Xero: Result 2017

Hold the phone, Xero is now cash flow positive.

Xero has reported an impressive set of results for the year to March. It’s hard to find many negatives.

Subscriber numbers grew at 44% to reach 1,035,000 by year end. The standout region was the UK which expanded by nearly 60%, pushing Xero into a market leading position there (alongside Australia and New Zealand).

It is becoming cheaper for Xero to acquire new subscribers (customer acquisition costs – or CAC – are down) and fewer are leaving (churn in committed monthly revenues – CMR – is down), two hallmarks of a robust SAAS (software as a service) business. Marketing spend continues to be high (but lower as a percentage of revenue), but this still seems justified given success adding customers and enhancing lifetime customer value. 

Due to its continued rapid growth, an inflection point was reached in the second half with operating cash flow lifting into positive territory. While only wafer thin at $9m (compared to its $3bn enterprise value), Xero looks set to add to this with further subscriber growth. This reduces the risk of equity raisings and allows Xero to begin to ‘grow into its valuation’. For more of the nitty-gritty, CEO Rod Drury summarises it here.

Xero is now making predictive software using machine learning techniques that tap into its trove of data (it processed $1.4 trillion of transactions in FY17). Users of its ‘code free accounting’ no longer have to categorise a transaction manually; Xero attempts to do it for them.

We cannot vouch for its accuracy, but the trend is clear: Xero is attempting to be so easy to use that anyone can use it. If successful, this strategy would expand the addressable market beyond accounting-savvy types, add to Xero’s pricing power and put it further ahead of competitors.

Xero now has its sights on reaching $1bn of revenue (versus annualised committed revenue of $360m currently) and, given the current momentum, that seems to be a matter of when rather than if. While we are not brave enough to buy into this highly priced, unprofitable business, it remains firmly on our watch list. HOLD.