Slack DPO And Direct Listings: Considerations For Investors

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Includes: FB, MSFT, WORK
by: TD Ameritrade
Summary

Slack is expected to go public via a direct listing in Q2 2019.

Learn how the direct listing process differs from a traditional public offering.

Before investing, do your homework and consider the risks.

Slack (WORK) hopes to disrupt email just like email disrupted the fax machine—making it technology from the olden days.

The workplace collaboration application company, which is planning a stock placement on the New York Stock Exchange, says its app has replaced email for many organizations. Slack calls email communication frustrating because it creates “fragmented silos of inaccessible information, hidden in individual inboxes.”

“We believe everyone whose working life is mediated by email is a potential Slack user… We further believe that the shift to Slack, or services like Slack, is inevitable,” Slack said in its April 26 Form S-1 filing with the Securities and Exchange Commission (SEC). It sees a $28 billion market opportunity in its space, where it faces significant competition. Slack’s valuation is just over $7 billion.

Virtual Conference Room and Water Cooler

Slack, which launched in 2014, thinks it’s hit the sweet spot in an economy that’s become far more mobile. The trend today toward working from home and having employees in distant spots around the country, and even the globe, means companies are looking for ways to keep the gang together, even when they’re apart. Slack banks on becoming a kind of virtual water cooler.

Companies that use Slack often encourage group “chats” on the application, sharing jokes, birthday greetings, and updates across time zones. Perhaps more important, Slack says, people use the app to share ideas. Conversations on the app can be between just two people or across groups of people, providing options to have private or public communication. Users can even participate in Slack calls when they want to hear each other’s voices or attend virtual meetings with screen sharing.

About 10 million people use Slack daily in more than 150 countries, according to Slack’s Form S-1. The company points out that users spend an average of 90 minutes or more per day on the app, perhaps a sign that people are incorporating it into their workflows.

One issue for the company is whether more people will eventually be willing to pay for what it offers. Although Slack does have more than 88,000 paid customers, it also has more than 500,000 organizations on its free subscription plan, according to the S-1.

Revenue in fiscal 2019 was $400.6 million, up from $105.2 million in fiscal 2017, Slack said. Revenue grew 82% in fiscal 2019. Still, the company continues to lose money on a net basis. It generates revenue primarily from the sale of subscriptions for Slack, and says one of its goals is to increase its paid customer base.

Another potential risk factor the company highlights is one that many social networking companies face: privacy.

“A security incident may allow unauthorized access to our systems, networks, or data, or the data of organizations on Slack,” the company warned in its filing. An incident like that could “harm our reputation, create additional liability, and harm our financial results.” Investors might have concerns about this after all the scrutiny of Facebook (FB), Alphabet (GOOG, GOOGL), and other companies over the last year or two, including from the U.S. government.

The company also points out that there’s lots of competition in its space. It’s not exactly going up against any tadpoles, citing GOOGL, FB, and Microsoft (MSFT) as competitors. All have much deeper pockets.

According to the S-1, shareholders (basically early investors and insiders) are expected to release up to $200 million in Class A common shares. They’ll trade on the NYSE under the ticker symbol WORK. Because it’s a direct release from current shareholders to whomever wishes to buy them, WORK will receive no proceeds from the transaction; shares will just start trading on the open market.

This is what’s known as a direct listing.

What’s a Direct Listing?

Typically, when a privately held company wishes to sell shares on the public markets for the first time, it has what’s known as an “initial public offering” or IPO. This may raise capital to fund operations or other company initiatives, or may simply reward owners and early-stage investors.

A typical IPO involves one or more investment banks, which help to ensure there will be a market for the shares once they’re released to the public. These banks provide research reports and analyst coverage, and they help the company promote the stock offering to potential investors in what’s known as an IPO roadshow. Perhaps most important, the investment bankers underwrite the stock, meaning they set a reasonable price floor in hopes of minimizing volatility surrounding the opening price.

With a direct listing, there’s no underwriter setting the opening price. Instead, it’s determined by supply and demand—the buy and sell orders collected by the exchange—with a designated market maker assigned to facilitate order flow and help ensure an orderly market.

Investing in Newly Public Companies

Regardless of how a company chooses to go public, you should follow the same set of IPO considerations before making the decision to jump in. Here are a just a few:

  • Getting in early. Some IPOs and new direct listings can see big gains in a short period as investors determine the company’s value in the marketplace. But that can work both ways. Sometimes the marketplace has overestimated the company’s ability to deliver value to shareholders. A company might have strong growth prospects but burn through all its available cash before it gets to that growth period. Newly public companies typically don’t have a history of publicly available fundamental data from which to determine value, so it can be a leap of faith to invest.
  • The brand versus the business. A company might make a great product that you love, but that doesn’t necessarily mean it’s a viable business, nor a value at the IPO price. Some companies tend to be overhyped ahead of an IPO. Make sure your objectives don’t get overshadowed by emotions.
  • Understand the broader market. In general, newly public shares tend to perform well when the market is doing well. So even a fundamentally solid stock can get dragged down by a market downturn.

Slack shares are expected to begin trading in Q2 2019. If you’re thinking about jumping in, make sure you do your homework and stay within your objectives and risk tolerance. You might consider watching from the sidelines for a while, or entering the market in stages, rather than all at once.

TD Ameritrade® commentary for educational purposes only. Member SIPC.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.