Earnings Call Transcript - OPEN Q2 2022

Elise Wang, Head of Investor Relations

Thank you, and good afternoon. Full details of our results and additional management commentary are available in our earnings release and shareholder letter, which can be found on the Investor Relations section of our website at investor.opendoor.com. Please note that this call will be simultaneously webcast on the Investor Relations section of the company's corporate website. Before we start, I would like to remind you that the following discussion contains forward-looking statements within the meaning of the federal securities laws, including, but not limited to, statements regarding Opendoor's financial condition, anticipated financial performance, business strategy and plans, market opportunity and expansion and management objectives for future operations. These statements are neither promises nor guarantees and involve risks and uncertainties that may cause actual results to differ materially from those discussed here. Additional information that could cause actual results to differ from forward-looking statements can be found in the Risk Factors section of Opendoor's most recent annual report and on Form 10-K for the year ended December 31st, 2021. Any forward-looking statements made in this conference call, including responses to your questions, are based on management’s current expectations and assumptions as of today. Opendoor assumes no obligation to update or revise them, whether as a result of new development or otherwise, except as required by law. The following discussions contained references to certain non-GAAP financial measures. The company believes these non-GAAP financial measures are useful to investors as supplemental operational measurements to evaluate the company’s financial performance. For a reconciliation of each of these non-GAAP financial measures to the most directly comparable GAAP metric, please see our website @investor.opendoor.com. I’ll now turn the call over to Eric Wu, Co-Founder, Chairman and Chief Executive Officer of Opendoor.

Eric Wu, CEO

Good afternoon. On the call with me today is Carrie Wheeler, our Chief Financial Officer, and Andrew Low Ah Kee, our President. At Opendoor, we strive to empower our customers to make life-changing moves. To that end, I'd like to start our call with a story of Julie Damavandi, a recent customer of ours. I'm Julie Damavandi; I live in Henderson, Nevada, and I sold my home to Opendoor. I was in my home for 41 years and was really looking forward to a fresh start. I felt a lot of emotional baggage in that house, and it was just time to move on and let a lot of that go. When I was looking to move, I found a new build that I was excited about, but the only hang-up was that I had to sell my house to do that. The salesperson had heard of Opendoor and recommended that I try them. I went home that night and started that process. Within three days, we had a price agreement and were in contract right away, which made it possible for me to then sign a contract with the new builder. I didn't have to pay to refinance my house or take money out to do fixes. I didn't have to put a lockbox on my front door and have people traipsing through my house when I was home or not home. There were just so many good things about Opendoor. This whole new method of doing this was kind of new to me, but in the end, it was unbelievably easy and stress-free. Before I moved, I felt a heavy burden on me, but once the sale was through and once I moved out, I really felt a freedom, like I could fly because I didn't have that weight; I didn't have the sandbags on me. Opendoor made this fresh start possible. Against the backdrop of macro and housing market uncertainty, our product that delivers simplicity, certainty, and speed is needed for our customers like Julie now more than ever. In the second quarter, we've helped over 14,000 homeowners move with peace of mind and delivered a revenue of $4.2 billion, growing over 250% year-on-year, with record contribution profits of $422 million, adjusted EBITDA of $218 million, and adjusted net income of $122 million. In addition to our financial performance, we took important steps towards our goal of servicing home sellers nationwide and building a better home-buying experience. We entered 60 markets, bringing our total footprint to 51 markets, expanding our underwriting capabilities to cover nearly 30% of U.S. home transactions. We have also announced our multiyear partnership with Zillow to give their hundreds of millions of monthly visitors the ability to request an Opendoor offer and sell their home online instantly. It's rare that two market leaders come together and align on a vision, and we believe this partnership will fundamentally change how people buy and sell a home. For homebuyers, we went live with our new Opendoor financing app in California, enabling our customers to get pre-qualified in less than 60 seconds. With the adoption suggesting we will achieve our highest attach of financing within just a few months of going live. Lastly, we've officially launched Opendoor Exclusives, a first-of-its-kind marketplace that lets homebuyers purchase an Opendoor home pre-market via an eCommerce-like experience. In the words of a recent exclusive customer, 'I felt like I was shopping for a home on Amazon. The process was seamless and uncomplicated.' It's no surprise that we've already seen tremendous momentum and positive feedback for Opendoor Exclusives. While we are pleased with these results, the current market volatility requires us to be highly dynamic and rigorous in managing risk and overall inventory health. As most of you are aware, the housing market has moved rapidly in the second quarter. We saw a steep slowdown in home transaction velocity and home price appreciation from all-time highs, caused by a spike in interest rates and subsequently a change in mortgage rates at a speed we have not experienced in 40 years. As a result, these macro shifts have led to a faster slowdown in housing than we had forecasted. To navigate this market movement, we have substantially increased our spreads since May, positioning our acquisition cohorts to meet or exceed our margin expectations. Secondly, we are prioritizing inventory health and selling data from our existing inventory with price reductions that are in line with the speed at which the market is moving. While this will lead to sequentially lower contribution margins in the second half of the year, these are disciplined actions that will enable strong financial performance beyond this transition period. We will balance short-term risk management with long-term transformational investments, such as Opendoor Exclusives and our Zillow partnership, and continue to build an experience that addresses consumer needs better than anyone else out there. Importantly, we know this is our opportunity to improve our systems, strengthen our position, and emerge as the best marketplace to buy and sell a home. I will now turn the call over to Carrie to discuss our financial performance in more detail.

Carrie Wheeler, CFO

Thanks, Eric. Q2 was another outstanding quarter. We delivered $4.2 billion in revenue, double-digit contribution margin, and $120 million of adjusted net income, our best proxy for operating free cash flow. We also ended the quarter with a fortress balance sheet with $2.5 billion in cash, another $700 million in equity invested in homes, and over $11 billion of financing capacity. These results completed a record first half of 2022 as we leaned into an exceptionally strong housing market and captured additional earnings in anticipation of greater macro volatility in the second half of the year. Moving from the second quarter and looking ahead, as Eric mentioned, we've seen the macro environment evolve rapidly over the course of Q2, with the Fed's aggressive response to curb inflation resulting in the largest quarter-on-quarter increase in mortgage rates in 40 years. This led to a marked change in housing market momentum, and a faster typical seasonal shift as waning affordability sidelined many homebuyers. We had long anticipated a slowdown in transaction volumes and home price appreciation from record levels; however, the pace at which this occurred was faster than anticipated. While the absolute level of transactions has moved lower, it remains in line with 2018 and 2019 levels and above the 2014 and 2017 levels. In other words, homes are still selling, but at a slower pace than the record high sell-through rates seen in Q1 and early Q2. In terms of home price appreciation, there's usually a consistent seasonal month-over-month pattern to home price changes throughout the course of the year. HPA sharply accelerates in mid-February, peaks at the end of the first quarter, and then gradually moves to around zero during the third quarter, resulting in low to no HPA in the second half of the year. In contrast, the speed with which HPA moves from peak levels early in Q2 was faster than our expectations and sharper than typical seasonal home price declines. We saw a one-month rolling HPA move from approximately 300 basis points in early May to negative 100 basis points as of mid-July. We are beginning to observe a flattening out of the month-over-month change in HPA and may continue to see HPA trend in line with normal seasonal patterns for the remainder of the year. Our performance for the second half of the year will reflect this transition in the housing market to lower transaction velocity, lower HPA, and longer holding times beyond normal seasonal trends. As discussed in our shareholder letter, we've taken and are continuing to take swift and decisive actions to one, adjust pricing to sell homes expeditiously and two, adjust new acquisition home pricing to reflect market conditions and enable those cohorts to perform in line with our target expectations. Our focus on inventory health and risk management informed three key pricing decisions we made in the quarter. First, we substantially increased spreads embedded in our acquisition offers beginning in May. However, given how quickly our spreads increased, and the time lag we have between making an offer and when an acquisition closes, we saw a gap between spreads at the offer versus close time for specific cohorts of homes during the quarter. We made the decision to close on those homes and not to reprice or cancel contracts. We believe that this is a critical brand investment that will pay dividends for years to come. Second, we have adjusted down listed prices on our inventory to stay in line with the market to drive sell-through. While these price reductions will impact our contribution margin in the second half beyond the impact of seasonality, our decision to prioritize earnings in the first half gives us the flexibility to take such actions. Finally, we are continuing to operate with sustained higher spread levels for the new acquisitions we're making. The combination of these higher spreads and lower marketing standards will reduce our acquisition pace. This in turn will shift our resale mix in the coming quarter to longer-dated homes that are usually at lower margins. Our plan is to resume a higher acquisition pace as the housing market stabilizes. Our Q3 guidance contemplates the impact of these actions, as well as a broader range of outcomes that could arise given uncertain market conditions. Therefore, guidance has a wider range than what was provided in past quarters. Our revenue outlook is for $2.2 billion to $2.6 billion, which reflects expectations for fewer homes sold in the quarter, given a slower resale pace, as well as the impact of a lower acquisition pace that subsequently impacts resale volumes. EBITDA guidance of negative $175 million to negative $125 million reflects this revenue range. The impact of our decision not to cancel offers in Q2, price reductions we're taking on inventory to clear, and anticipated resale mix. We are managing adjusted operating expenses down versus Q2 at approximately $190 million for Q3. Expense reductions will be driven primarily by ramping down third-party capacity built into our operations and focusing marketing spend on our most efficient channels. Finally, our guide implies a contribution margin of approximately 1.7% at the midpoint of our range. In summary, we recognize that market conditions will continue to be fluid in the second half of the year; we will continue to be nimble and responsive, leveraging our dynamic pricing, operational expertise, and low-cost structure. We have a very strong balance sheet by design, with cash and marketable securities totaling $2.5 billion and $11 billion of financing capacity. Clearly, we have the resources and are well-positioned to successfully navigate this transition in the housing markets. We remain steadfast in our pursuit of our long-term mission and goal of building a profitable generational company. I will now open up the call for questions. Thank you.

Jason Helfstein, Analyst

Thanks. So I guess a few thoughts: One, it seems that this is a hard business to forecast on a quarterly basis, just given the near-term volatility, but as you play this out over bigger numbers, it's more predictable. So, would you think about potentially shifting to annual guidance? And then two, obviously, there's a fixed cost base you need to cover and when you slow down like you're getting into the second quarter, you don't cover that. That being said, this partnership with Zillow is obviously pretty significant in what it could save you on marketing. So maybe if you can opine as to how fast that can get up and running and maybe the magnitude of what you think that can mean for savings on the sales and marketing side. Thank you.

Carrie Wheeler, CFO

Hey, Jason, it's Carrie; I'll take the first part of that. I mean, I think what's hard to forecast is a 40-year move in mortgage rates over a single quarter. I mean, that's ultimately what we've been navigating here, and that has really been a challenge as opposed to an ability to forecast quarter-to-quarter. I mean, what we're navigating is a very different macro forecast than what we had embedded in our expectations; we had been building spreads and increases in those for a long time in anticipation of a housing slowdown that would be in line with other past slowdowns. But what we saw was this very large and very fast moving rates in a single quarter; again, this is one at a 40-year type scenario. And so we've been navigating a much steeper slope. Outside of that, I think our systems are doing exactly what they're designed to do, which is responding very, very quickly, adjusting prices to market, and we've been raising spreads for new acquisitions.

Andrew Low, President

With respect to the Zillow partnership, we're excited about what's ahead there. We do think it has the potential to help us serve meaningfully more customers over the midterm. The team's, given that we just announced the deal today, are hard at work putting that together and we expect it to be live in the coming months. For us, it's a major milestone on our journey to have every homeowner in the country start their move with an Opendoor offer. We're combining Zillow’s category-leading audience of over 200 million monthly uniques with our leading platform and solution, and we're excited about the potential that offers.

Robert Zeller, Analyst

Hi, thanks for taking the question. This is Robert Zeller on for Naved Khan from Truist. So if we're just comparing the environment and volatility today versus Q3 of 2021, I think when you guys first started widening your spreads, I think you mentioned in the letter you're starting to see flattening out of the month-over-month changes in home price appreciation. So would you say the highest volatility period is likely now behind us, and do you think it might be easier to forecast rate changes, HPA, and inventory levels heading into the back half of the year or into 2023? And then sticking with mortgage rates, I mean, we've seen them starting to come down recently. So do you think that could provide a catalyst or tailwind to that homebuyer demand starting to come back in the back half of the year or early 2023? Thanks.

Carrie Wheeler, CFO

Hey, Robert, I'll take that as well. I mean, with respect to the spread increases, again, as you mentioned, we have been increasing spreads going all the way back to last fall. But we moved them up to what have been record levels really starting in May, on the heels of all the changes we saw with mortgage rates moving up quickly. And we moved them up materially, and we continue to operate today at those sustained higher levels of spreads, in part because the housing market continues to be quite fluid. We want to ensure that we're building substantial conservatism and managing for risk over the back half of the year. For the second part of your question about mortgage rates, would coming down provide a catalyst? Again, I'd unload the forecast that I think what we want to do right now is focus on clearance, risk management, and build into fresher inventory. And as we acquire new homes, we're doing that with substantially higher spreads. I feel very good about our ability to create new cohorts that will perform in line with our expectations. And I would say the spreads we're operating with now embed, frankly, a more negative macro outlook than what we're currently seeing.

Dae Lee, Analyst

Great, thanks for taking my questions. I have two. So the first one follows up on the prior question about demand; are you seeing this pullback in demand across all of your markets, and do you think this is a temporary pullback? If it is, what do you think could get the demand flowing again? Secondly, could you talk a little bit more about Opendoor Exclusives? What's your long-term vision for this product? And how large do you think this could be as a percentage of homes that you sell?

Andrew Low, President

It's Andrew. I can take the first part of that. In terms of what we're seeing across markets, we are absolutely seeing different performance and trajectories across our market footprint. On the east coast, our markets are tending to perform well, particularly in the southeast and Florida. Our central markets are a bit more mixed. Our western markets, notably Phoenix, Vegas, Sacramento, and Tucson are a bit more challenging. Broadly, I think it highlights the importance of having a 50-plus market footprint and the geographic diversification that offers.

Eric Wu, CEO

With regard to the long-term vision around exclusives, what I can say is that we know how broken the process is to buy a home; it feels more like Craigslist than Amazon. We're going to change that. We're going to make it a simple and seamless experience, and we believe this is a win for customers and a win for Opendoor. A few features we launched are one, there's a buy-now price, which removes multiple counterparties and the need for negotiations. As you probably know, when buying a home, there's often a lot of back and forth and uncertainty. We provide an appraisal price match guarantee, which removes issues around pricing and gives our customers peace of mind that they are paying a fair price. Lastly, we built an eCommerce-like experience and it's truly magical. Opendoor, we've actually found that by providing these homes exclusively on Opendoor, it drives our audience; it's another way we're using our unique supply to aggregate direct buyer demand. This can have a significant positive impact on economics because, with a direct demand funnel, we can lower transaction costs through fees, close times, and increased service attach. So we think the impact can be substantial over time. I wouldn't say to the third-party question; how big can this get? I do view this as an important start of a fundamental shift in why and how direct buyers will work with Opendoor, unlocking a tremendous amount of opportunity in the medium term for us.

Nicholas Jones, Analyst

Hi, thanks for taking the questions. I guess, just revisiting the Zillow partnership, it sounds like that it's going to attract a significant amount of volume. I mean, how do you think about managing the number of people requesting quotes versus what you can fill? And then, with Zillow as the upper funnel, does that change the pace at which we will enter new markets from here? Thanks.

Andrew Low, President

Sure. We are excited about the potential volume. One of the things that is unique about the Opendoor platform is the flexibility we've embedded in it. We've obviously been able to scale up significantly over the last 24 months. As we look at the third quarter and lower volumes, we're able to take some of that flexible capacity out of the system. Our ability to support a meaningful partner like Zillow is absolutely there, and it's one of the things that differentiates our platform. In terms of the pace of market launch, we're in over 50 markets across the country covering 30% of all transactions. We feel very good about that footprint, we are still opening markets, but our focus, given the dynamic market environment right now, is really on managing the existing footprint that we have.

Justin Ages, Analyst

Hi, thanks for taking the question. Just looking ahead, and given the volatility, I understand that this might be difficult to answer. But, as the market transitions to more of a buyer market, is there an opportunity for you guys to seize this and increase your inventory? What are good houses but just not at the right time to sell them?

Eric Wu, CEO

Yes, Justin, hey, it’s Eric. The short answer is yes. We fundamentally believe that we're providing a tremendous amount of value for sellers, and we've built that experience for them over the course of eight years. We're best-in-class at that. We’re also becoming very good at servicing buyers and improving their experience for agents and buyers while also offering exclusives. So if you take a step back at the marketplace for managing that, we want to ensure that we have sellers coming to the platform and delighting them. At the same time, we have buyers coming to the platform and delighting them, focused around Opendoor homes. To your question, do we see this as an opportunity to grow inventory? The answer is yes. We're managing that growth with proper spreads to ensure that we hit our contribution margin targets while also managing risk. These are the dynamics at play, and we continue to invest in our platform so we can grow.

Ryan Tomasello, Analyst

Hi everyone, thanks for taking the questions. Can you provide some color around the impairment? How many homes did this relate to, and was that concentrated in specific markets? As a follow-up on your spreads, can you say where your service fee stands on average today, and if you feel like stronger expected conversion could compel you to take those service fees higher as you look to take your foot off the gas?

Carrie Wheeler, CFO

Sure, I'll take that. Hey, Ryan. So, on the impairment, we don't break it out by geography or by month of cohort, but I would say it is meant to reflect as of June 30th, our expectations for home price appreciation and resale policies at the time. Certainly since then, we continue to respond to what is a rapidly changing macro environment, and we have an opportunity to adjust our pricing to reflect that. Regarding your second question on conversion and fees, one of the things we've been talking about for a while is that notwithstanding higher spreads, we've seen conversion outperform our expectations on a spread-adjusted basis. We have a service fee that's static in all our markets; it's 5%. We manage spread via the value we provide to the customer, and that has increased measurably, particularly since May on the heels of the mortgage rate move. We're seeing the fact that spreads have increased, and I'd say we still see conversion performing quite nicely on a spread-adjusted basis. As the housing market starts to stabilize, our expectation is that we can start to adjust spreads over time, and it's a two-way street for us; we'll be able to grow back into acquisition volumes.

Eric Wu, CEO

We're aggressively managing down our costs. The $190 million that you referenced is a high single-digit quarter-over-quarter decrease, and we expect to exit the quarter on a run rate at an even lower level than that. There are really three main levers we're pulling to do that. First, we're flexing down our third-party capacity pretty aggressively as we scaled up. We're very deliberate about leveraging third-party labor versus hiring. For example, in the first half, nearly 40% of our home operations tasks were carried out by third-party labor, and we're in the process of dialing that capacity back. Secondly, we're focusing our marketing spend on our most efficient, highest return channels, given the high spread environment. Finally, the team is really reviewing every aspect of our spending, and we expect that to continue to come down throughout the year.

Jason Weaver, Analyst

Hi, good evening. Thanks for taking the question. As it pertains to broad consumer adoption trends, I wonder what you are seeing regarding offer request rates as a percentage of your average site visitors. Is that rising given the uncertain environment?

Eric Wu, CEO

In Q2, I think we talked about seeing record offers, which was obviously encouraging to see. We've made meaningful investments in our brand, and as we grow awareness of our solution, we grow the business over time, and so certainly we're seeing those investments move the needle.

Jason Weaver, Analyst

And if I can follow up with just one more bridging off one of the prior questions, the $82 million mark, I'm curious about that against the language that you've stated that you may look to reduce prices to clear out some of this inventory going forward. So should we expect to see valuation marks of similar magnitude in the third and fourth quarters?

Carrie Wheeler, CFO

I can't sit here today and give you a forecast for Q3 in terms of impairment, but we will go through that same methodology again. My comment was just we impair homes, and we value them based on what we know at the time, based on a floor expectation of where home prices are going and the resale policies we have in place. Given how dynamic the market is, we're going to continue to adjust pricing and resale policy as we work to drive clearance across the entire portfolio. That will be the basis for where we mark homes.

Eric Wu, CEO

Thank you. To close this out, I want to say that we're focused on the long term. I do want to remind everyone of a few things. We've spent the past eight years improving and making efficient how we buy homes, making us best-in-class at this task. We shifted a tremendous amount of resources and focus on now becoming the best seller of homes. We're the only company vertically integrated as a principle with the incentive alignment to improve and optimize that system. This means we will become the best buyer and the best seller of homes, and this capability will underpin our platform. Thank you for attending.

Operator, Operator

This concludes today's conference call. Thank you for participating. You may now disconnect. Everyone have a great day.