What is House Flipping and Would it Work in Ireland
What is House Flipping?
House flipping isn’t a new concept. It is the practice of buying a property with the intention of reselling it very quickly after completing the purchase. Sometimes, the “flipper” will buy the property and relist for sale without carrying out any upgrade works whereas on other occasions, light renovations / upgrades are carried out. I emphasise the word “light” as were major renovations to be done, this would be more akin to property development than house flipping.
In a rising market, the house flipper benefits from the appreciation in the price of the property from the point of purchase to the point of sale. Obviously if the market is falling, flipping can lose money. In fact, even if the market is going sideways, a flipper is likely to lose money as the transaction costs of buying and selling a property are not insignificant, despite Auctioneera’s best efforts!
How do People / Companies Make Money from Flipping Houses?
In order to be a successful flipper, you essentially need three things.
1) Ability to Predict Market Movements
The greatest risk with flipping a property is that the market could go down during the period that you hold the property. If it does, flipping will lose money unless this has been built into the model used to establish the price you’re willing to pay for the property. This was an area where US property behemoth, Zillow, felt it had an edge. As pretty much every property in the US is listed on the website, they have troves of data about the US housing market. In addition, their proficiency with using AI to harness this data to value property is something that has made Zillow famous. Their Zestimate has become a closely watched figure for homeowners in the US. This is Zillow’s estimate (hence the term zestimate) as to a property’s likely value. The algorithm used to generate the zestimate was built by a team of engineers who won a competition run by Zillow in which the team that built the most accurate model won a prize of $1million. Hundreds of data points are analysed to generate the resulting figure.
So Zillow has cutting edge AI powered, machine learning technology designed specifically to value property plus a real time treasure trove of property market data. This combination was adjudged by Zillow management to give them a competitive advantage in predicting the future price of any property in the US. On paper, it sounds eminently plausible.
2) Ability to Buy Property at a Discount to Market Value
Merely predicting short-term market movements typically won’t be enough to generate a profit as transaction costs would wipe out any small, short term gains in the property’s value. Successful flippers must be able to buy properties at a discount to their market value. To do this, you need a lot of cash as vendors will only offer a discount in return for cash buyers who will close quickly. A quick cash sale without the hassle of viewings, estate agency fees, having to do minor repair jobs etc is quite attractive to many property vendors. They get a guaranteed quick sale in return for taking a small haircut on the property’s full market value. Owing to the success of Zillow’s core online advertising business, cash isn’t something they are short of so the “access to endless capital” box was considered to be ticked.
3) Project Management Expertise and Access to Construction Workers
Where repairs / minor renovation works are needed, the flipper must be able to perform these quickly and cost-effectively. This involves the company deciding what works need to be done, pricing these works and sourcing the labour to perform them. This is messy, real world work where tradesmen show up late or not at all, projects run over budget and behind schedule etc. This type of hands-on work is a million miles from the unlimited scalability of Zillow’s core online property / realtor advertising business.
So you need to be able to value properties precisely at scale, buy at a discount from this value and expertly carry out the works required at cost-effective rates. Zillow has just announced that it is leaving the flipping business, attributing the failure of the venture to its algorithms struggling to cope with covid generated volatility and the labour shortage that made carrying our refurbishments an ongoing challenge. Algorithms work well when things are in steady state but not so well when “black swan” events occur. Hence the old predicting the future part proved tricky. Even when they got the prediction right, finding the labour at all, let alone at reasonable rates, proved a major challenge and so Zillow ditched flipping.
Many are not surprised that Zillow couldn’t cut it in this new venture. Building great software that is sold at pretty much 100% gross margin to thousands of realtors is worlds away from sourcing quotations from electricians to rewire a property; then making sure the electrician shows up and that the work is of a decent standard. The capital light, ultra high margins of a successful software business to which Zillow had grown accustomed, likely meant that the deeper they got into the capital intensive, razor thin margin, high risk property flipping business, the “what the hell have we gotten ourselves into!” moments must have just piled up until they could take it no more. So Zillow has decided that flipping is not for them but this got us wondering, would this work in Ireland?
Would Property Flipping Work at Scale in Ireland?
A would-be property flipper in Ireland would likely encounter the same issues that Zillow did in the US. Predicting short-term house price movements would be more challenging in Ireland owing to the poor design of our property price register. Basic data like eircodes, square footage, BER ratings etc are all omitted from the register. An algorithm could be built that would pull data from websites like daft & myhome and overlay on the register data while pulling in other data sources such as the Land Registry but machine learning and AI need data to fuel their learning and one feels Ireland would be unlikely to be able to deliver the volume of data required to generate statistically reliable results. Even assuming one managed to solve the accurate short term prediction of house prices, the Irish flipper would most likely run into two further major issues.
Firstly, the average property vendor only realises what a long winded, archaic process conveyancing is once they’re stuck in the middle of it. I’m sure that anyone who has been through the fumbling ineptitude of a standard Irish conveyance (contracts not issued weeks after sale agreed, banks taking weeks to send out deeds, further weeks for purchasers to draw down funds etc etc etc), at the end of the process, would likely agree that they would have taken a lower price to have avoided the months of water torture. But alas, the majority of vendors, at the start of the process, are more focused on value maximisation than speed and certainty of transaction so trying to convince enough vendors to leave value on the table in return for speed and certainty, when the vendor hasn’t recently experienced the frustration of an Irish conveyance, would be an uphill battle. Even if the Irish flipper could accurately predict the future and convince enough vendors to sell for less than market value, sourcing the labour required to carry out the necessary works would be all but impossible owing to the current shortage of construction workers. When workers are found who are willing to do the work, they could pretty much name their price, which would eat further into the flipper’s already thin margins.
So on balance, the same issues that sent Zillow packing from the US market would frustrate an Irish flipper and as such, we intend to stick to the old fashioned value maximisation of our clients’ properties.