Hailed as unicorns, Katerra and WeWork were meant to transform the Architecture, Engineering and Construction (AEC) industry. As the sector watched on with bated breath, we were told how vertically integrated companies were going to disrupt the industry with technology. What eventuated, however, was an extremely bright, short-lived moment of fame, culminating in a spectacular implosion. This is a story of the great tech delusion, deep pockets and why two of the most valuable startups in the world failed. It is the story of supernova stardust.
n. pl. su·per·no·vae (-vē) or su·per·no·vas
A rare celestial phenomenon involving the explosion of a star and resulting in an extremely bright, short-lived object that emits vast amounts of energy. Depending on the type of supernova, the explosion may completely destroy the star, or the stellar core may survive to become a neutron star.
The Free Dictionary1
Background
On 1 June this year, news broke that Katerra was shutting down and letting go of thousands of staff.2 With the vision of transforming the entire AEC industry, they burned through over US$3 billion in funding. Days after the announcement, Katerra filed for bankruptcy protection.3 The bright and promising star of the industry had become supernova stardust. But this was not an isolated celestial event. Two years earlier, an eye-watering $39 billion of value was wiped off almost overnight, due to WeWork’s failed Initial Public Offering (IPO). Yes, you read that right – $39 billion. Gone. Pixie dust. Never to be seen again.
Unlike Katerra’s bankruptcy, WeWork survived, albeit as a former shadow of itself. But with not one but two failed unicorns within as many years, questions started emerging about why they failed. It wasn’t a result of under-funding – deep pockets backed both. Was it a failure of leadership? Or was it due to over-ambitious visions? Or more concerning, were the deeply ingrained problems of the AEC industry simply unsolvable?
The great tech crisis
But so what if a couple of startups failed – approximately 90% of startups fail. To fully appreciate the magnitude of the situation, we must first understand why the AEC industry was so enamoured with the two companies. Both WeWork and Katerra managed to lure tech-savvy architects out of traditional practice and into the startup world. Remuneration was a factor, but so was the allure of disrupting an industry known to be resistant to change. The issue was so topical that in Randy Deutsch’s ‘Superusers: Design technology specialists and the future of practice’, he proclaims:
Architecture and Engineering (AE) firms are experiencing a crisis, brought about by failures of communicating their ultimate value, putting forward a competitive value proposition and viable business model, and an inability to assert their relevance. The people who could arguably lead these firms into the future – addressing and resolving these and other crises – are leaving the industry for startups and so-called vertically integrated companies (verticals) such as WeWork and Katerra, Autodesk, Disney and Amazon, among others.
Randy Deutsch4
Given sufficient investment, will and technical ability – WeWork and Katerra were meant to have been beacons of disruption. As we’ll explore, however, the implosions of WeWork and Katerra will have long-lasting impacts that shape the future of the AEC industry for many years to come.
The dot-com boom
A million dollars isn’t cool. You know what’s cool? A billion dollars.
Sean Parker in The Social Network
Our story begins more than two decades earlier when in March 2000, a 42-year-old tech investor became the richest person in the world for three short days. That person was Masayoshi Son, the founder and CEO of the Tokyo-based tech conglomerate SoftBank Group. But then the dot-com boom became the dot-com bust. Overnight, he lost $70 billion, and by the end of the year, SoftBank’s shares had lost more than 90 per cent of their value.
Son and SoftBank, however, had bet $20 million on a struggling e-commerce platform just months before the dot-com implosion. That platform was Alibaba, and by 2014 when it went public, their investment turned into $60 billion. It would become known as one of the best single investments of all time, demonstrating how a single big bet could pay for dozens of failed bets. It was a sign of things to come.
Green Desk
Fast forward eight years to 2008, and a 29-year-old Adam Neumann visited an office space provider in Manhattan called Sunshine Suites. The business catered to small technology companies, renting them turnkey offices and desks by the month. Seeing the potential of the business model, Neumann decided to found his own co-working space. He partnered with his friends, Miguel McKelvey and Gil Haklay, both of whom were architects, together with Joshua Guttman, a Brooklyn landlord. Their venture was called Green Desk, and their first project, 155 Walter St in Brooklyn, was an enormous success.
Wanting to capitalise on their success, Neuman and McKelvey approached Guttman to expand into Manhattan and San Francisco. But Guttman wasn’t interested in expanding to other landlords’ buildings. By mid-2009, the four agreed to part ways, with Guttman buying out the other three. Valuing the company at $3 million, he paid Neumann, McKelvey and Haklay around $500,000 each. Like the fifth Beatle, Haklay took the money, went his own way and faded into the distance. But for Neumann and McKelvey, this would be the beginning of something big.
The WeWork star is formed
A year later, Adam Neumann and Miguel McKelvey founded WeWork with the vision to “elevate the world’s consciousness”. They believed that Millennials were looking for something more fulfilling than a job and a desk. Instead, they would create “a physical, social network” – the so-called We generation.
Despite having zero paying customers and no offices in use yet, they managed to convince investor Joel Schreiber to invest $15 million for one-third of the company, effectively valuing the company at $45 million. The company quickly took off, and by 2011, WeWork brought in $7.4 million in revenue.
Despite clearly being in the real estate business, WeWork began marketing itself as a tech company to lure more investors. They advertised “space-as-a-service” – a play on the “software-as-a-service” business model that was taking off in Silicon Valley.5 The logic was simple:
Typically, venture capitalists don’t invest in real estate because it can’t scale like a software company. The whole allure of software companies is that once they spend money to build their products, they can sell more and more software to new users at very low costs – sometimes just the price of sending a file. Profits grow exponentially. Real estate, on the other hand, is more linear
Elliot Brown & Maureen Farrell6
CASE and the stellar collision
To boost their claim that WeWork was a tech company, WeWork acquired CASE in 2015.7 With 63 employees, CASE was a leader in Building Information Modeling (BIM) and Virtual Design and Construction (VDC). The AEC had been robbed of one of the shining beacons driving change in the industry.
While not all employees went across, WeWork continued to attract other tech-savvy architects to bolster their ranks. Now valued at a staggering $10 billion, the industry as a whole waited to see what could be achieved when you mixed highly talented individuals with deep venture capital pockets.
Katerra and the parallel galaxy
Around the same time as WeWork’s CASE acquisition, Michael Marks, Fritz Wolff, and Jim Davidson founded Katerra. With the vision of “redefining the construction industry”, none of the founders had any experience in the AEC industry. Marks was the former CEO and chairman of Flextronics as well as interim CEO of Tesla. Wolff was the executive chairman of The Wolff Company, a real estate investment firm, while Davidson was the managing director of Silver Lake, a technology investment firm.
Katerra’s original business model was a supply chain and logistics company sourcing building materials from China and other places. Realising that architects weren’t willing to specify their products, Katerra pivoted in 2016 to become a completely vertically integrated construction company.8 Katerra would instead design their buildings and specify their kit-of-parts.
Like many modular and prefab companies before them, Katerra needed economies of scale to make it viable. Build it, and they would come. Or so the thinking went. But to achieve this, they would need rapid growth and significant funding.
The Vision Fund
In 2017, while both Katerra and WeWork were going about their business, Son and SoftBank were preparing to do what had never been done before; they would raise $100 billion, the largest venture capital fund ever. (Before this, the largest venture capital fund ever raised had been only $3 billion.) The Saudi Arabia Public Investment Fund committed $45 billion, an Abu Dhabi fund put in $15 billion, with SoftBank putting up more than $30 billion itself.
Now the deepest-pocket startup investor on the planet, Son wasted no time in pumping bucket loads of cash into future tech unicorns. He made investments in DiDi, DoorDash, Mapbox, Slack, Uber, and of course, WeWork and Katerra. WeWork received $4.4 billion, the second-largest private investment ever made in a US startup, while Katerra received $865 million. But Son and SoftBank were only just getting started.
Project Fortitude
Pinky: Gee, Brain, what do you want to do tonight?
Brain: The same thing we do every night, Pinky – try to take over the world!
Pinky and the Brain
In 2018, Neumann pitched to SoftBank the idea that WeWork could be completely vertically integrated. It could own the buildings, build the buildings, and lease the buildings. It would own and control the whole process. But to achieve this, however, Neumann wanted an additional $70 billion in funding. Son was sold, and the wheels of Project Fortitude were put in motion.
However, by late 2018, SoftBank had withdrawn its offer; they simply didn’t have sufficient funds. Instead, they would pump in $2 billion. Despite the additional funds, WeWork was running out of cash fast. In fact, it was burning through $3,000 a minute. They needed to find additional investors but having exhausted all of the private investors, the only other avenue was to go public.
Apollo
I don’t feel one iota of additional pressure, we’re not at all like WeWork.
Michael Marks, Katerra’s CEO9
Understanding the problems with legacy BIM software, and with additional funds to burn courtesy of SoftBank, Katerra decided to develop their own building lifecycle platform. To assist them, they brought in Richard Harpham as the Vice President of software products and other former Autodesk employees. Known as Apollo, the software was launched as part of their first-ever Take Off event on 18 Feb 2019.10
The software could find development sites and analyse designs (Apollo Insight), configure the building and product selection (Apollo Connect), and provide a cost estimate and construction sequence (Apollo Construct). If the software did everything it claimed, it marked a significant improvement to Katerra’s early digital processes, which were very much conventional VDC methods with Autodesk Revit. Apollo would be the platform to drive the industry forward.
The fall of WeWork
Power tends to corrupt; absolute power corrupts absolutely
John Dalberg-Acton, British historian
By 2019, SoftBank had invested $10.65 billion into WeWork, valuing the company at an eye-watering US$47 billion. But as part of their imminent IPO, WeWork was required to disclose its financials. This was the first time the public would see just how profitable – or unprofitable – the company was. The backlash was quick and lethal.
As the Wall Street Journal’s Eliot Brown writes, “the investment world woke up to the reality that America’s most valuable startup wasn’t a tech company but simply a real estate company – one that was losing more than $1.6 billion a year.”12 As a result, $39 billion was wiped from its valuation almost instantaneously. It was the dot-com bubble 2.0. WeWork had to retract its IPO and get its financials in a better position. Within weeks, around 8,000 employees were laid-off. The WeWork bubble had burst.
The implosion of Katerra
Burning through cash at an unprecedented rate, Katerra raised an additional $200 million from SoftBank in May 2020. But it was not enough to keep ahead of its ballooning losses. In June 2021, Katerra announced it had filed for bankruptcy protection:
The rapid deterioration of the company’s financial position is the result of the macroeconomic effects of the COVID-19 pandemic on the construction industry, inability to procure bonding for construction projects following the unexpected insolvency proceedings of Katerra’s former lender, and unsuccessful attempts to secure additional capital and business.
Katerra13
Katerra also blamed its downfall on “soaring labour and construction costs” as reasons for its latest financial difficulties.14 Given that the main selling point of offsite construction is that it is cheaper, this comment seemed extremely peculiar. Clearly, something had gone drastically wrong.
Blitzscaling
Both WeWork and Katerra embraced growth at all costs. Some may see this as a strategic oversight. But on the contrary, this was the strategy. Known as ‘Blitzscaling’, it prioritises speed over efficiency to achieve massive scale at an incredible rate. Coined by Reid Hoffman, who helped found PayPal before founding LinkedIn, the term derives from the twentieth-century usage of ‘blitz’ as a way of describing a sudden, all-out effort. The first usage of blitz in this way was to describe the ‘blitzkrieg’ (lightning war) strategy of Nazi Germany during World War II:
The advancing armies in these campaigns abandoned the traditional approach of moving at the slow pace at which they could establish secure lines of supply and retreat. Instead, they fully committed to an offensive strategy that accepted the possibility of running out of fuel, provisions, and ammunition, risking potential disastrous defeat in order to maximize speed and surprise.
Reid Hoffman15
Like all venture capitalists, Son was attracted to high-risk, high-reward investments. They knew the risk that rapid growth could result in capitulation, but they wanted a unicorn.
The unicorn hunters
The Vision Fund was supposed to supercharge the world’s future tech giants, turning them into unicorns – the Silicon Valley term used to denote startups worth more than $1 billion. These startups, which have become household names, are held up as the model of disruptive innovation.
But contrary to popular belief, these organisations are money-losing machines. In fact, many have never made any profit – ever! If, for example, we look at the past five years of Uber, Airbnb and WeWork, we can see just how staggering those losses actually are.
| Uber | Airbnb | WeWork | ||||
|---|---|---|---|---|---|---|
| Profit/Loss | Valuation | Profit/Loss | Valuation | Profit/Loss | Valuation | |
| 2020 | ($6.7 billion) | $46 billion | ($4.6 billion) | $18 billion | ($3.2 billion) | $8 billion |
| 2019 | ($8.5 billion) | $76 billion | ($674 million) | $38 billion | ($3.5 billion) | $47 billion |
| 2018 | $1 billion | $72 billion | ($674 million) | – | ($1.7 billion) | – |
| 2017 | ($4.5 billion) | $48 billion | ($70 million) | $31 billion | ($884 million) | $20 billion |
| 2016 | ($2.8 billion) | $63 billion | – | $30 billion | ($430 million) | – |
The irony of it all, as Eric Ries notes, “is that it is often easier to raise money or acquire other resources when you have zero revenue, zero customers, and zero traction than when you have a small amount. Zero invites imagination, but small numbers invite questions about whether large numbers will ever materialize.”16
Network effects
The reason that investors disregard eye-watering losses is the belief in a first-scaler advantage. Known as network effects, it generates a positive feedback loop that allows the first product or service to tap into those effects to build an unassailable competitive advantage.17 For platforms such as Facebook, LinkedIn, Airbnb and Uber, the more people in the network, the more valuable the network. This phenomenon is known as Metcalfe’s law, which states that the value of a network as a whole is proportional to the square of the number of participants.
However, genuine tech platforms such as Facebook, LinkedIn, Airbnb and Uber are asset-light. As such, these platforms could scale relatively easily without significant capital expenditure. Offsite construction, on the other hand, is incredibility capital intensive, as is taking out 10 and 15-year leases. For Katerra and WeWork, as they got bigger, so did their costs. Growth may have made them bigger in the short term, but it simply wasn’t sustainable without an endless supply of capital continuously being pumped in.
The tech delusion
Despite all of Neumann’s antics, WeWork’s core vision of co-working was solid. The spaces were vibrant and hugely popular. They had clearly found product-market fit. The problem, however, is that WeWork wasn’t a tech company; they were a real estate company. From a profitability point of view, this business model of subleasing office space was not inherently problematic. But even with high occupancy rates and minimal spending, each building could generate only a limited amount of revenue. It simply wasn’t scalable like software. But growing in a controlled and sustainable manner – as conventional wisdom dictates – wasn’t aligned with the trillion-dollar valuation Neumann and Son sought. It was all or nothing, and in this sense, WeWork was doomed to fail.
Doomed to fail
But the greatest tragedy of all is that all of the innovation and technology in the world wouldn’t have saved WeWork. Back in 2018, WeWork’s research team published a paper documenting an algorithm they developed to automate desk layouts.18 The tool not only saved design time, but it also freed up architects “to use their creativity in other ways, such as designing an eye-catching central staircase or covered courtyard where members can mix and mingle.”19 But even with the scale of WeWork, saving designers an hour or two per project was a drop in the ocean compared to the money flowing out of the coffers.
There is surely nothing quite so useless as doing with great efficiency what should not be done at all.
Peter Drucker20
Neumann purchased a top-of-the-line private jet for $63 million. He made questionable investments by pouring $13.8 million into Wavegarden, a company developing artificial wave pools for surfing; $156 million for Meetup.com, an event planning website; and $113 million for Conductor, a search optimisation startup. When the acquisitions were eventually off-loaded after WeWork’s failed IPO, they lost well over $100 million.21 For a so-called tech company valued at $47 billion, one would expect to see productised technological solutions. But this was not the case. While undoubtedly much tech was produced for internal consumption only, this only amplifies the tragedy.
If you build it, they will come
For Katerra, the value proposition seemed solid – the construction industry is inefficient and siloed. They took bold risks and sought to develop innovative solutions to the problem, which should be commended. Sure they weren’t the first to come up with the concept, but they were probably the first to do so at scale.
But Katerra’s execution was poor. They made the biggest mistake a startup can make – scaling up based on untested assumptions. They developed something that no one wanted to buy – at least not at the scale they needed to be profitable. In other words, they failed to achieve product-market fit.
The lean startup
Every business plan begins with a set of assumptions. The goal of a startup is to figure out the right thing to build – the thing customers want and will pay for – as quickly as possible. According to Eric Ries, author of ‘The Lean Startup’, the best way to achieve this is to identify the parts of the plan that are assumptions rather than facts and figure out the best way to test them.22 In Katerra’s case, there was a preconception that architects would specify their kit-of-parts. When this proved to be false, to their credit, Katerra pivoted – the Silicon Valley term for a structured course correction.
By becoming a completely vertically integrated construction company, Katerra performed a zoom-out pivot. In this type of pivot, the whole product (kit-of-parts) becomes a single feature of a much larger product (offsite construction). They developed a building-as-a-product, including a three-story garden apartment, a catalogue of single-family houses, and a mid-rise office. Again, there was an assumption that clients would want this. Those that did come mostly came via connections to Katerra’s investors and executive team – hardly a sustainable business model. The field of dreams approach was just that, a dream.
Failure to execute
Some lay blame on Katerra’s executive team’s lack of experience in the AEC industry.23 As the former CEO and chairman of Flextronics, Marks was probably safe hands to execute the original vision of a kit-of-parts business model. But as they pivoted into offsite construction, a different skillset was needed, one which the Katerra executive team seemed to lack. Such an oversight might account as to why Katerra lost its focus. Like WeWork’s Project Fortitude and questionable acquisitions, Katerra got distracted – developing software and acquiring traditional AEC organisations.
But the biggest issue of all, it would seem, is that Katerra tried to integrate vertically without first creating an integrated platform. It took 4-5 years of operation before Apollo was announced – too late for it to impact Katerra’s trajectory. In hindsight, this should have been their point of departure. Not only would it have provided the operational effectiveness they so desperately needed, but it could have also been opened up to third parties – proliferating their kit-of-parts into the broader industry, not to mention being a possible revenue stream.
Following its collapse, Katerra sold off its factory and manufacturing equipment to Volumetric Building Companies, while Builders FirstSource acquired its Apollo software.
Defining success
Was WeWork a failure? Ultimately it depends on how you define success. If the definition of success is the trillion-dollar, vertically integrated company Neumann dreamt of, then they failed. On the other hand, despite all of his failings and the fact that 90% of startups fail, Neumann created a multi-billion dollar company with locations in over 30 countries across the world. Sure it was ugly in the end, but so was Paula Radcliffe’s infamous toilet break on her way to winning the London marathon in world record time.
On the other hand, there are no questions about Katerra’s outcome – it was a complete failure. But does this mean that offsite, vertically integrated construction is doomed to fail too? Not necessarily. What is clear is that the construction industry is far bigger than any single player, and throwing bucket loads of money at a problem doesn’t necessarily mean you’ll find a solution. And even if you do find a solution, there is still a chasm to cross before you can enter the mainstream market and become profitable. The irony of it all is that had Katerra had less funding, they probably would have been more successful. Having too much budget breeds complacency and slows down the product-market feedback loop until it is too late.
History repeats
Those who cannot remember the past are condemned to repeat it.
George Santayana
Two decades ago, excessive speculation of so-called ‘tech’ companies caused the dot-com bubble of 2000. Investors poured in, fueling the frenzy, which in turn drove up valuations, perpetuating the vicious cycle. Knowingly, they turned a blind eye to the fact that many of these companies had deeply flawed business models. After burning through all of their cash but without turning a profit, the bubble finally burst, and investors lost around $5 trillion.
What is clear from the WeWork and Katerra saga is that history repeats. For the past decade, Silicon Valley has once again been obsessed with wildly unprofitable tech companies. Massive losses no longer matter so long as companies have a big vision, exponential revenue growth and are capable of becoming billion-dollar unicorns. And the reason is simple – a single successful big bet easily compensates for dozens of failed bets – as Son’s Alibaba bet demonstrated.
Put simply, bubbles are the result of a herd of people who collectively start paying more for something than its intrinsic value. But with interest rates at a historic low, investors will continue to pump money into stocks to see a better return of investments. In other words, this won’t be the last supernova we’ll witness in our lifetime. Where WeWork and Katerra stumbled, a host of other startups are lined up behind them with their hands out.
Epilogue
No star lives forever. During their bright but short-lived life, Katerra and WeWork challenged the conventional wisdom of “the way we’ve always done it.” They didn’t always hit the mark, but who does? They had big hairy audacious goals, and they weren’t afraid to go after them. They were the supernovas who became stardust.
References
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16 Ries, E. (2011). The lean startup: How constant innovation creates radically successful businesses. Penguin, London, p.52.
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