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Opendoor Continues to Crush Expectations - Market Continues to Bet Against It

Jeremiah Chapter 29 verses 11-13 state, "For I know the plans I have for you, declares the Lord, plans to prosper you and not to harm you, plans to give you hope and a future. Then you will call on me and come and pray to me, and I will listen to you. You will seek me and find me when you seek me with all your heart."


This Bible verse is very encouraging and helpful, especially when I am down. Life cannot move forward if there is no hope, hope and future go hand in hand. The Lord's love here is clear as His desire is to bless me in order to bring me into a closer relationships with Him. That's the key, trusting and obeying God throughout my life.


For investing having some encouragement is always helpful as well, notably during extreme volatility as we've seen the past few months. While the investment future is never a gaurantee, there are cycles and trends that won't last forever.


Opendoor Technologies, Inc. (OPEN) announced 2021 earnings this afternoon, and after a charged 19% gain is down around 9% in after-hours. The company beat Wallstreet expectations handily on Revenue and missed on GAAP earnings. GAAP earnings? Yes, Wallstreet mixes and matches how it gauges earnings and ironically is focused on GAAP for OPEN.


I've written on OPEN multiple times as the company is the third largest holding in the portfolio. I like what I am seeing as the company is proving that it can consistently improve OCF/FCF adjusted metrics as it continues to scale robustly. So what gives?


My opinion is that there is a lot of confusion stemming from Zillow Group's (ZG) exit of the iBuying market. ZG flipped their tune and essentially threw in the towel. Redfin Corporation (RDFN) continues to support its growth in iBuying and witnessed a beat-down after their earnings report, which highlighted reduced earnings with faster growth.


Typically, Revenue growth at the expense of profits and Cash Flows in the mid-term is something that is cheered from Wallstreet and markets, with expected improvement during maturity. For OPEN, ZG threw a major wrench in the confidence of the long-term stability and durability of the iBuying market. For me, this has afforded a great opportunity for a massive miss-pricing event.


ZG witnessed an epic collapse as it was punished for forgoing its strongest growth driver. However, the market leader OPEN and other peers have all been dragged down as well. The market clearly is uncertain whether the iBuying model will supplant ZG.

The irony is that more recently, ZG has stabilized while all other peers have continued to be punished. Let's get one thing clear here, Wallstreet does play favorites occasionally, but not for the right reasons, and I believe that ZG is getting a free pass for the moment. The company has stayed true to legacy/incumbent colors as it has forsaken risk taking for more conservative slower growth. The company has questioned the iBuying market's ability to remain efficient, but the real issue was ZG's inability to manage a full transition to a digital iBuying market platform. Human capital was a major issue as the company had the same issue all legacy players do, allocation of resources.

For me, it's important to consider the financial flows based on OPEN's business model. From a B/S perspective, the company has a couple key areas to consider - Real Estate Inventory and Non-Recourse Asset-Backed Debt. As OPEN continues to grow its inventory, there will be a consistent increase in associated debt as mentioned, near a 1:1 basis. The core collateral used against the Non-Recourse Asset-Backed debt is Restricted Cash and Real Estate Inventory. Over the past three years, the ratio of collateral has average around 1.15 times, excluding 2020 which was an anomaly at 2.9 times.


This leaves the companies Net Cash position tied to the delta from Cash versus Convertible Senior Notes. Accounting for all of this, I have OPEN with a Net Cash position of $1.25 billion as of year-end 2021. Some of the concerns surrounding OPEN relate to an inevitable slowing housing market. The company has already gone through this during the pandemic in 2020, and was able to successful de-risk its inventory by no longer purchasing homes, and selling inventory. This was an atypical event as during a normal recession, there will still be purchasing and selling of homes, just at a different pace. During the Great Recession low-point, over four million homes were still transacted.

If we look at the company's most current information, we can clearly see the pandemic impacts during 2020, versus the massive turnaround during 2021. OPEN generated $8 billion in Revenue during 2021. The tricky part is determining the best way to assess OPEN's ROI. My opinion is that it is best to utilize an Adjusted FCF approach. Currently, OPEN includes the changes in Real Estate Inventories within OCF. One could look to exclude this line item, similar to Coinbase Global's (COIN) Custodial Funds Due to Customers (which I believe should be within the Financing Activities area), but I'm not 100% certain this is the best move. As such, I prefer to adjust FCF by accounting for the changes in Non-Recourse Asset-Backed Debt. By these adjustments, OPEN generated a negative 1.9% Adjusted FCF Margin for 2021, nominally burning $150 million in Cash.

OPEN has some other metrics of how it breaks down its business key metrics. I primarily focus on Homes Sold, Average Price per Home Sold, Homes Purchased and Homes in Inventory, all which grew substantially in 2021. It is important to recognize OPEN's GM and Contribution Margin and adjustments as it reflects important cost considerations due to the time it takes to purchase and sell a home. Clearly, OPEN is at all-time records with all of its metrics, and the expectation for next year and the mid-term is robust.

Wallstreet was wrong by just below $700 million for 2021 Revenue and for Q1 2022, their estimates are lower by nearly $1 billion. I'm modeling OPEN to generate $15.5 billion or so for 2022, with the potential to grow north of $50 billion over the mid-term. I believe I am being highly conservative with the company's potential Adjusted FCF margin. OPEN is one of the few companies I'm monitoring and holding in the portfolio that has a realistic shot to return 10-times over the next couple years. This is based off of the company returning to a 3 times EV/Revenue valuation level, and seeing Adjusted FCF/share grow further as well.


I view OPEN as a very interesting investment opportunity. The company is building a truly vertically integrated business via iBuying and over time if successful, while likely supplant most if not all of ZG's services. iBuying was a major focal point for ZG as they were touting it as the next wave for digital growth. They were not able to integrate this approach into their legacy segments. They have left the door wide open for OPEN no pun intended. This will allow OPEN to continue to grow rapidly, while also managing ROI with less pressure. For me, this is a picture-book example of how newer innovative companies willing to take risk beat their legacy/incumbent competitors.




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