Commercial Real Estate Tech firms | why aren’t they growing faster?

I just read an interesting article posted on Twitter written by Konrad Putzier (CRE Tech: A Promise Unfulfilled) published by The Real Deal, New York Real Estate News. The article covers the surge in CRE-related tech startups over the last decade and how most have failed to live up to the valuations and market dominance that was expected.  It’s a concise and provocative piece. It can be found here:  http://therealdeal.com/2016/08/05/cre-tech-a-promise-unfulfilled/#proptech

Mr. Putzier did a great job of putting the CRE tech industry in perspective relative to VC investors and their expectations. However, there is more to this story and it led me to contemplate why do tech companies have so much trouble getting adoption from the CRE industry? I’ve been in the commercial real estate business since 1990 and involved in CRE tech since 2000 and this has always been the problem. But why??

Let’s start with some history. Prior to 1985, technology in our industry amounted to a phone, an HP-12C calculator, a Mapsco, a Black’s Guide and WordPerfect/Lotus 123/Harvard Graphics. If you were remarkably forward-thinking, you might have a phone installed in your car. Then came the first wave of technology and it was wildly adopted. In a virtual blink of eye, we had MS Office, email, mobile phones, and technology vendors offering all sorts of point solutions (applications that address one particular need). Property managers were now using software like Timberline, Skyline and Yardi to manage their portfolios and rents. Brokers were introduced to the intoxicating joy of tracking their contacts on Act! or Goldmine. Investors could run complicated financial analyses on Argus and compare leases on ProCalc. There were mapping applications, demographic applications and improved graphics packages.

Relatively speaking, the industry had been liberated from the dark ages by the end of the 1990s. The point is this:  the CRE industry adopted the technology it viewed as mission-critical. The subsequent technologies were, and in many cases still are, just improvements to what we already have. And if there are two universal truths about most of us in commercial real estate, we don’t want to spend more money and have to learn something new.

The key takeaway from this historical overview is that the initial technology introduced to CRE dramatically changed the execution and management of the CRE business. Essentially, we were taught how to do more and do it better without the vantage point of a true comparison. To illustrate this point, if I could go back in time and give a caveman the simple technology of matches, his life and the lives of countless others would be dramatically altered. He had fire before I arrived, but he had to work hard for it. Now if I show up a few years later and offer him a lighter, the improvement value of the innovation is not nearly as impressive. Prior to matches, the value proposition was vast. After matches, just another method of starting a fire is not comparably impressive.

Now that the stage has been set, here are several key factors I believe are driving the slow acceptance of some technologies by the CRE industry.

Why Aren’t CRE Tech Firms Growing Faster?

1. Commercial real estate is deceptively complicated. There was a quote in the article describing the CRE industry as “fairly nuts and bolts” and questioning how much technological advancement the industry really needs. On the surface, the real estate business seems pretty basic; you build or buy a property, either occupy or lease it up, hold and/or sell it. We all use terms like square feet, lease term, lessee/lessor, and classify properties by uses such as office, retail and industrial. So how hard can it be to design and develop software to better manage and automate an industry that is so straight-forward? It is unbelievably difficult. CRE is such a truly vast industry, in some ways it’s not an industry at all, but more like a conglomerate of many industries that occasionally work under the banner of real estate. I don’t know of a business that relies on more diverse skill-sets to operate and manage CRE process and many of the people involved are contractors with their own business models. There is also no standardization of terminology, processes, documentation, analysis/valuation, property types or configuration. The simple act of creating data fields in an application becomes a challenge because users in various regions of the country have differing expressions for the same term. The lack of standardization makes it very difficult to design applications that speak to a majority of the potential users. This is why you see so many CRE organizations build their own systems. It’s because they view their world in a way they feel is unique and not adequately addressed by off-the-shelf technologies. This is also why we see so many point-solution technologies in the market, because it is simply too challenging for most to incorporate multiple functional disciplines into one app. The key to developing applications that are valuable to a broad audience in CRE is understanding the people and processes so well that the commonalities can be identified and distilled into a system that enhances CRE processes with minimal apparent change. To do this, you have to know the business and be a student of the industry.

2. It’s an evolution, not an invasion. All too often the investment community bases CRE tech startup valuations and growth expectations on other technology startups that are proven successful in other business sectors. We live in a social media culture where remarkably simple applications are developed in mere weeks and served up to the world. Little time and effort is spent on quality control, bug testing and security. The thought is to get it out there and let the users test it for you and enhance the product on the fly. Some catch fire and most barely get noticed. We’ve all heard about the fortunes made this way and so have the angel and VC investors. This is also why companies, such as Trulia, Zillow and LoopNet who are cited as the big real estate tech success-stories, target consumers. CRE and residential terminology can be boiled down in a manner easily digestible by the consumer. This does not apply to the business side of CRE. There is no rapid-fire viral invasion for business automation technologies. The CRE industry doesn’t operate that way. Real estate is a slow, methodical culture led by people who operate in a world of tremendous risk and they view new technologies through the same lens. The business model for these CRE technology vendors is much more traditional and takes time. It takes time to develop a great product, time to promote and brand, and even more time to sell enough to gain traction. Add to this the inherent learning curve and product alterations and enhancements that will be demanded and the growth cycle looks more like an evolution than an invasion. The article suggested it is the tech firms who have failed to fulfill the promise of expected returns. I would say it is the failure to understand the complexities of the CRE business that allowed expectations to be misplaced.

3. Diverse users. This is a close relative to my first point about CRE being complicated. It is easy to think of real estate management as being relatively agnostic to the user. This is a major fallacy of many tech startups. There are three major consumers of CRE technology and they all have symbiotic relationships with each other. They are landlords/REITs (owners), corporate users (tenants/occupiers) and service providers (brokers). Although they share the processes and operational management of the same real estate, they view it very differently. Landlords are concerned with profitability, tenants with expenses and flexibility, and brokers with clients and deal-flow. Designing an application that speaks to all constituents is nearly impossible (note I said nearly). This forces tech firms to pick a segment and hope there is enough growth to sustain a profitable business. But this conflicts with the market dominance investors want and promotes fragmentation in an industry already fragmented enough. Overcoming this issue requires tremendous understanding of the industry to such a degree that developers can see past the disparities and identify the parallels sufficient enough to navigate the blocks.

There are certainly other challenges we all face in trying to serve the CRE industry, but it’s important to focus on the challenge and not the impossible. These technology and software companies that are out there innovating the CRE space have spent immeasurable time and thought behind the logic of their applications and they have my sincere respect.  It is difficult, but ultimately there will be firms that will figure it out and thrive, even become market leaders and because CRE is so complicated, their applications will become world-class.

Incidentally, I was attending a real estate technology conference in June where I heard a venture capital panelist make a comparison between whether he would prefer a startup with management who knew technology or real estate. He said he would choose a management team who was experienced in the technology industry over CRE because, as he put it, “they can always learn the commercial real estate side of the business”. I rest my case.