With its trendy locations and offers of free beer, WeWork succeeded in making flexible office space cool. There was just one problem: the company could not make it pay.
WeWork’s slide into US bankruptcy on Monday, under the weight of more than $13bn in office lease obligations, has cast a shadow over flexible workspace providers on both sides of the Atlantic and sharpened fears about financial distress for office landlords struggling with the move to working from home.
WeWork chief executive David Tolley said in the company’s bankruptcy filing that it had amended 590 leases and cut future rent obligations by $12bn, but could “not overcome the legacy real estate costs and industry headwinds”.
The question is whether problems for the flexible office sector remain confined to WeWork, and if other flexible working companies can turn the shift to hybrid working spurred on by the Covid-19 pandemic to their advantage.
Mark Dixon, chief executive of the largest flexible office space company, IWG, argues “the travails and tribulations with WeWork” have been a “sideshow” to a huge shift in the office market.
“The body blow is technology, not WeWork . . . technology is changing how people work,” Dixon said.
Flexible office brands hope that companies looking to save money on large static offices will see flexible space — ranging from desks by the hour to full floors with custom designs — as a substitute, despite the trouble for the sector’s best-known name.
“The great irony of WeWork’s bankruptcy is that it comes at the exact moment when the flex industry in general has been seeing record performance,” said Jamie Hodari, chief executive of New York-based co-working provider Industrious. He said many companies were moving out of “oversized-headquarter space . . . into more flexible space at a more modest size”.
“WeWork’s bankruptcy has been less about the lack of demand than the specifics of their business model.”
The WeWork bankruptcy compounds the significant challenges facing office owners. Vacancy rates have hit two-decade highs this year in London and big cities across the US, as companies cut their office space.
WeWork, which provides 900,000 desks to clients at more than 700 global locations, was already in talks to renegotiate many of its leases. As part of its Chapter 11 filing in New Jersey federal court late on Monday, the company asked for permission to scrap 69 leases in the US and Canada — including about 40 locations in New York City.
The loss of rents from WeWork’s departure will hammer the value of the buildings they leave behind. Office values are already projected to fall by about 50 per cent on average in cities such as San Francisco and New York in the next three years compared with 2019 levels, according to consultancy Capital Economics.
Its international locations are not part of the restructuring, but have nonetheless suffered disruption.
WeWork said on Tuesday that starting in October it had withheld $78mn in rent due to US and international landlords. Landlord Helical last week said it had ended WeWork’s leases over six floors on London’s Old Street for “non‐payment of rent”. The companies reached a short-term deal to reoccupy the space after WeWork paid back rent and fees.
The process of extracting itself from undesirable leases will probably involve at least some court battles. WeWork’s bankruptcy filing listed several multimillion-dollar claims for back rent or lease cancellation fees, a number of which it disputes.
Still, property executives and analysts expect the direct impact from WeWork on the wider office market to be limited.
Real estate data firm CoStar said WeWork’s retreat posed a “considerable risk” to specific landlords, but its footprint was “still quite small relative to the market as a whole”. WeWork represents 0.73 per cent of occupancy in New York and less than half a per cent in San Francisco and Boston, CoStar said.
“These are embers around the edge of the fire,” said IWG’s Dixon. IWG, which operates 3,455 locations globally under brands including Regus and Spaces, had already taken over “quite a significant number of WeWorks” and would aim to secure more, he added.
Hodari, Industrious’s chief executive, said some of WeWork’s flagship locations would be too big for other companies to take over, but most would probably be snapped up. “This is going to look like how the hotel industry works. When a Marriott doesn’t work out, it becomes a Hyatt,” he said. “These aren’t going to all go dark, they are just going to be run by somebody else.”
Cal Lee, who advises on flexible workspace at real estate agency Savills, said he had “had calls from operators all this week and all last week wanting to take any WeWork spaces that come back to market”.
Lee said WeWork had been “trailblazers” but “how they scaled, and the model that they used to scale, has ultimately caused this stress”.
Other providers use different business models that they argue are more sustainable. They are keen to avoid the expensive, long-term leases that dragged down the company founded by entrepreneur Adam Neumann.
These contracts left WeWork on the hook for rent payments even when the number of customers using their space plummeted during the Covid-19 pandemic. WeWork said its occupancy numbers had rebounded to 75 per cent in 2022, from 45 per cent in 2020.
The “big change” was that flexible working rivals were “not taking these [locations] on a full-rent market lease . . . They changed their business model to recognise that in order to get scale . . . taking long-term leases is not as sustainable as management agreements and joint ventures”, Lee of Savills added.
Under these partnership or management arrangements, landlords in effect outsource running office spaces to flexible workspace brands.
IWG reported on Tuesday that of the 204 deals for new locations signed in the third quarter of this year, 200 were “capital light”. Still, 60 per cent of IWG centres operate on standard leases, compared with a minority that run as joint ventures, franchises, management agreements or where the rent varies by revenue. IWG’s leases are frequently signed by special purpose corporate entities to limit the risk to the company overall.
Industrious began switching to management contracts in 2017, and was close to phasing out all traditional leases, Hodari said. The Office Group, the flexible workspace business jointly owned by Blackstone, has traditionally owned its offices, but chief executive Enrico Sanna said it had “a growing number of management agreements”.
Even with new business models, flexible office brands face challenges.
Some landlords have started to compete directly by running their own flexible working options. “Flex space is not going anywhere,” said Nikki Gibson, a director at property management firm Ashdown Phillips & Partners. More landlords were wondering “maybe should we do this ourselves”, she said. WeWork said some of its customers had reached deals directly with landlords to remain in their space.
The wider office market is also awash with cheap space available for sublet from companies looking to cut back. Tolley at WeWork partly blamed the “unprecedented prices and in significant volume” of second-hand space for the company’s woes.
“Saddled with many . . . unsustainable leases, WeWork’s existing business model has become increasingly difficult to maintain and must be repriced to align with the current real estate market,” he said.
This article has been amended to clarify the ownership of The Office Group.
