Why SunTrust Is Lowering 'Zestimates' At Zillow

SunTrust Robinson Humphrey analyst Bob Peck on Thursday published a research note, "Leadership Position and Post Merger Potential Intact," focused on Zillow Group Inc Z.

Peck believes, "Leads, not agents, are really the key variable to consider… Agents may only spend ~10-20% of gross commissions on advertising, but routinely spend 25-33% on leads or closed sales."

This ties in with Zillow's recently announced strategy of concentrating on top agents, which Peck feels has a secondary benefit of Zillow customers likely having a better experience from these local experts.

Tale Of The Tape - Shares Under Pressure

During the past 52 weeks, Zillow shares have traded in a range of $68.58 - $148.54, and are currently trading down 50 percent from the high.

SunTrust - Zillow: Maintain Buy, Lower PT From $130 To $100

The new $100 target price represents a potential 35 percent upside for Zillow shares from current levels.

SunTrust's revised price target "reflects lower multiples and equates to 6x 2017E EV/Revs and 20x EV/EBITDA vs. CAGRs of >25% and >50%."

Peck's FY 2015 estimates remain unchanged, while SunTrust's 2016 Revenues/EBTIDA estimate "goes to $868M/$167M from $885M/$211M," a 20.8 percent reduction for 2016E EBITDA.

"Going forward our estimates supporting double-digit headcount growth and increased spending," according to Peck.

SunTrust Rationale

Zillow operates the largest online platform for real estate information for both Internet and mobile users.

The SunTrust price target is based "on estimates [which] factor in healthy growth rates and a positive long-term analysis and outlook for the real estate industry."

The company's free database includes over 110 million U.S. homes that are for sale, (including foreclosure and pre-foreclosure), as well as homes available for rent.

Peck feels that "investors under appreciate the future growth potential of the core real estate market as well as the optionality from new markets like mortgages and rentals."

Additionally, on the 2Q15 earnings call, "management noted that leads continue to grow faster than agents - a positive indicator for ARPA," (average revenue per agent), according to the report.

SunTrust - Zillow Risks

• "Integration Risk - from the acquisition of Trulia.
• Listings Data - If agents and brokerages (or MLSs) make a decision to remove inventory from Zillow's sites this could have a negative impact on user growth and the platform.
• User Growth - If Zillow is unable to increase engagement or user growth over time or even if user growth starts to decline, this could make Zillow's services less attractive to new potential users and would ultimately lead to advertisers spending less money or leaving the platform altogether.
• Agent Advertising Dollars - Agent subscriptions and ad revenue was 66 percent of total revenue last quarter. Given that these are month-to-month subscriptions and the Premier Platinum level works on a CPM basis and deterioration in home prices, competition, user growth or ROI could have a negative impact on agent advertising and subscriptions.
• Display Advertising - Programmatic buying and selling of display ads may cause a slowdown in revenues.
• Increased Competition - Competition for real estate users and agents is intense. Zillow competes with News Corp NWSA's Move.com, regional brands and national brands. In fact, Move.com is the official web site of NAR, (National Association of Realtors).
• Lack of Margin Expansion - If Zillow's costs don't scale, this could adversely affect the company, particularly given the rise in spending on sales and marketing and technology development."

SunTrust - Bottom Line

Peck reiterated his Buy rating, noting SunTrust "continue[s] to believe Zillow is positioned as the category leader in the secular shift to online research, discovery and action in real estate."