KIM: Is WeWork the ‘canary in the coal mine’ for profitless ‘unicorns’?

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INVESTING: Mickey KimIt’s true that they don’t ring a bell at market tops (or bottoms), but we’re pretty sure the “Unicorns” (privately held technology companies, typically losing tons of money, but valued at $1 billion or more) are trying to tell us sanity is returning, which is positive for the health of the overall market and will hopefully benefit investors who focus on profits and ignore the hype.

Venture capital/private equity firms invest in private companies at an early stage, with hopes of cashing out at a big profit when the private company goes public through an initial public offering. These investment firms succeeded in generating consistently high returns (in founder/CEO –led firms like Amazon and Facebook), which was catnip to university endowments and other giant institutional investors, which responded by flooding the private market with $2 trillion of capital over the past decade.

Indeed, the number of private equity firms has risen from about 1,000 in 2000 to over 7,000 today. During the same period, private equity assets under management have exploded from about $500 billion to $5.8 trillion. With this tsunami of cheap/free capital chasing too few good deals, the result is predictable. When investors compete to give their capital to private companies, you get standards that are lowered at the same time valuations are raised, a recipe for disaster.

In other words, you get shared office space wunderkind WeWork, which may prove to be the “canary in the coal mine” that kills the hopes of other unicorns that are long on captivating stories of how they’re going to disrupt and dominate the world, but short on realistic plans for how they’re going to make money doing it.

As the table above shows, WeWork’s revenues impressively doubled each of the past 3 ½ years. Unfortunately, WeWork’s operating losses grew just as quickly, while burning through $7 billion of cash.

Paradoxically, WeWork’s private investors cheered their ability to vaporize mountains of cash and rewarded the company with exponentially higher valuations. In its first, or A, round of financing in April 2009, WeWork was valued at $97 million.

Fast forward 10 years, to January 2019, when its G, or 7th, round of financing valued the company at $47 billion, which illustrates how in a financing with a relative handful of investors, the price is set by the most enthusiastic backer. This was not only a “win” for WeWork, but also for the earlier-round investors, whose prior investments were magically worth much more at the new valuation (increasing their fees and attracting even more investors). Shazam!

WeWork’s IPO bombed as investors determined the “emperor has no clothes.” Turnoffs were many, including humongous losses and cash incineration with no reasonable path to profitability, “risk factors” in the IPO prospectus that ran 32 pages and the revelation that founder/then-CEO Adam Neumann sold the rights to the word “We” to the company for $6 million.

Japan’s SoftBank, WeWork’s most enthusiastic backer, is trying desperately to salvage the $9 billion it had already sunk into WeWork with a $9.5 billion rescue package giving it 80% ownership and dropping the valuation from $47 billion to a still pie-in-the-sky $8 billion. Neumann was paid $1.7 billion to go away.

The stock market usually succeeds in allocating scarce capital to its most productive use, over a long period of time. While this moment of clarity was bad for WeWork, it is healthy overall. Anybody can sell a dollar for 90 cents so firms with a “land grab” mentality of growing revenue without heeding cost should fail.•


Kim is Kirr Marbach & Co.’s chief operating officer and chief compliance officer.

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