Xero Limited

Good morning, everyone, from Wellington, New Zealand. Thanks for joining our investor briefing today covering Xero's financial and operating results for the 12 months ending 31 March 2021. As you know, I'm Steve Bamos, Xero's CEO, and I'm joined by Kirsty Godfrey-Billy, our CFO. Before I go over today's agenda, I do want to start by acknowledging that COVID does continue to create uncertainty and challenge for many. So I do hope that you and the people you care about are safe and well. The first item on the agenda is a business update, including a review of our performance during the year. I'll pass then to Kirsty to cover our financial results in detail before I provide an update on strategy and outline Xero's FY22 outlook. We'll then move to Q&A. Now, before I give an overview of the results for the year, I want to make a couple of initial remarks that sum up what has been a unique period. I'm really proud of Xero's people and the way they've supported our customers and each other through this time. We finished FY21 strongly and we enter FY22 with increased momentum and confidence in our long-term strategy as we continue to invest and prepare to capitalise on the significant opportunities ahead of us. So moving on to a high-level summary of our results on slide five. First and foremost, it was pleasing to see growing momentum as the year progressed. after the initial disruption of COVID-19 in the early stages of FY21. Xero's total subscribers increased by 456,000 to reach more than 2.7 million subscribers at the end of March. A more challenging operating environment in the first half was followed in the second half by our best-ever half-year result in terms of subscriber additions, and in fact it was our best-ever March. Many geographies delivered record or close to record levels of subscriber additions. Our performance reflects the value of Xero to our customers. It may well also indicate that cloud accounting and other digital services are seen as increasingly essential by a growing number of both small businesses and their advisors. Overall, the 20% growth in subscribers contributed to a 17% increase in annualized monthly recurring revenue, or AMRR, which grew to $964 million. ARPU or average revenue per user at the end of the year was down 1% versus the prior year period on a constant currency basis and Kirsty will talk more about ARPU in her remarks. Lifetime value increased 2.1 billion or 38% to 7.6 billion. This was driven by the AMRR performance combined with a much lower level of churn and modest margin improvement. Our operating revenue for the year climbed 18% year-on-year to $849 million. We'd also flagged that while price rises and subscriber growth that occurred later in the year are fully captured in AMRR, their impact on our reported operating revenue was limited. Alongside the top-line measures, Xero delivered a strong set of profit outcomes, even though the two halves of the year were very different. We reduced sales and marketing in response to COVID-19 in the first half And as conditions improved, we picked up our spending, which helped drive the highest subscriber additions in the second half. EBITDA for the full year of $191 million increased by 39% from the prior year period. We delivered a net profit after tax of $19.8 million, which was a $16.4 million increase on last year. This includes two largely offsetting one-off items related to the recognition of a deferred tax asset and the refinancing of our convertible note, and Kirsty will talk to these. Free cash flow also increased by a similar degree, rising by $29.8 million to $56.9 million. I'll sum up by saying that while we had an unusual first half, momentum built during the year and the results reflect the ongoing growth of our customer base and the value they place on their zero subscription. We can see this in the churn and customer activity metrics too that I'll cover on slide six, the next slide. The table on the left shows a significant fall in churn, down by 12 basis points to 1.01% over the year. The middle chart shows a steady increase in employees paid through zero payroll since January last year, and this increased 29% from the low point seen in May 2020. The right-hand chart shows monthly invoice payment value has grown by more than 50% on pre-COVID levels. I'll now update you on our operational achievements in the year under our three strategic priorities, driving cloud accounting, growing the small business platform and building for global scale and innovation. So first on slide seven, we have driving cloud accounting. Now, just to recap, This is about growing subscribers and increasing the penetration of small business cloud accounting software. We saw good growth in subscribers across all our markets, and I want to spend a few moments describing how we achieved this. And we'll start with Australia and New Zealand on slide eight. In the first half, Australia became Xero's first geography to pass through a million subscribers, and that was a great milestone. We ended the year with more than 1.1 million subscribers adding a record 201,000 net subscribers. In the first half we benefited from single touch payroll which facilitated access to JobKeeper and we also had an enhanced data plan and continued adoption that we saw by accounting and bookkeeping partners that helped drive subscribers in H2. New Zealand had its strongest net subscriber result in three years with 54,000 net ads We finished FY21 with 446,000 New Zealand subscribers, an increase of 14%. The starter plan enhancements also contributed to New Zealand's subscriber growth result. And as we mentioned in the first half, we saw increased partner channel adoption in New Zealand. This continued in the second half, and we believe it's evidence of the potential for increased migration by late adopters. Operating revenue grew by 12% year on year in New Zealand. Moving on to the international segment on slide nine, this segment performed strongly despite being more impacted by the disruption of COVID-19, especially in our major northern hemisphere markets during H1. We saw a marked recovery in H2 and it was pleasing to see international breakthrough of a million subscribers over the year. We continue to make progress in the UK, adding 107,000 subscribers to grow by 17% and reach 720,000 subscribers at year end. The revised deadlines for the next phase of making tax digital are now coming up in 2022 for the second phase of VAT and 2023 for income tax. We expect this to be a further catalyst for small business digitisation and cloud adoption. Revenue in the UK increased by 22% to $224 million. In North America, we passed a quarter of a million subscribers in half one. In half two, we went on to deliver our strongest ever net ads in a half-year period. For the full year, we added 44,000 net subscribers, growing 18%. In difficult conditions, these results reflect underlying progress from execution of our partner-led strategy in this market. Revenue for North America grew to $57 million, an increase of 2% on the prior year, or 6% in constant currency. This was below subscriber growth, but is largely explained by the absence of Zerocon revenue and the bundling of Hubdoc in FY20. As Hubdoc subscriptions were most concentrated in North America, there was a more pronounced impact to revenue in this market. Our rest of world subscribers grew by 40% to 175,000 and revenue by 27% or 32% in constant currency. In Singapore, we saw good traction with our go-to-market playbook. We now have live bank feeds with all major banks in Singapore, and government initiatives have helped drive the digitisation of small business compliance. We will also launch Singapore dollar billing from mid-July this year. We also acquired a technology solution called Invoici, which complements our acquisition of TicStar by enhancing our local e-invoicing functionality in Singapore. In South Africa, we improved our local product fit, releasing improvements to our VAT solution and launching a VAT e-filing trial. Moving on to slide 10 and our second strategic priority to grow the small business platform. This is really about extending and enriching Xero as a platform to drive customer value and adding new revenue streams to Xero's top line. Platform revenue grew 21% and now makes up 7% of total group revenue consistent with last year. This reflects strong growth from our adjacent products and service-driven income, which was largely in the form of payments. Collectively, these grew at just under 40%. The result also includes a modest second-half contribution from WADL, which was acquired during the year. Other revenues, which includes non-recurring revenue and workflow max, fell by 28% on the prior year, and as we mentioned, the half of these were impacted by the presence of physical events. Now I'll move on to our third strategic priority on slide 11. Building for global scale and innovation is about preparing Xero to realise our long-term aspirations. When it comes to attracting, inspiring and retaining world-class talent, we continue to build and enhance our people capabilities through recruiting and development of our teams in the year. Optimising Xero's operational and financial structure is also a continuous focus. A great example in the period was our convertible note refinancing and use of some of these funds for three acquisitions over the year. We also continued our efforts with integrating and aligning our social and environmental impact activities with our wider business functions. Our efforts in this area are an important element of pursuing Xero's purpose and ensuring long-term trust with our stakeholders. A couple of highlights were working on a plan to evaluate and increase the racial and ethnic diversity of our employees, beginning with North America, being included in the Bloomberg Gender Equality Index for a second year, And further, to our net zero zero commitment, we work certified carbon neutral through the Australian Government's Climate Active Program. We're proud of our progress, but we know there is more to do in this domain. With that, I'll now hand over to Kirsty to take you through the financial results.

Thanks, Steve. Hello, everyone. I'm Kirsty Godfrey-Billy, Xero's CFO, and I'll now take us through our financial results for FY21 in more detail, starting on slide 13. To recap, at the start of FY21 and just after COVID-19 was declared a pandemic, we implemented a scenario-based spending and investment plan. This looked to manage the business for a range of revenue scenarios while ensuring continued progress on our strategic priorities. Starting the year with this approach has seen us report strong growth in profitability and free cash for the full year period. However, it's really important to highlight the difference between the two halves. We said at our H1 result in November that a return toward more normal market conditions in H2 was likely to drive a return to positive sales and marketing cost growth. Though a lot of uncertainties remain, conditions did improve in H2, and we found new ways of working that give us the confidence to undertake a record level of investment in sales and marketing for a half-year period. Examples of how we did things differently include focusing more on digital advertising and also holding online events which reached wider audiences. This approach to sales and marketing contributed to the strong subscriber numbers we have reported, particularly in the latter stages of the year. Annualised monthly recurring revenue, or AMRR, increased by 17% versus FY20 to $964 million. When it comes to profitability indicators, EBITDA for the year rose 39% to $191 million. Free cash flow increased versus the prior year period by almost $30 million to $56.9 million. For the year, this is equivalent to 6.7% of Xero's operating revenues. Operating cash flows increased by 31% over the prior year period to $218.6 million. This was again in excess of EBITDA and reflects strong monetization. Investing cash flows, excluding investment and acquisitions, increased by 16%, or $22 million to $162 million, reflecting higher capitalized development spend. The capital generated in the form of free cash in FY21 is a demonstration of zero-SAS-driven business model and the settings under which we operate the business, particularly in the first half of the year. While a pleasing result for this year, it remains our absolute priority to reinvest capital generated by the business to drive long-term growth. On slide 14, Xero's SAS metrics show the strengths of Xero's business model. I'd like to call out the key metrics on the left-hand side. ARPA of $29 decreased by 1% in constant currency is already discussed. This small change largely reflects a shift in mix due to growth within our international segment as our partner-focused strategy gained momentum. ARPU within the ANZ segment increased slightly with the announced price rise in Australia partially offset by some mixed impacts, including the enhanced data plan. As Steve has mentioned, churn fell in the period. Gross margin increased slightly to 86% due to further incremental efficiency gains. Overall, these movements contributed to a 15% year-on-year increase in LTV per subscriber to nearly $2,800. A key driver here was the decline in churn, and this supports our view that awareness of the value and importance of cloud accounting to our small business customers and their accountants and bookkeepers looks to be increasing. Total lifetime value on the bottom right increased by 38% over the year to reach $7.6 billion. adding over $2 billion. CAC months increased from 14 months at the end of FY20 to 14.8 months, reflecting the slowdown in H1, as well as the skew towards our international segment in H2. LTV to CAC increased to 6.4 from 5.8, primarily from the growth in LTV per subscriber, as discussed. Overall, our SAS metrics for FY21 show clear evidence of the value we're creating in both the ANZ and the international segments. On the next slide, starting on the left-hand chart, incremental gains in cost to serve resulted in the gross margin moving up 0.8 percentage points to 86%. When it comes to CAC in the middle, total cost as a percentage of revenue reduced by more than 7 percentage points to just over 36%. This decline was due mainly to our actions in H1, when spend was only 32% of revenue. This shifted to 40% of revenue in the second half, which was more consistent with levels seen in the pre-pandemic period, and was a contributor to the higher subscriber additions. Looking to the right-hand chart, product costs, including OPEX and CAPEX, as a percentage of revenue, increased to almost 37%. This was a five percentage point increase on the prior year, in part reflecting timing differences between investment spend into product and our top line results for the year. Our investment into product is critical to supporting customers and delivering on our long-term product and strategic plans. So in summary, investment spend continued during FY21 with an eye on our long-term aspirations. Sales and marketing, or CAC, was more dynamic and reflected both the conditions and our discipline spending and investment plan. On the other hand, Product costs were a reflection of the multi-year spending plan we have in train to execute our long-term strategy. Moving to slide 16. Here we have our summary income statement for FY21 showing year-on-year changes. Alongside the usual indicators, there are some different outcomes this year that I'd just like to highlight. Operating revenue increased 18% to just under $849 million. revenue growth for the year tracked relatively closely to the 20% growth seen in subscribers, but a couple of factors are worth considering. Firstly, this result was dampened by the absence of revenues from in-person events, such as XeroCon. This had a one percentage point impact on operating revenue. Secondly, the timing of subscriber additions during the second half of the year, particularly the strong addition seen in the first quarter, limits their contribution to the current year operating revenue results, sorry, that was in the final quarter. As I've already called out, gross margin improved versus the prior year period to 86%. Moving to operating expenses, I've already outlined the decision-making behind these trends. The overall flex in sales and marketing spend in H1 saw them falling 2% in the year. Product spend increased by 40% year-on-year as we supported our customers and continued to invest. There are some specific examples of variable costs that have contributed to changes in our expense ratio in the current environment. Advertising and marketing costs increased significantly from the first half to the second. These costs were running at roughly half of pre-pandemic levels in H1, but rebounded to similar to prior year levels in H2. We've mentioned zero con revenues, but associated costs from these events were also absent from our FY21 cost structure. Overall, advertising and marketing costs were down 18% for this year. Travel costs in the first six months of FY21 fell by 99%. As some travel resumed in the second half, travel and related expenses did increase, but only really modestly. For the full year, travel costs were down 97% versus the prior year. These costs would be expected to change further as conditions, border protections and travel practices continue to normalise. EBITDA was $191 million, which is $53 million increase year on year. The EBITDA margin of 22.5% improved by 3 percentage points year on year. Net profit of $19.8 million was $16.4 million higher and included a net $7.8 million negative impact from two largely offsetting one-offs. After demonstrating a history of taxable profits in New Zealand, Xero has this year recognised a deferred tax asset on its accumulated New Zealand tax losses. This, combined with the related benefit from R&D expenditure, has resulted in a $65 million benefit to Xero's FY21 tax expense. This was more than offset by losses in transaction costs related to the concurrent issuance of Xero's 2025 convertible notes and buyback of Xero's 2023 convertible notes, or a $72.8 million drag. Moving to slide 17, total liquid resources stood at just under $1.3 billion at the 31st of March. The main movement in our cash position over the year has come from the convertible note issuance that I'll talk about in more detail in a moment. Our overall liquidity position comprises cash and cash equivalents, short-term deposits, and undrawn committed debt facilities of $150 million. Deducting our term debt liability of $854 million, our net cash position at the end of FY21 was $257 million, up from $111 million at the end of FY20. These figures do not reflect initial payments of $150 million on the completion of our plan day and TICSDA acquisitions, which closed post the period end. Our existing liquid resources adjusted for these amounts continue to support our strategy as we drive the business forward. Before I finish, I just wanted to provide some commentary around the new convertible notes which were issued late last year. This transaction was Xero's largest ever capital raise to date and was a strategic step in optimizing Xero's financial structure to support our strategy. To recap, there were four elements to these transactions. Firstly, the issuance of the new Xero coupon, $700 million US convertible notes due in 2025, with a 35% conversion premium to the share price at the time. These were improved terms on the existing notes. Secondly, the buyback of the existing notes to reduce dilution financed in part from the proceeds of the new notes and the remainder from new shares. Thirdly, unwind of the existing call spread arrangement, which realized proceeds of $77 million. And finally, Dilution of the new notes was reduced through a new call spread at a cost of 57 million US to raise the effective conversion premium to 75%. Net funds raised from these transactions were 408 million US dollars or 577 million New Zealand dollars. When it comes to total interest costs on the new notes, we expect those to be broadly similar to the costs incurred on the old notes but with no cash element. Greater detail on the convertible can be found in our annual report in notes 6 and 15. So to finish, the actions we took from a financial perspective to support the group strategy this year have been significant and have put us in a really strong position. I'll now pass back to Steve to provide some more detail on our other strategic achievements in FY21.

Thank you, Kirsty. So, having given you the update on our operational performance, I'll talk now about progress we've made executing our strategy. Now, our three-year strategy was developed with a 10-year lens to ensure that we do as much as we can now to see the opportunities for growth that we believe will be substantial contributors to our business and success in the future. So, moving to slide 19, I want to start by reflecting on product investments. As Kirsty said, product investments continue to be a significant priority despite the challenges we saw in H1, and they remain an important part of our natural rhythm as a SaaS business. Our product investments are inclusive of everything from improvements in response to customer feedback through to the work being done on a range of opportunities for the long term. During FY21, in addition to the enhanced data plan, we increased functionality and added value for our customers in a number of ways. For example, we enabled our UK accountants and bookkeepers to lodge company tax for their clients directly with HMRC using Xero Tax. We made it easier for Australian accountants and bookkeepers to collect client documents and get digital signatures with Xero HQ using document packs. In Australia, we also delivered tools to help customers assess their eligibility for the JobKeeper wage subsidy, make payments to employees and file the required information with the Australian Tax Office. In the US, we enhanced our local product through the addition of forms and schedules to help accountants and bookkeepers prepare for and file their clients' tax returns. We also continued to invest in the capabilities of our product and technology teams and the reliability, scalability and security of Xero's platform. Moving to slide 20, I want to talk about the acquisitions we made in FY21. This was by far the most productive period of M&A we've had to date. and we really did leverage the capabilities we built and added in FY20. As you know, we announced the acquisitions of Waddle, TicStar and PlanDay. They varied in size from a consideration of up to $25 million for TicStar, $87 million for Waddle and $305 million for PlanDay. The acquisition of Waddle reflects our ambition to continue to grow the small business platform and help solve customers' financial needs by managing their cash flow and accessing capital. We announced this acquisition back in August 2020 and completed it in October. So Waller's contribution is relatively modest at this point. We are progressing a number of connections right now with lenders who share our vision of improving access to capital for small and medium businesses. And for example, we are piloting in-product referrals with NatWest in the UK. In March, we announced the acquisition of TicStar, a provider of e-invoicing infrastructure. We believe e-invoicing is likely to be adopted by more governments and countries around the world. Just this month, the Australian government reinforced its commitment to increasing the awareness and adoption of e-invoicing through their digital business plan. Both TICSTAR and Plan Day were completed on the 1st of April 2021, so they'll contribute to our FY22 results. We expect all three transactions to have an impact on Xero's operating expenses in FY22 that I'll cover in my outlook remarks. If I now move to the next slide, I want to talk a bit more about Plan Day. As our largest transaction today, this acquisition has had a lot of interest, so I want to give you a little bit more colour on how we think about Plan Day's use case and TAM. The acquisition of Plan Day marks a key step for Xero and our entry into workforce management as a category, a new category. This extends a small business platform to better serve employers and their employees. There's more detail on the slide, slide 21. I encourage you to visit Plan Day's website. But I wanted to give you a very simple example of how business uses Plan Day. So let's consider Ingrid, a business owner who runs a cafe employing 15 staff in Frankfurt. Ingrid knows that her business's biggest asset is her team and scheduling staff time can be a headache. She chooses the Plan Day Plus plan and pays €449 per employee user per month or just under €70 every month in total. This gives her access to the platform where she can manage shifts and also work with a bookkeeper to make sure she runs the payroll effectively and remains compliant with local working regulations. PlanDay's mobile app allows Ingrid's employees to communicate easily with her and each other to book or swap shifts and track hours worked. We estimate that across Xero's existing markets, plus those in which Plan Day currently operates, there's a TAM or total addressable market in excess of 100 million employee users of businesses like Ingrid's. Overall, we see a significant opportunity within the workforce management category. Now to the outlook on slide 22. You can read our full statement on the slide, but I thought I'd call out a couple of key elements here and provide some context. Firstly, we are reiterating that we are a business with a focus on growth, and our preference is to reinvest cash generated. This has been an unusual year, and as we've discussed, the two halves were very different. As FY21 progressed, we moved from responding to the uncertainty of the pandemic back towards a growth setting, and we think it's helpful as a result to provide expense guidance to reflect this. For FY22, total operating expenses excluding acquisition integration costs as a percentage of operating revenue are expected to be in the range of 80% to 85%. This is consistent with levels seen in the second half of FY21 and the pre-pandemic period. Integration costs associated with acquisitions announced during FY21 are expected to increase total operating expenses as a percentage of operating revenue by up to 2% for FY22. And as stated before, plan days expected to contribute approximately three percentage points of additional operating revenue growth in FY22. So to close, I wanted to finish my remarks with a quick summary of our position. In a challenging year, we've continued to demonstrate our ability to execute our strategy. We talked you through evidence of that through our strong results and progress on M&A over the year. We continue to deliver sustained growth, adding subscribers, enhancing our core product proposition, and further activating growth opportunities in financial services and adjacencies. We build a business that our customers and partners really value, and you can see that in our total lifetime value of $7.6 billion. What you see today is the result of investments made over many preceding years. The investments we are making today are crucial to the development of the additional growth opportunities we have over the long term. We're always learning and each day getting a better sense than ever of the long-term opportunity and how we capitalize on that. Our capacity to generate free cash flow combined with our capital allocation framework and existing financial resources puts us in a strong position. When we see fit, this gives us the capacity to adapt quickly to changing conditions and vary the pace of our investment spend as we move towards our long-term objectives. Before I conclude, I want to acknowledge and thank the entire team at Cross Zero for their hard work this year. I also want to thank all of you online and on the phone today for joining us and I'll now hand back to the moderator for your questions.