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WeWork IPO under the spotlight: An artificial price for a “lame unicorn”?

WeWork is now rumoured to be valued at around $20bn as opposed to the $47billion previously estimated, as big investors such as SoftBank carefully weigh up the company’s future strength and identity ahead of the firm's potential IPO.

Much of the concern stems from the experiences of tech giants Uber and Lyft whose IPO’s this year were characterised by massive losses following a successful post-float spike. WeWork’s equity worth sits around $14bn, 70% below the equity raised in private markets previously.

NYU professor of finance, Aswath Damodaran, said in a blog post that WeWork is an example of “value [that has been] built on a personality, rather than a business”.

Damodaran was joined in his concern by fellow NYU professor Scott Galloway, having labelled the firm’s offering as “Botox on a lame unicorn”.

“Botox on a lame unicorn” - Scott Galloway on WeWork's IPO

 

Structural concerns

One of the most confusing aspects of WeWork, and perhaps why valuations have proven so changeable and inaccurate, is that it is valued like a technology company, even though the very basis of WeWork’s concept centres around real estate - renting out workspaces to start-ups and other businesses. 

It also currently operates a business structure called an umbrella partnership corporation, also known as Up-C. This means WeWork is a limited liability company, acting as overseer of its joint ventures in Asia and its fund, ARK Capital Advisors. 

However, the complexities of the structure can work against it, particularly as it is geared towards benefitting WeWork as opposed to public shareholders. 

As Robert Seber, a partner at Vinson & Elkins recently explained to The FT: “The Up-C structure is a way for owners and pre-IPO investors to create tax savings in the public company that are not fully shared with the public shareholders. Nobody claims the Up-C structure is good for shareholders. It definitely benefits owners and pre-IPO investors, but it is fully disclosed to shareholders and they seem to discount it.”

Nonetheless, The FT has claimed at least 74 Up-Cs have gone public in the US since 2010 - including big names such as Shake Shack, which has been performing well in 2019. 

 

Rising costs

Costs are also rising across WeWork’s 528 locations, presenting the company with real estate liabilities. Damodaran has estimated the company has accumulated a $23.8bn debt load which includes lease commitments. 

As it stands, WeWork signs long-term leases of up to 15 years which means they will likely see long-term profit. However, this strategy involves paying hundreds of millions of dollars in future rent which works against the company when it also offers short-term rental contracts to members. 

$23.8bn

Damodaran's estimate on WeWork's debt load

Whilst this promotes flexibility and is therefore an attractive marketing ploy, it does run the risk of renters moving out of the space at any time, leaving WeWork to shoulder long-term rental costs. 

WeWork has said future lease payment obligations were at $47.2bn as of 30 June, which is up by around $34bn since 2018. Damodaran said: “The hope is that, as the company matures, and its leaseholds age, they will turn profitable, but this is a model built on a knife’s edge that, by design, will be sensitive to the smallest economic perturbations.”

 

Market share

There are also concerns about We Work’s market penetration. According to MarketWatch, WeWork only has a 0.2% share in the market space where it operates in its 280 target cities. WeWork may be a cheaper option to renting office space, but its contract backlog is the equivalent of a year’s revenue at just $4bn with half of this coming from just five cities. 

Adding to the problem, WeWork’s target market in the US is declining. According to the Labor Department 10% of people were self-employed in 2015 compared to 12% in 1994. As a result, WeWork is seeing a drop in revenue per membership.

 

Solutions

WeWork needs to appeal more to prospective investors including having a more diverse mindset. As it stands, the WeWork board is 100% male. If it wants to be part of the S&P 500 list, then at least one female board member is required.

It has already listened to the experts when it comes to limiting the powers of co-founder and chief executive Adam Neumann. Reuters reported last week that WeWork parent company, The We Company, has curbed the voting power of Neumann to 10 votes per share as opposed to 20. He will still retain a majority control of the company but will be expected to give the company any profits he receives from real estate deals. 

Neumann will also be limiting his ability to sell shares in the second and third years following the IPO to no more than 10% of his stock. Further to this, analysts at Reuters have considered the benefit of Neumann increasing his liquidity options to counteract worsening performance in the future. The WeWork CEO has so far sold more than $700m of stock.

+$700million

Amount of stock sold by Neumann so far

 

IPO delay?

Given their concerns experts have debated whether a postponement of WeWork’s IPO would be a better solution.

There are the worries over its long-term prospects and market uncertainty in the face of a potential US recession - despite WeWork’s claims its business model is recession-proof.
By staying private, WeWork could alter its targets and grow without the necessity of extra funding, accepting the hit that would be expected through a public sell-off once the company goes public.

However, there is a risk that SoftBank won’t provide WeWork with the financial support to help sustain its private valuation, meaning the company may be forced to continue with its scheduled IPO.

 

All about the margins

Sometimes the story behind a company is an attractive one, and sometimes betting on that dream becoming a reality in the long-term pays off, such as investors gambling on Mark Zuckerberg’s Facebook or Jeff Bezos’ Amazon.

However, the issue remains that, when the story overshadows the reality, you get circumstances such as those that now plague WeWork. 

Damodaran summarised WeWork’s potential nicely. He said: “To the question of whether WeWork could be worth $40bn, $50bn or more, the answer is that it is possible, but only if the company can deliver well-above-average margins, while maintaining sky-high growth.”

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