We Are In Deep Sh*t

Adam Neumann Has Fallen, But WeWork Still Needs Their Billions — What’s Going To Happen To Them?

Though the charismatic billionaire that is Adam Neumann stepped down as CEO, WeWork’s troubles are far from over.

The problem is, they are getting bigger by the day.

Over the past few months, the media had a field day scrutinising WeWork’s initial public offering. From the strange details in the S-1 to the company’s business model, articles flooded the net. Over a month later, Neumann buckled under the heavy fire, stepping down as CEO.

In a surprise move, the high-octane Israeli ceded majority voting rights and control. At WeWork, Neumann remains as a non-executive chairman of the board.

WeWork — or, The We Company — operates on a subleasing business model. Nothing fancy: they lease space from landlords, make the space fancy and subleases them out at a premium.

A large part of their membership revenue comes from enterprise sales. For instance, WeWork designs, managers entire spaces to sublease out to large companies — IBM is one example, who recently moved up to 600 employees to 88 University Place.

While their primary source of revenue may come from the coworking membership sales, WeWork has been venturing out.

Under The We Company, there are business ventures such as a nascent gym chain, a billion-dollar real estate investment platform, an entrepreneur school, communal living spaces and rumours of a gaming division.

WeWork’s foray into new ventures and global coverage is no accident. Neumann wanted to dominate and since the first funding round, that’s exactly what’s happening.

Though many are unhesitant to demonise the frenetic 40-year-old, Neumann is an excellent entrepreneur in his own right.

WeWork had an all-time valuation of $47 billion and it is of small wonder. With 836 spaces in 126 cities across 38 countries, the real-estate giant had the likes of Goldman Sachs, Fidelity Investments, Greenoaks Capital as private investors — with the notorious Softbank and Softbank CEO Masayoshi Son.

As WeWork continues to spiral into a deep depression, it seems clearer than the day that Neumann’s recent ouster is nothing short of being too late.

Neumann enjoyed a cult of personality. He was energetic, lively and a big dreamer. He had dreams that encompassed the entire planet.

Neumann wanted to be the world’s first trillionaire. Though he could run for the President of Israel, he wanted to be running for “president of the world”. He even claimed that WeWork will one day end world hunger.

While they may seem like pipe dreams to most, Neumann was amassing power to make his dreams come true and he fought hard to make sure he had them.

For every one vote that regular shareholders had for their Class A shares, Neumann had 20 in his Class B and C shares. Though this was amended to 10 in the S-1 filing, it is still a soberingly large difference.

That meant that Neumann could fire the entire board even if everyone voted against it.

Besides absolute power, Neumann established a pseudo-dynasty in the senior leadership positions.

Neumann’s wife, Rebekah, who worked as the CEO of WeGrow and the Chief Brand and Impact Officer had enough power to fire employees within minutes simply because she “disliked their energy”. Besides Rebekah, a large majority of Neumann’s family (and friends) occupy decision-making roles. Michael Gross, a friend of Neumann, is the Vice Chairman at WeWork. Chris Hill, Neumann’s brother-in-law, has occupied chief exec roles in WeWork since 2011, from then-Chief Community Officer to We Co. Chief Product Officer.

Neumann also fought to ensure that he had the right successor.

Suppose in a freak accident, Neumann passes on and the company is left without a permanent CEO, does the board step in to find a CEO? According to Neumann’s succession plan, Rebekah will be part of a team of three, joined by board members Bruce Dunlevie and Steve Langman, to select a new CEO.

Besides looking like a family business, it seems that over 9 years since WeWork’s founding, the real estate company went from being Neumann’s baby to Neumann’s ATM.

Many entrepreneurs chase their dreams in the startup journey and there are those who envisioned luxurious lifestyles. Companies who raised round after round often led to their founders being multi-millionaires overnight. Startup IPOs are becoming commonplace.

Neumann was no stranger to those dreams.

He first started out with baby clothes, creating kneepads for crawling babies, since “they can’t tell you [their knees] hurt”. While it was a catastrophe, it led him to work in the same building as his co-founder, Miguel McKelvey (who still remains in the company today), at Dumbo, Brooklyn. It was where Neumann met his first real estate love interest: a vacant warehouse on Water Street. When the landlord refused to lease the building to him, saying that Neumann was in “baby clothes” and he would not “know about real estate”, Neumann immediately shot back:

“Your building is empty, what do you know about real estate?”

That led to a Neumann-McKelvey real estate venture: Green Desk (the first office at 155 Water Street is still open).

Slightly over a year after Green Desk’s founding, they theorised that there was something bigger than being a co-working space. They sold their stakes and started their initial iterations of WeWork, with a huge focus on community and Neumann’s theory.

With a 3,000-square foot of power-washed creaky floorboards in SoHo, they launched in April 2011. Since its launch, the valuation journey has been nothing but astounding.

Four months after their launch, they had $1m in fresh capital from a seed round led by DAG Ventures. In the next two years, WeWork saw a steady and speedy uptick in their earnings, opening four more locations.

Flush with more capital from rounds after their seed, WeWork went into growth mode. They treaded into unicorn world as early as their Series C, valuing at $4.8bn post-money in February 2014, with the likes of JP Morgan Chase and Benchmark Capital in the round.

By then, they had 1.5 million square feet of space.

WeWork expanded at breakneck speed. After hitting unicorn status in 2017, the company subsequently raised four more rounds.

That was when Japanese multi-billionaire Masayoshi Son came in — for about 12 minutes at WeWork’s office, as Neumann recalled in an interview with Forbes — with $4.4bn. $3bn was intended for WeWork and $1.4bn were to be spread across WeWork’s ventures in Asia.

“WeWork is disrupting a multi-trillion-dollar industry with a technology platform that provides a complete solution for space needs,” said Masayoshi Son, the Chairman & CEO of Softbank Group Corp.

That was the press release for another investment by the Japanese multinational conglomerate, which raised WeWork’s post-money valuation to a whopping $47bn, placing as the 4th most valuable startup in the world, right behind JUUL Labs, Didi Chuxing and Toutiao (the people behind TikTok).

From the numbers alone, it is intuitive to conclude that a WeWork IPO would be a massive success, no matter if it is on NYSE or NASDAQ.

Today, we know that was not the case.

Most entrepreneurs are fearful of the power struggle on the board, often being mindful of the class of shares, voting rights and giving up equity. Neumann decides to solidify his position with his multi-class voting structure which almost guaranteed him a free pass. Before his ouster, Neumann had 20 votes for every 1 vote that a regular shareholder has.

It is easy to draw similarities between Neumann and another high-profile former founder. Travis Kalanick, the famed CEO of Uber, argued with an Uber driver about falling rates, broke down when confronted about and apologised in a company-wide memo about it and ultimately left Uber in June 2017, after 6 months worth of scandal. A defiant person as well, Kalanick showed up with his father at NYSE during the bell-ringing ceremony,

If there was a spectrum that could categorise the two leaders, Neumann is way beyond Kalanick-land.

Neumann’s gargantuan authority had led him to be the 478th wealthiest man on Earth, according to Forbes. At 40 years old, he is 8th richest American entrepreneur in 2016, right above the founders of Snap, Pinterest and Instagram.

Over the past 9 years with WeWork, Neumann has spent over $80 million on his luxurious digs, with five expensive homes in the States, most notably a 13,000 square foot home in the Bay Area that cost him $21 million.

Though having a penchant for luxury is nothing wrong, Neumann also had a penchant for conflict of interests.

For a company like WeWork, their obligations lie mostly in leasing large amounts of office space from building landlords.

What if the landlord was Neumann himself?

WeWork operates a coworking space in an 11-story New York City building, where Neumann reportedly owns a 50% stake, according to the Wall Street Journal. Between 2016 and 2017, WeWork paid $12m to buildings “partially owned by officers” of WeWork — there’s another $110m more to go over the lifetime of those leases. Neumann also owns a stake in four other properties from which WeWork operates in.

Should the landlords decide to raise the rent, WeWork will have to pay more: that means Neumann will personally profit from his own company’s money.

While WeWork is busy settling lease payments, WeWork also became Neumann’s personal ATM and financier, loaning him — and other top executives — millions of dollars.

Apart from WeWork frequently acting as a financial vehicle for Neumann, the company also bought the intellectual property.

When WeWork wanted to rebrand themselves as The We Company, they had to buy the trademarks to the word “We”, which was owned by a private holdings company: We Holdings LLC. WeWork paid $5.9m.

Where did the $5.9m go to? Adam Neumann, who privately managed We Holdings LLC.

Although Neumann returned the $5.9m, the whole conflict of interest train does not stop there. Neumann also paid $60m and upwards for a Gulfstream G650 jet using WeWork’s money.

With all the concerning actions and scandals that Neumann is involved in, most wonder why the board allowed everything to pass. That is strange, considering that calibre of WeWork’s board was top-notch, which had the likes of Steve Langman (Rhône Group), John Zhao (Hony Capital) and Bruce Dunlevie (Benchmark).

Besides scandals and conflict of interests, Neumann also enjoyed a cult of personality through WeWork and that led to his super votes. Since then, the scale of Neumann’s voting rights was slashed, first by half, then to 3.

Like Uber and Peleton, WeWork was set to join the list of unprofitable companies on the exchange.

While Softbank is reportedly intending to pump more money — specifically, $1bn — on top of the $1.5bn pledged.

It feels like a fool’s errand to find the actual valuation of WeWork. Without Softbank’s money, it was difficult to justify why a real estate giant that owns zero real estate could be worth that much.

Even though the S-1 filing was amended, these sweeping changes are not enough to save the sinking ship that is WeWork’s IPO.

With a massive disappointment in the IPO and the whole slew of troubling issues revealed in the S-1 filing — which public investors were entitled their rights to raise their concern about — Neumann came under fire not just from the market, but from within as well.

Here’s the thing about WeWork: Neumann is a risk factor and for the company to actually profit, you need more money over a longer period of time. While Neumann had successfully grown the company from 1 location in the States to all over the world, the IPO’s failure is ultimately caused by a culmination of corporate governance issues, inherent business model flaws, and ghastly financial statements.

Neumann’s ouster may temporarily mollify the company’s critics, many of WeWork’s inherent problems aren’t solved.

Profitable Competitors

While IPOs by unprofitable companies aren’t new in the recently Silicon Valley tech boom, WeWork’s IPO was easily the most dangerous. Unlike their unprofitable counterpart Uber, WeWork offered no innovation in their business model: they lease office space, slap tech lingo onto it and call themselves a ‘tech company’ simply because they can — even Neumann argued that WeWork deserves the valuation that tech companies have.

“Space-as-a-service”, as the S-1 filing said, is what WeWork call themselves.

When WeWork first filed their IPO, many Wall Street analysts compared WeWork to their most direct competitor, IWG, the operator of the Regus brand of coworking spaces, who are already public sporting an impressive stock price (£411 at time of writing) on the London Exchange.

That caused WeWork to be the butt of many jokes.

While WeWork grew rapidly, it is clear that their service isn’t new: IWG existed 20 years before WeWork did, and they own more square feet in office space. With a $1bn extra in revenue, the miraculous thing is that IWG is still profitable.

Recession Risk

WeWork aims to capture the spread between long-term and short-term rental costs. Landlords want stability, hence they would lease office space at lower rates if there are willing long-term commitments. Companies want flexibility in their office space, in case they are expanding, shrinking or moving.

Hence, they are willing to pay higher for this flexibility.

However, WeWork could only expand so fast due to the right macroeconomic conditions. During economic expansion, companies start earning more, which means expansion. The expansion means more jobs and that means more office space needed. WeWork would have to lease out more space over time.

Today, the economy is frothy and many economists are debating whether we are in a recession or not. With a recession, companies shrink and people lose their jobs.

That means less space needed — WeWork would lose membership revenue.

This recession risk is only exacerbated when one looks at the flaws of WeWork’s business operations:

• WeWork operates in 90% fewer cities than IWG — granted, IWG had a longer history, but IWG is well-prepared for a recession when it comes as WeWork is geographically concentrated in the States, namely New York, San Francisco, Los Angeles, Seattle, Washington D.C. and Boston. A bulk of their revenue comes from these places, and should the U.S. economic recession hit, those places will be hit hard.
• According to this Forbes piece, WeWork has extremely long lease terms. With an average term of 15 years, WeWork has cheaper annual rents and thus are able to offer space at competitive prices. Yet, it is this long duration that runs the risk of locking WeWork in during economic downturn. In the long lease-term, WeWork may not be able to find sub-tenants to cover their expenses.

Non-existent Corporate Governance

Tech IPOs have already strayed away from good corporate governance: dual-class shares are most commonly issued, which give total control to founders while preventing public investors from having a say. Neumann was set to receive those shares. The problem was that the S-1 filing revealed more red flags than the dual-class shares, which had been covered extensively by the media:

• Neumann owned buildings where WeWork was a tenant. Neumann is WeWork’s landlord and he personally profited from their rent for years. To address this conflict, ARK, a commercial real estate fund, will take commercial ownership stakes in the buildings rather than Neumann — the question is, why wait till today?
• WeWork loaned millions to Neumann personally and to his personal LLC (We Holdings LLC). While the loads have all been repaid, the interests rate were below market rates.
• Neumann had a dynasty. Neumann’s wife is a co-founder of WeWork and serves as the CEO of the education business, WeGrow. WeWork employs other immediate and extended family members as senior leaders, often being C-level.
• Neumann charged his own company for a trademark he knew they needed to own. A ridiculous case of self-dealing, WeWork’s rebranding meant a $5.9m purchase from Neumann himself for the trademark to the word “We”. Although Neumann returned the money eventually, what made this deal happen?

Public investors will have no recourse to stop the self-dealing and personal profiteering, which was marked Neumann’s entire tenure as CEO to date.

Without going too deep into financials, his relationship to the IPO’s underwriters and the suggestion that Neumann was aiming to offload the risks onto public investors to profit, it was clear the IPO was set to fail from day 1.

Public investors were less than willing to invest.

Even though WeWork kept slashing their valuations to convince public investors that it was worth that much, response remained chilly. With the icy response from investors, WeWork postponed their IPO on September 17.

WeWork’s IPO may be over, but that didn’t apply to their problems.

The fate WeWork lies in the hands of the two joint-CEOs: Artie Minson and Sebastian Gunningham and they wielded their cutlasses immediately when they ascended to their roles.

WeWork is selling Neumann’s private jet. They are planning a 5,000-employee layoff in the coming weeks. They are cutting the jobs of roughly 20 employees with close ties to Neumann, including senior figures such as Michael Gross and Chris Hill.

Three acquisitions — Conductor, Managed by Q, and Meetup — made under Neumann are also going to be sold. The signing of new lease agreements is also halted.

It is clear that the Minson-Gunningham duo is all about reining costs to drive profit margins, which, based on back-on-the-envelope calculation, is a task as urgent as putting out an uncontrolled wildfire.

With all the loss-cutting moves, WeWork’s failure to IPO means that they have failed to raise $3–4bn that they were in dire need of. Without those billions, they now have billions of rent in lease obligations and near-billion losses to face in the coming months. Unless WeWork can stop losing $720K every second, the real estate company is bound to raise money in the coming year as they rapidly empty their coffers.

Even when problems are mounting against the company, Softbank is also looking to write down their stake.

When an inevitable recession hits, WeWork will face huge bleeding of tenants and thus having even bigger losses.

It will definitely be interesting to see what the joint-CEO duo will do in order to save the company.

Minson and Gunningham will have much to prove over the next few months as the company continues to bleed dry, but till then, Wall Street remains unmoved by WeWork’s gradual sinking. Talks about a future IPO, more rounds are nothing but speculation, but it is clear that WeWork desperate needs their billions.

With Neumann removed from the picture (although he is staying on as a non-executive chairman), the company is now much more free to operate with profit in mind. Growth is great, but SoftBank’s prudency — albeit a bit too late — right now is going to put a stop to any rapid growth; the more WeWork bleeds, the more SoftBank will lose, in a general sense.

WeWork’s slashed valuation means that SoftBank already lost money on the purchase of their stocks. While the Japanese conglomerate continuously pumps money into the company to keep it afloat, WeWork’s fate still remains very much unknown.

It is estimated that, according to Alphaville, WeWork may run out of money by next May. WeWork can only hope that the joint-CEO duo possesses a Midas touch, or that their Japanese investor, once again, pulls them out from the abyss of insane losses.