WeWork’s 90-Day Plan Focuses on Its Core Business
On November 21, 2019, WeWork announced layoffs for 2,400 employees, which comes about two weeks after the company released its third quarter investor update. We have spent the last two weeks digging through WeWork’s investor presentation and are here to offer our insights into the road ahead.
WeWork’s 90-Day Plan Explained
WeWork will focus on four key pillars over the next three months. First and foremost, it affirmed its commitment to the core co-working business. It will continue to develop and market co-working space in existing and new markets while shedding most of the businesses it acquired in the run up to its IPO, including The Wing, SpaceIQ, Meetup, Team, Wave Garden, Conductor, and Managed by Q. Interestingly, it is reevaluating its previously planned divesture from RISE, WeWork’s health and wellness brand.
Second, it will reduce headcount. The company’s announcement of 2,400 layoffs, or about 20% of its overall headcount, will include general and administrative, growth, and Ventures employees. It pledged to retain its community teams, which are responsible for managing and maintaining individual locations. All custodial jobs are being transitioned to third party providers, notably JLL, who will assume WeWork’s current custodial staff.
Third, it will continue adding desks to its portfolio and deepen its relationships with existing customers. WeWork is going to pivot more toward enterprise customers and shy away from the open market users that currently make up the majority of its membership base.
Fourth, it will begin implementing new corporate governance guidelines and changing the relationship it has with key stakeholders. This includes adjusted compensation schemes and potential modifications in its relationships with landlords, enterprise customers, and city governments.
Taking the four pillars one at a time, we are pleased to see the company commit to its core co-working business. WeWork started as a co-working company and diversified beyond its core competencies with its forays into education, residential leasing, real estate investments, and technology. We are of the belief that it is better to do something well before expanding into related diversification (we are credit analysts after all). It may be a bit premature, however, to suggest that WeWork will remain a true co-working company as we have come to know the term. We Work noted earlier that it will pivot toward enterprise customers in the future. Currently, small and medium sized businesses (SMBs) account for 57% of WeWork’s total membership base, with enterprise customers accounting for the balance. We believe that this will provide some insulation from short-term economic downturns as enterprise customers tend to have somewhat longer leases with WeWork than the SMB members. This shift, if successful, does run the risk of driving a long-term wedge between traditional landlords and their tenants. The pivot could put pressure on landlords’ leasing activities, as WeWork will likely offer more flexible terms at an attractive service offering as compared to traditional leases. The move toward enterprise also reduces WeWork’s selling, general, and administrative costs as it manages a smaller member portfolio. We can see why enterprise is attractive as WeWork reported that mature locations that are at least half enterprise generate a 20% gross margins, while mature locations that are at least half SMBs only generate 3% gross profit. We will ignore WeWork’s location contribution margin because it reportedly ran afoul with the SEC over this non-GAAP metric.
WeWork’s need for headcount reduction is the unfortunate side effect of its overly exuberant growth. While it is not easy to swallow, it was the necessary move to limit losses as it repositions.
The prospect that WeWork will continue adding desks is a little surprising on the surface. The company has shown that it grew too big too fast with its 600 locations in 122 cities. The logic does hold, however, if the growth is in profitable markets. WeWork maintains 156 locations in its top seven markets (New York, London, San Francisco, Los Angeles, Boston, Chicago, and Washington, DC), which are 26% of all locations. Of the 156 locations in its top seven markets, 68% (or 106) are considered mature. On average, WeWork generated 9% gross margin on its mature locations in its top seven markets, where as it is losing money on all other markets. If the company effectively expands its enterprise business in its top seven markets, we could see overall gross margins rise across the business while effectively subsidizing the underperforming locations outside its core. This would be welcome news for landlords with WeWork exposure as the company currently has about $5 billion in exposure through parent guarantees and an additional $1 billion in letters of credit. Even with its Softbank bailout, WeWork is not capitalized today to pay out on these guarantees, so a shift toward profitability is key.
The company’s planned changes in corporate governance, compensation, and its relationships with its partners is a bit murky at the moment. We will withhold significant judgement on this pillar until more details emerge, but we welcome the company’s commitment to it.
Please reach out to us if there is anything we can do to assist analysis of WeWork, or any other tenant, in your portfolio. And stay tuned for more insights as they become available.