As David Letterman once said, “There’s no business like show business, but there are several businesses like accounting”; the same can be said for real estate.
Real estate is a unique industry. It’s unique in many ways. Agents are self employed, but they work for a broker. It’s got low barriers to entry, but seemingly high barriers to success. Like restaurants, 70% of new agents are out of business within their first five years; many don’t last half that long. And most unusual, Realtors are in charge of selling a consumer product that they don’t actually own. And the seller is not a retailer. He’s just an average joe. He’s the owner. The sales agent works for the broker but neither owns the inventory that they are selling. It is a strange relationship if an old fashioned industry. Many people think, it is a bloated, cumbersome and inefficient one, one that is ripe for disruption. I tend to agree.
So I was thinking, as I like to do, maybe there is a better business model for the real estate industry. Many people believe that if only they could get rid of agents and thus brokers whose purpose is unbeknown to most, the industry could be saved. Consumers could save money. Information could pass freely and transparently between sellers and buyers. Lawyers could make it all legal and bank appraisers could valuate abodes.
But it won’t work.
If it were that easy, the for sale by owner franchises (excuse me, the so-called FSBO brokerages as they like to be called) who by the way have been around for nearly two decades now, would have taken over the market. They haven’t. Today, just like twenty years ago, only something less than 10% of homes sell privately. You have to ask yourself why. (I know why, but that is a different blog post).
So I was thinking about cars, the next most expensive consumer product (excepting a university education) bought and sold by nearly everyone. What if buying and selling real estate was more like buying and selling a car. Would that be a good model for the real estate industry?
New homes and new cars
There are a lot of similarities between new homes and new cars.
First of all, new homes and new cars are more expensive that used homes and used cars. You pay a premium to own something brand new. The moment after you get the keys, if you try to offload that car or house the next day, week, month or year, you are going to take a BIG hit.
Second, they are sold in a similar way. If you want to buy a new Honda, you visit the Honda dealership. If you want to live in Vista Hills, you visit the model homes in Vista Hills.
Third, you deal with salespeople. They have the product, the product information and the dog and pony show for you. Sit down, listen up, sign here, press hard, the bottom copy is yours.
So it seems that new homes are already sold much like new cars. Maybe the retail real estate market could work that way too.
Used homes and used cars
For used cars, the dealership buys them directly from the owners, gets them at trade in or from the auto auction. They spruce them up and offer them up to consumers. Why wouldn’t this work for homes?
The cost of inventory
The big difference under this model is that real estate brokerages would have inventory costs. They would have to have enough money to carry 15 or 50 houses for 60 days. Currently, brokerages have no inventory costs. Actually they have no employee costs either. When you think about it, their employees are their inventory – an inventory that generates revenue in a couple of ways as those employees actually pay to work there and pay a percentage of all of their incomes. I’m sure no brokerage is going to like this auto model idea of mine one bit. Too much risk. Too much overhead.
To continue, brokerages would have to price their inventory well enough to sell. With today’s real estate model, home sellers and their agents often price the inventory too high. There is lots of wasted time, money and activity in our current model because of this.
For the consumer, a real estate transaction would be more of a “retail experience”, something that we are all used to. Consumers, especially first time home buyers and first time home sellers, don’t understand the complexities, the layers upon layers of the real estate industry as it is. Home sellers are most concerned with commissions. Home buyers are just cautious as they view real estate agents as salespeople.
For the consumers, selling would mean, selling privately, putting their home in the house auction or, I suppose, inviting two or three brokerages in to offer. For the consumer (the home seller), the transaction would all be over very quickly.
Of course if a consumer was selling and buying, they could “trade in” their home with the brokerage for a new one.
What about the money?
I know that this is just a fun idea and one that will never take hold. But for the sake of argument, would brokerages make as much money? Personally, I think they would. If they take a 20% cut of all real estate transactions currently (with desk fees and commission splits this seems reasonable), then they make 1% of the 5% that it costs home sellers to sell. This means $5000 on a $500,000 home.
As this model cuts a lot of the waste out of the industry, fewer agents would be needed, so their costs and commissions would be much lower. Brokerages could pay them by the hour, like new home salespeople get paid, or have a salary plus commission structure that a lot of sales organizations employ.
Lower costs would be passed onto the consumers.