Elena Perron – Head of Investor Relations Glenn Kelman – Chief Executive Officer Chris Nielsen – Chief Financial Officer.

Jason Helfstein – Oppenheimer Mark Mahaney – RBC Jason Deleeuw – Piper Jaffray Brandon Dobell – William Blair John Egbert – Stifel.

Good day, everyone, and welcome to the Redfin Corporation’s Q3 2017 Earnings Call. Today’s conference call is being recorded. At this time, I would like to turn the conference over to Elena Perron. Please go ahead, ma’am..

Thank you, Leo. Good afternoon, and welcome to Redfin’s financial results conference call for the third quarter ended September 30, 2017. Joining me on the call today are Glenn Kelman, our CEO; and Chris Nielsen, our CFO. You can find the press release on our website at investors.redfin.com.

Before we start, note that some of our statements on today’s call are forward-looking. We believe our expectations related to these forward-looking statements are reasonable, but our actual results may turn out to be materially different. Please read and consider the risk factors in our SEC filings together with the content of today’s call.

Any forward-looking statements are based on our assumptions today, and we don’t undertake to update these statements in light of new information or future events. During the call, the financial metrics, unless otherwise noted, will be presented on a GAAP basis and include stock-based compensation.

You will find reconciliations of non-GAAP measures discussed today to the most comparable GAAP measures in our earnings release. All comparisons made in the course of this call are against the same period in the prior year, unless otherwise stated. With that, let me turn the call over to Glenn..

first, to determine whether a significant fraction of would-be home seller prefer Redfin Now’s style sale to hiring an agent; and second, to sell the homes at a profit, even after accounting for the cost of capital and our labor to fix up and sell each home.

If we find that demand for Redfin Now is a significant fraction of the overall market, and we can keep making money on the homes we buy and sell, we’ll likely pursue this as a business, not just an experiment. Otherwise, we’ll cancel the experiment and refer customers interested in an on-the-spot sale to a partner.

The experiment is limited to the Inland Empire between Los Angeles and Palm Springs and to San Diego. Redfin Now seems to be more popular in the Inland Empire, where home prices are lower. If we end up pursuing Redfin Now as a business, our online homebuyer audience, pricing expertise and agent network, would, we believe, let us compete effectively.

Redfin Now accounted for less than 0.7% of Redfin’s total transactions from the third quarter. It has an outsized impact on our financial statements because we have to recognize the entire value of a Redfin home – Redfin Now home sale as revenue.

We want investors to remember that Redfin spends almost all of Redfin Now revenues buying the homes in the first place. You should set aside this revenue contribution to our growth until we have decided to pursue this experiment as a business with profit expectations that we can share with investors.

As with mortgage, we have disclosed the exact number of Redfin Now deals to give investors a sense of scale for this experiment, but we don’t expect to provide this degree of detail in future quarters. Our last topic before Chris delivers our fourth quarter guidance is the overall real estate market.

In our last earnings call, we noted that demand for homes, and not just supply, had begun to waver. And indeed, U.S. existing home sales declined year-over-year in September for the first time since July 2016.

But even though buyer anxiety about rising home prices remain a concern, the number of homes for sale is once again the overwhelming issue, as September inventory was down for the 28th consecutive month by 6.4% from September 2016. We don’t expect this problem to ease anytime soon.

Builders are putting new homes on the market, but at prices much higher than the market’s median, and especially in the most expensive cities where zoning changes are contentious, in areas far from most jobs. The larger long-term trend is a great migration from expensive coastal markets to more affordable Midwestern and Southern cities.

This has already happened in places like Austin, Denver and Portland, and it is now transforming places like Charleston, Detroit, Nashville and Salt Lake City. We expect that this will drive higher sales growth for Redfin and other brokers in these markets for years to come, often at the expense of growth in the U.S.’s largest market.

As Chris will discuss in a moment, the hurricanes led to a significant number of third quarter sales being deferred or canceled in Houston and Central Florida. The aftermath will affect Houston for many months to come as buyers bid low on flood-damaged homes, but Florida seems to be recovering quickly.

The tax reform plans to cap the mortgage interest deduction from $1 million of borrowed money to $500,000, if passed, and it doesn’t seem like it will at this point, would have a significant impact on 2018 sales, but it’s too early in the legislative process to speculate about that. With that, I turn it over to Chris..

Thanks, Glenn. Our third quarter was again solid with 35% revenue growth, matching our second quarter growth. We hit the midpoint of our revenue range despite an estimated $400,000 in lost or deferred revenue due to Hurricane Irma.

We said during our second quarter conference call that our third quarter guidance did not include any impact from Hurricane Irma in Florida and the Southeast as that storm had not yet made landfall in the U.S. Total real estate revenue from our own agents and our partner agents grew 31% year-over-year.

This revenue excludes Redfin Now, mortgage and other services. Brokerage revenue or revenue from home sales closed by our own agents increased 32% over last year, driven by 33% growth in brokerage transactions. Revenue per brokerage transaction was essentially flat year-over-year, consistent with our expectations.

As we mentioned on our last call, we’ve been raising fees for homebuyers to offset growth and rollouts of 1% pricing in our listing business, which generates lower commissions. Our objective is to keep revenue per brokerage transaction flat. Revenue from our partner agents grew 18%, driven by 16% growth in partner transactions.

Revenue per partner transaction was only up 1% year-over-year as we have now fully lapped the partner program pricing increase that took place at the beginning of 2016. As a reminder, revenue per partner transaction was up 19% year-over-year during the second quarter as we were then lapping last year’s changes.

Our other segment revenue of $6 million was up from $2 million in the third quarter of 2016. This revenue includes $3.4 million in Redfin Now sales, revenue from title services from originating mortgages and from other partnerships. Gross profit was $39 million, up 27% year-over-year, including a near zero contribution to gross profit from Redfin Now.

Gross margin on the combined partner and brokerage business, known as our real estate segment, declined 130 basis points from 39.4% in the third quarter of 2016 to 38.1% in the third quarter of 2017. This was driven by a 102 basis point increase in personnel expenses and a 75 basis point increase in tours and field events.

Our personnel expenses increased as we added more agents to support staff to better serve our customers, which Glenn noted in his comments about delivering more personal service. And we’re touring buy-side customers to more homes per close as they sort through low inventory levels.

We continued to invest in the businesses accounted for in our other segment, including Redfin Now, mortgage and title services. We don’t break out the results of these businesses, but combined, they lost $358,000 in gross profit as we’ve staffed these teams for growth and have management costs against current small volumes.

Operating expenses showed continued leverage, growing 15% year-over-year and representing 27% of revenue, down from 31% of revenue one year ago. This performance is consistent with our long-term goal of leveraging fixed cost and improving profitability.

Our net income, including stock-based compensation and depreciation, was $10.6 million, up from $5.7 million in the third quarter of 2016. GAAP net loss per diluted share was $0.50 for the third quarter of 2017.

This loss was primarily driven by fair market value feature of our redeemable convertible preferred stock, which converted to common stock in connection with our IPO completed on August 2. This compares to GAAP net income per diluted share of $0.03 in the third quarter of 2016.

Adjusted net income per diluted share, which excludes accretion income or expense for changes in the value of our redeemable convertible preferred stock and assumes its conversion to common stock at the beginning of the period, was $0.12 for the third quarter of 2017. This compares to $0.08 in the third quarter of 2016.

For clarity, adjusted net income per diluted share included stock-based compensation. Now turning to our financial expectations for the fourth quarter. Total revenue is expected to be between $89.2 million and $93.2 million, representing year-over-year growth between 34% and 40%.

We expect Redfin Now to account for $2.2 million to $3.2 million of the total revenue. Net loss is expected to be between $6.0 million and $3.9 million compared with a $5.3 million loss in the fourth quarter of 2016. This guidance includes approximately $3.2 million of stock-based compensation and $1.7 million in depreciation and amortization.

It assumes, among other things, that no additional business acquisitions, investments, restructuring or other legal settlements are included and that there are no further revisions to stock-based compensation estimates. And with that, we’ll open it up to your questions..

[Operator Instructions] We’ll take our first question from Mark Mahaney of RBC. Mr. Mahaney, you may want to check mute switch or return to telephone handset. We’ll move next to Jason Helfstein of Oppenheimer. Your line is open..

Thanks. So two questions. So the first, on the marketing side, marketing spend per monthly active user was down sequentially.

So I guess, the question is, why not spend more with the idea that just the agents already fall off basically and unless you have more agents, you couldn’t basically handle more traffic or you’re getting plenty of traffic from the website? And then the second question, maybe on mortgage, with the expansion to Illinois, was this more to test another market or another state or because you’re happy what you’re seeing in Texas and are expanding it out? And could mortgage be material to next year? Thanks..

Sure. So the first question was just about why we’re not spending more in advertising. And you’re right. Our agents have as much demand as they can handle, so there hasn’t been as much pressure on ad-driven contact growth. Having said that, we’re also investing in that team to increase our capacity to drive growth through advertising channels.

So we think that we can invest more in media and drive more growth. We would just need to pair that with the campaign to hire more agents that’s underway already. So those are the two forces that, I think, need to come together. As for the mortgage business, we have been pleased with the results in Texas.

There are always operational challenges, just making sure that our mortgage advisers and our real estate agents work well together, but the customers have been very happy. And we have enough capacity in that business, especially with the executive team that we put together to run Redfin Mortgage to expand to Illinois and other states..

And just one further comment on that, which is you should not expect that there’s a material increase in our revenue growth next year associated with mortgage as a business. We’re continuing to be really excited about from a customer standpoint and continuing to build. And you’ll expect to see that through the course of next year..

And then maybe just one quick follow-up.

Could you share the mix between – brokerage between buy side and sell side and maybe talk of that move as you’re adding more markets at the 1% sell-side fee?.

We don’t speak specifically to that mix, in general. The listing business is growing faster, and our goal is to be at an equilibrium for a long time. We’ve had far more buyers than sellers because we’ve built a real estate search site for buyers, but the strategic advantages of listing homes are numerous.

It gives us more leverage over other websites and it really lets us serve our buyers better when we also have our own homes for sale. So we will continue to drive listing share as a financial lever, but also as a market lever..

Thank you..

[Operator Instructions] We will take Mark Mahaney of RBC. Your line is open..

Great. Two questions, please. Could you just tell us or give us an update on where you are in terms of the 1% experiment? Do you think that, that’s something that eventually you’re confident will roll out to the entire county? I know you’ve rolled it out to a good number of markets.

But is it proceeding the way you want it to? And is it – are you – do you think you can accurately tell how it’s doing given the overall inventory supply challenges in the market? And then secondly, Glenn, could you remind us on what’s the go/no-go decision on Redfin Now, like, when do you decide that you’re fully into it or when do you – or what you would see that would make you decide to stop it? Thanks..

Sure. So I wouldn’t describe 1% pricing as an experiment. It’s possible that someday the market will reverse, and there will be more of a buyer’s market than a seller’s market. And then the home buying customer will become more price-sensitive. Today, the home selling customer is more price-sensitive.

And we ran an experiment for a few years in a few coastal cities and also in Denver that demonstrated to us that our overall share will increase if we offer 1% pricing. So we have rolled that out fully to all the markets where home prices are high enough to support it.

In a place like Baton Rouge, Louisiana, we do not expect to roll out 1% pricing because the homes that we’re selling there are closer to $200,000 than $400,000 or $500,000. And 1% of $200,000 is only $2,000, which really pinches our margins. So everywhere where we think it’s cost-effective to offer that price, it is now available.

And we expect that to continue until market conditions meaningfully change. That’s basically our approach to 1%. It’s reaching most of our customers, somewhere around 80%. And then Redfin Now is an experiment.

It is possible that we will invest aggressively on that to build it as a business or that we’ll decide that we would be better served working with a partner. But we expect to be working through that experiment over the next 6 to 9 months. And if we get a very clear signal, we’ll make a decision sooner.

If we get a mixed signal, we may put investors on notice that we’ll take longer. Right now, it has sort of an artificial impact on gross margins because it generates so much revenue just because of the accounting, without generating significant gross profits.

But other than that, it’s not operationally intensive for us to run this experiment and it’s something that the management team really wants to understand better. So far, the results have been encouraging, but we’re still learning something new every month..

Thank you, Glenn..

Thank you..

Our next question comes from Jason Deleeuw of Piper Jaffray..

Yes. Thanks for taking my question. I was wondering if we could get some color on the market share gains by the different cohorts..

We aren’t really segmenting that either. Some of the color, you’ve already heard. Just that it’s much easier for a homebuyer to get a house in the middle of the country than it is in Seattle, San Francisco, Washington or Boston.

So we remain confident about our market share gains everywhere, but we’re certainly seeing the fastest growth in the places where it’s easier to get buyers into a home..

Got it. Thanks.

And then with the lower close rates and just taking longer for buyers to find and close on homes, what – I was – and I think I missed some of this, but what are all the levers that Redfin can pull on to kind of combat that trend?.

Well, there’s at least two or three. So one of the levers that we manipulate is just between the quantity of contacts and the quality of contacts. So the number of people who are contacting our agents can increase if we make it easier for people to do so. But sometimes, those are less qualified opportunities to the agents.

So I think we’re one and the only real estate websites that has begun to significantly qualify customers who are seeking service from an agent asking, do you just want fast property access? In which case, we will serve you, but with a junior member of the team.

Or if you really want an agent’s guidance, in which case, we will prioritize one of our senior agents. So qualifying contacts has been one of the ways that we’ve addressed this problem. And obviously, it limits some of our growth. We’re going to filter out people inadvertently who may end up buying a home.

And then the second lever is just customer loads. So because customers get so frustrated because it takes so long to find a home that you can afford to buy, we have begun to lower the loads on our customers – excuse me, on our agents, so that we can increase close rates.

And it’s possible that, that won’t have the intended effect, but throughout our years of running this business, there’s been a strong correlation between loads and close rate.

So in different markets, we’re just experimenting right now with having our agents meet fewer customers to see if being more proactive with the guidance, sitting down with a customer in a coffee shop to go over the realities of the market actually improve close rate and improve customer satisfaction. So that’s the put and take with gross margin.

If it improves close rate enough, that should actually mitigate some of the gross margin challenges that this tough market has posed to the business. If it doesn’t, we’re just lowering loads on agents without seeing that close rate improve..

Great. Thanks for all that..

[Operator Instructions] We’ll move next to Brandon Dobell of William Blair..

one, retention or attrition; two, are you having as easy of a time or a harder time finding the people that you want to bring in as agents? And then as you think about the pool of contractors that you work with and the same kind of questions, right, retention, et cetera, et cetera.

Just trying to get a sense of that labor pool, how you feel about it these days..

In general, we feel good about it. We have increasing confidence that we can train someone who has never been a real estate agent to perform well as a Redfin agent. And I would say that, in part, because of the IPO, we’ve been more successful recruiting traditional agents.

We used to try to convince people that a change was coming, that we were the future. And now I think many of them come to us believing that, that change has arrived. So the reports from the field have been that it has gotten easier to recruit agents. Having said that, there is so much pressure on recruiting every year at this time of year.

So we feel that there should be significant demand at the beginning of next year. And it is always a hard run to get a lot of great people on board. So I don’t want to be cocky about it. I think that recruiting is firing on all cylinders. We feel like we’ve got a large number of applicants. We’ve got great programs for training people, but it’s go time.

We really have to execute well. And on the retention side, we just haven’t seen any meaningful problems. We always want to do better. One of my first goals as the CEO of the company is to be the best employer in real estate. And so that’s a never-ending project. But we haven’t seen attrition meaningfully increase.

And mostly, I think our employees are as engaged as ever. On the contractor side, I don’t have as much data. There, we have an arm’s length relationship with the people who are hosting tours on behalf of Redfin. And we try to counsel the customer that when a Redfin employee isn’t available to host this tour, you still get on-demand access.

It’s very fast, and customers love it, but you’re not getting the same level of guidance that you would from an employee. And so that makes the customer less sensitive to churn than the churn we would see among employees where our customers are quite sensitive to that, and it affects our ability to grow the business..

Okay. And then final one for me.

As you think about the housing markets where the average home sale price is either too low or from the low end for what makes sense for how your model is set up, any color on what, I guess, the trajectory or timing would be you think for the process efficiencies or just how the business is organized where you can start to push that – the lower limit or the bottom limit of what home sale price makes sense for you guys to operate in?.

So that’s a slow and steady progression. I think what’s really going on is, first of all, that market is still addressable, but at 1.5%. 1% is almost a revolutionary price, where I don’t think many competitors can compete at that level and still offer great service. So it’s not as if that market isn’t addressable by us today.

We just can’t be quite as aggressive in our pricing. And the history of the business has been that it used to be very hard for us to make money selling a $400,000 home or a $300,000 home. At $200,000, you are getting to a place where large gains are less likely. We try to lower the cost per transaction by $5 here, $10 here, $20.

But the other dynamic that’s really increasing our addressable market is raising home prices. Some of that doesn’t contribute to our gross margins because instead of taking up a $200,000 home and being able to sell it for $210,000 the next year, we go down another $10,000 and address a slightly larger market.

So we take it as a gain in addressable market rather than a gain in gross margin because we’re still fairly acquisitive about share growth. And the only footnote to that is that we used to see Redfin Now, the merchant business where we buy the house from the customer as being completely complementary within the same markets.

But what we’re seeing is that it’s really a better solution for customers in that $200,000, $300,000 price point, whereas the brokerage service makes more sense at the higher price points.

So it may be that those two businesses work well together to increase our total addressable market, whereas before we thought, oh, Redfin Now is going to be something that is really in the same core markets with the same customers. Very early days to draw a firm conclusion around that, but that’s some of the early thinking..

Okay. Appreciate it. Thanks..

[Operator Instructions] We’ll move next to John Egbert of Stifel..

Great. Thanks. You noted some of the inventory tightness is because of large city pricing dynamics, which you expect to reverse from the migration to smaller cities over time. But it looks like your share from top 10 markets has actually held pretty steady for the last two quarters.

If the migration outward does pick up steam, should we expect to see the mix of sales from top 10 markets continue to go down meaningfully from the current levels? And a question on the decel in total U.S. real estate sales volume. It seems like it came against a pretty easy comp from last year.

I was wondering what type of market growth your 4Q guide assumes and how you’re thinking about price versus sales dynamics over the next couple of quarters, if you have a view on it. Thanks..

These are complicated questions. I think the first part of that just needs to make clear the difference between sales and share. So if you U.S. sales volume shifts towards the middle of the country, we would expect that our sales would also shift toward the middle of the country and grow more there.

But to some extent, share should be unaffected by that because if it’s harder to sell a house for us in Seattle or San Francisco, it’s also harder for our competitors to sell a house. So we expect sales to be more volatile and more subject to market forces than share. And that’s why we run almost every one of our markets by share.

We have several projects in this earnings call, but one of them is to convey management’s focus on market share over sales. If I’m talking to someone in San Francisco who’s running that business, and she says, it’s just hard right now to get a closing.

I say, well, how’s your share doing because it’s hard for everyone else, too? And if that number isn’t moving up at this steady incline, then there’s a problem. And we haven’t seen that problem. So that was the answer to your first question. And then you asked about the kinds of assumptions we’ve made around Q4. We just haven’t.

There was a time when the tooth fairy always showed up in our budget, but that was before Chris Nielsen got here. These days, we assume that the market will be the same, unless it’s doing extremely well. And then we pinch ourselves and say, what if it got a little worse? So we just expect the inventory crunch to continue.

And I want to be clear about one premise to your question. Even though people are leaving the big cities because there’s an inventory crunch, I don’t know how much that will alleviate it.

There is so much political gridlock in a place like San Francisco around building new homes, especially high-density homes, where it’s a big building that blocks somebody’s view and creates a parking snarl, that a very small number of people trying to live there still creates an inventory crunch.

So I don’t really see that inventory crunch getting much better in most of the coastal markets. I just see it starting to become a problem in markets where we never thought it would be.

Hearing that there’s a bidding war in Pittsburgh, who would have thought?.

All right, that’s helpful. Thank you..

And it appears that we have no further questions at this time. I’d be happy to return the call over to Elena Perron for any concluding remarks..

Thank you, Leo, and thanks, everyone, for joining us today. We appreciate your interest in Redfin and look forward to speaking with you again next quarter..

This does conclude today’s Redfin Corporation Q3 2017 earnings call. You may now disconnect your lines. And everyone have a great evening..