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Slack Is on Fire as a Company, but WORK Stock Is Too Richly Valued

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On the heels of what has been a blazing fast surge in tech stocks to record highs, I’ve been consistently harking back to one saying: don’t let the fear of missing out drive you into the right stock at the wrong price. That saying seems especially relevant to work from home favorite, Slack (NYSE:WORK). Even though it seems as if it’s popping, I don’t see this as a great time to get in on WORK stock.

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By all metrics, Slack is the right company. Great product. Growing demand. Huge growth. Great margins. Tons of long term potential.

But WORK stock is trading at the wrong price.

So don’t chase this rally. Instead, let the work from home hype die down. Let the WORK stock price fall back into tangible territory.

Buy that dip.

Until then, let patience be your best friend.

Slack Is the Right Company

Make no mistake about it. Slack is a long term winner.

Enterprise communication software is increasingly becoming mission-critical. This isn’t just a work from home thing. Even for employees that work in-office, a centralized enterprise communication platform like Slack is of increasing importance, since it allows team members to seamlessly, instantaneously and securely communicate and collaborate with one another.

Inevitably, enterprise communication tools will reach global ubiquity within the decade.

Slack is a leader in this market. Growing at a super-fast pace (50% revenue growth last quarter). With a great financial profile (gross margins of almost 90%). A smart pricing model (which should yield higher revenue per customer as more employees in an office use the service). And a ton of long term potential (only 122,000 paying customers today, out of 3+ million small-to-medium sized enterprises globally that could use Slack).

In other words, it’s clear that Slack will grow its customer base by leaps and bounds over the next several years. Average revenue per customer will rise, too. Overall revenues will grow at a steady 15%+ pace. Big gross margins will drive positive operating leverage and significant net profit margin expansion. Significant margin expansion on top of 15%+ revenue growth implies huge profit growth potential in the long run.

As go profits, so go stocks.

Net net, WORK stock is a long term winner, thanks to robust profit growth prospects over the next few years.

Slack Stock Is Trading at the Wrong Price

While WORK stock is a long term winner, it’s not a near term winner.

That may seem counter-intuitive. After all, the current environment lends itself to huge adoption and demand tailwinds for Slack. But, on the heels of 50% rally year-to-date, WORK stock is already priced for these tailwinds.

Indeed, shares trade at 27-times forward sales. The S&P 500 trades at 22-times forward earnings.

Yes. You read that right. WORK stock’s forward sales multiple is notably bigger than the market’s forward earnings multiple.

That doesn’t make much sense. Of course, Slack has huge long term profit growth prospects. WORK stock should trade at a premium. But today’s premium is a stretch.

My base case model on Slack is quite optimistic. It calls for 10%+ revenue growth per year into 2030, and operating margin expansion from sub-zero today, to 30%+ by then. Those assumptions pave a path for Slack to net $2 in earnings per share by 2030.

That’s not enough to warrant today’s price tag.

Based on an application software sector-average 35-times forward earnings multiple and a 10% annual discount rate, that implies a 2020 price target for WORK stock of under $30.

Bottom Line on WORK Stock

Long term, I love WORK stock. You have an innovative company. Supported by rising demand tailwinds. With an attractive financial model and huge long term profit growth potential.

But, in the near term, WORK stock is fully priced for all of those positives. And then some.

Don’t let fear of missing out on the work from home megatrend force you into WORK stock at the wrong price.

Instead, exercise patience, and wait for a better entry point.

Luke Lango is a Markets Analyst for InvestorPlace. He has been professionally analyzing stocks for several years, previously working at various hedge funds and currently running his own investment fund in San Diego. A Caltech graduate, Luke has consistently been recognized as one of the world’s top stock pickers by various other analysts and platforms, and has developed a reputation for leveraging his technology background to identify growth stocks that deliver outstanding returns. Luke is also the founder of Fantastic, a social discovery company backed by an LA-based internet venture firm. As of this writing, Luke Lango did not hold a position in any of the aforementioned securities.

The post Slack Is on Fire as a Company, but WORK Stock Is Too Richly Valued appeared first on InvestorPlace.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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