Postgame analysis: What does Compass’ $75M cash infusion mean for the brokerage, and for the industry?
Lead investor Wellington is known for ushering its bets to an IPO
On the heels of a $75 million cash infusion that values Compass at north of $1 billion, it’s getting harder for the startup brokerage to dispel speculation of an IPO.
Instead, real estate’s latest unicorn has fueled that chatter by partnering with Wellington Management Company, the Boston-based mutual fund that led its Series D funding round. Wellington is known for both making big investments in late-stage startups and helping them go public. Compass’ association with the investor could be particularly helpful in a pre-IPO stage, sources said, given Wellington’s clout on Wall Street.
“For the latest-stage investors… they think [Compass’] growth is based on solid fundamentals and has a real shot at turning profitable,” said Garrett Black, an analyst at Pitchbook. “Wellington is essentially doubling down on Compass’ growth.”
Compass has now raised $210 million from investors, including Institutional Venture Partners and Joshua Kushner’s Thrive Capital, which participated in the latest round. Before its latest funding, the brokerage last raised $60 million in Series C financing in September 2015, a round that valued the firm at $800 million. On paper at least, Compass is by far the most valuable residential brokerage in the country.
Wellington declined to comment for this article, as did Compass. But the brokerage’s CEO Robert Reffkin told The Real Deal in July that while going public was not the goal, it was “more likely than not.”
Ash Zandieh, founder of real estate tech consultancy RE: Tech, said it may not be the ideal time for Compass to go public, since the IPO market for tech firms has been sluggish. But he said the Series D said a lot about Compass’ ambitions. “Here you have a five-year-old company that’s doing something that it took other companies 20 or 30 years to accomplish,” he said. “The profitability will come. The grunt work comes now, the revenue will come later.”
The size of Compass’ latest round jibes with current fundraising trends among startups, Pitchbook’s Black said. “Of deals still occurring, some of them are very large financing rounds of companies that seem to be the best options in an overall queasy market,” he said. “In a capital-rich environment, people with a lot of money need to put it somewhere and they’re doubling down on whatever they think is most viable.”
That’s likely the case with Wellington, which also participated in Airbnb’s $1.5 billion round in June 2015, and led Redfin’s $71 million round as well as WeWork’s $355 million round, both in December 2014, according to CrunchBase. It’s also invested in companies leading up to their IPOs, including peer-to-peer lender Lending Club and ForeScout, a cybersecurity firm.
“They tend to participate in late-growth companies that are fast growing or can be market leaders,” said one serial entrepreneur, whose company received backing from Wellington. “They don’t get involved in operations, so management views them as ‘friendly.’”
Over the past two years, Wellington, like other investment managers such as Fidelity and BlackRock, has pushed aggressively into venture capital, a previously rare move given the high rate of startup failure. It’s certainly had some flops, such as Powa, an e-commerce startup that went bankrupt in February after a period of rapid expansion. Lending Club, too, is under scrutiny, after an investigation that revealed questionable loans led to the founder stepping down from his CEO position and its share price plummeting.
Zachary Aarons, co-founder of MetaProp NYC, a New York City-based real estate tech incubator, said Wellington’s money likely “comes with strings,” such as high liquidation preferences (which determines which investors get paid out first if the company is sold) and ratchets (a situation where an early investor could get a price adjustment for its shares if a later investor pays less for their stake in the company).
But, he noted, “the reason you go to a Wellington is because you want a high valuation and you want a lot of money,” he said. “What they will tell you is they have a gateway into the public market.”
Unicorn status will not only help Compass’ recruitment efforts as it expands into new markets, but the splash in the press may also convince consumers to hire Compass brokers. “The headline is extraordinarily impressive,” Aarons said. “After this deal, the average rich American looking to sell their home will know what Compass is.”
Compass is among 26 venture-backed startups that crossed a $1 billion valuation in 2016, according to CB Insights data. The brokerage told Bloomberg that it has generated $100 million in revenue year-to-date and is on track to triple its 2015 revenue. It also claims to do $7 billion in annual sales, though a recent analysis by TRD found its performance metrics suspect.
Lately, the firm has been dogged by rumors that investors wanted it to cut costs. In an Aug. 21 email to agents and staff, Reffkin tried to dispel that “misconception.”
“Our investors give advice, they don’t give directions,” he wrote, according to a copy of the email obtained by TRD. “The board is controlled by Ori and me, and our investors are pushing us towards growth, hiring great agents, and provide [sic] unparalleled support. They have made no mandate to cut costs.”
But he did not deny that Compass is spending heavily. “We are spending more not less on agent support every quarter,” he wrote. “And we’re doing so comfortably because we have the cash flow to back it up.”
Compass is profitable in three out of seven markets, he wrote, and is recruiting nationally with a goal of increasing its head count by 30 percent. “There is a time and a place for cutting costs, but we are in neither that time nor that place,” Reffkin wrote.
He said Compass could take advantage of recent cost-cutting measures at Realogy Holdings, the conglomerate that owns Corcoran Group, Sotheby’s International Realty, Citi Habitats and others. Realogy reported a net income of just $92 million in the second quarter of the year, down from $97 million in the same period in 2015 — and cited poaching of its agents by other firms as one of the reasons for the drop.
“This is a great opportunity for Compass to invest in hiring more talented people… while other companies are reducing the number of people that support their agents,” Reffkin wrote.
Some rivals reacted to news of Compass’ latest round with skepticism. “It’s hard to imagine they can be profitable,” said one brokerage head, citing Compass’ massive spending on things like new offices, agent bonuses and splits.
Others acknowledged, albeit in a backhanded way, that it would be a boon for recruitment.
“There’s definitely talk that their deals [with brokers] have expired and people are unhappy, so this $75 million will be great for them,” one executive said. “If they can spend it however they want, they will buy their brokers back.”
Earlier this month, after a brief lull in brand-name recruiting, Compass hired longtime Douglas Elliman agent Toni Haber. “They’re out there, aggressive again,” said one industry source.
But though its direct rivals weren’t reacting with delight, those in the real estate tech space said Compass’ new unicorn status would be a boon for the sector.
“To me, this is just signaling that our space is red-hot right now,” said Caren Maio, co-founder and CEO of residential listings database Nestio, noting that Compass’ funding comes on the heels of VTS’ recent $55 million round, which valued the cloud-based portfolio management platform at close to $200 million.
Maio also pointed out that by attracting funding from Wellington, Compass has justified its business plan — at least within tech circles. “Now is the time to scale, expand or deepen relationships in different markets,” she said. “[Investors] are still investing in the dream, but largely, they’re investing in the predictability of the machine. They’re saying, ‘I’m going to put my $1 in and get 5x of my dollar out.”