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The Promise of Real Estate “Fracking”

MIT’s Dennis Frenchman recently coined a new term: “real estate fracking.” The term refers to innovations in how real estate is metaphorically broken apart and resold in smaller, higher-value packages. One of the most notorious examples in the co-working space is WeWork.  Other companies include co-living start-ups like Common, Ollie, and Starcity, which offer more flexible lease terms with less personal space and more communal space, typically fully outfitted. StayAlfred, Sonder and Lyric, provide additional examples as companies that lease apartments directly and rent them out like a distributed hotel via Airbnb, VRBOs, and similar online marketplaces. 

While the possibilities of real estate fracking are exciting, the co-working, co-living and short-term rental operating models all suffer from one major challenge: their business models depend on taking on major lease liabilities. This is why our firm was attracted to WhyHotel. WhyHotel is a hospitality company that operates pop-up hotels in new luxury residential buildings. They partner with property owners to provide short-term rental options to hotel consumers during a building’s “lease-up” phase.  Although WhyHotel is engaged in real estate fracking too, its model is more profitable and sustainable than these other companies for three important reasons.  

First, unlike the short-term rental operators, co-living and co-working companies, WhyHotel does not take on any market leases or buy any furniture (it’s rented). Instead, the company’s whole cost structure is designed for temporary operations with a revenue share for building owners. This makes the business far less capital intensive and generates higher margins.  

The value of this partnership model can be seen through a study of the rise and fall of the WeWork valuation.  WeWork’s investors were counting on the firm’s commercial lease empire as an asset, when in fact its leases were a long-term liability. The spectacular plummeting of WeWork’s valuation was due in part to the misconceptions surrounding the value of these leases and unproven unit economics. WhyHotel’s model avoids these pitfalls.

Second, WhyHotel creates an unparalleled opportunity for asset owners; income from WhyHotel’s hotels are “found” revenue. WhyHotel is renting out apartments that would otherwise sit empty during the lease up phase of a residential building. This gives WhyHotel more leverage in setting terms.

And finally, WhyHotel provides 24/7 onsite staff, more like a traditional hotel than an Airbnb.  WhyHotel is able to do this because it is operating at scale, typically with at least 50 operating apartments in a given building. This makes WhyHotel a consumer-friendly option and differentiates it from other short-term rental companies.

WhyHotel’s unique business model situates it at the intersection of a traditional hotel operator, a short term rental operator, and a marketplace. Like a Marriott or Hilton, WhyHotel is building a hospitality brand in the non-traditional apartment space and like Airbnb, they facilitate the short-term rental of long-term assets without taking on the associated liabilities of real estate ownership.

Co-Founder Jason Fudin incubated WhyHotel in 2016 as a pilot at Vornado.  Jason and his Co-Founder Bao Vuong spun out the business in June 2017. Camber Creek led WhyHotel’s $3.6 million Series Seed financing round. Working closely with our team, WhyHotel quickly launched two of its trademark pop-up hotels in Washington, DC and Baltimore. In December 2018, WhyHotel raised a $10 million Series A. Shortly thereafter, WhyHotel launched with Brookfield in Arlington, Virginia and with Avalon Bay in Seattle, Washington. 

Yesterday, our analysis of WhyHotel was further validated when they announced the close of their $20 million-plus Series B funding round led by Harbert Growth Partners with participation from Camber Creek.  We believe in the months and years ahead other companies will follow WhyHotel’s lead by finding capital efficient ways to ‘frack’ real estate, offering new residential, commercial and hospitality options to the market and new revenue streams for real estate owners and operators. 

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