Billion Dollar Loser by Reeves Wiedeman: Summary & Notes

Summary

A near-unbelievable, page-turning read about Adam Neumann and the founding and evolution of WeWork.

The story will make you question the current venture-capital and startup system, the benefits and downsides of hubris, and what success looks like in the modern world.

As entertaining as any fiction book I've read.

Key Points

• Learn to recognize the "reality distortion field" of certain individuals. It can be both a sign of big things to come, and a warning to double-check your own reality and the claims being made.
• Valuations are not a hard science. They can vary wildly depending on your hypothesis, particularly in the private markets.
• Fundraising decks are not audited financial documents.
• The greater fool theory of finance: it's possible to make money on something even if overvalued, as long as there is someone (a bigger fool) willing to pay a higher price.
• If investing, beware your own bias in the things you use and prefer, compared to the wider market and population.
• If your actions and your words do not line up, no one will believe you.
• "...in the system we have set up, do the people who were successful reflect the values we want? Should we care, or not care, if someone makes a lot of money exploiting the system?"
• Perfect records should be disbelieved. If the sample is large enough, and there are no mistakes admitted, then it's likely too good to be true.

Notes

• They compared his [Adam Neumann's] aura to the “reality distortion field” that an Apple employee once described as emanating from Steve Jobs, convincing anyone within its radius that the impossible was not only plausible, but exactly what they were going to do.
• “The funny thing about ‘hard numbers’ is that they can give a false sense of security,” Bill Gurley wrote in Above the Crowd in 2014. He was talking about the math behind valuations and how widely their underlying calculations could vary, depending on what numbers you put in. In this case, Gurley was defending an outsize valuation: Uber, another Benchmark company, had recently been valued at $17 billion. Gurley was critiquing an NYU professor who said that Uber’s valuation was inflated “by a factor of 25.” The professor’s analysis presumed that Uber’s total addressable market, or TAM, was the $100 billion taxi-and-limousine market. Gurley believed that Uber’s TAM was every single car on the road—a market theoretically worth $1.3 trillion.
• This kind of blue-sky thinking was saturating Silicon Valley. When Airbnb’s founders first raised money from venture capital investors, an adviser encouraged them to tweak only one item in their pitch deck: swap out a letter and boost their $30 million revenue target to $30 billion. “Investors want B’s, baby,” the adviser said.
• Benchmark had invested another chunk into WeWork’s Series D round, but a few months later, Bill Gurley returned to Above the Crowd to express concern about the state of the broader venture capital world in a post titled “Investors Beware.” Gurley believed that venture capitalists had “essentially abandoned” risk analysis and were blindly treating the fundraising decks shared by start-ups as if they were properly audited financial documents.
• Investors wanted to believe Adam could fulfill his vision, and at least some of their faith seemed to rest on an expectation that he could convince the next person to kick in even more—the greater fool theory of finance.
• The new investors would also dilute the stakes owned by common stock shareholders—employees, primarily—and new hires joining the company were at risk of having their shares be underwater if the company couldn’t meet its new expectations.
• ...although venture capitalists were perhaps a biased cohort when it came to valuing access to offices in San Francisco, New York, and London.
• For WeWork’s rent arbitrage to work at any given location, each space needed to meet certain physical requirements—size, shape, location, available infrastructure—that would allow the company to keep its costs at a minimum while squeezing in enough people to turn a profit. But as the West Coast team surveyed the real estate market in cities up and down the coast, they came to a troubling realization. “There was literally not enough real estate in these cities to reach these numbers,” one person involved in the discussion said. New construction was popping up all over Seattle, for example, but the team found that WeWork could have occupied every new building going up in the city and still not hit the goals set before them.
• Benchmark cashed out $129 million, realizing an eight-fold return on its 2012 investment. Sam-Ben Avraham and Marc Schimmel, Adam’s friends and early investors, cashed out tens of millions, while Joel Schreiber, the man who had given WeWork its first injection of capital, passed his stake on to SoftBank for a poignant amount: $44.6 million, just shy of the $45 million valuation Adam and Miguel pulled out of thin air back in 2009.
• The biggest winner was Adam. We Holdings sold $361 million worth of its WeWork stock—the maximum amount, and nearly three times more than every other WeWork employee was able to cash out combined. This was an even more shocking amount than the earlier stock sales. Why cash out so much now if you believe the potential spoils to be even greater down the line?
• One answer was that the Neumanns needed to fund their increasingly lavish lifestyle. At the end of 2017, Adam and Rebekah spent $35 million to buy four apartments in a single Gramercy building, combining three of the units into a mega penthouse.
• WeWork employees could only roll their eyes when Adam and Rebekah spoke about their embrace of the sharing economy and lack of interest in material wealth. “We believe in this new ‘asset-light lifestyle,’” Rebekah told one interviewer, at a time when the Neumanns owned five homes. “We want to live off of the land. I’m like a real hippie.” WeWork’s 2017 Halloween party had another apt theme: The Great Gatsby.
• WeWork’s growth-at-all-costs plan epitomized an increasingly popular Silicon Valley strategy known as blitzscaling, a term coined by Reid Hoffman, the cofounder of LinkedIn, who had begun teaching a course on the subject at Stanford—“CS183C: Technology-Enabled Blitzscaling.” In a follow-up book, Hoffman acknowledged that blitzscaling could seem counterintuitive. “It involves purposefully and intentionally doing things that don’t make sense according to traditional business thinking,” he wrote. The idea was to not worry too much about risks and costs that might bother a traditional businessperson. The goal was “lightning” growth. Network effects were key. Building a nicely profitable business was a quaint idea in Silicon Valley—“Investors want B’s, baby”—and the effect of the Vision Fund was to break some of the foundational rules of capitalism, allowing WeWork and other companies to price products not to make a profit but simply to acquire market share. In a perfect world, you became too big to fail.
• Neumann had begun pitching WeWork as a new breed of SaaS business: “space as a service.” The idea was that companies of all sizes would no longer handle their own real estate portfolios but would instead turn over the management of their physical space to WeWork, transforming the company into something like a real estate cloud—a “platform.” This was a goal shared by every ambitious start-up of the decade, no matter how specious the claim.
• Every start-up of the 2010s needed a foundational myth.
• But there were plenty of ways to apply “the force” to WeWork’s numbers. The prospectus included a unique metric: “Community Adjusted EBITDA.” The acronym stands for “earnings before interest, taxes, depreciation, and amortization,” and is a standard way of measuring financial performance. The phrase “Community Adjusted” was a WeWork creation, meant to apply the company’s rhetorical flourish to a metric that would present its financial picture in a rosier light. By removing certain costs like design, marketing, and administrative expenses, which the company argued would dissipate over time, Community Adjusted EBITDA transformed WeWork’s $933 million loss in 2017 into a $233 million profit.
• Many of the high-growth, money-losing unicorns of the 2010s had produced their own bespoke metrics showing how much money they believed their companies would make once they stopped spending so much on growth. (Uber’s version was called “core platform contribution margin.”) A New York Times economics reporter offered a less upbeat way of looking at the measurements: “earnings without all the bad stuff.” The Financial Times dubbed Community Adjusted EBITDA “perhaps the most infamous financial metric of a generation.”
• Start-ups were staying private much longer than their peers even a decade before: the median age of companies going public had tripled from four years to twelve since the late ’90s.
• At Summit, Frances Frei, a Harvard Business School professor, gave a talk about her belief that companies often get in trouble when they began to “wobble” in one of three areas: authenticity, logic, and empathy. Wobbling was one way to describe how many WeWork employees felt a few weeks later, when they watched a new documentary on HBO about the rise and fall of Theranos. Both organizations depended on charismatic founders and stratified layers of information that left lower-level employees to hope that, somewhere, an adult was running the numbers. Theranos had no doctors on its board of directors; WeWork had no one from the world of real estate. WeWork employees took comfort in knowing that they provided a tangible service that customers liked, not blood tests that never really worked in the first place. But it gave them a creeping dread to watch their counterparts at another high-flying start-up find it increasingly hard to explain what exactly their company did.
• As WeWork moved toward a potential IPO, those who had watched it defy the laws of business gravity for much of the past decade saw this as a moment of reckoning—not just for the company, but for the system. A few weeks after my visit to 154 Grand, I talked with Jake Schwartz, one of the cofounders of General Assembly, the Bezos-backed start-up that had ceded the coworking market to WeWork earlier in the decade. “What I didn’t understand back then is that you could just take huge amounts of risk and be rewarded for it,” Schwartz told me. “You see this a lot in real estate with people who aren’t any smarter but are willing to put all their money on black 22.
• But WeWork’s rise didn’t shock Schwartz, who had spent part of his career in finance. This was how the system worked. Adam had persuaded one investor after another to believe in his vision; each time he did, previous investors were able to mark up their stakes to escalating valuations, selling shares along the way and passing the risk on to the next fool. Even if WeWork went public and the IPO tanked, Adam owned roughly a fifth of the company, with preferred shares that would allow him to get out before most of his employees. “Let’s say it trades down to a $5 billion valuation,” Schwartz said, throwing out a number more in line with where the London Stock Exchange valued IWG. “Employees will suffer. Investors take a bath. But Adam’s still worth a billion. So from an objective perspective, was it a mistake to play this long con and take on this hemorrhage-inducing risk? You could argue that was the rational mode.”
• What kept Schwartz up at night, at the end of a decade of unrestrained growth for the global economy, with enormous fortunes built out of nothing, was what WeWork’s rise would signal to the next generation of entrepreneurs. “You get to a question of, is that what capitalism is supposed to do?” Schwartz asked. “There’s so many little ways that a company like this tells the next generation of entrepreneurs what success looks like. One way to ask this question is, in the system we have set up, do the people who were successful reflect the values we want? Should we care, or not care, if someone makes a lot of money exploiting the system?” Schwartz didn’t mind if Adam got rich; he wanted to get rich, too. “The reason I care is that if the most successful companies are the ones that just drive really hard, and play fast and loose with the truth,” Schwartz said, “then maybe the whole idea that capitalism is great, or even useful, is really challenging to uphold.”
• WeWork’s board rejected Adam’s attempt to buy Remote Year, a platform to help digital nomads find places to sleep and work around the world.
• Adam, however, said that WeWork should continue expanding. The company was becoming so large, he argued, that landlords would have to play ball if money got tight—the “too big to fail” argument. “If I say ‘pencils down’ to my people, the value of buildings will plunge,” Adam reportedly said in one meeting. He was at least partly right. In mid-April, S&P Global Ratings declared that there was more than $3 billion in commercial mortgage debt securities at risk of default if the company collapsed.
• A dirty secret of the start-up boom was the fact that private market valuations were all but meaningless, bearing little connection to how much money a company made or what economic value it created. They were hazy calculations backed as much by feelings as by math.
• In competitive situations, like WeWork’s early fundraising rounds, venture capital firms were often willing to puff up valuations in order to entice founders to take their money instead of somebody else’s. As the rounds went from Series A to B to C, bigger numbers begat even bigger ones.
• In May, WeWork held a “bake off” among three firms—JPMorgan, Goldman Sachs, and Morgan Stanley—for the lead left position. JPMorgan was the top candidate, given the bank’s long history with WeWork. In addition to its 2014 investment, JPMorgan had assisted WeWork with various loans and other financing arrangements. The bank had also lent Adam $97 million in low-interest mortgages for the many homes that the Neumanns were buying, and helped facilitate a personal $500 million line of credit backed by Adam’s WeWork stock. Adam had taken to calling Jamie Dimon his “personal banker.” When it came time for JPMorgan to make its pitch for the lead left position, its bankers suggested that WeWork could go public at a valuation north of $46 billion and as high as $63 billion.
• True satisfaction, Yardeni argued, only came to those who strained to reach for things just beyond their grasp.
• Then again, maybe he was missing something. “It’s either the biggest innovation in real estate ever,” he said back in the spring, “or the biggest con.”
• As Adam continued his investor tours, he found that this kind of pitch was more difficult than dreaming on a three-hundred-year timeline with Masa. In August, he went to San Francisco to give several presentations, including one to Tiger Global Management, a large investment firm with a focus on tech. During the presentation, Adam repeated one of his favorite boasts: “We have never closed a building.” One analyst jumped in to say that while this sounded like an achievement, it didn’t make any sense. Was Adam suggesting that, of the more than five hundred locations the company had opened in the past decade, not a single one had been a mistake? The supposedly clean record made WeWork seem undisciplined.
• Adam made it clear to SoftBank that it would have to make him feel comfortable stepping away. Marcelo Claure, one of Masa’s top SoftBank deputies, led the negotiations with WeWork. Claure said that in addition to offering $5 billion in debt financing, SoftBank was willing to buy $3 billion worth of WeWork stock from existing shareholders, an amount that would give the firm near-total control. The deal valued WeWork at $8 billion, roughly a sixth of what Masa and Adam had declared the company to be worth nine months earlier.As part of the deal, Adam could potentially sell as much as $970 million worth of his shares—a third of his remaining stake. SoftBank would also loan him $500 million to pay back his credit line, forgive $1.75 million in unreimbursed personal expenses, and pay him a $185 million consulting fee. In return, Adam would lose his supervoting shares, vacate his role as chairman, and leave WeWork with an agreement to not start an office-space competitor for four years.
• Adam promptly sued his old benefactor. As of this writing, the fate of his billion-dollar package was up to the courts.
• It was hard to figure out what lesson Adam, or the entrepreneurs of the future, should learn from his rise and fall.
• There were warnings about the kinds of behavior that modern capitalism rewards—the excess and myopia of the venture capital ecosystem—as well as age-old reminders about the dangers of hubris. But there was also a blueprint for a certain kind of success. As a test, one prominent Silicon Valley venture capitalist began asking start-up founders what they thought of Adam; the correct answer was to recognize his faults while acknowledging the unbelievable thing he had done.
• Masa’s point was that companies went through similar extinction periods. True visionaries didn’t let disasters derail their ambitions. They survived and evolved. For now, Adam was stuck at home, his skills temporarily neutralized in a world where getting into a room and charming an audience was no longer possible. No one knew what the post-Neumannian period would look like, but unless the ironclad forces of capitalism had truly been broken, it seemed likely that someone, somewhere, would be willing to take a chance on a charismatic man with a vision. If Adam could take one final lesson from his former mentor, sooner rather than later, he’d be back.