A Skeptical Look at Opendoor

Let's preface this post with my most sincere hopes that Opendoor succeeds in its platform. The company provides a massive service to both buyers and sellers. Our question is whether or not this company can generate positive cash flow over the long term. While glossing over the details, Opendoor gives offers to sellers on their homes through a very simple process, and uses a similar digital platform to buyers looking to purchase homes. They certainly eliminate a lot of the arcane way in which homes are bought and sold.

Once again, we don't doubt the value of the service provided, what we do question is the viability of the business model. Our primary concern lies within the inventory of homes which Opendoor has on its balance sheet. According to the most recent slide deck, we are talking about over $1 billion. While owning these homes generates a positive carry in rising markets over the holding period, there is extreme exposure should this portfolio remain unhedged in downswings, which are normally a result of exogenous shocks, violent and extreme.

The understanding is that Opendoor profits from the "liquidity premium" or the fact that they provide a fast and easy way to buy or sell a home. Therefore they should have more pricing power than the typical customer, especially where sellers are motivated to move quickly. However, we ask whether or not this premium is large enough to outweigh the transnational overhead in the real estate market. Opendoor also performs minor work to homes where there is a positive ROI on the work done.

According to the slide deck, the company generated 3.1% contribution margins priod to debt, and only 1.9% contribution margins subsequent to debt in 1Q 2020. According to the Federal Reserve's S&P Case Shiller series, home values increased in that quarter by 1%. In a subsequent press release, the average holding time for Opendoor was 88 days. In other words, 1% of that margin was likely accounted for by home value increases. To put it bluntly, Opendoor's actual margins are 2.1% and 0.9% before and after debt respectively. Add to that the overhead of actually running a company, and Opendoor is structurally unprofitable.

Another point from the slide show was a deceptive depiction of the effects of market stress on the portfolio of Opendoor homes. Opendoor demonstrated that from the start of Covid through July they were able to reduce inventory by over 80% while maintaining solid margins. However, we would like to point out how inappropriate it is to portray Covid as a stress on the single family housing market when indeed it was a tailwind. Single family home inventory has been constrained since the start of the pandemic, and June showed a record increase in sales prices. Without the combined elements of constrained supply and record price increases, the numbers would have looked far worse. In terms of margin maintenance, aside from record home prices, the ~150 basis point compression of LIBOR was certainly a funding tailwind for Opendoor.

There is a lot more depth to explore on Opendoor, much of which will come to light in public filings in the near term. In the short term, not only do I doubt the inherent business model, but I view the company as a carry trade on single family real estate. Is that a trade that you would enter at the top of the market?