Venture-backed real estate brokerage Compass on Monday filed registration documents for an initial public offering on the New York Stock Exchange, joining a slew of tech companies who have filed for IPOs in the past week.
It stands out, though, because … well, it’s not really a tech company.
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New York-based Compass has raised around $1.52 billion in funding from investors including the SoftBank Vision Fund and IVP and it was last valued at $6.4 billion, according to Crunchbase data. But while it’s backed by known tech investors and has the funding of a software company, it operates more or less like a traditional real estate brokerage.
What is Compass?
If you’ve driven around residential areas in cities like San Francisco or Seattle or perused homes online, you’ve likely come across a Compass sign or agents associated with the company.
Compass essentially operates like a traditional real estate brokerage. The company declined to comment for this article, but experts I spoke with said that what differentiates the brokerage is that it offers its agents digital tools like a customer relationship management platform and a suite of marketing tools for digital ads, videos, and newsletters, as well as competitive perks and benefits.
“I think what Compass would say is they’re a tech-enabled brokerage,” Clelia Warburg Peters, a venture partner focusing on property tech investment at Bain Capital Ventures, said in an interview. “They’re leveraging this proprietary platform they have internally to allow their agents to more effectively do the work of a brokerage. I think if you actually look at their numbers that were released in the S-1, their margins look more like that of a brokerage.”
In other words, while Compass has the gloss (and venture dollars) of a software company, it doesn’t have the margins of one. Compass’ gross margins come out to about 18 percent, less than that of Realogy Holdings, the largest publicly-traded brokerage. The gross margins of a software company are often upwards of 70 percent.
Software companies’ margins are so big because “so much of what happens internally is facilitated by software,” Peters said.
But where Compass looks like a tech company is its explosive growth on the topline.
The company generated revenue in 2020 of $3.72 billion, up 56 percent year-over-year. Its losses for the year came out to $270.2 million, down from $388 million the year prior.
“Where they look less like a tech company is when you look at the operational cost of a business, it doesn’t look like they’re receiving a big lift from software (or that) they’re doing business in a fundamentally different way,” Peters said.
Compass’ largest operating cost by far was its commission and transaction-related expenses, according to its S-1 filing, with the company spending more than $3 billion in that category in 2020. Sales and marketing was the next largest operating expense, with Compass spending nearly $408 million in that area last year.
According to Mike Delprete, a real estate tech strategist and scholar-in-residence at the University of Colorado, Boulder, Compass generates revenue “the exact same way” as traditional brokerages, which is through a portion of commissions. And in Compass’ case, its technology “is not producing a noticeable increase in efficiency,” Delprete said in an email.
“Compass’ gross margins are around 18 percent, which is just below the industry average of around 20 percent. Those aren’t the gross margins of a technology company. In fact, they’re quite similar to Boeing,” Delprete said in an email. “The biggest difference between Compass and other brokerages is that it’s much more unprofitable — to the tune of hundreds of millions of dollars. A traditional brokerage can have a 5-10 percent profit margin; Compass is negative 7.3 percent.”
So, what’s different about Compass?
Compass offers its agents a pretty sweet setup. They can use its customer relationship management platform and marketing tools to create and promote their own brands through videos, email newsletters, and listing presentations.
According to Compass’ S-1, agents designed more than a million pieces of marketing content through its platform in 2020. Compass’ CRM also recommends people for brokers to contact as potential sellers or buyers, which can lead to more revenue, according to the filing.
The company now has more than 19,000 agents associated with it. Many joined after Compass began buying entire brokerages, bringing on the agents who worked for them. Among the notable acquisitions were NorCal powerhouse Alain Pinel Realtors and New York-based Stribling and Associates.
As Delprete put it in a research study of Compass, the company uses a number of methods to bring on the best talent, including high commission splits, bonuses, stock options, and marketing funds. Compass also offers “softer benefits,” according to Delprete’s study, including its brand, which is “slick, modern, exclusive, luxury-focused, and comes with the promise of marketing and technology support.”
“Compass has achieved a tremendous amount of growth in a relatively short period of time, and its competitive advantage is access to capital,” Delprete wrote in his research study of Compass. “It is parlaying that advantage into a massive agent recruiting tool at scale. But that advantage may not be sustainable nor unique; it’s possible for others to copy. Nothing is stopping a new or existing player from offering even more lucrative deals to attract agents.”
Compass has grown in part because it offers financial incentives to agents to join, Peters said, adding that the company offers signing bonuses and multi-year contracts.
“That has never happened before Compass came into the market,” she said. “That was like an innovation they brought from financial services.”
Compass’ VC backing has helped too, she said. “Because they’ve had the venture funding they’ve been able to invest in things that were considered amenities,” Peters said. “Beautiful offices, they’ve spent a lot of money building their brand in the market… because they’ve had so much dry powder they’ve been able to do things really everyone else in the space is constrained by their profits or has a backer who is not looking for a VC-style top line.”
So while Compass straddles the line between a real estate brokerage and tech, one thing seems almost certain: the public markets will likely respond enthusiastically to its IPO.
“There is no doubt given what’s happening in the public markets and how comparable companies are being priced right now, that this will be a successful debut,” Peters said.
Illustration: Dom Guzman
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