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The Unintended Consequences of WeWork’s Turmoil: Term Sheet

October 22, 2019, 11:51 AM UTC

This article originally ran in Term Sheet, Fortune’s newsletter about deals and dealmakers. Sign up here.

It’s WeWork’s moment of truth. 

After weeks of endless chatter and speculation, we finally have some answers. Fortune has confirmed with sources that WeWork’s board is expected to meet tomorrow to discuss financing options including a takeover by SoftBank that would value the company at as little as $7.5 billion on paper. Let us not forget that WeWork was valued at an eye-popping $47 billion not too long ago.

My colleague Rey Mashayekhi reports that there are two deals on the table that would provide the cash-strapped co-working startup with the liquidity it needs to continue operations in the wake of last month’s disastrous attempt at an IPO. Yet neither option appears to be particularly appetizing for the company’s leadership and investors, who now have a choice between a debt-and-equity proposal that would write down WeWork’s valuation significantly and a bond financing package that would saddle the firm with billions of dollars of high-yield debt.

From the story:

SoftBank’s offer would see the Japanese private equity giant further entrench its position in WeWork, boosting its ownership stake in the firm to over 50% and effectively taking over the company, the Wall Street Journal reported Monday. Yet the deal, which would entail a $1.5 billion equity investment and $5 billion in debt.

The SoftBank proposal would see WeWork’s existing investors—including SoftBank itself—take a serious hit on their investments in the company, since most poured money into the firm when its valuation was at a much higher figure. Yet its success could also be decided by co-founder and former CEO Adam Neumann, who still has outsized influence as one of WeWork’s largest shareholders; on Monday, Axios reported that SoftBank has offered to pay Neumann $200 million to support the private equity firm’s offer, surrender much of his voting stake, and walk away from WeWork’s board of directors.

Yet nothing is decided, as JPMorgan submitted its own debt financing package to WeWork’s board of directors on Monday evening, sources told Fortune. That deal would offer up to $5 billion in secured and unsecured bonds that, unlike SoftBank’s proposal, wouldn’t dilute or devalue the stakes of WeWork’s existing investors. Among the outside investors said to be involved in the debt offering are Barry Sternlicht’s Starwood Capital Group, the WSJ reported.

I want to pause here, and zoom out for a second. Often times, tech reporters tend to steer your attention to the big numbers and the big personalities driving the decisions. But there was one really jarring sentence in The Wall Street Journal report I want to highlight. This one:

“WeWork also is planning to cut thousands of employees, but delayed the layoffs earlier this month because it couldn’t afford the severance costs, people familiar with the matter have said.” In other words, the company needs money because it can’t afford to … lay off its employees. 

I hope you, like me, raised an eyebrow after reading that. WeWork’s tumult has affected dozens of employees who had no input on how the company was structured and what decisions were made at the top.  

I’d like to echo the question Bloomberg’s Shira Ovide asked on Twitter: “How did this board let it get so bad? You can ditch the CEO, but where is EVERYONE ELSE?” I’m wondering the same. 

In situations like this, it’s important to remember that it’s not only deep-pocketed investors who lose out when a bet goes bad. A lot of employees do too — and unlike the shareholders invested in the business, it’s not something they can simply write off and walk away from.


… There was sympathy for WeWork: Jill Woodworth, the chief financial officer of newly-public fitness equipment maker Peloton, expressed sympathy for WeWork’s management. “I look at WeWork and I have so much sympathy,” she said on a panel at the Most Powerful Women Summit. “When I look at how quickly the market sentiment can change and companies don’t live up to expectations, it’s absolutely gut-wrenching for management.” (Note: She made these comments before the latest WeWork news broke.)

Woodworth explained that there’s a negative bias toward unprofitable companies that hit the public markets, but she hopes that sentiment changes in the long term. She elaborated: “For us, it’s growth—not at all costs—but growth is 100% our priority. If your opportunity is massive, you should just grow as fast as you can.” 

Teri List-Stoll, the CFO of Gap Inc. (which was founded 50 years ago), responded to Woodworth’s comment with a laugh, adding, “Well, that sounds luxurious.” She emphasized that companies must prioritize transparency and over-communication when dealing with investors. “The expectations will be there whether you give guidance or not,” List-Stoll said.

Choosing growth over profitability has become a cliché in tech circles, with founders trying to explain that losing billions of dollars is justified as long as you’re growing. Cisco’s Kelly Kramer, the third CFO on the panel, expressed caution when choosing which metric to prioritize. 

“We’ve been around 30 years, and we have a very long-term investor base,” Kramer said. “Our investor base gives us the top metrics it cares about, and they’re always margin rates and cash flow. The business has to make tradeoffs sometimes, but long-term, we have to explain profitable growth.”

Public market investors have typically expected companies to become profitable within 18 months or so of an IPO. This timeline has been loosened as fast-growing startups make their public debuts with S-1s that warn: “We expect our operating expenses to increase significantly in the foreseeable future, and we may not achieve profitability.” 

Woodworth said she doesn’t feel added pressure for Peloton to become profitable faster now that it’s a public company. Several months ago, she said, an investor asked her the following question: “What will change when you’re public?” 

“And I said, ‘Nothing.’ My job is to help this company build shareholder value,” Woodworth said. “It doesn’t change when you’re public. I’ve seen how market sentiment can shift on you, and the idea of changing your entire strategy based on a market shift is not something we want to do.”

Read more here.

… Private investors urge startups to lose money ‘thoughtfully:’ I moderated a panel with several venture capitalists, whose message came through loud and clear: Tread carefully. 

“It’s great that there’s been a lot of capital,” said Hilarie Koplow-McAdams, venture partner at NEA, began. However, she continued, “Like raising children, if you have no limits you get a wide range of behaviors.”

Another big issue on everyone’s radar: the trade-off between profitability and growth. In recent years in public markets, profitability has been overlooked for growth. That’s resulted in some snafus—the most lurid and late example being that of WeWork’s failed attempt at an IPO. 

“Private markets are heavily influenced by what happens in public markets,” said Patricia Nakache, general partner at Trinity Ventures. “There’s always a pendulum swing in private markets. We have swung way out toward growth at most costs. But now public markets have weighed in and resoundingly said, this has gone too far. We need to clear a path for profitability and we need to recalibrate.”

But the quote of the day goes to TPG Growth’s Heather Smith Thorne, who said: “It’s not about losing money. It’s how you lose the money. So lose it thoughtfully.”

Read the full story here.


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