The risks and rewards of the online agency business model

11 December 2018

There's been a lot of debate over whether the business model of the online agency can actually work. We analyse why online agencies are betting on growing very big, very quickly, and how this could impact traditional High Street agents.

The ultimate goal of the online agency is scale. It’s a risky play, but it can also be a rewarding one, which is why every single online agency makes the same bet. Sometimes the bet wins and sometimes it doesn’t. But, despite recent headlines claiming otherwise, it doesn’t mean that the business model of the online agency is totally flawed.

Online agencies are just start-ups by another name. Like all start-ups - from Uber to Deliveroo - their goal is to find a repeatable and scalable business model, which means they can become very big, very quickly, without the corresponding investment in shopfronts, head offices and fleets of cars that a traditional brick-and-mortar business needs to grow.

To do this, online agencies charge a lower fee to market, sell or let their customers’ homes from the outset, which might not cover their costs at the beginning. However, they could be selling tens of thousands of homes within a few years, without adding to their fixed costs.

Once they reach this scale, even a small increase to their prices or a decrease in their unit costs could result in millions of pounds of net profit. We see this everyday in technology companies all around the world. Take Amazon - they sold products at a loss, not expecting to make a profit for four or five years, because they knew once they became the best at the world in logistics, the cost to fulfil orders would eventually come down and their gross margin would improve, making them hugely profitable - last year they made US$3 billion. The possibility of huge profits is why investors are willing to back these companies to the tune of millions of pounds.

This is where it gets tricky. Online agencies need a hell of a lot of funding from investors to reach this scale. They need to plow money into online advertising to build their brand in the hope that, once they’re big enough, consumers will see their brand as being synonymous with renting or selling houses and they can cool off on their Google Adwords spend. This is where things can go wrong.

They need a lot of confident investors who have strong commitment to scale and are willing to put their money where their mouths are. But investors can get nervous and pull out if they believe the business is taking too long to reach the forecasted scale or is unable to improve margins quickly enough.

If the worst happens, this leaves the business with poor margins and no money to grow - to continue with the Amazon example, their “slow” growth allegedly caused concern amongst stockholders who believed the company wasn’t reaching profitability fast enough to justify their investment or even survive in the long-term. It's this pressure from investors that can cause online agencies to act in ways that might seem aggressive to a High Street agent.

What makes things even riskier for online agencies is, unlike High Street agencies, they don’t have a storefront to fall back on to advertise their properties if the portals they rely on hike up their prices. Plus, it’s inevitable that with so many competitors in the ring some are going to get knocked out along the way, leaving only a handful of online agencies standing.

But even if some online agencies successfully reach their intended scale, it doesn't mean High Street agencies will disappear. High Street agencies will struggle to compete with online agencies on price, but online agencies will never be able to compete with High Street agencies on service.

Letting agents on the High Street can offer a level of personalised service that online agencies simply cannot because of the way their business model works, most importantly, bespoke, on-going advice based on experience and knowledge of the market and products tailored to the needs of their landlords and tenants. 

Being unable to provide this level of service will be a real challenge for online agencies. Although the scalable business model does work incredibly well for small, regular purchases, like buying products on Amazon, how well it will work in the property industry is still up for debate.

Selling and letting property is a much more complex transaction, bound up with legislation, emotion and huge amounts of investment, which is the reason landlords, renters and home-buyers rely on agents to guide them through the process... and what makes this model of pile ‘em high sell ‘em cheap a risky one. Time will tell. 

Further reading