Xero Limited (ASX: XRO) released its FY 2020 annual results last Thursday morning, with the initial market reaction being quite negative. The online accounting software provider for small businesses saw a 10.4% share price drop by the close of trade last Friday. However, Xero regained some of those losses on Monday, with its share price up by 2.4% to close the day at $77.15.

So, was this unfavourable initial market reaction justified, and does Xero offer a good long-term buying opportunity to investors?

Before we address theses issues, lets first analyse Xero’s recent top-level results.

Another strong full year set of numbers

Xero delivered another strong annual result, with revenue increasing by 30% to NZ$718.2 million for the 12 months ending 31 March 2020, with annualised monthly recurring revenue (AMRR) also growing strongly by 29%. This impressive result was driven by a 2% increase in average revenue per user and a 26% lift in subscribers to 2.285 million.

Also, pleasingly, Xero’s gross margin market continues to expand due to its increasing economies of scale, increasing by 1.6% to 85.2%. This contributed to Xero achieving its first ever full year net profit, which came in at NZ$3.34 million, compared to a loss of NZ$27.14 million a year earlier. Xero’s earnings before interest, tax, depreciation and amortisation result was also impressive, growing strongly by 52% to NZ$139.17 million.

In terms of geographic performance, its Australian, UK, North American and ‘Rest of the World’ segments all performed strongly. Australia grew its subscriber base by 24%, UK by 32%, North America by 24% and the rest of the world by 51%. Of particular note was the accelerating subscriber growth in the US market, with its US subscriber base now reaching 241,000.

The impact to Xero’s overall results by the coronavirus was minimal, however as its results only include the period up to 31 March, only the initial impact of the pandemic was reflected in Xero’s financial and subscriber performance. There was with a slight reduction in AMMR during the month of March, and since then there has been further AMMR reduction, as the impact of the pandemic intensified.

Did the market initially overreact?

Overall, I believe that this was a very strong result for Xero and I think that the market initially was too harsh on what I see as continued strong growth across all geographic regions. In particular, I was pleased to see a strong and increasing gross margin, and the achievement of positive net profit for the first time, as the benefits of increasing economies of scale are now really starting to kick in.

Are Xero shares a long-term buy?

Despite the potential further impact by the coronavirus in the months ahead, and its share price no longer looking cheap, I believe that Xero still has a long runway for growth ahead of it over the next decade. I think it is worthy of consideration for your share portfolio.

Small businesses are increasingly turning towards Xero to manage their entire business, not just their finances. Although competition could increase over the next few years, especially from US rival Intuit Inc, I believe that there still are strong growth opportunities for Xero to tap into across all of its operating markets, especially in North America and its other operating markets outside of Australia and New Zealand.

More reading

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Phil Harpur owns shares of Xero. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. owns shares of Xero. The Motley Fool Australia has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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I have studied internet growth shares very closely ever since 2010. In a stroke of genius, I valued Amazon.com, Inc. as too expensive at that time. The Amazon share price is up 1,675.83% since then.

Australia’s geographical remoteness, not only from the world but also from each other, is well suited to online commerce. The country is presently seeing a spurt of growth for internet banks, none of which are currently listed on the ASX, as well as a continual smattering of small startups predominantly in the software-as-a-service (SAAS) category.

Software as a service

There are several outstanding Australian SaaS companies on the S&P/ASX 200 Index (INDEXASX: XJO). The largest of these is Xero Limited (ASX: XRO). The internet growth share posted its first profit since listing on the ASX last week and saw its share price dip by 8.7% over the week. With ~2 million users, investors are keen to see the company focus on customer acquisition and product development.

The company has grown its customer offerings. Initially it was a pure play cloud-based accounting package. It has since added a range of related functionality areas. These include bank streaming for reconciliation, payroll and inventory tracking. The platform also includes ~800 add on business apps from other providers, embedding it further as business infrastructure. 

Xero sees an annual customer churn rate of ~10%. The majority of this is due to companies going out of business, underlining the company’s staying power. That is, most organisations purchase the service and stay with it.

Internet growth shares in retail

There are 2 major online service providers in the retail space. The first is the country’s current leading internet growth share, Afterpay Ltd (ASX: APT). The second is Kogan.com Ltd (ASX: KGN). Of these 2 shares, I prefer Kogan for a medium- to long-term growth prospect.

The Afterpay empire is built on foundations of unsecured debt. In times of economic hardship, unsecured debt is the first to see defaults. Additionally, the company has already spawned a range of copycat products. While its integration with providers and functionality is pretty slick, that alone doesn’t constitute a competitive advantage. 

Kogan, on the other hand, continues to grow steadily. Aided by stay-at-home conditions, Kogan delivered an impressive Q3 result. The company reported increases against the prior corresponding period of 30% gross sales and 23% gross profit. March saw the company record its largest ever increase in active customers since its IPO.

Additionally, the company announced on Friday the purchase of leading furniture company Matt Blanc for $4.4 million. This adds to its portfolio of companies with strong supply chains. Unlike Amazon, Kogan produces much of its own merchandise, meaning it can not only compete at higher margins, but its products can also be sold on Amazon’s Australian website. The company also has additional services such as insurance, which sets it apart. 

More reading

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John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool’s board of directors. Daryl Mather has no position in any of the stocks mentioned. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. owns shares of and recommends Amazon. The Motley Fool Australia’s parent company Motley Fool Holdings Inc. owns shares of Xero and recommends the following options: short January 2022 $1940 calls on Amazon and long January 2022 $1920 calls on Amazon. The Motley Fool Australia owns shares of and has recommended Kogan.com ltd. The Motley Fool Australia owns shares of AFTERPAY T FPO. The Motley Fool Australia has recommended Amazon. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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The third-quarter update from Commonwealth Bank of Australia (ASX: CBA) forecasts a fall in the Australian house price index, a proxy for house prices, from between 11% to a worst-case scenario of 32%.

In line with this, REA Group Ltd (ASX: REA) reported a 33% slide in residential listings during April. The REA result is slightly misleading. It reports on a period when people were not allowed to leave their houses.

Nonetheless, these 2 figures, combined with a similar National Australia Bank Ltd (ASX: NAB) forecast, paint a bleak picture of the short to medium-term real estate market.

A dip in house prices will reverberate throughout the economy. Companies operating in the construction, insurance, and mortgage sectors will feel the impact. However, some companies are likely to see a lesser impact than others. 

Direct exposure to a fall in house prices

ASX real estate investment trusts and companies dedicated to developing residential housing have the most direct exposure. According to its 2019 portfolio report, Stockland Corporation Ltd (ASX: SGP) has a development pipeline of 76,000 lots of residential real estate. The company estimates this has an end market value of $21.4 billion. A financial impact on this company is inevitable in the case of a fall in house prices.

The Boral Limited (ASX: BLD) share price fell by 10.6% last week. On 15 May, Boral reported concrete volumes were down ~16% and revenue down ~6% for the 4 months ending April 2020, compared with the prior corresponding period.

One ASX share I believe is likely to be less impacted than others is the REA Group share price. When the economy resumes, its previous activity real estate listings are likely to remain constant or slightly lower.

It is likely developers will want to move existing inventory as quickly as possible to limit their losses. As any recession drags on, of course, retail listings become a way for people to downsize and survive in a turbulent market. So while REA too will feel the impact, I believe it will escape the worst of any market downturn. 

Financiers and insurers

The KPMG 2019 report on the mortgage market reports the big 4 banks as holding 81% of the total mortgage market. As CBA is the nation’s largest mortgage holder, it will be the most exposed to a fall in house prices.

However, long-suffering investors in Westpac Banking Corp (ASX: WBC), of which I am one, will also see a hit to revenues. The company launched a $2,000 rebate last year. In January, Canstar reported that Westpac had deliberately positioned itself in the lowest priced 10 loans in the market in all fixed investment loan categories. In any other year, this would have been a canny loss-leading strategy. Alas, 2020 is not any other year.

Foolish takeaway

It is very easy to get wrapped up in the moment. However, I believe all of the companies mentioned here are good companies with good management teams in place. They are likely to see lower share prices in the near term until the actual scale of any fall in house prices is known.

This may be a good time to “buy the dip” as they say. Only you may need to be patient before the turnaround comes. 

More reading

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Motley Fool contributor Daryl Mather owns shares of Westpac Banking. The Motley Fool Australia has recommended REA Group Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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