WeWork is one of the world's most valuable startups, though just how its business works is widely misunderstood. We look at how WeWork makes money, where it spends it, and how its flywheel operates.
On one level, the answer to the question “How does WeWork make money?” is, “It doesn’t — yet.” The 9-year-old co-working company is notoriously unprofitable, reporting $1.9B in losses on $1.8B in revenue in 2018.
But that hasn’t stopped WeWork from becoming one of the most recognizable — and divisive — startups in the world. More than 400,000 people work out of WeWork buildings in 27 countries around the world. In 2018, the company reportedly became the largest office tenant in all of Manhattan.
Skeptics refer to WeWork as a trumped-up real estate play, but the company’s $47B valuation is far more reminiscent of a tech company in the style of Uber or Airbnb. WeWork itself has always maintained that it has more in common with its fellow decacorns than other real estate companies. As far back as 2014, CEO Adam Neumann was on the record saying the company “happens to need buildings just like Uber happens to need cars, just like Airbnb happens to need apartments.”
In recent years, the company has shifted its focus from the traditional co-working market of freelancers and solopreneurs toward higher-leverage opportunities, including co-working for enterprise and a new “WeWork-as-a-service” offering called Powered by We. And in January 2019, the company officially announced that it was rebranding as The We Company.
So is WeWork’s business model just a “house of cards” fueled by “Silicon Valley pixie dust,” as critics have claimed? Or do millions of square feet of office space, hundreds of thousands of members, and an ever-expanding repository of data add up to more than the sum of its parts?
Ahead of WeWork’s impending IPO, we looked at the company’s overall business model, its revenues from its startup and enterprise co-working businesses, and its costs in order to evaluate how WeWork’s business works today — and how it might work in the future.
- How WeWork Works
- Revenue Centers
- Cost Centers
- Challenges & Threats
How WeWork Works
On the surface, WeWork’s business looks like a relatively conventional real estate play. Across its more than 400 locations, everyone from solo entrepreneurs to large, enterprise companies can rent out everything from a desk to a private floor. But WeWork is different from your average real estate company — and is valued differently from one — because of the unique way it delivers value to both tenants and landlords.
WeWork gives its tenants something that is ordinarily hard to find: a flexible space, on-demand, with short-term leases (in some cases, even on a month-to-month basis). This solves a problem that plagues fast-growing startups especially: the process of finding a new office space, moving in, signing a long-term lease, remodeling the space, and moving out to start it all over again somewhere else.
Hot desks at a WeWork co-working space in Vancouver, Canada. Image Source: GoToVan
When a company outgrows its WeWork membership, it can upgrade to a more spacious option, a private office, or even a private floor — reducing friction from transitions. Customers don’t have to think about all the minutiae of renting office space, and they get access to plenty of office perks (free coffee, fast internet, and so on).
For landlords, WeWork offers significant value as well, including higher rents, an expanded tenant pool, and increases in real estate values. In a blog post published in 2018, the company reported rent premiums in buildings it occupies in New York and Los Angeles of between 15-29%. The company estimates that it has generated $250M in additional revenue for landlords in New York, Chicago, and Los Angeles alone.
This reciprocation of value is key to WeWork’s flywheel model — the engine of this billion-dollar company’s sky-high valuation.
The bigger WeWork becomes and the more locations it’s in, the more able it is to negotiate favorable lease terms with landlords. It can do that both because of its negotiating power and because of its aforementioned brand. The better its deals with landlords, the more money it can make and the more tenants it can fit into their buildings.
On the flip side, that increased revenue and higher occupancy can translate into improved service offerings for tenants. The better WeWork can make its service, the more members it can acquire — and the more it can re-invest in member experience.
A slide from WeWork’s 2014 Series D pitch deck illustrates how members, locations, landlords, and services interact to propel the company’s flywheel effect. Conspicuously absent from this graphic is data, which has become a strong area of focus for the company in more recent years.
WeWork’s business model is designed — if it works as intended — to be a flywheel, generating over time better outcomes for tenants, landlords, and for WeWork itself. Driving the compounding momentum are three key elements: space optimization, value-added services, and data.
WeWork’s central premise is that dealing with commercial workspace is a tough problem no matter how big (or small) your organization — and it’s rarely a core competency:
- Freelancers and startups don’t have the budget to pay for office space, or staffing to worry about building management and design, and so wind up working from home or some other stop-gap solution, which can be isolating and could inhibit collaboration and productivity.
- Small-to-medium businesses struggle with budget constraints and limited resources, as well as growth trajectories that can make space needs a moving target.
- Enterprise organizations face near-constant pressure to cut costs and increase efficiency — and real estate and operations expenses can be a stubborn roadblock to profit.
WeWork positions itself as the solution to all of these problems. By providing turnkey, scalable workspace solutions, the company promises to eliminate the friction involved in finding, occupying, and managing a workspace:
- Freelancers and startups get all the benefits and advantages of having an office space without the costs and responsibilities that come with it.
- Small-to-medium businesses get flexible, affordable space options that can be reconfigured according to their needs.
- Enterprise organizations get a space management partner/consultant that can take on a lot of the operational challenges at costs that are lower than what the company would otherwise pay.
Members and corporate clients aren’t the only stakeholders to whom WeWork promises value. The company also positions itself as a value-add to the landlords and owners of the buildings it rents, promising higher occupancy rates and longer-term leases than the owners would get from individual tenants — plus the convenience of being able to lease out large swaths of space while dealing with a single client in place of dozens.
Today, the average commercial office lease lasts between three and five years. Image Source: Tyne & Wear
This, in turn, becomes an advantage for WeWork, as it uses these promises to leverage more favorable prices and lease terms.
The business model underlying this model is straightforward rent arbitrage:
- WeWork rents a few floors of a building from a property manager in a high-density urban area.
- It reconfigures the space to include a mix of private offices, conference rooms, lounges, and open workspaces and adds a variety of worker-friendly value-added features, such as coffee, office supplies, and beer on tap.
- WeWork turns around and rents out offices and desks in the new-and-improved space to a mix of freelancers, solopreneurs, startups, and, increasingly, medium- and large-scale businesses and enterprise organizations.
The key to all of this is space efficiency. WeWork simply fits more bodies into its spaces than a typical corporate office. The average per-person office space in the United States is just under 200 square feet, according to US General Services Administration. WeWork members can expect less than 100 square feet. The claim is that it does this without sacrificing worker productivity or satisfaction. In fact, a core promise at WeWork is that its spaces are intentionally designed to foster more productivity and more innovation.
Another factor contributing to WeWork’s promise of “more productivity, more innovation” is the value-added services the company offers to members:
- In 2017, it introduced the WeWork Services Store, a “one-stop shop for business” that gives users discounts and deals on everything from office needs to sales and marketing tools to fitness and food vendors.
- In 2018, it (re)launched WeWork Labs, an incubator-style program for startups aimed at helping them grow their business.
- In February 2019, the company announced a revamp of the WeWork app, complete with new skill-sharing features aimed at making it easier for users to find, connect, and collaborate with other members.
The upshot of all of this is that once members enter the WeWork ecosystem, it’s harder for them to leave. WeWork’s growing array of value-added services — ranging from coffee and office supplies to marketing software and a services marketplace — propel it beyond a simple landlord into a kind of full-service professional “incubator” where members can network, grow their business, learn new skills, and have the day-to-day minutiae of managing a workspace taken care of.
The WeWork services store offers members discounted rates on a variety of business and lifestyle services, including healthcare, banking, retail, food, and fitness. Image Source: WeWork
If a member moves to another city, there will be another WeWork location waiting for them. If they need a strategic partner or service provider, they can find one via the WeWork network. And as their company grows from a tiny startup to a small team to a full-fledged company, WeWork’s services scale with them.
A final, crucial piece in the WeWork puzzle is the company’s use of data. WeWork has long been using data to inform the build-out of its locations: where they should be placed, and what the optimal mix of offices, workspaces, and amenities should be. More recently, the company has started to productize its data capabilities with the “space-as-a-service” offering Powered by We.
Introduced in 2017, Powered by We marks a significant transition for WeWork. Before this, WeWork’s services were restricted to the spaces that it occupied. Through Powered by We, the company has begun to expand its reach outside their own leases and into companies’ existing spaces. This has a double-whammy effect, enabling the company to command the higher prices that come with serving enterprise clients, while at the same time shedding one of its most significant sources of both cost and risk — the leases themselves.
WeWork has closed a number of acquisitions geared toward augmenting the company’s data capabilities:
- In 2015, it acquired Case, a building information modeling and architecture consultancy firm.
- In 2018, it acquired Teem, a software and analytics provider aimed at helping enterprises optimize their spaces.
- In 2019, it acquired Euclid, a “spacial analytics platform” that tracks and analyzes how people move around physical spaces.
All of these acquisitions are geared toward building WeWork into what chief product officer Shiva Rajaraman has referred to as the “Google Analytics for space.” The goal appears to be to grow WeWork into a central repository of information about how we occupy and utilize space and then leverage that information to refine and improve WeWork’s core offering, as well as pave the way for new initiatives like the shift to enterprise.
The more WeWork learns about its tenants, the more efficient it can (theoretically) become at organizing spaces around them. Image source: GoToVan
Again, all of this is happening at a massive scale. The company adds an estimated 500,000-1M square feet of space each year. In May 2017, there were approximately 180 WeWork locations worldwide. Today, there are more than 400.
As all of these elements converge at a global scale — members, value-added services, enterprise clients, real estate partners, data, and the WeWork brand — a virtuous cycle starts to take shape. New features and amenities bring in more members, more members unlock better deals with real estate partners, deals with real estate partners bring in more members, more members generate more data, more data unlocks more features.
This is the flywheel differentiator that WeWork is building toward: a combination of network effects, unique data capabilities, economies of scale, and old-fashioned brand ubiquity that yields compounding returns the bigger the company gets.
If there’s proof that this model works, the place to start looking for it is in WeWork’s revenue numbers.
WeWork co-working memberships are the core revenue generator of the WeWork business model. The company earned $1.8B in revenue in 2018, with 88% of that revenue tied to memberships. That 88% number includes enterprise clients, which now comprise 32% of WeWork’s total membership. It does not include revenue from WeWork’s ancillary offerings:
- In-space services and add-ons like printing, phone service, WiFi, coffee
- Daily, non-recurring space rentals
- Perks and subscriptions sold through the WeWork services store
In 2017, the company reported that 93% of revenue was membership-related. The decrease in this figure over time reflects the company’s recent efforts to diversify its income streams with new products and services.
In a slide from a 2014 pitch deck, WeWork projected 2018 revenues of $2.9B. The company’s actual 2018 revenue fell well short of that at $1.8B.
Despite ongoing efforts to diversify its revenue streams, members are still a crucial component of the WeWork ecosystem — and not just as customers. Members are also sources for the company’s expanding library of data. The more members WeWork has, the more data it gathers on how people work and how they occupy the spaces they work in. That data, in turn, allows WeWork to build better, more optimized workspaces — and new products and services for WeWork to offer to members.
Average membership and service revenue per physical member has declined over time. Image source: Financial Times
Broadly, WeWork’s offerings can be divided into two main categories:
- Memberships, which target individual freelancers and solopreneurs as well as startups and small teams
- Enterprise offerings, which adapt the WeWork model to the needs of large organizations
The WeWork website divides membership options into four main buckets: Shared Workspace, Private Office, Office Suites, and headquarters by WeWork. The incubator program WeWork Labs can also be included in the memberships category, since it’s designed to fit the needs of startup organizations.
The shared workspace tier is the lowest-value offering that WeWork has — not the company’s most profitable sector, but an important foundation for what’s built above it.
These shared workspace memberships are what most people picture when they hear the words “co-working space.” Members come in each morning and either grab any available desk space in a common area if they have what WeWork refers to as a “hot desk” membership; or, for $100 or so extra a month, settle in at their own dedicated desk in the shared workspace.
Amenities are a core part of WeWork’s “managed-for-you” value proposition to members. Image source: WeWork
According to the WeWork website, these shared workspaces are meant for startups and small companies as well as freelancers, consultants, and remote workers. Hot desk memberships start at $190 a month and can reach upwards of $600 in expensive cities like San Francisco. Dedicated desks range from $300 to $700+.
In addition to the question of whether you come back to the same desk each day, there are also slight differences in the amenities members have access to, such as how many credits they receive toward conference room rental per month, and whether package and mail delivery is included with their membership.
On top of the hot desk and dedicated desk options, WeWork also offers a third, lower-commitment option: We Membership. For $45 per month, We members receive credits for booking workspace or conference rooms, with the option to add additional days for $50/day for workspace and $25/hour for conference rooms. A We Membership also comes with access to other We members via the app and member network.
The next step up in price from shared workspace options, private office memberships are intended primarily for small teams, remote workers, and small companies. A private office membership sets members up in a dedicated enclosed space with access to shared spaces and amenities, such as meeting rooms, lounges, coffee, and printing services.
According to the WeWork website, private offices can be configured to accommodate anywhere from 1-100+ people. Pricing for private offices starts at $410 a month for a single person in low-cost markets and reaches $1,200+ in high-cost ones.
Once a private office no longer serves a business’s needs, the next step up is what WeWork calls an Office Suite, intended for teams of 20-250 people. The main differentiator from lower-tier offerings is that, instead of sharing communal spaces with other WeWork members, office suites come with their own private reception, conference rooms, executive offices, phone booths, and pantries. However, the space is still managed by WeWork, with considerations like cleaning, maintenance, IT, and utilities handled by WeWork staff.
headquarters by WeWork
The tier above office suites, headquarters by WeWork is WeWork’s “white label” solution for enterprise clients. Rather than setting the company up with a space inside an existing WeWork, headquarters are set up in standalone locations sourced by WeWork in a neighborhood of the client’s choice. Client companies choose one of four “configurable layouts,” ranging from an open bullpen to executive suites. Clients for this service also opt to have internal staff manage day-to-day operations for their location, with WeWork taking what the website refers to as a “behind-the-scenes” role.
A striking example of how WeWork leverages value-added services to draw companies deeper into the WeWork network comes in the form of WeWork Labs.
WeWork Labs is WeWork’s “global innovation platform” — essentially an in-house startup incubator that augments the core WeWork workspace offering with additional features, including dedicated program managers, weekly events, pitch nights, workshops, and investor introductions. Relaunched in 2018, the program is currently offered in 35 locations — 12 in the United States and 23 in major cities across the world, including Brazil, China, Israel, Singapore, the UK, and Thailand, among others.
The company says 1,000 startups have been incubated through the program as of December 2018. According to the WeWork Labs’ global head, Roee Adler, the plan is to grow WeWork Labs to 100 locations by the end of 2019.
The key factor that differentiates WeWork Labs from other startup accelerators is the business model: in place of the standard incubator model of taking equity in the business, WeWork Labs charges a flat fee, essentially an up-charge to what the startup would otherwise pay for a space at WeWork. Prices for the program’s US locations range from $300-$600 per month.
There’s a strategic dimension to WeWork Labs as well: as successful companies graduate from the program and grow into full-fledged companies, they become potential customers for WeWork’s expanding suite of services.
Enterprise clients are where WeWork’s model kicks into high gear. Enterprise clients bring with them more members, more stability, more money, and more data — all of which serve to reinforce WeWork’s flywheel approach.
For the first few years of WeWork’s existence, the company overwhelmingly served freelancers, solopreneurs, and fledgling startups. But starting around 2017, the company started to shift more of its focus to larger organizations. Corporate clients (tenants who work at companies with more than 1,000 people) now make up 32% of WeWork’s membership, an increase from 17% in 2017. Notable enterprise clients for the company include Microsoft, Facebook, BlackRock, Adidas, Citi, and Salesforce. WeWork claims that 30% of the Fortune 500 are WeWork clients.
A handful of prominent WeWork enterprise clients displayed on the WeWork website. Enterprise clients now make up around 32% of WeWork’s membership. Image source: WeWork
There are several reasons for the shift. First, the change brought some stability to WeWork’s memberships as larger clients are more likely to sign longer leases. As of November 2018, the average lease length for a WeWork member was 7-8 months, but enterprise clients were helping to drive the average length of new leases up to 20 months.
The pivot to enterprise clients also allowed WeWork to diversify the types of businesses that it works with. A major concern with cultivating a customer base of startups and software companies was that it left the company vulnerable to a market downturn, since a recession affecting the tech sector could stymie many of these companies and, presumably, WeWork’s membership count as well. However, documents from WeWork’s first bond sale in 2018 show that the company’s clientele is more diversified than many realized: only 15% of WeWork occupants at the time were in software, while 20% were in business, financial, or legal services.
For enterprise clients, WeWork carries over the standard Private Office and Office Suite options described above and adds three additional services: Global Access, Custom Buildout, and the “data-as-a-service” consultancy option Powered by We.
Designed primarily for businesses with traveling and remote workforces, the Global Access option essentially allows businesses to buy memberships for its employees to WeWorks around the world. WeWork also provides utilization reports to client companies that allow them to monitor which locations their employees are using — a feature that the WeWork website says allows businesses to “make data-driven decisions about the future of your realty portfolio.”
WeWork’s custom buildout option gives corporations the option to have WeWork design and build out a completely custom office. WeWork scouts the real estate, reconfigures the space according to the client company’s criteria, and then manages operations much the same as it would at typical WeWork locations.
Powered by We
In this model, WeWork does not build or manage any new spaces. Rather, it position itself as an office space consultant, leveraging data, engineering, and design expertise to reconfigure enterprise clients’ existing spaces in a bid to boost productivity. The company can then manage the space in much the same way that it manages branded WeWork spaces.
Powered by We promises to import the signature WeWork ambiance and efficiency to enterprise clients’ existing spaces. Image source: WeWork
As of July 2018, Powered by We had 30 customers, including Standard Chartered and Pinterest. The division generated $13.7M in 2017, according to Bloomberg — just 1.5% of the company’s overall revenues of $886M for that year. However, the “office space-as-a-service” offering could be a core part of the company’s strategy moving forward. Costs under this model are significantly lower than the costs of opening a WeWork, and the model gives WeWork entry into a whole new market in the form of more mature businesses with existing, established workspaces. Additionally, the model provides WeWork with a recurring revenue source disentangled from the commitment and risk of a long-term lease.
WeWork accounts for the vast majority of The We Company’s revenues. But the company has been acquiring companies and introducing new projects and initiatives at an impressive clip, spanning everything from coding schools and gym concepts to co-living spaces.
Oddly, however, The We Company has yet to offer its members any special discounts or deals to its other businesses. So far, the company’s non-coworking offerings largely operate as their own stand-alone entities.
Broadly, we can divide WeWork’s other ventures into two main categories: non-real estate services for WeWork members, and other real estate concepts.
Non-Real Estate Services
In 2017, WeWork announced that it had acquired The Flatiron School, a coding education platform that offers a combination of online and offline classes to people looking to retrain for a career in tech. The mostly stock deal was worth a reported $40M, according to Reuters.
Flatiron School has served more than 1,500 students since opening in 2012, according to a 2018 student outcomes report published by the company. For the time being, Flatiron School continues to function relatively independently from WeWork. The school continues operating its in-person and online programs with plans to expand to other educational models and courses, as well as to explore new opportunities for the WeWork member community.
Flatiron School could become a revenue center for the company, but the coding education space is crowded, and competition is fierce. Image source: Flatiron School
WeWork acquired social networking platform Meetup in 2017 for a reported $200M. The synergy between the two businesses is clear: Meetup’s goal is to get people away from their computer screens and interacting in the physical world, and WeWork’s goal is to foster connectivity and interaction… in WeWork buildings, of course.
Meetup is the most mature business that WeWork has brought into the fold so far: founded in 2002, the company reached profitability in 2009 with revenues of $9M. Meetup continues to operate as an independent business, but it may have value as a customer acquisition vehicle for WeWork. As of the acquisition, Meetup had 35M users (vs. WeWork’s 400,000 members), including many in markets where WeWork does not have a presence.
Other Real Estate Concepts
In 2016, WeWork announced its first expansion outside the world of co-working with the introduction of WeLive, a co-living concept that applied the turnkey convenience of WeWork to apartment living. The hypothesis behind the concept is simple: WeWork members who like the co-working model might find similar value in a communal, convenient living arrangement.
WeLive adapts the turnkey quality of co-working to living space. Image source: WeLive
Early expectations for the WeLive concept were high. In 2014, the company projected that it would add 14 locations by the end of 2016 and that WeLive would account for 12% of the company’s revenue. However, as of 2019, WeLive has just two locations. The drastic scale-back in ambitions is likely a product of the project’s high setup costs and continued doubt about the viability of co-living in the US.
In 2017, WeWork announced the launch of WeGrow, an experimental elementary school concept. Again, there’s a direct connection to the company’s mission to establish WeWork as the center in its members lives: if WeWork members can send their kids to school in the same building as their offices, that’s one more tether between members and the WeWork ecosystem.
WeGrow connects students with mentors sourced from the WeWork community. Image source: WeGrow
While the project shares a name with one of the newly formed divisions of The We Company, it seems unlikely that the project will be able to scale up significantly in its current form. The first program included just 46 students — 60% of whom received aid from WeWork to offset the prohibitive $36,000-$42,000-per-year price tag. Only one in three students enrolled at WeGrow are children of WeWork employees or members.
Rise by We
In 2017, WeWork announced the opening of a new fitness concept called Rise by We, located in a Manhattan-based WeWork. Reviews have been lackluster — Yelp gives the location 3.5 stars based on 18 reviews — and the concept has yet to add a second location. If the goal is to expand, further growth will be difficult given the demographics of luxury gyms and the high competition in the space.
Rise by We brings the signature We design sensibility to the fitness space. Image source: Rise by We
Competitor Comparison: IWG
While WeWork has shown an interest in expanding into verticals outside the original co-working vertical, temporary space rentals remain its primary line of business. This means that, for the time being, the most useful gauge in sizing the company up is to measure it against a competitor in the space rental sector.
WeWork is not the first organization to see a business opportunity in providing outsourced workspace solutions to organizations — IWG (formerly Regus) has been doing that for more than 30 years.
IWG is a multinational organization originally founded in 1989. The company has five main brands: Regus, Signature by Regus, Spaces, HQ, and No18.
IWG is significantly larger than WeWork: it has a total of 3,000+ locations in 1,000 cities versus WeWork’s 650+ locations in 115 cities. WeWork has a significantly higher employee-to-customer ratio than IWG, likely due at least in part to the younger company’s emphasis on community management.
Unlike WeWork, IWG is profitable. In 2018, the company reported $200M in operating income and $140M in net income on revenues of $3.3B.
Unlike WeWork, IWG’s revenues and expenses rise and fall together. Image source: Financial Times
The most striking contrast between the two companies is their valuation. WeWork is valued at $47B. IWG, meanwhile, has a $2B market capitalization. So where does the $47B figure come from? How is WeWork worth almost 25x a brand that has 6x the real estate and membership, and a profitable business model to boot? WeWork’s answer is that it is more than just a real estate services company — that its data-driven decision-making and suite of value-added services combine to provide value that far exceeds mere space rental.
IWG may be the co-working company best positioned to challenge WeWork on a global scale, but evidence suggests that the company is looking to get out of the WeWork game. In January 2019, Bloomberg reported that IWG was exploring options to sell its Spaces unit. The news comes in the wake of flagging financial performance for IWG, which saw pre-tax profit down 8 percent in 2018.
Spaces has approximately 180 locations in 50 countries with plans to reach 400 locations this year. According to IWG CEO Mark Dixon, the division will become about the same size as WeWork in 2019 — and is a profitable business. With its emphasis on larger spaces and a more modern aesthetic, experts have speculated Spaces may be the brand best positioned to challenge WeWork.
Dixon told the Financial Times that IWG has fielded interest in the deal, and that the company is “considering all options.”
“These are also people that are interested in investing in the sector as opposed to looking to buy… We are clearly saying ‘watch this space.’”
WeWork has been growing revenues at an impressive rate. But the company’s costs have been growing just as fast. Net losses hit $1.9B in 2018 — up 103% from 2017.
Those sky-high costs are a product of WeWork’s aggressive expansion trajectory. The company has more than doubled its presence in the last year alone, up to 425 locations. As a result, WeWork’s most significant costs are the $18B in rental commitments the company has made through 2023, as well as renovation and construction costs. The company appears to be following the Amazon model: focus on building out infrastructure and achieving brand ubiquity first, then flip the switch on profitability later.
Image source: Financial Times
According to CFO-turned-COO Arthur Minson, the mismatch between WeWork’s profit and loss is purely a product of the upfront costs inherent in building out a physical space. “We incur the expense today and the revenue and the operating margin of those buildings will come on next year,” he said to Reuters.
At least one WeWork location is profitable. The company’s London location at Moor Place reached an operating profit margin of $2M in 2017, up nearly 450% from the year prior.
By internal metrics, WeWork considers itself to already be profitable. That’s according to a home-brewed metric the company uses called “community-adjusted EBITDA.” This metric strips out expenses including marketing, general and administrative, and development and design costs alongside the EBITDA-standard interest, taxes, and depreciation & amortization. Minson has compared the metric to the unit economics of a restaurant or retail chain. Going by community-adjusted EBITDA, WeWork’s earnings more than doubled to $467M in 2018.
There’s a $394M difference between WeWork’s adjusted EBITDA and its internally reported community-adjusted EBITDA. Image source: Axios
Critics have dismissed community-adjusted EBITDA as nothing but a puffed-up vanity metric and pointed out that it fails to account for the two largest sources of risk that WeWork faces: low barrier to entry for competitors and the mismatch between the long-term leases with landlords and the short-term rental agreements with tenants.
However, proponents have noted that it may not be as empty as it at first seems. Community-adjusted EBITDA does include the expenses associated with operating individual WeWork buildings, including rent expense, staffing expenses, facilities management, and so on. The expenses it excludes (marketing, G&A, development, and design) are company-wide, and many, though not all, are associated with growth. Viewed this way, community-adjusted EBITDA becomes a window into WeWork’s future, once it passes the stage of aggressive expansion.
For now, though, WeWork’s expenses are very real. They come in three key areas: rental commitments, renovation, and customer acquisition & retention.
Rental commitments continue to be the most significant cost on WeWork’s balance sheet. The company currently leases approximately 14M square feet of office space — a number that equates to “a small city’s worth of commercial square footage,” according to Quartz. To secure the spaces, the company has signed leases worth $18B, which it will pay out under terms of 5, 10, or 15 years.
In times of strong economic growth, WeWork’s rental commitments will not be a problem, since the company can reasonably expect occupancy rates to stay high enough to cover the expense. However, if a recession should hit and membership flags, WeWork could be left holding the bill for rent obligations it cannot meet.
Some analysts have suggested the very extent of WeWork’s holdings could shore the company up should markets go down. WeWork has said it’s the largest real estate tenant in New York, London, and Washington, and ranks in the top five in several other cities — some claim this renders it “too big to fail,” since these cities would likely help the company out rather than let the city’s entire real estate market go under.
WeWork doesn’t appear to be counting on this eventuality. The company has taken several steps to reduce risk in the real estate markets, including targeting more enterprise clients, shifting from leases to co-management deals, and moving toward longer lease terms for members — all with the apparent goal of improving the stability and profitability of its commitments.
WeWork has also purchased property in several locations. In 2017, the company announced a deal to buy the famous Lord & Taylor building in Midtown Manhattan, a deal the company closed in partnership with private equity firm Rhone Group. The deal for the 676,000 square-foot space cost $850M, and the costs to refurbish the space in the hallmark WeWork style could reach an additional $200M.
Some critics have expressed concern about the deal, pointing out that it essentially makes WeWork its own landlord using other people’s money. “There’s huge potential for conflicts,” Harvard Business School lecturer and long-time real estate fund advisor Nori Lietz told the Wall Street Journal. “They’re using other people’s money, and they’re on both sides of the transaction at the end of day.” The Journal also points out that the fund could tilt decisions on things like lease rates in favor of WeWork.
Also raising eyebrows is the relationship that WeWork CEO Adam Neumann has to the real estate industry. Neumann has ownership stakes in several buildings where WeWork is a tenant, effectively meaning that Neumann is operating as both landlord and tenant in these deals. Investors have expressed concern that the setup could result in a further conflict of interests, as Neumann stands to benefit on rents or other terms reached with the company.
WeWork has $18B in rental commitments that it will be responsible for paying throughout the next 5-10 years. Image source: Pixabay
Construction & Renovation
After rental commitments, the next most significant cost center on the WeWork balance sheet is the build out of the locations themselves. But as the company scales, it acquires more data that results in more targeted decision-making and enables it to negotiate better and better deals with partners and suppliers. As COO Arthur Minson put it to Bloomberg: “This is a business where scale matters. We’re building global supply chain capabilities, which allows you, frankly, to build cheaper than anyone else out there — materially cheaper.”
Space efficiency is the name of the game for WeWork in renovating its spaces. When a single additional desk can add up to $80,000 in sales over 10 years, it’s not difficult to understand the company’s commitment to optimizing every inch of floor space it can.
To that end, WeWork has invested heavily in improving its construction capabilities. Several of the company’s acquisitions have been geared toward that, including the 2015 acquisition of architecture consultancy Case Design and the 2017 acquisition of construction communication platform FieldLens.
The investment appears to be paying off. Net construction costs per desk fell 22% in 2017 to more than $5,600. Gross capital expenditure per desk also decreased over the same period, from $14K in 2016 to $9.5K in 2017.
Member Acquisition & Retention
Rent and build out costs may be WeWork’s most significant upfront costs, but once the spaces are developed, it’s time to recruit members. That comes with costs of its own — costs that have increased alongside revenue as the company continues to prioritize expansion.
WeWork’s business model rests on the ability to keep occupancy rates high. Experts estimate that WeWork needs to keep at least 60% of its desks full in order to meet its rent obligations.
So far, it has been largely successful, thanks at least in part to high employment and steady economic growth. As of August 2018, the company reportedly filled 84% of desks across its locations, up from 78% the year prior and slightly below the nationwide average for office space, which was 89.5% occupancy as of Q4’17.
Getting those seats filled comes at a cost. Sales and marketing expenses at WeWork hit $372M in 2018. That’s a 162% increase over 2017 and 20% of the company’s $1.8B revenue.
This may be another explanation for the company’s increased focus on enterprise clients over the past few years. As already mentioned, 32% of WeWork’s members now come via enterprise customers — up from 25% last year. By going “upstream” of individual employees and marketing directly to employers, WeWork essentially acquires members in bulk rather than marketing to each freelancer and solopreneur individually. Corporate clients also tend to lead to longer membership commitments, significantly reducing turnover.
Challenges & Threats
Ultimately, what The We Company needs is time for the numerous flywheel mechanisms it has put into place to gain traction and build momentum at scale. But it’s time that the company may not have — with capital starting to dry up, competitors honing in on the market, and a possible recession looming, there are plenty of potential roadblocks ahead that make WeWork’s path to profitability anything but a sure thing.
While WeWork continues to seek a path to profitability in the long-term, in the short-term, it will continue to need infusions of cash to continue its aggressive growth trajectory — and that cash may be harder for the company to come by in the future than it has been so far.
In the past, the obvious answer to WeWork’s financial needs was SoftBank, by far the company’s largest single investor; however, relations between the co-working company and the Japanese investing giant appear to have shifted. In January 2019, SoftBank scaled a planned investment of $16B back to just $2B — a move that some have speculated signals a reevaluation of The We Company’s profit potential.
WeWork has publicly stated that it is not concerned with the change in the deal size. The company’s CEO, Adam Neumann, told CNBC that the $2B SoftBank investment is “above and beyond what we need to fund the company for the next four to five years.”
While the company’s growth trajectory is impressive, it’s unclear whether aggressive expansion and a knack for millennial branding alone will be enough to protect against competition in the co-working space long-term.
There were around 19,000 co-working locations around the world as of September 2018, according to Harvard Business Review. In London, one of the biggest flexible office markets, the three largest providers accounted for about 17% of the city’s total flexible office supply in 2017, according to workspace broker Instant.
Younger companies are emerging as well with an express mission of taking on the WeWork behemoth. In 2018, co-working startup Convene announced a $152M Series D fundraising round, bringing it up to $266M in total disclosed funding. The company is still relatively small — operating just 700,000 square feet of office space across 23 locations in big american cities.
The takeaway is that WeWork’s hold on the co-working space is far from ironclad. While none are as well-capitalized as WeWork, it’s not outside the realm of possibility that a challenger could emerge as a Lyft to WeWork’s Uber. And with bigger rivals would come a raft of new obstacles for WeWork to contend with, including increased customer acquisition costs, more competition for leases, and potentially a limited supply of lucrative enterprise clients.
WeWork appears to be aware of this as it has been taking a proactive stance, poaching members with offers of months of free membership and, in some cases, buying potential competitors outright. In 2018, WeWork acquired Chinese co-working startup Naked Hub for a reported $400M — a move that may be intended to protect the company’s recent expansion into Asia. WeWork also has a significant investment stake in The Wing, a women-focused co-working company with 7 existing locations and an additional 4 scheduled to open through 2020.
The threat of competition is also why the company’s integration of data is so critical. Space is a commodity and data is a resource. If WeWork can accumulate a critical mass of data from its users, and leverage that data into more unique offerings, it may be able to create the kind of strategic moat that challengers will find difficult to cross.
Despite WeWork’s efforts to move more of its leases onto long-term plans, purchase property, and otherwise insulate itself from risk, an economic downturn on par with the 2008 recession could still hurt WeWork’s business significantly. As already mentioned, WeWork has taken on $18B in rental commitments, which it will be responsible for paying out over the next 5-10 years. If a recession should hit, membership flags, and client companies either tighten their belts or are forced to shutter operations altogether, WeWork could find itself holding the bill for obligations it cannot meet.
A useful case study comes in the form of WeWork’s current main market competitor, IWG/Regus. Regus launched in the late 1980s and expanded rapidly through the 1990s. However, in the wake of the dot-com bubble and the subsequent recession, demand for work space plummeted, and Regus declared Chapter 11 bankruptcy in 2003.
This is the fate that many critics believe awaits WeWork should another recession hit — and some believe that another market downturn is fast approaching. It is also what makes diversification of revenue streams so crucial. WeWork needs something to fall back on if real estate markets should fail. This appears to be what the shift to enterprise clients and data-centric services like Powered by We are intended to do: provide the company with some steady, resilient business lines it can rely on should the markets take a turn for the worse.
The Future of We
WeWork’s business model is built on principles of compounding returns. By combining scalable office space solutions with a growing array of services and amenities, WeWork attracts an ever-expanding ecosystem of solopreneur, startup, small business, and enterprise clients. As membership grows, WeWork is able to leverage the size and quality of this network to offer better lease terms to its landlords, which in turn leads landlords to offer WeWork better deals on space. Better deals lead to more space, more space leads to more members, and more members lead to better deals. The result is a self-reinforcing cycle that builds momentum as the company grows, allowing WeWork to unlock network effects, efficiencies of scale, and, eventually, profit.
In January 2019, the company announced that it had officially rebranded as The We Company, with a self-proclaimed mission to “elevate the world’s consciousness.” The move gestures at a vision for the company that expands way beyond co-working, spanning living spaces, fitness spaces, schools, a startup accelerator, and more.
WeWork has built a brand on big vision and big expectations. With the rebranding as The We Company, and its upcoming arrival on the public market, it seems that vision is about to get bigger still. But so much about the company — from the profitability of the core co-working business to the financial viability of its new ventures to its ability to deliver value that can justify that $47B valuation — is still hypothetical.
If the company can maintain its growth trajectory and successfully leverage the treasure trove of data it’s gathering in a bid to become “the Google Analytics of space” and survive threats to its survival in the form of capital constraints, competition, and a possible market downturn, it may yet be able to live up to the promise of its valuation.