Fathom Holdings Inc. (NASDAQ:FTHM) Q3 2023 Earnings Call Transcript

Fathom Holdings Inc. (NASDAQ:FTHM) Q3 2023 Earnings Call Transcript November 11, 2023

Operator: Good evening, and welcome to the Fathom Realty Holdings Inc. Third Quarter 2023 Earnings Conference Call. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Alex Kovtun with Gateway Group. Please go ahead.

Alex Kovtun: Great. Thank you, operator, and welcome, everybody, to the Fathom Holdings 2023 third quarter conference call. I’m Alex Kovtun with Gateway Group, Fathom’s Investor Relations firm. Before I turn things over to the Fathom management team, I want to remind listeners that today’s call may include forward-looking statements within the meaning of the Securities — Private Securities Litigation Reform Act of 1995. Such forward-looking statements are subject to numerous conditions, many of which are beyond the company’s control, including those set forth in the Risk Factors section of the company’s Form 10-K for the year ended December 31, 2022, as well as our latest Form 10-Q and other company filings made with the SEC, copies of which are available on the SEC’s website at www.sec.gov.

As a result of those forward-looking statements, actual results could differ materially. Fathom undertakes no obligation to update any forward-looking statements after today’s call, except as required by law. Please also note that during this call, we will be discussing adjusted EBITDA, which is a non-GAAP financial measure as defined by SEC Regulation G. A reconciliation of this non-GAAP financial measure to the most directly comparable GAAP measure is included in today’s press release, which is now posted on Fathom’s website. With that, I’ll turn the call over to Fathom’s Founder, Chairman and CEO, Josh Harley. Josh?

Joshua Harley: Thanks, Alex. Good afternoon, and welcome, everyone, to our third quarter 2023 earnings call. We’re pleased to share the recent progress we’ve made advancing our growth strategy despite the volatility in the interest rates in the broader residential real estate market. I want to start by thanking our Fathom family across each of our businesses for their hard work and dedication as we continue to navigate the real estate market. This has been one of the most difficult years in Fathom’s history. But through the hard work of our team, we’ve been able to demonstrate that we can adapt and thrive even in the challenging economic times. Before turning the call over to our President and CFO, Marco Fregenal, for a detailed review of our financial results, I’d like to touch on a few key highlights during the quarter and the steps we’ve taken to adjust to the current environment.

During the third quarter, we witnessed continued pressure on transactions throughout the industry. In September, the residential real estate market changed rapidly as mortgage rates exceeded 8%, and we experienced an increase in cancellations, which impacted our transactions during the quarter. Despite this volatility and the highest mortgage rates in 20 years, we were encouraged by performance in agent growth in a very difficult market environment. During the third quarter, Fathom delivered revenue of $93.5 million, which was in line with our guidance range. We also completed approximately 10,303 real estate transactions and while down 15% from the prior year’s third quarter transaction number of 12,077, we do feel good about this number when compared to the entire U.S. residential real estate market.

We continue to take market share from legacy brokerage firms and even saw year-over-year transaction growth in several of our markets. We also increased our agent network 13% to over 11,333 agents at the end of the quarter, which compares favorably to all but one of our public peers domestic agent growth. While the residential real estate industry remains challenging, we continue to believe that our future remains bright. And by continuing to grow our agent base, we are positioning Fathom for continued success once the industry rebounds. We are making meaningful progress in advancing our growth strategy, expanding our agent network, optimizing our business for profitable growth and taking market share with an industry-leading commission model that continues to resonate well in this environment, and we believe we’ll continue to do so going forward.

Elevated interest rates continue to put pressure on home affordability. So the recent decline in mortgage rates following the Federal Reserve’s November rate pause is encouraging. While we don’t have a crystal ball to predict if we’re — if we reach the bottom of this current cycle in the industry or if rates will start to normalize in the near-term, what we do know is that the industry will eventually recover, and Fathom is well positioned to continue growing market share regardless of when that happens. Let me provide an update on our Realty business and why we remain well positioned today to grow our agent network and also expand our reach during this difficult market environment. Fathom Realty continues to be among the fastest-growing residential real estate brokerages in the U.S., and we’re proud of our growth this year as we expand our presence nationwide to reach more buyers and sellers.

Today, Fathom Realty operates in 37 states and the District of Columbia. We believe our model allows us to succeed irrespective of the market environment, and we’re well positioned to attract an ever-increasing number of real estate agents from legacy firms during downturns in the industry when agents struggle to generate leads and close sales. We continue to believe that we are the most attractive home for agents long-term as we help them ultimately earn more money with an industry-leading flat fee commission split to agents. During the third quarter, we grew our agent network by 13%, which included the existing agent referral efforts underway. We also recently announced three walkovers so far in Q4 in Louisiana, Massachusetts and California.

We promised to grow across all 50 states as well as deeper into each state, and we continue to take steps to deliver on that promise. Our agent growth this quarter further validates that we’re winning through innovation and a truly disruptive business model that continues to resonate among agents. Our new agents will have full access to Fathom’s proprietary cloud-based software, intelliAgent, and will also benefit from having additional Fathom services to offer their clients, including mortgage and insurance services as we continue to help all of our agents grow their business. We see a strong pipeline of walkover opportunities and believe that we’ll continue to attract high-quality agent teams and brokerages to our unique low cost and disruptive model.

So while most of our peers are experiencing flat or declining agent numbers domestically, our agent value proposition remains compelling and allows us to take share now to better position Fathom for a higher overall growth rate once the market recovers. Our cost to acquire one agent during Q3 remained low at approximately $1,000 and making our breakeven on each agent less than the $1,150 that we’ll earn back on the first sale. We also maintained strong retention rates, which we believe exceptionally positive news given the backdrop of agents leading the industry. As most of you have no doubt seen the National Association of REALTORS, along with several of our country’s largest brokerages were found liable in a recent legal battle over agent commissions.

I have no doubt that we will see this go to the appeals court and even higher should it be necessary. It might be years before we see any changes in the real estate industry as a result of these lawsuits. But what I can say is that we might be one of the only real estate brokerages to be a beneficiary of any changes that compress agent commissions. Unlike our peers who are — who are accused of conspiring and colluding to keep commissions high, we do not put pressure on our agents to maintain higher commission percentages. The fact is our flat fee commission model does not change regardless of whether an agent charges 3% or 2% or even 1%. Lastly, let me briefly touch on our path to profitability, profitable growth as we — and the steps that we’re taking to optimize our business in the current environment.

In Q2, we achieved our goal of adjusted EBITDA breakeven and we’ve continued to make tremendous progress in reducing our cash burn. In Q3, we fell short of maintaining adjusted EBITDA due to the slower home sales in September as a result of further Fed rate increases. But we have since identified additional opportunities to further rightsize our cost structure for the current environment and better position Fathom for improved operating leverage when the residential real estate market rebounds. With current market conditions in mind, we’re working with each of our business heads to reduce company-wide expenses by a total of $1.2 million per quarter going forward, which we expect to see the full benefit of in Q1 of next year. By further rightsizing the company’s expenses, we’ve set a target to achieve cash flow breakeven as early as Q2 of next year, while remaining committed to getting back to positive adjusted EBITDA in Q1 of next year and going forward.

It’s important to note that even though we are finding ways to cut costs, we will not sacrifice our ability to continue growing and attracting agents. As a matter of fact, we’ve increased the size of our recruiting team and plan to continue doing so by growing that recruiting team in 2024. In summary, we remain encouraged by the trends we’re seeing across our business despite a challenging quarter for Fathom and the real estate industry. With that, I’d like to pass it over to Marco for a financial update.

Marco Fregenal: Thank you, Josh. I’ll start a detailed review of our third quarter 2023 results, and then we’ll finish with a discussion on guidance. Third quarter revenue declined 16% year-over-year to $93.5 million compared with $111.3 million for last year’s third quarter. This decrease was primarily attributed to a 15% decrease in transaction volume, along with a 3% decrease in the average home prices during the quarter. GAAP net loss for the third quarter was $5.5 million for a loss of $0.34 per share compared with a loss of $6 million or a loss of $0.38 per share for the 2022 third quarter. Adjusted EBITDA loss, a non-GAAP measure, was $253,000 in the third quarter versus adjusted EBITDA loss of $2.3 million for the third quarter of 2022.

The $2 million improvement in adjusted EBITDA this quarter was largely driven by a reduction in expenses and additional agent fees that went into effect in January. Notably, this improvement was achieved despite the 16% decrease in revenue this quarter compared to Q3 of 2022. While we experienced an adjusted EBITDA loss this quarter, our goal is to reach adjusted EBITDA breakeven by Q1 of 2024. We believe that going forward after Q1, we’ll continue to deliver approximately 70% of the increase in gross profit to the adjusted EBITDA line. G&A expense was $9.8 million in the third quarter or 10.5% of revenue compared with $11.5 million or 10.4% of revenue for the same period a year ago. Again, to be noted that G&A did not meaningfully increase as a percentage of revenue despite a 16% decrease in revenue.

In total, our operations and support, technology and development and G&A expenses decreased by almost $2 million from $15.4 million in Q3 of 2022 to $13.4 million in Q3 of 2023. This reduction reflects the benefits of our expense reduction initiatives implemented earlier this year, and we’ll continue to see a decrease next quarter into Q1 of 2024. As Josh mentioned earlier, we plan to reduce company-wide expenses by a total of $1.2 million per quarter going forward to further rightsize the company’s expenses in the current market environment. Expenses related to marketing activities were $796,000 for the third quarter compared to $1.5 million for last year’s third quarter. The decrease in marketing expenses related to leverage internal resources and optimizing advertising expenditures.

Now I’ll spend some time reviewing our business segment results in more detail. We closed 10,303 real estate transactions in the quarter, a 15% decrease from last year’s third quarter but below the 20% reduction in the overall market experience. We ended Q3 with 11,333 agents, which represents a 13% growth rate over Q3 of 2022, while the National Association of REALTORS saw membership decline of approximately 1.6%. We have seen an increase of 25% in onboarding starts in Q3 over Q2, which should result in an increase in number of agents joining Fathom going forward. Revenue for the Real Estate division was $88.2 million compared to $105 million for the same period last year, which represents a 16% decrease, of which about 3% is related to a decrease in prices of homes and 13% is attributed to a decrease in transaction.

Adjusted EBITDA in Real Estate division was approximately $1.6 million, an increase of $1 million compared to adjusted EBITDA of $566,000 in Q3 of 2022. This increase was achieved despite a 15% decrease in transactions this quarter compared to the same quarter last year and reflects our increase in fees and favorable impact of cost-cutting measures. Our mortgage business generated revenues of $1.9 million in the third quarter compared to $2.8 million in the prior year period. Mortgage adjusted EBITDA for Q3 was a loss of $293,000 compared to an adjusted EBITDA loss of $406,000 for the same period last year. Our team continues to identify opportunities to reduce expenses to rightsize our mortgage business going forward as well as increase revenues by recruiting additional loan officers.

Going forward, we do expect our mortgage business to increase given the addition of the Elite Financial Group and its 21 mortgage professionals. Moreover, recently, we’ve seen some positive movement in interest rates. This improvement allows borrowers to see rate options at par. This, combined with the additions we made to the team are resulted in an increase of 64% in mortgage applications in Q3 of 2023 versus Q3 of last year. DIA in our insurance business generated revenues of $1.7 million for the quarter compared to revenues of $1.8 million for the same period a year ago. This represents a decrease of approximately $100,000. Adjusted EBITDA increased 50% from $370,000 in Q3 of 2022 to over $558,000 in Q3 of 2023. This reflects the great work our DIA team has done in Q3 to adjust expenses while still growing revenue.

Verus Title — Verus Title had revenue of $883,000 for the quarter compared to about $958,000 in revenues for Q3 of 2022. Adjusted EBITDA was a negative $22,000 compared to a negative $24,000 adjusted EBITDA in Q3 of 2022. Now moving to our Technology segment. Revenues increased 19% to $836,000 compared to $702,000 for the last year’s third quarter. Adjusted EBITDA loss for the quarter increased by 38% from a loss of $372,000 in the third quarter of last year to a loss of $514,000 in the current quarter. This represents an increased investment in agent technologies. Our LiveBy team continues to increase its footprint across the country to reach over 245 MLSs and 420,000 agents at the end of the quarter. LiveBy powers more than 4 million community pages with over 125,000 neighborhood reports being created.

We continue to focus on our balance sheet given the dynamic real estate market condition. Our cash burn for the quarter was $2.5 million and was largely due to a $1.3 million decrease in accounts payable, $500,000 in additional investments in our SaaS platforms for our agents, plus increases in prepaid and certain financing of payments. We ended the quarter with a cash position of $6.6 million. And given the aforementioned cost reductions of $1.2 million per quarter, combined with the increase in revenue from additional agent growth, we believe our cash position and overall liquidity provide us with the adequate runway to grow the business and execute our strategy through operating cash flow breakeven by Q2 of 2024. We did not purchase any shares in the third quarter under the stock repurchase plan and approximately $4 million remains under the authorization.

Before turning the call back to Josh, let me briefly touch on guidance. Given the continued uncertainty in the macro environment, we will not be providing guidance for the fourth quarter ending December 31, 2023. We will review the guidance expectations next year. With that, I’ll turn the call back to Josh for closing remarks.

Joshua Harley: Thank you, Marco. We remain focused on execution and are taking necessary steps to better position Fathom in the current environment and once the market recovers. I want to thank the entire Fathom team on their hard work as we navigate this market and continue to serve our clients. With that, operator, let’s open the call up for questions.

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Q&A Session

Operator: We’ll now begin the question-and-answer session. [Operator Instructions] The first question is from Tom White of D.A. Davidson. Please go ahead.

Wyatt Swanson: This is Wyatt on for Tom. Thanks for taking our question. My first one is for Josh. Curious whether you guys think this latest round of lawsuits targeting the NAR and more recently, a broader set of brokerages might result in any meaningful shakeup and where agents decide to hang their license or which platforms they migrate to?

Joshua Harley: That’s a — I think it’s a fantastic question. I’ve been on top of the lawsuits actually long before you guys started seeing in the news and watching and monitoring it. The first thing I would say is that I think we’re a long time away from any changes actually happening. I mean as I mentioned in the call, I think it’s going to be a while we’re going to go into appeals. If we lose there, we’re going to go to the next level. But when I think about this, I mean, when you look at some of the claims that were made, there was a lot of bias in this lawsuit that unfortunately, the plaintiffs were allowed to share things that they probably shouldn’t have been allowed to share. And the defense was not allowed to share things that were a little strange.

I mean things that were — for example, one of the arguments, one of the claims was the idea that sharing commissions was unethical and unfair. And yet in the state of Missouri, which is where the lawsuits were, it’s completely legal. It’s actually in the books, it’s being allowed and yet the judge would not allow the defense attorneys to share that with the jury. So I thought that was incredibly strange. I think there’s a lot of things that happened in the trial that I think if we’re able to redo it, get a redo, then I think things will probably turn out differently. But even if they don’t, at the end of the day, what I think is going to ultimately happen is we’re going to see a couple of changes. One, if you look at the listing agreements between the agent, the listing agent and the sellers, it actually says already basically that commissions are negotiable and has a blank of here’s how much we’re going to pay the buyer’s agent, and that’s negotiable.

I think the difference is, even though it’s already there, the difference is we probably need to make it very clear to the sellers that listen, my commissions are negotiable. You do not have to pay the buyer’s agents. So I think if we make some of those changes, then we’ll satisfy a lot of what this lawsuit is about, number one. Number two, the idea of commission sharing, I think that’s — I think if the industry goes away from that, I think it’s going to be a shame. I think it actually hurts the consumer. I’m trying not to be biased here, but I do think it hurts the consumer. So I think it’s very — we need to be very careful and very thoughtful on the laws and rules we change to make sure we’re protecting the consumer along the way. So at the end of the day though, if that happens, if the seller says, oh, wait a minute, I don’t have to pay 2% to 2.5% or 3% or whatever the number is to the buyer’s agent, then I’m going to pay less.

But right now, the way it has always looked and the way it currently works is the buyer’s agent actually signs an agreement with the buyer that says, if the seller does not pay me this agreed upon amount that you agree with, then you’re going to be liable for that commission amount. And by the way, that too has always been negotiable. I think the difference is people have got so used to the idea that, that’s just the way things are that a lot of people don’t try to negotiate. So I think some of that will change. If that changes, if the buyer realizes, oh, crap, I’ve got to pay the buyer’s agents because the seller is not going to pay, there might be some steering that happens. But sorry, DOJ, it’s not agent steering, the consumer may steer them.

The consumer might look at two properties and say, well, this property is willing to pay my agent and this one is not willing to pay my agent. Therefore, I’m going to go with that one because I’m going to be on the hook for paying that commission. So that the client may decide to steer different ones based on what’s going to ultimately cost them less. So I think there might be some steering. So you might see sellers come back and say, okay, we’ll pay some more. The regards, let’s say that none of that even happens. I don’t mean to go on too long. What I will say is that if there is a compression for buyer’s agents, because buyer’s agents now have to get paid directly from the buyer and the buyer may not have as much money because they have to pay for closing costs and everything else, and we may see compression happen on the buyer’s agent commission.

If that happens — this has been our thesis since the beginning, this has been a thesis when I started Fathom, where does that agent go to recoup that lost income. I said this before, I mean, same idea, if their commission is down 20%, simply the act of moving to Fathom means that they’ll actually make 9% more income. Well, the same thing is true if their commission is down 20%. They come to Fathom, they can recoup that. So it’s work smarter, not harder. So I do think that long-term, there will be — Fathom will be a beneficiary of those changes. I don’t want to see those changes made. So I do think it will hurt the buyers and our clients. But if they do, I think that Fathom ends up being a beneficiary of those changes.

Wyatt Swanson: Got it. Thank you for the detail. I really appreciate it. And just one follow-up. There’s been some chatter about how some of these smaller independent brokerages out there faced with the prospect of another year of low total sales turnover may finally decide to move their businesses over to some of the virtual or lower-cost offerings like Fathom and others. How do you guys make sure that Fathom maximizes its capture of these smaller independents or teams if, in fact, this does happen?

Joshua Harley: Yes, it’s a fantastic question. So I think you probably saw recent press releases. We put out three press releases just in the last week or so. The number of what we call walkovers right? Walkovers kind of like an acquisition, but instead of actually acquiring their business that the broker owner is basically shutting down their operations, just moving their agents over. Sometimes they’ll end up being the managing broker under Fathom. Sometimes they’ll just end up running a team and the rest of the agents are just part of Fathom. We’re starting to see more and more of these small broker owners coming to us. Now we are reaching out to a lot as well. We’ve got just an ever-increasing number of opportunities. Now obviously, it comes down to what was opportunity cost.

Does it make sense? Some of these opportunities, we don’t have to pay a single dollar for. Some of them we do, but they’re a little bit larger operations and moving the business over and we don’t have the cost of the actual — the acquisition. There’s a lot of — a lot less than we’ve got to do in regards to making due diligence, there you go, kind of leasing that term. So there’s a lot less we have to do in that process. So our costs are a little bit lower there as well. But to your point, that is happening, and we’re seeing a lot more people come to us and to make sure that we’re one of the biggest recipients of it, as Marco and I indicated earlier, we’ve actually been investing more in our recruiting team. We built part of — part of our team is actually dedicated to just the small broker owners with 20 agents, 70 agents, 100 agents, 150 agents and so on.

That — that’s all they do is they’re reaching out to the small broker orders and saying, listen, we’ve been where you are, we know what you’re going through, you don’t have to do this alone, come over to Fathom and let’s do this together. And so that message resonates with a lot of people who right now are struggling, who forget thriving, forget surviving, they’re barely making it and they’re probably — they probably see the writing on the wall, so they either have to do something or just close up shop. And by moving over to Fathom, it allows them to continue to keep their family together, allows them to actually make money if they’re coming over as a broker, as a managing broker for us. And so it can be a real win-win for them if they move over to Fathom.

Wyatt Swanson: That’s really helpful. Thank you.

Operator: The next question is from John Campbell of Stephens Inc. Please go ahead.

John Campbell: Hi, guys. Good afternoon.

Joshua Harley: Good afternoon. How are you?