How does Redfin make money?

The company makes its money from listing fees and commissions when a house is sold

The real estate tech space has never been hotter than it is right now, with investments in the space reaching record highs. There was a total of $12.6 billion invested into these companies in 2017, which tripled the $4.2 billion invested in 2016. It's a good time to be a real estate startup.

So why is one of the legacy companies in the space, Redfin, been struggling so far this year? The company has been seeing its stock dip nearly 20 percent to date, even as others in the same space, such as Zillow and RealPage, have seen their stocks soar in the same time frame.

The reason Redfin is struggling because of its business model, which is more closely tied to the whims of the real estate market than the other two companies, which rely on an advertising and a SaaS model, respectively. 

In the FAQ section of its website, Redfin says it makes money "by helping people buy and sell homes." That means that, since it's acting as the broker, Redfin gets a commission when customers make an offer on a home using the platform.

"We return a portion of our commission to the customer, and retain the remainder for our services," the company writes.

The company also makes money from customers listing their home on Redfin, for which it charges them a listing fee. The percentage, and the minimum commission, depends on the location of the home. For example, in Atlanta, the fee is 1.5 percent, with a minimum commission of $4,500. In Denver, it's 1 percent and a $3,000 minimum. In Orange County the minimum is $5,000. The listing fee also increases by 1% of sale price if the buyer is unrepresented.

In its S-1 filing with the SEC, Redfin also outlined two other sources of revenue.

The first is what it calls "partner revenue, which "consists of fees partner agents pay us when they close referred transactions, less the amount of any payments we make to customers. We recognize these fees as revenue on the closing of a transaction. Partner revenue is affected by the number of partner transactions closed, home sale prices, commission rates, and the amount we give to customers."

Redfin also makes money from "fees charged for title and settlement services, mortgage banking operations, marketing services provided to home builders by our builder services group, licensing and analytics fees from our Walk Score service, homes sold by Redfin Now, and other services. Revenue is recognized when the service is provided." Redfin Now is a service, introduced in 2017, where the company buys homes directly from home sellers through a wholly owned subsidiary and resell them to homebuyers

That translated into revenue of $370 million in 2017, of which $10.5 million came from Redfin Now. The company saw its revenue grow 38 percent year-to-year.

Despite that growth, its stock has sunk from $31.41 at the start of 2018 to $25.37 at the end of trading on Thursday, a decrease of 19.22 percent. Zillow, meanwhile, has seen its stock go from $40.50 to $62.69, up 54.7 percent.

That's because Zillow's business model depends on advertising, while Redfin's model depends on people listing and buying their homes. And right now the market is down; earlier this week, the National Association of Realtors released data showing that existing-home sales decreased for the third straight month in June. Sales are 2.2 percent below where they were at the same time a year ago.

In its second quarter earnings call, Redfin CEO Glenn Kelman outlined three initiatives that he said will help the company to not totally depend on sales through its brokerage service. The first is Redfin Now; the second is Redfin Concierge Service, which the company introduced in November. Through the service, Redfin coordinates, supervises and pays for services such as deep cleaning, painting, staging and landscaping, all for a 2-percent listing fee.

Finally, there's Redfin Mortgage, which the company launched in January 2017.

"Already we made about 20 loans in the fourth quarter of 2017, and nearly 40 in the first quarter of 2018, with similar growth expected for the second quarter. We launched Redfin Mortgage in the first quarter of 2017 to issue loans to our home buying customers in Texas," Kelman said on the call.

"Our premise has been that integrating a lending operation with Redfin's brokerage and title businesses, all running of our own software, can ultimately lead to an entirely digital closing where Redfin borrowers compete like cash buyers."

(Image source: redfin.com)