Xero – Share price good value does MYOB need to rebound?

Found an interesting article from the Motley Fool blog on Xero growth prospects and documented a few personal observations for discussion.

March 2015
Cloud computing accounting software provider, XERO FPO NZ (ASX: XRO) (http://www.fool.com.au/company/?ticker=ASX-XRO), today announced it has surpassed 200,000 Australian customers as it continues on its impressive growth trajectory.

Shares of the New Zealand-based company have been on a volatile ride since it listed on the ASX in late 2012. Its shares soared to almost $42 in early 2014, but have retreated to $23.60 today.

However, Xero’s operational growth has been impressive.

For example, here in Australia, the company has almost doubled its paying customer base since 31 March 2014, when it had **109,000 customers**.

Chris Ridd, Xero Australia’s Managing Director said, “We believe we are now truly in the “early majority phase of adoption.”

Which if we are to use accepted research principles could indicate an expected penetration in excess of 400,000 customers by the end of the Late Majority phase?

Image result for early adoption phase

“We expect to see significantly more small businesses upgrade from traditional accounting products in the coming months and years,” Mr Ridd said.

In another article published June 2014 in response to MYOB claims it has 250,000 customers Ridd (of Xero) is not convinced by MYOB’s numbers, stating that Xero is signing up 400 Australian customers / day where 40% are 1st time users and 60% are former MYOB customers.

That being the case, and assuming this happens 40 weeks of the year, would be a trend of 48,000 per year switching from MYOB to Xero, diminishing MYOB customer base which lets say for arguments sake is 200,000 of to a mere 28% of its former self in 3 years (slow death).

Image result for early adoption phase

Looking at the pattern we observed as Sales Force replaced Siebel as the “new kid on the block” for corporate CRM, Xero also has a degree of novelty fueling its penetration, coupled with a vision for “beautiful software”. Xero was the first to promote itself as being a platform for the businessmen and accountant to collaborate in managing finances. But Xero and MYOB UI will date, and both will need to remain nimble enough to innovate if the want to return to or sustain growth in multiples in the coming 5 years.

Xero is currently expanding across New Zealand, Australia, the USA and UK.

After a slow start in the huge U.S. market, Xero recently announced (http://www.fool.com.au/2015/02/25/heres-why-xero-fpo-nz-has-rocketed-up-25-today/) the appointment of experienced key management personnel and welcomed a US$100 million cash injection from Silicon Valley-based venture capital firm, Accel Partners

It will be interesting to see how things play out with Xero attracting the next round of capital, it would appear some of that 100 million has already been put into brand development, and we would hope it would also be used for operational capability and innovation.

The other observation I have is (I personally felt) that the first MYOB applications looked and operated as if it was a rushed attempt to “create something that works in the cloud”. At that time the MYOB website seemed to offer Cloud, and on-premise solutions as if they were comparable options. This is of concern because unlike MYOB, Xero is apologetically a cloud only solution, and this is in part a successful strategy as it indicates company “focus”. Now Xero was first to add innovation that made it simple to use gateways to financial institutions (i.e. bank reconciliation), improved software for reporting and bank reconciliation, and the UI is generally well designed from a heuristic and cognitive stand point. Whereas the MYOB I reviewed was clunky and appeared incomplete. Sitting in a restaurant in Sutherland I could not help but overhear two businessmen discussing the differences. One man was frustrated by the way MYOB handled BAS, the other encouraging him to switch to Xero and explaining how Xero handles this.

The other difference is the Xero API appears to of attracted third party developers to create their own applications that work with Xero. MYOB also provide this but again I found the Xero API easy to follow. Sales Force successfully used this technique to build initial channel, but I have troubling reports from a few CEO’s I met, who built add on applications to partner with Sales force. The impression left on me by these reports was that Sales Force still have lessons to learn about “playing nice” with their friends, putting adoption ahead of quarterly returns would be a good start.

Putting all this together one could summarize by saying that Xero already has operational capabilities and competitive advantage that MYOB does not have and may not even be aware that it needs yet (as far as could be perceived from their website).

One thing is certain that as our world moves out of its fascination and attraction to the novelty of cloud computing, and begins to face the stark reality of making profit with it or from it, all cloud technology companies will be presented with the challenge of making the customers perception of value central to business strategy, and history will repeat itself making operations capability central to business strategy and competitive advantage.

For my money I have divested myself of Xero in all portfolios for the short term, but I agree with Owen Raszkiewicz if they can sustain momentum make profit and/or MYOB drop the ball they are worth having a look at again.