WeWork: Building Community, and Burning Cash.

It’s hard to talk about budding subscription players, without mentioning a nine-year-old company, that at one point in 2019, was on the verge of a $50 billion valuation. WeWork, the SoftBank-backed community workspace company started by two visionary founders in 2010, now occupies more Manhattan office space than any other company, renting 5.3 million square feet in Manhattan, and knocking the previous title holder, JPMorgan Chase, off its throne.[1]

WeWork, the hottest brand in coworking, has spread like a virus. In 2017 alone, the company opened ninety buildings across the globe. As of Spring 2019, WeWork locations numbered over 600. The company has attracted over 260,000 monthly paying members since inception– and the demand is increasing. Occupancy rates rose to 84 percent across all establishments in 2018, up from 78 percent occupancy one year prior. In certain cities, WeWork is close to 100 percent occupancy, with prospective members waiting for vacancies.

WeWork, rooted in a subscription membership model birthed by founders Adam Neumann and Miguel McKelvey, has nearly perfected what a community co-working space should be: festive, trendy, aspirational and community oriented. Both men seem to have come by the vision honestly—McKelvey grew up in a hippie commune in Eugene, Oregon, and Neumann spent his early years in Israel living on a kibbutz.

Although SoftBank has invested over $10 billion in WeWork, the company, which announced plans to go public in early 2019 as The We Company, has since delayed its IPO (as of September 2019) as a result of tepid investor interest and plunging valuations.[2]

Since the company’s S-1 became public, it has faced scrutiny over the state of its finances, and more specifically over the behavior of Adam Neumann, who recently stepped down as CEO. Under pressure from the board, the eclectic executive left the throne after a report from the Wall Street Journal highlighted his alleged drug use and desires to become Israel’s prime minister (among other behaviors.

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WeWork’s fundamental business model isn’t unique. In fact, the idea to create shared space for profit was brought to the mainstream in 1989, when Mark Dixon launched Regus, a company that offered tenants community office space complete with maintenance, staff, and a flexible lease term. When Regus went public in October of 2000, it was valued at £1.5 billion and was considered the first large-scale shared office space pioneer. But, like many first movers, Regus fell into unforeseen business ditches. Namely, the first big dot-com bubble burst, which saw many tenants vacate Regus offices around the world in favor of more affordable options like home-based set-ups and coffee shops. Having inked long-term leases with landlords, the firm was left holding the bag with too few tenants to cover the gap. After a near collapse, Regus re-emerged from bankruptcy and remains a formidable player. However, new entrants, like WeWork, have surfaced with competing offerings.

WeWork’s MO, much like that of Regus, is to sign long-term leases, renovate, and then rent out desks and closed-door offices to members on a per-month basis—taking enough margin along the way. On the consumer side, the no-lease, subscription-based model provides WeWork members with a low-risk option to get access to state of the art office space for as low as $500 dollars a month.

Critics of WeWork suggest the company could face a similar fate to that of Regus. And in many respects, the flag raising is warranted. At the beginning of 2019, WeWork had about $34 billion of lease obligations, was nowhere near profitable, and was shown to be losing about $2 billion a year.[3] Despite the sobering financials, some bulls still argue that the company has crafted a strategy to mitigate the downside risk.

In the event of a weakened economy sparking a member exodus, WeWork has  spread its corporate risk across different entities. Rather than holding each property under WeWork’s main corporate entity, the company has used corporate shelters, which it calls “special-purpose entities,” to isolate the parent company from a possible blow-up. More important, the firm is inking lease deals that split profits 50/50, where incumbent landlords pay for the build out and share in the revenue. WeWork is also adding buildings to its asset list, setting up a new division called ARK that purchases buildings outright, and leases them back to WeWork.[4]

Perhaps the most important source of stability may be the firm’s diverse profile of paying members. Initially, 95 percent of WeWork occupants were start-ups (the segment most likely to fail in business), but the pie is now sliced three ways—only a third can be called start-ups, while the balance is equally split between small-to-medium-sized businesses, and corporate-enterprise-level clients like Shopify, Microsoft, HSBC, Samsung, Lyft, and Facebook, which WeWork claims save about $18,000 a head when they move into a WeWork office.[5] The big-firm movement into “We Space” means a more stable set of tenants to help weather any volatility in start-up entrances and exits.

Meanwhile, Regus is doing its best to stay relevant through its core brand, as well as its other co-working outfits like Spaces. IWG, the parent home to both companies, touts its Regus banner as having both more locations (about 3,000) and members (over 2 million) than WeWork—yet the publicly traded company is valued at “only” $4 billion, prompting plenty of analysts to both question Regus’s future, and that of WeWork’s whose valuation should be closer to $3 billion.[6] In other words, investors who were willing to put money into WeWork at a $40 billion valuation had to have believed that each of the company’s members is worth about $156,250; by comparison, Regus’s members are worth roughly $11,000—leading skeptics, including Scott Galloway of NYU’s Stern School of Business to call WeWork “the most overvalued company in the world.”[7]

Unlike IWG, WeWork doesn’t believe it is a real estate company; and therefore, its executives suggest it should not be valued on comparable multiples. Yet, it’s hard to imagine WeWork as anything but a real estate play with a sexy story and a whole lot of risk.

If we look beyond unit economics for a moment, WeWork deeply understands who it’s serving. Progressive Millennials (one key customer segment), are socially conscious, environmentally responsible, and hate the idea of commitments, contracts, and lock-ins—which explains their contempt for leases peddled by commercial landlords, and their love of the flexible, more community-based WeWork. As for Gen X, another big WeWork consumer cohort, a recent study claimed that 67 percent of Gen X leaders are effective in “hyper-collaboration,” and value the freedom to innovate and the flexibility to manage their work/life balance.[8] As such, WeWork’s coworking spaces, which appear to break down metaphysical and metaphorical walls, is a natural fit.

Yet,  the WeWork narrative feels a lot like that of Uber and others, where growth and vision trump conventional metrics like profits. However, stock performance of recent public offerings from these so called “sexy” companies suggest a possible new profit-first paradigm shift. In the wake of concerns related to mounting financial losses, Uber, which IPO’d on May 10, 2019, saw its shares drop 11% in one day, resulting in the biggest first-day dollar loss in IPO history in the U.S.  As of Oct 1, 2019, shares in the world’s largest ride sharing giant are trading nearly 30% off its IPO. Lyft has seen a similar story play out, with its stock price down a whopping 47% since its initial public offering back in March of 2019.  The halting of WeWork’s IPO looks to not only be a company issue, but a broader indication of investor sentiment not only labelling these venture darlings as less attractive, but outright dangerous investments.      

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[1] Keiko Morris and Eliot Brown, “WeWork Surpasses JPMorgan as Biggest Occupier of Manhattan Office Space,” Wall Street Journal, September 18, 2018, https://www.wsj.com/articles/wework-surpasses-jpmorgan-as-biggest-occupier-of-manhattan-office-space-1537268401.

[2] Angela Moon, “Wework Gets $2 Billion after Softbank Cuts Planned Investment,” January 8, 2019, https://www.reuters.com/article/us-wework-m-a-softbank/wework-gets-2-billion-after-softbank-cuts-planned-investment-idUSKCN1P21OH; Eliot Brown, Maureen Farrell, and Anupreeta Das, “WeWork Co-Founder Has Cashed Out at Least $700 Million Via Sales, Loans,” July 18, 2019, https://www.wsj.com/articles/wework-co-founder-has-cashed-out-at-least-700-million-from-the-company-11563481395; https://www.bloomberg.com/news/articles/2019-09-16/wework-is-said-to-likely-delay-ipo-after-valuation-plummets.

[3] Herbert Lash, “WeWork's Starry Valuation Dazzles Landlords, Reaffirms Doubters,” Reuters, May 10, 2019, https://www.reuters.com/article/us-usa-property-wework-value/weworks-starry-valuation-dazzles-landlords-reaffirms-doubters-idUSKCN1SG1VD; Konrad Putzier, “WeWork’s Mounting Lease Debt Looms Over IPO Plans,” Wall Street Journal, June 18, 2019, https://www.wsj.com/articles/weworks-mounting-lease-debt-looms-over-ipo-plans-11560855601.

[4] Troy Wolverton, “WeWork is Setting up a $2.9 Billion Fund to Buy Buildings that It Will Lease To Itself,” Business Insider, May 15, 2019, https://www.businessinsider.com/wework-ark-fund-to-buy-commerical-properties-2019-5.

[5] “WeWork Economic Impact Report,” WeWork Newsroom, press release, May 8, 2018, https://www.wework.com/newsroom/posts/2018-wework-economic-impact-report.

[6] Matthew Yglesias, “The Controversy over WeWork’s $47 billion Valuation and Impending IPO, Explained,” ReCode, May 24, 2019, https://www.vox.com/2019/5/24/18630126/wework-valuation-ipo-business-model-we-company.

[7] Ainsley Harris, “Is WeWork Worth $40 billion or $3 billion?” Fast Company, July 3, 2018, https://www.fastcompany.com/90179736/is-wework-worth-40-billion-or-3-billion; Jacqui Frank,” Scott Galloway: WeWork is Arguably the Most Overvalued Company in the World,” Business Insider, May 15, 2017, https://www.businessinsider.com/scott-galloway-wework-overvalued-company-world-2017-5.

[8] Stephanie Neal and Richard Wellins, “Generation X—Not Millennials—is Changing the Nature of Work,” CNBC, April 11, 2018, https://www.cnbc.com/2018/04/11/generation-x--not-millennials--is-changing-the-nature-of-work.html.