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Zillow shares plunge 9 percent on the company's plan to start flipping homes

  • Zillow CEO Spencer Rascoff said the company's existing audience of sellers and buyers uniquely positions it for success as a real estate investor.
  • The move marks a radical change in the company's business model and is spooking investors.
  • The company will take on collateralized debt to purchase the homes, and hopes to have between 300 and 1,000 homes held for sale by year's end.

Zillow shares plunged 9 percent on Friday after the online real estate database company announced it will begin buying and selling homes, a capital-intensive endeavor.

With Zillow's new program, announced on Thursday, home sellers in the test markets of Phoenix and Las Vegas will be able to use Zillow's platform to compare offers from potential buyers — and Zillow. When Zillow purchases a home, it will aim to quickly flip the home, making updates and repairs and listing it as soon as possible. An agent will represent Zillow in each transaction.

"We're entering that market and think we have huge advantages because we have access to the huge audience of sellers and buyers," Zillow CEO Spencer Rascoff said on CNBC's "Squawk Alley." "After testing for a year in a marketplace model, we're ready to be an investor in our own marketplace."

But investors are less enthusiastic. Flipping homes, a model that's being utilized by start-up Opendoor, is very different than operating an internet marketplace. It carries additional risk associated with buying and selling homes and requires a hefty investment in operations. And it also potentially puts Zillow in direct competition with the realtors on its platform.

Zillow sank $5, or 9.3 percent, to $48.77 as of mid-day on Friday, knocking more than $900 million off its stock market value.

"This is a business model that to date has been all advertising revenue driven, which is high gross margin," said Mark Mahaney, an analyst at RBC Capital Markets who has a "buy" rating on Zillow. "And now there's this pivot into this other category which has balance sheet risk and it has much lower margins and is in an uncertain housing environment," Mahaney said on CNBC's "Squawk on the Street."

In May 2017, Zillow announced the launch of Instant Offers, which enables home sellers in the Las Vegas and Orlando test markets to get cash offers from potential investors on Zillow's platform. The company said homeowners prefer the process, and that most of them who requested an Instant Offer ended up selling their home with an agent.

"Home sellers welcome a hassle-free experience selling your home without decluttering your garage or taking the kids out of the house," Rascoff said.

Rascoff said the company will take on collateralized debt to purchase the homes, and hopes to have between 300 and 1,000 homes held for sale by year's end. He called the move "industry friendly," benefiting buyers, investors and agents. He also said it could help stimulate the real estate market and open up new inventory for prospective buyers.

`Unstick people'

"There are people that are basically stuck in their home that would love to go buy another home, but can't sell," Rascoff said. "This could provide the ability to unstick people from their homes."

Mahaney said that it will help Zillow test how much the real estate market is turning.

"This is an interesting experiment on the company's part," Mahaney said. "They've reached the point of scale with both real estate agents and with consumers. There are data points in the market that suggest this way of buying and selling homes is really starting to gain traction."

The program will start this year in Phoenix and Las Vegas. Zillow didn't say when it will expand into other markets.