Housing Becomes Fluid Part 1

How Airbnb will transform the consumer's relationship to homes

Airbnb started by disrupting how humans travel. All of a sudden, you could travel to Portugal, Brazil, or Australia and safely stay within a local community and home.

Previously, the bespoke stay concept existed mostly through niche vacation home websites operating only in specific geographic regions. The pre-Airbnb travel process often involved utilizing a travel agent (a what?!) due to the limited channels available to vet the validity and quality of stays. Eventually, along came Craigslist, an online peer-to peer-marketplace for pretty much anything. While you could use Craigslist to rent someone’s residence, this method engendered major trust issues among consumers due to illicit activities taking place there and the cultural prevalence of The Craigslist Killer.

The magic of Airbnb was in enabling the trustworthy sourcing of homes that can be verified through other users of the platform. As the platform grew, more housing options and reviews entered the ecosystem, increasing trust among users. At scale, the reach of the platform allowed for hosts to supply a wide swath of demand and transact through a single, curated marketplace.

On the supply side, in the same way Uber monetized the existing stock of cars people owned, Airbnb enabled its hosts to turn existing assets into immediate cash flow. Historically, homes only produced income through value appreciation. Airbnb transformed existing residences into cash producing assets for hosts.

That supply side shift had a multitude of second order effects. The one most cited, explored here in an HBR research study, was an increase in housing costs. According to the study, a 1% increase in Airbnb listings is causally associated with a 0.018% increase in rental rates and a 0.026% increase in housing prices, contributing to about one-fifth of the average annual increase in U.S. rents and about one-seventh of the average annual increase in U.S. housing prices.

The main reason cited for that effect was a reduction in available housing stock. This primarily happened due to owners buying up multiple properties, renting them out as daily or weekly Airbnb rentals, and artificially deflating prices for properties available on the market for longer term rentals or purchases.

While fights over Airbnb’s effect on housing prices grabbed headlines, another interesting reverberation throughout residential housing was supercharged in 2020.


Housing Becomes Fluid

Airbnb initially brought the concept of hotels to standard homes and transformed travel. Due to shifting consumer behavior, Airbnb is slowly moving further up the chain to transform residential living. This transformation will present an interesting investment opportunity to multiple personas of investors, including, investors looking to own a single family rental property, aspiring boutique hotel operators, and investment funds looking for increased yield in the residential market.

When Covid struck, Airbnb raised $1B in debt from Silver Lake and Sixth Street Partners at a face melting 10% rate and had the pleasure of cutting its valuation in half ($18B) to do so. At the time, facing the prospect of little to no revenue in the near future, the consensus opinion was that Airbnb was a sinking ship. Fast forward a year and Airbnb is a public company with a $120B valuation and a stock chart that looks like this:

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This valuation places them at around the combined valuation of Expedia and Booking Holdings Inc, and significantly larger than any hotel operators.

So what’s the deal? Well, outside of the current brand-name market froth, Airbnb unlocks something deeper than simply search discovery and short-term stays.

In an April blog post announcing its debt raise, Airbnb laid out its strategy for growth. The second point, listed only after investing in hosts (the bedrock of the product), was “Longer-term says”. Here is what Airbnb had to say on the topic:

The desire to connect and travel is an enduring human truth that’s only been reinforced during our time apart. But the way this manifests will evolve as the world changes. We’ll see a new flexibility in how people live and work, which means they won’t have to be tethered to one location. We will focus on longer-term stays. From students needing housing during school, to people on extended work assignments, Airbnb is a place where many have found longer-term housing. In the future, dreams of living in another community will become a growing reality—in homes that come with the benefits of Airbnb.

This was published on April 6th, 2020 and proved prescient about what was to come during Covid. I used Airbnb multiple times for longer term rentals in different locations while working from home. I have plenty of coworkers and friends that did the same, and more Airbnb listings are touting wifi services and work-stations as amenities. As a platform, Airbnb possesses a sense of nimbleness, allowing the host to adjust what they are providing and marketing to consumers. More users wanted to rent homes for longer durations to work from them, so a host could increase desirability through a simple wifi upgrade and discounted rate for weekly and monthly stays. This represents a tremendous advantage over hotels that can’t stay as nimble at scale, and don’t offer a welcoming environment for longer term stays.

The implications sprouting from the ease of that experience are underrated. People’s expectations about available lifestyles changed during 2020, and Airbnb offered a seamless way to go live wherever you wanted for a period of time if you worked from home. Once consumers acclimate to an experience it becomes normalized, expecting that change to fade away is unrealistic. Customers have largely enjoyed a seamless experience leveraging Airbnb to find a great place to live for 1-3 months featuring amenities comparable to a hotel, if not better.

As the Covid vaccines roll out, a debate about returning to the office full time has intensified. Articles tend to quote executives at major tech companies, real estate firms, or startup CEO’s and the debate is grounded in the almost philosophical question of “do we need to connect in person to do our best work?”

The question that often gets ignored is, “what does the top young talent think?” Over the last decade, specifically in tech, recruiting the best talent has been a constant priority. During my time at WeWork, most companies I spoke with expressed the desire to provide a best in class office experience for employees, and to be located near the best talent available. What happens when a meaningful proportion of the best talent wants a remote or hybrid office experience, and that talent pool is dispersed across the country rather than concentrated in 3-5 cities? It’s safe to assume companies will cater to those employees rather than risk losing them, expanding the pool of workers that WFH in perpetuity.

I’ve been surprised by how many of my friends express reticence about returning to daily office life or express a strong appreciation for their new lives in a different city (sometimes country) than where they lived pre Covid. Airbnb acts as critical infrastructure in this new way of living, serving as a vehicle for users to discover residential homes that fit their exact needs. In Dror Poleg’s book, “Re-Thinking Real Estate”, he notes how Airbnb describing its business as “home-sharing” is a misnomer:

These companies are not facilitating the sharing of homes; they’re converting residential and commercial units into uses that were previously exclusive to hotels…Why should it take 30 seconds to find, pay, and move into an apartment on Sonder or Airbnb where it takes 30 days to find, pay, and move into the same apartment through the traditional leasing process? Airbnb has done something that was never before done at scale: enabled people to book and move into residential buildings at the click of a button.

Poleg makes a profound point about user behavior and removing friction in lodging. By removing the standard barriers involved with a residential lease (search + discovery, negotiation and payment, lease signage, etc) Airbnb allows users to seamlessly secure housing in any area of the country for a defined period of time. Airbnb started by breaking down the walls of human aversion to staying in strangers homes. In Mario Gabriele’s post analyzing the Airbnb S1 he noted that:

“By building trust into the platform, Airbnb normalized the renting out of spare rooms or empty homes. The result was an enormous influx of new supply, without the capital requirements. Guests that might not have been served by the old model were welcomed into this new category of hospitality.”

Now, Airbnb is breaking down the barriers preventing customers from easily moving to a new area for an extended period, or even just to test out a city. People take major risks when they move to a city, wouldn’t it make sense to enable them to test it out first for a couple months? We do it with mattresses now, why not geography?

While this spur of demand in medium/longer term stays originated with Covid, the rise of digital nomads has been underway for years and will only accelerate in pace. Airbnb essentially created a new asset class sitting between a 12 month lease and a hotel serving this group of people:

It’s not difficult to envision this evolution continuing up the value chain, eventually disrupting residential 12 month leases. Apartment discovery and transactions remain extremely painful, just ask anyone that lives in NYC (and we have Streeteasy). As Dror asked in the passage above, why should it take 30 minutes on Airbnb but 30 days on Zillow/Streeteasy/Apartments.com? Users already shifted upstream from weekly to monthly stays on Airbnb, so doesn’t it make it sense for people to start demanding a similar experience for a 12 month lease? It may seem bizarre to source your next apartment on Airbnb, but it’s always smart to bet on a medium that removes friction and improves the customer experience, especially one operating in every single market.

Investment Impact

Airbnb acts as a vehicle that unlocks novel investment opportunities for individuals and potentially, funds. The most common example is individuals buying homes with the intent to furnish and rent them out as Airbnbs. According to iProperty Management:

  • 81% of Airbnb’s revenue ($4.6 billion) back in 2017 came from whole-unit rentals where the owner is not present during the guest’s stay

  • Hosts with 10 or more properties generate a quarter of all multi-host revenue

Clearly, there is a subset of professionals that builds property businesses on top of the Airbnb platform. Airdna, an Airbnb rental database, outlines the best cities for those professionals to invest in—vacation destination cities (Gatlinburg, Scottsdale, Palm Springs, Tahoe) provide great returns for investors, as do smaller areas near exceptional nature that may offer a lower home value (Yucca Valley, Fairplay, Ridgedale). These cities boast lower property values than an LA, ATL, SF, Denver, etc while still providing ample demand from travelers to stay there for trips.

The presence of Airbnb essentially increases the cash flow potential of assets in the right markets. Typically, single family homes are not valued taking into consideration what it could be worth as a daily or weekly rental, providing an arbitrage opportunity for property investors that excel at picking the right markets and homes. Additionally, housing developers have a wider set of markets to play with where it makes sense to build new homes in (assuming current lumber prices come down and it makes sense to build anything).

Recently, some friends and I began looking into purchasing a home as an Airbnb investment. What struck me is the rich ecosystem that exists to support this endeavor. Airbnb acts as the vessel for finding customers and collecting payments as a start, but it’s deeper than that. Property managers specializing in Airbnb rental management exist alongside companies like Beyond Pricing and Wheelhouse to help optimize pricing. Investors can scale up by leveraging multiple platforms to optimize their business, and quickly grow into a small property owner/operators. This fits into a general macro theme in the world right now, explored in Li Jin’s “The Passion Economy and the Future of Work” and Packy’s “Power to the Person”, where individuals are empowered to start their own business through enhanced tools.

Another area of opportunity for operators is branding themselves similarly to a boutique hotel operator within that destination. When my girlfriend and I spent time in Joshua Tree, our lovely host reflected how the whole area was booming during Covid thanks to Airbnb. When we left, she told me her plan is to buy more small homes and create a mini chain of rentals right outside the national park. Given the increase in demand for the area and lack of appealing hotels, I thought this sounded great. It’s safe to assume she would struggle starting a boutique chain of properties without the scale of distribution or payment capabilities on Airbnb. The platform allows her to reach people like me searching “Joshua Tree” within Airbnb and seamlessly collect my payment. This entrepreneur is even able to brand her spaces within the platform, leveraging both the uniqueness of her homes and the brand of Airbnb.

Branding this way could allow for easier expansion to different popular markets if an operator is well reviewed on Airbnb. Let’s say our host in Joshua Tree launched “Stay Groovy” as her boutique chain of properties and hired someone with exceptional logo making skills like myself to create a logo. She could display it across assets she recently purchased in Tahoe & Scottsdale and when someone who loved their stay at her home in Joshua Tree notices that iconic logo below, they may be enticed to stay at her new place in Scottsdale.

So, what’s the potential downside besides hiring the wrong logo designer? Well, buying up long term control of a property and counting on an increased yield from consistently renting them as daily or weekly rentals can be risky (just ask WeWork and Knotel). I vividly remember my coworker with an asset management background arguing with WeWork growth employees, who were incentivized exclusively through revenue growth, about why he wanted to do a longer term lease for less revenue per year.

According to its S1, Airbnb estimates the TAM (total addressable market) of long term stays at $210 billion. For real estate operators, a key balancing act is the security of a longer term lease vs the increased yield of a shorter term one. Individual operators may not be able to stomach a vacancy rate below 80%, but the increased popularity of longer term stays could allow them to smooth out their occupancy risk with weekly or monthly discounts. This allows for safer asset management of multiple homes if one can count on the guaranteed revenue of longer term stays.

Another way for individuals to lessen risk could occur by forging partnerships with other operators or even investment funds. Invitation Homes and American Homes 4 Rent own and operate over 200,000 single family rentals in the US, buying homes and renting them to consumers. This model has proved very successful— from 2015 through the end of 2019, the single-family rental sector produced compound annualized total returns of 14.1% per year.

The model for these businesses involves signing one year leases, a safe strategy that allows them to operate at such a scale. Institutional investors have directives mandating investments in certain vetted operators. “Stay Groovy” probably would have a hard time making the list.

But is there a pool of riskier capital out there seeking a higher yield that’s willing to invest in a consortium of Airbnb operators? As more workers shift to a remote environment and mobility in the younger professional class increases, a well operated Airbnb business could deliver outsized returns if invested in the right properties. If an operator group leveraged Airdna for market sizing, Beyond Pricing and Wheelhouse for pricing, established local property management groups for maintenance, and utilized Zillow for property sourcing, the yields could be attractive for a specific type of investor. And as discussed, the potential to rent out the property for 3-6 months or even a year in some cases has greatly increased, allowing for a reduction in downside risk.

As Airbnb moves further up the residential housing value chain, opportunities will emerge for both consumers and investors. Consumers who work from home can go check out what it’s like to live in Atlanta for three months, then shoot on over to Salt Lake City in the winter to go skiing. Potentially, you may even sign your next 12 month lease through Airbnb. Solo investor/operators can build sustainable businesses on top of Airbnb, and maybe rival the Stay Groovy property empire one day.

As consumer behavior shifts with regards to housing, iBuying platforms like Zillow and Opendoor will play an increased role. But that’s for part 2.

Cheers,
Evan

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Source: Google Finance