The ferocious expansion of the shared office sector in recent years has caused a great deal of speculation about the long term viability of shared office accommodation as a business model.
In this insight, we look at how a shared office provider's insolvency might impact on its occupiers, depending on the insolvency process which is followed.
The shared office accommodation business model
Doubters point to the typical mismatch between shared office providers' lease terms, which will typically extend to 10 years or more, and the very short term, flexible arrangements which they offer to their occupiers.
In an economic downturn, this mismatch could spell problems for shared office providers. Their occupation rates, it is claimed, would fall drastically, leaving them unable to pay their rents.
However, others have faith in shared office providers. They believe the underlying business model to be sound, whilst suggesting that some market players would benefit from scaling back their ferocious expansion plans and focusing on their core business.
The importance of shared office providers
The incredible rise of shared office accommodation over recent years is plain for all to see. In London, according to property agents JLL, shared office providers have taken 15% of all new deals by square footage over the past five years. In the capital, market-leader WeWork alone is the biggest office occupier except for the government.
Changing working habits, increasing technological demands and continued economic uncertainty have all played their part in making shared office accommodation more attractive to occupiers.
The growth was initially driven by start-ups and scale-ups looking for short term arrangements with all-inclusive fees, the ability to move in and out quickly and the option to downscale or upscale as the business shrinks and grows.
However, larger organisations are also now seeing the benefits of occupying shared office space. WeWork now obtains 40% of its revenue from members with more than 500 employees, compared to 20% in March 2017.
What would shared office provider insolvency mean for occupiers?
With so much space now being taken by shared office providers and a great number of occupiers dependent on them, a provider's insolvency could have far-reaching consequences.
Here, we take a look at the various insolvency processes that might arise and how each might affect a shared office occupier.
The primary purpose of administration is to hold a business together while plans are made to financially restructure the company or to sell the business to produce a better result than liquidation.
Profitable shared office sites would most likely continue to trade and occupiers may be unaffected for a period. The administrator may seek to offload unprofitable sites by assigning the provider's head lease (or selling its freehold in rare cases where the provider is the outright owner).
As occupiers in the shared office market invariably rely on licences and not formal subleases, their arrangements would not survive any sale of the head lease or building. They would have no security of occupation as against the buyer and would face a period of uncertainty.
Will the eventual buyer be another shared office provider looking to continue a similar model? Not necessarily. Even if they are, new terms of occupation will need to be negotiated. In all likelihood an occupier is more likely to walk away and find alternative space rather than waiting for these questions to be answered.
Company Voluntary Arrangement (CVA)
A CVA is a form of restructuring by a company which is approved by a creditors meeting. Typically it involves a renegotiation of the payments due to its creditors, who may agree to write off part of their debt and compromise future payments due (e.g. rents).
The likely objective here would be to reduce the rental obligations of the shared office provider to a level which would enable it to continue to trade.
Initially, at least, this is likely to have little impact on occupiers. If the provider could agree a CVA with its creditors, it may be able to continue trading. Theoretically, a CVA could contain provisions affecting the occupation licences granted by a provider. However, it is difficult to envisage what these might be, given that a key consideration would be not to upset the important income stream which the occupation agreements provide.
If neither administration nor a CVA can save the shared office provider, liquidation may be inevitable. In such a case, occupiers will be forced to find alternative space.
Business disruption will be unavoidable, but the flexible nature of shared office accommodation should allow occupiers to find new space quickly. Any advance payments made to the insolvent provider are highly unlikely to be recoverable.
Other potential consequences of shared office provider insolvency
This insight has focussed on the implications for occupiers, but other stakeholders would also be affected.
The most exposed landlords are likely to be nervous about the prospect of a large tenant running into financial trouble. Many UK landlords are now directly exposed to shared office providers. Depending on any rental security arrangements which may have been put in place, landlords may have limited recourse options in the event of a provider's insolvency.
Less tangibly, the failure of any one provider, particularly if it were a big player, could trigger a loss of confidence in the shared office sector generally. Investment could dry up, making it more difficult for others in the market to expand.
A ripple effect may also be felt by the local economy around shared office sites. For example, WeWork claims its members pump more than £75 million per year into the local economy around its sites in London alone.
Whilst it is premature to expect shared office provider insolvencies, in the current uncertain economic climate stakeholders in the sector should not turn a blind eye to the potential struggles that lie ahead.