Gravity Works As WeWork Doesn’t An In-Depth Look into The We Company’s Fall from Grace Research Reinvented
At Smartkarma, We Do Things Differently
We leverage the online economy, applying this innovative mindset to capital markets. For a single subscription, Smartkarma users can consume all the research they need, just like Netflix enables viewers to watch unlimited hours of content on its platform. At the same time, we address a growing need for a modern approach to corporate access. In 2019, we launched Corporate Solutions, which allows company executives and investor relations personnel to connect seamlessly to investors and analysts, all within a single network. In this effort, we work closely with global exchanges such as Singapore Exchange, which became our investor, to provide such services to listed companies worldwide.
Our model ensures that the research on our platform is objective and unbiased, independent and free from conflicts of interest. The platform determines appropriate pricing according to the quality and value of each research piece. This helps independent Insight Providers monetise their research and incentivises them to produce truly quality, differentiated work that stands out from the rest of the market. A commitment to quality is also why we carefully vet and select our Insight Providers. Less than 10 percent
of the independent analysts who apply are approved as Insight Providers on Smartkarma. We currently have over 100 such curated Insight Providers publishing on the platform, ranging from one-person operations to teams of multiple members around the world.
In the following pages, you will be able to see for yourself the result of our efforts. In the meantime, we will be busy bringing you more exciting
Smartkarma is a global developments over the course of the year! investment research network that brings together independent Insight Providers, institutional investors, and corporate investor relations professionals and management.
2 Table of Contents
1. Gravity Works As WeWork Doesn't; Now Plan B...... 4
2. WeWork Board and Softbank Battle CEO For Control...... 19
3. WeWork Board to CEO: YouOUT...... 27
4. The Tide Is Out and WeWork Bondholders Are Naked ...... 35
5. Softbank May Blink First (WeWork Bondholders Hope) ...... 46
6. Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware ...... 53
7. WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence ...... 61
8. WeWork Is Foundering While Softbank Struggles With Its Bailout ...... 71
9. WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill ...... 78
10. WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing...... 87
3 Gravity Works As WeWork Doesn't; Now Plan B
The We Company (WeWork) | Credit Gravity Works As WeWork Doesn't; Now Plan B Vicki Bryan By Vicki Bryan | 17 Sep 2019
Founder & CEO Bond Angle, LLC
EXECUTIVE SUMMARY
It's official: The We Company (WeWork) (WE US) has decided to pull its IPO for now, but still expects to complete it by yearend.
Don't hold your breath.
This comes just days after WeWork filed an amended S-1 announcing plans to list its new shares on the Nasdaq index even as its IPO valuation continues to dissolve. Reuters had reported on Friday that deal insiders were considering an implied equity valuation of just $10-12 billion, a stunning 78% drop versus the extravagant $47 billion floated since January. My analysis shows even $10 billion is too high.
So it's not surprising that long-term backer and top investor Softbank Corp (9434 JP), arguably the most responsible for WeWork's incredible equity valuations, had urged the company to scuttle the IPO given the "cool reception" it's been getting.
Yet WeWork is compelled to push on regardless, seemingly ready to concede to any termsto get a deal done, because its financial condition is much more fragile than it has been trying to project. It has little time to waste and few alternatives.
That means Plan B must already be in the works.
Either way, risk has intensified forW eWork's overpriced bonds.
Read on for Bond Angle analysis: How did WeWork get so expensive and What's next? Plus a new WeWork model, equity valuation and forecast, and more.
Vicki Bryan 4 Gravity Works As WeWork Doesn't; Now Plan B
DETAIL
How to Create a Capital Evaporation Community
WeWork isn't the first "ultimate unicorn" to come to market with ridiculous valuation expectations. But it is surprising how quickly this high flyer has fizzled in the cold light of day since most of its foibles have been chewed over for years.
Critics, myself included, have dressed down WeWork for most of its nine- year existence because it's actually not a new wave technology company as advertised nor even much of a disruptor.IWG PLC (IWG LN), a much larger, more seasoned rival, has been running the same kind of business since the late 1990s when it was the "WeWork" of the dotcom bubble with similarly overheated valuations. It also has battle stripes to show for it after plunging into bankruptcy with its US-based business when the bubble burst and then rising from the ashes to the profitable and well- capitalized operation it is today.
By comparison, WeWork is just another glammed up real estate company with slick marketing and lots of shiny objects to help it sell its overpriced office "space as a service," a deliberate play on "software as a service" to make it sound high-techy.
WeWork also is structurally compromised with an "asset-light" business model which has it committed to decades of leased space in expensive markets as it spends billions of dollars outfitting its office "communities" while relying on short term revenue typically coming in increments of months to a year at a time. This makes WeWork vulnerable to adversity since its targeted market groups of capricious freelancers and small businesses can easily melt back into their ether worlds should stalling economic conditions settle into protracted decline, which now seems increasingly likely. The co-sharing office concept is driven, after all, by the
Vicki Bryan 5 Gravity Works As WeWork Doesn't; Now Plan B
idea that people are free to work anywhere these days. So when times get tough they will take the cheapest path they can to survive--like back to Starbucks or their home offices.
Co-sharing office space really took hold as millions found themselves out of work and scrambling during the last recession, which was the worst in 80 years. WeWork was born in the trough of that cycle in 2010 and so has known only recovering economic and business conditions. Yet during its existence evolving during the longest economic recovery in US history, WeWork has not only failed to turn a profit, its losses have grown faster than its rapidly escalating revenue. WeWork reported a net loss of $1.93 billion on $1.82 billion in revenue generated in 2018, with continued losses tracking a similar range through the first half of 2019.
WeWork has attempted to offset this risk in the service of selling how durable is its model by featuring "enterprise" clients which are larger companies that can rent floors of space and contribute now roughly 40% of its revenue. The trouble is such space also can and likely will disappear in a business downturn as easily as it was added by companies that logically viewed this flexibility as a key advantage to help preserve their own resiliency.
All this challenges WeWork's assurances that it can survive a business downturn simply by shutting down its growth engine sufficiently to idle its way to breakeven and even profitability. This response could indeed slash some of the company's operating and development costs, but not its own prohibitively high lease expenses which comprise the bulk of its overall costs and claimed more than 2/3 of its $1.8 billion in annual revenue in 2018. That bill has climbed to $47 billion in long term lease commitments for the next fifteen years even if revenue dries up tomorrow.
Don't look now, but economic conditions have begun to sputter in most of WeWork's markets, and it's years away from being capable of generating sustainable profit, much less free cash flow.
Worse, WeWork already has demonstrated spectacularly poor visibility and execution for years even with windfall support of solid economic strength and remarkably unending backstop investment capital. There's no reason to believe it can predict its performance during challenging economic conditions, especially if it has to stand on its own.
Vicki Bryan 6 Gravity Works As WeWork Doesn't; Now Plan B
Financial Times: A WeWork office in Manhattan. For every dollar the company generates in revenue, it consistently spends nearly two © Bloomberg
WeWork is a Money Losing Expert: It Is Known.
People who should know better have thrown hundreds of millions and then billions of dollars at WeWork for years, including its largest investor Softbank Corp (9434 JP) which reportedly owns a 29% stake. That's more even than WeWork co-founder and Chairman/CEO Adam Neumann who is said to own 22%.
Now they're all stuck since much of their investment was added at dramatically higher prices versus current IPO estimates which now indicate WeWork's value substantially below $15-20 billion estimates just last week.
That's because these "smart money" chiefs continued to invest in multiple funding rounds which dramatically increased WeWork's market value even as it dramatically and repeatedly trailed management's flamboyant projections for revenue, profitability, and free cash flow.
Here, for example, are the company's revenue and profit projections as presented in WeWork's October 2014 pitchbook, which was obtained by Buzz Feed News. Note spectacular revenue growth estimates with particularly robust EBITDA margins growing from 19% in 2014 to 36% by 2018. Cash was expected to remain healthy at 8-10% of revenue.
Vicki Bryan 7 Gravity Works As WeWork Doesn't; Now Plan B
WeWork forecast from October 2014 pitch deck
WeWork didn't report in its S-1 filing how the numbers actually landed in 2014-2015, since it covered only some, but not all of its financial performance as far back as 2016. But there's enough there to show that WeWork's projections during its five-year capital-raising spree were way off, which should have been obvious to prospective and current investors well within the first year or two.
Actual Results Show WeWork Revenue and Operating Profits Missed Targets--Badly
2016 2017 2018 6-mon 2018 6-mon 2019
Revenue $ 436.1 $ 886.0 $ 1,821.8 763.771 1535.42
EBITDA $ (304.5) $ (628.8) $ (1,221.6) -229.345 -510.749
Margin -70% -71% -67% -30% -33%
As the chart shows, revenue projections fell far short of the company's ambitious claims. For example, revenue was targeted at $715 million and $1.6 billion, respectively, for 2016-2017. In reality, revenue never got near $1 billion until 2018 when membership sales finally topped $1.6 billion. More disturbing was the severely negative EBITDA every year versus projections for strongly positive results plus improving margins to support growing profitability.
Here are WeWork's forecasts for cash flows from the same presentation. Look, Mom! Persistent and rapidly growing profits and strongly positive cash flows from operations projected plus accelerating free cash flow from 2015 forward that grows to more than 6% of targeted revenue.
Vicki Bryan 8 Gravity Works As WeWork Doesn't; Now Plan B
WeWork forecast from October 2014 pitch deck
Ever actually profitable? Nope. Free Cash Flow Generated vs Projections? Not Even Close. Results solidly negative and getting worse, revealing a startling drain to already fragile liquidity.
2016 2017 2018 6-mon 2018 6-mon 2019
NET LOSS $ (429.7) $ (933.5) $ (1,927.4) $ (722.9) $ (904.7)
Cash Flow from Operations $ 176.9 $ 244.0 $ (176.7) $ (84.4) $ (198.7)
Net CAPEX $ (450.8) $ (571.9) $ (1,381.6) $ (449.3) $ (812.0)
FCF $ (273.9) $ (327.9) $ (1,558.3) $ (533.7) $(1,010.7)
Again, the outlandish 2014 projections were enough to strain WeWork's credibility, but by mid-late 2015 it should have been clear to current and prospective investors that WeWork would miss its 2016 targets for revenue and profits, badly. What to do? Management pushed it's amazingly increased $1 billion revenue estimate for 2016 forward to 2017, which it also missed--badly, and would continue to do in subsequent years.
Nevertheless, the capital WeWork raised on the strength of such projections escalated at blinding speed. The December 2014 capital raise boosted its implied value to $5 billion from $1.5 billion just ten months earlier in February. The Wall Street Journal said the December round was "co-led by funds and accounts managed by T. Rowe Price Associates Inc., clients of Wellington Management, and Goldman Sachs Group, according to WeWork. Investors from prior rounds including J.P. Morgan Chase & Co., Harvard Management Co. and Benchmark also participated."
These are the folks who believed WeWork would grow revenue from $74 million in 2014 to $2.9 billion in 2018 or some 38x higher in just four years, with run-rate revenue spiking 30x from $121 million to $3.7 billion. They swallowed whole its $5 billion market valuation--67x revenue as of December 2014.
Vicki Bryan 9 Gravity Works As WeWork Doesn't; Now Plan B
They weren't alone. Subsequent capital raises boosted WeWork's valuation to $10 billion by June 2015, to $16 billion by March 2016, and to $16.9 billion by October 2016, which was 10x the $1.7 billion in capital WeWork had raised mostly in two years.
So, amazingly, WeWork's persistent failures in forecasting and execution apparently didn't even smudge its luster with its private equity fanbase. Instead, Softbank investments took WeWork's valuation from $16.9 billion to $47 billion in just over two years.
Softbank's first investment was surprising given it had rejected WeWork for years as overpriced and not a tech company--which was true. But that was before SoftBank’s eccentric Chairman Masayoshi Son nevertheless decided WeWork felt like a great fit for the bank's new tech- focused Vision Fund, overruling significant internal objections to make it happen. Son prefers to listen to his gut instinct versus the buzz-kill from actual analysis, even when making multibillion investments for Softbank and Vision Fund. Son told shareholders at the company's 2018 annual meeting, “Feeling is more important than just looking at the numbers. You have to feel the force, like Star Wars.”
In August 2017, Softbank invested a stunning $4.4 billion, reported at the time at "one of the largest single slugs of capital ever in a venture-backed startup." This bought Softbank two seats on WeWork's board and a share in accountability for whatever came next. Three more investments totaling $9 billion followed into January of this year, which landed WeWork at $47 billion.
Vaulting WeWork to such a rarified value was self-reinforcing for Son, even if this alarmed Softbank's own investors. He actually wanted to spend another $16 billion to buy all of WeWork in December 2018, when it was valued at $45 billion, but Vision Fund's largest investors balked. Even Softbank's head of Vision Fund expressed doubts in 2018--after Softbank's investment had driven WeWork's value to $40 billion--saying “Maybe it’s overvalued, but I believe they’ll be a $100 billion company in the next few years.”
Or maybe not. Co-founder and CEO Adam Newmann, who has been anointed and enriched with extraordinary control over the company regardless of its performance, arguably has the most to gain if it does. He cashed out $700 million of his stake in July, less than a month before the IPO was announced while WeWork's value was at its peak. Its value has crashed by at least 78% since then.
Vicki Bryan 10 Gravity Works As WeWork Doesn't; Now Plan B
Willful blindness, greed, complacency, and happy vibes gut feelings. This is how WeWork became the most highly valued venture-capital backed firm in the U.S. at $47 billion, a multiple some 10x higher ersusv IWG with precious little support to justify why it's worth that much.
That's because it's worth far less.
A WeWork office space Source: Keith Bedford/Bloomberg
Vicki Bryan 11 Gravity Works As WeWork Doesn't; Now Plan B
Enter Reality
Here is the sobering view of WeWork's dismal performance since 2015:
As shown in earlier charts, revenue growth has fallen well short of management's targets. But WeWork's more pressing concerns are escalating costs which far outpace revenue growth and drain its cash, which management has gotten more creative over the years to explain, without much success.
Here are some troubling observations about WeWork's continuing trends:
• EBITDA has remained severely negative, even as WeWork adjusts it with substantial add-backs for restructuring charges, stock-based compensation, reported noncash expenses, and unusual items. Such adjustments are substantial--adding more than $1 billion to GAAP EBITDA. Even WeWork's generously defined adjusted EBITDA indicates severe deterioration continued through the first half of 2019 and likely through yearend despite higher revenue.
• WeWork excludes stock-based compensation from EBITDA even though it increasingly uses stock even to pay contractors for services, presumably to preserve its evaporating cash.
Vicki Bryan 12 Gravity Works As WeWork Doesn't; Now Plan B
• To get around chronically negative EBITDA, WeWork invented a dubious Contribution Margin calculation supposedly designed to reflect a closer picture of run-rate operating profit on core operations without growth expenses like "pre-opening location expenses" and "growth & new market expenses." The trouble is this contribution margin also excludes core operating expenses like general & administrative, sales & marketing, and other operating expenses and key costs, so it actually reveals only that WeWork will obfuscate if it can make the numbers look better.
• How much better? WeWork reported an adjusted contribution margin of$605 million for the trailing 12 months ended June 30th versus -$910 billion in creatively adjusted EBITDA and -$1.95 billion in GAAP EBITDA. The difference in these numbers is stunning, and it's easy to see which is more aligned with the much larger than expected $2.1 billion loss ($1.67 billion after minority interests).
• Lease costs are WeWork's most expensive and they are going up no matter what given its now $47 billion in lease obligations. Rent expense was about 65% of revenue at $1.7 billion for 2018. Accounting changes for 2019 make it harder to track, but I estimate this is up at least 20% for 2019.
• Margins look worse, especially adjusted contribution margin which was down 230 basis points to 23.3% versus yearend, which signals rapidly worsening losses despite revenue growth.
• Cash burn is intensifying from stifling losses and burgeoning capex, a big problem which WeWork can only support by borrowing and selling equity. With capex now running roughly equal to revenue, WeWork burned a whopping $2.9 billion in cash after capex for the 12 months ended June 30th. This was only partly offset by $876 million collected from tenants to fund improvements as agreed--and 100% funded by debt and equity raised over the last year, as WeWork has done over its entire history.
• All that borrowing and selling of equity hasn't even been enough lately. Reported cash was down nearly $300 million versus 2017, even after including $3.75 billion invested by Softbank plus $702 million WeWork sold in high yield bonds plus $750 million sold in equity-- $5.5 billion consumed.
• Virtually all of this was depleted in the first half of 2019, since all the $2.47 billion in available cash reported as of June 30th can be traced to another $2.5 billion investment from Softbank.
• Reported available cash is not actually available. WeWork includes cash belonging to its variable interest entities (VIEs) in reported consolidated available cash--that's not WeWork's cash to spend. Neither are customer deposits, which are held until their expected return to customers. Stripping out these amounts from already disturbingly thin reported numbers reveals effective available cash actually critically low: just $521 million for 2018 versus $1.74 billion reported. Effective available cash as of June 30th was more than$1 billion lower versus reported at $1.4 billion (and only up versus December 31st because of Softbank's investments).
Vicki Bryan 13 Gravity Works As WeWork Doesn't; Now Plan B
• If WeWork completes its IPO and then is able to close the $6 billion arranged in new credit facilities, it will be required by covenants in the new bank debt to pony up additional restricted cash to back its letters of credit by 100%.
"Under the 2019 Letter of Credit Facility that we expect to enter “ into concurrently with the closing of this offering, we will be required to deposit cash collateral in an amount equal to the face amount of letters of credit issued under the facility. Accordingly, we expect our restricted cash supporting letters of credit to increase following the closing of this offering."WeWork S-1, 8/14/ 19
Given the $1 billion currently outstanding in letters of credit, that means excluding more as restricted cash which leaves pro forma effective available cash at just $1 billion--not even enough to get through one quarter.
That's not all, WeWorks expects to immediately take out the other $1 billion to be available in the new $2 billion letters of credit facility, which will then require another $1 billion in restricted cash set aside, and so on, and so on.
If You Can't Take The Heat...
Given how fast WeWork blazed through $5.5 billion of invested and borrowed cash in 2018, plus another $2.5 billion this year, it's easy to see why WeWork is urgently trying to get the IPO closed.
Vicki Bryan 14 Gravity Works As WeWork Doesn't; Now Plan B
But just because the company needs fresh cash, pronto, doesn't mean it's a good idea for investors to oblige. It's also obvious that massive losses and severe cash burn will likely continue through at least another couple of years since core operating expenses and cash obligations actually are much stickier than management has projected.
So we can see why its bankers and large investors are concerned, as they should be.
How do we know WeWork's banks are spooked? Pending pricing on the new credit facilities is substantially higher versus its existing facility signed in 2015 to accommodate substantially higher risk--and this was before the working equity valuation plunged by 78%:
The $4 billion term loan is tentatively priced 250 bps higher at L+475, and the term was reduced to three years versus five years on the old deal.
Source: Bloomberg
The $2 billion letters of credit facility was tentatively priced at L+100 even with WeWork required to hold 100% of the draw in restricted cash.
Source: Bloomberg
Vicki Bryan 15 Gravity Works As WeWork Doesn't; Now Plan B
The facilities' pricing also incorporates substantially higher LIBOR versus 2015, which adds another 182 bps to current pricing.
Source: Bloomberg
Then there's WeWork's equity valuation, which has become a moving target-- downward.
We presume WeWork's bankers and legacy investors, which include many of the same parties, finally have acknowledged substantially lower expectations for revenue and profits, given tumbling equity valuations that have leaked out of the past couple of weeks. Yet we still shouldn't trust, based on past history, whatever valuation the dealmakers come up with now.
I always have been skeptical that WeWork is worth a higher valuation than IWG, for example, which trades at roughly 1.5x revenue and has much stronger operating metrics and financial ondition.c Given WeWork's weaker and highly volatile operating performance versus the increasing likelihood of more difficult business onditions,c there's a good chance it will continue to trail expectations and its own guidance. If so, that means more bad news ahead through yearend, with 2020 probably little better. With the pace of revenue growth likely to slow while cost pressure still high and likely increasing, I also see substantial cash consumption continuing.
Vicki Bryan 16 Gravity Works As WeWork Doesn't; Now Plan B
So I value WeWork's equity at 1.5x estimated 2019-2020 revenue of$3.3-5 billion, or $5-7.5 billion.
Bondholders, Beware of Plan B
WeWork's IPO is in jeopardy. There's also a good chance it doesn't come at all for the foreseeable future.
Yet it still needs cash, and we now can see the $9-10 billion it was trying to raise with $3-4 billion in stock and $6 billion in new borrowing could be depleted in a year or two at best. It doesn't have cash to spare to also pay off $670 million in bonds that don't even mature for another six years. That's ten years in WeWork projection time.
Instead, at recent prices near 102.8, 7.3% ytw, WeWork bonds actually are trading at a lower yield than Tesla Motors (TSLA US) even though the company is in much worse shape--which is remarkable (see Tesla Q219 10-Q Notes and Big Red Flags and Tesla's Cash-Strapped Shanghai Plant Construction Is Hurtling Forward--What Could Go Wrong?). And given how hungry investors are for yield, it probably can get the deal done with much less fuss and thus increase its annual costs by only slightly more than it's paying in "other" operating expenses.
So WeWork may elect to come back to the bond market in coming weeks, before it reports what I suspect could be disappointing third-quarter results.
If so, I estimate it could raise $2 billion or more in new unsecured notes, of course not covered by assets or even a hint of healthy free cash flow generation for years. This number plus probably another $750 million to $1
Vicki Bryan 17 Gravity Works As WeWork Doesn't; Now Plan B
billion from Softbank (the amount it was throwing into the IPO) likely will be enough to convince the banks to go forward with the new credit facilities which then will bury all WeWork bonds below secured debt that has a superior claim to virtually all tangible assets the company owns. (The meager consent fee the company offers so existing bondholders will allow this will be woefully inadequate to compensate for such increased risk).
No, thank you.
WeWork 7.875% senior notes were seen at 102.8, a remarkably low 7.3% ytw/540 bps given its appalling credit metrics and dismal prospects. Upside potential is limited at best versus downside risk which could be 10-15 points lower in short order. Rating: Sell.
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (29 Aug 2019)
Vicki Bryan 18 WeWork Board and Softbank Battle CEO For Control
The We Company (WeWork) | Credit WeWork Board and Softbank Battle CEO For Control Vicki Bryan By Vicki Bryan | 23 Sep 2019
Founder & CEO Bond Angle, LLC
EXECUTIVE SUMMARY
The Wall Street Journal broke news on Sunday that key board members at The We Company (WeWork) (WE US)are working to remove the company’s notorious co-founder and CEO Adam Neumann.
Among them are Masayoshi Son, Chairman of WeWork’s largest investorSoftbank Group (9984 JP) which also is mostly responsible for its extravagant equity valuation of $47 billion.That estimate plunged to just $10 billion--which still seems too high--leading to the spectacular collapse of the company's pending IPO (see my report Gravity Works As WeWork Doesn't; Now Plan B).
Softbank wants more now than just getting the IPO stopped indefinitely--and perhaps not just because of staggering losses on its massive WeWork stake.
There’s even more at stake. This news also signals that WeWork still can't get the massive cash infusion it needs to ease its urgent and worsening liquidity pressure because banks sitting on $6 billion in unclosed credit facilities still refuse to oblige.
Which shows that WeWork's many roadblocks start, but don't end, with Adam Neumann.
Read on for Bond Angle analysis, forecasts, and more.
Vicki Bryan 19 WeWork Board and Softbank Battle CEO For Control
DETAIL
Adam Neumann; Source: TheRealDeal/Getty Images/iStock
Several board members, including Softbank, are reported to be planning to replace Adam Neumann as CEO in a vote that could come this week.
It’s a bold move but far from guaranteed to succeed. WeWork’s board is inordinately small with just seven members, including Neuman and a few of his allies. Neumann also has so much equity control he literally can fire the entire board and then, presumably, replace it with toadies who will yield to his will.
This is a major part of WeWork’s problems, leaving the Board with few alternatives since Neumann himself is a significant reason eWW ork’s pending IPO imploded spectacularly in a matter of weeks after it was announced (see my report Gravity Works As WeWork Doesn't; Now Plan B).
And Neumann has shown he isn’t going to back down without a fight.
Adam Neuman/Vanity Fair
Vicki Bryan 20 WeWork Board and Softbank Battle CEO For Control
You're In My Chair
Neumann is not new to criticism; he just hasn’t been forced to care before now. Moreover, investors are right to be concerned about:
• His still extraordinary and debilitating control over WeWork’s operations and prospects via his unusual super majority equity voting power,
• His troubling self-dealing; e.g. borrowing from WeWork to buy buildings which he leased back to WeWork; selling WeWork rights to the word “We” for $6 million (which he had to return amid investor outrage); cashing out some $700 million in stock and loans backed by his WeWork stock just before the IPO was announced.
• His dismal track record executing WeWork’s performance results as advertised versus his outrageous forecasts and the company’s inherent vulnerabilities which actually signal further deterioration—especially if business conditions weaken as I expect.
• His irrational and even reckless behavior. We’ve already seen, for example, how an unrestrained, irresponsible, and ill-advisably overconfident autocrat can ostc investors billions in evaporated market cap with Tesla Motors (TSLA US) bombastic CEO Elon Musk--see Tesla Take-Private Plan: Shoot First, Answer Questions Later (If at All) and Tesla – Dave’s Not Here, and Musk Won't Leave and Tesla - Truth and Consequences.
So, Neumann’s leadership failings also drive his urgency to get WeWork’s IPO done: it really needs to raise several billion in cash, pronto, and that’s probably not going to happen now.
WeWork’s last official update had it tabling its IPO last week, albeit with the assurance that it still planned to close the deal before yearend.
I was immediately skeptical the IPO will close in the foreseeable future given WeWork’s deteriorating operating metrics, fading revenue growth, and dubious business prospects. I also detailed in my last report how WeWork’s available cash is dramatically lower than advertised, which explained why it needs as much as $9 billion in fresh cash as soon as possible—and how fast that cash is likely to be consumed.
I also have estimated that WeWork’s results for the rest of this year and likely next year will be disappointing. If so, this may further suppress WeWork’s equity valuation, already down more than 80% to $10-12 billion versus the $47 billion valuation floated since January, to $5-7.5 billion.
Vicki Bryan 21 WeWork Board and Softbank Battle CEO For Control
So delaying the IPO was a modest concession at best to worried stakeholders, including Softbank which had urged Neumann to shelve the IPO some two weeks ago given the overwhelmingly negative reception it was getting from investors as its extravagant equity valuation evaporated day by day.
No doubt Neumann still is irritated at this outcome since he’d agreed to whittle some of his extraordinary controlover the company to address persistent concerns raised by existing and potential investors.
However, the comparatively nominal changes in governance he allowed did little to assuage concerns. Deal insiders reported that investors still could not be persuaded to fill even $2 billion of the $3 billion minimum planned for the IPO, even with Softbank agreeing to take as much as $1 billion of the offering.
WeWork’s failed IPO and its dramatic devaluation have created new financial pressure for Neumann. WeWork’s legacy bankers are also Neumann’s bankers, and they are rethinking terms on $500 million in loans they made to him which are backed by his now substantially devalued WeWork stock.
But Neumann is not the only one scrambling to deal with one of the biggest IPO flops ever.
Vicki Bryan 22 WeWork Board and Softbank Battle CEO For Control
Masayoshi Son /CNN
When Push Comes to Shove, Bigger Can Shove Harder
It's not clear who's leading the charge to push Adam Neumann aside, but the biggest name in the posse undoubtedly is Softbank’s Son.
After years as one of Neumann’s biggest champions, Son and Neumann are now at loggerheads. Son not only seems to have become disenchanted with Neumann’s obstinance, but his infatuation with WeWork has also drawn perhaps his fiercest criticism yet—and deservedly so.
Son has himself long been heralded as a “visionary” investor in technology, which made his attraction to WeWork so surprising. WeWork is not a technology company or even a disruptor—it’s just an overhyped real estate company repacking a decades-old business model with flashy apps and slick marketing.
Yet, as I have observed, Son is the single person most responsible for WeWork’s $47 billion equity valuation fueled by more than $9 billion he directed Softbank to invest in WeWork since 2017 in addition to at least $2.5 billion in loans—against internal objections. Worse, all of Softbank’s WeWork investments, from the first in mid-2017 when WeWork was valued at $16.9 billion to its last one in January this year at $47 billion, came in at prices substantially higher versus the $10 billion—or less—it seems to be worth now.
Compound this with sizable losses also accumulating in other foundering Son favorites like Uber and Slack Technologies, and we’re talking serious red ink in staggering amounts that probably won’t be recovered for years, if at all, just as Softbank is trying to raise capital for its second Vision Fund.
Not so visionary.
Vicki Bryan 23 WeWork Board and Softbank Battle CEO For Control
So it’s not clear whether Son’s position and/or power at Softbank might be in jeopardy, but his credibility with investors has clearly taken a hit. It’s easy to see why he’s no longer on Team Neumann.
And in a battle between a disaffected Softbank, with its colossal market presence and capability, versus a petulant Neumann, I wouldn’t bet on Neumann.
Also troubling, WeWork is making its banks unhappy.
While WeWork's power struggle will dominate the headlines this week, liquidity pressure remains its most urgent concern.
Legacy banks which carry WeWork’s current $650 million credit facility also arranged its pending $6 billion in new credit facilities back in August.
Even then, as I warned in my last report, WeWork’s banks had demanded much higher interest costs and fees versus its existing loans, and committed loan terms for a much shorter period, to reflect WeWork’s sharply higher risk—long before the company’s $47 billion market value went poof.
As I always say, banks get far more comprehensive financial and thero information about the company than other investors, and they get that data every month. WeWork’s banks also have superior claims to all of the company’s credible tangible asset value—which is meager at best—and knowing all this WeWork's banks are clearly worried.
When banks get spooked we all should be wary, and WeWork’s banks are undoubtedly more concerned now with the company’s prospects.
Vicki Bryan 24 WeWork Board and Softbank Battle CEO For Control
My concerns seem to be confirmed yb the desperation implied in this latest news. WeWork’s ongoing turmoil signals that itsbanks continue to refuse to allow additional access to substantial new borrowing it needs until it can cobble together a stronger capital base.
So with the close of what likely will be another disappointing quarter coming in a week, WeWork’s directors have little time to fix what they can before it gets worse.
WeWork’s Board Could Vote This Week
Anything can happen this week, including bad news that nothing gets fixed and WeWork continues to founder as Neumann blusters and digs in. But I suspect Softbank and WeWork’s other large investors and its bankers will prevail over the next week or so since the alternative is WeWork potentially sinking into serious financial instability and insolvency.
The best outcome at this point, which is far from guaranteed, is for the board to enact substantially more corporate governance and stronger management oversight, including bolstering the board’s strength with increased power and membership to sufficiently ountermandc Neumann’s overbearance. As such it would be appropriate to replace Neumann as CEO and/or install a credibly capable bench of top management to support a revamped management strategy.
If successful, this could help WeWork begin to restore its shredded credibility and pave the way for it to pull together stopgap cash financing, if not the full $6 billion in credit facilities waiting in the wings.
Vicki Bryan 25 WeWork Board and Softbank Battle CEO For Control
This may include some combination of a smaller $3-4 billion credit line plus $1 billion or so in high yield debt and up to $1 billion in private equity financing (some or all potentially from Softbank).
This is enough to get WeWork through yearend, but not enough to solve its burgeoning operating struggles and persistent cash burn—particularly if business conditions stall next year as I expect.
WeWork bonds may rally this week if the board prevails, but I wouldn’t fall for it. Next year looks like a dangerous blind curve for WeWork investors.
WeWork 7.875% senior notes are down more than 6 points to 96.9 since my last report. This still indicates insufficiently low 8.8% ytw/700 bps given its appalling credit metrics and dismal prospects. Upside potential remains limited at best versus downside risk which could be another 5-10 points from here. Maintain “Sell.”
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (22 Sep 2019)
Vicki Bryan 26 WeWork Board to CEO: YouOUT
The We Company (WeWork) | Credit WeWork Board to CEO: YouOUT
By Vicki Bryan | 25 Sep 2019 Vicki Bryan EXECUTIVE SUMMARY Founder & CEO Bond Angle, LLC The We Company (WeWork) (WE US) board has pushed out CEO Adam Neumann, capping weeks of scrutiny which fizzled its egregiously bloated equity valuation and crated its storied IPO (see Gravity Works As WeWork Doesn't; Now Plan B).
As I expected, WeWork's largest investor Softbank Group (9984 JP) figured as prominently in Neumann's ousting as it did in driving up WeWork's extravagant equity valuation since, as I noted again in WeWork Board and Softbank Battle CEO For Control, it had invested all of its massive stake when WeWork was valued at $16.9-47 billion versus current estimates near $5-10 billion.
Awkward.
WeWork's troubles are far from over. Ejecting Neumann is only the first step in a long list of pressing concerns plaguing the company which may or may not even be fixable.
But it might be enough to get WeWork's wary bankers back to the bargaining table since, as I have warned, the company's shrinking liquidity and precarious financial onditionc are its most urgent threats at the moment.
Read on for Bond Angle analysis, projections, and more.
Vicki Bryan 27 WeWork Board to CEO: YouOUT
DETAIL
Adam Neumann NYTimes/Peter Prato
It's Not You; It's Us. No, It's You.
After just over a day since news surfaced that certain WeWork board members, Softbank, and other major investors were moving to push him aside (WeWork Board and Softbank Battle CEO For Control), the deed is done. The board released a formal statement at mid-day today, including:
"WeWork’s Board of Directors today announced the following “leadership changes: Co-founder Adam Neumann has decided to step back from his role as CEO, and will continue on as non-executive chairman of the board. WeWork’s Artie Minson, formerly co-president and chief financial officer, and Sebastian Gunningham, formerly vice chairman, have been named co-CEOs of the company. These changes are effective immediately."
Vicki Bryan 28 WeWork Board to CEO: YouOUT
Neumann will serve as non-executive chairman, and his voting power will drop to three votes per share from 10 votes. He added in a memo to his staff:
When Miguel, Rebekah and I founded WeWork in 2010, we set out to “create a world where people work to make a life and not just a living. Over the past 9 years our global team has built a community of over 500,000 members in 130 cities across 29 countries, and I could not be more inspired by everything we have achieved.Our business has never been stronger, but since the announcement of our IPO, too much of the focus has been placed on me. Our priority has always been our mission and our community. Because of this, I have chosen to step back as CEO and will concentrate on my role as Chairman of the Board. It is you, our amazing team, that deserve the focus and your daily actions are the secret to what makes this company so special. We have an incredible opportunity to execute on our goals and be measured by our results.To lead the company forward, Sebastian Gunningham and Artie Minson will serve as Co-CEOs. They are proven leaders that embody the ethos of our culture, with track records of scaling world-changing businesses.The spotlight on us has never been greater than at this moment, and with this visibility we have an opportunity to expand our global business to more people than ever before.I am profoundly grateful to each and every one of you for your dedication to this company and our mission. I have never believed in our business, our people, and our future more.As we take this next step in our company’s journey, I am equally ready to listen, grow, and continue working relentlessly on my commitment to all of you.-Adam Neumann
So, Who's In Charge Now?
Sebastian Gunningham and Artie Minson, two current WeWork executives, will act as joint chief executives.
CNBC reported, "Minson, a former chief financial officer of Time Warner Cable Enterprises LLC who joined We Company in 2015, will oversee its finance, legal, human resources, real estate and public communications. Gunningham, a former executive at Amazon.com Inc, Apple Inc and Oracle Corp who joined We Company last year, will take responsibility for product, design, development, sales, marketing, technology and regional teams."
Their jobs are little changed. The difference, according to reports, is that they haven't until now been able to run their operations as they were hired to do since autocratic Neumann micromanaged most decisions and kept staff in near-constant organizational turmoil.
Vicki Bryan 29 WeWork Board to CEO: YouOUT
Artie Minson joined WeWork as a President and Chief Operating Officer with the aim of “scaling WeWork’s operations and expanding the company’s presence globally.” He became Chief Financial Officer in June 2016.
His steady-handed style and seasoned management experience is counted as a key asset by WeWork executives and employees, especially compared to Neumann's volatility. Comments to Business Insider included, "Artie was always the adult in the room," and he has "a lot of business acumen" and even "seems a little too level-headed to be involved" with the company.
Artie Minson/We Company
Minion's a particular fan of WeWork's strategy of bulking up via attracting large "enterprise clients," e.g. Fortune 500 companies, which now contribute 40% of total membership revenue, telling Business Insider:
"We're really just getting started on enterprise," he said. "We're now “opening buildings at a much higher percentage filled than we used o,t and that's because you're not building on spec[ulation]; you're building on you know what people want and when they want it."
The trouble with this idea, as I noted in Gravity Works As WeWork Doesn't; Now Plan B, is "such space also can and likely will disappear in a business downturn as easily as it was added by companies that logically viewed this flexibility as a key advantage to help preserve their own resiliency."
Minion also told CNBC earlier this year that investors should view WeWork's losses as "investments" given the company "had tremendous growth opportunities in building out its co-working properties for an ever- expanding base of clients, or members."
Vicki Bryan 30 WeWork Board to CEO: YouOUT
“We really want to emphasize the difference between losing money and “investing money,” Minson said Wednesday. “You can lose money or you can invest money. At the end of this quarter, we have these cash flow- generating assets.”Artie Minion to CNBC, 5/15/19 following WeWork's first quarter results.
Hmm. I'm suspect the only ones buying that kind of logic are the "smart money" folks who kept investing in WeWork even as it missed Neumann's outrageous forecasts over and over for years until it reached that stunning $47 billion equity value back in January (see Gravity Works As WeWork Doesn't; Now Plan B).
In reality, WeWork lost nearly $300 million in the first quarter of this eary and more than $600 million in the second quarter. So far WeWork has proven only that it's expert at losing money, and that's why the company's equity value has plunged to $5-7.5 billion, by my estimate (see attached model).
Sebastian Gunningham/WeWork
Sebastian Gunningham joined WeWork last year as vice-chairman. Many at WeWork speculated even before the IPO that he might succeed Neumann at some point. One WeWork exec told Business Insider,
Vicki Bryan 31 WeWork Board to CEO: YouOUT
"There was a sigh of relief when Sebastian joined from Amazon “because he comparatively exuded so much professionalism and people really trusted him and were like, 'Finally, someone's coming in who knows what's going on." ... "He was the first person ot approach any process from the top down with logic instead of some crazy plan. He stuck out like a sore thumb."
No doubt he was significantly different coming from Amazon, where concise planning and execution is the point. He ran Amazon Marketplace as Senior Vice President from 2007-2018. CNBC said Gunningham was "one of CEO Jeff Bezos’s closest advisors, and was part of his elite group of top lieutenants, known as the S-team, for most of his time there. He oversaw more than 30,000 people" versus WeWork's total workforce of 15,000.
Gunningham came to WeWork with the plan of bringing order and balance to Neumann's freewheeling, unstructured management style. He became the "shadow CEO" who introduced structure and accountability through performance audits and company-wide performance targets.
However well suited they may seem to be for the challenges ahead, it remains to be seen how effective they actually will be and how well they work together riding two to one horse as they share CEO functions. I'm also generally wary of management teams left behind when an autocratic leader is ousted; e.g. executives that survive and even thrive in an environment so tightly controlled by an eccentric micromanager tend not to be the type of management capable of confidently fixing and building anew with fresh eyes while crafting a more collegially inspired culture.
At the very least Gunningham and Minson do seem to get they have inherited a dumpster fire. In a memo to staff on uesdayT , they wrote:
“While we anticipate difficult decisions ahead, each decision will be made with rigorous analysis, always bearing in mind the company’s long-term interests and health.”
Back to Business--and Bigger Problems
Diffusing the Adam bomb was a major step, but it doesn't fix eWW ork which suffers from serious near term liquidity pressure, unsettled governance issues and board deficiencies, uncertainty with its IPO, and fundamental flaws with its business model which it has xace erbated with a potentially unsustainable financial structure:
• I challenged WeWork's board to replace Neumann with substantially more capable management who aren't there to say yes to an autocratic CEO. It may or may not have done that; we'll see. In any case, the board also is fully responsible for enabling Neumann's
Vicki Bryan 32 WeWork Board to CEO: YouOUT
extraordinary control and rubber-stamping his every move and misstep. We need to see the board completely revamped with the addition of seasoned industry veterans also independent of undue influence from major shareholders. The board also should be increased in size from a paltry seven directors to nine-twelve. Governance and management oversight deficiencies need to be addressed, and an independent audit committee created.
• As I noted in WeWork Board and Softbank Battle CEO For Control, installing more capable senior management and a credibly responsible board could help WeWork begin to restore its shredded credibility and pave the way for it to pull together stopgap cash financing, if not the full $6 billion in credit facilities waiting in the wings which had been contingent upon closing the now failed IPO. As I said then, I don't expect the IPO to resurface any time soon. I suspect the new plan may include some combination of a smaller $3-4 billion credit line plus $1 billion or so in high yield debt and up to $1 billion in private equity financing (some or all potentially from Softbank).
• Key to those bank discussions will be crafting a plan to address how WeWork can quickly curb its severe cash consumption which, as I detailed in Gravity Works As WeWork Doesn't; Now Plan B, is on a pace that could burn through its effective available cash of $1.4 billion--far less versus $2.5 billion reported--in less than a quarter (see attached model). Given what I expect could be an ugly third quarter closing in five days, liquidity pressure could become acute.
• If so, WeWork needs to implement significant ostc -cutting now, and it will be painful. Suspending poorly performing noncore housing and educational businesses like WeLive and WeGrow seem obvious. I also wouldn't be surprised to see layoffs by as much as 25-30%--so harsh because, unfortunately, it easier to cut staff than renegotiate WeWork's long-term leases with terms up to 15 years. WeWork's lease costs are among its most expensive and where it also has the least flexibility.
• Ironically, this demonstrates the inherent vulnerability I warned about in WeWork's business model: it collects revenue short term while servicing long-term leases, and when business conditions erode its revenue will too because its customers also will cut staff, particularly its enterprise customers which contribute 40% of revenue now. This is one longterm problem WeWork can't easily fix.
The next positive news for WeWork could be getting some interim credit facilities closed, which could ease liquidity pressure into next year, accompanied by an equity injection from private investors to keep the bankers happy. Even this probably won't be enough to offset negative impacts from two or more disappointing quarters ahead.
Vicki Bryan 33 WeWork Board to CEO: YouOUT
WeWork 7.875% senior notes are down roughly 3 points to 94.1 since my last report. This still indicates insufficiently low 9.2% ytw/769 bps given its appalling credit metrics and dismal prospects. Upside potential remains limited at best versus downside risk which could be another 5-10 points from here. Maintain “Sell.”
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (24 Sep 2019)
Vicki Bryan 34 The Tide Is Out and WeWork Bondholders Are Naked
The We Company (WeWork) | Credit The Tide Is Out and WeWork Bondholders Are Naked Vicki Bryan By Vicki Bryan | 07 Oct 2019
Founder & CEO Bond Angle, LLC
EXECUTIVE SUMMARY
To WeWork bondholders: The party's over, the beach is empty, and no one is available to take your call.
The folks who bought into and/or sold The We Company (WeWork) (WE US) as worth $50 billion, $60 billion, $100 billion--including its largest investors like Softbank Group (9984 JP), its banks, and its new joint-CEOs-- are cloistered in intensely uncomfortable CYA meetings now that WeWork's equity value may be worth closer to $3 billion (less than 1x 2019 revenue) by my estimate.
Chastened Fitch and Standard & Poor's belatedly dropped the company's credit ratings last week to deep junk quality with a "negative" outlook. Even WeWork's legacy bankers who pitched its highest equity valuations last year still refuse to close any part of pending loans for the company they arranged in August.
The only investors piling into WeWork debt are short-sellerswho have taken on more than 10% of the company's smallish (read: already hard to trade) $669 million in bonds outstanding which now yield a stunning 12%, hoping to buy back on the cheap as prices drop even more.
They likely will fall. WeWork's failed IPO evaporated billions in equity market value as well as lucrative business opportunities and seemingly endless cash and available credit formerly available, based on its inflated orth,w as it marched around the globe doing deals potentially now in trouble.
WeWork bondholders are stuck with the shell that's left, and that's not the worst news.
Read on for Bond Angle analysis, forecasts, and more.
Vicki Bryan 35 The Tide Is Out and WeWork Bondholders Are Naked
DETAIL
WeWork office in Tokyo/Bloomberg
No One Loves WeWork Anymore, Especially Not its Banks
Not only has WeWork been substantially overvalued for years, as I noted in Gravity Works As WeWork Doesn't; Now Plan B, it’s legacy banks JPMorgan Chase & Co (JPM US) and Goldman Sachs Group (GS US) helped make that happen as early and recurring investors and lenders.
These same banks along with Morgan Stanley (MS US) pitched WeWork to investors at values as high as $104 billion in 2018, and fought over leading the IPO offering. Yet by August of this year, as they also arranged $6 billion in new credit facilities set to close concurrently with the estimated $3-4 billion IPO, I noted clear signals they were spooked.
As I detailed in Gravity Works As WeWork Doesn't; Now Plan B, the banks planned to charge substantially higher interest and fees on the new credit facilities, with potentially more restrictive covenants as well, versus its existing facility, and were willing to loan for only three years versus the previous five-year term. These were tentative agreements marked as of August 13 that likely fell into jeopardy as market scrutiny of WeWork's S-1 filed the next day began to demolish expectations for the IPO.
The IPO was in trouble right out of the gate as investor enthusiasm gave way to skepticism, heated criticism, and then outright alarm over WeWork's irritatingly oblique and thoroughly insufficient disclosure, the ompany'c s dubious operating metrics, and a surprisingly more precarious than
Vicki Bryan 36 The Tide Is Out and WeWork Bondholders Are Naked
advertised financial onditionc which challenged its ambitious claims and forecasts--and especially it's extravagant $47 billion equity market value floated since in January.
My work has shown WeWork's profitability substantially lower versus reported and eroding rapidly, with likely years of losses and severe cash consumption still ahead. Cash burn has been the most alarming, with WeWork effectively consuming $5.5 billion in 2018--3x revenue generated and all funded from borrowing and equity infusions, as has happened every year of its nine-year history. At this pace, WeWork was set to consume all the $9-10 billion it planned to raise in stock and debt in a year or less, with still no convincing path to profits or positive free cash flow. And then what?
As it stands, the $1.4 billion I calculated in effectively available cash on hand as of June 30th, $1 billion less versus reported, may be depleted by yearend.
WeWork's banks had to have known all this long before the IPO was announced, certainly before the S-1 was filed--now they can't move forward? It's been three weeks since the IPO collapsed, and nearly two
Vicki Bryan 37 The Tide Is Out and WeWork Bondholders Are Naked
months since mid-August when it was clear to me the banks were concerned. That's how long WeWork likely has been trying to negotiate with its increasingly worried banks.
Without ample new credit, WeWork will struggle mightily to stay afloat long enough to undf its recovery--much less initiate and comfortably service new business deals. This includes debt-funded transactions closed subsequent to the S-1 filing in August according to CMBS specialist Trepp, which recently warned again about "meaningful" exposure to WeWork leases in $3.3 billion of CMBS debt in an interview on a recent Debtwire podcast, "ABS in Mind: WeWork, the unwanted tenant."
As I always say, banks get much more timely and comprehensive financial information than public investors, and so are in the best position to know what's really going on under WeWork's hood and beyond. Now they don't like what they see:
• WeWork's prospects have been shredded. Just weeks ago WeWork still was being celebrated as the largest and fastest-growing tenant for commercial office space in some of the most important cities worldwide, including New York City, Chicago, Dublin, and London, aiming for an astonishing $3 trillion in global revenue opportunities as of its S-1 filing. Now WeWork has become a bright red flag in those markets with current and prospective customers and landlords scrambling to assess its viability going forward. WeWork's new joint-CEOs, as their first order of business last eek,w terminated current negotiations with landlords for new lease agreements and sharply curtailed others to preserve cash. New business WeWork was expected to get is being snapped up by rivals, which also are taking calls from WeWork landlords about potentially taking over if the company fails. Other deals have fallen apart because counterparties are wary about signing up business WeWork potentially can't afford to execute.
Vicki Bryan 38 The Tide Is Out and WeWork Bondholders Are Naked
• WeWork can't quickly or easily slash its most expensive cost: rent. WeWork has a stunning $47 billion in long-term lease obligations, signed in many of the most expensive markets in the world. Its commitments are so large that signing those agreements influenced commercial building and rent prices going up just as they will as WeWork tries now to renegotiate terms--good luck with that. I estimate WeWork could spend $2.5 billion in rent expense for 2019. That's 76% of potentially $3.3 billion in revenue for the year, before revenue is reduced by sales of subsidiaries and/or eroding sales from spooked customers who opt out of WeWork's short-term contracts. WeWork already lost $2.1 billion on $2.6 billion in trailing 12-month revenue as of June 30th. I estimate its tracking a net loss near $3 billion for the year.
• WeWork's precarious ability to service its leases also complicates its bank negotiations, since it backs its leases with "letters of credit, cash security deposits and surety bonds." If WeWork defaults on its leases:
The applicable landlords could draw under the letters of credit or demand payment under the surety bonds, which could adversely affect our financial onditionc and liquidity. In addition, under our surety bonds, the applicable surety has the right to request collateral, including cash collateral or letters of credit, at any time the surety bonds are outstanding. We are also pursuing strategic alternatives to pure leasing arrangements, including management agreements, participating leases and other occupancy arrangements with respect to spaces. Some of our agreements contain penalties that are payable in the event we terminate the
Vicki Bryan 39 The Tide Is Out and WeWork Bondholders Are Naked
arrangement. In addition, we have limited experience to date with these types of transactions, and we may not be able to successfully complete additional transactions on commercially reasonable terms or at all."WeWork S-1
WeWork's escalating business pressures have spiked risks that it may default on its leases, which also threatens cash and asset value WeWork's banks require to secure the company's current as well as proposed credit facilities.
• WeWork's frantic efforts to slash its other operating costs and to sell assets to preserve cash won't be enough to restore financial stability any time soon. The company is laying off 25% of its workforce, so far, but what's needed it a complete shakeup of its cost structure.
I have projected worsening trends through next year, but let's just look at WeWork's recent results to make this point. In the latest twelve months as of June 30, WeWork spent $2.1 billion (82%) of nearly $2.6 billion in revenue on direct operating expenses (mostly rent plus labor, utilities, maintenance, etc.), so it's hard to see meaningful reduction here. It reported another $2.43 billion in expenses on top of that, not including $432 million in depreciation: $1.3 billion in general overhead and other operating expenses plus $1.1 billion in preopening, growth, and "new market" expenses--which accounted for the entire $2.4 billion loss reported in earnings before interest and taxes. So even in this simplified xample,e we can see cutting all the $1.1 billion in supposed growth-related expenses still implies negative EBIT by $1.3 billion as even drastically reduced operating costs indicated at $3.9 billion overwhelm $2.6 billion in revenue.
Not surprising then that selling noncore and likely unprofitable assets like Managed by Q, Meetup, Conductor, SpaceIQ, and Teem, all on the chopping block, will barely move the needle in operating margins and may, at best, net only nominal cash versus what WeWork paid for them.
No wonder plans urgently underway to salvage WeWork as a going concern as well as its business prospects haven't been enough so far to convince the banks that it can:
• comfortably provide and sustain sufficient ollateralc to support a now sharply reduced $3 billion credit facility, even with Softbank kicking in another $1 billion in cash from fresh equity in addition to the $1.5 billion it already had pledged to invest in 2020.
• manage the increased debt load after new bank loans are quickly drawn, and
• generate sufficiently improving operating performance to demonstrate it can service leases and debt as well as capex and other cash obligations over the foreseeable future.
Vicki Bryan 40 The Tide Is Out and WeWork Bondholders Are Naked
We're actually seeing WeWork play out the scenario it told investors for years wouldn't happen: revenue stalling or falling due to troubled business conditions (its own) while its cost structure remains untenably high versus its massive and growing cash and lease-adjusted debt obligations.
This cliff hanger arrives as the cone of silence comes down on information from WeWork going forward.
Say Goodbye to Publicly Available Information
The only reason we know as much as we do know about WeWork, warts and all, is because WeWork was mandated to provide in the S-1 filing at least the minimum standard of information required by the SEC to protect potential investors. Now WeWork has withdrawn that S-1 as well as its commitment to the information it had provided.
No IPO, no more public filings about financial performance going forward.
Otherwise, WeWork is only required by its bond indenture to provide financial reports to holders or prospec" tive holders" of its bonds. Reported financial information need only be "essentially" complete to the extent it was provided in the bond prospectus and does not have to be certified yb WeWork senior officers as correct and true.
Prospective bond investors should have insisted before the deal closed--as I did many times during my years on the buy-side--that WeWork agree in writing in the indenture to provide management-certified financialther o
Vicki Bryan 41 The Tide Is Out and WeWork Bondholders Are Naked
SEC-required reports to all "holders, prospective holders, and security analysts" to ensure broadly disseminated transparency of comprehensive information to benefit investors as well as facilitate accurate market pricing and trading.
It's obvious that providing information only to bondholders before and after the notes were issued in April last year has been woefully inadequate as a reliable measure of the company's financial health or operating prowess, little better versus news reports about exuberant private investors who drove WeWork's equity value to $47 billion or its banks that pitched it as high as $100 billion in pursued of hundreds of millions in fees.
In April 2018, when WeWork issued its bonds, then its first-ever public offering, the company was already one of most highly valued US startups ever at $20 billion mostly on the $4.4 billion equity investment by Softbank the previous August. Skeptics at the time were waved off because demand for the bonds was hot--the deal size was increased to $702 million versus the initial $500 million offered, mostly on the seemingly rich 7.875% yield where they priced at par.
However, the bond prospectus did reveal that WeWork's rapidly growing revenue was being outrun by alarming losses while cash flow remained severely negative and lease obligations had ballooned to a troubling $18 billion. WeWork also used dubious metrics like Community Adjusted EBITDA, which is a manufactured measure renamed as Adjusted Contribution Margin in the IPO S-1 (and which I debunked in Gravity Works As WeWork Doesn't; Now Plan B) that essentially strips out sales costs and other core expenses to generate positive credit metrics. It's clearly a farce, as my model above shows, since 2017 Community Adjusted EBITDA created an implausible $1 billion boost to the appearance of profitability versus GAAP EBITDA which was -$769 million.
Indeed, the IPO S-1 showed WeWork's profit margins eroding and losses spiking alarmingly during the June 2018 quarter as the bonds were being sold--and in every quarter after that through June 2019. As a result, reported Goldilocks Community Adjusted EBITDA--reported to bondholders only--looked $1.8 billion better versus GAAP EBITDA of -$1.4 billion for 2018 and $2.6 billion better versus GAAP EBITDA at -$2 billion for LTM as of June 30th. This as WeWork burned through $6-8 billion in cash 2018 through June 2019, including all the cash raised from borrowing and equity infusions while lease obligations nearly tripled to $47 billion.
You wouldn't have perceived such marked and escalating risk from the comparatively generous bond credit quality ratings from Standard & Poor's and Fitch, which rated the new bonds "B+" and "BB," respectively, with stable outlooks. These more "middle of the road" high yield credit ratings signal more comfortably stable financial onditionsc versus WeWork's
Vicki Bryan 42 The Tide Is Out and WeWork Bondholders Are Naked
perpetual red ink chaos. Only last week did S&P lower its rating a notch to B, only now concerned about WeWork's liquidity pressure and "heightened strategic and governance uncertainty" which may complicate its ability to raise capital--more than a month after the IPO had to be pulled as spectacularly failed. Fitch offered similarly "breaking news" last week that “in the absence of an IPO and associated senior secured debt raise, WeWork does not have sufficient funding to meet its growth plan” when it also dropped its bond rating to "CCC" with a now negative outlook. Ratings now are closer to Moody's original credit rating of "Caa" when the bonds were issued which it withdrew four months later in August 2018 “because it believes it has insufficient or thero wise inadequate information to support maintenance of the ratings.”
That was true. And as a result of such pervasively poor and missing information, WeWork's bonds only traded to record lows, and WeWork's equity only plunged from $50-100 billion valuations to perhaps $3 billion, after the company publicly disclosed comprehensive financial statements with the IPO S-1.
That ship has now sailed.
Contact Us! Unless you want to talk to WeWork Investor Relations
Now that WeWork has no obligation to provide publicly available information, it really doesn't want to talk to anyone about its bonds. I have tried on several occasions over the past couple of months to contact WeWork Investor Relations during business hours, without success.
Vicki Bryan 43 The Tide Is Out and WeWork Bondholders Are Naked
Calling the main phone number put me into circuitous phone tag which never connected me to a person, any person, and Investor Relations wasn't even on the menu. I had no luck on the web site under "Contact Us" with "Chat Us", which never responded any time of day on any weekday I tried. Clicking on "Investor Investors" at the bottom of the Contact Us page took me to the gatekeeper box I show above. My submitted request for information as a "securities analyst" has been ignored.
WeWork does, however, offer handy advice on its web site on how others should "speak to "investors," such as"Most investors base their decision largely on the communication they receive from the company itself."
All this means WeWork bondholders find themselves in a more dangerous vacuum than ever. WeWork is likely to remain seriously distressed through next year since it is functionally insolvent, it could run out of cash by yearend, and it can't afford to fund its operations, much less a turnaround via the complete business remodeling it requires.
In the meantime, it's become even more obvious that WeWork does not provide adequate or accurate information to investors and that it likely will remain quiet about serious problems and risks it faces. In the absence of such vital information, market coverage on the bonds will dry up, and so will vital discourse which already resulted in a very healthy and necessary
Vicki Bryan 44 The Tide Is Out and WeWork Bondholders Are Naked
repricing of a WeWork's seriously overvalued equity. This impairs already difficult liquidity in the bonds, leaving bondholders stuck in WeWorks's mushroom cave.
WeWork 7.875% senior notes are down 11 points to 83.1 (12.1% ytw/1079 bps) since my last report, and down nearly 20 points since I initiated coverage with a "Sell" rating in Gravity Works As WeWork Doesn't; Now Plan B when the bonds were at 102.8 (7.3% ytw/540 bps). WeWork remains severely distressed and it's not yet clear whether the company can remain viable for the foreseeable future. Upside potential remains limited as a result given longer- term risks that continue to materialize versus downside risk which could be another 5-10 points from here over the near term. Maintain “Sell.”
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (02 Oct 2019)
Vicki Bryan 45 Softbank May Blink First (WeWork Bondholders Hope)
The We Company (WeWork) | Credit Softbank May Blink First (WeWork Bondholders Hope) Vicki Bryan By Vicki Bryan | 14 Oct 2019
Founder & CEO Bond Angle, LLC
EXECUTIVE SUMMARY
The latest plan to emerge in now urgent discussions to bail out The We Company (WeWork) (WE US) is for its top investor Softbank Corp (9434 JP) to buy up a controlling interest in the equity, according to reports out Sunday by The Wall Street Journal and Financial Times.
Key to the plan will be settling on a reasonable value for WeWork's foundering equity which has plunged 80% by conservative estimates (down 94% by my estimate) versus the lofty $47 billion where Softbank last invested in January--which already has Softbank in trouble with its own investors.
WeWork's banks are said to be working on a $5 billion debt package, including a massive $3 billion high yield bond issue marketed by lead banker JPMorgan Chase & Co (JPM US), of course, which would greatly reduce their own exposure to the company's horrific and escalating risks while enveloping existing bonds in a mountain of unsecured debt.
While the Titan's clash, WeWork is failing. Insiders say it could run out of cash next month--tracking my projections (see The Tide Is Out and WeWork Bondholders Are Naked).
Watching from the kid's table are WeWork's bondholders who boxed themselves into their feckless position and so are stuck with accepting whatever the adults cook up.
Read on for Bond Analysis, forecasts, and more.
Vicki Bryan 46 Softbank May Blink First (WeWork Bondholders Hope)
DETAIL
Softbank's Chairman Masayoshi Son/CNN
Softbank has Few Options: All Ugly
One item that didn't appear in any of the WeWork brochures was that it was meer months from bankruptcy if it failed to raise $9-10 billion from its IPO and new credit facilities arranged back in August. But there were plenty of clues.
For one, WeWork's cash consumption is voracious and unrelenting-- much like its mounting losses which continue to outrun even rapid revenue growth which now is threatened by the recent revelations of its dramatically inflated profitability, prospects, and value. As I noted again in The Tide Is Out and WeWork Bondholders Are Naked, WeWork burned through $6-8 billion in cash during 2018 through June 2019, including all the substantial cash raised from borrowing and equity infusions. This compared to revenue at just $1.8 billion for 2018 and $2.6 billion generated for the LTM ended June 30, 2019. It lost $1.9 billion and $2.1 billion, respectively, over those same periods.
I estimated that WeWork "was set to consume all the $9-10 billion it planned to raise in stock and debt in a year or less with still no convincing path to profits or positive free cash flow." I also noted that WeWork's effective available cash was much lower than reported at $1.4 billion as of June 30th, and this could be depleted by yearend.
My concerns seem to be confirmed yb reports that deal insiders say WeWork could be out of cash and facing bankruptcy if it doesn't get a financing package by the end of November.
It's less clear that Softbank is willing to spend more than it's already offered to save WeWork.
Vicki Bryan 47 Softbank May Blink First (WeWork Bondholders Hope)
Buying more of WeWork is a losing proposition for Softbank on top of $11 billion spent so far. In addition to netting astonishing losses on its stake, now as the largest holder with 29% of WeWork, Softbank already has caught significant flak from itswn o investors for its WeWork obsession which was driven by Chairman Masayoshi Son. Those investors finally balked at Son's plan in December last year to buy out the rest of WeWork for $16 billion when the company was valued at $45 billion versus $20 billion where the company first invested $4.4 billion a year earlier. Son settled for investing $2 billion the next month, which took WeWork's value to $47 billion. Good times.
Now Softbank's investors cite Son's freewheeling WeWork excesses as good reason not to invest in its new Vision II Fund.
Softbank has become considerably more restrained since August in further pledges of WeWork investment. Word was that Softbank would take on $750 million to $1 billion of the struggling IPO. Since the IPO's collapse, it still seems to be offering no more than $1 billion in addition to $1.5 billion it already had pledged for 2020.
Given the dramatic plunge in WeWork's equity value, it's possible that's all it will take for Softbank to get a controlling stake now:
As I show in the chart above, WeWork was astonishingly overvalued at $47 billion which was more than 10x the value of IWG PLC (IWG LN), its much larger--and profitable--competitor, and more than 14x my estimate for 2019 revenue.
It's still expensive by this measure even at $10 billion, but $10-12 billion was the range rumored back in September as the adjusted target for the IPO before it was pulled. This also shows that Softbank could spend less than $2.5 billion to buy enough of WeWork to get a controlling stake.
This will formalize a sickening write-down of billions versus WeWork's inflated equity value--Softbank alone invested more than $11 billion mostly in equity--but that horse has already left the barn because it burned nearly to the ground.
Vicki Bryan 48 Softbank May Blink First (WeWork Bondholders Hope)
So Why No Deals Yet?
The immovable measure of WeWork's peril has been its banks' steadfast refusal since August to close on any new financing in any amount unless its equity investors stepped up with significant additional cash.
That said, having Softbank as its parent company may solve some problems holding WeWork back by bolstering its shredded credibility. Much of WeWork's near-term risk stems from concerned counterparties afraid to sign new business, and existing landlords and customers who worry it can't execute agreements it's already made.
In the meantime, however, WeWork will continue to hemorrhage cash as it restructures its untenable business model--especially with rent as its highest and least flexible operating expense. Even with Softbank as its owner, WeWork still may elect to file bankruptcy to help renegotiate legally locked up long-term leases amounting to more than $47 billion.
And all of WeWork's creditors should remain wary of its troubling lack of tangible asset value, which likely is significantly below book value, versus its significant cash and lease and debt obligations. I expect the banks are keeping their risk exposure comfortably below TAV, leaving little if any left for unsecured debt claims in a liquidation scenario.
And the banks have worried for a while.
I noted in Gravity Works As WeWork Doesn't; Now Plan B and in subsequent reports my concern that WeWork's legacy banks had played a major role in driving up its equity value, with JPMorgan Chase & Co (JPM US), Goldman Sachs Group (GS US), and Morgan Stanley (MS US) pitching it to investors last year at $50-100 billion and fighting vo er leading its IPO when it was valued at $47 billion.
Vicki Bryan 49 Softbank May Blink First (WeWork Bondholders Hope)
But when it was time to bring the IPO to market, the $6 billion in credit facilities they arranged were priced with steep terms and shorter maturities and set to close only if the IPO closed. Some $2 billion of that total amount comprised a Letter of Credit facility which charged interest and required WeWork to provide 100% collateral in cash--a clear sign to me at the time of the banks' wary view of WeWork's disturbing credit risk. The only thing that has changed since August, despite likely two months or more of negotiations, is that the banks are willing to lend even less.
The plan now appears to be a $5 billion debt package, potentially including a whopping $3 billion in new unsecured high yield notes which will dramatically reduce the banks' exposure. I suspect the remaining $2 billion in credit facilities will be even more expensive versus previous terms and also divided between a credit line and another fully cash-backed letter of credit facility.
I had projected a similar bailout package in Gravity Works As WeWork Doesn't; Now Plan B--the difference in proposed terms now is the banks' obvious desire to create even more protection from WeWork's horrific and escalating risk.
I also suspect the banks and Softbank have been kicking around essentially the same terms for the past month or two. WeWork's other large investors don't appear to be stepping up, and WeWork is hardly in a position to stop the train. Why are they still worried about signing bailout deals?
Perhaps they were waiting for the close of what I expect was a terrible third quarter going into a worse fourth quarter.
Gary Larsen
Vicki Bryan 50 Softbank May Blink First (WeWork Bondholders Hope)
Sell it To High Yield, They Buy Anything
I observed in The Tide Is Out and WeWork Bondholders Are Naked that WeWork marketed its last high yield bond deal, led also by JPMorgan, and also with a woefully inadequate prospectus, during a quarter when operating margins turned out to be shrinking with losses mounting alarmingly which wasn't revealed until long after the bonds were sold and trading below par.
There's no reason to think they won't sell another issue more than four times larger (and more than 1x trailing revenue) just because the company is in dramatically worse shape, especially now that WeWork bonds are rallying on news of a potential bailout so yields could fall back closer to 9% which, as before, falls well short in compensating for WeWork's severe credit risk. Willingly less-informed investors are easier to manage.
Rinse, repeat.
Looking forward, it could take 2-3 years to turn WeWork around, and the company that emerges, if it emerges, will have to be dramatically different versus what it is today, with different operating and credit metrics and vastly different prospects during what I expect also will be a softer business environment.
In the meantime, the company probably will not change its practice of providing bondholders inadequate information which then fails to reflect the company's true and accurate financial onditionc and prospects--because it's not required to. As I noted in The Tide Is Out and WeWork Bondholders Are Naked:
No IPO, no more public filings about financial performance going forward. Otherwise, WeWork is only required by its bond indenture to provide financial reports to holders or prospec" tive holders" of its bonds. Reported financial information need only be "essentially" complete to the extent it was provided in the bond prospectus and does not have to be certified yb WeWork senior officers as correct and true. Prospective bond investors should have insisted before the deal closed--as I did many times during my years on the buy-side--that WeWork agree in writing in the indenture to provide management- certified financialther o SEC-required reports to all "holders, prospective holders, and security analysts" to ensure broadly disseminated transparency of comprehensive information to benefit investors as well as facilitate accurate market pricing and trading. It's obvious that providing information only to bondholders before and after the notes were issued in April last year has been woefully inadequate as a reliable measure of the company's financial health or operating prowess, little better versus news reports about exuberant private investors who
Vicki Bryan 51 Softbank May Blink First (WeWork Bondholders Hope)
drove WeWork's equity value to $47 billion or its banks that pitched it as high as $100 billion in pursued of hundreds of millions in fees.
So, the best outcome for bondholders is that Softbank buys up control of WeWork and triggers the change of control put to enable them to sell their bonds back to the company at 101% of par.
Otherwise, bondholders are stuck in perpetual semi-darkness with bonds that are hard to trade, with increasingly less market coverage, and issued by a company proven to provide inadequate information about its operating performance, financial ondition,c and prospects. Even the S-1, which provided a comparative wealth of public information, was critically flawed with missing, incomplete, and error-ridden information. Moreover, with the IPO pulled no one--not even bondholders--will see the SEC's substantial commentary on the S-1 which prompted the company to make significant changes in the amended ersionv filed in September.
I suggest bondholders use any rally as an escape pod, while they can.
WeWork 7.875% senior notes have rallied 7 points to 90.5 (10.2% ytw/860 bps) since my last report. WeWork remains severely distressed and it's not yet clear whether the company can remain viable for the foreseeable future. Upside potential remains limited as a result given longer-term risks that continue to materialize versus downside risk which could be 5-10 points from here over the near term. Maintain “Sell.”
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (13 Oct 2019)
Vicki Bryan 52 Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware
The We Company (WeWork) | Credit Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware Vicki Bryan By Vicki Bryan | 15 Oct 2019
Founder & CEO Bond Angle, LLC
EXECUTIVE SUMMARY
Bloomberg is reporting tonight that The We Company (WeWork) (WE US) has rejected the buyout plan proposed by Softbank Corp (9434 JP) , its largest investor and biggest backer (see my report last night Softbank May Blink First (WeWork Bondholders Hope) .
WeWork has chosen instead to go with the bailout plan proposed by its Banks which calls for adding massive layers of expensive unsecured, likely unregistered debt to its balance sheet--along with dramatically reduced exposure for the banks with plenty of coverage (at pricey fees, no doubt) to protect them from WeWork's alarming and escalating risk.
Gee, how bad could it be?
For starters, PIK notes. Billions in PIK notes...
Read on for Bond Angle analysis, forecasts, and more.
Vicki Bryan 53 Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware
DETAIL
WeWork office in Tokyo/Bloomberg
Sit Down, Softbank
I detailed in last night's report Softbank's plan to buy out a controlling interest in WeWork which, given the dramatic collapse in equity value, could be done at something between $2.2-2.6 billion.
For Softbank, WeWork's catastrophic collapse already has resulted in a sickening write-down of its $11 billion investment by at least 75-80%, assuming the $10-12 billion equity valuations floated last month (my estimate is $3 billion, which probably is generous given the company is on the verge of bankruptcy). However, buying a controlling interest would enable Softbank to better participate in WeWork's urgent recovery on the road to retracing its prohibitive losses.
Vicki Bryan 54 Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware
For WeWork Softbank represents a stalwart, deep-pockets patron as well as investor, with years of demonstrated financial support from billions in equity injections and loans which we now know have been vital to keeping the company afloat as long as it has (see Gravity Works As WeWork Doesn't; Now Plan B).
Importantly, Softbank also supported WeWork's management autonomy, even after years of the company's failures to deliver on its perpetually overambitious promises while Adam Neumann was at the helm. While this raised concerns for investors in WeWork and Softbank, WeWork's new, more credible co-management, could likely rely on Softbank's continued support of their turnaround plans.
Softbank's strong financial support as a ommitc ted owner with ample financial capacity also could represent the most important ammunition WeWork can muster in helping to restore its shredded credibility, enabling it to proceed with restructuring its business model and sign deals with counterparties who can trust it. As I noted in The Tide Is Out and WeWork Bondholders Are Naked:
Just weeks ago WeWork still was being celebrated as the largest and fastest-growing tenant for commercial office space in some of the most important cities worldwide, including New York City, Chicago, Dublin, and London, aiming for an astonishing $3 trillion in global revenue opportunities as of its S-1 filing. Now WeWork has become a bright red flag in those markets with current and prospective customers and landlords scrambling to assess its viability going forward. WeWork's new joint-CEOs, as their first order of business last week, terminated current negotiations with landlords for new lease agreements and sharply curtailed others to preserve cash. New business WeWork was expected to get is being snapped up by rivals, which also are taking calls from WeWork landlords about potentially taking over if the company fails. Other deals have fallen apart because counterparties are wary about signing up business WeWork potentially can't afford to execute.
WeWork's bondholders would benefit substantially romf WeWork owned by a large, well-capitalized parent, which could ease some perpetual detractions that impair bond value such as being unregistered and hard to trade with little if any market coverage. Even without liquid trading and convincingly accurate market pricing or sound financial information, transparency, and public reporting, it's much more relaxing to be able to clip the coupon you know is probably coming on bonds that probably will be repaid upon maturity in 2025.
But, apparently, WeWork's management and feckless board--which rubber- stamped every move Adam Neumann made--considered the obvious advantages of Softbank's plan as less important now, as they struggle to save the company, versus retaining their absolute power by keeping the company independent, such as it is.
Vicki Bryan 55 Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware
This means aligning with WeWork's Banks which have demonstrated they will not be there to backstop the company when it becomes distressed--they bolster own their risk coverage instead.
Ego Control Wins the Day
WeWork chose instead the bailout proposed by its legacy banks, even though it's long been clear they are clearly have been increasingly wary about the company's escalating risk and shattered prospects (see Gravity Works As WeWork Doesn't; Now Plan B) .
This is not to be confused with opportunities the banks embraced in pursuit of hundreds of millions in fees when they could generate by selling the company's securities; e.g. JPMorgan Chase & Co (JPM US) , Goldman Sachs Group (GS US) , and Morgan Stanley (MS US) pitched WeWork to investors last year at $50-100 billion and fought each other over leading its IPO when it was valued at $47 billion.
JPMorgan, Goldman, Morgan Stanley, and other core WeWork banks also ran the WeWork's high yield bond offering in April 2018, also supported with a woefully inadequate prospectus, during a quarter when the company's operating margins turned out to be shrinking rapidly with losses mounting alarmingly which wasn't revealed until long after the bonds were sold and trading below par.
Vicki Bryan 56 Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware
Source: Bloomberg
So if hundreds of millions in fees could be reaped, WeWork banks are all in. But when it comes to their own exposure, not so much.
From Softbank May Blink First (WeWork Bondholders Hope):
But when it was time to bring the IPO to market, the $6 billion in credit facilities they arranged were priced with steep terms and shorter maturities and set to close only if the IPO closed. Some $2 billion of that total amount comprised a Letter of Credit facility which charged interest and required WeWork to provide 100% collateral in cash--a clear sign to me at the time of the banks' wary view of WeWork's disturbing credit risk. The only thing that has changed since August, despite likely two months or more of negotiations, is that the banks are willing to lend even less.
I have observed for months that WeWork's banks have been adamant about not moving forward with closing new credit facilities which will provide sorely needed liquidity. Remember, banks get much more comprehensive financial information about WeWork than typical investors, and they get it every month. So I have been very concerned that the banks have consistently moved to reduce their own exposure by slashing their credit commitments, casting off risk to other securities, like a massive $3 billion chunk of unsecured high yield notes, and seemingly requiring Softbank to contribute additional equity before they would agree to greatly reduced credit facilities.
This is glaringly obvious in the bank's bailout package which WeWork accepted.
Vicki Bryan 57 Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware
As it turns out, that $3 billion offering in high yield debt is to include "at least $2 billion of unsecured payment-in-kind notes with an unusually hefty 15% coupon," according to Bloomberg. That's nearly 3x more versus the $699 million currently outstanding in WeWork's unregistered 7.875% notes due 2025.
Payment-in-kind notes mean coupon payments are paid in more bonds instead of cash. Such notes are rare because they typically are highly undesirable since they are issued by extremely distressed companies and end up adding to an already massive debt load they company struggles to support.
Think even 15% is high enough to accommodate risk sufficiently to satisfy prospective investors? Nope, and not even the banks think so, as Bloomberg reports:
The $2 billion of proposed unsecured debt may carry an additional sweetener for investors: equity warrants designed so that investors could boost their return to around 30% if the company gets to a $20 billion valuation, according to the person who described the structure. WeWork would pay only a third of the coupon in cash, while the rest of the interest would accumulate and become due at maturity, the person said.
So investors will be offered unregistered bonds that pay only 30% of their coupon in cash while piling on more debt plus get warrants to potentially redeem years down the road when WeWork--a nonpublic company--may claim to be worth $20 billion in equity value based on demonstrably flawed, oblique, and misleading financial statements. The banks value this issue at 15% yield plus warrants--I suggest at least 18% yield for a likely 5-7 year maturity as more appropriate for investors to accept.
After all, WeWork's credit metrics remain off the chart ugly with GAAP EBITDA at -$2 billion for LTM as of June 30th on just $2.6 billion in revenue--I expect modest improvement at best over the next two years.
Yet just two months ago the "smart money" still valued WeWork at $47 billion. The same banks selling these notes, and that sold the WeWork bonds in April 2018 which traded recently at 12% ytw, pitched the company as being worth $50-100 billion last year before it reported a stunning loss at $1.9 billion for 2018 which so far have been topped by worse losses this year with $2.1 billion for LTM as of June 30th.
At the very least prospective investors in WeWork's new bonds should demand that the company file SEC quality financial statements and distribute them to Holders, Prospective Holders, and Securities Analysts to facilitate better transparency in financial reporting, trading, and market pricing. Even better, avoid them altogether.
Vicki Bryan 58 Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware
That's not all. The $2 billion in PIK notes will be joined by another $1 billion in secured debt, likely high yield notes. I am skeptical of the quality and value of assets offered as collateral to back these notes since WeWork has a comparatively modest proportion of credibly tangible assets and asset value reported on the balance sheet is likely overstated. I expect these notes also to be priced too low--I suggest at least 12-15% yield depending on maturity and collateral offered.
Moreover, I also have noted, WeWork's banks will ensure they are most comfortably covered by the best claims to the best assets, and that will limit coverage available for the bonds as well as what the banks actually will lend in credit facilities.
Sure enough, the only other piece left in the proposed package is $1.7 billion for a letter of credit facility "split among participating banks." Presumably, terms will be similar to the previous LoC facility arranged back in August before the IPO was filed when everyone still loved WeWork. Even then the banks planned to require WeWork to back every draw on the LoC facility with 100% cash collateral--plus interest at L+100 bps.
That's it--$4.7 billion in total new debt comprising a $1.7 billion LoC facility plus a whopping $3 billion in pricey high yield debt. The banks have completely eliminated the term loan commitment previously offered which had comprised $4 billion, priced at L+475 bps, of the total $6 billion they had arranged back in August.
WeWork's pending Term Loan that never closed. Source: Bloomberg
So the banks not only intend to lend less, they really aren't lending any more at all, since the LoC facility will likely be collateralized if drawn with 100% in WeWork cash. This leaves WeWork with its existing $650 million revolver, which had only $350 million in available credit as of June 30th.
In the meantime, Softbank apparently is not on board with this plan and so is not kicking in the extra $1 billion in new equity it had offered since August. That means no new cash from Softbank until the $1.5 billion it had pledged to invest next year.
Vicki Bryan 59 Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware
So in the first test of WeWork's new management's decision prowess and focus, it turned away the company's most important patron, Softbank, which also could have fast-tracked the restoration of the company's business reputation and prospects while likely ensuring strong and continuing financial support to help fund the multi-year turnaround ahead. This would have eased concerns for all of WeWork's worried stakeholders, but it also meant yielding control in the meantime until Softbank elected to spin it off again down the road. Oh the horror.
Instead, WeWork accepted a large, terribly expensive debt package that will further burden its bloodied balance sheet, fail to eliminate its liquidity pressure for long, and fail to restore confidence in the company's long-term viability.
WeWork needed to raise $9-10 billion in stock and debt back in August when it was the darling of Wall Street, and I have estimated it could run through that cash in a year. Now as it faces its most distressing business and financial challenges of its existence, it will be lucky to net less than $5 billion in fresh funds while taking on an even more overburdened balance sheet.
Good talk guys.
Bondholders, I recommend again to use any rally as an escape pod.
WeWork 7.875% senior notes have rallied 7 points to 90.5 (10.2% ytw/860 bps) since my last report. WeWork remains severely distressed and it's not yet clear whether the company can remain viable for the foreseeable future. Existing bonds face the further risk of the company's pending note offerings which will envelop them in a mountain of debt without providing a convincing path for the company's recovery. Upside potential remains limited outside of brief, misguided rallies as a result while downside risk could be 5-10 points from here over the near term. Maintain “Sell.”
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (15 Oct 2019)
Vicki Bryan 60 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
The We Company (WeWork) | Credit WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence Vicki Bryan By Vicki Bryan | 30 Oct 2019
Founder & CEO Bond Angle, LLC
EXECUTIVE SUMMARY
As I expected, The We Company (WeWork) (WE US) has gone silent (see The Tide Is Out and WeWork Bondholders Are Naked).
Given the urgency of WeWork's financial distress, it is worrisome that further details about massive new debt coming as part of the Softbank Group (ADR) (SFTBY US) rescue plan announced last week have yet to be publicized. Get used to it.
As I warned again in Softbank May Blink First (WeWork Bondholders Hope), WeWork "will not change its practice of providing bondholders inadequate information which then fails to reflect the company's true and accurate financial onditionc and prospects--because it's not required to" since it pulled its IPO and is no longer subject to any SEC-required financial reporting standards.
WeWork now is valued near $7 billion--well within the $5-7.5 billion range I projected in mid-September in Gravity Works As WeWork Doesn't; Now Plan B, which now still seems generous since the company is on the brink of bankruptcy. I thought as much by October when I cut my number to roughly $3 billion, affirming my previous estimate that the company has much less cash than advertised and thus could run out by yearend (The Tide Is Out and WeWork Bondholders Are Naked). This also was subsequently confirmed.
It's not just that WeWork needs literally billions in emergency cash right now to stay afloat, it's also that it likely will need such expensive financial support for the foreseeable future.
That troubles Softbank's bondholders, which should really alarm WeWork bondholders.
Read on for Bond Angle analysis, forecasts, and more.
Vicki Bryan 61 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
DETAIL
Photo: Kate Munsch/REUTERS
About That Fine Print
I have been warning for weeks that investors need to read the fine print in any confirmed deal to rescue WeWork, and here it is: Softbank is not *acquiring* WeWork; it will not take *control* of WeWork.
Terms of the deal were engineered to avoid change-of-controlso Softbank will not consolidate WeWork into its operations or financial statements, as detailed in last week's press release announcing the news which was signed by WeWork's newly minted Executive Chairman Marcelo Claure, already installed by Softbank:
"After closing, and following the tender offer, SoftBank’s fully diluted economic ownership of WeWork will be approximately 80 percent. Since SoftBank will not hold a majority of voting rights at any general stockholder meeting or board of directors (“Board”) meeting and does not control the Company, WeWork will not be a subsidiary of SoftBank. WeWork will be an associate of SoftBank."
This obviously saves Softbank from staining its own financial statements with WeWork's multi-billion dollar losses and its massive debt and lease obligations, including $47 billion in expensive long term leases that swamp its modest annual revenue which I have estimated at roughly $3.3 billion for
Vicki Bryan 62 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
2019 with little if any improvement next year (see Gravity Works As WeWork Doesn't; Now Plan B and subsequent reports). It doesn't erase the damage Softbank's WeWork investment already has done to its portfolio.
Softbank has sunk more than $11 billion in equity and loans into WeWork since it first invested $4.4 billion just two years ago, which boosted the company's value from $16.9 billion to $20 billion. With the rescue plan, Softbank's investment jumps immediately with another $1.5 billion equity injection before buying out ex-CEO Adam Neumann's stake for $970 million (plus $500 million to pay off Neumann's loans from JPMorgan backed by WeWork stock) and as much as $3 billion spent to tender stock from other investors.
Now equity in this sinking ship is worth closer to $7 billion versus $47 billion where Softbank last invested in January this year, marking a massive loss for Softbank and its Vision Fund which already has scared investors away from Vision Fund II which it's trying to sell now.
And yet, as I noted in Softbank May Blink First (WeWork Bondholders Hope), Softbank had few options but to salvage its grossly inflated investment; all ugly:
Vicki Bryan 63 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
One item that didn't appear in any of the WeWork brochures was that it “was meer months from bankruptcy if it failed to raise $9-10 billion from its IPO and new credit facilities arranged back in August. But there were plenty of clues.
For one, WeWork's cash consumption is voracious and unrelenting-- much like its mounting losses which continue to outrun even rapid revenue growth which now is threatened by the recent revelations of its dramatically inflated profitability, prospects, and value. As I noted again in The Tide Is Out and WeWork Bondholders Are Naked, WeWork burned through $6-8 billion in cash during 2018 through June 2019, including all the substantial cash raised from borrowing and equity infusions. This compared to revenue at just $1.8 billion for 2018 and $2.6 billion generated for the LTM ended June 30, 2019. It lost $1.9 billion and $2.1 billion, respectively, over those same periods.
I estimated that WeWork "was set to consume all the $9-10 billion it planned to raise in stock and debt in a year or less with still no convincing path to profits or positive free cash flow." I also noted that WeWork's effective available cash was much lower than reported at $1.4 billion as of June 30th, and this could be depleted by yearend.
Meanwhile, WeWork failed miserably at attracting new investment elsewhere. A "leaked" email from its new co-CEOs (soon to be replaced by Softbank) shows WeWork approached 75 additional funding sources--apparently none were interested in terms offered.
It's little wonder since multiple sources since early reports now confirm WeWork hasburned through most if not all the $1.4 billion I calculated as actually available cash as of June 30th versus $2.5 billion reported (see Gravity Works As WeWork Doesn't; Now Plan B) as I expected, and likely the nominal $350 million it had reported in available credit on its $650 million revolver. Given its accelerating distress, I had estimated that WeWork could be burning through $2-3 billion per quarter and its turnaround, if it happens, could take 2-3 years.
Recent reports say even Softbank thinks the turnaround could take three years as it shifts WeWork's focus to slower, more conservatively targeted revenue growth in core operations and key markets plus stringent cost management.
Vicki Bryan 64 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
WeWork's Banks Have Been Looking For Cover
I was not surprised that WeWork's JPMorgan Chase & Co (JPM US) -led legacy banks, which had arranged $6 billion in expensive new credit facilities just before the IPO was announced, and which had pitched the company to investors last year as worth $60-100 billion, now refuse to lend it one penny more.
This seemed obvious to me after weeks and then months of foot-dragging passed with no new credit facilities signed long after the IPO was clearly in trouble and then withdrawn.
Instead, the banks were happy to cast off their WeWork risk by selling a bailout package of ugly new, and of course, unregistered bonds to investors (Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware) with coupons woefully inadequate to compensate for WeWork's horrific and escalating credit risk, as they did in April last year, confirming my suspicion that the banks were seeking to reduce their exposure to WeWork (Gravity Works As WeWork Doesn't; Now Plan B and Softbank May Blink First (WeWork Bondholders Hope) ) .
The JPMorgan $5 billion all-debt bailout, which WeWork's board first accepted before being shamed by investor outrage into dropping, included "at least" $2 billion in PIK notes offered at a laughably low 15%yield plus $1 billion in secured notes dubiously backed by questionable asset quality given the overstated book value of WeWork's comparatively minimal tangible assets (see Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware). WeWork's banks likely have claimed all credible tangible asset value plus a comfortable cushion to account for the company's alarming deterioration, to back its current secured credit facilities.
Vicki Bryan 65 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
As I called out in my last report, JPMorgan did not offer a new revolving credit line or term loan in its $5 billion bailout package. Instead, terms included a $1.7 billion letter of credit facility which would be as widely syndicated as possible among multiple banks and, I suspect, likely require 100% cash collateral from WeWork to be posted for every penny drawn plus interest--just like the letter of credit facility the banks arranged back in August.
Softbank's Chairman and formerly WeWork's biggest fan, Masayoshi Son
Here Comes the Son
This left Softbank to carry the full load for WeWork's bailout, while JPMorgan will still get a $50 million payment for arranging the hideous $5 billion debt package not selected.
Softbank's takeover package will inject $4.8 billion in cash into WeWork, also mostly from new high yield notes--though no mention of PIK notes:
• Existing Payment Obligation: Acceleration of SoftBank’s April 2020 $1.5 billion payment obligation at $11.60 per share, expected to be completed 7 days post-signing, subject to WeWork shareholder approval;
• Tender Offer: The launch of a tender offer worth up to $3 billion to all non-SoftBank shareholders at a price of $19.19 per share, expected to commence in the fourth quarter of 2019, with closing subject to regulatory approvals and other customary closing conditions;
Vicki Bryan 66 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
• New Debt: Consisting of $1.1 billion in Senior Secured Notes, $2.2 billion in Unsecured Notes, and a $1.75 billion Letter of Credit Facility. This funding is expected to occur after the completion of the tender offer; and
• Joint Venture Share Swap: All of SoftBank Vision Fund’s interests in regional JVs outside of the Japan JV will be exchanged for shares in WeWork at $11.60 per share.
WeWork Board Press Release, 10/22/19
Note that these terms are subject to shareholder approval. Has this happened? We may presume so given WeWork's cash crisis, but there's been no announcement more than a week later.
There's also been no news about the timing of the bond sales, which also should be coming soon with terms reportedly "better" versus the bonds JPMorgan had proposed. Better for whom is not clear.
It's anyone's guess how long this fresh cash will last, but I suspect WeWork may deplete it faster than expected--perhaps in less than two quarters. After all, this is half what the company was hoping to raise in stock and debt with the IPO--and I had estimated this funding could be depleted in a year or so and WeWork's financial onditionc and prospects have deteriorated rapidly since then.
In any case, once Softbank starts writing checks to support WeWork, it may not be able to stop for years.
Massive layoffs have been announced, with likely more to come, along with asset sales of dubiously valued noncore and likely unprofitable businesses like Managed by Q, Meetup, Conductor, SpaceIQ, and Teem. Neither efforts are likely to move the needle sufficiently to staunch eWW ork's accelerating losses and cash consumption (see WeWork Board to CEO: YouOUT and The Tide Is Out and WeWork Bondholders Are Naked). Softbank also is expected to throw business WeWork's way and have it refurbish Softbank offices.
These measures won't be enough to stabilize WeWork's foundering operations, worsened by tumbling revenue as it's being forced to scale back on new and existing business in lucrative--and expensive--markets like London, New York, China, parts of Asia, and Latin America.
Neither will this offset WeWork's biggest margin squeeze: rent, which is its largest and least flexible expense. I have estimated rent expense in 2019 could claim 76% of revenue at $2.5 billion, a number already increasing into next year on deals signed through at least August. This could grow to more than $10 billion over the next four years, according the WeWork's S-1 filing.
Vicki Bryan 67 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
Leases also can deplete cash if WeWork defaults on terms as agreed, as I noted in The Tide Is Out and WeWork Bondholders Are Naked:
The applicable landlords could draw under the letters of credit or “demand payment under the surety bonds, which could adversely affect our financial condition and liquidity. In addition, under our surety bonds, the applicable surety has the right to request collateral, including cash collateral or letters of credit, at any time the surety bonds are outstanding. We are also pursuing strategic alternatives to pure leasing arrangements, including management agreements, participating leases and other occupancy arrangements with respect to spaces. Some of our agreements contain penalties that are payable in the event we terminate the arrangement. In addition, we have limited experience to date with these types of transactions, and we may not be able to successfully complete additional transactions on commercially reasonable terms or at all."WeWork S-1, 8/15/19
This is why I have speculated that we can't rule out bankruptcy for WeWork as a means to renegotiate its $47 billion in expensive leases even with Softbank as a parent, which could threaten yet another big hit to Softbank's WeWork stake as well as existing bonds.
So WeWork will be expensive for Softbank to take over and help sustain for years, to the tune of billions, which Chairman Son recently acknowledged to Softbank's investors. "On a call with some of those investors this week, Mr. Son apologized for the WeWork investment, saying he had put too much faith in Mr. Neumann, people familiar with the matter said," according to The Wall Street Journal.
Glad to hear it, but the damage is done. Softbank's Vision fund is rethinking its risk strategy going forward, with a particular emphasis on improving corporate governance at portfolio companies. Rumors of layoffs at Softbank and Vision Fund have started to surface amid rumblings of dissent from fund managers who long had voiced concerns about Son's freewheeling investments which now have cost the fund billions in losses with WeWork, Uber (UBER US), Slack Technologies Inc (WORK US), and Zhongan Online P&C (6060 HK). Funding into the new Vision Fund II is at risk as prospective investors have become increasingly wary.
No wonder Softbank's investors hate this transaction, and this should alarm WeWork bondholders. Softbank's Tokyo-listed stock is down 30% since the peak in late July just before the WeWork IPO was announced. The CDS spread on Softbank bonds, which is the cost to hedge against declines, has spiked to the highest level since January.
Vicki Bryan 68 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
Source: Bloomberg
Softbank's take over of the catastrophically failed WeWork is a transaction that makes almost no one happy, save ex-CEO Adam Neumann who walks away with $1.7 billion. Let that sink in.
In the meantime, WeWork bondholders have to take what they get. When and how will WeWork bonds get buried under massive new debt? Don't know. How did the third quarter turn out and what are prospects for the fourth quarter and next year? Probably don't know that either. How long before market analysts and observers move on because one can't adequately cover WeWork's operations or prospects or offer independent valuations for its increasingly illiquid bonds in the vacuum created without publically available financial statements. Not much longer.
As I observed last week to the New York Times, the only good news for WeWork now is that a stronger parent will shepherd it from here:
"SoftBank’s rescue plan has bought some time, analysts said, but WeWork still has to make some difficult decisions. “The silver lining in the whole process is that SoftBank bought them,” said Vicki Bryan, chief executive of Bond Angle, a research firm."
But even this is too little too late.
WeWork 7.875% senior notes lost nearly 7 points to 84.1 (11.9% ytw/1023 bps) since my last report when I had warned again that bondholders should "use any rally as an escape pod." WeWork remains severely distressed and it's not yet clear whether the company can remain viable for the foreseeable future. Existing bonds face the further risk of the company's pending note offerings which will envelop them in a mountain of debt without providing a convincing path for the company's recovery. Upside potential
Vicki Bryan 69 WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence
remains limited outside of brief, misguided rallies as a result while downside risk could be 5-10 points from here over the near term. Maintain “Sell.”
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (21 Oct 2019)
Vicki Bryan 70 WeWork Is Foundering While Softbank Struggles With Its Bailout
The We Company (WeWork) | Credit WeWork Is Foundering While Softbank Struggles With Its Vicki Bryan Bailout Founder & CEO Bond Angle, LLC By Vicki Bryan | 28 Nov 2019
EXECUTIVE SUMMARY
Bloomberg reported Softbank Group (9984 JP) finally has launched its $3 billion tender offer for The We Company (WeWork) (WE US) shares, according to sources privy to the deal, confirming a Reuters report on Sunday.
All is not as rosy as this would imply, however, since the offer doesn't expire until April 1st next year. This is an inordinately long time to win approval from a comparatively small group of equity investors SoftBank and WeWork's board have been talking with since well before the company accepted Softbank's rescue package October 22th.
Indications are that Softbank's bailout for WeWork is not as settled as it seemed, with key factors like funding for the tender offer to even the tender amount reportedly still under discussion. Softbank's banks and investors continue to voice serious concerns about the billions of dollars it will take to salvage WeWork as well as Softbank's apparent conflicts of interest.
It doesn't help that WeWork selectively revealed recently that it was producing massive and accelerating losses during the third quarter even as it was peddling its failed IPO and fighting the SEC's objections about missing and misleading disclosures, including bogus performance metrics (as I warned inThe Tide Is Out and WeWork Bondholders Are Naked, 10/7/19).
Continue reading for Bond Angle analysis, forecasts, and more to see what these developments mean for WeWork bonds. Hint: it's not good.
Vicki Bryan 71 WeWork Is Foundering While Softbank Struggles With Its Bailout
DETAIL
WeWork office in New York. Photo: Cynthia Van Elk/Financial Times
On Its Way, Sort Of
Terms of WeWork's rescue plan announced back in October called for Softbank to tender for up to $3 billion in stock from founders, investors, and employees. Timing is critical since Softbank will not move forward with $3.3 billion in vital cash funding from new bonds until after the tender closes. However, as weeks passed in silence, I suspected the plan has hit some snags.
My concerns were confirmed vo er the past week, starting with a report that Softbank is trying to borrow $2.8 billion to help it fund the tender-- and it's bankers may say no.
While Softbank could seemingly fund this round with cash on hand, it's concerning that it chose not to and that its banks believe the risk is too high--understandable given how fast WeWork will likely burn through it.
The banks were already concerned about Softbank pumping another $9.5 billion into WeWork after nearly $10 billion invested so far had plunged by at least 85% to $7 billion (down by 94% versus my estimate of $3 billion as of 10/7/19, which I now consider generous even for the going concern). Indeed, the egregious $1.7 billion buyout promised to ex-CEO Adam Neumann, a sore point of contention for Softbank's banks and investors as well as WeWork's employees, exceeds the $1.5 billion emergency cash infusion Softbank wired to WeWork when it accepted Softbank's bid.
Vicki Bryan 72 WeWork Is Foundering While Softbank Struggles With Its Bailout
Softbank's investors also have complained about its $6.5 billion loss for the September quarter, it's worst in 38 years, mostly on the sickening hit from WeWork. SoftBank and its $100 billion Vision Fund wrote down their WeWork stakes by $4.7 billion and $3.5 billion, respectively. Vision Fund reported a stunning $9 billion loss for the quarter, its first ever, which also included losses at Uber plus 20 other investments. Softbank's largest investors have voiced objections about its massive WeWork rescue plan as well as its freewheeling investment strategy and potential conflicts of interest; e.g. loaning $20 billion to its top executives to invest in Vision Fund.
No surprise then that Softbank may reduce the size of its tender offer for WeWork shares versus the $3 billion planned. WeWork is a black hole where billions of dollars have evaporated at an increasing clip every quarter for years. Even Softbank's 5-year turnaround plan doesn't project it will be cashflow positive before 2023--tracking my estimates Softbank May Blink First (WeWork Bondholders Hope) 10/14/19.
These concerns help explain the inordinate delay in launching the tender offer. Another was WeWork's alarming third-quarter performance.
WSJ: SoftBank Chief Executive Masayoshi Son in Tokyo on Wednesday in front of characters reading ‘red ink.’ PHOTO: KAZUHIRO NOGI/AGENCE FRANCE-PRESSE/GETTY IMAGES
It's Only Money
WeWork released a tragically limited summary to bondholders on November 13th which reported the third-quarter loss at $1.25 billion, 1.3x revenue reported at $934 million (up 94%). This was nearly 2x the second- quarter loss of $640 million (.9x revenue) and nearly 3x worse versus the $497 million loss (1x revenue) for the third quarter last year.
Vicki Bryan 73 WeWork Is Foundering While Softbank Struggles With Its Bailout
The unvarnished loss was even worse. Tiny print in the footnote revealed the reported loss was boosted by a "$457 million gain from change in fair value of related party financial instruments." Excluding this convenient and unexplained gain, WeWork lost $1.71 billion (1.8x revenue)-- nearly as large as the $1.93 billion loss (1.1x revenue) reported for all of 2018.
Slide from WeWork Q319 earnings report to bondholders, such as it is.
Balance sheet and cash flow statements weren't provided, but I suspect severe cash consumption was partially offset by further borrowing (e.g. limited credit facility availability plus new leases signed) which only worsened WeWork's precarious financial ondition.c Reported cash fell to just $2 billion versus $2.4 billion as of June 30th, which likely still included at least $1 billion in padding from joint venture-owned cash and customer deposits--cash it can’t actually spend as I tracked in June results (see Gravity Works As WeWork Doesn't; Now Plan B, 9/17/19).
The results confirmed my oncc erns about why WeWork’s banks were so spooked they refused to extend further credit after the IPO fell apart as well as how egregious are the company’s public disclosures and financial reporting (see The Tide Is Out and WeWork Bondholders Are Naked, 10/7/ 19). Indeed, The Wall Street Journal reported WeWork was fighting to retain its deliberately misleading and grossly inadequate disclosures despite strong and continuing objections from the SEC even as the IPO was unraveling and ultimately withdrawn the last day of the quarter.
As I told the New York Times, WeWork knew the quarter would be bad when and after it launched its IPO midway through the quarter on August 14th. Yet it continued to peddle its IPO without publishing warning guidance of material importance to prospective investors about its rapid escalation in losses and alarming cash consumption at levels that rendered the company unsustainable.
This is same stunt WeWork pulled in April 2018 when it sold its unregistered bonds, as I warned back in September in Gravity Works As WeWork Doesn't; Now Plan B.
Vicki Bryan 74 WeWork Is Foundering While Softbank Struggles With Its Bailout
It Gets Worse
I had estimated cash consumption at $2-3 billion per quarter (affirmed in WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence, 10/29/ 19), which explains how WeWork was set to run out of cash before the end of November. This also implies WeWork may burn through by yearend actually available cash on hand as of September 30th, likely less than $1 billion, plus most if not all the $1.5 billion emergency cash Softbank injected October 22nd when its offer was accepted.
My expectations for the fourth quarter and next year greatly discount reported strong growth in revenue in the third quarter, which was fueled by increased memberships and locations plus improved performance at maturing locations which offset faltering occupancy rates. These results barely reflected the evolving failure of WeWork's IPO, which was withdrawn September 30th, much less its drastically changed prospects.
Revelations of the company's profoundly weak operations and precarious financial condition no doubt added further pressure to operations by spooking customers as well as WeWork's landlords--both existing as well as prospective. Moreover, management has moved quickly in recent weeks to slow new deals, toss out others, and otherwise significantly curb market expansion and coverage as well as put underperforming businesses up for sale.
This could rapidly slow if not reverse revenue growth for several quarters, while costs will spike even higher as a percentage of revenue even before we count the sharp increase in cash spent on severance, closing and downsizing locations, and exiting agreements. (The pace of necessary layoffs has been impaired because WeWork reportedly can't afford severance payments.) I also hav e estimated that cutting even $1 billion in direct and
Vicki Bryan 75 WeWork Is Foundering While Softbank Struggles With Its Bailout
overhead costs per quarter won't be enough to offset WeWork's largest and least flexible expense: rent on its $47 billion in long-term leases, which may take a restructuring to whittle down to a manageable level.
As a result, I expect the fourth quarter will be a dumpster fire with little if any improvement through at least the first half of next year, if not the full year.
After the Fall
WeWork's astonishing crash into reality took only weeks, leaving a smoldering heap worth $40 billion less than advertised with a critically flawed and nearly bankrupt business model that may not recover for years, if ever. The longer WeWork takes to settle, the farther it falls. The unexplained delay and uncertainty to get its rescue plan funded lower WeWork's value even more.
Whether and how WeWork can be saved will test Softbank's resolve. CEO Masayoshi Son has indicated such bailouts won't continue, but he has said this before. The more billions of dollars WeWork chews up, and the more Softbank pumps back in, the more Softbank's bankers and investors are repelled. This also has put Vision Fund and Vision Fund II at risk.
A lot can happen between now and April 1st, when the tender offer is set to expire, and chances are WeWork's results will be worse, not better than expected.
If so, I suspect WeWork may need another substantial cash infusion early in the first quarter, less than two months from now and at least three months before $3.3 billion in new bonds are issued which could fund WeWork through perhaps another quarter or two at best. Given the negative
Vicki Bryan 76 WeWork Is Foundering While Softbank Struggles With Its Bailout
prevailing winds, it's becoming less certain Softbank will elect to accelerate that funding versus pursuing an expedient restructuring and/or bankruptcy.
Prices on WeWork's bonds seem to have nowhere to go but lower as the company's prospects and meager asset value--on which they have no claims--melt away.
WeWork 7.875% senior notes lost another 13 points to 71.6 (15.9% ytw/1425 bps) since my last report, and are down more than 31 points since I initiated coverage with "Sell" in Gravity Works As WeWork Doesn't; Now Plan B, 9/17/19. WeWork remains severely distressed and it's not yet clear the company can remain viable. Existing bonds face the further risk of WeWork's pending note offerings which will envelop them in a mountain of debt without providing a convincing path for the company's recovery. Moreover, WeWork's severe cash consumption and foundering business prospects increase chances that Softbank may elect to restructure the company in bankruptcy, potentially rendering the bonds nearly worthless at 5-10 cents on the dollar likely paid in new equity. Upside potential on the bonds remains limited at best outside of brief, misguided rallies while downside risk could be 60 points or so given the most extreme outlook. Maintain “Sell.”
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (22 Nov 2019)
Vicki Bryan 77 WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill
The We Company (WeWork) | Credit WeWork Still Failing Expensively; Softbank Struggling to Foot the Vicki Bryan Bill Founder & CEO Bond Angle, LLC By Vicki Bryan | 30 Dec 2019
EXECUTIVE SUMMARY
The We Company (WeWork) (WE US) will have to pay $17 million to its current joint CEOs Artie Minson and Sebastian Gunningham and $1.5 million to chief legal officer Jennifer Berrent if it wants to fire them, according to documents reviewed by Financial Times.
The execs had been hired during the disastrous reign of ex-CEO Adam Neumann, who himself netted a luscious $1.7 billion as an inducement to step aside back in September (see my report WeWork Board to CEO: YouOUT, 9/25/19).
In the meantime, Softbank Group (9984 JP) has had to change WeWork banks and offer up its own hide as co-borrower to arrange vital new credit facilities for WeWork, a deal potentially jeopardized by its own banks which refuse to help fund the tender offer for WeWork stock.
I've warned since last summer when disturbing signals from WeWork’s banks seemed to confirm my now validated estimates for much worse than expected financial onditionc and prospects and dramatically lower equity value near $7.5 billion versus the heady $47 billion figure floated before the failed IPO. Softbank’s banks are now flashing red about its risky WeWork rescue plan which will cost at least $9.5 billion.
Read on as Bond Angle discussion continues with analysis, forecasts, and more.
Vicki Bryan 78 WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill
DETAIL
Artie Minson, Sebastian Gunningham, co-chief executives; Jennifer Berrent, chief legal officer. Financial Times/Bloomberg/Getty
Golden Parachutes For Everybody
WeWork will have to pay $8.3 million each, $17 million total, to its current joint CEOs Artie Minson and Sebastian Gunningham and $1.5 million to chief legal officer Jennifer Berrent "if they are sacked or leave for a number of reasons, including a diminution of their duties, cuts to their pay, or involuntary relocation," according to documents reviewed by Financial Times.
Softbank had mulled over getting rid of Minson, Gunningham, and Berrent as part of its takeover plan (see my report WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence, 10/29/19). Instead, they got even richer deals to stay put, including pay increases and loan forgiveness.
That’s pretty a sweet landing considering these execs had been hired during the disastrous reign of ex-CEO Adam Neumann. I observed a few months ago that “I’m generally wary of management teams left behind when an autocratic leader is ousted; e.g. executives that survive and even thrive in an environment so tightly controlled by an eccentric micromanager tend not to be the type of management capable of confidently fixing and building anew with fresh eyes while crafting a more collegially inspired culture” (see WeWork Board to CEO: YouOUT, 9/25/19).
Of course, Neumann himself walked away with a luscious $1.7 billion payout after being pushed out back in September (see my report WeWork Board to CEO: YouOUT, 9/25/19). The y all stand to net several million more dollars via “profit interests” that kick in down the road if WeWork ever manages to close an IPO.
Vicki Bryan 79 WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill
So apparently if you’re going to fail, try to do it on Softbank’s watch and make sure you’re part of the team that helped wreck the bus versus expendable passengers like employees, investors, and bondholders tumbling with it over the cliff.
But while much has been written, including by me, about the egregious role played by Softbank and other “smart money” investors who fueled WeWork’s astonishing equity value escalation against all logic, as well as the feckless Board that rubber-stamped every ill-advised move by Neumann, it’s hard to deny the integral power of investment banks pulling the strings at every level—especially now.
Dangerous Liaisons
Neumann collects his exit bounty on top of the$700 million in WeWork stock and loans he’d cashed out before the doomed IPO was even announced, facilitated by friendly banker to him and WeWork, JPMorgan Chase & Co (JPM US), which later effectively ghosted the lot of them after the IPO evaporated along with the lucrative stream of fees it had generated from them for years. Awkward.
Remember, JPMorgan is not just the longtime banker to WeWork and Neumann, it’s also been an equity investor in WeWork for more than five years (see Gravity Works As WeWork Doesn't; Now Plan B, 9/17/19). It sold WeWork’s equity, loans, and bonds during those same years as the company’s lead investment banker—even in rounds when its own asset management clients were investors. JPMorgan also provided $98 million in mortgages to Neumann and led the bank group which provided him with a $500 million credit line—backed, incredibly, by his WeWork stock—which he used to cash out at higher, pre-IPO prices and buy buildings that he leased to WeWork until his arrogant self-dealing was discovered and the resulting investor outrage forced him to terminate the deals.
Vicki Bryan 80 WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill
Indeed, Neumann referred to JPMorgan CEO Jamie Dimon as his personal banker and it was Dimon who spent the fateful weekend in late September personally advising Neumann to step aside as CEO, which he did days later.
So, of all WeWork’s legacy banks none is arguably more informed or more deeply immersed in WeWork’s management or its core underlying performance and prospects over the last decade than JPMorgan.
That’s important since, as I long have noted, JPMorgan, along with Goldman Sachs Group (GS US) and Morgan Stanley (MS US), led the charge to drive up WeWork's equity value, pitching it to investors last year at $50-100 billion and fighting vo er leading its IPO when its equity was valued at a stunning $47 billion (versus my initial estimate at $5-7.5 billion which more closely tracked where it ultimately settled in October with Softbank’s takeover).
JPMorgan also led the bank group in selling WeWork’s unregistered, unsecured bonds in April 2018 (via a woefully inadequate prospectus) when the company’s operating margins actually were shrinking dramatically with losses mounting alarmingly which wasn't revealed to investors until long after the bonds were sold and trading below par.
Sound familiar? That’s exactly what happened this year. JPMorgan led the development and marketing of the IPO and was the leading advisor helping the company to set the price amid the market frenzy it helped create for the most expensive unicorn ever to come to market.
JPMorgan also led the banking group that arranged $6 billion in new credit facilities prior to the S-1 filing and yet, as I warned at the time, terms were much more expensive versus WeWork’s existing JPMorgan-led credit facility, with its $650 million commitment nearly maxed out, and the new loans would close only upon a successful IPO that raised at least $3 billion.
Vicki Bryan 81 WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill
This was the first clue to me that JPMorgan’s conviction about WeWork’s value and prospects stopped well short of its own selling hype when it stood to risk its own capital as a significant lender with more substantial exposure.
I’m always wary when banks get spooked because they get much more comprehensive financial and other information than we typically see in publicly available company filings (especially compared with WeWork’s pathetically inadequate S-1 filing, as I warned in The Tide Is Out and WeWork Bondholders Are Naked, 10/7/19), and they get this vital information every month.
This means JPMorgan already had a good idea when WeWork filed its S-1 in mid-August that serious trouble was brewing in the third quarter, then nearly two-thirds in, which investors wouldn’t learn about until mid- November—long after the IPO had gone up in flames.
Indeed, as it turned out, the company was in such dire shape it would run out of cash by November if the IPO failed.
And, as I noted in Softbank Who? WeWork Picks Bank Bailout; Bondholders Beware (10/15/19), JPMorgan’ s idea of a “bailout” was a hideous $5 billion debt package comprising a substantial letter of credit facility likely to be backed 100% by WeWork cash for every penny drawn plus $3 billion in new, no doubt unregistered high yield bonds, including more than $2 billion in PIK notes. While this would immediately spike WeWork's already high leverage and increase risk exponentially for its hapless bondholders, the JPMorgan-led bank syndicate would bolster their fees, cast off further risk to claims they already hold on WeWork’s feeble assets, but not actually lend one single penny to WeWork.
Vicki Bryan 82 WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill
James Dimon, CEO JPMorgan Chase & Co. PHOTO: WSJ/FRANK FRANKLIN II/ASSOCIATED PRESS
So I found it particularly galling when Dimon told CNBC in a supercilious interview back in November that he felt no responsibility for himself or JPMorgan in any of WeWork’s troubles or its calamitous fall, though he did "learn some lessons" from the experience.
For example, he’s apparently only now has come to realize that “private companies should also take more time to shore up corporate governance and disclosures before proceeding with an IPO.” Good idea. So next time maybe JPMorgan will know better than to help the founder/CEO lock up supermajority control, let him borrow hundreds of millions against his stock to front-run the IPO, or allow him to finance his self-dealing at the company’s expense.
It’s not clear that Dimon is bothered by his firm selling securities to equity and bond investors based on appallingly misleading financial reports that don’t even reflect current operating trends and financial onditionc accurately much less disclose that operations may be deteriorating precipitously every day versus information just provided to prospective investors. But JPMorgan did collect $50 million for arranging the last round of WeWork credit facilities that were not accepted, so there’s that.
Dimon also claims he never believed WeWork was worth $47 billion even though his company pitched it as worth more than $60 billion.
“Just because a valuation prints at a certain level by one investor “doesn’t mean it’s the right valuation,” Dimon said. “That’s not price discovery. Price discovery is when a lot of smart people around the world knowing all the facts can kind of buy and sell all the time.”Jamie Dimon on CNBC, 11/5/19
Vicki Bryan 83 WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill
So Dimon is saying no privately held company JPMorgan advises can price an IPO appropriately until the company already has stock freely trading by “a lot of smart people around the world” who know “all the facts” versus the private equity investors they routinely market deals to every year, many with multiple rounds. Got it.
No wonder Softbank has been in the market for a new lead banker for WeWork, which turned out to be Goldman Sachs. Of course, like JPMorgan, Goldman Sachs also has been a longtime equity investor and lender and investment banker to WeWork and thus is counted among the enablers that helped WeWork and Neumann spin out of control.
Changing banks doesn't solve the problem of WeWork’s alarming and escalating risk, which has spooked even Softbank’s lenders and investors.
Softbank’s Banks Have Issues
I’ve voiced concern for a while now that Softbank has made little progress implementing its rescue plan for WeWork since it was accepted on October 22nd. It took more than a month to initiate the tender offer, the first step in Softbank’s planned takeover, and that won’t be completed until at least April 1st (see WeWork Is Foundering While Softbank Struggles With Its Bailout, 11/27/19). More troubling is that Softbank’s banks are wary about loaning it $2.8 billionto help fund the tender given the billions in cash it already invested in WeWork which has resulted in record losses for WeWork and its Vision Fund.
In the meantime, WeWork still doesn’t have new credit facilities to bolster its rapidly depleting cash. By my estimate the emergency $1.5 billion Softbank wired to WeWork back in October could be mostly if not completely burned up by now.
Vicki Bryan 84 WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill
Bloomberg reported December 9th that Softbank had arranged a new $1.75 billion credit facility for WeWork through Goldman Sachs. Sources for the deal said, “the new credit line will replace existing facilities that total about $1.1 billion, and is designed to free up cash that’s being used as collateral in the existing letters of credit.” If so, this would immediately free up another $800 million now held as restricted cash.
But there’s a catch. Goldman Sachs required Softbank to sign on as co- borrower with WeWork, reflecting how dire WeWork’s financial onditionc and prospects have become. This also upends Softbank’s carefully structured deal terms which it had designed to keep it from taking majority control of WeWork and consolidating WeWork's trashy financials into its wno .
The Goldman Sachs loan terms create a problem for Softbank. Just before Christmas Reuter’s reported that Softbank’s negotiations with its banks for a $3 billion loan have stalled because it has hit its loan limit and the banks won’t budge.
It’s not clear what Softbank will do next, and I find it increasingly troubling that it's having so much trouble coming up with the cash it needs and that it has been surprised it would meet such obstacles from its banks. Softbank may even be forced to put up a portion of its prized 26% stake in Alibaba Group Holding (BABA US) as collateral, and there's no way of knowing how much cash support WeWork will ultimately require or how much longer than the expected three years it might be distressed.
In the meantime, WeWork has even fewer options given its threadbare liquidity. It's not clear when the Goldman Sachs loan will become available and terms of WeWork's takeover mean Softbank can’t proceed with the $3.3 billion in new WeWork bonds until the tender is complete and Softbank owns up to 80% of WeWork’s equity. This already is delayed for another three months and potentially longer if Softbank can’t pull together sufficient financing. The longer WeWork’s bailout remains unsettled, the more expensive the new debt will need to be to get lenders and investors to take on its escalating risks.
It also doesn’t help that WeWork is closing the final eekw on what no doubt was an even more disastrous fourth quarter with severe deterioration I have projected may persist for the foreseeable future (see my latest forecast in WeWork Is Foundering While Softbank Struggles With Its Bailout, 11/27/19).
WeWork bonds have nevertheless rallied 10 points since my last report to 82.6 (12.4% ytw), shrugging off dismal third-quarter results, even worse prospects for the fourth quarter and next year, plus the persisting risk of a comprehensive capital restructuring or even bankruptcy unless the company can renegotiate tens of billions locked up in expensive long-term leases WeWork can't afford. Not to mention the prospect of being eclipsed by $3.3 billion in new debt with higher (albeit likely still inadequate) coupons and issue sizes
Vicki Bryan 85 WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill
which will afford them comparatively better trading liquidity versus existing bonds—such as it is for unregistered bonds from an appalling weak issuer. Maintain “Sell.”
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (09 Dec 2019)
Vicki Bryan 86 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
The We Company (WeWork) | Credit WeWork's Mounting Losses Send Softbank Scrambling For Vicki Bryan Alternative Financing Founder & CEO Bond Angle, LLC By Vicki Bryan | 20 Feb 2020
EXECUTIVE SUMMARY
Softbank Group (9984 JP) (Softbank Corp (9434 JP) announced Wednesday it took out a 2-3 year margin loan against its own shares for JPY 500 billion ($4.5 billion).
This follows Tuesday's news that Softbank has pumped another $2.5 billion into Vision Fund since Octoberto help offset stunning losses mostly due to disastrous investments in beleaguered The We Company (WeWork) (WE US) (see WeWork Is Foundering While Softbank Struggles With Its Bailout, 11/27, 2019).
Softbank also has failed after months of negotiations since October to convince its banks to loan it $3 billion it needs to fund its outstanding tender offer for WeWork shares, confirming my concerns that even the inordinately long period to complete the tender by April 1st may not be long enough.
Indeed, it took more than two months for WeWork to convince Goldman Sachs Group (GS US) to close a new Letter of Credit facility last week—even with Softbank forced to sign on as a co-borrower (see WeWork Still Failing Expensively; Softbank Struggling to Foot the Bill, 12/ 30/19).
No doubt the banks working with WeWork and Softbank remain alarmed that WeWork continues to light cash on fire as soon as it gets it, as indicated by sparse details in Softbank's third-quarter earnings report released the day after WeWork's facility was finally closed.
If so, this likely means Softbank will not buy back stock any time soon no matter how much pressure it's getting from activist investor Elliot Management—because it can't.
Read on for Bond Angle analysis of WeWork empty pockets, dismal fourth-quarter results, and how it's taking Softbank down with it.
Vicki Bryan 87 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
DETAIL
Picking Through What's Left
As I have warned in several reports, notably in The Tide Is Out and WeWork Bondholders Are Naked (10/7/19), investors lost their best chance at getting fairly reliable financial information on WeWork when its IPO went down in flames last all.f
As I noted then, "WeWork is only required by its bond indenture to provide financial reports to holders or prospec" tive holders" of its bonds. Reported financial information need only be "essentially" complete to the extent it was provided in the bond prospectus and does not have to be certified yb WeWork senior officers as correct and true."
Remember bondholders had received a year of WeWork's "essentially" complete financial statements before its IPO filing last August. Yet it took public scrutiny of its problematic S-1 filing, incomplete and misleading as it was, to reveal WeWork's massive and escalating losses from its severely flawed business model and its alarmingly fragile and effectively insolvent financial onditionc (see Gravity Works As WeWork Doesn't; Now Plan B, 9/17/19).
With WeWork in even more peril than ever, and no fourth-quarter financial statements likely to materialize for public review, we are left to pick out what we can from Softbank's third-quarter results as of December 31st.
Vicki Bryan 88 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
Revenue Weaker Versus WeWork Projections; Losses Even Worse
WeWork's projection as of the third quarter was run-rate annual revenue at $4.2 billion, up from $3.3 billion as of the second quarter, and $4.3 billion in revenue backlog of "committed contractual agreements."
I remained skeptical, sticking with my initial 2019 revenue estimate published in September (Gravity Works As WeWork Doesn't; Now Plan B) for roughly $3.3 billion for the year with little if any improvement for 2020. This implied less than $940 million in revenue for the fourth quarter, little changed versus the third quarter.
I also expected a worse net loss versus the stunning $1.3 billion loss reported in the third quarter, which actually was a $1.7 billionloss excluding a convenient gain in "Fair Value of Related Party Financial Instruments." As I noted in WeWork Is Foundering While Softbank Struggles With Its Bailout, 11/27/19:
My expectations for the fourth quarter and next year greatly discount reported strong growth in revenue in the third quarter, which was fueled by increased memberships and locations plus improved performance at maturing locations which offset faltering occupancy rates. These results barely reflected the evolving failure of WeWork's IPO, which was withdrawn September 30th, much less its drastically changed prospects. Revelations of the company's profoundly weak operations and precarious financial condition no doubt added further pressure to operations by spooking customers as well as WeWork's landlords—both existing as well as prospective. Moreover, management has moved quickly in recent weeks to slow new deals, toss out others, and otherwise significantly curb market expansion and coverage as well as put underperforming businesses up for sale. This could rapidly slow if not reverse revenue growth for several quarters, while costs will spike even higher as a percentage of revenue even before we count the sharp increase in cash spent on severance, closing and downsizing locations, and exiting agreements. (The pace of necessary layoffs has been impaired because WeWork reportedly can't afford severance payments.) I also have estimated that cutting even $1 billion in direct and overhead costs per quarter won't be enough to offset WeWork's largest and least flexible expense: rent on its $47 billion in long-term leases, which may take a restructuring to whittle down to a manageable level.
Sure enough, real estate company CBRE reported last month that WeWork signed only four leases in the fourth quarter—down 93% versus last year.
Vicki Bryan 89 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
Softbank confirmed that eWW ork already had lost more than $1 billion by October 30th, when its takeover agreement was finalized. Given how badly the quarter sunk over the subsequent two months it's reasonable to assume losses doubled and perhaps tripled for the full quarter.
WeWork guidance confirmed my thero projections, as shown with this slide provided to Softbank and tagged in the teeny tiny footnotes as "Not projections; these are goals" to make sure we don't get our hopes up too high.
From this we can see:
• WeWork is not even targeting $1 billion in quarterly revenue until sometime later this year. This means fourth-quarter revenue likely fell well short of $1 billion, as I projected, with 2020 revenue tracking well below $4 billion.
• Forget about profits orf the foreseeable future. Even WeWork's creatively (dubiously) defined EBITDA may not turn positive for two years. Already sky-high leverage will remain off the charts for years as a result, particularly after WeWork adds at least another $3.3 billion in debt as part of Softbank's bailout on top of $47 billion in longterm leases it can't afford.
• Wait three years, or more, to see liberally define reef cash flow turn positive, and 4-5 years for free cash flow to hit $1 billion.
Achieving WeWork's "goals"—not projections—will take at least two years longer than Softbank initially indicated for WeWork to stabilize.
It's also going to be even more expensive than Softbank probably expected to keep WeWork afloat until then, and that's not covered by WeWork's 5-year plan.
WeWork wildly overstated even its near-term cash position.
Vicki Bryan 90 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
From WeWork Investor Presentation, 11/13/19
For starters, WeWork didn't actually have $2 billion in effective available cash as of September 30th. The chart shows that $629 million was cash restricted to back its credit facility which it can't spend. Another $600 million was owned by its variable interest entities (VIEs) and it also carried at least $500 million in membership deposits which customers paid for leasehold improvements WeWork must perform. This left just $272 million in cash WeWork could actually spend in the fourth quarter.
The trouble is, as I projected last September (and affirmed in WeWork Bondholders Brace for Softbank's Rescue Plan--In Silence, 10/29/19), WeWork has been consuming $2-3 billion in cash per quarter. This explained why WeWork would run out of cash before the end of November.
Hence the urgency to get a bailout deal from Softbank, and especially the emergency cash infusion of $1.5 billion wired in right after the terms were signed on October 22nd.
This did not take WeWork's pro forma cash to $6.9 billion, despite what is indicated in the chart above.
• The $3.3 billion won't arrive until April, or later, depending on when Softbank completes the tender for WeWork stock.
• Another $100 million from Softbank went to WeWork Japan—again, not available to WeWork parent.
Given my estimate for WeWork's voracious cash consumption, I had projected it was likely to run out of cash by yearend.
Looks like it did.
Vicki Bryan 91 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
From Softbank Q320 Investor Presentation
WeWork ended the year with $1.2 billion in cash, indicating at least $2.3 billion was consumed. Subtracting at least $700 million owned by VIEs as of September 30th and at least $500 million in membership deposits wiped out the entire $1.2 billion balance as not actually available for WeWork to spend.
Huh? WeWork is left with spending other people's money to keep the lights on? What's going on with Softbank and its carefully crafted bailout?
Softbank CEO Masayoshi Son/WSJ
Vicki Bryan 92 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
Softbank Hits Snags
With so much attention on WeWork's slow-moving train wreck, Softbank's troubles to fund its rescue plan came were unexpected.
I first noticed it was taking a weirdly long time for Softbank to initiate its tender for WeWork stock—the next step in the rescue plan that held up $3.3 billion in WeWork's obviously vital funding. The surprise came late in November, a month after Softbank agreed to take over WeWork, when Bloomberg revealed that Softbank was seeking a $2.8 billion loan to fund the tender. The next day Financial Times reported the banks would likely say no.
By December it was clear that Softbank's financing plans for the tender were in trouble, and apparently it didn't have sufficient cash to complete the tender otherwise.Reuter’s reported that Softbank’s negotiations with its already wary banks were stalled because it has hit its loan limit.
Meanwhile, WeWork was not able to get a new credit facility until December when Goldman Sachs Group (GS US) finally committed to a $1.75 billion Letter of Credit facility, but only after Softbank signed on as a co- borrower.
This no doubt created even more trouble between Softbank and its banks, which already were concerned about their exposure to Softbank as well as its excessive exposure to WeWork.
This explains why it took two months to get Goldman to close WeWork's new letter of credit facility which doesn't actually loan a penny to WeWork but reportedly freed up $800 million in cash restricted as collateral by its previous credit line.
Well, not exactly. Only last week did WeWork clarify (see the fine print on the chart shown above) that the $800 million in restricted cash "is expected to be released in the coming months."
So now, two months after WeWork was effectively out of available cash, with no available credit for cash, it's potentially burning through another $2 billion which it can only offset with letters of credit to back up promises to pay up later. It must wait another two months to get the next meaningful cash infusion via its Softbank rescue plan, and it doesn't expect to be self-funding for at least 2-3 years.
Meanwhile, Softbank has other mounting problems not helped by its disastrous WeWork money pit.
Vicki Bryan 93 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
How Much Farther Will Softbank Go To Save WeWork?
Softbank reported another round of disappointing results last week for its December quarter with operating profit plunging 99% y/y to just $24 million, again mostly due to WeWork losses. This followed the $6.5 billion loss for the September quarter, it's worst in 38 years. Softbank also reduced WeWork's equity value by another $500 million—now $5.2 billion written off so far—to $7.3 billion, which still seems ambitious.
I lowered my initial estimate of $5-7.5 billion to $3 billion back in October,and then only as a going concern. After the third quarter it was even more obvious that WeWork is insolvent and could be for years given its broken business model supported by nominal tangible asset value at best versus at least $25 billion in long-term debt and leases—so far. Even if most of its expensive leases can be renegotiated, which isn't likely, its existing debt and equity are likely worth zero in a bankruptcy recapitalization or liquidation scenario.
How many more billions in cash support will Softbank throw at WeWork to keep it afloat when it's already down by more than half on its drastically overpriced investment?
I suspect the magic final number might be $3.3 billion, which is the last round of committed financing Softbank is due to provide WeWork after it completes its tender offer for up to $3 billion in WeWork equity which it still hasn't funded.
This implies $5-6 billion in financing Softbank needs to arrange, which is only partially met with proceeds of its margin loan, but still likely doable by the end of April.
Vicki Bryan 94 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
After that, I think WeWork will be on its own to sink or swim. Softbank just installed bankruptcy and turnaround veteran Sandeep Mathrani as WeWork's new CEO.
Sandeep Mathrani, New WeWork CEO/Bloomberg
Mathrani plans to bring in a new CFO and other top execs in a clean sweep of WeWork's management, which is what I recommended last fall (see WeWork Board and Softbank Battle CEO For Control, 9/22/19).
This doesn't guarantee Mathrani will avoid steering WeWork into a recapitalization, even bankruptcy, and Softbank signaled last week by letting Brandless fail that it's willing to let that happen.
Softbank has enough on its plate for the foreseeable future trying to sooth its skittish banks which consider it too stretched to support a $3 billion loan to fund its WeWork tender, and why it was driven to get a margin loan backed by its own shares instead. It's on the hook as co-borrower of WeWork's $1.75 billion LoC facility. Softbank also is trying to salvage its sputtering Vision Fund II offering, which it is funding after losing most of its potential investors. This may explain why Softbank is unwilling and perhaps discouraged by its banks to whittle down its winning stakes in Alibaba Group (BABA US) and Sprint Corp (S US) to raise cash.
So it's no surprise that Softbank is not interested in spending $10-20 billion on buying back stock. That might appease activist investor Elliott Management which recently acquired a 3% stake, but Softbank would have to weaken its balance sheet further to fund it since it's tapped out from feeding billions in cash to WeWork, Vision Fund, and Vision Fund II.
And it's only February.
Vicki Bryan 95 WeWork's Mounting Losses Send Softbank Scrambling For Alternative Financing
Risk for WeWork bonds remains acute, but they are up 6 points since my last report to 88.8 (10.8% ytw; 935 bps). This belies the company's dismal results for the fourth quarter and likely 2020, plus the persisting risk of a comprehensive capital restructuring or even bankruptcy unless the company can renegotiate tens of billions locked up in expensive long-term leases WeWork can't afford. Not to mention the prospect of being eclipsed by $3.3 billion in new debt with higher (albeit likely still inadequate) coupons and issue sizes which will afford them comparatively better trading liquidity versus existing bonds—such as it is for unregistered bonds from an appalling weak issuer. Maintain “Sell.”
Disclosure & Certification
• I/We have no position(s) in the any of securities referenced in this insight
• Views expressed in this insight accurately reflects my/our personal opinion(s) about the referenced securities and issuers and/or other subject matter as appropriate.
• This insight does not contain and is not based on any non-public, material information.
• To the best of my/our knowledge, the views expressed in this insight comply with Singapore law as well as applicable law in the country from which it is posted
• I/We have not been commissioned to write this insight or hold any specific opinion on the securities referenced therein
• I/We have signed the Insight Provider Agreement and this insight does not violate any of the terms specified therein.
— Vicki Bryan (06 Feb 2020)
Vicki Bryan 96 SMARTKARMA RESEARCH: This publication is published by Smartkarma Innovations Pte Ltd ("Smartkarma"), the operator of online investment research platform www.smartkarma.com. The Publication contains content authored by Smartkarma and by selected third party Insight Providers, which has been republished with their express permission (collectively, the "Content"). The following disclaimers shall apply to all Content contained in this Publication. Content is of a general nature only and shall not be construed as or relied upon in any circumstances as professional, targeted financial or estmentinv advice or be considered to form part of any offer for sale, subscription, solicitation or invitation to buy or subscribe for any securities or financial oducts.pr Independent advice should be obtained before reliance is placed upon any Content contained in this Publication. Inclusion of Content from third party Insight Providers in this Publication shall in no way be construed as an endorsement or other positive evaluation by Smartkarma of the Insight Providers or the views expressed in their Content, and Smartkarma disclaims all liability in respect of their Content, including regarding accuracy and suitability for the recipient’s purposes (if any). Recipients of this Publication further acknowledge that the Content in the Publication is and remains the property of, as applicable, Smartkarma and the third party Insight Providers. Use of the Publication is intended for the registered recipient only, for the purposes of evaluating the Smartkarma product and generating brand awareness, and any use outside this limited purpose or any unauthorised redistribution is not permitted.
97