Zillow Group (NASDAQ:Z, NASDAQ:ZG) heads into a key earnings report on Thursday afternoon. The Zillow stock price has rallied nicely from December lows, rising some 37%. But ZG stock has also plunged after its last two earnings reports. ZG went from $64 in July to $26 in December before the recent rally.
The rising Zillow stock price implies rising expectations ahead of earnings. That looks potentially dangerous, since there’s no shortage of worries surrounding ZG stock at the moment. U.S. housing market growth has slowed, leading to declines in several housing-related stocks. Those worries are amplified by Zillow’s move into what looks like house flipping.
And ZG stock is hardly cheap: even backing out net cash, the stock trades at 3.5x 2019 revenue estimates and around 100x consensus EPS.
The combination of rising risks and a rising stock price sets up a hugely important earnings report. Zillow Group has a chance to change the narrative surrounding itself — and to drive a big spike in the Zillow stock price. But if the outlook for 2019 disappoints, it will take a long time before it recovers from a third straight earnings miss.
Zillow Earnings Expectations
Zillow itself is projecting a strong fourth quarter. Guidance given with the Q3 earnings report did disappoint, leading to a decline in the Zillow stock price. But the company still should post strong revenue growth, with guidance suggesting a 20%-26% increase year-over-year. Street consensus sits toward the middle of the range, at 24%.
Where Zillow has some room for an upside surprise is on the bottom line. Guidance is for Adjusted EBITDA of just $26 million-$38 million — down sharply from $71 million the year before. In the Q3 shareholder update, the company cited higher-than-expected recruitment and retention spend as a key factor. But it’s possible, given the low guidance, that Zillow could outperform.
There are two more key data points to watch. Zillow will release guidance for full year 2019, which will be closely watched. Analysts are expecting that margin pressure to continue, with 2019 EPS expected to decline year-over-year. If Zillow can project some level of earnings growth next year, that could be enough to spark a post-earnings rally.
On the other hand, there’s a less-notable figure that could move the market. After Q3, Zillow forecast that it would hold 300 to 550 homes in inventory at the end of the quarter. That inventory will come from the new Zillow Offers program. If that figure is higher than the company expected, it could suggest that the company is struggling to move the houses it has bought. And that alone could spark a sell-off in ZG stock.
Explaining The Story Behind ZG Stock
Beyond the numbers, the fourth-quarter report is an important opportunity for Zillow management to explain its strategy. Zillow Offers clearly has turned off investors so far. The effort will require significant capital, pressure margins and add risk. And as Bloomberg detailed last week, competition is intense, with private firms including Opendoor and Offerpad targeting the market along with publicly traded rival Redfin (NASDAQ:RDFN).
The initiative also seems to work at cross-purposes with the existing business. Zillow certainly seems like it’s competing with the realtors trying to buy and sell homes through traditional methods. The company insists that’s not the case – so far, investors disagree.
Overall, there are clear questions about the direction in which Zillow is heading, a key reason ZG stock has struggled. Costs are rising. Premier Agent revenue disappointed in Q3, and Zillow lowered guidance on that front ahead of Q4, with the tighter housing market leading some agents to pull back on their spending. Higher “churn” — customer losses — suggests competitive pressure and/or a general dissatisfaction with Zillow’s offerings.
Particularly with the bounce since December, Zillow stock is not priced for a lack of confidence. It’s priced, on an earnings basis at least, like fast-growing, high-flying online players like Wix.com (NASDAQ:WIX), Yelp (NYSE:YELP) and GrubHub (NYSE:GRUB).
And so Zillow needs a big report on Thursday simply to keep that valuation intact. That goes beyond simply beating Wall Street expectations. Zillow needs to convince investors that its long-term strategy is worth short-term pain. Numbers alone won’t be able to accomplish that.
As of this writing, Vince Martin has no positions in any securities mentioned.