Will 'WeWork' Work in your Portfolio?

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How would you like the opportunity to invest in a company whose revenues grew 105 percent last year? Sound pretty good? But would you be so quick to invest if I told you the company’s losses grew 104 percent? That complicates the picture a bit, doesn’t it? This is the dilemma potential investors in WeWork face as the company prepares for a potential initial public offering in the near future.

What WeWork Does

WeWork, recently rebranded as The We Company, provides shared office spaces for businesses. The office spaces are furnished and come complete with Wi-Fi. Initially WeWork targeted startups. Today, the company provides office space for all types and sizes of businesses. How does it do this? It leases large spaces under long-term deals and then sublets space to tenants, dividing it up to accommodate each tenant’s specific space needs. Plus, tenants are held to only short-term leases. Businesses, especially small businesses, love the flexibility and limited financial commitment of short-term leases.

What Investors Like

To say that WeWork has been a success would be an understatement. Its growth has been incredible. There simply are not a lot of billion-dollar-plus revenue companies growing north of 100 percent per year. That can’t continue indefinitely, but the company does appear to have a long runway for above average growth. Plus, it clearly provides a valued service for which there is significant demand.

Things to Watch

All this may sound promising, but there are some potential issues and situations surrounding the company that potential investors need to consider.

  • Potential Issue #1:  Profitability (Or a Lack Thereof). As growth has accelerated, so have losses. For the company to be successful long-term, it will have to begin making money at some point. Management has indicated that it makes more sense for them to invest in growth right now. Given the growth rate and obvious demand for its service, it’s hard to argue with that. But two important questions remain unanswered:  When will WeWork become profitable and what will that profitability look like.
  • Potential Issue #2:  Asset-Liability Mismatch. With WeWork’s business model of leasing office space under long-term deals then subletting those spaces under short-term deals, what happens in an economic slowdown?  Can the company keep enough clients to honor its debts?  It’s hard to say with certainty.  The company was founded in 2010, so it didn’t experience the recession of 2008/2009. The long-term leases WeWork holds on office spaces won’t go away during an economic slowdown, but its short-term tenants may not renew their leases. That’s not an ideal situation. On the other hand, a recession could spur more companies to search for alternative solutions for lowering their costs. Subletting, versus renting or buying their own spaces, could save critical cash for companies during a slowdown. That could work in WeWork’s favor.
  • Potential Issue #3: Self-Dealing.  Adam Neumann, the company’s CEO, controls 65 percent of the voting rights of the company, giving him total control. That’s not necessarily a bad thing, but it does put the other shareholders at his mercy. More concerning are several deals he made with the company. Namely, he’s leased properties to WeWork in which he has personal ownership interests. That’s a situation rife with potential conflicts of interest. It may leave shareholders questioning whether the company is getting the best possible deal. But with Neumann controlling the voting rights, there’s not much they can do about it.
  • The Initial Public Offering (IPO).  WeWork’s IPO is currently slated to take place later this year or early next year. Thus far, the company has filed only a confidential application with the U.S. Securities and Exchange Commission, so investors don’t have all the information necessary to make an informed decision. Once the prospectus is made public, investors will have a better grasp of the business and its financials.

Summary

WeWork is a very interesting company, and its IPO will offer investors the chance to get a piece of the action. There’s not yet enough information available to make an informed decision on the merits of the stock, but it should be very interesting to watch it all play out.

David Crossman, CFA, is a Senior Portfolio Manager with Bedel Financial Consulting, Inc., a wealth management firm located in Indianapolis. For more information, visit their website or email David.

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