Zillow Group Inc

NASDAQ:ZG

Earnings Call Transcript 2018-Q1

[Operator]

Good afternoon and welcome to the Zillow Group First Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we'll conduct a question-and-answer session and instructions will follow at that time. [Operator instructions] As a reminder, this conference call is being recorded.

I would now like to turn the call over to Mr. RJ Jones, Vice President of Investor Relations.

[Raymond Jones, VP of Investor and Corporate Relations]

Thank you. Good afternoon and welcome to Zillow Group's first quarter of 2018 financial results conference call. Joining me today to discuss our results are Zillow Group's Chief Executive Officer, Spencer Rascoff; Chief Financial Officer, Kathleen Philips; and Jennifer Rock, Vice President of Financial Reporting, Technical Accounting and FP&A.

During the call, we will make forward-looking statements regarding future financial performance, operations and events. Although we believe the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee these results. We caution you to consider the risk factors described in our SEC filings, which could cause actual results to differ materially from those in the forward-looking statements made on this call. The date of this call is May 7, 2018, and forward-looking statements made today are based on assumptions as of this date. We undertake no obligation to update these statements as a result of new information or future events, except as required by law.

During the call, we will discuss GAAP and non-GAAP measures. We encourage you to read our financial results press release, which can be found on our Investor Relations Web-site, as it contains important information about our GAAP and non-GAAP results, including reconciliation of non-GAAP financial measures. In our remarks, the non-GAAP financial measure 'adjusted EBITDA' is referred to as EBITDA, which excludes other income, depreciation and amortization expense, share-based compensation expense, acquisition-related costs, interest expense, and income taxes.

We will open up the call with brief remarks, followed by live Q&A. In addition to taking questions from those dialled into the call, we will answer questions asked via Slido. We encourage you to visit www.slido.com where you may submit questions by entering the event code #ZEarnings. On Slido, you may vote on which submitted questions you want us to answer. This will ensure that we prioritize the questions you consider most important. You may begin submitting questions and voting now.

This call is being broadcast on the Internet and is available on the Investor Relations section of Zillow Group's Web-site. A copy of management's prepared remarks, which will not be read during this call, has been posted to the Quarterly Results section of our Investor Relations Web-site. A recording of the call will be available later today.

I will now turn the call over to Spencer.

[Spencer Rascoff, CEO]

Thanks, RJ, and thanks everyone for joining us. By now we hope you've had a chance to review the press release and the prepared remarks that we posted on the Investor Relations Web-site about an hour ago. Starting with today's call, we will no longer read the prepared remarks. Going forward, we'll provide a brief overview of the quarter's highlights and then dedicate the rest of this time to answering your questions. We hope that you like this change.

We had a great first quarter and are already off to a strong start for the year. We reported first quarter 2018 revenue of nearly $300 million, which was up 22% year-over-year and driven by growth from our Premier Agent rentals and new construction marketplaces. Our Premier Agent revenue and other revenue categories outperformed compared to expectations.

Last month we announced two major initiatives that demonstrate how we are taking our business beyond lead generation, creating better experiences for consumers and further strengthening our partnerships with real estate professionals. First, we are testing a new lead validation and distribution process to address the significant opportunity in our Premier Agent business. Second, our participation in the Zillow Instant Offers marketplace as a buyer and then seller of homes on the open market opens up new and additive business opportunities for Zillow Group.

In 2018, we are taking our biggest swings yet. We are moving deeper down the funnel to deliver better experiences for consumers and more efficiencies for our industry partners. We are confident that the changes we are making will drive greater profit and growth for us and our partners. Our evolution towards strong connections is what consumers, agents, brokers and lenders want and expect, we are the partner who can best help all parties achieve their home related goals.

Behind everything we create are our employees doing their best work, who together form the most innovative, transformative company and welcoming culture. Our people generate great ideas, take risks, and move fast to build the most amazing home shopping experience that consumers will ever find. Our future is the most exciting that it has ever been.

With that, I'll turn the call over to Kathleen.

[Kathleen Philips, CFO]

Thank you, Spencer. Before we turn to Q&A, I wanted to call out a few items related to our outlook. Beginning with our second quarter 2018 earnings announcement, we will report financial results for two segments; Internet, Media & Technology, or IMT; and Homes. Today, in addition to presenting our consolidated Zillow Group outlook, we also provided the second quarter and full-year outlook for each segment.

We have increased our full year 2018 IMT total revenue outlook since our February 8 earnings report, primarily as a result of an increase in the outlook for our Premier Agent revenue. In addition, our 2018 IMT outlook for the full year includes an immaterial amount of forecasted incremental revenue associated with our adoption of the new ASC 606 revenue accounting standard. These increases in our revenue outlook were partially offset by the impact of lowering our Mortgage revenue expectations, which also negatively impacted our full year IMT EBITDA outlook.

Further, the immaterial amount of forecasted incremental revenue associated with the new revenue standard does not result in a flow through to our EBITDA outlook. If this revenue would have flowed through to EBITDA, we estimate that forecasted EBITDA would have been positively impacted by approximately 20 basis points.

Our IMT segment full year 2018 EBITDA outlook was also negatively impacted by increases in headcount-related expenses, primarily due to larger-than-expected payroll taxes related to employee stock option exercise driven by our increased stock price during the quarter.

In the Homes segment, we currently forecast holding an estimated 300 to 1,000 homes for resale as of December 31, 2018. As you can see from our second quarter Homes segment guidance, we expect to incur expenses relating to holding costs, overall corporate expense allocations, and other related costs. We do not anticipate reporting any meaningful Homes segment revenue during the second quarter, since we do not expect to begin selling homes until the third quarter.

We continue to expect our investments in technology and development and advertising to cause quarterly consolidated EBITDA to fluctuate throughout the year. Consistent with what we told you last quarter, our first, second, third, and fourth quarter consolidated EBITDA are expected to represent approximately 15%, 20%, 30%, and 35% of the full year total respectively.

With that, I will turn the call back to Spencer.

[Spencer Rascoff, CEO]

Thank you. Before we jump into Q&A though, I'd like to just say a few words. As you likely saw in today's press release, Kathleen is stepping down from her role as CFO and transitioning towards retirement. I started working with Kathleen when I was 23 years old and had just started my first company, Hotwire. She was our outside counsel and she quickly knocked our socks off. We knew that we had to have her join our team. We were fortunate to have her as our General Counsel at Hotwire and a few years later, when she was negotiating the sale of Hotwire to Expedia, she got to know many of the people who would go on to found Zillow.

At the time Expedia, was run by Erik Blachford and Lloyd Frink, and on its Board was its founder Rich Barton and its founding Chairman, Greg Maffei. A few years later in 2006, these four people were on the founding Board of Zillow and eyed Kathleen as someone we want to help start our next company.

It wasn't until 2010 that I was able to pry Kathleen away from Silicon Valley and get her to join ahead of our IPO. We needed a whip-smart, level-headed and experienced general counsel to see us through our company's first huge milestone and she played a pivotal role in our going public. Kathleen went on to run many parts of the Company, including the legal department, the HR department, facilities, customer care, corporate development, and more, moving from General Counsel to Chief Operating Officer and then into the CFO role.

I have worked with Kathleen for most of my professional life and I'll very much miss her advice and friendship. I know I speak for the entire Company when I say a heartfelt thank you, Kathleen, you will be missed.

We will open the search for a new CFO. Jennifer Rock, VP of Financial Reporting, Technical Accounting and FP&A, has agreed to be our Interim CFO and is on the call with us today. Jen has been with Zillow Group for seven years and has played a leadership role through the Company's IPO, all of our acquisitions and all financial reporting matters. We are fortunate to have Jen take on this interim role. Kathleen will continue to act as an advisor to Jen and the financial team and to our legal and corporate development teams for the next two years to ensure a smooth transition.

Now, Kathleen, Jen and I will open the call up to questions. Operator, we'll start with the phone and then shift to social media and the Slido. First question please?

[Operator]

[Operator Instructions] Our first question comes from Michael Graham with Canaccord. Your line is now open.

[Michael Graham, Canaccord Genuity]

Thanks a lot, and Kathleen, congrats on your retirement. Just two quick ones. Spencer, can you comment on any particular qualities you might be looking for in the new CFO, any particular industry or experience considerations? And then just on the Homes business, you had a hypothetical metric in the prepared remarks that implies about 1.5% gross margin there and I just wonder if you could kind of expand on that, and within that, just wonder if you can comment on the level of agent commissions you are paying for this product, are they sort of on par with industry standards or do you expect to pay something a little lower, just any color you can provide on that?

[Spencer Rascoff, CEO]

Sure. So, Kathleen leaves very big shoes to fill. In terms of things that we will be looking for, for a CFO, somebody that's comfortable in a high-growth environment, somebody that is ideally a sitting CFO of a public company or a division of a much larger public company, somebody that has scaled the business, and perhaps somebody with transactional experience, a capital markets experience, given our new business in Homes. So, those are just some of the requirements. And of course just a business partner to me and to the rest of the management team, which Kathleen has been for so long.

In terms of the gross margin, I mean we put in the prepared remarks this illustrative example, we have kind of 1% to 2% net profit. I think we put 3,500 as the transactional net profit out of the $250,000 home purchase. The commissions that we'll be paying are pretty standard for what other investor buyers would pay, those that are at scale in a given city. Remember there are different pieces of commission. There is the commission that we pay when a listing agent brings us a home that we buy, there’s the commission that we pay to a premier agent when we buy a home, and then there is the commission that we pay to a premier agent when we sell the home. So, all those commissions are different but we will be paying commissions that are locally consistent with what other investor buyers pay at scale.

Much more important to the unit economics than the commission is, of course the other components of the transaction. So, what we pay for the home, what the live remodel is, and what we sell the home for and how long we hold it for, what the debt used in the transaction are, those things are actually even bigger determinants of the unit profitability and return on equity than even the commission.

And as I put in the prepared remarks, we think that there is an opportunity for significant return on equity from the Homes business given that we'll be putting 20% to 30% cash down and turning the capital at least four times a year. So, that's the math that we walked you through in the prepared remarks. Next question please.

[Operator]

Our next question comes from Mark Mahaney with RBC Capital Markets. Your line is now open.

[Mark Mahaney, RBC Capital Markets]

Two questions. One, when you think about the direct participation in the Instant Offers marketplace, how do you think about, Spencer, how do you think about balancing direct versus indirect, like is there an ideal mix between I guess 1P and 3P participation in the instant offers marketplace in the future? And then secondly, when you talk about these two newer initiatives on the Premier Agent side, and one is kind of better qualifying leads and then there is, I guess My Agent is kind of a new feature, is there any evidence so far as to what impact those are having on the Premier Agent business or is it too early to tell?

[Spencer Rascoff, CEO]

The strategic focus is clearly on first party, not third party, your 1P/3P reference. That's where we think we can really create a differentiated offering for a seller and a differentiated offering for a buyer when they are buying a Zillow owned home. So, that's the focus and that's of course the business that we are standing up in a couple of these cities right now, first in Phoenix and then elsewhere.

On the Premier Agent side, there are really two things that we have just launched a week or two ago. One is this lead validation effort where we are following up with the lead on behalf of the agent and confirming when the home shopper is available and interested in talking with an agent, and then we are calling agents serially so as to ensure that we get a premier agent on the phone.

The early data from those two initiatives is very good in terms of improving connections off a consumer inquiry. It's too early sharing that data, but we like what we see so far. We'll be rolling it out certainly by the end of the year, but we're going to roll it out as quickly as it makes sense. So far we are happy. Next question please.

[Operator]

Our next question comes from Tom White with D.A. Davidson. Your line is now open.

[Tom White, D.A. Davidson & Co.]

Just another question on the gross profit or the gross margin in Instant Offers, can you talk just a little bit about of those things that you enumerated, kind of where do you expect to – I guess what's the lowest hanging fruit, if you will, in terms of where you can drive efficiencies and improve that gross margin over time? And then you talked about advertiser account growth in the prepared remarks. Just curious if you plan to invest more in salespeople against kind of adding more kind of small, midsized agents or agent teams, just kind of the outlook there.

[Spencer Rascoff, CEO]

So, one of the [indiscernible] low hanging fruit is on the term time, and let me just try to use an example so you can get a sense of what I mean by this. I mean we have talked very hypothetically about how we believe we're advantaged in this space because we have access to home sellers to generate solid demand and we have access to home buyers to generate buyer demand of homes that we own.

But for example, on the first home that we'll be buying, or the first home that we signed a purchase/sale agreement last week, there are about 100,000 home shoppers on Zillow and Trulia every day looking at homes in that ZIP code and the surrounding ZIP codes. So, 100,000 home shoppers that might be interested in this home that we are going to own in short order.

There are about 5,000 people that have specifically asked us to notify of them when homes that match this type of criteria, that square footage, ZIP code, et cetera, those 5,000 people are waiting for an e-mail or a push notification that a home like this has come on the market. And there are about 18 homes that are currently on the market that look like this home that we'll be buying.

So, if you are one of those 5,000 home shoppers who has already looked at those 18 homes that are already in the market or you're one of those 100,00 home shoppers that are looking but aren't receiving notifications from us just yet, you are very interested in this home that Zillow is going to own and then bring back on the market just a couple of weeks later.

So, I think the lowest hanging fruit is to try to bring down that days on market by marketing and pre-marketing homes that we own and will own and also using that demand signal to make us a much smarter bidder on the front end, because we know what homes are likely to sell, because we know what buyer demand looks like, because we operate the largest marketplaces on the buy side. So, that demand signal is very important, a very important input to us on the bidding side.

The other pieces that go into the return metrics are of course around the actual renovation and remodel, what we pay, what selling fees are, et cetera. Those are all clearly important in the model but certainly utilizing our unique advantage of seller demand and buyer demand, that's where I'm particularly excited about.

On the Premier Agent side, the question about salespeople, we had a fantastic start to the year. Some of the numbers that are in the prepared remarks speak to this. I think we talked about the first four months being record bookings, advertising retention rate being at all-time high, and the number of new advertisers coming on in the first four months been the highest that we've seen in years. That was not by accident. That was through a lot of hard work. That was by growing the size of the sales team in Q4 and Q1 and by focusing our efforts and also partnering with important brokerages like Realogy and Berkshire Hathaway HomeServices with whom we have great partnerships and relationships among many others.

Where we go from here for Premier Agent, obviously I'm excited about the changes that we've already talked about on lead validation and lead connections. We think those have huge potential and already 2018 is off to a great start for Premier Agent without the impact of the new Premier Agent changes which just started a week ago in just one city and now we go ahead and roll that out more broadly.

So, Premier Agent is looking really strong and I'm excited for 2018. Next question please. Go ahead, if you had a follow-up on that.

[Tom White, D.A. Davidson & Co.]

I was just going to say congrats to Kathleen on the transition to retirement and thanks a lot.

[Kathleen Philips, CFO]

Thank you very much. I appreciate it.

[Operator]

Our next question comes from Ron Josey with JMP Securities. Your line is now open.

[Ronald Josey, JMP Securities]

Kathleen, congrats. Spencer, I had two questions around Homes and maybe you can help us better understand maybe just the size here. You talked in the letter to that 5%, what 5% of sales in a market in the U.S would look like. But to get there you clearly need to be in those markets and roll out and obviously get the scale. So, I'm hoping you can help us understand perhaps what types of homes you might be looking for, single-family versus condos versus townhomes, is there are limit or a maximum price you might be willing to bid on? And then also in the letter you talked about I believe the equity would decrease over time to 20% to 30% of the home value. I guess I would have thought that might be lower as time moves on. And so, can you just give us an insight as to why that's a right amount going forward and maybe how you might quarantine that on the balance sheet? Thank you.

[Spencer Rascoff, CEO]

So, the typical home that we're bidding on is kind of right down the middle of the strike zone. So, this is a something that's the median home value plus or minus 30% in any city. We have thrown out the number of 250,000 as pretty much the sweet spot. Single-family, detached, it's not super-luxury, kind of a pretty standard home in the given city that we are in. The way the housing stock falls, there are a lot more than 5% of homes that march that criteria. Obviously it's the median, so most homes match this criteria.

In terms of the amount of equity, we'll see. We are currently negotiating with several banks around the debt piece. The lenders have been extremely interested in this type of product, to say the least. I don't have anything to announce right now. Once that gets signed, we'll announce those terms of course.

As I described the vision of reducing days on market by taking advantage of our buyer demand, you can start to get a sense for how big the opportunity can get if the days on market comes down because we are essentially premarketing a home before we even bought it perhaps. And obviously, that speaks directly to the return on equity as well. So, we'll see what the steady-state cash debt ratio is, but for now we're kind of modeling 20% to 30%.

And then in terms of how to quarantine on the balance sheet, that debt will be non-recourse, so it will be secured by the homes not by the Company, and obviously the size of this opportunity is massive and far exceeds our current capital. And so, in order to achieve the types of numbers and potential that we are talking about, we'll have to raise other financing, but that comes much later. Jen or Kathleen?

[Kathleen Philips, CFO]

No, that was great.

[Operator]

The next question comes from Jason Helfstein with Oppenheimer. Your line is now open.

[Jason Helfstein, Oppenheimer & Co.]

Two questions. So, the first, why did you decide to go into Instant Offers alone versus with a partner? You had been working with a partner, so whatever you want to comment on that. And then the second, I mean the narrative out there is that younger buyers were basically rather rent new than buy old, which fits into the strategy. Just talk about if that's the case, how much modernization goes into these houses, do you need to have kind of a full contractor step in the market you are in, just help us understand a little bit more about the magnitude of local investment.

[Spencer Rascoff, CEO]

So, the reason that we are doing this as a first party buyer is because we think the size of the prize is so significant that we don't want to share it. We think that the numbers that I laid out of $1 billion profit opportunity on 5% market share, we think justifies the investment that we are making. I'm sure somebody else will ask it, so we'll come back in a bit to how this also bolsters our Premier Agent business, which is not an important point not to be missed.

In terms of the renovations, I think I want to be clear about this, because I think maybe this is a little bit misunderstood. These are not remodels. The way – we are not flipping, this is not a $40,000, $60,000, add a second storey, redo the kitchen, that's not what this is. The way to think about this is really a service to the seller, and I described it in the prepared remarks that way and that's really how we are thinking about it.

We are basically doing the type of touch-ups that a seller would otherwise have to do on their own while readying their home for sale. So, this is cleaning carpets, coat of paint, a couple of thousand dollar touch-ups to a home, and we can do that more cheaply of course than new homeowner, so we'll be doing it at scale, but basically we are just doing the work that was going to be done already and we're essentially charging a fee for that work and that fee is the net profit that we are making on the buying and the selling of the home. So don't think of it like a full remodel, think of it more as touch-up.

In terms of demographic demand, we think this product is going to be really attractive to home buyers, we already we know it will be, and especially in inventory constrained markets. One of the other interesting and exciting things about this is that by injecting liquidity into the real estate marketplace, we think we actually can create new transactions and kind of un-stick people from their homes. One of the reasons people don't sell is because they are afraid that there's nothing to buy. And if we come in and create more liquidity in the marketplace, we think we can help unstuck people from their homes. Next question please.

[Operator]

Next question comes from Brent Thill with Jefferies. Your line is now open.

[Alex, Jefferies]

This is Alex on for Brent. Just first on the full-year guidance for 2018 in the Homes segment, can you just discuss the market expansion plans that are baked into that number, any color on how many markets you'll be in by year-end? And then just quickly on the rental side, just anything you could discuss on the recent success you've had adding buildings to that space and any color on how big this business can ultimately become two, three years down the road?

[Spencer Rascoff, CEO]

So, on Instant Offers, the 300 to 1,000 homes that we talked about is, we could do that in any number of total cities. We haven't really decided yet exactly how many cities that will be. You could see us buy more homes in fewer cities or fewer homes in more cities. I think a decent kind of framework will be two to four markets by the end of the year, but we'll have to see of course.

In terms of rentals, we're off to a really good start for the year, 35% revenue growth in Q1. The new product launches take us deeper down the funnel, so moving into applications and payments and moving much closer to this 'press a button on your smartphone and have magic happen'. That's strategically the direction that we have moved with the single-family rentals as well as multifamily.

In terms of how big the rentals industry could be, certainly we are in our view very under-monetized relative to the size of our rental traffic. Our rental audience in tens of millions of [indiscernible], I think it's 30 something million, 35 million rental [indiscernible] at 145 million of revenue is very under-monetized relative to other companies with similar amount of rental traffic.

So, I'm not going to put a number out there for how big I think rentals could be other than to say a lot bigger than 144 million to 146 million, which is our guidance for the year. So, look for that number to grow in the future.

I'll take a couple of questions from Slido now. There was one question, more specifically about the mortgage experience for consumers needed to be changed and what is that new experience being put in place?

So, let's talk about mortgages. Mortgages had a weak quarter and we got it down in mortgages for the year. There are a couple of reasons for that, a couple of reasons in our control, a couple not in our control. The first that was in our control was essentially, we reduced, think of it as the ad load for mortgage promotion. So, if you use [indiscernible] Trulia, you'll see a lot of up-sells to go down the mortgage path, and in order to clean up the user experience and make it a little bit more focused home shopping experience, which of course helps the Premier Agent business when we generate more Premier Agent leads and home buying activity, we reduced the mortgage cross-sell on a number of our brands in a number of places. And so, that had the effect of reducing mortgage traffic, mortgage leads and mortgage revenue. So that's of our own making.

The other initiative in mortgages is that we continue to change the business or change the ad product to be more deep-funnel, high quality lower quantity leads. And so, this product of Connect is the successor to the Custom Quotes product. Custom Quotes basically let somebody shop for a mortgage in a quick off and to wish them well on that hand-off to a lender, and Connect is much more deep-funnel where there is more borrower qualification through software and through manpower and then handing off that much more validated higher quality lead to a lender.

As we have rolled out that product in 2018, we have promotional pricing to get it off the ground, which is another way of saying we have ineffectively a low cost per lead, lower than it should have, and over time you'll see that cost per lead go up because the leads are higher quality than the old less validated ad products. But for now, it's under-monetized as we roll out Connect.

And then number three out of our control is, mortgage rates continue to go up and of course that hurts our refi business, which is a relatively small part of the total business but we shouldn't – the mortgage rates clearly have at least some impact on our mortgage business. So, those are some changes in mortgages.

Next question from Slido I will give to Kathleen or Jen, which is, Kathleen, why is the full year IMT EBITDA margin guidance changed?

[Kathleen Philips, CFO]

Great. So, thank you, Spencer. So, a number of things impacted the full year guidance. We had some unanticipated pressure on EBITDA in Q1 for a couple of reasons. First, the impact of the miss on the mortgages outlook unfortunately impacted EBITDA. Second, unexpectedly high payroll tax expense and other related headcount expenses but primarily payroll tax because we had unanticipated [indiscernible] stock option exercises in Q1 by employees due to the strong stock price.

I'd like to put that in context a little bit because as a reminder we talk about this periodically. The bulk of the way we compensate our employees are through vesting stock options and RSUs. We think this is the right thing to do for the Company and for our shareholders, because it aligns employee incentives with our shareholders.

With the strong stock price, we are seeing employee [indiscernible] benefit from the tremendous work they've been doing over the vesting period and beyond through their option. So we saw an unexpectedly high level of exercises there.

Another impact as we noted in the prepared remarks was the impact of ASC 606 on EBITDA that reduced EBITDA by about 20 basis points due to the new approach with the accounting for commissions.

[Spencer Rascoff, CEO]

Next question from Slido is about the Premier Agent experience in New York including on StreetEasy. So, I think I'm not sure I 100% understand what the questioner is getting at. I think it's regarding kind of how the Premier Agent process is performing in New York.

So, everything we've been talking about with Premier Agent is consistent with how we are approaching New York. It's just with the addition that Premier Agent in New York is StreetEasy, Trulia, Zillow, and RealEstate.com rather than just those other three brands outside of New York.

So, the Premier Agent business in New York is doing great. The features like My Agent and the changes to the Premier Agent lead distribution model that I've just talked about will be coming to New York just like they are coming to every city in the country. Of course we are only in a couple of cities right now.

Is that the nature of the [indiscernible] question or is that [indiscernible] If there is other follow-up, please feel free to post again in Slido or just ask question on the call.

Okay, there's another question through Slido and I think maybe on social media also about the head tax in Seattle. So, for those not totally familiar with this, there is a proposal at the Seattle City Council to audit for companies with more than I think it's $20 million of revenue to have a $500 per employee head tax which would then phase into a payroll tax in a couple of years, and this new tax would be to address homelessness, the housing affordability.

This is a tricky one for us obviously. Homelessness and housing affordability is something that we understand deeply at this Company and care deeply about. In fact it's been the focus of our philanthropic efforts, it's something called The Home Project is our philanthropic initiative to address homelessness and housing insecurity.

That having been said, the proposed Seattle head tax we think is misguided and too blunt an instrument. The impact on us as currently proposed would be somewhere between $1 million and maybe up to $4 million a year a couple of years from now. And we are actively trying to decide where to put the next couple of hundred heads and this is the type of thing that causes us to consider looking at putting that expansion in other cities where we have large presence, cities like Phoenix, Denver, Irvine, Cincinnati, Lincoln Nebraska, and others.

So, we'll see. Hopefully the City Council or the Mayor's Office and the Seattle Business Community can work together to find other solutions to address housing affordability and homelessness, which are real issues obviously in Seattle and in most major cities.

Okay, next question, I think we'll go back to the call. Are there questions on the call, RJ? Okay, operator, next question please.

[Operator]

Our next question comes from Mark May with Citi. Your line is now open.

[Mark May, Citi]

Two questions please, one on Homes, [indiscernible] you laid out in the shareholder letter the opportunity here is potentially quite sizable, but if I understand it correctly, it could be even more so if you are able to capture some or all of the seller commission, and like you mentioned, you guys know where a lot of the potential buyers are, so I guess the question is, do you think that Zillow has an opportunity down the road to capture some or all of that part of the equation as well? And also had a question on the lead optimization product as well, but [indiscernible].

[Spencer Rascoff, CEO]

So, I guess the way that we will benefit from the demand side of the funnel is by selling these homes quickly and at a high price or higher price than if we didn't have access to the demand. We will also benefit from having the demand side of the marketplace by being a smarter bidder on the homes that we are buying.

The other piece of this, I would just actually read from the shareholder letter because I think it sort of nails what I'm getting at here. In addition, Instant Offers strengthens our Premier Agent business by delivering validated seller leads on the homes we don't buy, paying Premier Agent commissions on the homes we do buy, generating potential mortgage revenue on the homes we sell, and creating an amazing experience for consumers who sell to us and buy from us.

So, in a nutshell that's why Instant Offers is interesting and exciting. We think there is a huge opportunity in the Homes business itself and we think it's incredibly additive to the Premier Agent business and IMT. Mark, what was the next question on the Premier Agent business?

[Mark May, Citi]

On lead validation, I was just trying to understand the mechanics of how you will look to roll this out, like are you going to just, are all leads at some point in time in the near future going to go through this validation process? If not, how do you select which of the leads are validated? Just trying to understand the execution and the rollout strategy for those.

[Spencer Rascoff, CEO]

So we started in one city in Montana two weeks ago running leads through this system. It worked flawlessly. We've now expanded it for the rest of Montana and then we have expanded to a couple of states since then. And so, we'll go state by state until by the end of the year every lead and every premier agent and all consumers will go through this lead validation process and lead distribution process to Premier Agent.

And this is a similar rollout process that we've gone through the two times before that we have made big changes like this to the Premier Agent business, the shift to marketplace pricing and other big changes that we made to Premier Agent business, how we always rolled it out in the past.

And as you know from having been around the story for a long time, when things are going well with such rollouts, we tend to accelerate it more quickly than our initial conservative guidance. And for now it's going well so far and we're promising to have it done by the end of the year. Yearly results look great.

[Mark May, Citi]

And at a high level I assume one of the things that this does is reduce the number of qualified leads that you are handing off but increases the average price you are able to charge. Can you give us a sense of like in Montana what the impacts are, like how much has it reduced the volume but increased the price?

[Spencer Rascoff, CEO]

So it doesn't necessarily reduce the volume. Let me explain why. I mean sometimes it does and sometimes it doesn't. In the old world, when a consumer wanted to see a home, they would e-mail a real estate agent, e-mail a premier agent, and the e-mail would sit in that agent's inbox.

In the new world, the home shopper e-mails to that real estate agent and Zillow Group contacts that consumer and by text, e-mail now over the phone. Now, frequently that consumer is not actually ready to talk to an agent. They just had a question about the home, they were just kind of up-funnel, if you will. In the old world, that lead dies [indiscernible] because the agent typically doesn't do anything to incubate that home shopper. In the new world, we maintain that relationship with that home shopper until she's ready to contact an agent.

So, then when the consumer is ready to talk to an agent, whether it's right away or six weeks later, then at that point we call Premier Agent 1, Premier Agent 2, Premier Agent 3. So, it is a very significant change to how leads become or how consumer inquiries become at the very bottom of the funnel commissions. And so, you got to take these two pieces together, lead validation piece and then the lead disposition piece.

In terms of the early results, I'll just say it's dramatically improving the live connection rate. The chances of getting actual real estate agent on the phone are significantly higher when you call agents in this method. And on the incubation or validation piece, it's early because some of these [indiscernible] two weeks. So we don't have good incubation data but we are optimistic that it will also generate more contacts down-funnel when the consumer is ready to actually talk to an agent a couple of weeks or months later.

[Mark May, Citi]

That's really helpful. Thanks.

[Spencer Rascoff, CEO]

So, there is a question from Slido, I'll take it. It says, can you give us a sense of how accurate Zillow's valuation estimates need to be in a given market for direct participation to be viable such as the target margin there. Can you share any statistics on [indiscernible] prices in the Phoenix?

So I've looked at every offer that we've made so far and the Zestimates and the offer prices are very close, like there is no question that Zestimates are very accurate. In this part of the market on homes like this Zestimates are very accurate. So, they are close to each other.

How we charge for seller leads when a home buyer declines a Zillow Instant Offer? Great question. So, today we are passing these seller leads on really the request for a comparative market analysis to our partners at Realogy and Berkshire Hathaway and their local franchise affiliates and other brokerages they were working with, and we are doing that at Gratis. We're learning from that, we're seeing how agents win those listings, we're getting a better understanding of the funnel.

Eventually this we believe will become a large listing lead generation business, which will benefit IMT on the Premier Agent side. We aren't ready to announce how to actually monetize that. Whether it will be through the seller boost ad products where we are already selling ad product that generate listing leads on not-for-sale homes, whether it will be a brand new products, whether it would be sold at auction, through the agents, through brokerages, et cetera, there are a lot of ways that we can monetize this.

But if you just look at the data that we have on our funnel of how much consumer demand there is for instant offers, we know that we can build a big business that generates listing lead opportunities for agents and brokers from Instant Offers. Next question please.

[Operator]

Brad Erickson with KeyBanc Capital Markets, your line is now open.

[Brad Erickson, KeyBanc Capital Markets]

Just had a couple here. I guess just following on that last question, are you seeing any changes in the Premier Agent business in Phoenix and Vegas that you can call out since you voiced your public intent to go into those markets?

[Spencer Rascoff, CEO]

Actually I haven't looked at Premier Agent bookings data. I can tell you that, and I put it in the shareholder letter, the agent reaction to the announcement has been extremely enthusiastic. I think I mentioned we have 1,600 agents and dozens of brokerages that are on wait-list to participate when we take Instant Offers to their cities. We've done now about 30 I think in market meetings in many major cities where we have discussed Instant Offers and the changes to the Premier Agent business in detail with hundreds of local agents. So, we've probably talked in person to, I don't know, thousands, maybe even more than 10,000 agents in the last three weeks and the overall reaction to Instant Offers has been fantastic. So, it wouldn't surprise me if bookings in Phoenix, Premier Agent bookings are up, but to be honest, I haven't observed that personally.

[Brad Erickson, KeyBanc Capital Markets]

Got that, that's helpful. And then Kathleen, just on the guidance, seems like the losses related to the homes was maybe a little bit lower than when we chatted mid April. Does that reflect maybe a fewer cities you are going into this year, was there some other change from the last time we chatted?

[Kathleen Philips, CFO]

No, it's the same underlying assumptions in terms of the rollout of the product still focusing on that, and I realize it's a big range, but the 300 to 1,000 homes held at the end of the year. One thing that we have refined is allocation of some of our costs into the Home segment and that's going to continue to be a work in progress as we continue to operate this business and see how much employees are spending time on both products such that some of that cost associated with those services would be allocated to the Homes segment versus IMT. But in terms of rollout, to answer your specific question, no, the assumptions are the same.

[Brad Erickson, KeyBanc Capital Markets]

Got it. So, just to clarify that, I think on the last call you had said, correct me if I'm wrong, but $10 million to $15 million of EBITDA investment effectively that was contemplated in the original full-year guidance for Homes, but obviously that was prior to announcing it. Is that right?

[Kathleen Philips, CFO]

I think that the 15 to 20 that we signalled was actually the expenses that we expected to allocate into the Homes segment. It wasn't a reference to the EBITDA. And we ended up in that range in terms of the allocation, but as I said, it will continue to be a work in progress. So, you will see some variations in that as we move through the year and through the implementation.

[Brad Erickson, KeyBanc Capital Markets]

Got it, thanks.

[Operator]

Our next question comes from Heath Terry with Goldman Sachs. Your line is now open.

[Heath Terry, Goldman Sachs & Co.]

I was a bit surprised to see the guidance for Homes in Q2 just given that you have been testing this for a while, is the guidance that you gave sort of absent of that testing or is it really the testing was so small that it effectively rounds to zero in the second quarter? And then Spencer, on the featured listing side of things, that it was talked about before, always seems like a big opportunity is the real estate that you have in the sort results for home search. Any reason that we are not seeing that progress further or limitations that you can talk about there?

[Spencer Rascoff, CEO]

Yes, great question. So, firstly just on the Q2 question, it's not in the Q2 revenue because we only book revenue when we sell and we are not forecasting that we'll have sold anything in Q2. We will have bought homes in Q2 but they won't have come out the other end and already sold in Q2.

So, the other question is about merchandising Zillow owned listings is sort of a layout for me, which is why I'm laughing, because it's the other benefit from moving into Instant Offers is that we will get really good at merchandising particular listings and helping to move that product and we expect that we will productize that type of merchandising and it will probably over time become a listing promotion product, sort of like our Premier Agent direct product today but even more effective.

We've seen companies in other countries of course get really good at merchandising certain types of paid listings and we will be following that lead with our own inventory and then probably over time productize this and make it available as an ad product for listing agents. Next question?

[Operator]

Next question comes from Jon Lanterman with Morgan Stanley. Your line is now open.

[Jonathan Lanterman, Morgan Stanley]

Just a question on My Agent, you rolled it out late last year and had positive things to say last quarter. Any update here with three more months under your belt? And then on G&A spend, it was down sequentially just a little bit. Anything that drove kind of savings here?

[Spencer Rascoff, CEO]

Jen will take the G&A one. I'll do My Agent real quick. So, My Agent is doing great. We have thousands of agents connected. Actually maybe it's more than that, maybe it's tens of thousands now. And in those connections we see a higher retention among those advertisers and we see higher connection rates with their home shoppers and therefore we infer higher ROI for that ad spend. We run tens of thousands of leads through My Agent now which are tens of thousands of leads that otherwise would've gone to non-connected agents and have been impossible to convert for those agents. So, we're excited about My Agent. It's part of the whole Premier Agent stack and it connects beautifully with the way the Premier Agent net works and the new [indiscernible] distribution method. Serially it's multiple agents in order to ensure connection. Jen, on G&A in the quarter?

[Jennifer Rock]

Sure. So, comparing the Q1 of last year, we did have an increase in G&A of like 10.6 million. Comparing to Q4, I would say there was nothing super notable, perhaps just small decreases in legal costs. With regards to the IMT segment in particular, you would see G&A come down just a touch because of costs being shifted to the Homes segment, but I would say there is nothing else notable.

[Operator]

Next question comes from Lloyd Walmsley with Deutsche Bank. Your line is now open.

[Lloyd Walmsley, Deutsche Bank]

Two if I can, first just on the Homes space, there is some pretty well capitalized private players. Wondering if you can just comment on kind of how you view competition in this space, probably if it might make sense to invest more aggressively to get into more markets and get ahead of the competition? And then second one, following up on Ron's question from earlier, if you kind of look at the true addressable market, maybe stripping out home values that you are not going to be bidding on or regional areas that don't make sense, any rough sense of what percent of the addressable market you guys really can attack with the new model and maybe you could walk us through kind of the funnel as you narrow down the market based on key attributes you're looking for? Any color there would be helpful.

[Spencer Rascoff, CEO]

So, obviously we're moving with urgency against this opportunity, not for competitive reasons but because we think the opportunity is that large and it merits it. We have a huge advantage because we have consumer audience in every city in the country. So, we're going to move as quickly as we can but we're also going to move prudently and we're off to a good start. We're now running at it very, very quickly. And I think importantly, it strengthens the core business. So, I'm not worried about cannibalization. In fact, the faster we can roll it out, the more successful we can make the Homes segment, the more we'll strengthen it and improve the Premier Agent business. So, those are some thoughts on the competition.

In terms of addressable market, again, we really don't know because we're helping to create a new service here. Now we believe that the service is appealing to a lot of people. What we learned from a year of testing the marketplace model is that a lot of homeowners are very interested in comparing a hassle-free highly certain sale process with a traditional longer lead time uncertain sales process. And being able to compare those two is really eye-opening for homeowners.

So, we think the addressable market is much larger than the homes out there that are able to be addressed by a traditional home flipper, homes that can be bought in a distressed situation, that need a lot of work, I mean that's not what this is. We think this is a service that's appealing to most home sellers. Really almost every home seller is faced with this type of effort. And now we're not going to – I don't foresee a situation where we're bidding on homes that are more than $1 million or very unusual or very unique.

So, it probably can't be 100% of the market that is addressable, but I do think it's a lot more addressable than a typical flipper might look at it because of the way we are thinking about the service Next question please.

[Operator]

Next question comes from Tom Champion with Cowen Your line is now open.

[Thomas Champion, Cowen]

Thanks for the color on unit economics related to Instant Offers. I'm just curious if you are monetizing Instant Offers at all today. Is there an opportunity there when you're not the ultimate buyer or does this aspect of Instant Offers go away? And then Spencer, maybe taking a step back and I'm curious if you could comment on the market which is characterized as supply constrained. How does this relate to the Premier Agent business, if at all?

[Spencer Rascoff, CEO]

So, today we are not monetizing homes that we either choose not to buy or homes that we bid on and the home seller chooses to turn down our offer. in the future there will be three forms of monetization from Instant Offers in addition to the Homes segment monetization of buying and selling homes. Those are; listing lead generation, which will directly feed into the Premier Agent business; mortgage revenue, which will directly feed into our IMT business, that's mortgage origination and advertising revenue from homes that we sell; and number three, and this is more speculative, but I suspect that the merchandising that we'll be doing on Zillow owned homes will become a platform paid ad product for listing agents to promote their own listings as we get better at figuring out how to merchandise a home.

Think back during the call when I said on the first home that we are buying there are 100,000 daily people visiting Zillow and Trulia that are interested in that home, 5,000 of whom get e-mails when new listings match and there are 18 homes that are on the market that are similar to that listing. Imagine if you were a listing agent in that market with one of those 18 homes or maybe the 19th home, how much would you pay to get that home in front of the 5,000 home shoppers that get listing alerts for homes like that, or to make sure that the 100,000 people on Zillow and Trulia that are looking every day at homes like that to make sure that they see your home. I think you'd probably pay a lot. And Zillow owned homes will of course benefit from that, but I think that can become an abrupt over time too.

The second part of your question was about housing inventory and housing inventory is very, very constrained there in many markets in the country where we're at record low inventory levels of less than a month. And as I said, we think Instant Offers has the potential to create new inventory to unstuck people from their homes by giving them a certain sale and that creates new inventory which we can then bring on to the market.

In terms of how housing inventory, low housing inventory levels are impacting the Premier Agent business, we haven't seen it impact the Premier Agent business directly. I know it's in there somewhere in a couple of ways. So, when a Premier Agent gets a buyer lead, it's harder for them to earn a commission check because there are fewer homes for that buyer to buy and so that agent needs to work harder and longer with that buyer before generating a commission.

On the other hand, when an agent gets a listing lead from us, that listing sells more quickly, so that's a more quick and certain commission than ever before for that low inventory. So, there are some puts and takes and it's really hard to know what impact inventory level has on the Premier Agent business. I guess the other benefit would be agents feel flushed because agents are doing great, and when agents feel flushed they tend to buy more advertising. So, there are puts and takes on the inventory levels.

I think, operator, maybe one more call. Are we done? Okay. So, thank you. Kathleen, thank you for your immense contributions to Zillow Group. You will be missed and I know you won't be farther. This is an innovative time for us there, a lot of exciting changes to the Premier Agent business, Instant Offers opens up a huge market opportunity for us. The Premier Agent business, rentals and new construction, are all killing it and off to a great start for 2018. Thank you, investors, shareholders, analysts for not asking any boring or boneheaded questions, I appreciate that and I look forward to talking to you on the next call. Thanks a lot.

[Operator]

This concludes today's call. Thank you for your participation. Have a wonderful day. You may all disconnect.