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WeWork IPO: The downfall of the Unicorn


  • Tech Unicorns facing the public market brunt the business model of High growth and high losses being relooked upon by investors
  • WeWork postponed IPO following the lack of investor interest
  • The Valuation slumped to nearly one-fifth in a span of nine months

 

Post a slew of Tech Unicorn IPO failures in the current year, including SoftBank backed Uber Technologies Inc and Slack Technologies Inc, the market has remained grim with investors wary of these so-called unicorns (fast growing and money burning companies) and have started questioning the viability of these players before making fresh investments. The We Company (“WeWork”) is the latest in the line to face the investors brunt. After getting a valuation of $47 billion in January 2019 by SoftBank, Goldman Sachs pitched WeWork as a $65 billion business near the start of the year. However, the valuations saw a downhill after the company released its S-1 filings (which was later amended after investor backlash). The pre-IPO valuations of around $20-30 billion fell to less than $20 billion due to lack of interest from investors, highlighting the growing dichotomy between private investors and public markets. The valuations nosedived even further when a host of problems surfaced about the company’s corporate governance as well as the lack of strength of its business model and questions over its ability to generate profit ever. This led the SoftBank backed company to postpone its IPO wherein the valuation saw a dive to $10-12 billion in a span of just a few days.

The company leases space in upscale, desirable areas and then renovates the space into shared workspaces filled with luxurious amenities like furniture, kitchen, high-end design etc. It sublets these shared workspaces to corporate, start-ups, entrepreneurs (Gen-X and Gen-Y workers) for a period ranging from a few hours to a couple of years. This is where the base of the problem starts: the company leases the properties for a very long-term (typically 10-15 years) to get favourable lease rates, while it sublets it for a much shorter period. The spread between the long-term and short-term rents is at the core of its business model. This timing mismatch is expected to create huge volatility in earnings for the firm in the long term, especially in times of slower economic activities.

The business model which the company describes in the faux tech lingo of “Space as a service” is not new nor particularly unique. The Belgian firm IWG as well as variety of smaller brands utilize the same model. Although, IWG has more square feet of office space, earns more revenue and is profitable, it still has a valuation of $3.7 billion (a fraction of WeWork).  This huge difference is due to the company projecting itself as a Tech Company rather than a Real estate firm. The scale at which it has grown has remain unprecedented, whilst burning tonnes of investor cash, which is typical of the model used by tech companies (high cash burn and high growth rate).

The explosive growth of WeWork has given rise to its gigantic long-term lease commitments ($33.96 billion). The company has been generating huge operating losses over the years, this combined with lack of cost discipline owing to shady corporate governance practices followed by the company favouring the CEO Adam Neumann (leasing properties owned by him, doling out loans to him at <1% much below the market rates, paying $5.9 million to him for the rights to use the “We” family of trademarks etc.) has left the company particularly exposed. Although, the company managed to raise $13.4 billion since its inception, it needs to raise additional funding to sustain future growth.

The Company’s planned IPO was supposed to be a lifeline for the company, as it was not only supposed to raise ~$3.5 billion from equity investors but raise an addition $6 billion in debt financing contingent upon the success of the IPO. With the postponement of the IPO, the cash raising options are dwindling for the company. The existing largest investor SoftBank is sceptical on infusing fresh funds. Further, rating agencies like Moody’s withdrew their credit ratings citing lack of information from the company. The company is planning to rely on junk bonds for funding in the foreseeable future. Even so, the company might have to look for funding from equity (IPO), maximum by Dec 2019 to avail $6 billion debt financing.

The company has taken a number of measures to improve investor confidence by making corporate governance policies more transparent. CEO Adam Neumann stepped down from the role of the CEO, while he will remain as non-executive chairman of the company. Also, the conflict of interest with the CEO and the company has been taken care of.  Softbank is geared up to write off a huge amount from its investment and list the company by October end. After Uber this is another investment where SoftBank had huge write-offs in their investment. All this has made investors wary of the tech start-ups and started rejecting the unicorns who have no visibility of making profit. Positively, demand in the rental industry is expected to grow globally on the back of rapid urbanization, globalization, independent workforce/freelancers and sharing economy. While WeWork did achieve operational efficiency in terms of capturing the increased demand and improving occupancy rates over the years, it needs to slow down and work towards making existing locations profitable before expanding exponentially in the near future.

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