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Industry Overview

 
The US residential real estate brokerage and management industry includes about 165,000 companies with combined annual revenue of about $170 billion. Major residential leasing and management companies include Equity Residential, AvalonBay Communities, Health Care REIT, and Essex Property Trust; major residential real estate brokers include NRT LLC, HomeServices of America, Long & Foster, and ZipRealty. The industry is fragmented: the 50 largest companies account for less than 30 percent of revenue.
COMPETITIVE LANDSCAPE
Demand is driven by population growth. The profitability of residential real estate brokerage and management companies depends on demand for properties and the volume of transactions they handle, both of which are usually higher during periods of strong economic growth and can be negatively impacted by a recession or too much new construction. Large companies have only modest economies of scale and benefit mainly from better name recognition than smaller rivals. Small companies compete effectively by developing expertise in a single market or region.
PRODUCTS, OPERATIONS & TECHNOLOGY
Major services include real estate brokerage (45 percent of industry revenue), leasing residential units to tenants (35 percent), and property management (15 percent). Many companies provide multiple services; for example, companies that lease residential units to tenants might also manage the properties. Some residential real estate leasing companies operate as real estate investment trusts (REITs), which are covered in a separate industry profile.
Residential real estate leasing involves connecting property owners with tenants. Leasing companies might represent properties that they own themselves, properties that are owned by others, or properties that they lease themselves and then sublease to tenants. Companies also engage in related activities that grow out of their particular area of expertise. Apartment lessors may also buy, sell, develop, and renovate properties, build new ones, and manage property for others. Assisted-living community operators may also operate nursing homes and provide other health-related services. Many residential rental properties, especially duplexes and single-family homes, are managed by individual owners.
Residential real estate brokers bring together buyers and sellers of individual properties, assist them in setting a price, and arrange for appraisals, inspections, and other services. Most transactions include two brokers: one assisting the buyer and one the seller. The seller's broker charges the seller a brokerage fee, usually 5 to 6 percent of the sales price (for expensive properties, in especially weak markets, or if the parties involved have a long-term business relationship, the fee may be lower), which is split with the buyer's broker. The buyer's broker is paid by the seller, out of the money made from the sale. Because this can create a conflict of interest for the buyer's broker, some buyers prefer to hire a broker not paid on commission. In many cases, the seller will build the commission into the sale price, causing a buyer to pay the commission indirectly through the purchase amount.
Property management companies are involved with marketing (ensuring that the property is as fully occupied as possible); financing (determining and negotiating lease length and amount); and building operations (hiring and supervising local staff, and providing or arranging for utilities, maintenance, and other building services). Many owners of real estate actively manage their own properties, but a large number of passive owners hire a property manager to operate their buildings.
SALES & MARKETING
Real estate brokers advertise heavily in local print and online media, use direct mail, and belong to local Multiple Listing Services (MLS), which allow selling brokers to widely share listings with brokers that represent a wide range of buyers. In Canada, buyers and sellers can now pay an agent a flat fee to list on the Canadian MLS themselves, but in the US, the full service is accessible by brokers only.
Property management companies compete based on price, services available to residents, and the location of the property. Part of the marketing strategy for these companies is to communicate with residents during the term of their lease to establish a relationship and ultimately retain quality tenants.
The Internet has become a major marketing tool for residential brokers, real estate investors, and property management companies. Internet sites allow visitors to take "virtual tours" of properties for sale or rent, and allow potential residents to examine properties at convenient times and locations.
In some markets real estate brokers and property management companies may be competitors. A large inventory of low-priced homes for sale may encourage prospective tenants to buy rather than rent; similarly, demand for rental housing rises in markets where home ownership is financially unattainable for many prospective buyers.
FINANCE & REGULATION
Fee or commission-driven residential real estate brokerages have low gross margins, as most of their expenses are commissions paid to their agents. While net margins are typically low, return on equity is high because these companies have low capital requirements.
For many real estate owner/managers, gross margins can range from 50 to 90 percent, since the cost of operating a building is low compared to rental revenue, but net margins are much lower (though still high by the standards of other industries) because interest expense and depreciation are high, up to 30 percent of revenues. Return on equity is the main measure of successful management for these companies, which are equity-intensive.
While average returns are relatively high, the risks for owners are also high. Returns in any one year can be sharply affected by economic conditions and the low liquidity of real estate. Cash flow is the major preoccupation of real estate managers. Many operating costs for real estate owner/managers are fixed. Expenses such as the property itself, insurance, labor, and maintenance, can be easily anticipated. However, companies are exposed to changes in local real estate tax rates, and fixed costs do not decline if occupancy rates drop during difficult economic times.
Vacancy and lease rates are major concerns for property owners and managers. Because most property expense items are fixed, revenue losses from vacant space go straight to the bottom line. Lease terms in apartment properties usually run for one year; in assisted-living/retirement communities they may run month-to-month. Because of the short term of leases, property management companies are susceptible to local economy shifts.
The real estate industry is highly regulated, due to disclosure requirements and fair lending practices in residential mortgages. Laws governing the licensing and conduct of real estate brokerages include the Real Estate Settlement Procedures Act (RESPA), the Gramm-Leach-Bliley Act, and monitoring by the Federal Trade Commission and the Justice Department. State and local safety codes require various features like sprinkler systems, fire alarms, and exit signs for multi-unit properties, and often call for periodic inspections. Complying with government regulations is a major activity for owners of assisted-living and retirement communities.
Real estate brokers and managers are required to be state-licensed. Most state licenses must be renewed after a limited time and require 10 to 20 hours of continuing education annually, including real estate law updates. Brokers and managers also receive certification through industry organizations, such as the National Association of Realtors (NAR) and the Real Estate Buyer's Agent Council (REBAC).
REGIONAL ISSUES
The number and value of real estate transactions can vary widely around the US according to local economic conditions. Home prices also vary considerably from region to region; median home prices in the Northeast and West are typically higher than those in the Midwest and South. The US population is shifting to the South and West: these regions grew by 14 percent over the past decade, surpassing the 3 percent growth rate in the Northeast and Midwest, according to Harvard's Joint Center for Housing Studies. Nevada, Arizona, Utah, Idaho, and Texas - the fastest growing states in the US - achieved population growth exceeding 20 percent between 2000 and 2010.
HUMAN RESOURCES
The industry has low barriers to entry and few education requirements. Average hourly industry wages are slightly lower than the average for all US production workers. Turnover for the industry has fallen in recent years to 35 percent per year. The injury rate for the real estate industry overall is about 10 percent lower than the US average, and for property managers, about 10 percent higher than the national average.
Industry Employment Growth 
Bureau of Labor Statistics
 



Average Hourly Earnings & Annual Wage Increase 
Bureau of Labor Statistics
 

Recent Developments
INDUSTRY INDICATORS
The bank prime loan rate, which indicates changes in the rates available for real estate financing, remains at 3.25 percent as of the week of September 9, 2011, unchanged from the same week in 2010.
The value of US residential construction spending, a driver for real estate brokerage and management activity, fell a slight 0.9 percent in the first seven months of 2011 compared to the same period in 2010.
MONTHLY NEWS
U.S. News: New Homes Again Log Slow Sales
The Wall Street Journal, 27 September, 2011, 362 words
New-home sales fell for the fourth-straight month in August to the lowest level in a half year as the bursting of the housing bubble continued to weigh on the U.S. economic recovery. Sales fell 2.3% from a month earlier to a seasonally ...
  
Home Builders May Take Some Knocks
Barron's Online, 27 September, 2011, 428 words
MKM Partners We are lowering our price targets/fair value estimates on six of the seven home builders under coverage to account for a lower new-home-sales estimate for 2012, downward bias to the key macro housing drivers, and what we ...
  
CONSUMER FINANCE: There Are Upsides To New Construction, If You Can Stomach The Price
Dow Jones News Service, 26 September, 2011, 1023 words
--A newly built home maximizes the usability of space and offers amenities that speak to modern needs --There are horror stories of new-home buyers who hit a speed bump when the appraisal is done
  
QUARTERLY INDUSTRY UPDATE
Tenant Retention is Key - High turnover at apartment communities can be costly for landlords. The cost for one tenant moving out can exceed $2,000, after taking into account vacancy loss, maintenance, cleaning, and administrative and acquisition costs for new tenants, according to SatisFacts Research. High customer satisfaction is linked to a low turnover rate, and property managers can work to ensure that tenants are happy and feel valued. They can also provide incentives for tenants to renew leases, such as price adjustments, rent freezes, and renewal celebrations.
Housing Recovery Still on Horizon - US construction activity, an indicator for residential brokerage activity, remains in a slump. Total housing construction over the previous decade approaches the lowest level of any 10-year span since 1974, according to a recent report by the Joint Center for Housing Studies of Harvard University. Demand has stagnated since the late 2000s recession, and has struggled to return to pre-recession levels. However, a recent boost in home sales and prices could signal a turnaround.
Business Challenges
CRITICAL ISSUES
Profitability Linked to Economic Cycles - Returns on real estate investment fluctuate with the health of the national economy. Amid the late 2000s recession, an average of 500,000 new households were formed each year between 2007 and 2010, less than half the annual rate for the previous seven years, according to Harvard's Joint Center for Housing Studies. The slowed rate of household formation created an excess of housing supply, which helped suppress home values. When the economy is strong, however, many consumers leave the rental market to buy homes, increasing demand and home prices.
Access to Capital - Because investing in real estate is risky, capital to fund acquisitions or construction can be difficult to obtain. Real estate is often highly leveraged and illiquid. In down markets, equity in real estate projects can rapidly disappear, leaving lenders with sharply devalued properties. Banks hurt by real estate-related losses respond by tightening credit standards.
OTHER BUSINESS CHALLENGES
Rental Conversions - In challenging times, difficulties in selling single-family homes tend to cause some of those properties to be placed on the rental market, where they compete with existing rental properties for tenants. More than 1 million single family homes shifted to rentals between 2007 and 2009, twice the number between 2005 and 2007, according to Harvard's Joint Center for Housing Studies.
Limited Market Flexibility - Unlike many types of investments, which allow investors to buy and sell assets as market shifts occur, residential real estate brokerage and management companies may be "stuck" when the value of assets falls in a weak economy. Further, companies operating as REITs are constrained in their ability to buy and sell assets by financial regulations. Companies' lack of liquid assets may impede their ability to adjust during difficult economic times.
Competition from Technological Tools - The MLS business model, in which buyers and sellers must transact with agents, is under pressure as more customers want to access listings themselves. Real estate brokers face greater competition from Internet listing services such as Zillow, Trulia, and Yahoo! Real Estate. Recent innovations have also enabled users to search listings through Google maps on both desktop and mobile applications. Although MLS listings are vigorously protected by Realtor associations and lobbies, Internet-based services might eventually eliminate the need for traditional brokers.
Indoor Air Quality Liability - Liability for poor indoor air quality (IAQ) in buildings, primarily mold growth, has become a serious issue for property owners and managers. Many insurance companies have successfully lobbied state insurance boards to eliminate mold coverage in their policies. Some in the industry have been the subject of lawsuits from tenants who claim harm resulting from poor IAQ. The increase in mold litigation has prompted insurers to boost premiums, and caused many companies to commit additional resources to remove mold from properties. Companies are also liable for mold cleanup and remediation upon acquisition of properties.
Trends & Opportunities
BUSINESS TRENDS
Changes in Insurance Policies - Insurance policies have changed dramatically for the industry in recent years. An increase in awareness about indoor air quality (IAQ) has resulted in increased litigation potential, and overall premium increases have forced some companies to cut costs by increasing deductible amounts, which ultimately exposes them to higher uninsured losses if an unplanned event should occur. Since the terrorist attacks of September 11, 2001, companies have been forced to take out separate policies to insure against such events, as these generally are no longer covered under traditional insurance vehicles.
Consolidation - The big property management companies have become much bigger in recent years. Buying, selling, and leasing residential property generates brokerage commissions of about $40 billion per year. AIMCO, a leading apartment owner and manager, built a portfolio of over 800 properties largely from buyouts of midsized companies.
Banks Involved in Real Estate - Large national banks, the National Association of Realtors (NAR), and the federal government have been focused on the question of whether to allow banks to engage directly in real estate transactions. Since 2005, rule changes have allowed some national banks to participate in limited real estate transactions in the commercial sector. However, NAR and others fear that any expansion in banks' real estate activities could eventually spill over into brokerage and management in the residential sector as well.
INDUSTRY OPPORTUNITIES
Additional Revenue Sources - Property owners and managers can increase revenues by offering additional services, such as concierge service, laundry, and professional cleaning. Ancillary services can be labor intensive and costly, requiring property managers to invest a great deal of time in establishing and marketing the service. Such ancillary offerings become increasingly important when economic conditions push down rental rates.
Well-Timed Acquisitions - Companies operating as real estate investment trusts (REITs), or those looking to expand their businesses are able to do so by strategically building capital during periods of economic growth for use in acquisitions during economic downturns. Such acquisitions allow firms to enter new markets or buy properties below previous market values.
Technology Upgrades - Technological improvements in apartment and property management benefit companies by saving costs and improving service to customers. State of the art technology applications help property managers undertake appropriate leasing and maintenance decisions, thereby maximizing revenue. Additionally, new property management and maintenance technologies allow more efficient service call responses and more robust occupancy data for use by property managers.

 

Executive Insight  what is this?
CHIEF EXECUTIVE OFFICER - CEO

Maintaining High Occupancy Rates 
Vacancy rates, which depend somewhat on the state of the local economy, are critical to the real estate management business. Most property expenses are fixed, so any increase in vacancy rates hits profitability directly. Executives monitor vacancy rates, make necessary improvements and updates to units to compete with newer properties, and offer incentives on lease lengths, as well as other perks, to keep occupancy rates high.
 
Supporting Favorable Legislation 
While the industry is largely unregulated, there are several pending legal issues that could impact it. For example, regulators have considered allowing bank holding companies to enter the residential real estate brokerage and management business. Companies worry that bank entry would substantially alter their business, including forcing them to compete with their lenders for business. Company executives often join with industry associations to lobby Congress to prevent federally chartered banks from entering the industry, among other issues of concern.
 
CHIEF FINANCIAL OFFICER - CFO

Environmental Liability
In light of growing concerns over indoor air quality (IAQ), including mold growth, companies have been forced to adjust their insurance policies because many policies no longer cover mold. Companies that do carry mold coverage often face higher premiums in the market. In addition to insurance, companies are facing costs related to mold removal from properties to prevent possible litigation from affected tenants.
 
Generating Capital for Expansion
Real estate investing is capital-intensive for property owners, and acquiring capital is sometimes difficult, depending on the local economy. Capital can be especially difficult to generate during a challenging financial market. Real estate is often highly leveraged and illiquid, meaning that quickly selling properties to acquire others can be difficult. Some companies favor selling and acquiring properties as a strategy to react to shifts in the overall market.
 
CHIEF INFORMATION OFFICER - CIO

Making Technological Improvements
Many companies use property management software tailored to their industry niche. Software allows companies to accept electronic payments, and allows on-site property managers to more efficiently allocate maintenance personnel and manage vacancy rates. At an organizational level, companies can schedule maintenance across multiple properties and analyze changes in specific markets. Some companies have generated long-term cost savings through the efficiencies of improved software.
 
Internet as a Broker's Tool
The advent of real estate operations via the Internet presents both opportunities and challenges for residential real estate brokers. While the Internet allows brokers to showcase numerous properties in one location, some are fearful that completely online listing services may eventually become the norm. Thus, the challenge for CIOs is to use Internet capability to add value while still emphasizing the value-added services and expertise of individual brokers.
 
HUMAN RESOURCES - HR

Attracting Professional Managers
Many investors, both individuals and institutions, are buying real estate as an investment through partnerships such as REITs and limited liability corporations (LLCs). These investment vehicles require professional managers who understand the industry. HR executives put together attractive compensation and benefit packages to attract experienced managers.
 
Training, Updating Workforce 
Shifting market conditions, changing laws and regulations, and new technology force the real estate brokerage industry to move quickly. Brokers must keep their staff informed of legal issues and the local competitive environment. States require agents to be licensed, and many offices help with test preparation and license renewal. As more offices have embraced technology, companies train staff to use technology to monitor properties, track inventory, and deal with paperwork.
 
VP SALES/MARKETING - SALES

Offering Ancillary Services 
Since the industry is susceptible to economic swings, many brokerage offices offer complementary real estate and ancillary services to boost revenues. Many brokerage companies offer services, such as relocation and title insurance, escrow services, and settlement services. Additionally, large property management companies may offer financial and construction assistance to smaller property management companies.
 
Increasing Internet Advertising
Though for many years brokers relied on print media for the bulk of their advertising, the rapid expansion of the Internet as a valuable marketing tool is changing the industry. More than 90 percent of homebuyers use the Internet during the process of purchasing a home, prompting many brokerage companies to create and expand company websites. Many companies have also increased the portion of their advertising budget for electronic media relative to print.
ECONOMIC STATISTICS AND INFORMATION
Annual Construction put into place - Census Bureau
Change in Producer Prices - Bureau of Labor Statistics
VALUATION MULTIPLES
Residential Real Estate Brokerage & Management
Acquisition multiples below are calculated using at least 4 private, middle-market (valued at less than $1 billion) industry asset transactions completed between 10/1997 and 9/2008. Data updated every six months. Last updated: March 2011.
Valuation Multiple MVIC/Net Sales MVIC/Gross Profit MVIC/EBIT MVIC/EBITDA
Median Value 1 1.3 3 2.5
MVIC (Market Value of Invested Capital) = Also known as the selling price, the MVIC is the total consideration paid to the seller and includes any cash, notes and/or securities that were used as a form of payment plus any interest-bearing liabilities assumed by the buyer.
Net Sales = Annual Gross Sales, net of returns and discounts allowed, if any.
Gross Profit = Net Sales - Cost of Goods Sold
EBIT = Operating Profit
EBITDA = Operating Profit + Noncash Charges
SOURCE: Pratt's Stats™ (Portland, OR: Business Valuation Resources, LLC) To purchase more detailed information, please either visit www.BVMarketData.com or call 888-287-8258.