Could the Xero (ASX:XRO) share price be a quality buy?

australian one hundred dollar note representing xero share price

Might the Xero Limited (ASX: XRO) share price be quality idea to think about at the current level?

Xero is a leading business in the cloud accounting tech space. It started in New Zealand, but the business has now built large subscriber bases in places like Australia (where it has more than 1.1 million subscribers) and the UK (with over 700,000 subscribers).

Xero share price rises as ecosystem grows

The cloud accounting business has been busy making acquisitions in recent times, including Planday for €183.5 million, Tickstar for SEK150 million and Waddle for A$80 million.

Waddle is an invoice lending platform that uses customers’ accounting data. Planday is a workforce management platform for employers and employees. Tickstar technology provides connections to the Peppol global e-invoicing network.

The strategy of Xero is to grow its small business platform and drive cloud accounting, which will help build for global scale and innovation.

Xero can become even more attractive to subscribers, accountants and financial advisers if its ecosystem is able to offer more services that the business needs.

Planday in-particular was the biggest acquisition. It offers a number of useful benefits for businesses including employee scheduling, time tracking and attendance, payroll compliance and reporting. At the latest update, it was operating in Denmark, Norway, Sweden, the UK, Germany, France and the US.

Strong unit economics

Xero continues to see growth in some of the most important metrics of the business, which might be useful for the Xero share price over time.

For example, the gross profit margin was 83.6% in FY19, grew to 85.2% in FY20 and rose again to 86% in FY21. Management explained that the gross margin improvement was driven by continuing efficiencies in cost to serve, including customer support and cloud hosting services.

The company’s customer acquisition cost (CAC) as a percentage of revenue continues to improve. In FY19 the CAC as a percentage of revenue was 44.9%, falling to 43.6% in FY20 and improving again to 36.3% in FY21. The less it costs to win customers, the higher the profit margins can go.

In FY21, Xero’s operating revenue increased 18%, thanks to subscriber growth of 20%. Free cashflow surged 110% to NZ$56.9 million.

Outlook

The Xero share price can be affected by what management say about the outlook.

The company is going to keep focusing on growing its global small business platform and maintain a preference for re-investing the cash generated, subject to investment criteria and market conditions, to drive long-term shareholder value.

Total operating expenses, excluding acquisition integration costs, as a percentage of operating revenue for FY22 are expected to be in a range of 80% to 85%, which is consistent with levels seen in the second half of FY21 and the pre-pandemic period.

The acquisition of Planday is expected to contribute approximately three percentage points to operating revenue growth in FY22.

Is the Xero share price a buy?

One opinion about Xero comes from the brokers at Macquarie Group Ltd (ASX: MQG). It rates Xero as a sell/underperform with a price target of $130. That suggests that the Xero share price could fall by more than 10% over the next year if the broker is right.

A couple of months ago, Xero rival Intuit announced that it was going to buy Mailchimp for $12 billion. Mailchimp is a global customer engagement and marketing platform for small and medium businesses. In that announcement, Intuit said that its mission is to become a global, AI-driven expert platform. It aims to create a platform for small and medium businesses to do a range of activities like:

Get their business online, market their business, manage customer relationships, benefit from insights and analytics, get paid, access capital, pay employees, optimise cash flow, be organized and stay compliant, with experts at their fingertips.

It is the Mailchimp acquisition that makes Macquarie think that Xero’s global growth could be hampered if Intuit grows its global market share in more than just its home market of America.

The post Could the Xero (ASX:XRO) share price be a quality buy? appeared first on The Motley Fool Australia.

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