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5 Reasons I Bought More Slack After Its Seemingly Disappointing Quarter

By Brian Withers – Sep 29, 2020 at 10:00AM

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Investors are missing what's hiding in plain sight.

As the camera pans back, moviegoers get a glimpse of the action hero lying in pain by the side of the road. He's in the middle of nowhere, left with nothing but his wits as the villain speeds away with the hero's car and an innocent bystander trapped in the trunk.

After Slack's (WORK) earnings report last quarter, some investors may feel like it's the abandoned hero, with the deep-pocketed Microsoft and its competing product driving off with Slack's potential customers. But this story isn't anywhere close to being finished.

Here are five reasons I just added to my position in this team-collaboration software platform, even in the wake of its most recent results.

1. Concerns over Q2 results are overblown

Bears were disappointed with Slack's latest earnings report, and the stock has taken a step back as a result. Slowing top-line growth, reduced billings, and decreased net dollar retention rates are the key reasons for investor malaise, but this seems to be a glass-half-empty perspective.

Besides being in a pandemic, many companies are experiencing what Chief Financial Officer Allen Shim called "recessionary dynamics," such as layoffs and a limited appetite for spending. In this environment, any business that can drive year-over-year gains of 49% in the top line, 25% in billings growth, and hit net dollar retention rates of 125% like Slack did, warrants investor attention. 

WORK Chart

Slack's year-to-date stock prices through September 25, 2020. WORK data by YCharts.

Besides solid growth numbers, there's even more good news hiding in plain sight from the latest earnings report.

2. Seeds of growth are being planted

Over the first half of its fiscal year ending July 31, 2020, the collaboration platform added a net 20,000 new paying customers to reach 130,000. This number is double the number from the previous two quarters and a 30% year-over-year increase from last year's Q2.

This isn't just a short-term win, as CEO Stewart Butterfield explained on the most recent earnings call:

Historically, it has taken new cohorts of paid teams several years to hit their peak revenue contribution. We expect the strength you saw in Q2 to materialize in a more pronounced way at the end of this year and into the next.

For patient investors, this bodes well for the future.

Images of remote employees collaborating on a project together.

Image source: Getty images.

3. It's winning and keeping large customers

Large customers with annual contract values in excess of $100K reached a record 985 and represents 49% of Slack's overall top line. A net 22 large customers were added in Q2, despite headwinds of 50 existing customers dropping out of the large customer category due to staffing reductions and the related decrease in annual contract values.

Slack's logo list of 21 companies won this quarter.

Slack's recent customer wins. Image source: Slack's Q2-FY2021 earnings presentation.

Management shared the positive news of numerous large customer wins on the call including Amazon, Shopify, and Alnylam Pharmaceuticals. The company also has 87 customers with annual contract values of $1 million-plus, up 78% over the same quarter last year.

4. Innovation is alive and well

With a substantial 44% of revenues directed into research and development efforts, Slack has released dozens of new enhancements since the beginning of the year, including Slack Connect. This feature is an extension of shared channels that allows organizations to connect up to 20 different companies into one channel to facilitate cross-company communication.

This is tremendously popular, with 40% of Slack's paid customers using the feature and 380,000 connected users. The company will be announcing more new enhancements for Slack Connect and other enterprise features at its user conference on Oct. 7 and Oct. 8.

5. It's not just about Microsoft

Getting back to our action movie hero and the evil villain, investors should understand that Slack doesn't have to beat Microsoft to continue to grow. On the Q2 earnings call, CEO Stewart Butterfield shared that "the TAM [Total Addressable Market] is just so big" that Microsoft won't impact its growth "in a significant way for a while." 

As organizations consider a choice between collaboration tools from Microsoft and Slack, Butterfield isn't worried. He shared on the earnings call that, "We're in quarter 14 of competing with Microsoft" and "We've won over and over again in Office 365-using customers." He certainly doesn't see himself as a battered action-movie hero abandoned by the side of the road.

The end of this story isn't written yet

Now that organizations have more experience operating in a virtual office, they're looking strategically at how to best operate in this "new normal." Slack's team-centric design, focus on innovation, and history of winning and keeping customers will make this platform a critical part of the digital-office toolbox for years to come. With 125 billion business emails sent every day, Slack's story is just getting started.

That's why I just bought more shares of this growth stock.

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Teresa Kersten, an employee of LinkedIn, a Microsoft subsidiary, is a member of The Motley Fool's board of directors. Brian Withers owns shares of Amazon, Shopify, and Slack Technologies. The Motley Fool owns shares of and recommends Alnylam Pharmaceuticals, Amazon, Microsoft, Shopify, and Slack Technologies and recommends the following options: long January 2021 $85 calls on Microsoft, short January 2021 $115 calls on Microsoft, short January 2022 $1940 calls on Amazon, and long January 2022 $1920 calls on Amazon. The Motley Fool has a disclosure policy.

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