How Xero Reached a NZ$600M (About US$450M) Run Rate and 1.6 Million Subscribers with 1% Monthly Churn (Interview with CEO Steve Vamos)

Introduction and Guest Background

Nathan Latka

00:02Hello, everybody. My guest today is Steve Vamos. He leads the global growth and performance of Xero. With more than thirty years experience in global technology and digital media, he's worked in leading international businesses including Apple, IBM, and Microsoft. Steve, you ready to take us to the top?

Steve Vamos

00:16Yes. I am. Great to see you.

Nathan Latka

00:18Alright. So Xero, kind of unique Australian b to b SaaS story in the SMB space. For people that have maybe not heard of you, which I imagine are few and far between, tell us what you guys do and and are you a pure play SaaS company?

What Xero Does and Its New Zealand Origins

Steve Vamos

00:30Yeah. Look, first of all, have to clarify. We're born in New Zealand. We are New Zealand headquarters. It matters a lot to our New Zealand stakeholders to always remember that.

Nathan Latka

00:41Yep.

Steve Vamos

00:41And it really started in 2006 with our Founder Rod Drury. And Rod had a vision for taking what was really the desktop cloud or desktop accounting application and moving it to the cloud. So Xero really grabbed hold of that, listed very young in its life and has grown since with the investment by some major US technology investors as well as a lot of private individuals. We now have scaled to become a global business with operations around

01:09the world. We focus very much on the segment of small business where typically they employ maybe one to 100 people. And ultimately what we've done, we innovated in the cloud. I'll give you a couple of statistics. In Australia and New Zealand 40% of small businesses have been penetrated with cloud accounting. We are the major player in Australia whereas the rest of the world that penetration is around 20 or less. So this is a case where a

01:40local New Zealand Australian innovation has really led the adoption of new technology by business. So we're very, very proud of that and now very excited to be taking our innovations to The UK, The USA and many other markets around the world.

Nathan Latka

01:52And run rate, I wanna start now and then work backwards. So run rate today is about what?

Revenue and Subscriber Count

Steve Vamos

01:58Well look, probably the best way to look at that, we've got 1,600,000 subscribers around the world.

Nathan Latka

02:04Paying paying small businesses.

Steve Vamos

02:06That's right. Annualized monthly revenue. So if you annualize our monthly revenue at 12, which is AMRR is the language we use in SaaS, we're about 600,000,000 New Zealand dollars which is around $450,000,000 US dollars. And we're sort of on the verge of... Our guidance is that we are trading very close to cash flow breakeven.

Nathan Latka

02:27Okay. Fair enough. Very good. So just to summarize that, 1,600,000 SMB customers around the globe, around the country, around the world, you're doing about $450,000,000 in terms of US dollar run rate today. That would mean you're doing about $37,500,000 per month and each customer is paying on average in terms of ARPU about $23 a month, something like that.

Steve Vamos

02:44Yeah. It... I think that's... Yeah. That's pretty good. Spot on.

How Steve Vamos Joined and His Role

Nathan Latka

02:47Okay. So I wanna get more into your head here. When did you join the company, what year?

Steve Vamos

02:52I joined the company nine months ago. I took over from the Founder, Rod Drury. And prior to that though I did have about over a year of working with Rod on the team. I So guess when I stepped into the role Rod knew me well and he was very keen for me to do this. And essentially Rod's a visionary, a great founder who essentially looked at all the things I was helping him with were about scaling

03:17and creating a global tech company much along the lines of Apple and Microsoft and other companies I've been exposed to. And it's really a lot of common sense stuff but it is management discipline that you're talking about. Rod said to me, look, I see what we need to do to grow the business to where it can be. You should do it rather than me because I'm more interested in doing the cool stuff around innovation and new

03:37technology. And so I stepped in nine months ago and I've been leading the business and continuing the journey that started with me as an advisor with Rod.

Nathan Latka

03:46Interesting. So that's helpful to understand. When did you join the company in any capacity?

Steve Vamos

03:52It would be almost exactly two years ago.

Nathan Latka

03:55Okay. About two years ago. Here's here's where I'd love to focus on on this. At this price point, $23 a month, you typically, and I can cite Constant Contact, we can cite tons of examples where at this ARPU churn is almost always an issue and it's usually because, well, these companies are going out of business, they're SMBs. You've managed to drive pretty significant growth year over year based off your public filings in the SMB space? It's

04:17not like you're aggressively moving enterprise from what I can tell, correct me if I'm wrong. But what is your churn today and how have you managed to keep it so low?

Churn Rate and Why It Stays Low

Steve Vamos

04:24Yeah, well look, we do talk about churn and we're very, very fortunate to have a low churn rate. I think there's some reasons for that. A monthly basis our churn rate is actually I'm just trying to think what is it we actually, look it's around a 1% churn per month. So that gives you an idea on an annualised basis. I think there's some really important things to understand about our business model. We really focus on that

04:51segment of small business where they're engaged with accountants and bookkeepers.

Nathan Latka

04:55Okay.

Steve Vamos

04:56Because that has two things, two effects. One is you engage the customer, they're supported by their accountant and bookkeeper, and that was a difference that Xero brought to this space was the collaboration between the accountant and bookkeeper and the small business person where they see the same data every day. Can have a conversation about what's looking good, what's not. So that's sticky, that creates a real stickiness in the customer's engagement with Xero but also through the

05:20accountant and bookkeeper. So I think that's an important thing to recognize. My understanding would be that we would have the lowest churn rates out there in our space.

Nathan Latka

05:28Yeah. I've interviewed a lot in this space. I would would agree with that. This is the one of the lowest I've seen. Now just to try and pull a nugget out of here for my audience, are you selling almost exclusively through kind of what HubSpot does? It's almost all through resellers and the reseller is the bookkeeper?

Channel Strategy: Accountants and Bookkeepers

Steve Vamos

05:44We look at it, we sell a lot through our partnership with accountants and bookkeepers. We don't call them resellers or think of them as resellers. So the way we typically engage with accountants and bookkeepers is say, look, we want to help you transform your practice in your business to be more efficient and also to be able for you to free up time to advise small business rather than crunch the numbers on small business. So we have

06:08a conversation with accountants and bookkeepers and we have tools to help them be more efficient. And in that conversation we say the core of that is for you to bring your clients onto the Xero platform. So they work with us to do that, we support them in doing that. At the same time we do go direct. We will direct

Nathan Latka

06:26Hold on real quick Steve there, no kickbacks to them when they do that?

Steve Vamos

06:29The way it typically works is they get a margin or a discount. It's more a discount on the And then what they will do in most cases on charge, the subscription fee for Xero to their customer.

Nathan Latka

06:42So let me ask you a question because a lot of companies have this issue and they have white label partners like this. If you give... I'm gonna say that... I'm just calling Nathan's bookkeeping. If I have a relationship with you and you're giving me a 20% discount, let's say it's $15 a month for me instead of 20 for everybody else. If I create marketing channels, spend money on Google AdWords, etcetera, I can essentially un... And go

07:02direct to the consumer, the SMB. I can essentially undercut you on all your other channels because I have a cheaper price point than what you have listed if they work direct with you. So so how do you make sure that that conflict never exists?

Steve Vamos

07:14Look, I

07:17might not have followed you as well as you'd like, but

Nathan Latka

07:21I can rephrase it if you want.

Steve Vamos

07:24Well, me just say, so we would sell direct to small businesses and typically the small, we have a price for that and it's on our website and it depends on what package you buy. We also offer the same, many of the same thing, all the same things through our partners. The partners then retain or get a lower price by virtue of the discount for them signing up to be a Xero partner and also working with us

07:48to a plan to adopt, bring as many of their customers onto the platform as possible. In terms of, so I think where you're heading to is does price competition or channel conflict cause us a lot of problems in our business? The answer is no.

Nathan Latka

08:02Okay.

Steve Vamos

08:02The reason why I think it doesn't is it's still really early days in the industry. Know adoption rates are low for cloud accounting and cloud, let's call it cloud small business. So we don't really see, we have competitors who price a lot cheaper than we do. And I think what's kept us strong is the fact that we were first in market in many, many places around the world. We do go through the accountants and bookkeepers and

08:32we build that partnership. So it's not about price, it's about the value that a customer is going to get out of this new way of doing things. So at this stage we don't see lots of channel conflict, but our priority, if you said to me what's more important to you Steve, I'd say those accountant bookkeepers working with them and going to their small business clients. That's our focus.

Nathan Latka

08:53Yep. Just to be clear, the 1,600,000 customer account you gave me earlier, that's not the bookkeeper, that's the actual end. That's how many small business are working with you.

Steve Vamos

09:00Yeah. It's subscriptions to small business. That would be, you know, small business records or, you know, bookkeeping.

Nathan Latka

09:08So so I wanna get in your head a little bit about testing new channels. You know, Constant Contact really hit a brick wall after they were very aggressive with kind of radio ads and things like that. The stock markets in The US did not reward them when you looked at their PE ratio relative to other SaaS companies. I'd like to understand how you think about testing new channels in a programmatic way and doubling down when you

09:28see positive signs. Before we do that though, tell me where you're at today. So to get a new customer paying you $23 a month, what's your fully weighted CAC look like?

Gross Margin and LTV to CAC Metrics

Steve Vamos

09:37So look, here's the way. We talk about, we publish our LTV, lifetime value per customer to CAC ratios. Okay. Basically what we do is we say, we calculate once you sign up as a subscriber, we work out what the value of that subscription is to our business. And clearly that's a function of the gross profit that we make on that subscription. The gross profit

Nathan Latka

09:37Are

10:01you in the 80 or 85 range?

Steve Vamos

10:03And we've seen nice trends on that metric where sort of in the last six months we showed a kick up of another percent to about 80, think we're 83%.

Nathan Latka

10:13Okay.

Steve Vamos

10:1483% in the last half. So that's really important just so that continuous efficiency. So that's a driver, churn is a big driver Right as

10:24now Xero's overall blended global LTV to CAC is in the range of six or seven times, right? So for every dollar we spend we get back 6 or $7, which... And obviously in Australia, New Zealand and more developed markets we've got a higher LTV to CAC. In new markets it's lower.

Nathan Latka

10:43So here's my question for you.

10:46Isn't it dangerous to in a purest way look at LTV to CAC, especially in this situation, I'll tell you why. Your churn is so low. Right? So if you have 1% logo churn per month and you do one divided by point o one, that would give you a lifetime value of a hundred months or over eight years at $23 a month. Right? You then multiply times your gross margin of 83% and you're looking at gross margin

11:07LTV of like $1,900. If you divide that by six to back into a CAC, the CAC would come out to what is that like $300, but that would still take you about a year and a half or almost two years to recover that on $23 a month. So do you have do you have the ability to be patient on how long the payback period is because you have health, you you know what the cohort is gonna

11:26do over eight years?

Steve Vamos

11:27Yeah, think we do. And that's because as we've grown, so we're now at the point where, as I mentioned before, we hit another major milestone for Xero which is cashflow breakeven. Now that's

Nathan Latka

11:38Congrats, that's fun.

Steve Vamos

11:40Yeah, it's a huge milestone. It hasn't happened yet but it's our outlook, you know, our outlook statements which are taken very seriously by the market. So that's where we're heading. So that's really exciting for us because it says now that we've proven we have a business and it can fund itself. What we see is that because of the blend of developed and growing and we've got the markets where we've really achieved penetration and efficiency and the

12:06markets where we're still investing. Our challenge is to balance those things so that overall our financial metrics are good. I think what you're suggesting is there's the big question we always face is how much more should we be investing given those very attractive returns and how fast should we be investing to do that? So I think that's the big business question we have to answer for ourselves and we constantly look at that. I would just put

12:34it this way, the guidance we're giving or the outlook we're giving says excess cash the company generates going forward as we scale will be reinvested in the business because, you know, at that sort of return rate, you just have to.

Nathan Latka

12:48Yeah. Are you right now in any acquisition talk or take private talks with a company like Vista Equity or any other big private equity firms?

Acquisitions Strategy and Convertible Note Raise

Steve Vamos

12:56Look, we we... So the answer is no. We... The way we're looking at acquisition is more us acquiring other businesses. We recently raised 300 US million dollars through the issue of capital notes and convertible notes I should say, convertible notes. And what we're doing is really looking at opportunities not just to build and partner but also to acquire new businesses that come into the portfolio and really meet our strategic needs and priorities. An example of that

13:26was, I'm not sure where, we acquired Hubdoc, a Canadian company. Great Canadian business, it's a number of years old, a Xero partner who help in the automation of the process of bringing documents and data into Xero to streamline the processes accountants and bookkeepers use to obviously update the accounts and do what they do.

Nathan Latka

13:47You're talking about Josef, right?

Steve Vamos

13:50Yeah. Well actually I don't know. I think it was Josef who you interviewed a couple of ago.

Nathan Latka

13:54Yeah. They came on the show about a year and a half ago with offices in Toronto and Australia, they were doing like $1,600,000 in AR across 1,100 customers at that point.

Steve Vamos

14:04Yeah. Well, the two Jamie's who are are the founder... The joint CEOs and founders are now part of the Xero team, and we're really excited about having him on board.

Nathan Latka

14:12Did that pro form a worked out? Imagine you said okay we've got Hubdoc, if we cross sell it across 1,600,000 users x percent are gonna take it up. Mean did that pro form a pan out?

Steve Vamos

14:21Yeah it's all about that. It's about three things. One is driving the growth and adoption of cloud accounting which means showing accountants and bookkeepers the way to driving their practices more into the cloud and bringing their small businesses online. It also is one that helps us in the expansion of Xero from you know doing accounting in the cloud to really what we are which is doing business in the cloud. So the connections that Hubdoc facilitates with

14:46suppliers, banks and others, and then the streamlining of the import of that data and that content into Xero for processing is something that's really attractive to us as a platform company. And then finally we acquired great talent in the the Jamie's and their team.

Nathan Latka

15:01About 20 people I think, right?

Steve Vamos

15:04Lot more than that now.

Nathan Latka

15:06Sorry, they were. Yeah. Back when they came on the show, were about 20.

Steve Vamos

15:09Yeah. They're about... I'll tell you they're about a 100 people now.

Nathan Latka

15:11When you bought them, what were they at?

Steve Vamos

15:13Look, not much less. So we only bought them. It was just a few months ago.

Nathan Latka

15:17Okay. Very good. So have you... Do you have a good outlook yet on what percent of your 1,600,000 customers you think are going to upsell into the Hubdoc product as well?

Steve Vamos

15:28Not really, nothing sort of specific I'd talk about today but certainly, you know, we've had, our approach has been very much to let the Jamie's and Hubdoc do what they do and do it well. And we're also working closely with them to look at exactly that question as we go forward in our plans for next year and beyond. We've made assumptions and our assumptions are I think hopefully conservative but we can see a real opportunity to

15:52attach that quite broadly.

Nathan Latka

15:54Yeah. And just to be clear, that was a fairly healthy acquisition. Think it was reported 70,000,000 in cash and equity, right? Something like that? Yes. Yeah. Interesting. The... If you if you in an executive team meeting next week kind of forced your executive team to say, okay guys, let's assume we don't add one new customer and our strategy moving forward is expanding wallet share across the 1.6. In other words, how do we go from $23 ARPU

16:15to $30 to 35? Is it really going out and acquiring additional kind of hub and spokes like Hubdoc, things that SMBs need to run their business in the cloud?

ARPU Expansion and Platform Growth

Steve Vamos

16:24It's about three things and it is a conversation we have not so much that... And we've got two dimensions. We see so much upside in subscriber growth that's you've got to be focused on that. But also you want to go deeper, not just because for financial reasons but fundamentally because once businesses are in the cloud we want them to do more in the cloud. So we look at new products. So we launched our projects and expenses

16:48products last year. We look at partnering. So we've got payroll solutions that we built, we partnered in The US with Gusto to provide a better payroll solution for our US customers. And then we look at acquisition. So the way we will look at acquisition is to say in the life of a small business, once you're doing your invoicing, your purchasing and your accounting in the cloud, what are the other things that you'd really want to do?

17:13Now we're fortunate and we have 700 companies building applications on our platform using it, leveraging our APIs.

Nathan Latka

17:20Including Hubdoc, that's how found Hubdoc, right?

Steve Vamos

17:22Exactly, 50,000 developers. So we always already have a really wide range of application solutions on the Xero platform. But we will look at acquisition into certain areas where we think that that integration with Xero, at a much deeper level makes a lot of sense. So, we are very clear. Now the other thing that I think is important, it's not just applications, it's actually services. So two of the areas we've been doing a lot of what I

17:48call proof of concept that we see real business opportunity in are areas such as payments and lending.

Nathan Latka

17:56So let me ask you a question. Can I make a prediction here? Because you see Intuit just did this with Smartsheet. So you see Salesforce do this all the time. They use their app exchanges as a way to test partnerships. And then usually your BD teams are spending your time seeing if you can buy up the highest performing app. So you just told me that receipts expenses, this might be interesting for you guys. Receipt Bank ranks

18:16very highly in your app store right now. Can I make a prediction you're gonna acquire them in the next two months?

App Ecosystem and Potential Acquisitions

Steve Vamos

18:21Look, think you are absolutely right in saying that our app ecosystem is a great way for us to see what customers are valuing and the applications that they're using. I think what we have to do, and look you mentioned a bunch of great companies there, we have to be smart and mature about our desire to have this platform which is really, really fundamentally important and that conflict that happens when you start to acquire into that ecosystem.

18:49100%, yeah. You know, the acquisition of Hubdoc, you're right, there's overlap there with Receipt Bank. Now we're really clear and have had good conversations with all parties about what we're trying to do. I want Receipt Bank to continue to flourish. I also wanna make sure Xero as a technology platform also has the best of what's possible in the way that we ingest documents and data. So you've got to, it's one of those things, pardon me, where

19:16you have to accept that from time to time you cooperate and sometimes you compete. So we've already grown up about that.

Nathan Latka

19:25Yep.

19:26Last question here. You guys went public fairly early. This was before your time I think. And I believe it was 2007 I think, a $15,000,000 IPO on the New Zealand exchange, right?

Steve Vamos

19:37That's right.

Nathan Latka

19:38The 300,000,000 convertible notes you just raised, I don't... I'm not actually familiar. How does that actually work after you've gone public? Even even before that, you know, you... I think you guys raised a 100,000,000 from Accel and 10.8 from Matrix Capital in 2015. How do you raise capital from traditional VC after you're already public?

Steve Vamos

19:58Well, in terms of, well, it's a little bit tricky to answer that because we're not currently looking to raise capital from traditional VC.

Nathan Latka

20:07No, but you did. I'm saying how did you do that?

Steve Vamos

20:11Look, that's before my time. Think Rod would probably have a good answer to that one. But I would think that knowing Rod and the way that the board of the company that, you know, because the IPO happened really, really early. I mean, super early, you know, the share price was a dollar. And so I think Rod being, he's a very inspirational guy. I think he would have sold the vision internationally to all those key tech players

20:36and did it very, very well. So ultimately it comes down to the founder and the board having the credibility and the vision that these, you know, really shrewd, smart and experienced investors can relate to. And many of them did, and I think they've been rewarded.

Nathan Latka

20:54Yeah, no, I'm just curious actually tactically how they do that into a company already listed on the New Zealand Stock Exchange. I just don't know actually functionally how they would... How they do that.

Steve Vamos

21:03Yeah. Well, typically what happens, you list and you issue additional shares, but that still leaves you with a significant, you know, shareholding in the hands of other investors.

Nathan Latka

21:14So they sold what they kept, maybe they only sold 10%. They then sold extra little chunks to these traditional US based VCs over time.

Steve Vamos

21:22You would have had investors, private transactions between shareholders who were in early, who would have made their shares available for sale. And I'm not sure whether we issued more equity along the way, but I'm pretty sure we would have actually we did. So, because what I need to do to answer your question really well would be to have a look at what happened to the actual capital base, how many shares were on issue versus back then.

21:45And to work out how much of it was through shareholders transacting versus the issue of new capital or new shares. So I don't have that sort of top of mind.

Nathan Latka

21:54That's okay. We just had the Cvent folks on there doing about $600,000,000 in ARR. You guys are four fifty. Who's... Which kind of B2B SaaS company that's not named Salesforce you think hits a billion dollars in ARR first? Can you guys do it solely focused on SMBs at a $23 price point?

The $1 Billion ARR Question and Market Penetration

Steve Vamos

22:10Well, I would certainly hope so. I can't see why not. I mean, you look at market penetration, it's still incredibly low.

Nathan Latka

22:17Do Where you put your penetration at right now? What percentage?

Steve Vamos

22:20Well, I think for the industry it's at around 40% in Australia and New Zealand and less than 20 everywhere else in the world.

22:26I

22:27mean, Canada's under 10. Canada's under 10%. And it is Canada and Australia are very similar markets in many respects. You US a little bit more penetrated because you have Intuit there as their home base. So it really just, you know, there's tremendous opportunity in terms of subscriber adds and also a tremendous opportunity getting business to do more business on the cloud platform.

Nathan Latka

22:49Mhmm. Last question here. Team size today, how many people?

Team Size

Steve Vamos

22:53We have about two and a half thousand people around the world.

Nathan Latka

22:56Oh, got it. Okay.

Steve Vamos

22:57Drive honored, very good.

Famous Five: Books, CEOs, and Tools

Nathan Latka

22:58Alright let's wrap up Steve up with The Famous Five. Number one, what's your favorite business book?

Steve Vamos

23:02I'm absolutely obsessive about the importance of the way teams think and they're led. So I'd say The Five Dysfunctions of a Team by Lencioni is a must read for everybody and then all the other books I love are kind of related to that. Good Boss Bad Boss by Bob Sutton, that's a beauty.

Nathan Latka

23:19Yep.

23:20Number two, is there a CEO you're following or studying right now?

Steve Vamos

23:22I just read Satya Nadella's book, and as an old Microsoftie, I really... I'm really pleased to see how

Nathan Latka

23:22You're

23:30talking about refresh?

Steve Vamos

23:32Sorry? Yeah. Hit refresh. Sensational thoughts there from Satya, so I'd say that's the most recent and relevant one for me.

Nathan Latka

23:39Number three, what's your favorite online tool for building your company?

Steve Vamos

23:43It has to be doing what we're doing here. I mean, I'm on Hangout or Zoom all day long. So I live I live online talking to people through through these tools.

Nathan Latka

23:54Number four, how many hours of sleep do you get every night?

Steve Vamos

23:56I try and get eight, but it's been seven of late. I found that in this role, as soon as I do slightly wake up, I'm awake. So

Nathan Latka

24:04And Steve, what's your situation? Married, single, kids?

Steve Vamos

24:06I've got a beautiful partner. I've got two grown up daughters and I've got six grandkids.

Nathan Latka

24:10Holy mackerel. And how old are you?

Steve Vamos

24:1261.

Nathan Latka

24:1361. 61 years young. I love that. Last question. What do wish your 20 year old self knew?

Steve Vamos

24:18Yeah. It's a hard one. Look, there's so many lessons. I wish I knew then how how little I knew.

Nathan Latka

24:26How little you knew, guys. There you have it from Steve again. Really got active in Xero, call it maybe two years ago. Took over a CEO role, call it, you know, nine months ago. Now focused on obviously growth, 2,500 people all around the world, good penetration in New Zealand, call it 40%, but maybe only 20% in The States and even 10% in Canada. They broke in $450,000,000 in terms of run rate across six... 1,600,000 customers, SMBs

24:47mainly paying $23 bucks a month, 1% logo churn per month, LTVs, you know, north of call it 1,900, that's gross margin LTV. So healthy, healthy lifespan, they're spending up to call it, you know, six or one sixth of LTV on CAC as they look to go into new channels and continue to drive growth, not only through new sub adds, but also acquisitions like the 60,000,000, well, 70,000,000 total deal with Hubdoc recently, really funding a lot of

25:10that out of the $300,000,000 convertible note they just raised. Steve, thanks for taking us to the top.

Steve Vamos

25:14Thank you, Nathan.