Sunny and I got into a discussion earlier today over breakfast. Yeah, we do that in the Hahn household. Yeah, we’re real estate nerds. In our defense, we also talk about zombie apocalypse (we’re watching The Walking Dead marathon style), farmhouse furniture, and trail running so… we’re not total dorks.
In any event, we got to talking about some recent products we looked at, strategies we heard of, blogposts and columns we’ve read, and people we’ve talked to. And you know, there are a LOT of words in real estate talking about this or that. [Editor: Are you serious right now? YOU? Talking about a lot of words?]
What we don’t have is a lot of clarity. Well, as Sunny and I were talking, we realized that there is a way to force clarity on the industry, on brokers, on agents, on everybody — ourselves included. And it’s quite simple.
Focus on two numbers. Do that, and you cut through the marketing-speak, the double-talk, the generalities, the platitudes, and the outright bullshit and find the real gems, the real stuff that actually matters.
Those two numbers: Company Dollar and EBITDA.
Let me explain.
The First Number: Company Dollar
We all know what Company Dollar is, but I’m not certain that we all understand what Company Dollar is.
Put very simply, Company Dollar is the amount of revenues that is left after Cost of Revenue (or COGS, if you will, even though real estate brokerages are not selling any goods) is deducted. In the vast majority of the cases, we’re talking about how much you have left after the agent split.
It’s the rough equivalent of Gross Profit for companies other than real estate brokerages: top-line revenue, less the cost of that revenue.
When we studied the brokerage industry seriously for the Future of Real Estate Brokerage Black Paper, we quickly came to realize that this is the first all-important number. In a way, it’s even more important than the second number, EBITDA. Why?
Because the brokerage controls everything that happens below this number. They control very little of what happens above it.
That is, all of the operating expenses of a brokerage, from lease payments to staff salaries to technology platforms to travel and meals and agent education all get deducted from Company Dollar. Company Dollar is the total pool of money a brokerage has to invest, to spend, to play with.
The traditional split-based brokerage actually controls very little of what happens above Company Dollar — the Cost of Goods Sold or Cost of Revenue, or in the brokerage world, Agent Split. Sure, you have your complex comp plans with multiple tiers and desk fees and transaction fees and all that jazz, but when you get right down to it, competitive pressure dictates what your COGS is going to be, not what you decide what your COGS is going to be.
When brokers talk about value, as in, “We deliver so much value to our agents that it’s never about the split,” what they’re really saying is that they can earn a higher Company Dollar by keeping COGS (or Agent Split) low because their agents are willing to pay it.
Hell, I’ll go so far as to suggest that Company Dollar is the “real revenue” of the brokerage, not its Sales Volume, Gross Commission Income, Market Share, or even Agent Count numbers. Who cares about those? Show me Company Dollar, and Gross Profit Margin (aka, Company Dollar margin).
The average for residential brokerage in North America is 15% Company Dollar, meaning that they keep 15 cents of every dollar of GCI produced. Average means just that: average. Half are above 15%, and half are below it.
The Second Number: EBITDA
I prefer using EBITDA, instead of Net Income, because there are a lot of games you can play with accounting to generate Net Income or a Net Loss. Most of these games have to do with interest, taxes, depreciation and amortization. EBITDA, of course, means Earnings Before Interest, Taxes, Depreciation and Amortization.
It represents, if you will, as close a picture of the profits from operations of a company as you could get. Cash flows from operations would be the other one where you get a pretty good picture of what’s going on.
Since many brokerages are setup as passthrough tax vehicles (i.e., the company itself is not taxed, but the owner is on his/her profits from the company), taxes are rarely a big part of the analysis. Depreciation, Amortization, and Interest are. Since many brokerages really don’t have huge amounts of depreciation and amortization, because they don’t own giant plants or physical assets or expensive equipment, the EBITDA number is often the Net Income number as well. But not always.
I think EBITDA is the second key number because it represents the actual profitability of the brokerages operations. Take your Company Dollar, subtract all of your expenses, and voila, there’s your EBITDA.
And this number is within the broker’s control, subject to the demands of reality. The brokerage’s spend on technology, marketing, office space, staff, coffee in the break room, and lightbulbs all impact EBITDA. If you run a lean and mean operation, then your EBITDA margin will be higher; if you spend like a drunken sailor, then it will be lower, and you might be operating at a loss.
Some expenses are unavoidable, like MLS dues, while others are discretionary, like travel and entertainment.
The average for residential brokerage in North America is 3% Net Income, meaning that only three cents of every dollar of GCI produced ended up as profit for the brokerage company owners. Average means just that: average. Half are above 3%, and half are below it.
Now, here’s the thing: when we say half are above 3%, that doesn’t mean half are sitting at 30% profit margins. It means more like, the best most cost-efficient brokerage operators might hit 5% or 6% profit margin. That’s double the average, but it’s still pretty damned pitiful for an ongoing business concern, isn’t it?
Why Two Numbers? Why Not Just One?
We thought long and hard about trying to reduce everything down to one key number, like Agent Count is for traditional brokerages, and we simply could not.
Company Dollar might be the more important one, because that speaks directly to the value of that brokerage. It means agents are willing to pay more for that brokerage’s products and services. But not really, because EBITDA speaks to the quality of management and operations of that brokerage.
If you have amazing Company Dollar numbers, but your EBITDA sucks, then you’re going bankrupt. If you have crappy Company Dollars, but your EBITDA rocks, you can hang on a bit longer.
So they’re both really, really, really important. They’re both the Key Numbers.
Cut the Crap
So how would one use this insight in a practical sense?
Say a vendor wants to sell you some sexy new software tool with all the right buzzwords. “We leverage AI and Big Data with enterprise cloud SaaS to drive efficiencies in your marketing efforts, so that you can make your agents more successful!”
The question you should ask is, “Will this lift my Company Dollar? Will it lift EBITDA?” If the answer is unclear, then well, you know what to do.
If you’re sitting at 11% Company Dollar (below the average), you have to ask whether whatever you’re spending will move that needle at all. An extra deal for your agent means 11 cents on the dollar; is that worth the investment? That’s your call, obviously, but you have to ask.
Or if it’s some sort of an efficiency gain, does it move the needle from your 2.4% EBITDA margin? If not, why should you care, like ever?
Because the brokerage industry obsesses about different numbers — Agent Count, Sales Volume, and Transaction Count — all manner of tech companies, gurus and consultancies, coaches, marketers, and so on thrive. Hell, I’m one of those #VendorWhores myself! But at least I’m telling you to look at numbers that matter, to cut through the BS.
Consider this: Recruiting a top producer with a team who does $50 million in production is a BIG WIN for any brokerage today, right? I mean, brokers take out ads in local papers celebrating the win. Overnight, that broker’s market share goes from a big nothingburger to third in the market. WOOT!
Except, that team is paying 90/10 splits, with a cap after $30K, plus you gotta pay them marketing concessions and office lease concessions, so the reality is that your Company Dollar went from 15% to 12%, and the impact on EBITDA is -1.5%, depressing it from an above-average 3.5% to 2%. Woohoo! Big win!
No. Not at all. You just lost, and bigly. Think about it.
I am finding myself doing this more and more these days. When someone gets on stage and says, “Well, being an indie broker, we can be so much more nimble, and have such great relationships with our agents that we’re so very selective about our hiring!” I want to ask, “What’s your Company Dollar and Profit Margins?” Because if they’re 15% and 3%, I’m not interested in the least bit. If they’re 35% and 9%, okay, tell me more!
The reverse is also true, in a sense. I’ve had the opportunity to have a lot of conversations with brokers and agent team owners in recent weeks asking about our 7DS Firm Model. We always start with those two numbers. If they’re sitting at 40% Company Dollar and 12% Profit Margins, you know, you keep doing you — what the hell do you need me for? Just keep printing money!
It’s not show friends, it’s show business.
All the talk of cool strategic insights, the cool AI-Big Data platforms, the inspirational leadership you need, the smart recruiting strategies, the all-important culture of the company, the charitable activities… that’s all totally awesome! But first, tell me your two numbers, and I’ll tell you if I care.
It’s simple mathematics.