'Golden unicorn' loses its luster

After a failed initial public offering by the shared workplace company WeWork, multinational conglomerate SoftBank came to the rescue with a seemingly odd idea: pay Adam Neumann, the man who created the mess, $1.7 billion to walk away.

This marked a precipitous plunge for Neumann, who set out to "elevate the world's consciousness".

Unicorns - new companies valued at more than $1 billion - were once so rare they were named after the mythical creature. Their allure alone attracted investors.

Neumann, WeWork's co-founder and CEO, appeared to have conjured up a golden unicorn - his company was valued at $47 billion.

Major investment banks, including Goldman Sachs, Bank of America, Citigroup and Barclays, lined up to underwrite the deal. The New York Stock Exchange and Nasdaq competed for WeWork's listing.

Problems arose after investors read the 221-page IPO registration statement, plus attachments, filed with the US Securities and Exchange Commission.

Some questioned Neumann's ability to lead a publicly traded company, because there was no clear path to profitability despite dazzling revenue growth.

The unicorn limped away, buried under continuing operating losses and growing debt. The company's valuation shrank to about $7.8 billion. In January, SoftBank invested about $10.3 billion in WeWork when its valuation and IPO prospects were high. But WeWork pulled its IPO, and in October, SoftBank assembled a $9.5 billion bailout of the company.

The rescue package increased SoftBank's stake in WeWork to 80 percent from about 33 percent. Oddly, SoftBank said it would not have control of the company thanks to the voting shares controlled by Neumann, the man the new management team wanted out of the way as it attempted to save the company.

This month, SoftBank said it had lost at least $4.7 billion of its investment in WeWork. At a news conference at the Softbank headquarters in Tokyo, CEO Masayoshi Son said: "My own investment judgment was really bad. I regret it in many ways."

That raised basic questions: Did WeWork try to do too much too quickly? Had SoftBank fallen into what investors call the "sunk-cost fallacy" - throwing good money after bad in an attempt to save the initial investment?

The bond market may tell the story, as WeWork's bonds, issued when the company appeared to be a winner, have fallen.

A brilliant idea

Neumann's idea was simple, but it failed to take off because he got the financing wrong.

Many observers have said that the internet has changed the nature of work. Neumann realized the internet also changed where work could be performed and therefore created a new market to meet the needs of individuals with laptops looking for a comfortable and secure place to perform their tasks.

Others benefited from this partial glimpse of the future. Starbucks lined up the lattes as freelancers, startups and small business owners tapped away at their laptops while sipping coffee. Anyone who traveled regularly knew it would be easy to find a Starbucks outlet, given the 28,218 stores the company operates worldwide.

The downside: Who knew if the Wi-Fi connection was secure? And how can you concentrate on spreadsheets when the person next to you spills cappuccino on your notes?

Some landlords set aside a floor or two in traditional office buildings to serve WeWork's target audience. It was a good idea and catered to a new niche market, but regular business travelers needing more than a seat at Starbucks would be required to sign contracts with many landlords in multiple cities because no one had taken the shared workspace idea national. A fragmented market is an accounting burden and the quality of the workspace could vary from one city to the next.

Neumann offered one-stop shopping - a global offering of individual workspaces built to serve the needs of young up-and-comers on the move, and the price was pegged to the market it served with no long-term commitment.

In New York, a single seat at WeWork in the Chelsea section of Manhattan costs $1,050 per month; 10 seats, $8,200; and 21 to 50 seats, $17,900. Mail and package handling are included and conference rooms are available. The area is known for its art galleries, historic district and expensive new condominiums.

In 2010, in Lower Manhattan, WeWork opened its first "member community", as the company calls those who have signed "membership agreements", or contracts.

The language in the company's IPO registration statement filed with the US Securities and Exchange Commission set the company's tone: "We are a community company committed to maximum global impact. Our mission is to elevate the world's consciousness. We have built a worldwide platform that supports growth, shared experiences and true success. We provide our members with flexible access to beautiful spaces, a culture of inclusivity and the energy of an inspired community, all connected with our extensive technology infrastructure. We believe our company has the power to elevate how people, work, live and grow."

The company even had a chief culture officer - co-founder Miguel McKelvey.

WeWork's growth supported the grandiose language. By June 1, the company offered 528 locations in 111 cities across 29 countries and served 527,000 customers.

It said 40 percent of its customers worked for organizations with more than 500 employees, including 38 percent of the Global Fortune 500. Citing data from the Organization for Economic Cooperation and Development, WeWork said it targeted 280 cities with a "potential member population" of about 255 million, creating a market opportunity of $1.6 trillion per year.

In its IPO registration statement, the company said: "We pioneered a 'space-as-a-service' membership model that offers the benefits of a collaborative culture, the flexibility to scale workspace up and down as needed and the power of a worldwide community, all for a lower cost. We have disrupted the largest asset class in the world - real estate."

Investors noticed.

Manish Shah, CEO of 123Jump Network, the home of Internet Stock News, in Miami, Florida, said: "What began locally became regional, then national and now global. And for customers, the price was right."

But WeWork lacked a key element - a solid plan to generate positive cash flow.

What went wrong?

The unicorn choked on rising lease costs, and there was no clear path to profitability.

An IPO is a bet on future growth, and WeWork needed to expand quickly over an extended period to make itself attractive to investors.

The company said that since 2014, its customer base has increased by more than 100 percent every year. It took about seven years to generate $1 billion in revenue, but only one year after that to reach $2 billion - and just another six months to reach $3 billion. The IPO registration statement assured investors, "We're just getting started."

WeWork said it usually takes about two years for a new location to approach full occupancy and generate steady profits.

As of June 1, the company said it had signed leases for spaces to accommodate about 258,000 workstations where construction had yet to begin.

In the first half of this year, it estimated the cost of building each new workstation at $3,661. If the cost stays at about this level, WeWork could face about $1 billion in capital expenditure. Then come operating costs and marketing.

The company typically signs 15-year leases for the buildings it renovates, and on June 30, the cost of its leases totaled $47.2 billion.

While the US economy now appears steady, a downturn could squeeze WeWork, because it signed long-term leases for its buildings, but short-term deals with tenants.

Finding new customers in an economic downturn almost certainly would be time-consuming and costly. The company warned, "If we are unable to replace members who may terminate their membership agreements with us, our cash flows and ability to make payments under our lease agreements with our landlords may be adversely affected."

WeWork's balance sheet appears bleak despite strong revenue growth. For the year ended June 30, last year, the company had an accumulated deficit of $1.9 billion, and $1.6 billion through June 30 this year.

On Aug 14, it warned in its IPO registration statement filed with the SEC, "We have a history of losses, and especially if we continue to grow at an accelerated rate, we may be unable to achieve profitability."

WeWork planned to use the net proceeds from the IPO for general corporate purposes. Neumann and other top executives aimed to retain control of the company by creating three classes of stock.

The company withdrew its IPO on Sept 30, making the question of the stock structure redundant. But WeWork still needed cash and turned to the bond market - in effect putting immediate needs on a credit card.

The company's 7.875 percent unsecured bonds due in 2025, issued when it was still considered a rising star, have not fared well and have traded as low as 78 cents on the dollar, MaketAxess reported. Corporate bonds trading below par, or 100 cents on the dollar, may signal doubts about the borrower's ability to repay the debt. Bonds trading below 70 cents on the dollar are generally considered "distressed".

Shah, from 123Jump, said: "WeWork didn't get the equity capital it wanted from the IPO. The company is loaded with debt. Management miscalculated. There will be blood on the floor, but Softbank has the money and if they're ruthless enough, they can turn the company around. It won't be easy for anyone to recreate WeWork's footprint."

The wrong man?

An IPO is also a bet on top management's ability to guide an enterprise's profitable expansion as a publicly traded company. According to news reports, Neumann is a charismatic leader and capable of convincing just about anyone that WeWork represents a vision of the future. But he did not appear to be interested in the small details of running a successful company.

Neumann wanted the exchange listing his shares to support his cause of environmental sustainability and asked it to eliminate plastic utensils and ban meat from the cafeteria. According to The Wall Street Journal, the NYSE offered to eliminate the utensils, but would not prohibit meat. Nasdaq won because it offered to create a new index, to be called the We 50, to track companies devoted to sustainability.

The next question from investors might have been: "How does that create a path to profitability?"

According to news reports, Neumann sometimes mused about living forever, becoming leader of the world and leaping over the heads of the super-rich to become the first trillionaire. He owns three houses in the New York metropolitan area and has often voiced his thoughts while lounging on a pink couch.

The Wall Street Journal reported that some potential investors were disturbed by apparent conflicts of interest outlined in WeWork's registration statement, including Neumann's decision to lease properties he owned to his company and borrowing against his stock.

Neumann frequently walked around the office barefoot and organized wild parties. He persuaded employees to work 20-hour days, dance to wild music and drink coldbrew coffee. The New York Times quoted him as saying, "They're coming to us for energy, for culture."

But there were doubters, with Vanity Fair magazine deriding Neumann's " $20 billion house of cards".

At Baruch College in Manhattan, Neumann told a story about his first date with Rebekah, now his wife. "She looked me straight in the eye and said, 'Every single word that comes out of your mouth is fake'," the Times reported.

Neumann reportedly wowed top executives from major companies and potential investors with a huge touch screen showing WeWork's current and future locations, including Shanghai, now a joint venture with SoftBank and Chinese companies Hony Capital and Trustbridge.

When the IPO was withdrawn, stock options offered to top management became worthless.

Neumann may be called a visionary by some and derided by others as a fast-talking huckster, but one thing is certain - he pocketed $1.7 billion to step away from the company he founded but failed to put on a path to profitability, or as he might say, sustainability.

Strong growth catches the eye of venture capitalists and investment banks looking for intriguing companies to take public, but a successful IPO must present a solid plan to develop positive cash flow.

Facebook, Amazon, Apple, Netflix and Google succeeded as IPOs and became major companies because each developed a clear path to profitability and investors therefore did not fret about early losses.

Neumann made the mistake some entrepreneurs make by assuming he was master of the business side of the operation because he had a powerful idea.

Microsoft founder Bill Gates avoided this trap. He hired Paul Allen to handle the business aspects of the company while he concentrated on developing software. The result was the microcomputer revolution that changed the world - and made them both fabulously wealthy.

"WeWork has a compelling business model," Shah, from 123Jump, said. "But it got the capital structure wrong. Neumann wanted high growth for the sake of growth. Modest growth and a solid plan for positive cash flow would have resulted in a successful IPO.

"In my opinion, the company can be cleaned up and can bounce back. Despite the IPO's failure, I think Neumann will be remembered as a visionary. Getting $1.7 billion to go away seems excessive, but that's between buyer and seller."

scottreeves@chinadailyusa.com