Should Slack Shareholders Be Happy With This Deal?

In this episode of MarketFoolery, Chris Hill chats with Motley Fool analyst Jim Gillies about the latest headlines from Wall Street, including the Slack/salesforce.com deal and what's going on with BlackBerry (BB -1.43%). They also dig into The Fool mailbag to answer listener question.

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This video was recorded on December 2, 2020.

Chris Hill: It's Wednesday, December 2nd. Welcome to MarketFoolery. I'm Chris Hill, with me today from the Great White North, it's Jim Gillies. Good to see you.

Jim Gillies: Good to be seen, Chris. It is indeed the Great White North this morning, and the last three days.

Hill: Ah, I'm jealous that you have snow and I don't, but that's, you know...

Gillies: You can have mine. [laughs]

Hill: [laughs] We got a bunch of things to get to. We're going to talk about trading hours, we're going to talk about negative equity, we're going to talk about what in the world is going on with BlackBerry, but we got to start with the deal which is now done.

Salesforce (QSR 0.08%) buying Slack (WORK) in a deal worth more than $27 billion, which makes it one of the biggest deals ever in the software industry. As reported, it's a cash and stock deal. Not quite 50-50, it seems like it's a little bit more cash than stock. We can go in any number of directions you want, Jim, but I think the headline here is that, [laughs] for anyone who was wondering whether or not Salesforce as a business, and Marc Benioff as a CEO, is gunning for Microsoft, you don't have to wonder about that anymore.

Gillies: You do not. His flag is rolled out. He has declared battle is joined. And yes, the deal is Salesforce is buying Slack in a kind of a denouement that we all kind of expected; this deal has been rumored for a while. It's $26.79 in cash and 0.0776 shares of Salesforce. You get the cash plus that small number of shares of Salesforce in exchange for every one share of Slack that you own. So, at the current price of Salesforce, which is about, as I was making my notes, at about $224. That works out to about just over $44/share for Slack, Slack is trading at roughly $43, which is suggesting that the market doesn't really see that much possibility for a competing offer, not likely a competing bid. You mentioned Microsoft, Microsoft probably couldn't do a bid, they'd probably get knocked down on antitrust rules, but also saying, well, maybe Atlassian or Oracle is probably not going to come out either.

It's not hard to find articles this morning, I found a few in the last couple of hours, talking in grandiose language about how this does revolutionize the SaaS business. Very definitely this is Benioff putting together a strong competitor to Microsoft and their Teams offering. You have unfortunately brought me on today, where I am not much of a software or tech guy, so I can't speak to the nitty-gritty details of what's going on here, I'm more looking at this as an investor's perspective. And I think this is a good deal for Slack shareholders, I think you should be happy to have this, and there are several reasons for that.

One is, look, Slack has always been an expensive company in terms of valuation. It has only recently turned free cash flow positive, i.e., self-financing. And you can argue that their recent cash production, you can argue that that's somewhat, you know, to do with cash flows being pulled forward due to the pandemic. At an enterprise value of just over $24 billion, Slack is currently priced at 520X free cash flow. So, that's mildly expensive; it'll take you five centuries to get your money back based strictly on cash-producing business. So, I don't know what you're going to be doing in five centuries, Chris, I have no plans; I would suggest you probably shouldn't either. You know, it's trading at about 29X trailing revenue, 23X forward revenue. Revenue growth is expected in mid-20% for the next couple of years, so you should expect to pay a premium for that level of growth, but it's hard to argue that this has not already been priced into Slack.

And the last thing, Slack only IPO'd, like, mid-2019, this is a fairly recent market participant. If you were to take bets, Chris, on the "over" "under," what's been the better investment, Slack or the S&P 500 benchmark, which would you take?

Hill: Well, I've actually done a little bit of homework, I haven't compared it directly to the S&P 500, but I'm going to take the S&P 500, because when Slack went public ...

Gillies: You would be correct.

Hill: Yeah. When Slack went public, I think it closed opening day at -- I think it went public at $38/share, somewhere around that.

Gillies: Yeah, and the official IPO price was $26, but of course, you and I can't get that price, and I think it debuted at $38.50. So, it comes out at $38, as you say $38.50, you know, you've got the $26 in the pre-IPO, but I'm not big enough to be assigned those shares, so I would have to buy on the market like everyone else. Yeah, so one at $38. But even if you take the $26, the S&P 500 has been the better performer, frankly. And of course, against the $38 one, look, if you bought this in March when everything was falling apart, you've done well, but then again, if you bought the S&P [laughs] in March when everything was falling apart, you've also done well, you know.

So, I think it's a great deal for Slack shareholders, because I, frankly, don't like going up against Microsoft and their Teams offering. I think in a battle of resources here, Slack you are not the winner, Microsoft has more than you do. You and I, Chris, we use Slack every day, we like it, it's integral to our jobs. But you know, it doesn't necessarily mean that it's going to be the dominant product going forward. And I think for Slack shareholders, I think you should be happy with this deal.

Hill: You absolutely should. The last thing I'll add is, I think this is going to be very interesting to watch how this plays out for Salesforce, because this is a big acquisition. Look, Benioff has made acquisitions in the past. Tableau, you know, that was a $15 billion acquisition. So, he has, I would argue, a good to pretty good track record in terms of making acquisitions and transitioning them into the core Salesforce business. This is a bigger deal, literally and figuratively, this is a bigger deal. As you said, this signals unambiguously to Microsoft that we are gunning for you. Salesforce is a much bigger company than Slack, with much deeper pockets, they're not as deep as Microsoft's, so ...

Gillies: ... few are.

Hill: Few are. But you know this also comes -- you know, it wasn't all that long ago that Marc Benioff was quoted as saying, I don't think this is a great environment right now for M&A activity. I'm looking forward to someone writing the 5,000-word article of how this deal came together, because as you said, it wasn't like there was this huge bidding war for Slack. Salesforce was doing this on their own, this was two companies that got together. And again, when Benioff is quoted as saying, I don't think this is a great environment [laughs] for M&A activities, so I'm not rooting against them, I don't have a dog in this fight, but I'm going to be interested to see how this works 12 months from now.

Gillies: Yeah, agreed. And I mean, I think without going too deep down the rabbit hole, look, the present market environment is fairly robust, certainly for tech companies, it's fairly ripe and valuations are generous right now. I'm old enough that I've watched this in real-time at other times when the markets have been high, excited, '99-2000 comes to mind, there were a lot of deals in '99 for a lot of companies. And you know, not all of them worked out terribly well, I'll put it that way.

But look, if you're a Slack shareholder, again, you're getting a nice chunk of cash back, which I think is very good for you, you're also getting some Salesforce shares, because, again, like you, I have no dog in this fight, I don't want to see Benioff and Salesforce fail, frankly. I want to see them succeed with this, I want to see them compete well with Microsoft, I think it's healthy for everyone. And you're going to get to participate here with just slightly less than half the deal coming to you in the form of Salesforce shares, which you can hold or which you can sell, as you choose.

So, again, were I a Slack shareholder, I would like this deal.

Hill: Shares of BlackBerry are up 10% today, which means that in the past month shares of BlackBerry are up more than 70%. And I know that they have this new partnership with Amazon Web Services, but is that everything that's going on here? Like, [laughs] is that what has fueled this incredible ... I mean, I'm happy for them, but is that all of the rise that we're seeing, is some of this short-covering as well or is this what -- what is going on here? [laughs]

Gillies: [laughs] Yeah. Okay. So, yeah, until yesterday, I kind of forgot I owned BlackBerry personally, [laughs] and then I looked at it, oh, OK ...

Hill: You know what? I bet you're not the only one.

Gillies: Well, I don't think I'm the only one who works for The Motley Fool, I could give you some names, it was like, oh, we still own that. Yeah, look, this is actually good for them. You ask, was there something else going on? They mentioned they were selling off some patents and what have you, a few weeks ago, I think, that certainly is not ... I mean, maybe the market was looking at, you know, getting some cash for those too.

But BlackBerry has been one of those companies that I joke I forgot I owned it, but you know, I mean, I really didn't, but not one I really have been paying attention to for the last couple of years, except for to look at it and say, OK, this should be better than it is. BlackBerry, of course, is the artist formerly known as Research In Motion AKA the company that fumbled the smartphone market when the former Co-CEOs didn't seem to view a little invention called the iPhone as a serious competitor, oops!

And so, they've had to reinvent themselves. They reinvented themselves under the leadership of John Chen, who came over from Sybase, where he basically took another company that had fumbled their main industry, and he took it in a completely different direction. In the case of BlackBerry, he said, we're not going to do smartphones and handsets and all of the stuff, we are going to be a software and service and security company. And so, he has spent the last seven years now transforming the business. Handsets are gone, BlackBerrys are gone. There is an acquisition of a company called Cylance, which butts up against a very popular company called CrowdStrike in some applications. CrowdStrike has a much higher valuation than BlackBerry has ever had; at least recently. And they have the QNX operating system, they touch on a bunch of, what's called, Internet of Things, so making sure that anything that touches the internet, the security is handled by BlackBerry. They had the QNX software, which also goes into cars.

So, there's always been a lot of really interesting pieces here, and the market has not cared, until yesterday, when they signed a deal with Big Daddy Bezos out of Seattle with Amazon Web Services, to basically bring to market and develop this thing called BlackBerry IVY, which is going to basically support -- basically, it's going to go into cars and work with the data that sensors in cars produce.

You remember back to the '90s and the early 2000s, Chris, I'm sure, when your computer would come with a little tag that said "Intel Inside" and it would come with a little picture of the Microsoft Windows logo. So, you knew what chip were you getting -- I kind of, when I heard about this deal yesterday, this is kind of what I thought of, it's like they're going to be -- because right now, car manufacturers aren't standardized on any system, they're not really standardized and working together, and there's, kind of, they're all off in their own little fiefdoms, if you will, and here's going to be BlackBerry IVY with a goal of supporting multiple vehicle operating systems; tied up to the cloud to ensure compatibility across carmakers, across models and brands; it's going to build on what BlackBerry already has, the car operating system I told you about earlier.

And it's going to be a lot of -- you know, if you are a believer in the increasingly wired autonomous car story, I'm not talking full self-driving. Because I still think that's several decades, if not forever away, where you know, you get into a car and there's no gas pedal and there's no steering wheel, you just say, I want to go here; I don't think I'm going to see that, unfortunately, in my lifetime.

But they're going to talk about leveraging vehicle data to recognize driver behavior and hazardous conditions. So, icy roads, large traffic. Tell the driver, hey, do this or, you know, put this feature on. One thing I saw that was interesting was BlackBerry IVY would provide real-time cloud-based insights to parents of teenage drivers, I'm about to have one of those in the house, who may choose to receive customized notifications based on insights from the vehicle's sensors, when the number of passengers in the vehicle changes or when the driver appears to be texting, distracted, not observing speed limits, so ...

Hill: love it already.

Gillies: I was going to say, I mean, you know, it's -- I could put the fear of God into my teens as much as I want, but you know, he's still a teen boy and you know, we'll see what he does. But I think that the market is waking up. And we looked this morning, we were looking around to see who'd pick up on this story. And certainly the story is out there, but there's not a lot, there were some other aspects that hadn't been picked up, certain message board topic, so it still seems, I mean, it's starting to get a little play, but I think it's really an interesting deal, and BlackBerry is not terribly expensive.

And a small part of me, just to go back to the Salesforce and Slack story. The endgame in John Chen's prior turnaround was he sold it, and he sold it for 6X or 7X the value of the company when he took it over. I've always thought that was going to be the endgame with BlackBerry, that essentially, he turned it into a software and services company and then he could snap it up. I just wonder if we just saw the first potential stage, it certainly hasn't been a 7-bagger like his last one, Sybase. But I kind of wonder, if this is the first step to someone realizing, oh, BlackBerry, they're not that phone maker anymore, they actually are a software and services company, and boy! they'd look good in our portfolio.

Hill: All right, let's dip into The Fool mailbag. As always, the email address is [email protected]. From Jerry Villani in Cleveland, Ohio. He writes, "Fidelity has given me the option to trade in the morning from 7:00 to 9:30 AM. I don't think I want to do this, because it seems the volatility is greater and it tempts me to trade more when I know I should be trading less. Can you please discuss the pros-and-cons of trading outside the normal market hours, and if any of you do it?"

I don't do it. It never even occurred to me to check with TD Ameritrade if I have that option, but honestly, I don't -- look, at that hour of the morning, I'm only on my second or third cup of coffee, I'm not going to be trading, but are there pros to -- like, I don't know, well, like, what are the pros-and-cons in your mind?

Gillies: There aren't any. [laughs] The real simple answer. Look, the market is open for, you know, 9:30 to 4:00 Eastern Time every day. You get lots of time to do your trading there. I'm someone who thinks that "trading" is kind of a dirty word; I'm not a big fan of trading per se. If I want to buy shares of -- let's say, I really like this BlackBerry deal, I want to buy BlackBerry today. I got, you know, 6.5 hours of open market condition with all kinds of trade volume that I can go buy myself some more BlackBerry, if I so chose, or any other stock. I've had the option to trade pre- and post-market myself, or the afterhours, before market hours; I've had that for more than two decades, I've never made a transaction in those hours, I've never felt the need to do so. And you are correct, you don't need to do so either.

Hill: Question from Elijah Hemmingway, who is 12 years old, and is investing with his dad. He wrote a very nice note about how he read The Motley Fool Investment Guide for Teens, which, by the way, is a great book and is still available, if you're looking for something, a different kind of gift this holiday season, it really is a great, great book. Shout-out to Selena Maranjian, our longtime colleague, for her work on that.

So, he is investing with his dad through our Stock Advisor service, and he wrote in a question about negative equity, basically saying, you know, notice that with businesses with a franchise model, like McDonald's and Wendy's seeing negative equity, wondering if that's just a part of the franchise business, but also, the core question is, what is negative equity mean for stockholders? You know, how can you own stock in a company that has negative equity? Is it a sign of bankruptcy? I'm kind of new to this type of thing, so I appreciate you taking the question. So, at its core, negative equity and what it means for investors?

Gillies: That is a great question. And congratulations that you are 12 years old and you're like this, I think this is fantastic. Let's hit the franchise model first, because what you're talking about, the franchise models are often very asset light, very cash heavy. So, you don't actually need equity on the balance. The balance sheet, the famous equation is assets are equal to liabilities plus equity. Okay. So, you might say, well, in this case, if equity is negative, doesn't it mean that there's more liabilities than there are assets? And that's exactly what it means. You know, the equation must hold.

But it's not necessarily a bad thing. In fact, most of the time it's not a bad thing at all. If a company is very asset light. So, franchise business models, your Domino's and Tim Hortons and whatever, these are -- basically, think about the business model here, OK, a franchising business model is, I call them check cashing machines. Every month, the first of the month, you, Chris, you bought a franchise from me, so you send me a check for 6% of your gross revenue; not net, gross. Regardless of what happens in your business and how you're managing your cost, I get 6% of your revenue every month. That's a pretty good deal. I've sold you a system, but I'm not paying for the real estate, I'm not paying for the workers, yada-yada. So, I just go cash your check and I'll see you next month and we're going to do this again. And I do that several thousand times if I'm a successful franchisor, like Domino's Pizza or Restaurant Brands International, which owns the aforementioned Tim Hortons or Burger King. So, you always think about the type of business you're dealing with, OK.

Now, when you look at a company's balance sheet, it has negative equity. And I see in the question here as well, you kind of mentioned two companies that are really great examples of the phenomenon. You mentioned Wayfair and AutoZone. And you generally get negative equity on the balance sheet via two pathways. One is, the company is losing money, posting GAAP, Generally Accepted Accounting Principles, GAAP losses. Okay. And a loss on the income statement, when it transfers over to the balance sheet, lands on the equity account, lands in there in the concept of retained earnings. So, one way, I would argue, the less cool way for a company to get negative equity is it's been a money loser for several years. And if you look at the historical track record of Wayfair, Wayfair has been losing money for years. So, that's why Wayfair has negative equity.

The cooler, better for you as an investor, reason why a company might have negative equity is, in the other company that was mentioned in the question, which was AutoZone. And AutoZone makes a ton of cash every year, and I care about cash, I'm a cash flow guy. So, they make a ton of cash every year and what they choose to do with that cash is they buy back their own stock on the market and they shrink the number of shares outstanding. So, every share that remains outstanding now owns a proportionately larger share of the business. And again, when you buy back shares, the accounting treatment for that is, that is seen as a use of the owner's equity or the equity account on the balance sheet. It doesn't mean that the business is struggling, doesn't mean that the business is in trouble, far from it.

I look at AutoZone, for example, they look like they did about, yeah, $2.2 billion in cash flow in the last year, they added about, yeah, you know, look, they added about $300 million in debt and then they bought back just shy of $1 billion in stock. And they've been buying back AutoZone, looks like they've been buying back about $1.5 billion, close to $2 billion a year for years. And that drains the equity account, but they make a ton of cash. They're not going bankrupt, they're going to laugh at you, if you say they're going to go bankrupt, they're just using the cash they generate plus a little leverage in times like, when you have zero interest rate. They're doing that to increase your share of the business, and I think that's pretty good.

Hill: Going back to something we talk about from time-to-time when we're looking at company management is, how good are these people at capital allocation? There are a lot of different ways to spend money when you're running a business. You can spend it investing in the business, you can spend it on buybacks, you can spend it on dividends. And the longer a business sticks around, the longer a management team sticks around, the longer the track record that we as investors get to evaluate. And as you said, AutoZone's track record is phenomenal in that regard.

Gillies: It's pretty good.

Hill: Jim Gillies, always good talking to you. Thanks for being here.

Gillies: Thank you.

Hill: As always, people on the program may have interest in the stocks they talk about, and The Motley Fool may have formal recommendations for or against, so don't buy or sell stocks based solely on what you hear.

That's going to do it for this edition of MarketFoolery. The show is mixed by Dan Boyd, I'm Chris Hill, thanks for listening, we'll see you tomorrow.