Xero - Cloud accounting platform

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Hi all,

I thought I would share my favourit “australian” business (its actually New Zealand, but listed on the Australian Stock Exchange). OK, here goes:

About Xero: Native SAAS cloud accounting platform for small business – “when small business is beautiful business”. Its mission is to disrupt traditional accounting software (i.e. Intuit).

Founder Leadership – Rod Drury was the founder of Xero. He has stepped down as CEO, but remains as a NED and innovation advisor.

Revenue:
2015 - $120.9 M NZD
2016 - $207.1 M NZD = 71% Growth on PCP
2017 - $295.4 M NZD= 43% Growth on PCP
2018 - $406.6 M NZD = 38% Growth on PCP
2019 (forecast) - $545 M NZD – 34% Growth on PCP

Market Cap: $7.2 B NZD
P/S ratio: 13
2018 Operating Cashflow: $41.2 M NZD ($+46 M on 2017)
Gross Margin: 81% (up from 76% in 2016).
Customer Churn: stands at 1.1% monthly recurring revenue.
S & M expenses: 53% of op ex. (56% in 2017)
R & D expenses: 33% of op ex. (31% in 2017)

Market and Competition:

Australia & NZ: Has clear market leadership. +30% pa revenue growth. 884k subscribers at March 2018.

UK: Has market leadership, ahead of intuit and sage. 60% pa revenue growth. 334k subscribers at March 2018.
Uk will be Xero’s growth engine for the next few years, with UK laws forcing small business to cloud accounting platforms in the near term.

North America: Intuit the dominant competition. 28% revenue growth – 132 k subscribers (43% subscriber growth).
Intuit is formidable competition. They have responded well to the threat Xero poses (although Intuit are encumbered with a desktop platform they need to support, and were slow to switch to the cloud). US Small business has been very slow to switch their accounting to the cloud, and also have different relationships to accounting practices in comparison to Commonwealth nations such as the UK, which means Xero has had to adjust their strategy in the US.

Rest of the Works (ROW). Its early days, but Xero appear to have the lead in Asia. 47% pa revenue growth – 58k subscribers.

The Strategy Going Forward:
Xero will continue to grow and expand due to the huge tailwind behind cloud accountingand their market leading product. They have also introduced other services / software, with the goal of becoming a small business platform = adopting the “land & expand” strategy.

It doesn’t have Saul company like revenue growth rates, but I believe 25%+ growth rates can be sustained for years to come.

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Comparing investments gets kind of difficult but two measures are comparable, provided there are no red flags, Growth and Price to Sales (P/S). These two also tend to correlate, higher growth rate makes for higher P/S.

I’m going to make the bear case. The following list is based on stocks I’m interested in. They are all high growth but not all super-duper-Saul types. My cutoff point is at 20% historic growth. Where available I’ve included links to long term charts


MDB     19.76 - IT database
ALGN    16.36 - healthcare [https://invest.kleinnet.com/bmw1/stats16/ALGN.html](https://invest.kleinnet.com/bmw1/stats16/ALGN.html)
V       16.15 - finance
NVDA    13.81 - IT processors [https://invest.kleinnet.com/bmw1/stats16/NVDA.html](https://invest.kleinnet.com/bmw1/stats16/NVDA.html)
XERO    13.00 - IT software
PVTL     8.62 - IT 
NEOG     8.51 - healthcare [https://invest.kleinnet.com/bmw1/stats25/NEOG.html](https://invest.kleinnet.com/bmw1/stats25/NEOG.html)
BEAT     5.25 - healthcare
PSTG     4.95 - IT storage
ODFL     3.35 - trucker [https://invest.kleinnet.com/bmw1/stats25/ODFL.html](https://invest.kleinnet.com/bmw1/stats25/ODFL.html)

MDB, ALGN, NVDA are more than likely to take more that half the market which is a good reason to be at the top of the list. V is leader in credit cards and it’s not a business to support a long tail - it’s a duopoly. Trucking is a highly fragmented industry, no wonder ODFL is at the bottom of the list. Is a P/S of 13 warranted for XERO?

North America: Intuit the dominant competition. 28% revenue growth – 132 k subscribers (43% subscriber growth).
Intuit is formidable competition. They have responded well to the threat Xero poses (although Intuit are encumbered with a desktop platform they need to support, and were slow to switch to the cloud). US Small business has been very slow to switch their accounting to the cloud, and also have different relationships to accounting practices in comparison to Commonwealth nations such as the UK, which means Xero has had to adjust their strategy in the US.

XERO has to be localized unlike MDB, ALGN, NVDA and V.

XERO has ForEx risk as it does not trade in US exchanges (in USD).

I don’t think XERO has a place in a concentrated portfolio but it might in a diversified one.

Denny Schlesinger

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Thank you for you thoughtful post Denny, a couple of comments on your response:

“XERO has to be localized unlike MDB, ALGN, NVDA and V.”

What do you mean by this? Do you mean it does not have global domination? I see where you are coming from, but a huge addressible market is still at hand.

“XERO has ForEx risk as it does not trade in US exchanges (in USD).”

IMHO there is forex risk in holding soley local (U.S) businesses - you have no hedge against a fall in the USD.

“I don’t think XERO has a place in a concentrated portfolio but it might in a diversified one.”

I agree, it is shy of the growth rates, and early stage market dominance of ZS adn MDB. II’ll try harder :slight_smile:

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“XERO has to be localized unlike MDB, ALGN, NVDA and V.”

What do you mean by this? Do you mean it does not have global domination?

I think that what he meant by that is that each country has its own accounting rules, and thus Xero would have to make an adaptation to each one, while Nvidia can sell the same chip everywhere, and Mongo can do the same NoSQL storage (or whatever it does😀) anywhere. That was my understanding of what he meant. Xero can’t just make an accounting program and market it everywhere. Accounting is local.
Saul

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“XERO has to be localized unlike MDB, ALGN, NVDA and V.”

What do you mean by this?

What Saul said: “I think that what he meant by that is that each country has its own accounting rules, and thus Xero would have to make an adaptation to each one, while Nvidia can sell the same chip everywhere, and Mongo can do the same NoSQL storage (or whatever it does😀) anywhere. That was my understanding of what he meant. Xero can’t just make an accounting program and market it everywhere. Accounting is local.”

Do you mean it does not have global domination? I see where you are coming from, but a huge addressible market is still at hand.

It just costs more if you have to customize for each market. BTW, you do have to use the local language, date and number formatting, in addition to the local accounting and tax rules.

IMHO there is forex risk in holding soley local (U.S) businesses - you have no hedge against a fall in the USD.

As a small individual investor I want my stocks to be in the same currency that I live on. What you say is true if I were a multinational. My best guess is that the majority of Saul’s posters are small individual investors living in the US$ world. I learned this lesson even before I became an investor. The broker for my Mom’s managed account bought some solid Canadian bonds but the Loonie fell and my Mom lost money in US$ terms.

II’ll try harder :slight_smile:

I think you are doing great!

Denny Schlesinger

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