Former ASX technology darling Xero Limited (ASX: XRO) has taken investors on a wild ride over the past 18 months.
From its November 2021 peak, the software stock more than halved for significant periods in 2022.
But after its new chief executive promised cost cutting and a change in focus to turning a profit, 2023 has seen a revival in Xero’s share price in excess of 31%.
But interest rates are still high and climbing, so is it a false dawn?
Fairmont Equities managing director Michael Gable had some thoughts:
‘Upside risk to margin expansion’
Of course, a changed strategy to cost cutting and profit-making does mean Xero’s former mission to grow at all costs will take a back seat.
That’s not worrying Gable though.
“While there are investor concerns about the pace of subscriber growth under a leaner cost structure, we see scope for a further re-rating in the shares over the short to medium term,” Gable said on the Fairmont blog.
“There is upside risk to margin expansion beyond FY23 given that the company has several options available to dial down expenses in geographies/capabilities where revenue may be impacted.”
Also, in this climate of inflation, Xero has an important lever to pull that’s not available to every business.
“Xero retains strong pricing power, given the structural tailwinds driving cloud accounting adoption globally, that can continue to mitigate any impact from weaker subscriber growth, which is currently only limited to the UK and North American markets.”
As relieved Australian mortgage holders saw just before Easter, interest rate rises seem to be nearing the end.
“The stabilising interest rates backdrop and improving US inflation data are likely to support a rotation back into high-quality growth stocks like Xero in the immediate term.”
Xero share price ‘still at a significant discount’
But after such a spectacular rise year to date, are Xero shares still good value if buying now?
It’s a “yes” from Gable.
“Notwithstanding the recent recovery in the shares, at current levels, Xero is trading on a 1-year forward EV/sales multiple of ~9x,” he said.
“This is still at a significant discount to the 6-year average of ~12x and at the low end of the trading range over this timeframe.”
Technically, the Xero share price has broken through several upward barriers over the past five months.
“The gap up in early March on strong volume looks like a ‘breakaway gap’ and Xero should now trend higher.”
