Comment by aresant | Hacker News Reader

Comment by aresant | Hacker News Reader

I spend about 50% of my time thinking about and working at intersection of tech & real estate at considerable scale.

WeWork is in a bizarrely weird spot.

Building cap rates eg trading multiples are at all time, insane highs.

This inflation has been driven by institutional investors desperate for yield, with a lack of viable options.

And huge tech cos that are learning that amortizing property is a better use for their hoards of cash than seeing it rot in the basement.

So for WeWork buying into this hugely competitive market doesn't really make sense.

But conversely WeWork needs real estate to grow, and they like to grow in premium markets.

In these premium markets they are competing with dozens of other fast growing enterprises in the current economy.

Which means they are having to sign INSANELY big / long leases - they have $5B in LEASE CONTRACTS aka debt on the books through 2022.

So they are signing leases that are in the record price per square foot range to deliver their core product.

And meanwhile, as best I can find 85% of their business is still driven by "Small businesses, fast-growing startups and sole proprietors". (1)

And these segments, as known to anybody who plays in the "flex space" world, are the first tenants off the boat in a recession.

It is easy to critique and hard to create, as they say, but I don't follow WeWork's valuations or strategy.

(1) https://www.recode.net/2018/3/22/17119012/wework-massive-gro...

It may be also of interest to note that WeWork's leases with their landlords are not signed with WeWork Inc, but instead with limited-liability subsidiaries that WeWork owns.

This means that when the cyclical tenants leave, WeWork is not left with the whole bag; instead, its landlords are.

When the tenants of a building stop paying, WeWork would default on that subsidiary, but WeWork corporate would not default.

This was hugely surprising to me when I first heard it.

This isn’t that uncommon especially in high risk industries it can increase your overall tax liability depending on the exact structure but reduces the risk considerably.

Why would a landlord accept these terms? Isn't the landlord increasing their exposure to financial default? And if the parent is true and they are operating in premium markets, there should be a lot of other willing tenants right?

You may have answered your own question. If you can relet the space more easily when WeWork Subsidiary LLC breaks the lease, then the landlord's default risk is reduced.

Plus, maybe there's a large deposit.

A lot of other potential tenants are small anyway and have the same problems as WeWork Subsidiary LLC -- they can default and go under.

Does anyone have the bull case counter to this? Similar to aresant I don't mean to belittle WeWork's achievement but these facts, alongside the headlines from CEO claiming that: "Our valuation and size today are much more based on our energy and spirituality than it is on a multiple of revenue."[0] it's easy to be skeptical. Again - would be great to hear the optimist's take on this, if anyone has it.

0: https://www.axios.com/wework-ceo-valuation-based-on-energy-a...

There's a strong argument to make that executives are strongly incentivized to make their companies riskier and more prone to bankruptcy in the long run.

The bulk of executive compensation is in either outright equity ownership, or increasing bonuses based on equity price increases. Equity can be viewed as a call option on the enterprise value of the firm [1].

If you own a call option, you can increase its value by either making it 1) more in the money (by directly increasing the enterprise value, i.e. by generating value 'the honest way') or 2) increasing volatility directly, either by taking real economic risks (investing in more assets) or utilizing leverage (debt). Here we see both.

Note that financial investors in a company can be perfectly OK with results that boost the bottom line today, but lead to disaster down the road, so long as they're convinced there will be a short-term boost in the share price (at which point they exit and sell to the next sucker).

[1] https://www.fields.utoronto.ca/programs/scientific/09-10/fin...

WeWork might do exceptionally well in a recession. As businesses can't afford to keep their offices, they may downsize, and become WeWork customers.

I’m not sure about that WeWork is considerably more expensive than running your own lease or even renting old school managed offices.

I did succeed because it had a lot of customers with a lot of money to burn (startups) and it offered very good networking opportunities, later on it offered top of the line real estate and services but they were never the economic option.

In a recession when there won’t be VC money to burn and an infinite amount of rounds to raise it I don’t think they’ll do very well.

Traditional businesses won’t get much value from most of their offerings and if they would be cutting back then cheap lease in industrial parks and sub prime locations would be what they’ll be after.

During a recession, businesses--large and small--are going to cut out all the frivolous VC-style perks: snacks, booze, trendy furniture, etc.

WeWork isn't cost effective vs renting your own office space, it just removes the friction (and yes, some of the related costs) involved with getting a "trendy" SV-style office.

During a crunch, I think we'll see alot of these businesses retreat to sparser accomodations in run of the mill office buildings removed from downtown. WeWork will be constrained in this environment, since the record leases they are signing will place a pretty high floor on how much they can lower prices to compete...

If the market rages for another 5 years, WeWork is gonna hit it out of the park. If we recession before that, it'll implode spectacularly.

There's a gambler's case to be made for almost any new debt issue.

It's really just a matter of sorting out where the notes one is considering are in the pecking order and estimating the probability of the issuer going bankrupt to put reasonable bounds on expected return of principle if they fail. A similar estimate can then be made on the probability of default or restructuring for the notes under consideration.

Given that information and a big enough coupon, a quarter-Kelly or half-Kelly bet may not be unreasonable.

At this point there are too many unknowns to make that case however. We'll have to see what coupon they decide on and enumerate the things that could knock them out or severely limit their free cash flow.

To your quote from the CEO, it's not a great way to market debt issues tbh. WeWork really isn't any different from any other REIT and one does not lend a REIT money because they are great people.

As someone short TSLA 5.3% debt, at least at high 7-8% on these bonds you are getting paid to take some risk

In terms of "tech" start-ups fads, the current fad is crypto-currency, it was "social" before that, and I'm optimistic that there will be a fad after the blockchain. The optimist isn't worrying about "the first tenants off the boat" in a recession, the optimist looks forwards to the next bull run, and whatever the next fad actually ends up being, those companies are going to need office space, and WeWorks is betting on selling shovels in the form of office space.

Just like companies have moved their computing to the cloud, the bet by WeWorks is that office space itself can be thought of in the same way. Sure, companies having their own office space will never go away just like on-prem will never go away, but for a specific type of company, WeWorks is betting that it's a niche that's still big enough to justify their $20 billion valuation.

They do add some value; basically, having an office manager, and for a sole proprietorship who may be big on plans but short on time, it may be better to exchange money for WeWork amenities, rather than spending time dealing with office stuff, eg going to supermarket to stock the office with snacks.

WeWorks isn't selling office space by the sq foot, but similarly, Apple doesn't sell computers by the gigabyte of RAM either. They sell being a part of a sexy glamorous office full of other people seizing life by the horns and living life to the fullest, including meetups, and happy hours, and an app. Gotta have an app. People don't do the boring office job that your parent's did, at a WeWorks space. (Whether or not people are doing the same boring office job is besides the point, that's what they're selling.) By building their brand, and offering convenience and consistency, the goal is to just be where sole proprietorships and tiny companies work, during this fad, and the next.

WeWork (or any flexible space provider like Regus etc) provides a way for companies to avoid large ($) and long fixed lease commitments by taking shorter term flexible commitments, and they pay a premium for that.

Why would a company do that? Well, the same reason companies pay by the minute for cloud servers - to more accurately match their demand for office space/server resources.

When the economy tanks or other uncertainties face a company, the first thing to get the chop are big long leases for new office space with upfront capital investment on fitouts. So, a prudent CFO is LESS likely to sign a traditional lease and instead go to wework for a year-to-year commitment while they ride out the economic turmoil.

In addition, if the CFO or management see potential layoffs coming, they are even more likely to take up flexible space so when layoffs happen, they can also shed the office space.

I think during a downturn in the economy is when flexible office shines as a prudent option for businesses.

The press seems to focus on the free coffee/beer to position flexible office as a premium or luxury product and use the flawed logic that when the economy falters, a “luxury” coworking space will be the first thing that gets cut from a company’s budget.

I am also interested in that space and would like to pick your brain on: what do you read to keep up in this space? Personally, I follow Crain's, and CREtech.

And speaking of cap rates vs. multiples (valuation per sq foot), wsj had a great article on the Wework business model on how artifical it's valuation seems versus traditional office-leasing: https://www.wsj.com/articles/wework-a-20-billion-startup-fue...

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