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WeWork - Coworking

Investors Downgrade Valuations of Buildings Reliant on WeWork

The Real Deal has reported that a new study by Cushman & Wakefield shows that investors have been discounting the cap rates of properties with a large portion of their space dedicated to WeWork. The investment community seems to be thinking that having one tenant own a large part of a building’s cash flow, even if they are incredibly well funded, is a bit riskier than having a variety of tenants.

This makes a lot of sense. In business school they talk about buyer power and how having too much of your product go to one entity can make you reliant on them. Also, having a diverse mix of companies, rather than just a single (ridiculously well funded) one, increases diversification and thus decreases risk, just like in an investment portfolio.

But there is a lot more to it than this. WeWork recently raised $702 million in bonds at 7.875%. They set out to raise only $500 million but WeWork being WeWork was able to win the hearts and minds of generally incredulous bond investors despite Moody’s giving the offering a rating of Caa1, four ratings from the lowest possible.

Customer acquisition costs are also concerning for the co-working company. In the bond prospectus, WeWork said that it has an annual capex expense of $5,631 for each new desk added. This is above the $4,166 of revenue that it gets from each desk annually. They have an asset-light model since they don’t own most of the buildings that they operate in, but their growth doesn’t come without its expenses.

WeWork has used some inventive accounting to get around this fact. They straight-line both their “pre-opening expenses” and their “community operating expenses” which helps spread their initial costs, from buildouts and rent discounts, over the course of the year. This has also created somewhat of a skewed look at the forecast for lease commitments as they seem to skyrocket after their “2023 and beyond” category:

WeWork is benefiting from accounting rules in another way as well. At the end of the year, the new accounting standard, FASB 842, will go into place which requires companies to report their leases as both an asset and a liability on their balance sheets. This will cause some companies to rethink their leasing strategy because leases will look like long-term facility financing to investors under the new rules. Verizon is said to have to add $18 billion in future lease obligations to its balance sheet. This makes using flex spaces like WeWork much more enticing for companies.

It seems that WeWork is a bit of an enigma to everyone. On one hand, they are an (extremely) well-funded rocketship of a company changing the way the world innovates. From a different angle, they are a money-losing, over valued startup that would be the first to fail in a downturn. We will have to wait and see if WeWork can change the world like they think they can but in the meantime, it looks like investors have their doubts.