Do your 'G' work
As we turn the calendar, it’s safe to say 2019’s poster child for poor corporate governance was WeWork.
Rewind 12 months and WeWork parent The We Co. appeared on its way to becoming a $47 billion unicorn, securing huge amounts of venture capital from early investors eager to cash in on the latest IPO darling. Founded in 2010, the New York start-up helped popularize the “co-working” concept of urban professionals sharing low-cost office space in a collaborative, community-oriented environment. WeWork seemed to represent perfectly the ethos of young tech-savvy entrepreneurs driving the New Economy. It was a disruptor of the commercial real estate industry, just as its apartment- and ride-sharing predecessors were in their respective industries.
Adding to the allure, WeWork presented itself as a pioneer in addressing social and environmental issues. With beautiful shared workspaces, it promised a culture of inclusivity, serving local communities and energizing neighborhoods. It promoted “green” buildings with thoughtful policies on water conservation, carbon emissions and even meat consumption, and introduced programs to benefit refugees, veterans and other underserved groups in society.
But while promoting such noble pursuits, WeWork took its eye off some very basic governance matters—issues that largely went unnoticed until this past August, when it initiated efforts to go public. Its SEC Form S-1 filing, required for the issuance of new securities, revealed a range of shortcomings, including a leadership structure ripe with potential conflicts of interest; ballooning operating losses; the use of non-standard accounting practices; and a general lack of internal controls and board oversight. With investor confidence fading fast, the initial public offering of stock was shelved indefinitely, the board was reconfigured and the founding CEO was forced to step down.
Sound ESG pillars can be fundamental to success
The WeWork saga epitomizes why any comprehensive approach to assessing a company for potential investment, whether public or private, should include a stringent analysis of material environmental, social and governance issues. A major negative controversy on any one of these three ESG pillars should sound a clear and loud warning to dig deeper, particularly in the case of IPOs, which are the epitome of potential risks and rewards.
At Federated, our Kaufmann team has more than 30 years of experience investing in the IPO market, directly engaging with the managements of hundreds of IPOs each year. A key tenet of the team’s due diligence is thoroughly analyzing the governance structure to determine how sustainable and structurally sound the business may be. As Kaufmann’s Client Portfolio Manager Jordan Stuart explained, “We see a lot of exciting young companies with promising business models, but if the appropriate governance structure is not in place, and adequate controls do not exist, then the issuance opportunity can be negated altogether.”
If it weren’t for the scrutinizing eye of experienced active managers, parent We Co. may well have continued to exist as a $47 billion unicorn. But when the public was allowed to peek behind the curtain, the compelling story didn’t hold up. This case study exemplifies why it’s important to ask tough questions and not be blinded by the bright facade many unicorns present.