I got asked by a reporter yesterday what I thought about WeWork’s IPO situation and I’ll summarize what I said here:
First off, let’s pull back for a moment and acknowledge that WeWork has built a huge company that generates a ton of value for its members. Real estate was previously a huge headache for small businesses before WeWork made co-working mainstream.
I don’t know where its valuation will wind up, but I believe that there is a going concern there that is worth billions of dollars. How many billions is for the public market to decide but there’s no doubt in my mind that the underlying value of renting out big chunks of space and using tech enabled, streamlined processes to sublet it out in smaller chunks works. After all, that’s what hotels are, right?
Plus, if you were an angel or Series A investor in WeWork, no matter how this plays out, you either would have cashed out by now for a huge return or still done enormously well in the IPO. If any one of my seed investments ever needs to debate whether its worth $40 billion or $20 billion, I’ll take on that headache any day of the week.
What it does bring to mind for me is the perception of risk.
A lot of people think early stage and seed is really risky, but risk is a function of return—and returns are a function of price. I would argue that a portfolio of making bets that late stage, but still unprofitable companies like WeWork are going to be worth X billion dollars and buying in at a huge valuation is way riskier than buying a basket of promising early stage companies at single digit millions of dollars in valuation.
At least the small companies have lots more opportunities to get gobbled up for some amount of value even if they don’t ultimately work out as well as you would have hoped.
Plus, the overall dollars invested tend to be smaller. A small fund like Brooklyn Bridge Ventures might have minimum investment sizes of a quarter to a half million dollars—whereas a late stage megafund probably expects its LPs to put multiple millions to work.
These late stage funds are often the ones that get crunched in market downturns—because they find themselves over their skis quickly on valuation—whereas early stage funds have longer time horizons anyway. Seed investments made now are expected to exit sometime after this next recession will have likely played itself out.
I also think seed and early stage managers are more aligned with their LPs. A $10mm, $25mm, or even $50mm fund isn’t generating enough management fees for anyone to get rich off of just taking your money—so they’re out looking for big outcomes.
A multi-billion dollar megafund that is investing in the late stages of companies like WeWork makes a lot of fees and can afford to treat late stage rounds like options. They’re going in at high valuations using preferred securities—meaning they’re the first money out in a downside exit. Sometimes they have various ratchets and other bells and whistles that protect their downside further, like when Square IPO’d.
They also have lower upside, since they’re going in so high to begin with—so the percentage of money they’re ever going to make on fees is higher versus a smaller, earlier fund that really needs upside to cash in.
The other area to consider is the timeline. WeWork is under 5% of all of the commercial space in NYC—its home market. If all real estate goes the way of server infrastructure, with no one ever signing a commercial lease except for larger campuses like Google and Apple, then WeWork hasn’t even scratched the surface of its potential. Today, Amazon’s AWS product is probably worth hundreds of billions of dollars because who buys their own server anymore—but when they first started, people thought of it as a money losing distraction. If WeWork, like Amazon, is betting on a much longer term view of the market, the price could be justified.
One thing is for sure—there does seem to be a lot of hair on this deal. The IP transfer from the founder, his family’s underlying interest in some of the real estate—it might end up being all square, but it just gives people pause.
I’m convinced WeWork is part of a sea change in how business think about real estate, and from great disruption comes great economic opportunity. Companies like Lina (a BBV portfolio company), which creates joint spaces for medical practices, will pick apart other segments of the market created by this disruption and lots of winners will be created.
How big these winners will be is not a game I’m in. When you operate out of a $15-20mm fund, a winner is pretty much a winner at almost any size.