3 Lessons From WeWork's Downfall

What we can learn from the company's struggles

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Sep 27, 2019
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Shared office provider WeWork's fall from grace over the past several months has been outstanding.

The company was one of the hottest startups in the world at the beginning of 2019, but it has since collapsed in on itself. Its valuation has collapsed, its flamboyant CEO has been pushed out and now the company is reportedly planning thousands of job cuts. A halt to its expansion plans in an attempt to stem losses and restore confidence in the business have also reportedly been planned.

Avoiding collapse

WeWork hasn't collapsed just yet, but it is getting close to it. Its largest shareholder and biggest backer, SoftBank, is reportedly planning to pump billions more into the business to keep it afloat.

However, with the company losing billions of dollars every year, it can only be a matter of time before this additional cash cushion is eroded. At this point, it is unclear who else will want to support the business after SoftBank pulls back.

Only time will tell what will eventually happen to WeWork in the long term. Regardless, there are several lessons we can learn from the business' downfall to help improve our own investment strategies.

Key man risk

Two men have been entirely responsible for WeWork's growth and expansion over the past several years. The company's colorful former CEO, Adam Neumann, and SoftBank's CEO and founder, Masayoshi Son.

Without these two men, the company would only be a shadow of what it is today. Without Son, WeWork would have struggled to accumulate the capital it has consumed so far. Meanwhile, without Neumann's vision to build a workplace business to help "elevate the world's consciousness," the company might not have had the success of attracting companies and workers to its offices around the world.

Businesses that are so dependent on the visions and funding arrangements of just one man are always a risky bet (even more so when the CEO and banker are both stand-out figures). When one executive has so much control, shareholders are mostly an afterthought.

Financing risk

The second problem the company always faced was financing risk. SoftBank had been happy to support WeWork through its growth stage, but a lack of profitability indicated the business would never be able to shake off the reliance of its creditors.

Companies that rely on third parties or the market to provide funding to keep the lights on are excessively risky bets because, sooner or later, the funds will dry up. Lenders then usually end up taking control; and when lenders control the business, shareholders once again fall to the bottom of the pile.

Asset liability mismatch

One of the reasons why WeWork always attracted so much criticism is because the company was essentially a bank for property leases. It signed long-term leases with landlords and then rented the property out in smaller chunks to smaller businesses. The problem with this approach is that the business is highly exposed to the economic environment.

We have one fantastic example of this model going wrong in the past. Regus, which is essentially WeWork's older, less cool sibling, was forced to put its U.S. arm into bankruptcy protection in 2003 after growing too fast. The company had signed too many long-term leases with landlords and the recession after the dot-com bubble burst left it struggling to meet its obligations.

These lease obligations are essentially a form of debt, and they camouflage the true risk of the business here. WeWork might not have a lot of visible debt, but it does have a lot of invisible debt in the form of lease obligations -- $47 billion according to its initial public offering prospectus.

Conclusion

These three lessons are nothing new, but it's amazing how many companies (and investors) struggle because they run up too much debt or don't have the right management for the job. Once you look past the euphoria these businesses try to generate, it is easy to see them for what they are -- overleveraged disasters waiting to happen.

Disclosure: The author owns no stocks mentioned.

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