Standing on stage at Dogpatch Studios in June, Robert Reffkin rang in his 38th birthday by channeling his inner Steve Jobs. Clad in a black suit and T-shirt, the CEO of Compass addressed a pumped-up crowd of 300 agents at the former warehouse located along San Francisco’s once-gritty waterfront. A popular venue for photo shoots and parties, the space has been used by Google, which once rented out the building to debut a new tablet. Compass was there to celebrate the official opening of its first office in the city.
Compass had been growing fast – perhaps too fast, Reffkin admitted.
“I believe every company needs to know their mission,” he said. “I know, if I were to ask 10 people in this room, ‘What’s Compass mission?’ I’d get 10 different answers. For that, I am sorry.”
By now, the company is used to playing the industry boogeyman. And for good reason. In just four years, it’s become the first residential brokerage to leap past a $1 billion valuation, expanded to nine markets across the country and recruited some 1,500 agents, many of them headline names. Its competitors curse it, sue it and predict its untimely demise.
Having a bullseye on its head hasn’t hurt Compass’ ability to attract investor attention — it’s raised over $225 million in venture capital to date. But as it tightens its grip on the U.S. and eyes international expansion, questions persist about how the company will deliver returns to the early backers who propelled its growth.
At its current size and valuation, Compass may be too big to be acquired, leaving additional funding rounds or the public markets as the most viable routes to further expansion. But much-hyped tech companies such as Snapchat and Blue Apron have taken a hammering after they’ve gone public, unable to meet investor expectations for growth and revenue. And the industry’s eyes are on another player that’s going the public route, Redfin, which despite strong growth is still hemorrhaging money. Will Compass be able to avoid a similar fate?
“The public market is the great equalizer — now, you have to be clear about your economics,” said Charlie O’Donnell of venture capital fund Brooklyn Bridge Ventures. “You can’t tell some future story about how much you want to make. It’s about how much you’re making today.”
The new guard
In an interview at Compass’ Fifth Avenue headquarters, Reffkin predicted the firm would have an international presence within 18 months. He declined to specify which cities Compass would go to, but global gateway markets such as London, Singapore and Hong Kong, which already send referral business to Compass agents in the U.S., are a likely target.
You can’t tell some future story about how much you want to make. It’s about how much you’re making today.
The firm says it’s turning a profit in several markets, and that top-line (gross) revenues grew threefold last year to $180 million. It’s filled its management ranks with executives seasoned at public companies, and wants to go even bigger.
“The markets we operate in right now represent about $14 billion of the $75 billion [real estate] industry,” said CFO David Snider. “By next year, we should be in a third of that addressable market.”
To see these plans through, Compass has been beefing up its management team, adding half a dozen senior executives. The hiring spree, sources said, is a trademark gambit of Wellington Management, the investment manager that led Compass’ $75 million Series D round last year and is known for shepherding its bets into the public markets.
In January, Compass hired Maëlle Gavet, a top executive at Priceline Group, as COO. Gavet now oversees technology, product and marketing, with Snider moving solely into the CFO role. The same month, Julie Binder — who worked at public company ADT — came on as head of communications.
And there have been a slew of other hires. Pooneet Kant, who ran strategy and expansion for the Midwest at Uber, was tapped as director of strategy and business development, while Amy Middleton, a Sotheby’s alum, joined as director of marketing. On the real estate side, Allison Yazdian was hired to run Southern California. And connecting the agents and product developers, Jenifer Vandagriff was hired as the head of user experience, which involves conceiving new products for agents.
Some Compass stalwarts were pushed aside to make way for the new blood. Christina Allen, who became head of product in October 2015, is now serving in an advisory role. And Compass is hiring someone above Ciara Lakhani, who has been with the firm since 2014 and is currently head of people and culture. The firm has grown large enough that it needs someone with more experience, insiders said. Lakhani is said to be involved in the search.
It’s a common pattern seen at venture-backed firms, which feel pressure to innovate and constantly re-up talent to keep up with their explosive growth. Facebook CEO Mark Zuckerberg, for one, is well-known for taking this approach.
“Even though everyone he [Zuckerberg] brought in was strong, he replaced people as he figured: this is what I need to be at this level of scale, this is what raising the bar at this level of the game is,” LinkedIn founder Reid Hoffman recently told tech website Recode.
Co-working giant WeWork, which recently hit a $20 billion valuation and is expected to go public, also recently reshuffled its team, promoting Jennifer Berrent to the role of COO.
The value proposition
On paper, Compass is worth over $1 billion. But that valuation is based upon potential future earnings and the size of the “total addressable market,” a term telegraphing the potential revenue available for a product or service, rather than the current revenue.
The size of the real estate market, and the fragmented nature of its players, has been a major draw for investors, said Snider, a former Bain & Co. analyst.
“In my time at Bain looking at businesses, it was rare to find an industry as large as residential real estate brokerage where you have a very fragmented competitive landscape where no one brokerage is top three in three of the biggest markets and where even the largest incumbent doesn’t leverage one unified system brand or platform to drive major competitive differentiation,” he said. “That narrative is attractive to investors across sectors.”
His argument is that the largest incumbent in the national market, Realogy, is a company with a series of separate brands – including Coldwell Banker, the Corcoran Group and Sotheby’s International Realty — and so cannot market itself cohesively at scale. It’s the same argument for consolidation that’s been made at multibrand behemoths such as Procter & Gamble and Unilever. On the flip side, some advertising and branding analysts have argued that the future will be ruled by a bevy of smaller brands, not just a few giant ones.
Even Douglas Elliman, which has one unified national brand, does not trade publicly under that name. Rather, it trades under the name of its parent company Vector Group. By not having its own ticker, Snider thinks it’s missing out on a valuable branding opportunity.
“An attractive set of consumers if you’re selling real estate are the people who watch CNBC and Bloomberg,” he said, “and there’s little name recognition there. A true consumer-facing brand gets the notoriety of being outside the exchanges when it goes public and the attention that goes with that.”
But others made the case that Realogy, which has a market cap of $4.66 billion, has the largest market share in the country precisely because its brands target diverse parts of the market. Last year, the company sold more than 350,000 homes across the country, generating revenue of $5.8 billion. Net income rose 6 percent year-over-year to $213 million.
“Realogy does the most transactions in the country,” said Jason Deleeuw, an analyst at Piper Jaffray who covers the stock. “Their brands on the low, middle and high end across the nation have helped them achieve their leading market share.” The company’s Achilles’ heel, he said, has been the softening luxury market as well as agent poaching by rivals — including Compass.
Compass has been able to woo brokers — and sell investors — on its promise to outperform its competitors by making agents much more productive. It cites figures showing that agents who join from another firm saw up to a 32 percent increase in business in their first full year at the company.
“This is the entire growth engine of our business, the thing that we are universally obsessed with is this number — 32 percent,” said Rob Lehman, Compass’ chief revenue officer.
Its competitors, however, have scoffed at those numbers.
Many in the industry caution that Compass could face headwinds if the market takes a hit and investors get spooked. But Snider claims that Compass is strong enough to withstand any issues, since the company has zero debt.
“Realogy and even smaller companies in the sector will leverage debt to grow — all of our growth has come from equity,” he said. “Because we’re able to convince our investors that the value of our equity is higher and higher, it’s meant that we have an ability to grow without risk. Even if the market goes down considerably, we have huge cash reserves.”
But if Compass wants to keep tapping public or private investors for cash, it has to get better at telling the story of what separates it from its competitors, sources said.
“When you have these firms that are kind of tech companies but they don’t look that much different from old-school firms, it’s hard,” O’Donnell, the venture capitalist, said. “The more mature they get, the more they have to prove that their model is considerably better than that of a traditional company. At some point, that comes home to roost.”
“Is there something definitively different about their processes, their IP or how they’re attracting customers?” O’Donnell added. “Are they really making more per agent than the older firms?”
In a blog post about Redfin’s IPO, management analyst Rob Hahn said Redfin has an advantage over Compass when it comes to narrative.
“Redfin spends millions building its website, generating traffic and leads, to send to employee agents,” he wrote. “Compass spends millions bringing top-notch superstar elite agents into their company.”
“Today’s large, established mainstream brokerages know how to compete against Compass,” Hahn added, “because Compass is playing the same recruiting and retention game they are. They have no idea how to compete against Redfin, because Redfin isn’t playing that game.”
Coding productivity
Compass’ business model has changed substantially since it launched in 2013 — it originally wanted to pay agents on salary and divide the market by territories. But two things have remained consistent: its aggressive recruitment and its technology evangelism.
While many of Compass’ competitors claim its technology is far from groundbreaking, Gavet said all its offerings are based in hard research. Compass evaluates each new tool by soliciting feedback from agents and measuring the adoption rate of new products. To be considered successful, a tool should be used by more than half of the firm’s agents, she said.
“We’re not here to create shiny tools,” she said. “Shiny is great, but shiny is not bringing in money. We’re very much a for-profit business so whenever we make an investment in a tool, whenever we hire another engineer, we always link it to, ‘OK, how is that tool going to help the agent?’”
Some recent efforts include real-time market reports and Collections, a Pinterest-like platform that lets agents curate listings and share them with agents. Gavet said 70 percent of Compass agents use Collections weekly.
The more mature they get, the more they have to prove that their model is considerably better than that of a traditional company.
Compass wants to eventually have an end-to-end system that integrates the entire real estate transaction, from lead to closing.
“That is a herculean effort,” Reffkin said. “Right now, there are 270 software providers that are doing a big piece of this big puzzle and I think there’s an opportunity to build an entire platform in one place.”
Gavet believes it can scale up those efforts without breaking the bank.
“It’s not investment in a vacuum,” she said. “Once you’ve created a tool for one agent, it works for 1,500 agents, 3,000 agents, 10,000 agents. We can multiply the number of agents without having to recreate the tool.”
Payday
With the public markets for tech firms lukewarm, some industry insiders now think Compass may have to keep raising equity to fuel its growth.
In 2016, IPO deal volume was down 36 percent to 112 IPOs, and the amount of capital raised sank 37 percent to $21.3 billion, according to Ernst & Young research. And this year hasn’t been an active one for real estate IPOs, which peaked in 2013 when 21 companies raised over $6 billion in initial public offerings, according to Greenwich, Connecticut-based Renaissance Capital, which provides pre-IPO research.
The one IPO making headlines, that of Seattle-based Redfin, may do Compass more harm than good, since the company has had to publicly disclose its losses. It too had been spending heavily on technology and recruitment.
Last month, in documents related to its IPO, Redfin said it hasn’t turned a profit since it launched in 2004. “As of March 31, 2017, we had an accumulated deficit of $613.3 million,” the company disclosed. “We expect to continue to make future investments in developing and expanding our business, including technology, recruitment and training, marketing, and pursuing strategic opportunities. These investments may not result in increased revenue or growth in our business.”
Snider said Compass will not have to rely on the public markets, since venture capitalists, despite a pullback in investments across several sectors, still fancy real estate.
“I think it’s clear that there’s a lot of investor excitement — more than there has been in the last five years — about real estate as a sector for investment, with valuations that are reflective of either pure-play tech or tech-enabled businesses,” he said, noting that several prominent New York real estate families, including the LeFraks, Rudins and Wilpons are eying new opportunities in the real estate technology sector. LeFrak is already an investor in Compass.
Snider also noted that Airbnb’s latest funding round gave the company a $31 billion valuation, while WeWork is valued north of $20 billion after the co-working startup raised a $760 million Series G round this month, on the heels of an investment by Japanese banking giant Softbank in March. The implication is that “there’s a lot of room to run,” he said, “especially when you’ve got sources of capital like SoftBank with $100 billion funds.”