Between inflation, an uncertain interest rate environment and legal challenges, the real estate industry is facing unprecedented challenges. While merger and acquisition activity has quieted amid the uncertainty, RTC Consulting’s Scott Wright and Steve Murray say now is the perfect time for firms to lay the groundwork for future deals.
On Sunday morning, Murray and Wright addressed a crowd of real estate industry executives and leaders gathered at the JW Marriot Camelback Inn, in Scottsdale, Arizona for the opening session of HousingWire’s 2024 The Gathering conference.
“Some of the most common misconceptions that I hear is that I can’t do an acquisition, I’m too small or I can’t afford it,” Wright said. “My advice is to start simple. In fact, the sweet spot for acquisitions over the next couple of years is going to be the small one-office brokerage firms.”
With the headwinds facing the real estate industry, Wright and Murray believe smaller brokerage firms will be looking for a place to land, making acquisitions a possibility for even one-office, 25 agent firms.
“Rather than focusing on recruiting one agent at a time, these small acquisitions would be recruiting groups of agents at a time,” Wright said.
Wright and Murray also said that the headwinds facing the industry are creating a buyer’s market for acquisitive firms.
“Anytime there is a downturn in housing sales or a shock to the industry like with the litigation settlement, although we have not faced anything like this in my 47 year career, there is uncertainty,” Murray said. “When you have circumstances like this environment in any industry, it is the best time for those who are a bit stronger or whose timelines are a bit further to be talking to other brokers in your marketplace about roll ins and acquisitions.
Due to the uncertainty facing the industry, when structuring deals right now, Murray and Wright noted that very few firms are providing cash up front. Instead, firms are using five-year earn out plans with stop loss provisions, meaning that the earnout paid to the seller is linked to the transaction volume closed by their agents, and can be adjusted for large drops in the number of home sale transactions or a sudden decrease in gross commission income due to potential changes brought about by the commission lawsuit settlement agreements.
“As a seller I want an opportunity to get as much from this earn out as I can and as a purchaser, if the market declines further, I don’t want the burden of a payment,” Murray said. “When you get right down to it, it is a matter of risk and who is going to take what risk.”
However, before firms can begin to dive into the financial side of the deal, prospective buyers and sellers must figure out if they are a match.
“People think that M&A is about finance, deal structure and 20% of it is that, but 80% of it is relationships, and commonality of purpose and interests,” Murray said.
Due to this, Murray said finding an M&A partner that is a good cultural fit is essential to a successful deal.
“What does your instinct say? Can you see yourself working day in and day out with this person?” Murray said.
Kevin Walsh, the CFO of Century 21 New Millennium, joined Murray and Wright on stage. He also warned that leaders should temper expectations.
“You may fall in love with these deals and then there are all these last minute changes and then you feel stupid,” Walsh said. “So, just don’t over commit.”
Once firms have decided to embark on an acquisition transaction together, the speakers warned that firms need to be committed to full transparency for all aspect of their business.
“You need to start with the end in mind,” Walsh said. “You are not going to be sell unless it makes financial sense to the acquiring. We want to go as deep as we can to understand the individual accounting that is occurring and the independent contractor contracts.”
Both Walsh and Chrissy Oliver, the vice president of M&A at Compass, noted that when they are looking to acquire firms with core services including integrated or joint venture mortgage and title firms, there are some extra levels of vetting required.
“We like deals where core services are non-existent or very weak. The regulatory environment is not favorable for the industry right now,” Walsh said of marketing service agreements and joint ventures. “So, that is something you need to be highly aware of if this is a space you are going to be moving into with an acquisition.”
Oliver added that at Compass there are hyper aware of how compliant the JVs or MSAs some of their potential acquisitions are due to the level of scrutiny faced by such a large firm.
“We pay very close attention to compliance,” Oliver said. “We tend to focus on two things, one ownership structure, a lot of times, is different for the integrated services company than the brokerage, so the way we think about it is that we focus on the brokerage opportunity and then the mortgage or title and escrow opportunity following to make sure that they are compliant and not going to get us into any hot water.”
While an M&A transaction may seem intimidating, industry leaders said that at the end of the day, firms that decide to do pursue an acquisition, should keep in mind why they ultimate decided to go this route, whether that be growing market share, providing better support for their agents or taking the opportunity to reap the financial benefits of the firm they have spent so much time and energy growing.
“Understand why you are pursuing the transaction in the first place,” Oliver said. “What is your motivation for pursuing that partner or pursuing a sale? And then keep that at the forefront in your mind because it is going to get really challenging, the process is long, they are going to ask you questions you don’t want to answer, but understanding why you are doing this and constantly checking in with this is really important.”
