Monday, December 8, 2014

How XERO can save itself in the U.S. by Buying Wave Accounting, Screen Size, Customer Size, & the Freshbooks Problem

Mindful on Wednesday US Xero President Jamie Sutherland will share the latest developments and what's on the horizon for Xero in the U.S., we had a thought:  Xero should acquire Canada's Wave Accounting.   

A year ago Ben Kepes for Forbes wrote an article titled, "Is Xero Looking At A Strategic North American Acquisition To Speed US Growth?"  where he speculated Wave Accounting or Freshbooks might be 2 viable targets for Xero (no one saw Monchilla).  We're going to take it further and outline why Xero acquiring Wave Accounting makes sense for both.   

We believe there are 3 issues surrounding Wave illustrating how and why they can be acquired with little premium on top of their funding: (1) A business model with revenue decline going forward, (2) Questionable actual user count, (3) The "Mike McDerment/Freshbooks" Challenges.

Before we support the foundation of (1)-Business Model in decline, we'll clarify what we mean with (3) first, the "Mike McDerment/Freshbooks" challenges.  Alex Konrad for Forbes outlined in a July article titled, "Well-Funded Competition Forced VC-Free FreshBooks To Take Investors After A Decade Of No's" how Freshbooks founder Mike McDerment reluctantly was forced to turn to venture capitalist for $30M when he realized Freshbooks was in a vulnerable position of being outgunned and playing catch-up in the U.S. - in a market heated up by Intuit & Xero.   We believe Wave faces the very same set of issues Mike McDerment/Freshbooks faces, it's that simple.   Mike McDerment's solution to remain competitive was to turn to venture capitalist...and Wave?  With their unavailable API, many would argue Wave is not competitive now - their self developed eco-system and feature set could only be described as diminutive by today's standards and expectations in cloud accounting for the self-employed and micro-businesses.  An example?  One of the fastest growing cloud accounting apps for the self-employed and micro-business we see (on a global level) is BeanCruncher which for $9/Month U.S. also delivers a very advanced set of inventory management features.   Wave has no answer for something comparable to this going forward, Wave is "outgunned" on many levels and in many ways.  

(1) A business model with revenue decline going forwardWave has received just under $25M in 4 rounds of funding dating back to 2011.  Wave Accounting is free and supported by advertising within the program (a vertical bar which occupies about 13% of the screen on the far right side).  Wave is in the business of delivering eyeballs to ads on screens and driving CTR (Click Through Rate). The problem with this for Wave is the viability of the revenue model is dramatically marginalized when screens become smaller.  In sum Wave's revenue generation model is better suited for 19" screens connected to desktops and not 4" screens on smart phones.   Reduced screen size = reduced CTR and revenues if you're in the business of delivering eyeballs to ads on screens.  This is a major problem for Wave going foward.

[From 2011 we came across the following, we understand the data is  3 years old  - however it's consistent with more recent data we've come across - that's less well communicated - we use this infographic because it illustrates and explaines the point well]

Hillel Fuld for Interactive writes:   We have noticed a very interesting and practical correlation between screen size and CTR. If you are a developer or an advertiser, you are going to want to check out our infographic below.

One thing is clear, Size Matters and Wave's primary revenue model is vulnerable to trending use of cloud accounting apps (mobile).  

(2) Questionable actual user count. Let's explore another area pertaining to "Size" and wherein we believe Wave is also vulnerable, actual user count.  Full Disclosure, we're part of the Wave Pro Network of advisors.  We use Wave, we love it, and our clients love it. Wave is a great app and incredible value - let's be clear about that.  However having said that - we also keep a very close ear to the ground - in this industry - and do not believe there are 1,000,000 Wave users world-wide, much less in the U.S.   We think it's about half that number.

We don't question that 1,200+  people sign up for Wave daily or that over 2 Million world wide have signed-up in total since the founding of Wave in '09.   We're not talking about downloads or sign-ups.....we're talking about actual users.

Why do we say this?  If Wave actually had 1M users world wide - we would see it across social media - just as we do with every other app with that many users, especially a "free" app wherein users generally engage with each other more visibly on social networks. The Wave site on LinkedIn commonly has vast stretches of no activity whatsoever.  Be it Facebook, Twitter, or even the user forums on Wave's own website, we do not see the activity patterns, or reflections, or footprints of a 1M user app. 


(1) Outright Accounting claims 350,000 customers yet has only 1,400 or so less Twitter followers than Wave. 

(2)  Kashoo's customer count (150,000) is small fraction of what Wave claims, but their Twitter following count reaches 25% of Wave's.  The same with even the more tiny and less known Less Accounting, they have 25% of number of followers on Twitter as Wave

(3) FreeAgent has less than 50,000 customers but more twitter followers than Wave who says they have 1,000,000+ users.     Am I supposed to believe Wave does in fact have 20x+ more users than FreeAgent, it's just not reflected on social media because Wave users are somehow different in behavior towards social media engagement than FreeAgent users?

We don't believe people that sign-up and use Wave are any less social media engaged than Kashoo or Less Accounting or Outright Accounting users.   Sure, levels of passion can vary - but not to the measure of the discrepancy we see with the lack of engagement in social media that Wave reflects on all social media.  It's not congruent with the social media metrics in the space that Wave could have 1,000,000 users yet less than 8,000 twitter followers and slim to no activity for extended periods on Facebook and LinkedIn.

We can't discern a plausible or coherent (with the social media metrics) explanation on why Wave's social media touch points do not reflect a user base of 1,000,000. (mind you sometimes Wave suggest 2,000,000 users worldwide).   We extrapolate Wave has 525,000 actual users +/- 5% or thereabouts.....maybe - at best (we think about 300,000-350,000 are in the U.S.).    We believe Wave has a size problem (a) Screens & (b) Actual Users.

We believe these 3 issues surrounding Wave (1) A business model with revenue decline going forward, (2) Questionable actual user count, (3) The "Mike McDerment/Freshbooks" Challenges are real and collectively too formidable for Wave to contend with. We also believe Wave investors would be receptive to being bought at a modest premium above their funding. Would they take a 50% premium?  $38M or so?  What are their options?  Would you further sink your money into a revenue model in decline?, while your bigger competitor across town (Freshbooks) feels their currently outgunned - is that an arms race you're ready to further invest into?   

On to Xero. 

Xero: In October, In context to Xero's firing of their U.S. CEO Peter Kapras, First New Zealand Capital analyst James Schofield said, "Karpas' departure is a major setback. This essentially means a lot of the progress expected in the US will be partially delayed for the best part of a year," Schofield says. "Essentially we expect it will be about a year from now before the new CEO will have a material impact on the business and almost 18 months from now before that CEO can put in place a US management team and for that team in turn to be having a material impact on the business."[end].  

Rod Drury & Xero have conceded making mis-steps in approaching the U.S. market.  We believe those mis-steps extend to locating their US HQ in San Francisco and support center in Denver, CO.   Xero should have had 1 central North American base - Toronto in what should have been their Wave acquisition.  

Xero needs a U.S. plan with a measure of certainty going forward.   Buying Wave resolves issues of time and the uncertainty (along with costs) of client acquisition going forward.   Despite their tremendous stock value decline, Xero still is a company with a nearly $2B market cap.  

What's Wave buy Xero?  A direct conversation with 1,000,000 (if you believe Wave) U.S. based self employed and micro-businesses...that you could develop an under $10/month product for - and it would be Xero's job to in 6 or 9 months get a high percentage of conversion from the Wave Free App to the Xero under $10 app.   

Directly engaging with 1,000,000 US cloud accounting app users, self-employed and micro-business, is something Xero has not been able to do and would be extremely expensive and time consuming in trying to do. 

If Wave Apps were phased out, where would a Wave Apps user go?  Gnu Cash?  I don't think so.   The newly emerging Intuit Self-Employed product line?  Kashoo solo is $5/month.   I gotta believe there's room for Xero to develop a low end gateway offerng that does not eat into their full blown app market - for the solopreneur/micro-business.    I also gotta believe Xero could convert at least 100,000 customers within 12 months to that product (if not a higher end product like their $20/month offering).

We think it's mission critical for Xero to develop a minimal footprint in the U.S. as soon as possible.   Keep in mind New Zealand based Woodward Partners analyst Nick Lewis and fellow analyst Cahn McKenzie questioned whether Xero should continue trying to win market share in the US, given the challenges and the company's rising costs. Consider how much money Xero has spent in the U.S. to date - to secure all of....? 25,000 customers? Judging by their history - Xero is not on a path to reach 100,000 customers in the U.S. until maybe 2017 (a point of time in which Intuit will have over 2,000,000 QBO users in the U.S.). There is nothing to suggest Xero knows how to go about building a significant customer base in the U.S. - it's something they've not done. Buying Wave can get Xero there (to significance) and now. $38M or so is a lot of money to buy a customer base of a "free" app. Having said that, we think the cost of buying Wave today would be less than what Xero has spent to date in North America in getting the 25,000 US clients they have today - and would likely result in 4X that number of US paying clients over a 12 month time frame. In other words, buying Wave and successfully converting at least 100,000 users to a Xero gateway paid app would be cheaper client acquisition to what Xero has spent in the U.S. to date. We also think Xero buying Wave pre- US IPO would significantly help conjure the specter of real "potential" in the U.S. for Xero - and now. We're just having some fun here with our thoughts - what are yours?



  1. I like your logic re: Wave looking for a buyer, L.A. Smith. Not so sure whether it will be Xero. Drury has shown that he's keen for businesses to pay what the software is worth - in Australia the standard Xero package is AU$50 a month. Wave's customer base is the opposite; they want it free and don't care if it comes with ads.
    Then again, Xero and Intuit are both keen to tackle the "white space" in the US. That's the 12m businesses apparently using Excel or other manual methods of doing their accounting.
    Drury has said Xero is looking at a low-cost competitor to QB Self-Employed. Maybe Wave could be it. The risk of churn to other free products is pretty high, though.

  2. Wave has nowhere near 1 million users.

    Just like Freshbooks, Wave considers anyone who interacts with the application as a user. This includes people whom receive an invoice from a Wave user.

    My thoughts? Xero should have set up shop in Canada (without acquiring Wave) before they decided to move into the States.

    Either way, Xero needs to get their shit together. And fast.