The UK accounts are significant because they give more granular detail on WeWork’s business than its pre-IPO filings with the SEC in the US.
The previous set of UK filings demonstrated, for instance, that WeWork generated cashflow by writing the full cost of its long-term leases onto its income statements, thus producing a huge loss on paper. At the same time, because payments on those leases were not due for years, WeWork kept the cash it owed and plowed it back into the business. The management of cash flow from unpaid liabilities is a major factor in WeWork’s UK business model.
Here’s a deep dive into “WeWork International,” the unit of The We Company than runs WeWork in the UK. Be warned: You’re going to encounter some in-depth accounting detail in this story! But the major takeaways are these:
WeWork’s internal accounting is very complicated;
it obscures what’s going on inside the company;
the company carries a lot of debt;
but there are signs of hope at buildings that have grown into mature businesses.
Let’s jump in …
Losses increased by 1,000%
At the WeWork International company, revenues rose 90% from £18.7 million in 2017 to £35.7 million in 2018, the most recent period reported. (£1.00 is worth about $1.29.) But losses increased too, by 10 times, from £7.6 million in 2017 to £75.9 million in 2018.
Put another way, WeWork International spends about £2 to generate £1 in revenue. This chart shows WeWork International’s revenues plotted against its losses:
£300 million in debts
The new financials also show a huge increase in WeWork International’s long-term “borrowings.” The UK company owed £300 million in debts payable after more than a year, at the end of 2018, up from £111 million the year before.
Long-term receivables — money owed to the company — also increased, from £93 million to £180 million.
This chart shows its long-term borrowings plotted against its long-term receivables:
WeWork has again changed its accounting method
The new financials show that WeWork has changed the way it reports it accounts for a second time in its short history, making it more difficult to figure out what exactly is going on inside WeWork’s UK business. The changes mean WeWork International has not published a “company” income statement for 2016.
A WeWork official told Business Insider that its new accounting method excludes the “consolidated” results it published for the UK in the previous two years. And, the company says, WeWork International is merely a “service” business for the dozens of buildings it runs in London, making it unrepresentative of the company.
Moreover, the company says, individual WeWork buildings have grown so large that their accounts are now published separately as if they were standalone companies. That leaves the WeWork International “company” as an entity with smaller revenues than before. And because most WeWork buildings fall below the threshold for reporting as separate businesses, the revenue they generate is now completely unrecorded, WeWork says. (The company’s total revenue is, of course, fully recognized in its SEC filings.)
In the new UK accounts, WeWork claims its UK company booked only £35.8 million in revenue in the UK in 2018.
The difference is an accounting effect because WeWork separately reported revenue for three individual buildings it leases in London.
Three profitable buildings
Those properties generated between £16 million and £26 million in revenue apiece. All three are profitable. And all three have reduced their debt, which came mainly from WeWork, their 100% owner. Two of the buildings reduced their borrowings to zero:
Revenue: £17.1 million
Profit (loss): £3 million
Non-current liabilities: £20 million (includes debt of £7.2 million)
Revenue: £16.5 million
Profit (loss): (£3.2 million)
Non-current liabilities: £30 million (includes debt of £20.4 million)
3 Warehouse Square
Revenue: £15.9 million
Profit (loss): £3.7 million
Non-current liabilities: £14.8 million (includes debt of zero)
Revenue: £12.7 million
Profit (loss): £1.4 million
Non-current liabilities: £24.2 million (includes debt of £7.5 million)
Revenue: £26.3 million
Profit (loss): £3.7 million
Non-current liabilities: £30.5 million (includes debt of zero)
Revenue £25.2 million
Profit (loss): £1.6 million
Non-current liabilities: £39.9 million (includes debt of £9.4 million)
The debt is eclipsing the growth
An optimist would suggest that the new numbers show WeWork can still grow revenues and that its more mature buildings can be profitable.
But a skeptic might note that even as debt is reduced on individual buildings, it is increased at the WeWork International parent. A WeWork spokesperson said the buildings paid off their own debt and that the International debt increased separately, offset by an increase in receivables. Also, the debt is internal funding which the company lends itself to fund early-stage growth.
The new accounts make it unclear whether WeWork is growing or shrinking in the UK.
The 2018 revenues for the three standalone buildings added to the revenues for the International unit total up to about £95 million. That’s less than the company reported in its “consolidated” accounts for 2017, £118 million. WeWork no longer reports the “consolidated totals” now that it is no longer required to because of the IPO filing in the US.
The £95 million total doesn’t include revenue from WeWork’s buildings that are not recognized by either the International unit or as standalone businesses. Previously, WeWork reported robustly growing revenues in the UK. Under the new accounting, we just don’t know anymore.
No matter which way you read the new numbers, one thing is clear: The long-term debt far eclipses the size of WeWork’s UK business.
A change in accounting methods has made the company more difficult to understand
The company told Business Insider that the new numbers were not an indication of the fundamental health of the company. “WeWork International Limited is a services holding company that primarily exists to hold centralized set-up costs for the UK and European operations and receives revenues only as a small percentage of building profits, collected as a management fee. Its financial performance is therefore not a representation of the health and profitability of the overall UK business,” a spokesperson said.
To explain why WeWork had changed its accounting, the spokesperson said, “We are no longer required to file consolidated accounts for WeWork International Limited because we have filed the parent company accounts” with the SEC.
When WeWork first opened in London in 2014, it filed a single set of simple “consolidated” accounts for the entire company. For the years 2016 and 2017, however, it published two sets of parallel statements: The “consolidated” accounts for the whole company and “company” accounts for WeWork International, the corporate parent that services individual buildings.
The new accounts have dropped the “consolidated” numbers, added individual statements for larger buildings, and kept the “company” accounts that show dealings through the parent that answers up to corporate HQ in the US. The “company” numbers, however, have been restated for 2017 to discount money recognized at the building level.
Confused? You have every right to be.
While the new detail on WeWork’s individual buildings is useful — it suggests that at least some parts of the company can become profitable businesses — the total effect of the new accounts is to render WeWork more opaque and complicated than ever.
It is really difficult to see how WeWork will ever be profitable
ReutersAdam Neumann, CEO of WeWork.
A deep dive into WeWork’s initial-public-offering disclosures show that its losses are running ahead of its revenue.
That’s not news, but WeWork isn’t profitable on its preferred metrics either.
And it has a negative cash flow.
WeWork’s leases are “non-cancelable,” meaning that (officially) the company can’t renegotiate them when times get tough.
And the company says it could become “upside-down” on its leases if tenants leave.
No part of this company makes money, and it is difficult to see a path to profitability.
This is the chart that the office-rental company WeWork created to convince investors that it will be profitable in the future. It shows that in the early days of a lease, expenses will outrun revenue, leaving the lease running at a loss for several months. Only in the future, months after the location opens, does the revenue from WeWork clients make the lease look profitable.
The We Company
But WeWork’s financials don’t show a pattern like this emerging in its overall business. Rather, as the company’s revenue grows, so do its losses – and its astronomical future lease commitments.
Growing revenue, and growing losses
Normally, when a tech startup files for an initial public offering, investors look to see if there’s growing revenue. WeWork definitely has that.
In the short term, profit is not as important. As long as a company’s losses appear to be declining over time, or declining as a percentage of revenue, then it is reasonable to conclude that the company is investing in its business and has a future “path to profitability,” as the cliché goes.
But that is not what is happening at The We Company, WeWork’s parent.
This chart shows the company’s revenue in blue, by quarter. In the second quarter of 2019, WeWork had $US807 million in revenue. Like any good IPO candidate, WeWork’s revenue is rising over time. In general, this is a good sign.
The We Company
The red bars show WeWork’s net loss in the same period. Immediately, it is obvious that WeWork’s losses are growing over time. That is not a good sign.
WeWork also uses another non-formal metric: “adjusted EBITDA excluding non-cash GAAP straight-line lease cost.” As the name suggests, this metric takes WeWork’s net losses and then backs out any noncash charges. (A noncash expense would be something like stock compensation costs for rewarding executives – because while paying people with stock costs the company nothing, investors want it recorded as an expense to see the value of the equity being transferred.)
It produces a more charitable measure of WeWork’s losses, which you can see in the green bars.
While those losses are smaller than its official net losses, they too are growing over time – a bad sign.
Some losses are scaling faster than revenue
However, if WeWork’s losses were declining as a percentage of revenue over time, that would still be good news – i.e., the scale of WeWork’s business might be so large that the relative proportion of the losses might be more significant than their dollar size.
This chart shows WeWork’s losses as a percentage of its revenue. I’ve presented both its official net losses and WeWork’s preferred metric, losses after noncash expenses. The chart shows that net losses may indeed be declining as a percentage of revenue. But losses after noncash items are growing.
Either way, it’s not obvious what the trend is here.
The We Company
At this point, I turned to the cash-flow statement. Often, a business can run at a loss for an extended period – especially in its early years – but because it generates cash from sales and pushes off debts and other bills into the future, it can be cash-flow positive. That positive cash flow can be used to fuel the profitable growth the company will need when those debts eventually come due. Uber is one such business that runs at a loss on paper but is cash-flow positive.
No obvious pattern in WeWork’s cash flow
Here’s a snapshot of WeWork’s cash flow from operations and its total cash flow after investing and financing activity, on the bottom line, for the past three years (the only periods that WeWork has disclosed).
In the first two years, WeWork’s operations were cash-flow positive – a good sign. But in the most recent period, they were negative.
Cash flow from operations … cash flow total (in thousands):
2016: $US176,905 … $US84,027
2017: $US243,992 … $US1,590,777
2018: -$US176,729 … -$US7,177
If you put all that together, you can see why WeWork is so controversial. Its business might be growing. But it isn’t profitable, and it isn’t always cash-flow positive. Its losses are not obviously trending down. If it weren’t about to raise a ton of cash from the upcoming IPO, this business would not be sustainable.
‘Our net loss may increase as a percentage of revenue’
WeWork says this in its S-1 filing:
“We may be unable to achieve profitability at a company level (as determined in accordance with GAAP) for the foreseeable future …
“Although we do not currently believe our net loss will increase as a percentage of revenue in the long term, we believe that our net loss may increase as a percentage of revenue in the near term and will continue to grow on an absolute basis.”
WeWork appears to be arguing that it is still an early-stage company and that these short-term losses are all part of the long-term plan. It is very, very common for new IPO companies to run at a loss for extended periods while they build their business. The future isn’t set in stone, and no doubt WeWork has options to make these numbers look better in the future.
$US39 billion in future leases
However, the sheer scale of WeWork’s future lease commitments has investors’ eyes popping out on stalks.
This shows WeWork’s “non-cancelable operating lease commitments” and related liabilities. In 2019, they amounted to $US4 billion. By 2024, WeWork estimates they will total $US39 billion.
The We Company
That is a staggering sum for a company that has revenue of only $US1.8 billion per year and isn’t profitable.
Yes, WeWork can become ‘upside-down’ on its leases
The leases are “non-cancelable,” WeWork says. The company admits it cannot get out of these leases if things go wrong.
“We currently lease a significant majority of our locations under long-term leases that, with very limited exceptions, do not contain early termination provisions,” the S-1 says.
This has been a central question – a huge mystery until now – at the heart of WeWork’s business model: In the event of an economic downturn, could the company become “upside-down” on its leases, paying more to occupy its buildings than its tenants are willing to pay in rent? WeWork says yes:
“As a result, if members at a particular space terminate their membership agreements with us and we are not able to replace these departing members, our lease cost expense may exceed our revenue. In addition, in an environment where cost for real estate is decreasing, we may not be able to lower our fixed monthly payments under our leases at rates commensurate with the rates at which we would be pressured to lower our monthly membership fees, which may also result in our rent expense exceeding our membership and service revenue.”
On the one hand, this is merely legal doggerel. All companies have to list worst-case scenarios as “risk” factors in their IPO filings. The company has previously told Business Insider that it could lose up to 30% of its tenants and the buildings would still remain profitable.
On the other hand, the significance of this admission is that WeWork is not able to lower its lease costs if things go wrong. Leases are the heart of the business, so we should take that seriously.
In the larger company, however, WeWork’s net losses are still larger than its cash flow from “deferred rent,” an accounting line that would imply that the expenses WeWork racks up in acquiring leased properties are not due immediately, meaning that cash is available for WeWork in the short term.
2019 cash flow
Net loss: $US1.9 billion
Deferred rent: $US1.3 billion
Unlike the UK unit, the larger company still runs losses that are greater than its cash flow from deferred lease payments.
This company does not make money
This is a real worry. WeWork makes a pro forma net loss on its bottom line, has growing losses on its preferred profitability metric, is not cash-flow positive, and has operating expenses greater than its deferred-rent cash flow.
No part of this company actually makes money.
By the end of 2018, its cash on hand had declined to $US1.7 billion from $US2 billion the year before – not a disaster, but a significant burn rate.
WeWork’s IPO thus looks less like a way to scale up the business by accessing the public markets and more like a financial lifeline without which the company would be in considerable difficulty.