The real estate industry is one of the world’s oldest. Since the dawn of time, land has traded hands using various mechanisms for purchase or sale. While the real estate sales process has certainly evolved over time, most of the transactions completed over the past few decades have been handled in a traditional manner. Brokers and attorneys helped arrange the transaction on behalf of buyers, with generally risk-averse lenders providing the debt needed to finance the deal.
The ”traditional” way of doing things kept the barriers to entry relatively high. Only a select group of people have had access to some of the best investment opportunities as a result.
Today, digital transformations are opening the door to investors of all kinds. In this article, we look at how various technologies are changing consumer behaviors and in turn, shaking up the industry before our very eyes.
What is “digital transformation”?
Digital transformation is the process of restructuring an entire organization around a digital approach. It forces companies to rethink their entire business model, supply and value chains, and operational structures. These changes are not just found on the corporate side – it has also shifted consumer behavior as well.
Most companies began adopting digital technologies more than two decades ago. However, only recently have companies begun reshaping their entire business around today’s digital world.
While many of these activities seem obvious today, we question whether current market measurement metrics used by economists accurately factor in the various transformations that have occurred. As an example, during the last housing crisis, companies like Zillow were just emerging, and much less accessible/accepted by the masses. Have economists properly factored in these digital transformations? Can we look at the current reality through an old lens? To explore this topic, we start with 5 major digital transformations impacting real estate today.
The Top 5 Digital Transformations Impacting Real Estate Today
There are many ways in which technology is impacting the real estate market. Here are 5 specific digital transformations that we’re watching closely:
1) Access to Big Data
The rise of big data is transforming every aspect of the real estate market. Consumers can now easily navigate websites like Zillow or CoStar to find properties for sale. With the click of a button, people can look for properties based on finely-tuned criteria: product type, square footage, land area, proximity to transit, cap rates, and more. They can then look at how one property compares to others based on recent comps—again, with recent sales data now readily available from the comfort of a person’s home. Historically, this information was held closely by only a select number of brokers. Those who wanted access to this data had to sift through paper files at the Registry of Deeds or rely on otherwise incomplete information.
Big data can also be used by real estate developers. They can easily assess not only where to build, but what amenities potential residents would like in their buildings. They can also decipher how much a person is willing to pay for those amenities, and can conduct a robust cost/benefit analysis when making capital improvement decisions.
A third way big data is impacting the real estate industry pertains to operations. Smart home technology, the rise of “PropTech” and other innovations provide robust data about a building’s or management team’s performance. For example, on the building side, we can look at energy consumption patterns and make more informed decisions about property upgrades that would lower utility costs. On the management side, we can compare one property’s leasing velocity to another to determine the effectiveness of the team’s marketing strategy.
2) Faster Transaction Cycles
The real estate transaction process is notoriously slow. At least, that used to be the case. Today, big data allows people to make decisions faster. Once they’re ready to move, they can do so faster given the rise of various digital technologies. For example, real estate offers to purchase and letters of intent can be signed and submitted electronically. Deposits can be wired instantly. Loans can be originated quickly, with lenders able to review digital files faster than their paper counterparts. Documents can be signed and notarized in a matter of minutes. In some cases, documents can be generated automatically.
The digitization of the real estate transaction process allows people to buy and sell properties faster than ever before. In most instances, this proves to be beneficial. On the other hand, it forces prospective buyers to act quickly. This can shorten the traditional due diligence process, something that increases risks for those who do not know how to evaluate deals quickly, efficiently and with a close eye on the details.
3) Rise of Social Media Influencers
Social media has had a significant impact on the way consumers, including real estate investors, spend their money. The rise of social media “influencers” – people who have large followings and who are often paid to advertise products – is already being felt in the real estate industry.
For example, an entrepreneur with a large social media following might showcase tutorials on how they’ve flipped homes for a profit. They’ll talk about how they find deals, make quick and relatively inexpensive improvements, and then sell to someone else looking for a long-term hold. This strategy is attractive to many young, first-time investors who may feel compelled to embark on the same path with the hope of earning a quick profit. However, as any real estate professional knows, house flipping is NOT easy. There are many risks and unknowns that can cripple an investor who is unprepared to handle unforeseen obstacles.
Most of today’s social media influencers are also very young. They have not yet endured the ups and downs of a typical real estate cycle. Therefore, it is easy for them to “sell” real estate investments, training courses or other real estate products to their followers—because on paper, they’ve done well during this latest real estate boom. They can push their followers to invest in a deal at a 2% cap rate because after all, “prices will just continue to rise.” Until they don’t. Eventually, there will be a market correction (who knows when is anyone’s guess). When this time comes, people who invested in marginally lucrative deals may regret not investing with a more seasoned real estate sponsor.
4) Proliferation of Real Estate Crowdfunding Platforms
Changes to federal legislation have made it easier than ever for sponsors to raise capital for their real estate deals. Previously, sponsors could only raise money from accredited investors with whom they had a pre-existing relationship. They were not allowed to engage in “general solicitation,” i.e. – online advertising. The 2012 JOBS Act changed all of that and in turn, led to the proliferation of real estate crowdfunding platforms.
Today, real estate sponsors can advertise their deals on many platforms to amplify exposure. These platforms provide a way for sponsors to raise both debt and equity, for individual deals as well as for funds that then invest in an array of real estate deals. Individuals can then fractionally invest in deals alongside those sponsors with as little as $10,000. Some platforms require investors to be accredited; others do not. Oftentimes, whether someone needs to be an accredited investor depends on the sponsor and the specific opportunity.
In theory, the proliferation of real estate crowdfunding platforms is good for consumers. People now have access to investment opportunities they never would have uncovered otherwise.
Yet these platforms also have some shortcomings that investors need to be cognizant of. For example, most of these platforms are simply software solutions for real estate marketing. The platform acts as a “middle man” that earns money through the fees they charge sponsors in exchange for featuring their deals. While most RE crowdfunding platforms provide some initial due diligence on every deal, there is no guarantee that these deals have been fully vetted with any rigor. Some platforms are structured to prioritize transaction volume, which can lead to shoddy underwriting and due diligence in turn.
That notwithstanding, crowdfunding platforms have still earned their place in today’s real estate industry. Investors should simply be aware of the capabilities and services offered by each platform. They should still do their own due diligence, as well. When in doubt, investors may want to invest alongside a seasoned owner/operator that has a track record extending back prior to the advent of online crowdfunding.
5) Blockchain and Cryptocurrency
When it comes to blockchain and cryptocurrency utilization in real estate, we are still in the nascent stages. However, we expect to see more robust adoption of these digital technologies in the years to come.
Blockchain platforms have the potential to both accelerate transaction speed as well as reduce the risk of transaction fraud. As blockchain becomes more prevalent, we will be able to use blockchain to access a property’s entire sales history with remarkable accuracy.
Blockchain can also be used to create smart contracts that are highly secure and cannot be modified. Smart contracts are usually the precursor to the exchange of virtual currency, like Bitcoin. The details of these contracts then live within the blockchain and will be tied to the property’s other stored information (including but not limited to land surveys, appraisals, architectural drawings and more).
According to a recent study by Deloitte, blockchain-based contracts have the potential to eliminate the need for third-party intermediaries (brokers, attorneys, etc.) altogether. This would result in significant cost savings for commercial real estate investors and developers.
Cryptocurency will have a similar impact on the real estate industry. People can transfer money faster and more securely than they could using the traditional banking system.
Cryptocurrency may also allow for properties to be tokenized and exchanged for a fiat currency – a new fractional ownership model that is just now starting to emerge.
There’s been a lot of speculation that we’re in a real estate bubble that is about to burst. There are some similarities between the economy today and the economy leading up to prior recessions. However, it is important to bear in mind that today’s economy looks much different than the economies of yesteryear. Digital transformations like those featured here today are fundamentally reshaping the real estate industry, the impact of which we believe economists may be underestimating These digital transformations make it difficult to make an apples-to-apples comparison of today’s market to that of years past.
If nothing else, today’s CRE owners and operators have more data at their fingertips and using that data, they can leverage a variety of new technologies to respond to changing market conditions in real-time.
Follow along with us as we explore these various transformations in our series on Digital Transformations within the commercial real estate market.
To learn more about HLC Equity’s approach to digital transformation, contact us today!