Thanks for sharing. Not sure how many investors understand why some of the forward looking financial details were withheld by the company.
The True Story Of Slack
Jun. 9, 2020
Slack, a replacement for email used by the world's largest companies, is targeting a $28 billion market.
With the rising popularity of much cheaper Microsoft Teams, many people are questioning whether Slack can survive.
However, it is clear that Slack is not only surviving but winning deal after deal vs. this practically free competitor due to a strong competitive moat.
COVID-19 has accelerated Slack adoption and should fuel strong revenue growth over the next few years as new free users are converted to paid.
Valuation is high, but as a best-in-class software player with a massive market, strong growth and operating leverage, I believe this is warranted.
"Microsoft (NASDAQ:MSFT) Teams is free, so why would any corporation use Slack (WORK)?" is the number one statement I see when researching Slack. I admit, when I started my research, this was a prominent question in my mind, but it was soon clear that Slack is winning against Teams due to a strong moat that Teams has not been able to replicate. With a large market opportunity, high growth, and a decent valuation, I'm very bullish on Slack's future.
What is Slack
Slack is, in essence, a replacement for email. It is a remote collaboration tool that allows people to effectively work together, access hundreds of thousands of critical applications and services, and find important information to do their best work. It is a widely popular tool available in 150 countries in 8 languages, used by more than 65 of the Fortune 100.
Management estimates in the prospectus that the market opportunity for Slack and other providers of workplace business technology software platforms for communication and collaboration to be $28 billion, so there is definitely substantial room to grow from the current revenue base.
Competitive advantage
Slack mainly competes with Microsoft’s Teams. Originally, it also competed with Atlassian’s (NASDAQ:TEAM) HipChat, but that has since been sold to Slack for an undisclosed amount.
In early 2016, news broke that Microsoft was considering acquiring Slack for $8 billion, but after the opposition of Bill Gates and the departure of the employee responsible for the push, Microsoft Teams was launched in late 2016. Teams has seen relatively fast adoption due to the massive penetration of Office 365 products within corporations, as shown below.
In an update in March, Microsoft Teams disclosed that it had over 44 million DAUs, or around 20% of Office 365 users. Slack bears have often used the fast growth of Microsoft Teams in their bear case, asking how a paid product like Slack can compete with the "free" Microsoft Teams.
Interestingly, though, if you look through the last few conference calls, you can see many examples of Slack winning against Microsoft Teams, especially in the enterprise space. For example:
"Four of our five largest deals in the fourth quarter were against teams, new and expansion deals for the quarter, demonstrate the breadth of our global enterprise penetration across all industries. They include Nationwide, KPMG, HP, Rakuten, Kyocera, and Sainsbury's.
Our largest customers are also some of the largest companies in the world. Seven of our 10 largest customers are members of the Fortune 100 and 17 of our top 20 customers are members of either the Global or Fortune 500. They also tend to be Microsoft customers. As noted last quarter, the majority of our $1 million customers also use Office 365 and they made the choice to invest in Slack anyway. Behind these numbers are a lot of good stories which are just starting to be understood and appreciated now. We'll be telling more of them in the year ahead."
Why is this happening? Having used both products, I can 100% say that Slack has a better product. UI is better, search functionality is far better, and Slack has far more external applications, which is likely important for most enterprises. Microsoft Teams isn't unusable, it just isn't as good as Slack.
Slack users are also far more engaged than Microsoft Teams users. Even at the peak of the COVID-19 crisis, Teams use maxed out at 2.7 billion minutes, or around 60 minutes per day per DAU. Meanwhile, Slack users spent an average of 120 minutes per day, or twice as long as Teams.
Also, this is not often mentioned, but Microsoft Teams also imposes certain limits on users, as you can see here. In addition, Slack also has a feature, Shared Channels (that allows your company to share a channel to work together with another party), that management doesn't believe is possible to replicate without several years of development, but this feature is used by 90% of Slack's top customers (according to the Q4 2020 call). Interestingly, there is a request for Microsoft Teams to have the same feature, but it's still on the backlog as of today.
Q1 2021
COVID-19 may be nearly over, but the implications of it on Slack will likely last over the long term. In the most recent quarter, Slack added a year's worth of customers in 1 quarter, and as these customers are converted to paid customers over the next few years, it should drive s In addition, the company signed a deal with Amazon (NASDAQ:AMZN) to roll out Slack to all of AWS's employees in exchange for integrating AWS tools into Slack and continuing to use AWS.
Overall, it was a pretty stellar quarter, with 50% growth and high 80s gross margin. Operating leverage was substantial, with non-GAAP operating margins up 1700 bps, or 17%, from last year to just -8%. Currently, GAAP profitability is depressed, but this is due to high SBC from performance-based vesting of RSUs, which should dissipate over time.
"Stock-based compensation and related employer payroll taxes were $76 million in the quarter. It's important to note that due to the performance based vesting condition of our RSUs, stock-based compensation recognition has accelerated in the first year after going public. We expect stock-based compensation, as a percentage of revenue to trend down meaningfully over the next year."
With this much operating leverage, it likely would take just 2-3 years for Slack to reach GAAP profitability, and things should only get better after that.
Valuation
Currently, Slack sports a market cap of $18 billion, or around 20x forward revenues. This may seem high, but it really isn't that high if you consider the fact that revenue is growing at 50% YOY and is not likely to slow anytime soon due to Slack's immense competitive advantage.
Takeaway
Overall, it may seem like Slack is doomed to fail, especially when you keep hearing about Microsoft Teams expanding its user counts, but that's not really the case. Slack is winning, even when facing Microsoft Teams directly, and there's no reason to believe it can't continue to win in the future.
