The Puzzling Case of the WeWork Non-IPO

The dramatic implosion of the IPO of The We Company, parent of office-sharing firm WeWork, (the “WeWork IPO) has attracted intense scrutiny across the business community.  For scholars and practitioners who work at the intersection of law, business, and technology, the sequence of events leading to that implosion raises fascinating and interrelated questions involving corporate governance, the relationship between public markets and private markets, and platform economics.

Is corporate governance going downhill?

One of the most actively discussed topics in corporate governance is the increased use of multi-class stock structures in IPOs, especially in the case of firms in digital markets.  Simply described, the debate is between two camps: a doomsday crowd that views this development as a market failure necessitating government intervention to protect low-vote shareholders and a do-nothing crowd that is confident that the market will price out different voting structures, resulting in an efficient sorting based on the values that different investors place on having full-fledged voting rights.

The WeWork IPO, which featured an especially lopsided voting structure, might seem to support the doomsday crowd.  Yet the rejection of the IPO by the public markets, in part due to governance concerns, seems to more strongly favor the do-nothings: If a firm offers a sufficiently imbalanced voting structure (exacerbated by other entrenchment red flags), then the equity markets will respond accordingly.

Do the public markets discipline the private markets?

It is commonly assumed that venture capital firms perform a screening function on behalf of less sophisticated and more risk-averse public investors by accumulating a portfolio of early-stage to mid-stage candidate firms, filtering out the flops and bringing only the hits to the IPO premiere.  Yet the sequence seems to be reversed in the case of the WeWork IPO.  The public markets declined the valuation set by the underwriters, who first cut the ticket price and then were ultimately compelled to pull the movie from theatrical release (or at least defer it).

While it is possible to argue that this reflects the public market’s purportedly chronic investment myopia, that seems like a stretch in this case.  The better explanation might be that the public market rejected the private market’s excessively optimistic valuation of a company operating under an inherently risky business model given the mismatch between long-term fixed obligations to landlords and a short-term variable stream of fees from customers.

When is a platform company really a platform?

The response to the last question might not be entirely satisfying.  How could sophisticated private investors overlook the obvious long-term/short-term mismatch problem that seems to have driven much of the public market’s skepticism?  Perhaps the error lies elsewhere.

The mismatch problem might be deemed an acceptable risk if WeWork is understood to be a platform, rather than just an office-sharing company.  Successful platforms enjoy a virtuous cycle of network effects in which the value of the platform increases as a function of the number of users (the more people on Facebook, the more I like using Facebook), who are therefore reluctant to move to any new platform that inherently has few users at the outset.  The platform may then enjoy significant protection against entry, which could justify burning cash today to build an overwhelmingly large user base that will deliver outsize returns sometime in the future.

In the case of WeWork, however, it’s hard to see how it qualifies as a platform.  The value derived by any individual WeWork user does not clearly seem to be a function of the number of other users, there do not appear to be material switching costs in moving to an office-sharing competitor, and cool-looking desks are not a proprietary technology.  This may have been the fatal flaw in the IPO pitch: If office-sharing is not really a platform market, then even high market share will not deliver network effects, and outsize returns are no longer on the investment horizon.  And that may be the ultimate reason why the public market decided to skip this ride.

This post comes to us from Jonathan Barnett, the Torrey H. Webb Professor of Law at the University of Southern California’s Gould School of Law.