If you find yourself in a hole, stop digging.
It’s an adage that Compass cheerleaders would do well to keep in mind. One in particular.
No, not Compass CEO and co-founder Robert Reffkin. He seems to be coming around to the reality that the brokerage needs to stop hemorrhaging cash, especially with home sales in a rut.
Rather, it is a stock-picker named Gary Alexander. He’s not the most important market prognosticator, but he has 24,000 followers on Seeking Alpha, a popular website in the investment community, and experience covering technology companies on Wall Street, working in Silicon Valley, and advising seed-round startups, according to his profile. His articles are syndicated in popular trading apps.
Alexander epitomizes the rah-rah optimism that has cost loyal Compass shareholders (himself included) money these past 17 months.
On Aug. 17, two days after the firm’s brutal second-quarter earnings call, Alexander published a piece headlined, “Compass: Buy While the Market is Looking the Other Way.”
It turns out that the market was not looking the other way. Goldman Sachs downgraded the brokerage’s stock that same day. Investors reacted by dumping Compass shares, as they had done earlier in the week when Compass announced another big quarterly loss and lowered its revenue expectations.
The selling drove Compass’ share price down 11 percent on Aug. 17 and 10.8 percent on Aug. 19. It fell another 7.7 percent Monday morning and on Tuesday reached an all-time low of $3.21. This was a $20 stock on its April Fool’s Day debut last year.
“Compass requires a bit of bravery, but I am enthusiastic about buying one of the country’s largest and fastest-growing real estate brokerages at pennies on the dollar,” Alexander wrote on Aug. 17. “Use this dip as a buying opportunity.”
Alexander might be right that with Compass stock on the discount rack, this is a good time to buy. His argument would be more compelling, though, if he had not been making it for the past 14 months, during which its plunge has continued virtually unabated. (Compass shares are down about 66 percent this year; by comparison, Redfin is down 76 percent, Douglas Elliman 49 percent and Anywhere Real Estate 35 percent.)
His first piece ran June 22, 2021, when Compass was in its third month as a publicly traded company and its stock was trading at about $14, or 22 percent below its IPO price. The headline was “Compass: Tremendous Performance Overlooked by the Market.”
On Feb. 17, 2022, he doubled down with “Compass: Very Obvious Buying Opportunity.” The stock had lost more than half of its value and could be had for about $9 a share. In retrospect, he should have written: “Compass: Very Obvious Shorting Opportunity.”
Not even a month later, on May 15, he tripled down with “Compass: This Real Estate Titan Is Too Good of a Steal to Pass On.”
At some point, one might think the stock picker would have moved on from Compass stock. Instead, he drew attention to his embarrassing history of endorsing it.
Readers were not very forgiving.
“Gary gets the pumper of the year award,” wrote one, Mr. HL. “Compass has never had an ability to make money. It’s a company that has zero capacity to stop the hemorrhaging.”
Reffkin, of course, begs to differ. He promised his staff last week that Compass would reduce expenses and “not run out of cash.” The CEO has a variety of ways to cut expenses, including layoffs, which he announced in June and again last week. He also argues that Compass can add agents simultaneously — the company said last week that the number of “principal agents,” defined as team leaders or individual agents operating independently on the Compass platform, was up 22 percent since last year. Compass declined to comment for this story.
Keep in mind, readers can say anything they want on the internet and hide behind the cloak of anonymity. But their analysis nonetheless raises questions that investors should consider before swallowing Alexander’s.
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“Mr. HL” opined that to grow, Compass paid “ridiculous money-losing splits and incentives to attract and retain agents,” and that Reffkin now says the company will stop doing that.
“His new invention, ‘benchmark splits,’ is in reality just bringing splits more in line with traditional companies that — unlike Compass — don’t lose money on most transactions!” Mr. HL wrote. “Good luck growing without giving away ‘free’ money to cranky agents chasing the next shiny object!!”
Compass’ competitors have been making that complaint for years as the firm recruited their talent. But until Compass makes a profit — it lost nearly $500 million last year despite the hottest residential market since the bubble — it’s hard to say they are wrong.
Another reader, serenochris, linked to a video by The Real Deal titled “Resi Giant Compass Faces Financial Reckoning.”
The commenter then chided Alexander, noting, “You have called Compass a buy all the way down.”
“Let’s say [Compass] can pull off making these cuts,” serenochris postulated. “What’s left? A traditional bricks-and-mortar real estate company that lives or dies off whatever its share is of agent-driven commissions, less expenses.”
Actually, that might not be so bad: Traditional brokerages do tend to turn a profit. It’s reasonable to think that Compass could eventually make money using the old-fashioned commission model after spending lots of its early investors’ funding to carve out market share.
But if achieving profitability requires it to become a traditional brokerage, that means its stock would trade at a multiple similar to that of other brokerages — not at the high multiples that growth companies enjoy.
Elliman’s price/equity ratio is 7, for example. Anywhere (formerly Realogy) has a PE ratio of 5. Compass has no earnings, but if it did make money the way its rivals do, its stock would figure to trade at a similar multiple. So even if the downside of buying Compass stock is limited, its upside also figures to be.
The investment community has let other companies — most famously Amazon — spend years sacrificing profit for growth, confident that they could go into the black whenever they wanted by slowing their expansion. But investors did not extend Compass that courtesy, and now Reffkin must shift faster toward profitability than his doubters think is possible.
As another reader, marketman007, put it, “Compass cannot outrun math.”
Picking individual stocks is notoriously difficult. Countless studies have shown that virtually no one can do it well consistently, meaning that whoever does so for a short period of time is more likely lucky than good.
The best advice for young investors is to buy low-fee stock index funds and hold them for decades. The market’s gains have been largely driven by the immense success of a handful of companies (think Apple, Facebook, Microsoft and Google), but there is no way to know what the next big winners will be. Hence the strategy of buying the whole market.
But if you’re going to try to pick winners and sell people on a brokerage that has lost truckloads of money while telling the world it has built a better mousetrap, some caution is in order. A lot, actually.