Commercial real estate professionals are expressing concern that WeWork's new plan to renegotiate nearly all its leases may not be enough to solve the flexible office space provider's financial challenges.
The money-losing firm has called lease obligations its biggest turnaround obstacle and warned last month that “substantial doubt exists" about its ability to continue as a going concern. On Wednesday, it said it plans to exit "unfit and underperforming locations" and reinvest in its strongest assets.
The company's lease liabilities, which represented over two-thirds of its operating expenses in the second quarter, remain “too high” and are “dramatically out of step with current market conditions,” Interim Chief Executive David Tolley, who took over after former CEO Sandeep Mathrani left in May, said Wednesday in a public letter.
The statement puts pressure on landlords, Kent Reynolds, a director at credit-ratings firm Fitch Ratings, said in an interview. Still, even if landlords are open to renegotiating leases, the question centers on whether New York-based WeWork can work out new terms in a way that would turn money-losing locations with low occupancy rates profitable, so “it seems like sort of a stretch,” Reynolds told CoStar News.
The company was founded in 2010 with a plan to expand rapidly by renting out high-end office spaces with amenities such as beer taps under its co-founder and former CEO, Adam Neumann. But WeWork was “willing to sign leases for pretty hefty amounts," Reynolds said, that amount to “a huge debt” with agreements extending 10 to 20 years and “the debt is fixed and certain. What they are trying to do is attempting to make money with short-term agreements that let people come in and out. The only way to make it work is to have occupancy rate and utilization rate high,” and that's not yet happening, he said.
At the end of last week the company said it had completed a 1-for-40 reverse stock split as it moved to prevent its common stock shares from being delisted from the New York Stock Exchange. The company, which on Tuesday opened at $3.74 and began trading for the first time after completing a reverse 1 to 40 stock split, saw its stock close down 3.4% in Wednesday trading to $3.42.
Decline in Value
That decline in value may not be stemmed by the new plan, some real estate professionals said.
"The decision to negotiate now could be too little, too late,” said Charlie Morris, a strategic consultant who previously worked with brokerage Avison Young's flexible office space group.
“At the end of the day, they signed on to too many leases and too big of leases to be justifiable,” Morris told CoStar News. “It’s hard to keep that many spaces filled especially when they are in such proximity to other locations. It’s been inevitable for quite a while and while it would make sense to handle this through bankruptcy proceedings, most owners are not surprised by this news.”
Flip Howard, CEO of Dallas-based Lucid Private Offices, has been a longtime fan of leasing office space earmarked for flexible office space, but the terms of the deal have to be favorable upon signing a lease — and that’s not something that happened in the case of WeWork’s past, he said.
“WeWork’s biggest problem was primarily their lease signing strategy,” Howard told CoStar News. “They picked the most expensive buildings at the top of the market or above market leases. ... They spent too much money building the space out. The price point they must charge right now is not chargeable in the market right now.”
Call With Landlords
WeWork held a call with its landlords ahead of publishing the letter, a WeWork spokesperson told CoStar News, adding the locations that will be involved in the talks are its consolidated locations that exclude franchised markets such as India, China and Israel or at its acquired Common Desk. The spokesperson declined to give more details on what took place on the call or how many landlords were involved.
As of June 30, WeWork had 610 consolidated locations across 33 countries that included about 715,000 workstations.
Tolley’s letter came despite the fact that the company has been on what he described as a “years-long transformation to resize” its “cost structure” among other moves following “a period of unsustainable hypergrowth.”
WeWork has already exited or amended 590 leases since the fourth quarter of 2019 and cut $12.7 billion in future lease payments.
WeWork intends to remain in most of its buildings and markets even as the talks with its landlords will likely lead to it exiting some locations, the company spokesperson told CoStar.
Tolley said WeWork is seeking terms "in a financially sustainable manner." WeWork will offer alternative arrangements to members in the event it has to shut some locations, Tolley said, emphasizing “WeWork is here to stay.”
WeWork has leased at least 10,000 square feet at more than 200 locations around the United States, according to CoStar data. CoStar News reached out to at least seven WeWork landlords that either declined to comment or didn't immediately respond to the request.
Industry Concerns
WeWork, like some other office providers, has been hurt by the rise of hybrid work arrangements since the start of the pandemic, leading some companies to pare their space needs. But the decline in occupancy also came as its clients, which it calls members, had more choices, including an “unprecedented amount of sublease space available” and heightened competition from other flexible space providers, Tolley said last month. He said WeWork is "oversupplied" in some markets.
WeWork has named new board members with turnaround expertise and is also working with real estate adviser Hilco Global, consultant Alvarez & Marsal and law firm Kirkland & Ellis regarding its restructuring options.
WeWork’s concerns also could hurt the commercial mortgage-backed securities tied to the properties with exposure to the company as higher interest rates have made refinancing more expensive and led to a pickup in loan defaults.
Case in point: Credit-rating firm Fitch recently downgraded some commercial mortgage-backed securities loans tied to properties including 8 Times Square and 1460 Broadway, just south of Times Square. Fitch said its downgrade reflects the property’s “significant exposure to WeWork,” where it said WeWork makes up 83% of the net rentable area with a lease expiring in 2034 of the 214,341-square-foot high-end office property.
The rating firm in July also cut the rating of another loan tied to 750 Lexington Ave. on the east side of Manhattan, where WeWork is also the largest tenant.