(Bloomberg Opinion) -- Two years ago, a failed initial public offering made WeWork Inc. the poster child for startup excess and corporate governance failure. Today, the shared-office provider finally joins the public markets, having completed a merger with a blank-check firm, BowX Acquisition Corp. Its shares will trade on the New York Stock Exchange and the ticker is, of course, “WE.”
This has been a chastening experience for WeWork and it seems to have learned its lesson. But I fear the same isn’t true of startups and venture funding in general. Unbridled exuberance in today’s private markets means a WeWork-like disaster is likely to happen again. And, next time, it might come after the company has listed, meaning ordinary investors get hurt.
WeWork has been substantially reformed since its IPO was pulled in 2019 and chief financial backer SoftBank Group Corp. had to bail it out. It’s parted ways with free-spending founder Adam Neumann and appointed more sensible management, slashed costs, closed particularly unprofitable locations and sold off a hodgepodge of non-essential activities and fripperies such as its Gulfstream jet, often for less than it paid. Once valued by SoftBank at $47 billion, its market worth today — about $8 billion, excluding net debt — is also far more modest, notwithstanding it still loses heaps.
Unfortunately, many of the conditions that enabled WeWork’s rise haven’t gone away: They include sky high private market valuations, a surfeit of cheap capital chasing the “next big thing,” the idolization of “visionary” founders with few checks on their power, and the tech world’s continuing fondness for questionable accounting adjustments (similar to WeWork’s much mocked community-adjusted Ebitda — earnings before interest, taxes, depreciation and amortization).
Furthermore, at least one important guardrail against WeWork-type excesses has been eroded since 2019. Many startups, just as WeWork is doing, now choose to go public by merging with special purpose acquisition companies, a less rigorous process than a traditional IPO.
Investment firms are gorging on startups like the WeWork debacle never happened. Venture funding soared to a record $438 billion in the first nine months of this year, an amount that far exceeds the total deployed in 2020, according to data provider CB Insights.
It’s no longer just old school VCs hunting for deals. Besides SoftBank, non-traditional startup investors, such as family offices, mutual, pension, sovereign wealth and hedge funds, have joined the frenzy. With so much competition, the most prolific venture firms are writing new checks every couple of business days, possibly limiting their ability to conduct thorough due diligence.
And valuations have continued to inflate: There are now almost 850 unicorns — startups valued at more than $1 billion — more than 50% higher than this time a year ago.
Of course, there are plenty of serious unicorns with sophisticated software or technology that deserve fundraising success. Their founders are often brainy geeks, not showmen like Neumann. The pandemic has given another boost to the digital economy so you’d expect unicorn numbers and valuations to swell. (WeWork, too, stands to profit from the shift to more flexible working.)
But the proof of these private valuations will only come once these businesses list on the stock exchange and they've been public for a while. Even Elon Musk, who’s benefited more than anyone from soaring markets, is skeptical of the multibillion-dollar price tags ascribed to rival early-stage electric vehicle companies, some of whom barely have revenue, let alone profits.
It’s a brilliant time to found a startup though. Conscious they might otherwise lose the opportunity to invest, VCs strive to appear friendly to founders and some demand little in return for their cash. One of the most prolific, New York investment firm Tiger Global Management LLC, typically doesn’t insist on board seats, for example.
Thanks to dual-class shares with extra voting rights, founders are often able to retain control, as Neumann did until his defenestration. (In the U.K., where such arrangements tend to be met with more skepticism, the founder of THG Plc last week agreed to give up special share rights after the recently listed ecommerce firm’s stock plunged).
While a lot of fuss was justifiably made about Neumann’s self-serving financial arrangements, he’s hardly the only startup boss to cut himself a good deal. Increasingly founders are awarded nine-digit million dollar compensation packages to retain and motivate them. Founders already own lots of shares, so I tend to view these pay packets as unnecessary. Amazon.com Inc’s Jeff Bezos coped just fine without.
The optimistic take on WeWork’s disastrous attempted listing in 2019 is that the IPO screening process worked as it should: The company was forced to listen to potential investor feedback, as Goldman Sachs Group Inc. boss David Solomon noted. WeWork didn’t hide its weaknesses and extravagances: They were detailed at length in its IPO prospectus, which the underwriters – Goldman, JPMorgan Chase & Co and others — were liable for.
It’s worrying then that many startups are now dispensing with IPOs and are listing via SPACs instead. Solomon’s predecessor, Lloyd Blankfein, has warned SPAC mergers don’t have the same underwriter protections. The U.S. Securities and Exchange Commission has similar concerns.
To be clear, I’m not suggesting any problem with BowX’s WeWork diligence — by now, the company has been more heavily scrutinized than most I can think of. Still, recent blankcheck flops like Nikola Corp., whose former chief executive exaggerated its technological capabilities, and Lordstown Motors Corp., which made inaccurate statements about vehicle preorders, show what can go wrong.
The easy money, founder adulation and lax board oversight that gave rise to WeWork’s worst excesses are still with us. And SPACs just pour more fuel on this incendiary mix.
These themes are explored in Eliot Brown and Maureen Farrell's book, The Cult of We, which I recommend.
The data refers to equity financing for private companies. These are either VC-backed companies or they are in the healthcare, retail, fintech or technology sectors where the financing may have come from private equity and other non-VC investment firms.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Chris Bryant is a Bloomberg Opinion columnist covering industrial companies. He previously worked for the Financial Times.
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