ZipRealty, Inc. Q2 2008 Earnings Call Transcript

Sep.23.08 | About: ZipRealty, Inc. (ZIPR)

ZipRealty, Inc. (NASDAQ:ZIPR)

Q2 2008 Earnings Call

August 7, 2008  5:00 pm ET


Pat Lashinsky – President and Chief Executive Officer

David A. Rector – Chief Financial Officer


Unidentified Analyst – Deutsche Bank Securities

Ben Schachter – UBS

Jeff Graf – Springhouse Capital


Welcome to the ZipRealty Inc. second quarter 2008 earnings conference call. (Operator Instructions) It is now my pleasure to turn the call over to your host [Raphael Gross].

[Raphael Gross]

Thanks and good afternoon everyone. With me on the call today is Pat Lashinsky, President and Chief Executive Officer of ZipRealty and David Rector, the company’s Chief Financial Officer. Earlier today the company issued a press release describing its results for the second quarter of 2008. A copy of that release can be viewed on the company’s website at

Before we begin I’d like to note that during the course of this call, various remarks will be made about future expectations, plans, goals and prospects for the company, including but not limited to those involving our future performance, business outlook and 2008 guidance involved forward-looking statements. Additional forward-looking statements include our comments on market forces inside and outside California over the next 12 to 18 months, investing in our business, rationalizing costs and having a natural footprint that will drive greater operational efficiencies.

All of these constitute forward-looking statements for the purposes of the Safe Harbor Provision under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from the expectations, plans, and prospects contemplated in these forward-looking statements, and are subject to risks and uncertainties including those described in the company’s Form 10-K for fiscal year 2007 and other filings with the Securities and Exchange Commission, copies of which can be viewed on the company’s website.

The risk factors as defined in our SEC filings are incorporated by reference in this earnings call. Please also note that the supplement of these financial statements presented in accordance with Generally Accepted Accounting Principles in the United States, ZipRealty uses a non-GAAP measure of net income or loss it refers to as pro forma net income or loss earnings that exclude certain items, including stock based compensation, non-cash income taxes, and certain one time items if any.

These non-GAAP adjustments are provided to enhance the user’s overall understanding of ZipRealty’s current financial performance and its prospects for the future. ZipRealty believes these non-GAAP results provide useful information to both management and investors by excluding certain items the company believes are not indicative of its core operating results and thus presents a more meaningful basis for comparison between periods.

Further, this non-GAAP method involves key data management uses for planning and forecasting its future operations. The presentation of this additional information should not be considered in isolation or as a substitute for results prepared in accordance with GAAP.

With that out of the way, I’ll turn the call over to Pat.

Pat Lashinsky

On today’s call, we’re going to change things up a bit. I’m going to make some very brief remarks up front, and then turn the call over to our CFO Dave Rector to discuss second quarter results. I’ll then reserve the bulk of my comments for the second half of the call.

So with that out of the way, our results for the second quarter were in line with our expectations given the ongoing economic challenges we all hear about every day. But despite these headwinds, we feel good about the business and see no reason to change our full year guidance at this time.

We see this as significant, given that at the time of our original forecast we assumed that credit markets would have improved relative to where they will likely be in the second half of 2008. Due to solid execution, we believe that increases in transaction volumes, 17% in the second quarter alone, along with market share gains should help preserve our outlook.

Don’t get me wrong. We’ll have to continue to execute at a high level. But we’re seeing progress in the business as evidenced in part by the fact that we were the number one most trafficked residential real estate brokerage site in the nation in June.

David A. Rector

Net revenues for the quarter were $30.4 million, a 2.7% decrease from the second quarter last year. Net transaction revenues, which exclude referral and other income, were $29.9 million, a 2.1% decrease from last year. This was entirely [intributable] to decreased home selling prices that are closed transactions increased by over 17% for the quarter.

Approximately 29% of our transactions for the quarter were non-standard transactions, such as REO, foreclosure and short sales, which typically feature lower selling prices. In fact, the selling prices of these non-standard transactions averaged over 23% less than selling prices of our normal transactions.

Our pro forma net loss for the quarter was approximately $800,000 or $0.04 per share. This compares to pro forma income of approximately $140,000 or $0.01 per share in last year’s second quarter. Turning to new and existing market results, let me remind you the new markets are defined as those having been open for less than one full calendar year. Therefore, new markets for the second quarter this year include the 10 open in 2007, the [Holt] Island New York opened in March. So we have 11 new markets and 23 existing markets for the quarter.

Net transaction revenues for the quarter in existing markets decreased by $3.1 million or 10.3%. This was driven primarily by two factors; 3.6% increase in the number of transactions closed, offset by a decrease in average home selling prices of 16.6%. Cost of percentage revenue for existing markets increased 110 basis points, 57.7% attributable primarily to the mix of agent commissions paid and increased agent expense reimbursement.

Sales support and marketing expenses decreased by nearly $475,000 or 6.5% compared to last year, primarily attributable to the cost cutting measures taken last fall. The net result? Our existing markets delivered market level income of approximately $4.7 million compared to

$5.9 million a year ago.

Turning to our new markets, net transaction revenues in new markets for the quarter were $2.6 million compared to $100,000 last year and represented nearly 9% of our total net transaction revenues. The new markets cost of revenues percentage for the quarter was approximately 51.5%. Sales support and marketing expenses were $1.9 million, an increase of approximately $1.2 million versus the year ago period, primarily the result of supporting the seven additional markets opened since the second quarter of last year.

Overall the new markets lost approximately $650,000 during the quarter. We’re pleased to report that we continued to gain market share in many of our markets, consistent with the trend we’ve experienced over the last six quarters. California our closed transactions for the quarter increased by approximately 20.4%, significantly outperforming the overall market increase of approximately 13% in our markets. California represented 35.3% of our total net transaction revenues for the quarter compared to 38.9% last year, and 40.3% in 2006.

In our existing markets outside of California, closed transactions for the quarter decreased by approximately 1.5% again outperforming the overall market contraction of approximately 19% in our markets. Average net revenue per transaction decreased by 13.5% in our existing markets, $6,634.00 from $7,665.00 in the prior year, due primarily to the significant increase in non-standard transactions and overall lower housing prices.

Average net revenue per transaction in our new markets averaged $4,562.00 for the current quarter. We added 489 net new agents over last year’s second quarter, bringing the total agent count to 2,559 as of June 30, 2008. Of the total net additions, 148 agents were added in our existing markets, 349 in our new markets, bringing our total agent headcount to 2,118 in existing markets and 441 in new markets.

This total agent headcount further breaks down to 733 agents in our California markets and 1,826 in our markets outside of California. This represents an increase of 274 net new agents on a sequential quarterly basis. Average age of productivity for the quarter was approximately 0.66 transactions per agent per month.

Moving on to expenses, product development expenses for the second quarter increased 17.2% to approximately $2.1 million. This represents 7% of net revenues versus 5.8% last year. This was primarily due to supporting higher website volume, as well as continuing to improve and enhance our consumer website and agent tools as well as supporting our new markets.

[Inaudible] and corporate sales support and marketing costs decreased modestly in dollars and as a percentage of net revenues over last year. General administrative expenses decreased by 34% year-over-year to $2.9 million for the quarter. As a percentage of net revenue, G&A costs were 9.7% compared to 14.3% in the second quarter last year.

Though last year’s G&A included some one time costs, the trend is going in the right direction and we feel that we have significant leverage in our model, particularly under more normalized market conditions.

Turning to the balance sheet, we lived the period with $55.1 million of cash, cash equivalents and short term investments without any long term debt. As you will recall, in early April we repurchased all the shares of our common stock, held by Pyramid Technology Ventures for approximately $17.4 million, which primarily accounts for the variances from last quarter.

Let me wrap up by reiterating our guidance for 2008, which remains consistent with what we communicated on our last call. For the year we expect net revenues of between $114 and $118 million representing growth of 10 to 14% compared to 2007 net revenues of approximately $104 million. Overall we expect a GAAP loss in 2008 between $8.9 and $10.4 million, which equates to a loss of $0.42 to $0.50 per share, based on approximately 20.9 million shares outstanding.

On a pro forma basis, we expect our loss to range from $4.9 to $6.4 million, or $0.23 to $0.30 per share compared to the 2007 pro forma loss of $7.6 million or $0.34 per share. As our full year guidance suggests, we essentially plan to break even on a pro forma basis in the second half of the year.

We still see opening two to four new markets during 2008, including Long Island, New York which will open in March and Hartford, Connecticut which opened in July.

And I’ll turn the call back over to Pat.

Pat Lashinsky

We believe that some of the market forces that will ultimately repair the residential real estate market are at work, but there’s certainly a daily ration of bad news for everyone to digest. That said, there are some positives intermingled with the negative. So I’m happy to discuss what we’re seeing on our website and hearing from our clients.

As many of you have no doubt seen, the National Association of Realtors, or NAR, disclosed the total inventories of existing homes were 4.49 million in June, implying an 11.1 month supply. This is a negative number, relatively consistent with the 11.2 month supply in April, but these national numbers don’t always tell regional or local stories. So I’ll share with you what ZipRealty is seeing in our markets and what it might mean for the future.

In terms of California, the overall transaction volume trends during the second quarter demonstrated a significant reversal. Specifically, while we estimated that market volumes declined about 25% during the first quarter of 2008, the second quarter posted a 13% increase in transaction volumes. However, if you drill down geographically, there’s a lack of consistency as the increases were largely driven by the inland areas such as Sacramento and the southern California inland empire.

In these areas we estimate that foreclosures represent more than half the volume, and median home prices are down 33 to 35% as banks unload inventory and take their losses. Generally speaking, the coastal markets of California tell a very different story as foreclosures represent a much smaller percentage of transaction volume.

In fact, market transaction volumes in the second quarter in these areas have generally remained soft year-over-year, albeit not as dramatically as the first quarter of 2008. While median home prices were also down, the declines were generally less dramatic than the inland markets, reflecting a resistance by sellers to reduce prices significantly.

So what does this mean for California over the next 12 to 18 months? Well, we believe that rising volumes due to foreclosures is a good thing and represents a correction of past mistakes. These transactions show no sign of abating right now, but at some point as these foreclosed homes are sold, ZipRealty volumes may soften, which could also be a good thing because we’ll be positioned for higher quality volumes at presumably higher prices.

In California, the wild card will be what happens on the coast. As I stated, volume in these areas are still lower than what we’d like as buyers who read the negative headlines every day think that prices are coming down and sellers who may not yet be feeling the pinch of the economy are still holding out on price. We believe the two sides will come together in the next 18 months as personal situations will ultimately require action.

During this time, success for ZipRealty would be consistent, steady volumes and market share gain. And as the market repairs itself, we’d like to see the mix of foreclosure transactions go down with increasing volumes on the coast. By definition, we’d be positioned for higher value transactions.

Outside of California, a similar story can be told. In markets where foreclosures represent a large percentage of transactions, we saw a reversal in volume trends triggered by price capitulation. For example, in Las Vegas where we estimate that foreclosures make up about half of the market value, median home prices declined by almost 20% with transaction volumes rising more than 30% in year-over-year.

However, in the majority of markets like Dallas, Chicago, Minneapolis and Atlanta, year-over-year declines in the market in the second quarter were fairly similar to those experienced in the first quarter of 2008. Similarly median home prices, while down pretty much across the board, did not see the dramatic decline. So again, foreclosures are working their way out of the system which is positive, but buyers and sellers just have a different perspective right now as the headlines encourage buyers to wait for a better deal with sellers holding out on price for the time being.

We believe that if economic conditions persist, we’ll likely see a capitulation and a compromise on price, but we can’t be sure if and when that will happen. So while market forces remain at work, we’re continuing to invest prudently in the business and where we can rationalize costs. Let me discuss both areas of focus.

First, as you know we’ve invested in new markets and now have a national footprint, which can drive efficiencies in customer acquisitions, branding and technology investment. We’ve also invested in the features and tools on our website, which serves as our main connection with agents and customers nationwide. Recent additions to the site include the ability for our clients to search for bank owned foreclosed properties and a voting feature that polls the ZipRealty community on which homes they feel are the best value.

We have also introduced a real estate price prediction game that asks players to guess the price of current for sale homes, which is a web 2.0 Power of the Crowds web application. We believe that these new features will further aid our clients in their home search and will provide unique information on for sale homes only available on

And we think that these additions are making a difference. We continue to see high levels of activity on our website. Through the first six months of 2008, registered visits to our website have been up 35% year-over-year and in June, according to Hitwise, we were the number one trafficked brokerage site in the country, and the third most trafficked site in all of real estate. These initiatives continue to grow our direct to site traffic, which was up more than 40% of registrations in Q2. And this in part has led to second quarter transaction volume strength up 17%.

Finally, we’ve been able to drive market share gains fairly consistently in many of our markets. The increase in visibility has also helped us attract and retain some talented people. In fact, as you saw in the second quarter, margins were slightly down due to the fact that our most experienced and highest paid agents are driving volumes. This comes at a time when many realtors are leaving the industry. According to NAR, the number of members nationwide is down 7% from a year ago and as we’ve always said a contraction would be healthy for the industry and good for ZipRealty.

On top of that, brokerage firms appear to be aggressively rationalizing costs. According to the Real Trends polled survey of 750 real estate leaders in 50 states, 40% of respondents said that they have consolidated or have closed brokerage offices. Again the fact that we’re investing while others are pulling back could have positive long term ramifications for us.

Moving over to costs, we rationalized our expense structure in late 2007 and have benefited from those savings, seeing a favorable year-over-year decrease in G&A. We are actively looking to become even more efficient, but we won’t do so at the expense of the agent and customer experience. And although we continue to seek opportunities to become more efficient, we’re investing in areas that we believe will give us long term competitive advantage.

So in closing, I think we’ve made strategic progress and have increasingly built a loyal agent and customer base. And given what we’re seeing, we believe we’re allocating resources to the right initiatives at the right time in the cycle. Now there are wild cards out there, both positive and negative, and regardless of our execution they will play a part in how long the cycle lasts.

On the negative side, we don’t know the speed with which bank finding can rebound. Right now credit is tight, and that certainly has flowed over all volumes. On the positive side is the Housing and Economic Recovery Act that President Bush recently signed into law. So let me take a moment to discuss its implications.

First, the Act creates a $7,500 tax credit for select first time home buyers for any qualified purchase between April 9, 2008 and June 30, 2009. The credit must be repaid over 15 years or upon sale of the home and because of this repayment condition, the credit is essentially an interest free loan. This is a great incentive for first time home buyers who represent an important segment of the market for us.

Second, at the end of 2008 there will be a change to conforming loan limits. This modification permanently increases the size of the loans that Fannie and Freddie can buy, which is important to many of our markets where the average home price is higher than the previous conforming limit.

Third, there will be a new FHA, Federal Housing Authority limit. By increasing loan limits nationwide, the FHA is providing greater liquidity into the housing markets. Finally, the act prohibits certain types of down payment assistance and includes various provisions including those dealing with Fannie and Freddie, mortgage insurance and bonds.

In our opinion, each of these points are good for the market but how much they will help, if any and over what time period, remains uncertain. So again, despite the market we are executing our plan, our brand is really showing signs of emerging promise and we’re excited about our market position.

We will now take your questions.

Question-and-Answer Session


(Operator Instructions) Your first question comes from Unidentified Analyst – Deutsche Bank Securities.

Unidentified Analyst – Deutsche Bank Securities

On your current guidance, I guess you guys have reiterated your guidance. I was wondering what level of ASP declines you guys are assuming in your numbers? And second, I guess, if you can talk about the tightening credit markets, you talked about how it’d have some impact on your volume, if you can kind of quantify that for us. That would be helpful.

Pat Lashinsky

We’re looking at average home prices for the year being down about 15% as we would go into our guidance. What was the second part of the question?

Unidentified Analyst – Deutsche Bank Securities

The second question was the tightening credit markets. I was wondering if you could talk about how that had impacted your volume of transactions in the second quarter.

Pat Lashinsky

The tightening credit market has been one of the real difficulties that our agents have to deal with every day when they work with clients. It’s a real factor that’s out there. Largely on our homes that are jumbo, those loans are very, very difficult to get right now.

If you’re outside the conforming and outside of a great credit client, it takes a significantly more time and we’re having more clients that believe that they’ve got approval, they go in, they work with that agent, they find a property, they get a contract written and then they find out that the loan that they had applied for is no longer there and they’re not able to get the credit anymore.

And so the volumes are still being restricted based on the tightness of the credit markets, the tightening of the conditions, and the inability for clients to find great lending sources right now.

Unidentified Analyst – Deutsche Bank Securities

Historically I guess, it was loans for the purchasing side probably closes closer to four to six weeks. Have you seen that maybe have extended to maybe about two months or so? Or is that kind of relatively in line?

Pat Lashinsky

It has extended and the hard thing is to differentiate how much is it extended because the banks are just busy with dealing with foreclosure and REO properties and what they have. But it is taking longer for deals to get done. And we think that part of it is because there’s just more caution out there and they’re dealing with more properties. But that time to close has lengthened.

Unidentified Analyst – Deutsche Bank Securities

On your share of – you talked about how shares of non standard transactions are now representative of about 29% of your transactions, but [ASPs] are less. But clearly an opportunity for you guys to kind of clean up some of the mess that’s been out there. I was wondering if you could talk about how you guys are getting access to that inventory and what share do you guys think you have of that market place?

Pat Lashinsky

I don’t have any idea honestly on what share we have of the marketplace. I don’t know that we have a good enough data source to give you that information. But what I will tell you is that we have what we feel are very good comprehensive data sources that we’ve been providing to our agents for about the last four to five months.

And just recently as of about three weeks ago, we started providing – making that same information available to clients on our site. So clients can go on and search for foreclosed properties, REO, and we also allow our agents to see all of those. Based on all the public information, documents that are filed, we get a data feed directly to us and we’re able to provide that directly to clients that we think it’s appropriate for.

So that’s one of the tools that we’re able to provide to clients. We think that we have a very good option for both our agents and clients that allow us to be probably better dealing with this than many other brokerages that are out there. And that’s part of the reason why we think we’ve seen the increases in this business.


Your next question comes from Ben Schachter – UBS.

Ben Schachter – UBS

Number one, discuss a little bit about the positioning of the brand and how that may have changed over the last 12 months and where you think it should be once you come out of this mess. And then also, a similar question around changes to the economic model itself. Have you changed the way you’re paying out your brokers? Do you anticipate making any changes to that? And then finally, just generally speaking do you think you can achieve profitability without having a macro turnaround?

Pat Lashinsky

Positioning of the brand, you know I think one of the things that has definitely happened in this market is there’s been even more of a demand for full service, high knowledge, very transparent brokers that can provide value to clients. And I think that that is really the position that ZipRealty has attained and it has in the marketplace. It’s perceived as being one of the best sources for data. It’s very interesting that despite the fact that we’re only in 34 markets, 35 markets now, that we have the number one most trafficked brokerage site in the month of June.

Despite the fact that we’re competing against many, many brokerages that are national. The reason for that is because clients believe we give them very, very good information and very good data.

Then the reason that we see a 17% increase in the volume in the second quarter is because we’re providing a very good level of service and a good value. And so the brand is really developing. The other thing that I think that really represents and starts to show great brand strength is the fact that 40% of the volume now is coming directly to our site. So that means that people are coming to us without us having to pay anybody. They’re not coming from someone else. They’re typing in directly or ending up on our site through the referral of a friend.

Those are the qualities of a brand that take time to develop and that are very, very strong and work through in a market. And this difficult market, as our brand continues to develop, as our agents continue to be responsive, as they continue to be value added to buyers and sellers, I think that the brand will continue to develop a prominence and a presence as being one of the strongest out there for helping clients get value and get all the information they need to be successful.

In terms of changing the model and what we’ve done in terms of paying agents, we continue to evaluate and tweak the model on a regular basis, on a monthly, quarterly and yearly basis. We’re always looking at ways to become more efficient, ways to increase the structure, ways to add value. We’re in the process of doing a compensation test in a couple of districts for a different way to pay agents to see if we can encourage productivity and allow agents to make more and allow the company to make more at the same time.

And so we’re continuing to work on that as we go forward. But in terms of the macro conditions of the business, I don’t think that we need to make real changes to the model right now. I think that we believe that we are showing that this model works. And it works in a good market and it works in a tough market. And we’re gaining and we believe that our positions are growing. We’re growing market share in many of the markets we’re competing in.

And we’re continuing to show that our model is differentiated for both agents and clients. One of the things that we’re seeing is we’re getting more experienced agents coming over and joining us than we’ve ever had before. And I think part of the reason for that is that they’ve realized that the market is very difficult. It’s expensive. It’s hard to stay in and a situation like ours where we provide them the technology, the tools, we get rid of some of the risks of their upfront costs and we provide them clients to work with, can be very significant for them.

Another advantage of our model that allows us to grow through these difficult times. So I think that the model is working. I think that on the macro level it’s got many of the right things in place and we will continue to evolve and look at new ways of doing business as we go forward. But right now we’re not looking for any major macro adjustments in the business.

In terms of profitability, do we need the market to turnaround to be profitable? You know I think that one of the advantages that we have is that new markets will drive us toward profitability as they ramp. A stable market would definitely be a positive, but if we can continue to grow our new market business, we increase our agent productivity, I think that we can get some profitability with some minor adjustments. As long as the market doesn’t continue in nose down dive, I think that we’ve got some good upside.


Your last question comes from Jeff Graf – Springhouse Capital.

Jeff Graf – Springhouse Capital

I just wondered if you could elaborate on your guidance a little bit more? It looks like I believe you said you were going to be break even in the second half of the year which would be about a $7 million improvement over last year. So I’m just wondering if you could drill down into what you’re seeing that gives you confidence for that improvement?

David A. Rector

Well essentially looking at a breakeven for the last half of the year, we don’t give quarterly guidance and such. But I can add a little bit of color on kind of what our assumption is. First of all, as Pat talked about earlier we have no idea how long it’s going to take to digest this inventory of these non-standard transactions and foreclosures. So we’re expecting those trends to kind of continue throughout the remainder of the year.

We do expect to increase our agent headcount which will help us on transactions, primarily in our new markets as they continue to ramp up. They are contributing a growing percentage to the number of transactions overall in our revenue.

The other thing is we have been seeing our productivity trending up slowly over the year. And we’re optimistic that what we saw in California in the second quarter with transaction count up, if productivity continues to trend up a little bit and with additional agents and with the new markets, that’s where we’re looking for the incremental revenue.

And the other thing is sort of the comparison to last year, last two quarters of 2007 were heavily impacted by the mortgage meltdown. So we anticipate a much stronger second half of the year for ’08 compared to what we had in ’07. And when we’re talking about that, that’s obviously the profitability on a pro forma basis.

Jeff Graf – Springhouse Capital

Can you talk a little bit more about G&A in the quarter, down to $2.9 million sequentially from $3.7 million. Is there more room for a decrease in G&A? And then can you also talk about what led to the debt reduction?

David A. Rector

I think there are a couple of things. Now one you have to keep in mind that last year, we had approximately $700,000 at one time expenses when our previous CEO left. To kind of level the playing field there. There is a different level there.

But I think a lot of this goes back to the cost rationalization program that we put in last fall. We continue to look at all of the costs in the company and think that at this point, we manage the company to the current circumstances. We think that we have an adequate level of support in G&A and I think we’re optimistic that given a rather steady state here that we can maintain that cost level.

Pat Lashinsky

Yes Jeff one thing is that costs may go up a little bit as we continue to grow the business and it gets bigger. But as a percentage we definitely think that there is room for it come down as a total percentage. But just because it’s coming down doesn’t mean that the total absolute dollars will come down. Because as we continue to grow the business and get more transactions done and have more agents, there is the opportunity where we may need to have some support there to help that. But as a percentage we do think that there is good room there.

David A. Rector

There will be considerable leverage on that as we grow.

Jeff Graf – Springhouse Capital

But this $2.9 million in the quarter is that a decent number to work with? Or was that abnormally low?

David A. Rector

That is just a little bit low. There were certain – we actually had an incentives program that was in our first quarter 10-Q that looks like not met at mid-year so we had about a $300,000 credit in there. So I think you want to look at that being a run rate probably around $3.2 million.


And that does conclude our question-and-answer session.

Pat Lashinsky

Thank you very much. We will continue to focus on executing and taking care of our buyers and sellers throughout the rest of the year. I’d like to thank all of our agents and employees for their continual hard work in these very difficult times as we continue to work hard to separate ourselves out and continue to provide superior service for our clients that are out there. Thanks everyone and we look forward to talking to you in the third quarter.

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