WeWork's Cautionary Signals

My business partner's friend recently needed a place to work with WiFi for a few hours in Midtown Manhattan. She saw a WeWork building, wandered in, found a work space, and did what she had to do. Nobody bothered her as other itinerants shuffled in and out. She thought about grabbing a free beer in the socializing area on her way out, but reconsidered since she was freeloading as it was.

Besides the cratering retail sector sending overall core real estate returns to anemic levels, there are other cautionary signs that should give investors pause. In particular, they might also prepare for a period of uncertainty in the office sector.

The normally volatile high-tech markets offer a good barometer for what may be coming. Fueled by private equity and the prospect of lucrative IPOs, various unicorns have expanded space requirements and paid sometimes exorbitant rents despite never remotely turning profits. WeWork, the global shared space provider and largest space user in New York City, is the current poster child for overreach. Exposed shortcomings of other recent digital-age high flyers like Uber and Lyft, meanwhile, have turned off Wall Street and at least temporarily chilled interest in funding start-ups.

With funding spigots shutting off many of these businesses may need to cut costs or at least curtail expansions. Wannabe startups will have trouble getting off the ground. And some recent entrants could suddenly close down and vacate space. Landlords who signed up these companies based on potential rather than credit histories could suffer.

We've seen this act before—it's often a harbinger to escalating bad news. It happened in the mid-1980s, 2000 and 2008. Venture capital gets excited taking stakes in what they hope can be the next coming of Amazon or Microsoft. Flush with cash infusions, the companies inflate their brands partly by renting out fancy digs in expensive markets. Real estate owners are willing to take a chance on leasing to them based on all the hype. And just like that reality can strike.

WeWork is a special case since its model is based around providing office space to the surfeit of freelancers and contract workers increasingly preferred by companies cutting costs and enabled by work-from-anywhere internet technology. Many small businesses and sole proprietors want or need the fiction of working at a corporate address. Others seek the interpersonal connections and need the discipline of working around others in an office environment. At WeWork, the weekly wine and cheese parties and expensive fitouts were indicative of how the company ramped up expenses in a free spending wave to help attract tenants. Now what happens when the experience is compromised by cost cutting and retrenchment—so much for the social hours?

Increasingly more people will figure out that working from home is a more efficient and profitable alternative. All that overhead can go into their pockets. And when an inevitable recession hits, eliminating rent when you don't have to pay it will be the way to go. The shared services WeWork concept is not doomed by any means, but its growth track like office use in general will be compromised by the overarching paradigm shift—we can work from anywhere and office space isn't as necessary as it used to be.

So where should real estate investors be wary of venture capital retrenchment? The San Francisco area, always a favored real estate market, is also historically one of the most volatile, because of significant high tech/R&D exposure. Look for early signs of problems there as well as in Portland, Seattle, Southern California, Boston, certain New York City submarkets, the DC suburbs, Austin and anywhere else where high tech clusters. These markets inevitably bounce back, but overleveraged landlords and their lenders can get caught in the meantime. Retail owners may have some company soon.

The views expressed here are the author's own and not those of ALM's real estate media group.

Want to continue reading?
Become a Free ALM Digital Reader.

Once you are an ALM Digital Member, you’ll receive:

Breaking commercial real estate news and analysis, on-site and via our newsletters and custom alerts
Educational webcasts, white papers, and ebooks from industry thought leaders
Critical coverage of the property casualty insurance and financial advisory markets on our other ALM sites, PropertyCasualty360 and ThinkAdvisor

NOT FOR REPRINT

A marketing communication strategist who turned to real estate analysis, Jonathan D. Miller is a foremost interpreter of 21st citistate futures – cities and suburbs alike – seen through the lens of lifestyles and market realities. For more than 20 years (1992-2013), Miller authored Emerging Trends in Real Estate, the leading commercial real estate industry outlook report, published annually by PricewaterhouseCoopers and the Urban Land Institute (ULI). He has lectures frequently on trends in real estate, including the future of America's major 24-hour urban centers and sprawling suburbs. He also has been author of ULI’s annual forecasts on infrastructure and its What’s Next? series of forecasts. On a weekly basis, he writes the Trendczar blog for GlobeStreet.com, the real estate news website. Outside his published forecasting work, Miller is a prominent communications/institutional investor-marketing strategist and partner in Miller Ryan LLC, helping corporate clients develop and execute branding and communications programs. He led the re-branding of GMAC Commercial Mortgage to Capmark Financial Group Inc. and he was part of the management team that helped build Equitable Real Estate Investment Management, Inc. (subsequently Lend Lease Real Estate Investments, Inc.) into the leading real estate advisor to pension funds and other real institutional investors. He joined the Equitable Life Assurance Society of the U.S. in 1981, moving to Equitable Real Estate in 1984 as head of Corporate/Marketing Communications. In the 1980's he managed relations for several of the country's most prominent real estate developments including New York's Trump Tower and the Equitable Center. Earlier in his career, Miller was a reporter for Gannett Newspapers. He is a member of the Citistates Group and a board member of NYC Outward Bound Schools and the Center for Employment Opportunities.