Why WeWork’s IPO doesn’t work for investors
On the face of it WeWork’s proposition makes sense and the timing of its initial public offering (IPO) couldn’t be better.
WeWork provides serviced offices on flexible contracts with all the bills taken care of so that companies can concentrate on growing, and demand has taken off as office vacancy rates fall across the globe.
However the risks to investors are such that, as with another disrupter, Uber, we would recommend staying away.
LACK OF SUPPLY DRIVING DEMAND
As property experts Knight Frank observe in their 2019 global outlook, ‘office occupiers from all sectors and of all sizes are seeking product that better aligns real estate to their disrupted, fast moving operational reality. Flexible space will be in demand particularly in tech dominated markets such as Berlin, London, Boston and Singapore.’
In the last year alone the amount of available office space in London has fallen almost 20% to 5.6%, its lowest level since autumn 2007. This lack of supply is driving up rents which in turn is driving demand for flexible, serviced space.
In Berlin, Paris, Hong Kong and Tokyo the office vacancy rate was just over 2% last year according to Knight Frank, and new supply over the next three years will barely make a difference.
However the WeWork IPO has been described as ‘bonkers’, ‘bananas’ and a ‘triumph of hype over fundamentals’ by the US financial press.
The filing admits that WeWork has ‘a history of losses’ – it lost $1.9bn in 2018 on $1.8bn of revenues and has already lost nearly $700m this year – and that it has no idea when or if it will ever turn a profit. Comparisons with Uber are inevitable.
It hopes to raise $3.5bn in its listing, valuing its office-rental business at $47bn or more than US semiconductor maker Micron Technologies (which is expected to generate pre-tax earnings of $7bn this year).
RISKS PILING UP
As well as valuation risk there is business risk. WeWork makes losses because it leases offices on a long-term basis, spends a fortune refurbishing and advertising them, and re-lets them on a
short-term basis. This means it needs a constant stream of new tenants, which may or may not cover its costs.
Its model also makes it highly vulnerable in a downturn when demand dries up, rents fall and vacancies rise as it still has high fixed costs.
Finally, there is corporate governance risk. The founder’s shares – which are backed by a $500m credit line secured on another class of shares – have 20 votes each against one vote for common shares, meaning he has control of hiring and firing the board of directors among other things.
The founder and other board members have previously leased properties to the firm, while the founder’s wife – WeWork’s ‘chief brand & impact officer’ – gets to choose who succeeds her husband in the event of his death, rather than the board or the shareholders.