The future of estate agency

112 Pages·2017·2.1 MB·English

EQUITIES

MEDIA
Rightmove
OUTPERFORM

ZPG plc
NEUTRAL

The future of estate agency: who
wins?
WHY YOU SHOULD READ THIS REPORT
29 MARCH 2017 at 16:43*
Property portals have helped estate agents traverse the
William Packer
first phase of digitalisation. Property discovery has shifted
from shoe leather to smartphone. Thus far, the agent
business model has remained broadly unchanged.
The battlefield of digital disruption in property buying is
evolving, given the rise of online estate agents, including
market leader Purplebricks (NR). We explore how online
agents will impact the estate agency industry and the
implications for the property portals, with a focus on
Rightmove, the largest and most exposed player.
Online agents will grow share but traditional agents are
preparing to react. What's more, we continue to see
Rightmove (+) as a key winner with a business model that
is broadly agnostic to industry structure. Key sector pick.
* Date and time (London Time) on which the investment recommendation was finalised. It may differ from the date and time of broad
dissemination on the website.See Appendix (on p102) for Analyst Certification, Important Disclosures and Non-US Research Analyst disclosures.
Disruption: a disturbance which can interrupt an event, activity or business process.
A revolution has started. Consumers, corporates and governments are now embracing the digital
age. Traditional business models face a wave of disruption arising from new technology, new
content and new ways to consume.
Companies with strong historic business models and deep industry knowledge face new
challenges that risk disrupting their businesses permanently.
In this research series we seek out companies, industries and markets where disruption is likely.
Disruption may start below the radar. It can be low-margin and seemingly unattractive. However,
if sustained, it is this disruptive innovation that drives revolution.
RIGHTMOVE OUTPERFORM TARGET PRICE EPS 17e EPS 18e
GBP40.0  TARGET PRICE GBP50 (UPSIDE 25%)  6%  2%  3%

ZPG PLC NEUTRAL TARGET PRICE EPS 09/17e EPS 09/18e
372p  TARGET PRICE 370p (UPSIDE 0%)  16%  -7%  -7%

The future of estate agency: who wins?

Contents

29 MARCH 2017 What’s new in this report? 2
William Packer The basics of UK estate agency 3
([phone]
[email protected] Investment summary 4
Valuation 14
Charles Bedouelle The structure of the estate agency today 22
([phone]
Clemence Cachet-Fournier Why have property portals prospered? 28
([phone]
The coming tide: hybridisation to drive estate agency change 33
Sami Kassab
([phone]
What are the key risks for the portals? 51
[email protected]
Rightmove to remain a winner of digitalisation 54
Specialist sales
Rightmove and Purplebricks – frenemies? 58
Gareth Hollis
([phone] The Optimiser opportunity and beyond 65

Rightmove and competition 75
ZPG: appealing vision but priced in for now 80
UK residential property market: cyclical prospects 86
Appendix: an introduction to the UK property portal industry 92
Appendix: additional materials 100
Investment case, valuation and risks 101
Financial highlights 109

Rightmove (+) ZPG plc (=)
Internet Services  United Kingdom Internet Services  United Kingdom
Price*: GBP40.0  TP: GBP50  Upside: 25% Price*: 372p  TP: 370p  Downside: 0%
Market cap: GBP3.6bn / EUR4.2bn Market cap: GBP1.6bn / EUR1.9bn

12/17e 12/18e 12/19e 12/20e 09/17e 09/18e 09/19e 09/20e
EPS, Adjusted (GBP) 1.57 1.79 2.05 2.37 EPS, Adjusted (p) 12.1 13.9 17.2 19.1
EPS, IBES (GBP) 1.57 1.76 1.99 2.31 EPS, IBES (p) 14.1 16.6 19.1 21.9
P/E (x) 25.5 22.3 19.5 16.9 P/E (x) 30.8 26.7 21.6 19.4
Net yield (%) 1.4 1.6 1.8 2.1 Net yield (%) 1.8 2.0 2.2 2.3
FCF yield (%) 4.2 4.8 5.4 6.2 FCF yield (%) 3.8 4.5 5.0 5.4
EV/Sales (x) 14.8 13.0 11.5 10.1 EV/Sales (x) 7.5 6.9 6.4 5.9
EV/EBITDA (x) 19.8 17.4 15.1 13.2 EV/EBITDA (x) 24.0 20.4 17.1 15.4
EV/EBITA (x) 20.0 17.6 15.3 13.4 EV/EBITA (x) 25.8 21.7 18.1 16.4
EV/CE (x) - - - - EV/CE (x) 4.3 4.2 4.1 4.1
Net Debt/EBITDA, Adj. (x) - 0.0 0.0 - Net Debt/EBITDA, Adj. (x) 2.6 2.1 1.5 1.0
Prices at 28 March
What’s new in this report?
Deep dive on the future of the UK estate agency and the property buying process
– We explore the next phase of digitalisation of the property buying process, focused
on the rise of online estate agents and how it will impact traditional agents and property
portals.
– Our analysis focuses on Purplebricks, the market leading online estate agency,
traditional agency economics and Rightmove as the largest and most exposed internet
player.
We explore how online agent led disruption impact the estate agency industry
– Based on conversations with stakeholders across the value chain, we have created
an in-depth market model. We forecast online agents to grow their share of residential
property transactions to c10% by 2022 from c5% today.
– Our detailed market model includes high level UK residential property market
assumptions, a detailed Purplebricks P&L, and P&Ls for the remaining online players
and the traditional industry as a whole (model is available upon request).
– We explore how traditional agents can react to this threat through a hybridisation of
product offerings, cost savings and lettings potentially mitigating share loss and
preserving industry fragmentation.
– We conduct a detailed scenario analysis, flexing for factors including Purplebricks’
cost of vendor acquisition and the macro, among other factors, which implies an online
market share range of 7-20% by 2022.
We explore the key risks for the property portals
– We explore how top-line pressure at traditional agents could impact their profitability
and branch footprint, the risks to Rightmove’s revenue model in the changing
ecosystem and how increased estate agent scale could impact the property portals.
We explore how Rightmove can react to mitigate these risks
– Rightmove’s favourable market position has proven broadly platform agnostic so far
– we probe whether this can continue
– We investigate the efficacy and use of Optimiser and productivity tools to boost
traditional agent spend and the sensitivity of this spend to the success of online peers
– We explore the ‘friend’ or ‘frenemy’ relationship between Rightmove and
Purplebricks and the key variables that will determine relative winners
We identity potential new areas of property portal innovation
– We investigate the next phase of portal innovation, including ground-breaking new
software products in the UK, US and Europe that could drive incremental revenue
Updating our thoughts on the new ZPG
– With estate agent marketing <25% of ZPG group revenue, we see Rightmove as
the most exposed player to the aforementioned changes.
– We update our thoughts on ZPG and argue management have made shrewd
strategic choices in recent M&A. We also see healthy short term operating momentum
(switching volumes, AM court case). However, valuation limits short term appeal. We
reiterate our Neutral rating with underlying operating forecasts broadly unchanged and
in-line with consensus.
Updating our thoughts on Rightmove
– We increase our EPS 18/19 by 3% on increased ARPA forecasts and stand c6%
ahead of consensus in 2018/19
– We continue to see Rightmove as a key winner in the next phase of estate agency
digitalisation, increasing our target price to GBP50 (from GBP47).
Exane BNP Paribas Research RIGHTMOVE / ZPG PLC 29 MARCH 2017 page 2
The basics of UK estate agency
To assist readers unfamiliar with the UK residential property industry, we outline some
of the basics below. In summary:
– Most UK property sales, on behalf of ‘vendors’, are conducted through an estate
agent
– Buyer property discovery is conducted primarily through property portals (no
buying agents)
– Estate agents have typically operated through physical branches, competing
fiercely in local markets
– Traditional estate agents offer consumers local knowledge, high touch transaction
management and property marketing. They charge consumers on a no win no fee
basis, with a 1-1.5% fee
– Online agents have emerged in the last decade, offering lower fees for a reduced
service. Fees typically are fixed (GBP500-1k) and paid up-front regardless of whether
transaction completes
– More recently Purplebricks has pioneered a hybrid model, the low cost / low
service is complemented by valuation/relationship with a contracted local estate agent
– Some traditional agents are now experimenting with a similar service (alongside
their traditional offering) driving a potential convergence of sorts
Figure 1: Summary of estate agency basics
Source: Exane BNP Paribas estimates
Exane BNP Paribas Research RIGHTMOVE / ZPG PLC 29 MARCH 2017 page 3
Investment summary
In this report we explore how the next phase of digitalisation of the property buying
process will impact the estate agency industry and in turn the property portal industry,
with a focus on Rightmove as the largest and most exposed player. Our investigation is
underpinned by conversations with more than 30 unique ‘proptech’ contacts (more
details on request) in the UK and overseas and many leading stakeholders in the UK
estate agency industry. We met with market leading agencies across the digital journey
as well as leading software players and innovative start-ups.
The estate agency industry is undergoing significant change as online estate agents
seek to disrupt the traditional bricks and motor estate agency model. We have created
an in-depth market model (with a detailed scenario analysis) and forecast online agents
to grow their share of residential property transactions to c10% by 2022 with
Purplebricks set for a key role. Traditional agents will likely respond to the competitive
pressure through hybridisation of their product offering, cost reduction and lettings,
ultimately preserving the fragmented market structure of the estate agency industry.
We see Rightmove as a key winner in the next phase of digitalisation. We forecast
Rightmove to preserve its website traffic leadership underpinning its role as a lead
generator and critical requirement for vendors. We expect Rightmove to facilitate cost
efficiencies and level the marketing playing field with emerging online players, through
products such as Optimiser. While the relationship with Purplebricks has the potential
to deteriorate from ‘friend’ to ‘frenemy’ with scale driven discounting pressuring
Rightmove top-line, we expect a healthy competitive equilibrium with menu based
pricing upselling opportunities and interdependence limiting risk.
In this report, we also provide a detailed overview of Rightmove’s Optimiser product,
analyse the strategic implications for Rightmove of ZPG’s recent M&A, update our ZPG
investment case (Neutral rating with short term momentum offset by valuation) and
explore current cyclical momentum.
Background: the estate agency industry today and property portals
In this report, we include four background sections on the property portals and their
estate agency industry customer base, to assist readers prior to exploring the structural
changes in the estate agency industry and the implications for property portals. In ‘The
basics of UK estate agency’ we explain the nuts and bolts of estate agency. In ‘The
structure of the estate agency today’ we explore the market structure, revenue model
and emerging trends in the estate agency industry. In ‘Why have property portals
prospered?’ we explore the pricing power dynamics that have driven the portals strong
revenue growth over the last decade and finally in ‘Appendix: an introduction to the UK
property portal industry’ we provide an introduction to the basics of the property portals
industry. These chapters will hopefully be particularly useful for investors exploring the
sub-sector for the first time.
Exane BNP Paribas Research RIGHTMOVE / ZPG PLC 29 MARCH 2017 page 4
Figure 2: We explore the fundamentals of the estate agency industry
FY16 market share of ‘branches’ When receiving a new instruction does the vendor request
access to x’ – response ALWAYS
Large
90%
corporates
10% Premium
players 80%
5%
70%
60%
50%
Franchises /
small
corporates 40%
20%
30%
Independent
s Other online
62% pureplay 20%
2%
10%
PURP
2%
0%
Rightmove Zoopla
Source: Exane BNP Paribas estimates. Exane BNPP survey of estate agents 2015
The coming tide: hybridisation to drive estate agency change
In our view, after a long period of stability, the estate agency industry is set to
experience disruption as online agents take market share and incumbents react, driving
a hybridisation of the industry as a whole. We explore the drivers of this change,
including a deep-dive on the economics of the Purplebricks operating model, and the
likely reaction from incumbents. Our detailed industry model (including full PURP P&L)
is available upon request.
Figure 3: We expect online agents, led by Purplebricks, to have a major impact on the estate agency
industry
Estimated market share of transactions in 2022 Fall in branches / commission 2016-22

0%
25%
(2%)
(4%)
20%
(6%)
(8%)
15%
(10%)
(12%)
10%
(14%)
(16%)
5%
(18%)
(20%)
Fall in traditional branches Fall in traditional commission
0%
16-22 pool
Base case Purp acceleration Status quo holds
Base case Purp acceleration Status quo holds
PURP % of transactions Online as % of transactions
Source: Exane BNPP estimates
We argue that Purplebricks’s combination of a differentiated franchise local property
expert model and substantial marketing clout has allowed it to move ahead of online
peers and is a platform from which to build further scale. The model possesses key
advantages vs traditional peers including a substantial cost advantage (labour and
Exane BNP Paribas Research RIGHTMOVE / ZPG PLC 29 MARCH 2017 page 5
physical infrastructure) that feeds through to a sustainably differentiated price point,
enabling market share growth.
We have created a market model to explore the expansion of Purplebricks and online
peers, and the impact on the traditional industry. In our base scenario we expect online
agency market share to increase to c10% of transactions by 2022 and traditional
agency sales model to be pressured but to respond with hybrid offerings and cost
action (supported by lettings resilience), ultimately preserving the fragmented market
structure of the estate agency industry. We have also created two additional scenarios
where we assume a more or less aggressive expansion of Purplebricks, based on
different vendor acquisition cost trajectories, and the impact this would have on industry
economics.
Figure 4: How will hybridisation impact the estate agency industry in 2022?
SCENARIO Market concentration Financial impact
‘TODAY’ Online share: 3% (ow 2% PURP) Physical branches: 17k
Traditional revenue / EBITA: 4.8/0.7
Note: share of transactions
FY16 PURP revenue / EBITA: 36/NM
‘BASE CASE’ Online share: 10% Physical branches: 16k
o.w. PURP share: 7% Branch 16-22 CAGR: -1%
Hybridisation; PURP takes share, incumbents Traditional share: 90% Traditionalrevenue / EBITA: 4.5/0.6
react PURP revenue / EBITA: 240/50
‘PURP DRIVEN DIGITAL
Online share: 20% Physical branches: 15.8k
ACCELERATION’ o.w. PURP share: 16% Branch 16-22 CAGR: -2.0%
Traditional share: 80% Traditionalrevenue / EBITA: 4.2/0.3
Network effects and cost advantage at PURP PURP revenue / EBITA: 550/200
drive rapid expansion
‘STATUS QUO MORE
Online share: 7% Physical branches: 17k
RESILIENT’ o.w. PURP share: 4% Branch 16-22 CAGR: -0.5%
Traditional share: 93% Traditionalrevenue / EBITA: 4.6/0.7
Growing customer acquisition costs blunt PURP revenue / EBITA: 140/0
digital expansion; incumbents prove defensive
Source: Exane BNP Paribas estimates
Note: Industry revenue / EBITA in GBPbn ; Purplebricks revenue /EBITA in GBPm
We note that Purplebricks remains an early stage operation and could face challenges
as it scales (LPE retention, rising vendor acquisition costs, new venture capital backed
competition etc), which imply our forecasts are too bullish on its prospects.
Nonetheless we believe our analysis provides a useful tool to explore the long run
growth trajectory of the agency market and impact on digital players including
Rightmove.
What are the key risks for the portals?
Our estate agency base case market scenario of a declining traditional commission
pool (-2% CAGR FY16-22), falling branches (-1% CAGR FY16-22) and an increasingly
material Purplebricks market share (c7% in FY22) brings risks for the property portals.
– We expect hybridisation to industry revenue pool deflation, pressuring key elements
of the cost base including Rightmove, potentially restricting the latter’s revenue growth.
– Online agency competition will impact traditional players, potentially driving branch
closures, which will impact Rightmove based on its branch orientated revenue model.
Exane BNP Paribas Research RIGHTMOVE / ZPG PLC 29 MARCH 2017 page 6
– The transition to a hybridised industry structure may drive effective industry
consolidation, with the potential for a scaled Purplebricks to limit Rightmove pricing
power and demand material discounting vs peers, further entrenching its cost
advantage.
Figure 5: Estimated Rightmove ARPA discounts by customer type
Large corporates 40-50%
Premium players 10-30%
PURP c30%
Franchises / small corporates 10-25%
Independents 0%
Other online pureplay 0%
Source: Exane BNP Paribas estimates
Rightmove to remain a winner of digitalisation
While the structural changes we expect to impact the estate agency industry will likely
bring new challenges to the Rightmove business, we expect Rightmove to continue to
prosper forecasting 10% revenue CAGR over the next 5 years, with EPS forecasts
6%/6% ahead of consensus for FY18/19. We argue Rightmove can sustain its
dominant share of property discovery traffic, underpinning pricing power as a lead
generator and marketing platform required by vendors with the company broadly estate
agency industry structure agnostic. We also expect Rightmove to further develop its
functionalities which will allow agents to hybridise their product offering and enhance
cost saving opportunities.
Figure 6: Rightmove is well positioned to thrive in the new era
SCENARIO KEY OPPORTUNITIES KEY RISKS
●Exert enhanced pricing power with long tail
●Branch closures and commission levels
of traditional and fragmented online agents
‘BASE CASE’ pressure longer tail of traditional agents
●Pursue aggressive upsell of Optimiser profitability
Gradual hybridisation ●PURP premium product upsell ●PURP attempt to increase discounting or fail
to upsell RMV products
●New product innovation
●Exert enhanced pricing power with long tail
and fragmented online agents ●PURP pressure RMV discounting
‘PURP DRIVEN DIGITAL
ACCELERATION’ ●hPyubrrsidu e p arogdgurecstss itvoe h ueplps ealgl oefn Otsp ptiumsihs ebra acnk dv s ●PecUoRnPom kiecesps RMV upsell products
Network effects and cost advantage at PURP PURP ●Large branch closures and commission
drive rapid expansion ●PURP premium product upsell levels pressure traditional profitability and
limit Optimiser upsell
●New product innovation
●Exert enhanced pricing power with long tail
‘STATUS QUO MORE and fragmented online agents
RESILIENT’ ●Pursue aggressive upsell of Optimiser
●New business model emerges to challenge
●Exert pricing power over PURP status quo
Growing customer acquisition costs blunt
digital expansion; incumbents prove defensive ●Increase share of PURP upsell economics
●New product innovation
Source: Exane BNP Paribas estimates
Among highly diverse traditional agents, we expect Rightmove to pursue a mixed
strategy. We expect the group to aggressively push the Optimiser premium product
suite to market leading agents, while exerting its pricing power over the long tail, with
upside from productivity and quasi-hybrid functionality.
We argue concerns over the impact of branch closures on pricing structure as
overdone, with the geographic advertising model contract terms limiting branch closure
Exane BNP Paribas Research RIGHTMOVE / ZPG PLC 29 MARCH 2017 page 7
risk, while smaller owner operator independents have little opportunity for closures
considering their fragmentation.
Among the fragmented online pureplays we expect Rightmove to have significant
pricing power as they are highly dependent on Rightmove for consumer awareness.
Purplebricks brings different challenges.
Rightmove and Purplebricks – frenemies?
We expect Rightmove and Purplebricks to continue their symbiotic and lucrative
relationship over the next 5 years, as the latter becomes an increasingly significant
player in the UK market.
In our base scenario, we expect Purplebricks to grow market share to c7% by 2022,
implying a shift in industry market share from a fragmented tail of agents towards an
industry market leader. With Rightmove offering its larger customers discounts, and
Purplebricks therefore likely to further cement its favoured pricing as it grows scale, this
brings the risk that Rightmove must monetise its traditional client base harder at a time
when it is under structural pressure. We forecast Purplebricks’ estimated subscription
discount of 30% in 2016 to expand to 45% in 2022 (implying underlying price increase
CAGR of 4% from 2016-22, once adjusting for ‘branch equivalent size’) reflecting
Purplebricks’s growing market share.
However the Purplebricks revenue model includes the upsell of products, of which
Rightmove’s premium display products are a key option. This provides grounds for
cooperation as Rightmove can offset the discount it offers to PURP through direct
vendor monetisation. In our core scenario, we forecast healthy growth in RMV premium
product (c30% vendor uptake), implying that the effective Purplebricks discount with
Rightmove actually declines from 30% in FY16 to c20-25% in FY22.
Figure 7: We expect PURP effective discount to shrink with growing upsell offsetting subs discount
Purplebricks discount vs RMV average ARPA ARPA premium / (discount) By agent type

0% 120%
2016 2017 2018 2019 2020 2021 2022
100%
(5%)
80%
(10%) 60%
40%
(15%)
20%
(20%) 0%
2016 2017 2018 2019 2020 2021 2022
(20%)
(25%)
(40%)
PURP
Other online
(30%)
Traditional - optimiser
PURP RMV discount as % of average ARPA
Traditional - core blended average
Source: Exane BNP Paribas estimates
We also conduct a detailed scenario analysis to explore the susceptibility of the
Rightmove model to Purplebricks’ pressure. We test our scenario based on i) the
growth of Purplebricks and its subsequent impact on the traditional space
(bear/base/bull implying 4%/7%/16% market share in FY22) and ii) the relative market
power in the Rightmove / Purplebricks relationship. This relative market is considered
through two sensitivities i) the level of Rightmove discounting for Purplebricks vs
Exane BNP Paribas Research RIGHTMOVE / ZPG PLC 29 MARCH 2017 page 8