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Originally published September 29, 2012 at 8:02 PM | Page modified September 30, 2012 at 11:35 AM

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Short sellers call Zillow a lemon

Seattle-based real estate website Zillow is blasted by Citron Research, a controversial outfit with a history of bursting stock bubbles.

By Seattle Times business staff

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There is no light without darkness. No up without down. And no stock-market bulls without bears.

Seattle-based Zillow is the latest company to come under fire from traders skeptical of its business model and lofty valuation. An acerbic report this past week from Citron Research called Zillow’s business model “ridiculous” and predicted its share price would plummet “sooner rather than later.”

The market response was predictable: Zillow shares, which hit an all-time high of $46.17 on Sept. 20, tumbled as low as $40.37 (off 12.6 percent) before recovering to close the week at $42.18.

Short sellers, who profit when a stock’s price drops, have had their eye on Zillow for some time now. Short interest on the stock jumped in May and had grown to 6.6 million shares, or 37.2 percent of the public float, as of Sept. 14.

Citron, founded by prominent short-seller Andrew Left, has a track record of identifying problematic stocks — particularly dodgy Chinese companies that used reverse mergers to become publicly traded in the United States — but also some U.S. companies as well.

The Citron report questions whether Zillow’s current business — providing a platform for real-estate agents, mortgage lenders and others to advertise their services to potential buyers — has much of a future, especially in a crowded field that only seems to grow more so.

Citron notes that as of June 30, fewer than 23,000 real-estate agents were subscribed to Zillow’s “premier agent program,” out of about 1 million agents nationwide.

The firm also gave the stink eye to Zillow’s heavy spending on sales and marketing — a full 40 percent of its revenue in the first half of 2012 — and noted that nearly 78 percent of the quarter-over-quarter revenue increase went to marketing expenses.

“The cost of sales demonstrates that customers do not buy Zillow ads, they are sold Zillow ads,” Citron sniffed.

The firm also mocked efforts to expand into other related businesses, such as rental information.

Zillow spokeswoman Katie Curnutte responded that “we continue to ramp up hiring of salespeople because we believe the investment merits the return. ”

“Real-estate agents spend $6 billion to $10 billion per year on advertising, and we currently have 1 percent of that spend,” Curnutte said. “There’s a huge opportunity here.”

Citron isn’t buying it. “Zillow has captured a whopping 1 percent of real-estate ad spend after seven years (which) definitively reveals a history of rejection of their model by their core market,” the report said.

“This is not a broken business model; it is a business model that has never worked.”

More bullish analysts, not surprisingly, look at the same facts and draw very different conclusions.

Michael Graham, an analyst with Canaccord Genuity in New York who has a $50 price target on Zillow, said the company stands out from its competitors, such as newly public Trulia.

“They’ve taken a different approach — ‘Let’s build something useful to the consumer first, not just useful for the Realtor,’ ” Graham said. “If you’re a Realtor, you have to go where all the homebuyers are, or else you won’t sell any homes. But if you’re a potential homebuyer, you want to go where the best information and the best tools are.”

Curnutte noted that Zillow has only been selling “premier agent” subscriptions since April 2010.

Graham added that focusing on only those subscribers misses the many more who use lower-priced tiers, such as Zillow’s $10-a-month website-hosting service. That’s important, he said, because it ties the agent into Zillow’s network and makes it more likely he or she can be upsold later.

Citron also lambasted stock sales by Zillow insiders, saying they indicate lack of faith in the company.

Chairman and co-founder Richard Barton has sold 1.1 million Class A shares since the IPO; Vice Chairman and co-founder Lloyd Frink, along with a family trust, have sold nearly 1.25 million.

But both men still retain large stakes in Zillow. Barton has nearly 4.8 million Class A shares, or 16.3 percent; Frink and the trust together have almost 4.2 million Class A shares, or 14.7 percent. (The two men also own all the Class B shares, which give them near-total control of the company.)

Zillow’s success in diversifying its revenue base while maintaining (or expanding) margins will determine how well those shares hold their value — which even after last week’s sell-off is sky-high, at 133.4 timesestimated future profits.

— Drew DeSilver, ddesilver@seattletimes.com

Smith Tower slowly coming back to life

The lights are starting to flicker back on at the Smith Tower, six months after the mostly empty downtown Seattle icon changed hands at a foreclosure auction.

Two lower floors, totaling 22,000 square feet, were leased this past week, according to commercial real-estate database Officespace.com.

It’s the biggest deal for the 42-story tower since the new owner, CBRE Capital Markets, took over in March, began fixing up the neglected building, and started marketing it again.

The Smith Tower still is two-thirds vacant. But it was just 14 percent occupied a few months ago.

The previous owner, Walton Street Capital of Chicago, defaulted on its loan last year after its bid to convert the 98-year-old landmark to condos fizzled and office tenants fled en masse.

CBRE, which held the mortgage, ended up with title to the 257,000-square-foot tower. The firm wouldn’t identify its newest — and largest — tenant.

Meanwhile, Internet-marketing company Portent, which leased all 11,000 square feet on the 17th floor this spring, held an open house Thursday to show off its new digs.

It’s a light-filled, open space with views of Puget Sound, CenturyLink Field and — if you stand in just the right spot in the CEO’s corner office — the Space Needle.

— Eric Pryne, epryne@seattletimes.com

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