to an ibuyer if that kind of discount is necessary?” Well, here’s the rub: yes, that’s quite a discount; but here are the advantages of the ibuyer’s model:

• Very short period between going to contract and getting that closing check in-hand;

• No worries about the ibuyer qualifying for the mortgage;

• No worries about the ibuyer not having enough funds to close;

• No worries about what the home inspector says about the condition of the house (since the ibuyer factors this into the discount it demands to consummate the sale);

• No worries about delays in closing (which could possible screw-up the seller’s purchase of their next house);

• No worries about that “low-ball” appraisal

• No worries about that delay between the lender ordering the appraisal thru the AMC, the AMC shopping the appraisal, the appraiser completing the appraisal, the appraiser sending it back to the AMC, the AMC diddling around with it, then the AMC getting it back to the lender timely;

• No worries about open houses, strangers wandering thru the house, incompetent brokers, low-ball offers, offers with funky terms, looky-loos, etc.

Now, if these eight items are important to a particular seller, then that 25%-plus discount makes sense, don’t you think? So, the advantages to the seller are the disruptions to the broker. Yet, why should we as appraisers worry about the disruptions to the traditional brokerage business model?

We should worry about those disruptions to the traditional brokerage model? It is because we appraisers, as well as what we do and why & how we do it, are extensions of that brokerage business model. We clearly are not at the epicenter of the ibuyer earthquake, but we are surely going to suffer the effects of the aftershocks. How so? My fellow appraisers, if there are fewer sales out there requiring mortgages, there will be fewer appraisals out there to require our services. Given the ibuyer’s business model, there are going to be fewer appraisals since ibuyers do not require mortgage loans to purchase properties. That is the disruption to us.

Further, when ibuyers become isellers, part of their business model is that they, as isellers, finance the purchase price for the retail buyer. Since these ibuyers and isellers all have access to oceans of sales data (Zillow® is one of the ibuyers, folks!), they don’t need an appraisal. Their portfolio of loans must be profitable, not each individual component of that portfolio. Thus, there is a potential double-whammy here to smack us appraisers upside the head.

Now, consider this: one house in a neighborhood sells for $210,000 to an ibuyer, while the rest of them sell, via the traditional model, for $250,000-ish. That won’t impact us as appraisers, since one sale does not a market make, right? In this case, houses here are still $250,000-ish, since that is what a majority of the sales say (and appraiser tend to look at one standard-deviation from the mean when it comes to sales prices, not the outliers). So, in this case, for us there is no impact on comparable sales.

But what about when there are 10-sales in that neighborhood in the past 12-months to ibuyers? You can’t say the ibuyer sales were not arm’s-length transactions. They were all cash, the seller was under no undue stress to sell and the ibuyer, if the seller didn’t take the offer, could have gone on to the next property, so was under no undue stress to buy. There is no reason to conclude the seller was uninformed (and the ibuyer, with its oceans of data, most certainly knew what was going on). That seller could have consulted with a broker, attorney, or appraiser to make sure the ibuyer was not taking advantage of the situation. That seller could have refused the offer and listed the property for sale with a broker. So, the ibuyer sale meets the qualifications of the standard Fannie Mae definition of a market-value transaction.

Is the concept of highest and best use (h&bu) an issue to consider here? Remember, a property’s h&bu is that single use that, of all the legally permissible uses, all of the physically possible uses, and of all the financially feasible uses, that brings the highest value to the property. Under that model, then the sales price from traditional brokerage will always result in the h&bu, since the inherent discounts in the ibuyer model result in a lower purchase price.

Nevertheless, by definition, a sale is not a comparable sale unless it has the same h&bu as the subject. Therefore, if a property’s h&bu always comes via the traditional brokerage model (the one resulting in the higher value), does that mean ibuyer sales transactions are incapable of serving as comparable sales? If there are fewer sales from which to choose comparables, will this adversely affect the quality and velocity of our appraisals? If there are a bunch of ibuyer purchases in a neighborhood, does that mean values are dropping, or that merely sales prices are dropping? If there are enough ibuyers in that neighborhood, won’t the comparable sales eventually indicate that values are dropping, too?

Will the presence of ibuyers in a market create a two-tier market, one market for traditional buyers and sellers, with a second (likely smaller market) for ibuyers and isellers? When an ibuyer becomes an iseller to a “traditional” purchaser (i.e., the property now sells at retail to an end user), will that purchase and sale transaction qualify as a comparable sale under the above definitions of h&bu and market value?

If a potential seller contacts one of us to determine if the ibuyer’s offer is reasonable (whatever reasonable is), and we say it is not, the client will get a higher price with a broker, have we stepped over the line of being an appraiser to become an advocate?

As this essay points out, there are truckload of questions on the issue of ibuyers and the ibuying platform and business model. As this essay also makes clear, there are not a truckload of answers; there is not even (yet) a wheelbarrow of answers. These are because the ibuying platform/model is brand new and its impact on both brokerage and appraisal is still small. Yet it has the potential to disrupt the real estate brokerage traditional business model. Given that, it will likely impact the appraiser’s traditional business model, too.

Since this disruption is inevitable (although the magnitude of that disruption is open to question, as well as something only the passage of time will tell us), what are appraisers doing to take advantage of the changes that are upon us? What are appraisers going to do about the damage it will do to the broker’s business model? What are appraisers going to do about the damage it will cause to the appraiser’s business model(s)? Believe it or not, there are opportunities to turn these disruptions into cash, however. Perhaps these potential opportunities are fodder for another essay. Perhaps they serve as a model for how we continue to make a good living.

Until then, be safe and well!