Digital First's "Why Xero Won’t Take the US In a Hurry": How Xero Uses Smoke & Mirrors

(ExactCPA comments are not part of the original Digital First article)

Sholto MacPherson for Digital First writes: Last month thanks to Intuit I had a chance to meet American accountants face to face at the global conference for QuickBooks Online. It was a very interesting trip, mainly for the chance to find out how online accounting is perceived by North Americans.

The big question on a lot of minds in Australia and New Zealand is whether Xero could replicate in the US its lightning fast acquisition of customers in the southern hemisphere. For a while its share price reflected this expectation, until a report on its American adventure last month showed growth had halved to just 4,000 customers in six months, and the price fell from NZ$45 to NZ$18.

The short answer: the blitzkrieg 2.0 ain’t going to happen. This is going to be a long and expensive siege of half a decade at least with no guarantees that Xero will threaten Intuit’s hold long term.  I had planned to write this under the headline “Why Xero Will Struggle in the US” but Xero CEO Rod Drury insists that more time is to his advantage.

I’m not so sure. So here are six reasons why the US is going to take a long time to transition to the cloud, with rebuttals by Drury.

1. Pass Me My Cardigan

US accountants – forgive the generalisation, but there are just too many of you – appear to be more conservative than their Australian and New Zealand counterparts. I heard this opinion from several Australian accountants and software developers who made the trip over for QuickBooks Connect.

Conservatism is deadly in any industry today because it leads to complacency in the face of swift and destructive digital disruption. Think Kodak, BlackBerry, Nokia, BlockBuster, Borders, etc. Small companies (cf. video stores, bookshops) are not immune. A conservative business person is less likely to change their business plan, but this is exactly what accountants must do to survive the transition to online accounting.

The uptake of online accounting reflects the reality. Australia sits at 8 percent, the UK at 6 percent and the US at just 4 percent (Intuit’s numbers). Yes – even the English are moving faster than the Americans.

The lack of market share isn’t for want of trying. Intuit has spent years and many millions marketing the old version of QuickBooks Online and yet it has just 700,000 businesses out of a 30 million-strong market.

A conservative accountant base is a huge problem for Xero because in Australia over 60 percent of sales came from the accounting channel. Some Aussie firms were moving customers en masse and buying several hundred licences at a time. Those big bumps helped maintain a growth rate over 80 percent.

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exactCPA Comment:  There was no, and is no, "30 million-strong market". Digital First presents this figure as "fact" to frame a perspective .  The problem is  it's not a fact and thus the perspective is flawed and skewed.   The truth and accurate characterization is this "30 Million" figure is Xero's "conjectured pool" of the U.S. as opposed to a "market" in the U.S., the difference and distinction being huge.     A "30 million-strong market" does not exist in the U.S.  

Generally media (print and online) accepts Xero's narrative uncontested and often publishes Xero conjecture as  fact (that's what happened in this Digital First article).

Repeat something enough times and people assume it's accurate, this is a standard Xero practice.   Here is a recent quote from Xero Chairman Chris Liddell in context to the U.S. on this topic and an example of how it generally goes from Xero, 

"There's 35 million who do something else (other than use Quickbooks), whether it's Excel spreadsheets or pieces or paper or localised software, so it's not only competing with Intuit, you're competing for people who've never had software before."

Xero generally floats a number between 28 Million and 35 Million, describing it as a "market" when in fact it's nothing more than Xero's conjectured pool that might become consumers over the next decade or so.   Often in language they include small and medium size (their words) businesses in this alleged "market".  

The truth and whole picture is this conjectured pool  also might not become consumers,  no one knows for sure.   It's not inevitable that any of this conjectured pool in the U.S. become cloud accounting subscribers in the next 1, 5, or even 10 years....it's total speculation.

It's worth noting Xero includes  people who've never had software before - a supposed  12 million  figure in the U.S. as part of their definition of what they call the "U.S. market".    We believe a market is comprised of consumers.  We don't believe it's fundamentally sound to include non-consumers with a pool of consumers.   You have to speak of that subset separately, not inclusively.  

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Drury: Yes, US accountants are more conservative and this is borne out by Xero’s own sales numbers. Instead of 70 percent of sales coming from accountants and 30 percent direct – as is the case in Australia, New Zealand and UK – in the US it is the reverse. As a result Xero is flipping its go-to-market strategy.

“We are building a direct business on top with marketing automation systems and driving demand from small businesses, who are probably the most online in the world.”

2. Ain’t Got No Respect

Xero’s big educational pitch to Australasian accountants is that they can move up into business advisory and general financial services – the one-stop shop for financial products and business insights. However, a software developer told me that accountants in the US don’t receive the same respect as the profession in Australia and New Zealand; instead accounting is associated with computation and fact checking more than advice.

This sentiment was shared by a couple of Intuit people and a consultant I met at the show. A US firm that wants to rebrand itself as less about tax returns and more as a business advisor has its work cut out for them.

Another reason why the “accountant as business advisor” line doesn’t work so well in the States is that apparently the consulting gig already exists. “Business advisors are required to have a bachelor’s degree in business, finance, or a comparable discipline. They analyse a company’s business plan and financial statements to properly advise it about investments, marketing, and potential funding opportunities,” says the definition on education-portal.com.

So instead of moving into a vacant role, US accountants will have to compete against the incumbents to whom SMEs usually turn to for advice. Combined with their conservatism, it will take a lot more convincing (i.e. marketing) for US accountants to shift to business models compatible with online accounting.
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exactCPA Comment: This point has been "common knowledge" for years.   All one had or has to do is take a look at the Quickbooks Pro Advisor Network online @ Intuit where 99%+ of the membership can be characterized as a "one-trick pony" having a singular 'lane', accounting.   Today I'm guessing there  might be a grand total of 50 Method CRM certified Quickbooks Pro Advisors?   Fishbowl Inventory for Quickbooks has been around awhile, to date there are probably less than 25 Fishbowl Certified Quickbooks Pro Advisors.  Perhaps the best example is "Corelytics Bi/Analytics" for Quickbooks.  "In 2011 Corelytics received the grand prize in the Intuit Apps Showcase event  in San Francisco, the App of the Year, with Team Intuit, ten venture capitalist judges, QuickBooks Pro Advisers and a ballroom full of peers from the Intuit App ecosystem".  All this exposure and profile did not result in any significant number of  Quickbooks Pro Advisors seeking to become Corelytics Certified or even use the Corelytics BI/Analytics tool to serve their clients.  It's been 3 years since then and today within the Quickbooks Pro Advisor Community  there are less than 50 Corelytics Certified Quickbooks Pro Advisors.   

To quote Digital First,  "the accountant as business advisor, line doesn’t work so well in the States" was clear for all to see years ago.  An extremely miniscule percentage of the many thousands of  QB Pro Advisors has ever sought certification outside of the accounting lane.  Whether it's inventory, CRM, or BI/Analytics, QB Proadvidors have not sought to become Business Advisors in any significant numbers - all self evident by examination of the Quickbooks Advisory Network.

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Drury: The business advisor thing isn’t an issue. There are lots of early adopter firms that understand how to move into the advisory space, such as Harshman Phillips. And building the accounting channel is less important in the US than in other countries as explained previously.

“Accountants don’t have the same trusted advisor relationship because the US is more litigious so accountants are less likely to provide proactive business advice. Whereas in the UK, Australia and New Zealand it’s all care and no responsibility.

“It’s just probably going to be a smaller number of people in the beginning (that transform into online advisory firms). In Australia we saw a few people really getting it at the beginning and they are getting it in the US, it’s just going to take a while. And that’s fantastic for us.”
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exactCPA comment:  We've curated content before on Mr. Drury's narrative of  "Accountants don’t have the same trusted advisor relationship because the US is more litigious so accountants are less likely to provide proactive business advice."   We've never seen any data, research, or study supporting what Mr. Drury is saying.   We believe this is another example of pure conjecture from Xero floated as a statement of fact.   A high profiled Quickbooks Rock Star, Stacy Kildal, commented on one of our postings on this conjectured narrative of Rod Drury saying, 

Stacy Kildal commented on a link Exact CPA  shared.

Stacy wrote: "Wow. I've read this article a couple of times and... just wow. I'm baffled by Rod Drury's comments. "The litigious nature of the US meant accountants don't readily recommend software to their clients..." Does he mean THIS United States? Because based on my experience in 40+ cities and speaking to/with THOUSANDS of accounting professionals in 2013 and this year, recommending software to clients is one of the FIRST things we do. And I've yet to hear of anyone being SUED over recommending a software solution intended to help a client. "What we have seen is the US accounting industry is quite a lot more conservative than our other markets" Huh? How so? I get between FIFTY and ONE HUNDRED LinkedIn messages, emails and texts every week from other ProAdvisors asking advice on how to move clients online, what's the best QBO add on for this, would QBO be a good fit for this client, I want to switch them... "The US accounting industry is a long way behind on cloud they haven't had a lot of innovation in the market..." Hmmm. Confused. QBO has been around for THIRTEEN years. How is that behind? In 2013 they completely reinvented the product to rave reviews, and they're about to announce an amazing new innovation at QuickBooks Connect in 28 days."

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3. How to Keep 51 Tax Agencies Happy

The US has 50 state agencies that levy their own sales tax and a federal agency with a separate set of rules. This makes the US tax system is an order of magnitude more complex than Australia and New Zealand which have one central taxation authority.

There are three implications. The complexity of the US tax system provides plenty of hourly work for a lot of people. When software companies and change consultants start talking about automating bank reconciliations and moving to value-added billing, many accountants don’t know what else to bill for.

Several in the audience at QuickBooks Connect made emotional claims that QuickBooks Online would take away their jobs. Fair enough. If you spend all your time trying to calculate the tax position for a business, you have had less opportunity to think outside the box in terms of advisory or additional services.

A more complex tax system means that it takes a lot longer to write code that automates those rules. Automation of the accounting process is a key goal for online accounting programs, so Xero must either take a long time to develop the software or spend a lot of money to make it happen faster.

Third, automation is part of the promise to accounting firms looking for greater efficiency. In Australia, it’s not just small firms but even mid-size firms have moved clients to Xero because they believe they can do accounts in much less time than with desktop accounting software.

Without the attraction of automation Xero and other rivals lose a lot of their shine.

Drury: We just bought Monchilla, an online accounting program with a rules-based engine that already automates payroll and state filings in all 50 states. “Monchilla have built a really nice rules engine so you don’t have to hard code the tax logic. It will take some risk out of our UK development by allowing us to add payroll in other geographies as well.

“We will have the best payroll and state filings by the middle of next year. It’s even more complex (than just the 50 state agencies), and that’s good. Hard things allow you to build moats (around the business). It will take Intuit a long time to catch up.”
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exactCPA comment:     Anyone think  Paychex, ADP, SurePayroll, ZenPayroll, Intuit, or anyone else is losing any sleep over Xero's forthcoming payroll & state filings software?   What CEO declares to his main competitor [the 800-pound Gorilla] a product 9 months away from release is going to be best in class and render him [Intuit] playing catch up for a long time?    That's a lot to deliver on.  Further, why is Rod Drury "Gung Ho" over "payroll"?, Payroll is a thin margin space that's become commoditized.   We do not believe what Rod Drury is touting will significantly  "move the needle" in the U.S. for Xero.  The only thing that makes sense here is Rod Drury is playing to the U.S. investment bank industry and trying to "gin up" Xero's IPO profile & aspirations. 

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4. The Giant Awakes

It’s fair to say that Xero caught the incumbents in Australia and New Zealand napping. Xero had a more heavily featured online accounting program in the market for a good while before the others.

But in the US Xero is running into a serious battle. Intuit is far bigger and stronger (US$4 billion in revenue, 8,000 employees) than any competitor Xero has faced to date. It woke up to Xero well before it arrived on American shores.

While Xero was still establishing a toehold in Australia, Intuit executives from the CEO down were flying out regularly to find out what Australian accountants wanted from online accounting software, monitoring Xero’s progress and softening up the locals for a QuickBooks Online beachhead.

Intuit is on the attack, too. This year it launched a full-court press to win over Xero’s top partners in at least the US, Canada and Australia (most likely the UK too). And it succeeded to some extent.

Intuit convinced several Xero Gold partners in Australia to offer QuickBooks Online as well as Xero, overturning their “Xero only” strategies. The impact for Xero is far greater than just losing the occasional sale to QBO, which will still be uncommon given that Xero firms can process Xero clients faster due to the integration with Xero Practice Manager.

The bigger concern is leadership. These Gold firms were some of Xero’s best advocates and Intuit has managed to sap just enough passion to cause a die-hard fan’s “Xero is the best” to be a more considered “It depends”.

Intuit is following the same approach in markets outside Xero’s key four (UK, US, Australia, New Zealand). An accountant from one big Xero firm from Canada who was flown out to QuickBooks Connect said that “Xero has stopped listening”. The Canadian version of Xero is a pale imitation compared to the flagship program enjoyed by Australians and Kiwis. Yodlee feeds for Canadian banks are so temperamental that Xero has added a button to the dashboard to manually refresh them.

By contrast, Intuit offered to pay the data entry for thousands of invoices if the accountant signed up new clients to QuickBooks Online. “I never hear from Xero any more but Intuit is calling me once a week,” the accountant said.

Drury: (On picking off influencers) “We’re not concerned at all. All we have to do is deliver great software. At the end of the day you can’t fake it. I think building software is passion and art. We are building a very authentic culture.

(On competition) “It’s too late for Intuit in Australia and the UK, it’s going to take them years. It’s hard to imagine them going as fast as us. We have a clean platform and lots of good people. We’re not concerned at all.”
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exactCPA comment:  In the U.K., on October 22, 2014,  Sage, a British accounting software company, announced it had hired Xero's U.K. national sales manager, Nick Longden.    Xero UK says they have more than 50,000 customers in the UK, Xero says Sage One   32,000 - a third of which are payroll, so around 20,000+.   If Xero is this "rising tide" in the U.K. why would Xero's National Sales Manager leave Xero to go to Sage?    We're just illustrating the actions of Mr. Longden are not consistent with words that generally flow from Xero regarding the U.K. market.  We believe few are as knowledged of Xero's real UK situation as Nick Longden.  I'm sure Xero does have good people in the U.K., it's just that a significant and important one of those good people decided for some reason Sage was a preferable place to be.
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5. A Tale of Two Developers

Which company can build the best software? Drury is convinced that Xero has the passion and the people to outgun everyone else, including Intuit. This may or may not be true, but one big difference between Intuit and Xero is the focus on accounting.

Drury has an impressively broad vision that always feels like it is several jumps into the future – Banking 2.0, data analytics and benchmarking, payments. It’s all cool stuff and great to write about.

Drury frequently refers to the accounting engine in Xero as “the boring bit”. But how wise is it to ignore the heart of the system? And yes – waiting three years for the long-promised quotes feature is evidence of ignoring the basics. Instead at Xerocon Drury showed off dashboards, business intelligence, CRM-lite functions such as smart lists.

Intuit may be playing catch-up but it’s doing a good job of plugging holes with smart integrations. Recent acquisition Lettuce will provide the framework for order management and inventory in QuickBooks Online. A partnership with enterprise document storage service Box gives best-in-breed collaboration. Of course it will build those features itself in the long run, but these partnerships give Intuit the features it needs fast.

A lack of quotes and inventory haven’t slowed Xero’s meteoric rise, that’s true. And the eye-catching features Drury has planned may swing more new customers than replicating the desktop world would. But it’s still a level of risk given the resources of Intuit now arrayed against it.

Drury: Xero is developing at a faster cadence than Intuit and the gap in features will increase, not decrease because Intuit is such a big ship to turn around. The difference in the products will become a key selling point.

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exactCPA comment:  Classic Rod Drury generalized talk of non-specifics and empty declarations.  There is no substance or measure or metric or context, or anything to the line "Xero is developing at a faster cadence than Intuit".   Also very few industry people would agree that there is a "gap in features" between Xero and what Intuit offers today.    We're not talking about the interface, or the learning curve, we're talking about the features.    Often Mr. Drury gets locked into a bit of a time warp and things he says might have been fair in 2010, or 2011, but simply are not the case today.  An example would be how Mr. Drury resorts to buzz phrases or concepts one can't contest.  The problem  is they're usually misapplied and not fitting of the situation he's refering to.   

"Intuit is such a big ship to turn around" -  Here Mr. Drury wants you to assume and buy into his perception Intuit is a big ship that needs to be turned around.   Mr. Drury's been using this line a very long time - may have been appropriate in 2011 however it's 2014 and he's still using that line.  Intuit is a ship that has successfully turned around...and everyone kind of knows it.

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6. Money, Money, Money

Intuit is profitable by US$850 million dollars each year. Xero has US$150 million in the bank and is burning through about US$15 million a quarter. How much is Xero willing to spend to get market share in the US? A conquest is clearly unaffordable, but even to get to 25 percent will require an eye-wateringly large amount of cash.

Xero spent millions of dollars on mass media advertising in Australia to establish the Xero brand. How much will it take to cover a population more than 10 times the size?

Xero is hiring staff at a rate of knots, its software is slightly more expensive than Intuit’s. In fact, an Intuit vice president told me the company had experimented with giving away QuickBooks Online but found that it wasn’t as successful as selling it for US$5 a month. (The starter version of Xero in the US costs US$9 and the standard US$30 a month.)

Xero will struggle to justify charging for new features while Intuit is undercutting it. It can’t drop the price to compete while it is still unprofitable. One of Xero’s best avenues for revenue – opening up its database to financial institutions, following the CGU demonstration at Xerocon – depends on those institutions moving a lot faster than they typically do. Lots of money to be made, but not anytime soon.

If this battle will take five years minimum, won’t Xero run out of cash?

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exactCPA comment:  We've argued Xero buying Monchilla,  as about "IPO Window Dressing", or IPO Compliance as required by the U.S. Investment Banks, in what they want to see in the packaging and presentation of Xero as a U.S. investment.  We delineate why here.   Yes, if Xero does all it said it will do in the next year (mainly hire 500 more staff), Woodward Partners, the New Zealand based analyst has said they'll run out of money in early 2016.   For Xero realizing this U.S. IPO is mission critical.
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Drury: Xero still has US$150 million in cash and marketing in the US will be more scalable due to marketing automation and large partners who will do the promoting for us.

“US QuickBooks Online is not $5 a month (it costs US$10.36-$24). Intuit is just price dumping in AU and UK which has not been working for them. You might ask why US businesses pay the most for QBO.

“We may do an IPO but don’t need to. And we can get to profitability when we choose.”

The big question is how fast Intuit can move to counter. At QuickBooks Connect, CEO Brad Smith announced that it was the first year that its online software outsold its desktop software. Is this the sign that it has turned the ship? Or is it still turning?

Despite practically giving away its software in Australia ($4.99 a month) Intuit won just 7,000 businesses in the past year. Of its 5 million customers in the US only 700,000 have switched to QBO. Drury says the low impact is due to Intuit lacking “the accountant side and a whole of company approach”. If Xero is switching to a direct model you can safely bet Intuit will be following suit.

There is one wildcard. Both Intuit and Xero are keenly focused on the “white space” in the US – the 12 million small businesses which use no accounting software at all. Apparently 70 percent of sales of QuickBooks Online in the US have been to these new customers. At QuickBooks Connect Intuit released a version of QBO for the self-employed (sole traders) to address this market head on; Drury says Xero will probably do something similar next year.

Xero has had a tremendous run, it has good software and has built a passionate and talented team. It will need all that, the US$150 million in cash and more to achieve its lofty ambitions and take market share from Intuit in the US.

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exactCPA comment: Typically you'll see Xero make a statement like, "more than 75 per cent of the US accounting market did not use Intuit's Quickbooks accounting product".  - NZ Herald, 10/15/14.

There is no nexus between this statement and what Xero is trying to accomplish in the U.S. (sell to individuals, microbusinesses and small businesses).   Here Mr. Drury is employing a tactic of pure inference to suggest the vast majority (75%) of the market for Xero is wide open and there for the taking by Xero.    

No one says, "Mr. Drury, that may well be technically accurate but can we talk about the people you want to sell Xero subscriptions to?   Because it's common knowledge that 85%-90% of those people, the ones you want in the U.S., are using an Intuit Quickbooks accounting product".

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The author: Sholto Macpherson - Editor and Publisher of Digital First

Sholto is a journalist, presenter and public speaker with 14 years’ experience writing about IT for enterprise and consumer audiences. He has written for many publications including the IT section of The Australian and IT business magazine CRN Australia. Sholto is a passionate advocate of cloud computing and its potential to transform small businesses.

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exactCPA comment:  Final Comment.   We've never met XERO CEO Rod Drury but he strikes as a great person, and from all we sense we would certainly rather have a beer with him that pretty much any other CEO.   The things he's involved in to help others, contributing his time and money - the guy is truly simply awesome.  He's got a very difficult job and we understand he has to often look someone in the eye and say the sun is shining when it's in fact raining cats and dogs.  We wish Xero well in realizing their IPO aspirations.