We Work Goes Public: The Good, the Bad, and the Fiduciary. Elie Finegold.

Elie Finegold, 8/20/2019

@ElieFinegold

Note: The views expressed herein are entirely my own.

Introduction.

As many of you know, I’m an occasional commenter on the coworking trend in general, and recently on WeWork in particular. If you’ve followed my Twitter feed the last few days, you’ll find that I have been extremely critical of the company, particularly the consistent pattern of poor governance, vanity investments and expenses, and rampant self-dealing and related party transactions with the company’s founders and families. I have generally refrained from commenting on the fundamentals of the business, but I think it’s time for me to share some of my thoughts. I’ve been motivated in this endeavor by an excellent piece recently published by my good friend and esteemed colleague Antony Slumbers(@antonyslumbers on Twitter). I hold Antony’s thinking and work on the technology-driven evolution of real estate in the highest regard, and it is because of that regard that I’m moved to spend some time writing a thoughtful response.

As it turns out, I have a lot to say. So, this is the first in a series of posts, in which I intend to address some of the fundamental issues of WeWork – first (in this section) their current capitalization, governance and corporate values as expressed through their actions; then, their history of business and technological innovation in the market; dissect the fundamental questions of network effects vs economies of scale in their business model; examine the three pillars of their current business – startup/SMB customers, Enterprise customers, and Powered By We; evaluate some their core financial and operating assumptions next to appropriate comparables; and finally, hopefully, wind up by looking at the future of their brand, products, customers and competition in a rapidly changing environment. It’s a lot to digest, and more to write, but it’s one of the most important current case studies for the intersection of technology and real estate, my professed area of expertise. I hope it will be more coherent and digestible than their S-1. I guarantee it will be shorter (at least a bit).

An important personal note. I’ve known WeWork since their very earliest days, sharing a stage (admittedly somewhat contentiously) with co-founder Miguel McKelvey at the first CRETechevent in New York, I think 2011 or 2012. Since then I’ve had many, many esteemed friends and colleagues go to work for the company. Many have bet their careers on it. Some have had extremely positive experiences, some extremely negative, but the vast majority have found it a simultaneously exhilarating world, surrounded by boundless talent, ambition, and energy, yet also finding it an often unstable personal and professional experience. I will not address or include any of their insights or experiences in the balance of this piece, for reasons of personal trust – quite simply, I keep peoples’ secrets. But I do want them to know – each and all of you – that what follows is in no way meant to damage you, your careers or your professional fortunes. In some cases, I hope I’m wrong; in others, I hope I’m right; and in all, I send you gratitude for being valued colleagues in the past, hope for your professional and personal growth, and love for our continued friendships.

But first, indulge me with a moment on art. Antony Slumbers, for those who don’t know, is a deeply passionate and knowledgeable student of art and its history – to dine with Antony is a dive into both a good bottle of wine and inspiring insights into the human soul. In his article he utilizes the great Bernini, Sculptor of Rome, to help frame his thoughts. In response I snidely suggested, referring to the columns of Bernini’s sublime Piazza in front of St. Peter’s in the Vatican, that he must be referring to “a master at creating soul-inspiring optical illusions, which are easily explained away by a little bit of physics and a cheap tour guide.” It was an admittedly cheap shot, at both Antony and Bernini.

Sitting here in my hometown of Seattle, I cannot help but think of a different artist – Dale Chihuly, who is simultaneously an incomparably innovative master of the art of glass-blowing, and a canny carnie who has managed to sell manufactured authenticity, mass-produced and globally distributed, by the ton. He is, I think, an apt comparison.

I. Governance

I will focus briefly, or as briefly as possible, on the governance issues, before delving into the structural pillars of WeWork’s business. I would prefer to forgo discussing governance altogether, given how extensively it’s been covered in the last few days, but I simply can’t. It is too critical to understanding the soul of the company, for a very simple reason.

The choices a company makes about its own governance are a reflection of its fundamental value system – how it prioritizes both the interests of and responsibilities to its various stakeholders– and eventually impacts everything it does, from strategy to execution.

The core values, as reflected in their actions and governance, not their marketing materials, speaks to the sustainability of their business model; to their long-term ability to attract, retain and extract value from world-class talent; to the effectiveness of their organizational model; the trust and stickiness they can develop with their customers; to the long-term value of their brand; to their continued ability to attract capital and sustain partnerships; and, ultimately, to our confidence, now and in the future, in their representation of truth.

This is true of all businesses, but especially businesses like WeWork. Their model is ultimately to arbitrage the discounts generated by long-term large financial commitments (leases and CapEx) with the premiums you can get from smaller, short-term flexible commitments (memberships). It’s simply wholesale vs retail, but for real estate financing. Profiting from this arbitrage depends on maintaining the loyalty of countless customers with relatively high Customer Acquisition Costs but fairly low switching costs, creating a perpetual risk of high churn. And in the end, the success of that strategy boils down to trust – and maintaining those trusted relationships over the long term is impossible, in my opinion, without the proper governance structure and corporate values.

The Fish Stinks From The Head. I’ll never forget learning this phrase from a member of my leadership team at one of my previous companies, a former Chief Marketing Officer for numerous global luxury brands, and as smart and thoughtful an executive as anyone I’ve ever worked with. Simply put, it means that when an organization and its culture are consistently and profoundly dysfunctional, those deep issues can almost always be traced to the most senior leadership. Certainly, nowhere is this more true than in companies built around the Svengali-like omnipresence and personal charisma of a single dynamic CEO – and by all accounts, WeWork is an extreme example of this in the near-cult of personality that exists around Adam Neumann. With the right leader, this can be an extraordinary asset to companies, particularly those involved in transformation of whole industries – Apple and Steve Jobs, Amazon and Jeff Bezos, SpaceX and Tesla with Elon Musk all come to mind. However, as we’ve seen recently with Elon Musk, this can be a double-edged sword – if the founder is unfocused, unstable, or consistently overpromising, it can ripple through the whole enterprise.

What then to make of a company whose founder and CEO exhibits delusions of grandeur on a global scale (“Our mission is to elevate the world’s consciousness.“); spends investor money on non-strategic investments (wave-pool company Wavegarden, among others) and questionable corporate expenses (8,000 people at ‘summer camp’ in the UK,$40 million on a startup pitch competition); and, most troublingly, has a history of repeated, byzantine self-dealing and related party transactions?

In my experience, these patterns are not uncommon in relatively early-stage companies that are driven by founders who have the incredible charisma and salesmanship that, it is universally agreed, Adam Neumann possesses. Usually, however, as companies grow, mature, and raise more capital, a governance system is imposed by the investors (if not by the founders and management themselves) to mitigate the founder’s worst impulses. This starts with a Board of Directors to whom the founder and senior management are accountable, company policies dictating the boundaries of decisions a management team can make on its own, and employment agreements that set out the terms of the commitment the founding team is making to the company. This creates accountability to investors by the Board and then flows down from the Board to management. This structure ensures that significant investment decisions are vigorously vetted and debated by management before they are presented to the Board and that significant organizational decisions are thoroughly planned, prudently executed, and consistently communicated to the employees. This creates both a chain of accountability to investors, and a platform for direction, alignment, and stability to employees, partners, and customers, even in rapidly growing enterprises.

Startlingly, despite being one of the most capital-intensive private enterprises in recent history, it seems that none of these things have happened to date at WeWork. It boggles the (or at least my) mind that investors, particularly SoftBank, have invested more than $10 Billion without demanding that the company develop some of these most basic checks and balances and systems of accountability. Fund investors have fiduciary duties to their LPs – and if I were an LP in one of WeWork’s big investors, having read the S-1, I would be having a very…well, let’s say direct conversation with my fund managers. I would expect these corporate controls to be in place and monitored by the funds even if the management team were the most focused, experienced and financially responsible team in the world. And history shows that the WeWork leadership has not, at least at first glance, historically met any of those standards on a consistent basis.

As WeWork prepares to go public, the company’s S-1 shows that it intends to continue and institutionalize these poor governance patterns with a hubris that is, quite frankly, breathtaking. It can be found in tiny details like the fact that the company paid an entity controlled by Adam almost $6 Million for the rights to use the word “We,” or the almost incomprehensible fact that even after the public offering Adam will simultaneously have 1) no employment agreement with the company, 2) retain complete control of corporate governance and, 3) should he leave the company or die, have his successor named by his wife who, strangely, doesn’t even sit on the all-male Board.

These and many other concerns have been widely documented and discussed, but the critical thing is not the impacts of actions past and choices present, but what they augur for corporate decisions and financial returns in the future. So before moving in to the business itself, I leave you, dear reader, to contemplate two questions pertaining to its governance:

1) Can a company built on the kinds of actions WeWork has exhibited in governance and actions – namely, a cult of personality around a founder who, along with the key investors, has time and again eschewed good governance, commitment to a solid ethical code, and a transparent sense of fiduciary duty – not ultimately have the corresponding values absorbed into its very cultural DNA?

2) And, can a company with such morally compromised DNA both succeed in executing its business model in the long term and avoid the kind of ethical, financial, and legal scandals that have brought down other companies built on similar foundations?

Because if the head stinks, the fish just might as well.

Coming Soon (i.e. the business and everything else)

WeWork has unquestionably been a leader in a change in the real estate markets of unprecedented speed and extraordinary global scale. However, how much of that is due to their ability to consistently and repeatedly innovate, and how much is them simply surfing a giant structural wave of change on a huge longboard of cheap capital? It is irrefutable that they have an extraordinary ability to raise vast amounts of capital very quickly and then deploy it with equal or (let’s be honest) greater speed. I think the jury is still very much out, however, on whether at that scale and that speed, they have and can deploy that capital well.

Do their unit economics really work long term? Are those economics accurately (even if we can all agree not clearly) represented in their SEC filings? What happens to the company in a recession? Do they ever reach profitability? Does the diversification of their customer base and service offerings add or decrease corporate risk? Could there be a domino-like effect if they begin to default on their more than $45 Billion in lease obligations?

Beyond their ability to raise capital, is WeWork truly the most innovative real estate company in the world? And are their core values and systems of governance aligned with their stated mission and projected outcomes?

Or, to put it another way, if you – you – were going to write one $20 billion check to bet on the future of real estate, would you write it to Adam Neumann – and to Adam Neumann alone?

More to come…

We’ll save that for part 2….

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