S&P Global Ratings affirmed its ‘CCC+’ issuer credit rating on WeWork Companies LLC and removed all ratings from CreditWatch where it placed them with negative implications on March 23, 2020. The outlook is negative.
At the same time, S&P revised its recovery rating to ’4′ from ’3′ due to the addition of priority secured debt. The rating agency affirmed its ‘CCC+’ issue-level rating on the senior unsecured notes.
Over the next 12 months, S&P believes that in combination with ongoing cash conservation efforts, the $1.1 billion senior secured notes under WeWork’s agreement with Softbank could provide the company with enough liquidity to withstand the operational turbulence caused by its restructuring effort and coronavirus headwinds.
Cash balances aside ($713.8 million as of June 30), WeWork had at least $3.1 billion of available liquidity as of the second quarter, consisting of $2 billion of its $2.2 billion senior unsecured notes ($200 million was drawn in July) and $1.1 billion senior secured notes. An ongoing restructuring plan that encompasses a strategic realignment of the business, in addition to massive cost cuts, has resulted in a deceleration of desk growth, capital spending reduction, lease terminations and renegotiations, and the reduction of various cost components. For the six months ended June 30, operating expenses (excluding location costs) improved by about $350 million over the prior year, driven predominantly by reductions in pre-opening, sales and marketing, sourcing and development, and general and administrative expenses. Capital spending over the same time amounted to $914 million (for 139,000 desks) compared with $1.3 billion in the six months ended June 30, 2019 (for 138,000 desks). S&P expects WeWork to make further progress on capital expenditure (capex) reduction in the second half of 2020 as it exits pre-possession or pre-opened leases and slows the pace of desk additions.
While the slow momentum of coronavirus containment and risk of resurgence suggest limited probability for recovery in membership rates this year, actioned savings and reduced capex should ease cash burn and, together with its expanded liquidity access, allow WeWork to enter 2021 without depleting its liquidity sources. However, despite healthy interest from enterprise customers, telecommuting remains widely prevalent. The timing of a rebound in operating conditions is difficult to ascertain and presents lingering risks about the longer-term viability of the business and its ability to manage through the pandemic once external liquidity resources are exhausted. The ability to draw upon the senior secured notes expires in August 2021.
Fallout from its failed 2019 initial public offering (IPO) incited challenging operating conditions for WeWork as the company entered 2020. WeWork began the year tasked with the huge undertaking of rightsizing their operating model and cost structure while doing so under the direction of a new leadership team. Shortly thereafter, the coronavirus pandemic disrupted demand for desks as the workforce rushed to telecommuting. With a business model centered on member density, the introduction of social distancing presented additional challenges. This perfect storm created substantial headwinds for WeWork and, despite efforts to retain customers through incentives and discounts, membership numbers declined by 12% in the second quarter, driving total occupancy below breakeven (60%) to 58%.
S&P acknowledges a high degree of uncertainty about the evolution of the COVID-19 pandemic. The consensus among health experts is that the pandemic may now be at, or near, its peak in some regions, but will remain a threat until a vaccine or effective treatment is widely available, which may not occur until the second half of 2021. S&P is using this assumption in assessing the economic and credit implications associated with the pandemic. As the situation evolves, S&P will update its assumptions and estimates accordingly.
Despite the additional liquidity provided by the secured notes, the negative outlook reflects ongoing risks related to WeWork’s ability to reduce cash burn and manage its operations amid disruptions spurred by its restructuring and impact from the coronavirus fallout. That said, S&P expects the secured notes will provide an additional source of liquidity to navigate near term market volatility over the next 12 months.
Over the next six to 12 months, S&P could lower its ratings on WeWork if it encounters difficulty narrowing its operating losses, while managing its operating expenses in the second half of the year, as occupancy continues to decline, resulting in an increased risk that it may approach exhaustion of its available liquidity sources.
Over the next 12 months, S&P could revise its outlook on WeWork to stable if the company demonstrates a sustainable momentum toward positive cash flow generation by continuing to reduce its cash burn.
This could occur if:
— The company continues to decrease footprint expansion and capital spending needs;
— Membership and occupancy rates improve from current levels, through the expansion of its more stable enterprise customers; and
— Actioned cost savings contribute to a more efficient cost structure.