Slack Direct Listing: What Investors Need to Know About the Non-IPO

Slack is finally going public this week—but don’t expect an IPO.

The workplace messaging company is opting instead for a so-called direct listing.

Unlike an ordinary IPO, a direct listing means the company doesn’t issue any new shares and doesn’t raise additional capital. It’s primarily a way for company insiders to sell some of their holdings to investors, while bypassing the formidable fees and requirements of using an underwriter. As Fortune has reported, only companies that are in excellent financial shape and already have widespread name recognition are good candidates for direct listings.

According to the most recent reports, the collaboration software company will be seeking a $16 billion to $17 billion valuation—over double their value during their most recent private valuation of $7 billion.

However unlike IPOs, direct listings carry a unique set of challenges and considerations. Here’s what investors should look for.

Watch for volatility

Although Slack’s listing won’t have the same kind of investor hype as other stocks that went the traditional IPO route like Lyft or Zoom, analysts suggest watching for volatility to gauge the true market value of the company’s stock.

“Clearly what we’re going to be looking for on the day of is how stable the stock is in the immediate trading, because obviously there are no professional underwriters and market makers that are paid to stabilize the stock,” says Jane Leung, the managing director and chief investment officer at Scenic Advisement, a bank for private companies.

In terms of volatility, Leung thinks Spotify—which debuted last year via a direct listing—set a good precedent for Slack stock to follow. She says that investors saw the Spotify direct listing as very orderly compared to other more traditional IPOs.

But investors likely shouldn’t be too concerned about another Lyft or Zoom situation in terms of market volatility.

According to Eric Jensen, a partner at Cooley LLP, investors shouldn’t be seeing a lot of “fireworks” with the Slack debut.

With the pure supply-and-demand nature of listings like Slack, investors should monitor—but likely not be too concerned about—volatility in the first few days of trading.

Will they follow-on?

Although analysts are speculative about Slack’s future plans, some suggest the company may do a so-called follow-on offering—a sort of second issuing of stock typically a few months after its first release to the public.

“It’s possible that anybody that does a direct listing just does a follow-on offering a month from now and it just looks like an IPO, it’s just a funky-looking IPO,” Deloitte & Touche Partner Barrett Daniels said. If Slack were to go down the follow-on offering route, Daniels suggests, other concerns about the possible short-sighted nature of foregoing the opportunity to raise cash—especially in an uncertain market when an extra billion couldn’t hurt—would be reduced.

And other analysts like Jensen suggest that if Slack sees an increase in trading prices from their $16 to $17 billion target, then “they’d be crazy not to say, ‘well, even if we don’t want to take too much dilution, … at these prices, why not raise an extra x billion.’”

If investor demand is high, as several analysts suggest it may be, Slack could see a subsequent debut as an option.

“There is a lot of investor appetite for [collaboration software],” said Rishi Jaluria, the senior vice president and senior research analyst at D.A. Davidson & Co.

Regardless, Slack’s already ample cash in the bank, a reported $841 million in 2018, according to the company’s S-1 filing, could last the company an additional 8.6 years at its current burn rate.

Keep an eye on growth

One thing to watch, say analysts, is the company’s growth.

Although growth declined slightly from the previous year, Slack’s revenues still grew about 82% in 2018. And most analysts remain bullish.

“The growth story and aftermarket performance of recent workplace collaboration businesses should give investors something positive to latch onto,” Cameron Stanfill, VC analyst at PitchBook, wrote in a note. And Stanfill isn’t alone.

While Slack’s growth has slowed slightly, Leung says that is typical for maturing companies. “They do have a lot of growth prospects…but even if they end up losing some of the value or don’t make quite a $16 or $17 billion valuation, they’ll still be a very strong tech company with a lot of headway,” Leung said.

According to the company’s latest projections, Slack expects to generate at least $590 million in revenue in the 2020 fiscal year—which would give the company a growth rate of 50% compared to the previous year.

In fact, Bloomberg Intelligence estimates Slack could generate up to 65% of their revenue in the next year from free-to-premium conversion—something investors bullish on the workplace communication system should keep an eye on.

Direct listings may not be the future of IPOs

But despite the nature of the listing, Slack’s decision to go with a direct listing over the traditional IPO stirs up questions on Wall Street—including the viability of ditching underwriters (and their standard 180-day lockups) altogether.

Some analysts see the path companies like Spotify and now Slack are blazing as a new direction for unicorns.

“I do think that it will be a bit of a milestone in the journey of how the IPO window has changed,” Leung said. “A lot of tech companies are not that keen on the traditional banking fees, and I think that the times are really changing.”

Leung says that since more and more money is being raised from the private markets in recent years, direct listings are entirely feasible for the right candidates (i.e. those with the right cash flows).

But despite the hype, plenty of other analysts see the Spotify (and potentially Slack) success story as a one-off.

“I think direct listings of these significant unicorns is still a bit of a new world,” Daniels said. Daniels believes traditional IPOs aren’t going anywhere, and that they’ll be “a significant part of the capital markets for the foreseeable future.”

“Two is a trend, but it’s not a terribly meaningful trend,” Daniels said.

With the universe of “unicorns” (private companies valued at $1 billion or more) now around 400 according to Daniels, he estimates only about 10—or roughly 2.5%—will be good candidates for the direct listing approach.

We’re guessing some of them will be side-slacking about that very topic tomorrow.