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Valuations: Why is the Concentration of Sales Important?

Oct 5, 2020 8:27:09 AM

There are many factors that affect marketability and must be considered when performing brokerage valuations. An important factor is concentration of sales. 

In residential real estate, the concentration of sales is simply how spread out listing and selling activity is among active agents. Why is this important? The simple answer is that it allows you to hedge risk.

Residential real estate is a unique business where a firm’s primary asset is its people. Since these people are independent contractors who have no contractual commitment to the company where they hang their licenses, it’s important to understand the impact each agent has to the bottom line and how it would affect the firm if they departed.

Reviewing Agent Productivity Reports

In order to perform a proper analysis on this, it’s imperative to review agent productivity reports. Since brokerage valuation is based on the last 12 months of financial performance, we pay particularly close attention to this period. 

To illustrate, let’s look at a firm with 100 active agents. In a perfect world, these 100 agents are each responsible for 1% of Company Dollar. The concentration of sales is equally distributed among all agents, which would provide the lowest possible risk profile. Losing any single agent or a handful of agents would have what we’d consider to be an immaterial impact on the company (our general rule of thumb on being material is 10%+).  

How Concentrated Are Sales?

As we all know, perfect worlds do not exist, especially on the sales concentration side of things. As is standard for most firms, top agents and teams naturally carry a heavier load. For this reason, we need to understand just how concentrated sales are at the top. 

For example, a firm with 10% of its agents responsible for 75% of production is going to have a much higher risk profile than a firm with 10% of its agents responsible for 35% of production. The firm with the higher concentration is more at risk if they lose a top agent or two. This firm might see a lower multiple and more buyer-friendly transaction terms.

Supplemental to productivity data, we also request In/Out reports as part of our valuation analysis. Before we ding a firm for concentration issues, we want to wrap our minds around churn. Since agent churn is commonplace in running a residential brokerage firm, it’s important to understand the in concurrent with the out. If it appears as though newly recruited agents will replace all or most of what the departed agents were responsible for, then a ding would not be necessary.

The bottom line is that there are numerous factors that are considered as part of a brokerage valuation. Concentration of sales is one that can be very impactful, especially for smaller firms. Contact us today to find out more about our valuation services!

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