Why you won’t own a home the way your parents do
Home Ownership 2.0
When thinking about venture investable opportunities, it comes as no surprise that housing and residential real estate are particularly interesting for us at OMERS Ventures.
The sum total value of all the houses in America was valued at $33.3 trillion in 2018, representing a 49% increase from 2012.[i] There are 139 million[ii] housing units in the US and six million were purchased in 2018 (11% newly built).[iii] The median home price in October 2019 was $270,900, up 6.2% compared to October 2018.[iv]
Homes are also a family’s largest asset and millennials are the next wave of owners. Unfortunately, buying a home is harder than ever. For those who don’t receive a monetary gift from a loving, rich aunt/uncle, saving for a down payment is challenging (it can take 40 years in cities like San Francisco!).[v]
Despite a massive global market, the residential real estate space has not been funded or disrupted at the same pace as other industries. However, the time has come(!!), and there are plenty of exciting start-ups that are paving the way to the next evolution of this industry.
At OMERS Ventures, we believe that there will be significant venture opportunities in residential real estate. There is an emerging intersection of tech supporting consumer expectations to drive new experiences into the world’s most valuable asset class.
1. Most valuable asset (class): Residential real estate is the largest asset class in the world and also most individual’s largest asset. As a result, the total addressable market for disruptive players makes it an interesting space for prospective investors.
2. Consumer expectations are changing: The home buying and owning journey is scary, resulting in an opportunity for companies to reinvent the sub-optimal status quo through increased customer centricity and streamlined transactions that appeal to the next generation of home buyers.
3. Technology trends are creating new opportunities: Technology trends that are enabling this wave of innovation include the rise of alternative data sources, predictive analytics using AI as well as blockchain applications.
State of the market
Buying and owning a home is hard
Although real estate is an investment, the purchasing decisions around owner occupied homes often have a lot more to do with life factors (proximity to a good school) and future wealth creation comes second (an added bonus). This results in challenges around balancing an emotional decision with a financial one, and for 1/3[vi] of people purchasing homes, it was their first time buying a house.
The (complicated) buyer journey today
1. Searching for a home: Today, 44%[vii] of buyers’ first step is searching for homes online. Zillow is a leader here and is an incumbent to watch out for as start-ups look to disrupt the real estate transaction.
2. Selecting an agent: Although there have been attempts to replace real estate agents with technology, they are here to stay. Agents are the front-line of the industry and the gatekeepers of information and connections in a hyper local market. Although their role will change over time, we believe that real estate 2.0 and 3.0 will still involve an agent.
3. Figuring out finances: Getting pre-approved for a mortgage is critical in a sellers’ market to make offers competitive and able to win against competing bids. Although the typical down payment demanded is 20%, millennials typically put down less than 10%.[viii] Outsized monthly payments contribute to the house rich cash poor phenomenon.
4. Offer and closing: This is the scariest and most complicated part; fortunately, an agent is quarterbacking the process but it still leaves consumers open to risks (potential wire fraud) and hidden fees.
5. Get the keys: By the time the buyer moves in they’ve likely spent more than expected and now the fun is just beginning when they must then care for their most valuable asset. Unexpected repairs, furnishing costs, etc. result in 81% of homeowners from 18 to 34 having at least one regret about their home.[ix]
The cycle only gets more complicated when existing homeowners look to upgrade into another one. The traditional way that people transact and own homes is a place where technology can make an impactful difference.
In this space, venture capital investment activity has been focused around technology that is redefining accessibility, liquidity and utility of the asset class in the following three areas:
- Transacting homes: Searching, brokers, iBuyers/trade-in, agent tools, process management
- Owning homes: Alternative financing, mortgages/lending, insurance, valuations, investing
- Experiencing homes: Sharing, co-living, home management, home design, renting
Where do we see an opportunity?
Our view is that millennials still want to own homes but face unprecedented levels of stress related to affordability and accessibility. They continue to look for liquidity that meets the mobility in their lives. The long-term relationship with the homeowners ultimately comes down to the financing where we’re seeing new models emerge. As a result of changing customer expectations and these new financing models, the underlying concept of home ownership is ready to be redefined which will impact the full lifecycle of owning a home.
#1: Accessibility through alternative financing solutions
The concept of alternative financing solutions to buy homes isn’t new. Co-investing and shared appreciation models for home buyers already exists through programs developed by government entities and developers. There are also gifts from family members that fuel a first-time home buyer’s purchase. The opportunity today is around using technology and data to productize this value proposition to a wider audience and democratize accessibility/unlock equity for homeowners while also providing access to the asset class for institutional investors.
There are multiple models within the space, but some of the main ones include:
1. Down payment assistance: The company provides part of the down payment in exchange for sharing the value change (appreciation) in the home over time
2. Rent to own: The company purchases the home outright and the customer make regular payments until they build up the down payment to purchase the home
3. Unlock equity: For existing homeowners, these products enable the customer to get cash out of their home by giving up a piece of equity and future value appreciation
#2 Increasing liquidity so ownership is more fluid
For existing homeowners, the traditional buying/selling process makes it challenging to move or fully exit the asset class. Two main challenges are (1) timing — in order to buy a new home, many homeowners need to sell their existing home first to qualify for the next mortgage (2) convenience — life happens and as a lot of wealth is tied up in a home, people may need to get access to cash quickly. If the amount needed is significant where an unlocking equity solution will not help, a fast sale is required. Although access is important, the flip side — flexibility and ability to exit — is just as important. The iBuyer and trade-in models are disrupting this space and enabling homeowners to not be tied down.
Not your typical tech company..
Companies tackling accessibility and liquidity challenges often require capital to enable their business model. A common structure we’ve seen is to separate out the operating company (opco) and property company (propco). The opco is the traditional asset light technology business that is raising venture capital equity. The propco is a real estate fund that holds the real estate assets and attracts capital from a separate set of investors that are focused on real estate-like returns. For traditional real estate investors, this is a new real estate investment product that has a variety of value propositions based on the company’s strategy and what type of business the capital is enabling. Low cost capital is scarce today, but this will not last long as these new investment products are proven out. Challenges that start-ups must overcome when talking to investors include:
- Structure around the payouts and expected returns
- Resiliency of the business model in a downturn
- Property management assumptions
Companies must also solidify how they intend to use the capital including the expected hold period and the size of the asset purchase. Both will warrant different types of financing structures. The chart below outlines different capital use cases from the view of the propco investor:
What does the future look like?
As residential real estate becomes more liquid and as access to the asset class is democratized, we believe that a new ownership mentality will develop. Proptech and fintech are merging with the consumer front and center. Ownership is still preferred, but how and with whom will be open to exploration going forward. Our view is that the companies that will succeed in the space will have the following key competencies:
1. Diversely skilled team: Due to the complex structure of companies in the space, the leadership team must have experience with (1) finance and capital markets to plan and raise capital for the propco; (2) direct to consumer marketing to optimally target the right consumers; and (3) complex operations and geo-diversity
2. A capital strategy for institutional investors: A mapped out capital acquisition strategy that evolves to more attractive (less expensive) and scalable capital sources
3. Marketing hook: A unique and scalable go-to-market strategy that drive better LTV to CAC ratios over time
4. Business model beyond capital gains: Our belief is that the relationship with homeowners is still up for grabs as the root of the relationship lies with financing; looking for companies that have a strong product roadmap around owning the relationship
5. Data approach to market expansion: To make informed decisions, innovators need to incorporate non-traditional data sets to maintain competitive positioning
So if you’re building a company along these lines, give us a ring. We’d love to meet.
[i] $33.3 Trillion Housing Market Up 49% Since 2012 — A Third of the Gain From California https://www.zillow.com/research/california-leads-housing-gains-22600/
[ii] United States Census Bureau QuickFacts https://www.census.gov/quickfacts/fact/table/US/VET605217
[iii] National Association of Realtors, Quick Real Estate Statistics https://www.nar.realtor/research-and-statistics/quick-real-estate-statistics
[iv] Existing-Home Sales Climb 1.9% in October https://www.nar.realtor/newsroom/existing-home-sales-climb-1-9-in-october
[v] Here’s how long it would take to save to buy a home on an average income in 10 major US cities https://www.cnbc.com/2019/06/17/how-long-it-would-take-to-save-to-buy-a-home-in-10-major-us-cities.html
[vi] 2019 Home Buyers and Sellers Generational Report, April 2019 https://www.nar.realtor/sites/default/files/documents/2019-home-buyers-and-sellers-generational-trends-report-08-16-2019.pdf
[vii] 2019 Home Buyers and Sellers Generational Trends Report https://www.nar.realtor/sites/default/files/documents/2019-home-buyers-and-sellers-generational-trends-report-08-16-2019.pdf
[viii] 2019 Home Buyers and Sellers Generational Trends Report https://www.nar.realtor/sites/default/files/documents/2019-home-buyers-and-sellers-generational-trends-report-08-16-2019.pdf
[ix] Regrets? Millennials Have A Few About Buying Their First Homes https://www.forbes.com/sites/brendarichardson/2019/06/09/regrets-millennials-have-a-few-about-buying-their-first-homes/#c1c6c416e13a