WeWork: from unicorn to almost bankruptcy

6th November 2019  

by Ascanio Orombelli



Just over eight weeks ago, the co-working giant WeWork was considered the most promising technological startup in the United States. With a stratospheric valuation of $ 47 billion and with an extremely ambitious founder and CEO like Adam Neumann - his goal was not simply to make money or rent office space, he said, but «to change the world» - WeWork had become a clear symbol of Silicon Valley’s unlimited boldness and exemption from economic laws.

However, since August 14th, when the New York-based company filed the S-1 to the SEC for the IPO, everything has changed. The documentation released by the company revealed a series of conflicts of interest and mismanagement by its magnetic and eccentric founder, as well as a very delicate financial situation. At that point, investors, journalists and analysts thought back to the Theranos' fraud, and to the difficulties of Uber and other recently quoted tech companies to hold the passage from private to public company. Neumann’s IPO dreams fell apart, and the Israeli guy who had always dreamed of becoming «the first trillionaire in history» had to step down from his function as CEO. Now he is selling one third of his shares through a special agreement to save the company which was left in the hands of the two new Co-CEO who will try to rebuild the credibility of the company. What was supposed to be Neumann’s coronation as a visionary turned into one of the most catastrophic IPO attempts in history.

«WeWork is the next Alibaba», said Masayoshi Son, CEO of SoftBank, last August, shortly after signing a check for billions of dollars to Neumann. Son had invested 20 million in the nascent Chinese e-commerce startup in February 2000, which now has a market capitalization of 500 billion. Soft Bank is likely to save WeWork by injecting new capital into the company in an attempt to limit its losses. The Vision Fund of Masayoshi Son has already injected more than 10 billion dollars, equivalent to 30% of the company, with the most recent tranche injected in January 2019 at a $ 47 billion valuation. If the current valuation of $ 8–9,5 billion were confirmed, this would be a write-down of 83% on the most recent equity round.

Potential conflicts of interest, unconvincing governance and important financial losses

Troubles for WeWork began as soon as the 359 pages S1 filing hit the internet. Investors, analysts and journalists began to dig in and did not appreciate what they found: a list of potential conflicts between Neumann and the company, a byzantine company structure, the losses that were increasing even if the turnover doubled and the lack of explanation of how the company would have become profitable. Potential conflicts were surprising: Neumann had an interest in four buildings that WeWork had rented. He obtained personal loans from the company at lower rates from the market to finance his lavish lifestyle. One, for $ 362 million, was linked to a first year of stock options (and has since been refunded). He had a $ 500 million credit line guaranteed by his stock. Incredibly, he bought the brand under the name "We" through a holding company and then sold the license to WeWork for $ 5.9 million. He had also used the company’s money to fund personal projects related to his passion for surfing, such as the $ 32 million investment in Laird Hamilton’s startup, Laird Superfood, and he had “sunk” $14 million in Wavegarden, a company that produces swimming pools with surf waves, investment that has been devalued to zero. In recent years, Neumann had purchased at least five houses, including one for $10.5 million in the Greenwich Village, another in the Hamptons and another, a 60-acre property north of New York City. In 2017, he spent 35 million to buy four apartments in the same building in the Gramercy Park district in Manhattan. He purchased a $ 60 million Gulfstream jet for WeWork, which flew around the world to London, Panama, Dominican Republic, Tokyo, Hong Kong and Hawaii, among other locations (Neumann’s successors are now trying to sell it). Neumann had almost total control of the company. His class of shares had a 20-to-1 voting right and upon his death his wife would have had the power to appoint a new CEO, regardless of the board of directors. It was too much to accept for potential investors. Rett Wallace CEO of Triton Research would later define the prospectus as a "masterpiece of obfuscation”. It was less than 24 hours since the company’s filing was made public. From then on, a crazy number of stories about the founder and his particular management of the company emerged: alcohol and sex-based parties in the office, drug transported in WeWork jet, bought from the company but actually used as Neumann’s private jet. Recruitment of relatives and friends in prominent positions of the company and aggressive treatment of employees with different ideas.

On Tuesday, September 24th, while Neumann’s fate teetered, WeWork’s board of directors gathered at JPMorgan’s Madison Avenue headquarters. At the end of an exhausting meeting, the controversial founder decided to resign to become non-executive president. Its voting power was reduced to three votes per share, giving it a minority of votes. The board appointed Sebastian Gunningham and Artie Minson as WeWork executives, to replace Neumann, and the company began considering new options until then unthinkable: slowing its growth, cutting thousands of employees (a third) and focusing on the core business of renting office space, getting rid of secondary activities such as Rebekah Neumann School (WeGrow) to control costs and, maybe, restore investor confidence.

Beyond these facts and the speculation about the founder and the management of the company, it was the business of WeWork that did not convince the investors.

The business model of the company is to rent large spaces, transform them and then rent them to individuals and companies at higher prices. WeWork manages over 35 million square meters of space globally with 528 locations in 29 countries worldwide. To cover restructuring and leasing costs, WeWork charges individuals and companies through four different subscription options: with the cheapest, a member with his laptop can sit in a common area if seats are available. With the most expensive instead, you can rent full offices, suites and even entire floors. WeWork also offers a workspace service, powered by WE, for which it sets up completely customized workspaces for larger companies.

Why are analysts and investors skeptical? Last year’s loss rose to 1.9 billion dollars with a turnover of $ 1.8 billion: basically, for every dollar WeWork made, it spent two. For the first half of this year, losses stood at $ 904 million although revenue doubled from the same period a year ago to $ 1.54 billion.

 

However, the main concerns are the leasing obligations. WeWork leases buildings for an average of 15 years, while the average rental of its members is 15 months. The leasing obligations in June 2019 are worth 47.2 billion dollars, but its customers have signed lease contracts for 3.4 billion dollars. Recently the company began to sign long-term lease contracts with Yelp, Peloton, Goldman Sachs, lyft, Pinterest, but with 528 locations there’s still plenty of room to fill. It is not clear how much rental space is needed to reach the break even, but it is certainly not a good sign that the occupancy rate of the company fell from 84% to 80% in the fourth quarter of 2018. The company stated that the decrease is due to the expansion of the business. The new offices take about 18 months to be filled, but it is unclear what could happen if suddenly startups and freelancers stop looking for workspaces, as could happen in an economic recession. Moreover, it is not clear what would happen if the tenants could no longer pay the rent. A past example is IWG (International Workplace Group), formerly known as Regus, a Swiss company with a business model similar to WeWork. During the economic recession of the 2000’s, the IWG’s US unit filed for bankruptcy because its revenues failed, but the long-term lease contracts remained in place. Despite this, WeWork says it has a flexible business model that helps keep it safe in a crisis.

Winners and Losers

Adam Neumann lost the special class of shares that only two months ago should have given him 20 times the voting rights of the other owners; he gave up his managing director role, his presidency and his jet; saw his wife and other relatives take themselves off the company’s payroll; abandoned plans to charge the company $5.9 million for the "We" brand; and watched his fortune fall from a peak of around $13 billion. Despite this, Neumann comes out as a winner, with more than a billion in his pocket; in fact, he had already sold hundreds of millions of dollars of stock before attempting to make WeWork public. With less than 10% of the company’s share capital and voting rights, Neumann’s power will be severely limited, but he has secured the right to appoint two directors. What remains unclear is how the man who was the face of the WeWork mission «to elevate the consciousness of the world» intends to use that remaining influence.

Masayoshi Son comes out as loser, for the moment. The CEO of SoftBank had committed more than 10 billion dollars in WeWork before its failed public offering and he will pay other billions in order to keep in life the company that today is worth approximately 8 billion. The SoftBank title has fluctuated a lot in recent months with the uncertainty related to WeWork. The estimated loss for SB with a revaluation of WeWork to just 8 billion would be around 3.6 billion, of which 2.2 billion from its direct investment. The WeWork deal is a lifesaving measure for Mr. Son, which launched the Vision Fund to SoftBank’s investors as a way to hold minority shares in promising technology companies without having to take on too many debts.

Clearly, WeWork comes out affected, at least in the public image. The company is in fact considering cutting one third of its workforce as part of a cost-cutting plan and many workers protested hearing the sums and conditions that Neumann will have to obtain following the rescue of the SoftBank. The two men who replaced Neumann as CEO, Artie Minson and Sebastian Gunningham, will have to be able to settle the company’s accounts and restore the credibility of the investors.

«The vision remains unchanged» said Son, explaining his decision to inject even more money into WeWork. However, Son and Mr. Claure (COO of SoftBank put by the Japanese giant in the WeWork board) will have to demonstrate that a company that has never made a profit can do so avoiding the need for a continuous injection of liquidity to keep the business alive.

WeWork has an extremely difficult task then. On the one hand, it will have to demonstrate that it is not true that the tech startups that have become giants are unable to handle the transition to a public company, which severely limits its growth and governance metrics. On the other hand it will have to demonstrate to its past and future investors, and in particular to SoftBank, to be able to stabilize on a sustainable business model in order to promote a fast growth but at the same time to carry profits in not too long times, even in the event of a possible global economic recession.

Only time will tell us if WeWork was just a false impression on the wings of Silicon Valley’s tech enthusiasm or if too much emphasis has been placed on WeWork eccentric founder in a period of negative feeling with tech startups going public on American stock markets.

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