The Debacle

Oct 31, 2019 | Sam Rook


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The reminder we need - valuations matter.

Every so often, there comes along a company that is so egregiously overvalued that I am reminded of the investing adage “valuations matter”. The most recent reminder is the recent failure of the WeWork IPO.

 

If you are a small startup, especially in the tech industry, then WeWork is a very well-known company. You’ve probably worked at one of their short-term rental locations. Locations that have popped up all over the world. The secret sauce for WeWork was to take boring, old office space and jazz it up with free coffee, modern design and the promise of sitting near like-minded people who can help your business grow. It was all sunshine and unicorns for WeWork and their CEO Adam Neumann right up until August of this year.

 

Then the bloom died came off the rose really fast once they tried to go public. Private companies have no requirement to make their financial information available to anyone beyond a tight circle of investors and executives. That is, until they want become a public traded company. WeWork filed its S-1, the document required for going public, which detailed a seriously ugly financial picture. One hilarious commentary written after seeing the company’s financials went so far as to rename the company WeWTF.

 

Needless to say, the IPO failed spectacularly. After trying to sell shares to the public valuing the company at $47 billion US, the main venture capital backing WeWork turned tail and ran. The IPO was pulled, the WeWork Founder/CEO was replaced and the reset valuation for the company was well below $10 billion. You would have thought this was the end of the horror show, but this week it reached a new low.

 

Softbank, the aforementioned venture capital backing WeWork and a major shareholder, needed to pour in a few billion dollars more into WeWork to bail it out. The “bail out” was designed to give the company capital to pay severance for employees that they wanted to lay-off. A pretty scummy move in general. The worst part of it all was that as part of the new money, Softbank reached a deal to buy the shares of deposed Founder/CEO, Adam Neumann for over $1 billion. To add the cherry on top, they somehow agreed to pay him nearly $200 million in consulting fees over the next 3 years.

 

That’s a lot to follow so here is the quick summary. The Founder/CEO walks away with almost $2 billion dollars. Employees that were expecting some liquidity for their private shares have lost jobs, value on their privately held shares or both. Venture Capital investor down a few billion more in an effort to prove the truth of the old adage “in for a penny, in for a pound”.

 

What can you learn from this sordid tale? First, valuation matters. It may not matter at all times. It may not even matter for a long time, but in the end, what you pay for a share of the company’s future earnings will matter. The tricky thing is that no one knows what the future earnings will be, so valuing any company is not an exact science.

The other lesson is for my friends working in startups around the city. As I said in this video, you should really evaluate your exposure to the equity of your company. Getting paid in shares of a private company carries a different type of risk than having shares of a public company. The inability to sell your shares quickly and at a proper price is something to always take into consideration when deciding whether you should buy more shares or take more cash from your employer. Know what you can afford to lose and plan accordingly.

 

I don’t know what the future holds for WeWork and its employees. It could turn around and become a wild success in the future but for now, it will serve as a stark reminder for investors that at some point, valuations matter. Now and always.