Self-Funded Growth in the Suburbs: The Power of Networks and Secondary Markets | John Arenas

ABOUT THIS EPISODE

CEO John Arenas talks about his early experiences with Stratis, Regus and Worktopia, and how it inspired his quest for a workplace utopia through Serendipity Labs. In this episode with Frank Cottle, John discusses the company’s business model and why the value of flexible space is not about desks or space, but about access to a network of multiple locations.

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Transcript

Jo [00:00:16]  Welcome to the Future of Work podcast from Allwork.Space. I’m Jo Meunier and together with my co-host, Frank Cottle, today, we’re going to be speaking with John Arenas, founder and CEO of Serendipity Labs, to learn his thoughts on the future of work and his vision for one of America’s most successful flexible workspace companies. So welcome, John, and thank you for joining us today. 

John [00:00:38] Thank you for having me. 

Jo [00:00:39] Okay. So I know that Frank’s really eager to chat with you, but before I let him take over, first, I’d like to hear about your experiences pre Serendipity Labs. I know you’ve been in the flexible workspace business for quite some time since the early 90s, I believe. You started with Stratis, which you later sold to IWG, and after that you launched Worktopia, a booking system for workspace and meeting rooms. But I’d like to know what happened after Worktopia and the run up to Serendipity Labs and in particular your reasons for starting the business and why you decided to focus on franchise agreements. 

John [00:01:15] Sure. Well, I’m happy to share. Yes it is quite a history. Going back to the early 90s, Stratis was indeed a company that was offering shared workplace in executive suite format around the country, mostly up and down the East Coast. 

[00:01:31] It was acquired by Regus as they were then called, and that was really a rent-a-room business as kind of the executive suite or what then was called the ‘key man office suite’ business. Can’t really use that term anymore. I don’t think it really applies in a lot of ways. That was really a business of offering accommodation to a person so that they had resources around them and those kinds of things that business people needed at the time. The business evolved since then, of course. But as I joined Regus, I was actually charged with helping restructure the company. They had grown very quickly in the run-up to their IPO and we ended up having to restructure the entire U.S. operation through a formal restructuring. That really led me to think about this whole idea of the flexibility, the match of leases vs. our shorter term agreements and the cyclicality of the industry. I approached my next project, being Worktopia, to really be an online market matchmaking service, for booking meeting space and desk space and airport lounges, of course, executive suites and conference centers and hotels — and from that, I really learned about this thing called a customer journey of being able to surprise and delight and exceed expectations, and anticipate need. 

[00:02:57] This was all very new and exciting to me because it never had really existed in the shared workspace business or in real estate. 

[00:03:03] And so that company Worktopia, we ultimately sold in 2011 and some of the same management team got together with the idea that we would put hospitality and workplace together, experiential workplace offering, in a way that we could serve as an extension of the corporate workplace. So these were, kind of novel ideas at the time, in 2012. It was really our approach to manifest this in suburbs and secondary markets, not just city centers. So in order to create that, we did adopt a model which we had used at Stratis and we had used it at Regus, which was to have company owned locations with flexible leases — because that’s about all I could take! — and also licensing or franchising. And that’s evolved really since we began our quest with Serendipity Labs from a franchisee profile that was a hospitality operator, someone who operated multiple hotels, to something more like a landlord who wants us to operate on their behalf. And that’s something that we can all chat about along the way here. 

Jo [00:04:10] Definitely. And you mentioned there, cyclicality, and I know that that’s one of the things that Frank wants to talk to you about. So at this point, I’m going to hand over to you, Frank, so that you can dig a little deeper into some of John’s industry knowledge. So, over to you. 

Frank [00:04:25] Thanks, Jo. Thanks a lot. John, you and I have known each other since you started in the industry. So we have a long, long history of watching and working together throughout the industry. But I’ve always been interested in one of your approaches; you’ve always started your efforts in secondary markets away from the central business district where the industry is so tightly held. What drives you to that overall? What’s your view on why you started secondary markets versus central business districts? 

John [00:05:23] Right. Well, I think that really two reasons for that one is in order to provide something more than, let’s say, pretty space and a great experience, but to provide some kind of strategic solution to large customers, high quality, high credit customers, you need to be in places where they’re not. And the largest, the world’s largest companies, already have office space and accommodation in city centers. And it’s not really just because the city centers are very highly competitive for shared workplace. 

[00:05:55] It’s that we were trying to create a network that those companies could use, our client companies could use to traverse — and to allow their employees to traverse — suburbs and secondary markets and improve quality of life. This was about helping companies attract and retain talent and also allowing their employees to work close to home, but not at home. 

[00:06:15] And we felt there was a competitive opportunity in those secondary markets and suburbs, both with Stratis and then with Regus and now in the most recent iteration with Serendipity Labs, with a more innovative product competing against a legacy product. So if you look at opening coworking, high quality, upscale, secure and trusted workplaces that are inspiring in the suburbs and secondary markets, you’re really competing with the legacy executive suite business. 

[00:06:46] So that’s kind of the other piece of it. You’ve got the demand from high quality customers. And we create deeper relationships with them, rather than being kind of a one-off or additional space within a city center. So it’s actually you know, it’s actually part of my hobby horse in a way — an urban planner wannabe at heart — I really do think about being able to offer better ways of working and better ways of carrying out our daily lives. And suburbs and secondary market workplaces were always kind of that future utopia of work, which is kind of why I named the last company Worktopia. So it’s a little bit emotional and a little bit practical and also just good sense to, you know, compete where you have an advantage. 

John [00:07:32] No, I think that makes a lot of sense. I know when we first started developing our own centers back in the early 80s, we also went to the secondary markets. And like yourself, I’ve always believed that leasing space and carving it up and reletting it doesn’t necessarily build the right foundation for a flexible workspace company. You need to have a mix of owned buildings, partnerships, management, contracts, licenses, as you say, etc.. So you and I have always sort of agreed on that structure. But the rest of the industry, 90 percent of the industry, I would say off the top of my head, just leases space. And I’m afraid that as we go into the next economic cycle, a lot of the industry is going to get damaged by that business model. What are your views on that? 

John [00:08:30] Well, I have to tell you that after my experience, restructuring Regus — it was about a billion dollars in leases that we restructured, you know, three million square feet, back when that used to be a lot of square feet!

[00:08:45] I finished the restructuring and kind of picked up my box of things on my desk, said goodbye to the team there to start a new company and said to myself, kind of like Scarlett O’Hara in “Gone with the Wind” – you know, “As God is my witness. I’ll never sign a lease again”. And it just kind of tells you that when you go through that, sometimes the memory, the pain wears off, because I have done that since then. But that’s to say, I think what will happen… Certainly what’s attractive about signing a lease is you can consolidate all the revenue and all of the net income and cash flow and show a girth or a size of a company. And that’s great on the way up. But the problem is on the way down, if you haven’t done a couple of really critical things, it gets very dangerous. And so these critical things have to be aside from — you know, flexible leases, which is obviously ideal or joint ventures or management agreements and licenses in some mix — it’s actually to have a network, because if you have a network and scale, then you can have strategic relationships with customers and you’re not just space, you’re not a commodity. You’re actually part of the fabric of their real estate strategy and even their human capital strategy, which makes you a kind of a key vendor and a way to flex on the way down. 

[00:10:06] And this you know, this is really well illustrated — I’ll give IWG the credit, although I guess I may have been part of the planning for it — when the 2008 recession came. The global financial crisis, Great Recession, whatever you want to call it, Regus North America’s locations were doing quite well as it started, at a historically high 20% operating margin at the center level, which is which is where you want to be. During the recession, which wiped out trillions of market cap and lots of hotels and lots of entire, almost, industries, Regus North America’s mature locations only lost a couple of points of occupancy and maintained operating margins in the mid 20s at 20% operating margins, during the worst thing that could have happened in the US economically since the Great Depression. And the reason for that, they already had a set of mature locations, which is helpful — you’re not ramping up during that situation, you’re not out over your skis — but really, it was the network that created a set of strategic relationships with customers that you knew how to use them on the way up and really knew how to use them on the way down. Because you weren’t selling desks or even locations. You’re selling the network, you’re selling the flexibility. And so those things, if you don’t have them and you’re a local operator with a couple of locations, you also probably need to have a great deal of charisma and patience and encouragement. But I think what happens in those cases, you know, what happens in a downturn is unfortunately a lot of times that’s not enough. And so there becomes a consolidation or an evaporation, as I sometimes put it, of some of the smaller operations. 

[00:11:54] So I think that’s important. The other thing that gets missed is scale; with larger networks and organizations, your cost on the way in is lower, as we do and some of the other largest companies do, we have a global supply chain. We have our own furniture produced, our own lightings, our own wall systems. And so that reduces the investment level as well. 

[00:12:18] So I think structure, having a network, having low costs on the front of it and flexible arrangements. But really having enough network to be a strategic offering, that’s kind of what makes the difference. So, you know, this will be my fourth recession, assuming we’re going to run into one at some point here, my fourth recession working in this industry. So, you know, although maybe our growth has not been as notable as some of the others, we are built to withstand a downturn by having a network and by having flexible arrangements for the real estate itself. 

Frank [00:12:59] Well, I think your business model kind of falls into that “built to last” structure because of your protection from some of the cyclicality that other people will see. Also, I would surmise that your capital requirements for growth in your business model are not as extreme as some of the others that we see growing much more rapidly. We’ll totally discount WeWork for that conversation. 

John [00:13:31] It’s true. I mean, licensing… Most of the location growth we have now, really almost all of it, is management agreements with landlords or our area developers expanding to additional locations. And all that growth is self-funding and others — we don’t have to have capital to open those locations. Our partners are contributing capital to those locations and they own those businesses. We license the platform. So, not to compare ourselves with any hubris to anything like Marriot, but, you know, Marriot doesn’t own and operate hotels generally. They do have capacity to manage locations, manage hotels or third parties for asset owners, but they’re not… The hotel industry long ago separated the real estate from the service business. And we started out really as a service business and not a real estate business at all. So that gives us an ability to grow into areas where capital, normally venture capital or private equity, wouldn’t follow normally. It allows us to get into secondary markets and suburbs with multiple locations, whereas if you raised venture capital, you can only go to Indianapolis so many times. 

[00:14:43] You can only go to Columbus so many times, before your venture capital investors say, well, why aren’t you doing more in New York and L.A.? And, you know, some of the other markets. 

[00:14:55] So the capital structure also has an impact. But when you’re a self-funding growth business model, it’s really just making the model work to grow. 

Frank: One thing you were talking about in terms of your platform — you used the term scale, scale, scale, a lot of times. What do you think is the necessary scale to be able to effectively service the larger multi-site clients? Let’s just use the US as an example. You’ve got around 35 or 40 locations. 

John [00:16:08] Right 

Frank [00:16:11] IWG has around 1100. 

John [00:16:13] They do, yeah.. 

Frank [00:16:14] There’s a big gap. What do you think is the breakthrough number for scale? 

John [00:16:19] I would take scale in a couple of dimensions and scale is the number, you know, you could say the number of locations or the number of square feet. But scale is also in your platform. So being able to deliver the same experience, the same secure, trusted compliance measurement. For instance, personal data security — if you’re a one off operator or you have even a handful of locations, it’s very hard to meet corporate standards for technology security as well as workplace duty of care, personal data security, audit trail compliance. There are a number of aspects of scale that have really nothing to do with the number of locations. And so when we set out, we started with the technology platform, the service delivery platform, so that we could open locations. We can open a location in the cloud, run all of our testing before the physical location even exists. That means that we can measure and manage and have visibility on every aspect of the business end to end. So from the time someone arrives on our Web site or calls our call center, all the way through to a renewal or an exit at some point, having data and all that, means you have a platform, means you can run the business, and know what to do next and how to price and look at your forward order book even, for instance.

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John [00:17:41] So I would say scale is the girth of the platform that enables you to then open the next location for a very low incremental effort. So that’s scalability. And it also means that you can license it and you can sell, you know, sell licenses to that platform. So that’s one way. But to answer your question more directly, you know, I think having a good set of secondary markets and suburbs in the, you know, 50 to 100 location range is kind of a nice place to be. We anticipate being there over the next 18 to 24 months. And that’s when you can sit down with… and which we do already… but when you sit down with the heads of corporate real estate strategy, or head of a company, or head of occupier services for a large real estate service firm, and be able to say you need our inventory, otherwise you don’t have a market because we can deliver on a more strategic rollout. We can tackle a significant part of your problem and not just be, you know, one operator with one bill you got out of hundreds. 

Frank [00:18:53] Well, you know, some of the operators that are growing right now are looking very closely at larger user groups. And I think we would all… Those of us who have been in the industry for a long time would say that the next wave of new customers into the flexible workplace industry are going to be the large corporates; they’ve always been strong, but they’ve used us tactically in the past. Now they’re starting to use us strategically for a number of their own reasons, both recruitment and talent challenges that they have, which lend themselves well to your market strategy of the secondary markets. But in addition, changes in accounting structures, liabilities on the balance sheets of leases, trying to match the cyclicality of their employee lifecycle to their lease cycles, all these things that impact their stock value. So the next big group of clients is going to come flooding from the corporates. And we’re seeing all of that right now starting to pick up. Some of the other companies, though, are doing literally build -to-suit. And if we go back to your time at Regus, do you remember Regus’s old “Greens based” strategy where they would have large workstation space built and tied to their centers for customers? So, again, this isn’t a new theory, but how do you think that impacts Serendipity Labs vs. others that are really focusing in that area? 

John [00:20:31] Yeah, I mean, this is a really good distinction that has to be drawn. I think when you look at flexible workplace, a lot of the big numbers that people talk about, amount of square footage, that’s an added amount of revenue in the industry. A lot of that has to do with what some companies call enterprise clients, which is really a misnomer. It really is. They should be calling them sublet clients where they’re subletting this huge swathe of space to a single customer. And I would differentiate that and put a bright line between that and a shared workplace operator. And a shared workplace operator, of course, has multiple companies in the same facility balancing risk and, you know, creating a aggregating mix of revenues from a mix of different customers. So I think if you’re looking at kind of the HQ style format, which is a subletting program that some companies are doing, I think that was a very cynical tactic by those companies who were trying to show growth. They’re trying to show workstations and production growth, trying to show square footage growth and show revenue growth, without actually being in this business. They’re really just being in the sublet business. And that when you do a customization on a one year deal, then you’ve signed a 10 year lease. That’s the extreme version of the risk in this industry. And that’s not really a business plan. That’s more of a suicide mission. 

Frank [00:22:01] Yeah, I would have a tendency to agree and I think the one off projects that are done on sublets actually belong inside of the brokerage community rather than inside of the shared workspace community. 

John [00:22:15] Well, I mean, I think what it does show, though, and this is what in a way, catalyzes the overall enterprise — or sorry, corporate account customer’s — interest in the industry is they’ve tasted this flexibility. And, yes, it’s not really sustainable to keep offering that in those ways, although there are a couple of companies that still do that for sure. But they are turned on to this idea of flexibility, outsourcing workplace as a service, as we’ve been trying to call it for a long time. It really has been coming in on a workplace cloud.

[00:22:50] So I think that what we’re seeing is a tipping point because of all the factors you mentioned in the accounting rule change, trying to get things off the balance sheet, flexibility, business cycles being short… all those things that we know, actually created the tipping point for organizations, companies, to have a strategy around it. So you now have large multinational companies with a flexible workplace strategy in place. It’s already been championed by their CEO and CFO and everybody’s on board. It’s not a tactical one-off, put a few people in this market type of approach. At the same time, which actually just makes it even more exciting is you have the real estate service firms that have global corporate occupier advisory services that advise these large companies creating their own advisory service set of offerings. So if you would name the top four or five global real estate service firms, they all today have a flexible workplace vertical for their advisory services, that can make a market by tapping asset owners for space, operators like ourselves and a few others, to operate, share workplace and their own corporate customers — and it’s this perfect storm of getting everybody aligned. Their landlords aligned, the corporate occupiers aligned, the real estate service firms aligned. 

[00:24:24] Frank, you’ll remember not too long ago when we really kind of had to beg brokers to come see us and offer them a hosted event with beer and, some kind of electronic, the latest electronic gadget for them to even show up. 

Frank [00:24:42] Yup!

John [00:24:43] Now, now they understand how to sell and they understand how to buy our product, which is great. So, you know, things have come a long way in the last 18 months. But I don’t think that the enterprise, or large corporate company demand, really has to manifest itself in, you know, three hundred people at a time. We get those kinds of requirements very frequently, you know, and we just say no. And, 20, I’ll take 20 and 30 people. I’ll take 10 of those. Give me 10 of those! And you know, the three hundred? Okay, if you’re a major corporate customer of outs and we’re doing a lot of business together and you want us to help you do something bespoke, that’s a project. And yeah, you can pay us to do that, you know, but we’re not going to sign a lease. 

Frank [00:25:34] I know, I get that, and I see your direction in that regard and agree that those are really two different businesses. But unfortunately, in a lot of cases, they’re carrying the same labels. And so terminology in our industry and how it’s used and how we define things is becoming more and more important as we go forward, you know, for sure.

John [00:25:59] It is. But, you know, I would say that even if you took all those out, even if you took those big chunky — we used to call them lumpy deals, when we were at Regus — if you took all those out, you would still have a mass migration from conventional leasing to flexible arrangements. I just saw statistics by Newmark Knight Frank last week, it was a chart that they put together. And what it showed was that conventional leases transactions in the top twelve U.S. markets under 10,000 square feet had fallen 39%. The number of transactions has fallen 39 percent over the last four years, three and a half years for requirements under 10,000 square feet. So that sounds big. But if you look at the legacy of 10,000 square foot requirements going from non-renewing in their existing lease, it probably is 30 people. There’s probably 25 people that they’ve just given a ton of space to. And so everything that’s a renewal in conventional leasing under 10,000 square feet is a potential for a shared workplace opportunity. And if you look at, again, back to city centers, about 50 percent of the transactions are under 10,000 square feet. If you go to a secondary market or suburb, it’s about 70 to 80 percent of the transactions that are under 10,000 square feet. So that’s a target-rich environment, as someone once said in the 1980s in a movie, we all know. 

Frank [00:27:30] Yes. That makes a lot of sense. You know, you’re talking about technology in your systems, your platform, quite a bit. Facility is important, but how important do you think that our industry’s use and provision of technology will be over the next five years by comparison to just facility? To me, I almost don’t care where I sit so long as it’s clean and quiet… 

John [00:28:12] This podcast counts as evidence of that — we’re all sitting in different shared workplaces around the world. 

Frank [00:28:17] Exactly.

John [00:28:18] I mean, on this one conversation. So yeah. So I think there are two… If one thinks about offering a workplace as a virtual — which is kind of an old, old-timey term now — but to think of it as selling a network of places and access, instead of thinking about as a desk and a chair in a room, then you’re headed in the right direction. Because if you do have a network or you are part of a consortium or a part of the network that has an ability to aggregate demand and distribute that demand through technology, and has ability to have the members traverse that network in a way that is seamless, then that’s where things are headed. And so there is a bit of a bar. Now, the great thing is that there are some great providers in our industry today that we didn’t have the benefit of, even five years ago, and we had to build everything ourselves. But thankfully, there are, and there has been, there’ve been great strides in that. But still, you have to put the systems together and they have to be a cohesive kind of business process that is measurable and auditable and actually tells you something that you can then act on. So I think this idea of place starts to be subsumed by the idea of access. And that kind of gets exciting. And, you know, we’ve talked about it, Frank. But, you know, you don’t want to be too far ahead of the market because then you’re alone and nobody knows what you’re doing. And I’ve certainly done that before. But I think that’s what we see at the edges. I’ll give an example of that. So, of our locations, we do evening events. It could be a talk. It could be something promotional. It could be educational. That’s a lot of content that’s happening in our locations. Connecting up those locations, which we can through technology today, through a service that we subscribe to and we can record, edit, distribute that content to our network, which also makes our network valuable as a publishing platform of content. Meaning if someone wants to give a talk on how they had their furniture made in Vietnam, that’s content — that helps them to promote their book or promote whatever it is they’re doing, that is a way for us to aggregate and produce and publish content that makes it all one network. And you know, to me, using the physical network to create this digital value of experiencing the brand or experiencing the access is real now. And, you know, we’re doing things like that. So that’s where what’s next? I guess in a way is, we’re not going to be selling desks. Hopefully we’re not just selling desks today. We’re selling the network. We’re selling access to content and participation in content and participation in a way of life. So… I’m not going to try and raise the consciousness, that was the other guy. But we can improve the quality of life, that’s for sure. 

Frank [00:31:25] You know, I think that’s a good place to start wrapping up here, John, because it hits the point of that, people place and technology. But you’re adding that quality level, which a lot of people would refer to as community into the structure. And I think one thing that our industry is built on, we are built around that people place and technology; three legs to the stool, so to speak. But as we cycle through things at one point in time, people are more important, meaning, services from people. At another point in time, place becomes important. At other points in time, technology becomes the leading element. But those rotate around, and I’m seeing that that’s going to be part of the continuum as we go forward. 

John [00:32:13] Well, I’d agree with you. I would agree with you. And pulling those together in a way that they’re symbiotic is critical. But in terms of where that goes, having a diverse set of revenue, I mentioned, I just touched on it very briefly before — but having this ability to serve as a drop in club where you experience it with easy access and you’re automatically on your own VPN and all those wonderful things; experience it as a guest or a host of a medium sized meeting for 70 or 80 people; experience it as a team member that drops in to your team regional office. All those things are so much more rich and complex than renting a desk. That’s what creates value. And it also is what actually makes us, as an industry, an extension of corporate controlled space and really be an outsourced workplace provider. And not just I’ll say it again, not just desks. 

Frank [00:33:07] Yeah, no, I think that’s really great. Well, John, I really want to thank you for your time today. And I want to follow up on a couple of the comments that you made later on, just privately or possibly in another session down the road. And look at how we can avoid some of the legacy issues around technology as an industry that have really plagued some of the larger operators that have been around for a long time. 

John [00:33:33] Yeah, I’d be happy to do it. And thanks very much. Really enjoyed chatting with you. And always good to be with you. And thank you, Jo. 

Jo [00:33:38] Thank you. John, we’ve really enjoyed hearing from you, hearing the story of Serendipity Labs and your quest to create a workplace utopia. And your thoughts on the future of work. So thank you very much for joining us. And we hope to have you back on the Future Of Work Podcast again very soon. You can listen to us on Apple Podcasts, Spotify, Google Play, Stitcher, TuneIn Radio and Podbean. And don’t forget to head over to Allwork.Space where you can sign up to the newsletter to receive new podcast alerts. Thank you for listening. Bye for now. 

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