Slack talks up enterprise adoption as it posts Q2 results

Phil Wainewright Profile picture for user pwainewright September 5, 2019
Collaboration vendor Slack has released its first post-IPO results but markets didn't take kindly to the company's cautious outlook and long-term approach

Stewart Butterfield CEO Slack at Frontiers 2019 by @philww
Stewart Butterfield on stage at Slack Frontiers in April

Commenting on its first quarterly results yesterday since going public in June, collaboration vendor Slack celebrated passing a key milestone in paid customer numbers, and was keen to highlight enterprise wins, in particular against competition from incumbent rival Microsoft. But despite the company beating expectations, investors were spooked by an over-cautious outlook and sold off the stock to an all-time low when markets opened today, though prices later recovered most of the day's lost ground.

The good news was that Q2 saw strong revenue growth of 58% year-on-year and passed a key milestone of 100,000 paid customers in the quarter. The number of larger customers spending over $100,000 annually was up 75% since a year ago, at 720. Existing customers are spending more too, with a net dollar retention rate — the total of renewals and upsells less churn — standing at a solid 136% at the end of the quarter.

CEO Stewart Butterfield emphasized enterprise successes across the globe in prepared remarks during the after-hours earnings call. He referenced seven-figure deals with a top telecoms provider and a systems integrator in Japan, and in Europe with "one of the world's largest retailers of home goods." Slack is now enterprise-ready, he proclaimed:

Over the years, as we launched the Enterprise Grid product, scaled to teams of over 100,000 users, added key features for our security, administrative control and compliance, we began to see real product market fit for the large enterprise use case. Now that fit is clear. This quarter saw win after win in the largest companies in the world.

Customers expanding their usage included a major global bank and a media conglomerate, while a leading financial services firm was rolling out Slack to all of its 50,000 employees in a vote of confidence in recently introduced security and compliance features, he said. In a dig at Microsoft Teams, which recently outgrew Slack in daily active users, he added:

Of course, like most of our large enterprise customers, they run on Office 365. They still chose Slack because only Slack was capable of meeting their needs.

Shared channels to spur enterprise growth

The company expects further growth in enterprise adoption thanks to the emergence from beta later this month of shared channels, which allows Slack customers to securely collaborate with external partners, suppliers and their own customers, while maintaining internal controls and policies. More than 20,000 paid customers have already adopted the feature in beta. Butterfield believes shared channels will trigger an important "network effect" that will see Slack expand in customer support, marketing, and other areas:

We are already seeing customers choose Slack because of shared channels. We had a big win this quarter with a major American sports league beginning to use shared channels to communicate with their franchises, a network made up of the league, the teams and their partners. We even saw a large media streaming service requiring its creative agency to adopt Slack so that they could use shared channels to collaborate.

But Slack's reluctance to lift growth projections despite all this good news wasn't well received by the markets. The company maintained guidance of around 47% revenue growth for Q3, and full year guidance of 51%, which will see annual revenues come in just above $600 million.

There was other bad news too, as the company revealed an $8 million hit to revenue due to outages during Q2. Uptime slipped from its 99.99% SLA target to 99.9%. While that's still less than an hour per customer in total, it triggered penalty payouts under early contracts which Butterfield described as "outrageously customer-centric." The contracts have since been rewritten, he added.

The company is investing in the necessary talent to overcome these issues, he said, stating that the outages were due to the strains Slack's success has been putting on its infrastructure:

We continue to hit limits that we didn't realize were built into the system.

Slack continues to lose money at a significant rate, too, with negative operating margin of 38% for the quarter, and projected to rise. Although one-off costs of $28 million related to the IPO won't recur, sales and marketing spend is set to rise again.

Playing a long game

In answers to analysts, Butterfield still seemed to be intent on playing a long game rather than looking for short-term wins. What matters to the company is making sure users have a good experience with Slack rather than signing them up on paying contracts, he insisted:

The paid conversion ... is honestly less of a priority for us right now compared to getting those teams successful .... there's a lot of organizations using Slack for things that we don't think we will ever monetize such as organizing and scheduling teams for a kids soccer league. Those are still great for us.

We love those because they expose Slack to new people and that drives more customer growth down the line.

He also candidly admitted that Slack hasn't yet figured out how best to help customers understand how to use the collaboration platform:

We're not where we want to be in providing support for self-served customers to make it over the line of success. We're still in the very early days of providing our sales teams with the tools that are going to be most effective in helping them get customers to understand Slack.

In larger organizations in particular, the shift to new ways of working can be difficult to introduce right across the enterprise. Slack will have to work harder to support that change management effort, especially as digital collaboration spreads outside of technology teams where it has become more familiar:

People have been using this method of working for years on the technical side. And as we start to adapt those workflows and build those integrations and to offer the user education that supports change management to work with customers, I think you'll see that rate increase.

What's most important at present is giving people the best user experience as they transform to these new ways of working, he said:

The user experience matters because Slack is where work happens. For our paid users, it's nine hours a day connected and 90 minutes of active usage every working day. It's the first work app you check in the morning and the last you check at night.

Without that kind of engagement, that aggregated attention, you don't actually get the benefit of the transformation from inboxes to channels, the transformation from an individual-first approach to communication to an organization-first approach. We believe this transformation is inevitable.

That's why Slack continues to focus on ease of adoption and delivering customer value, he concluded:

Our history of strong bottoms-up adoption is a vital factor in our success. We only win if people choose Slack, and they only choose Slack if it provides real value to them. There is no other path. We can't rely on bundling or superior distribution or sunk cost of entrenched products. In the long run, the measure of our success will be the value we create for customers.

My take

As we saw with the reaction to Dropbox's results last month and now Slack's this week, investors are impatient to see evidence of continued growth from these digital collaboration vendors and skittish when doubts emerge. But Butterfield is right to stick to his guns and focus on customer adoption and value. Educating the market is a crucial undertaking for all of these vendors if they are going to succeed, and that requires time and patience. It's not a short-term play.

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