Xero shares sold off: Is this a massive buying opportunity?

Is now the time to pounce on this tech star?

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Xero Limited (ASX: XRO) shares had a day to forget on Thursday.

The cloud accounting platform provider's shares were sold off after its half-year results release.

Although the company reported a 90% jump in EBITDA, this was still short of the market's expectations.

Are Xero shares a buy after the sell-off?

While yesterday's selloff was disappointing, analysts at Goldman Sachs believe investors should be taking advantage of it to load up on Xero shares.

But first, let's take a look at what the broker is saying about yesterday's update. On the positives, it said:

(1) ARPU exit run-rates were solid with pricing tailwinds to flow through in 2H. As such, we expect to see strong ARPU growth (GSe +8% ANZ, +11% International) in FY24, giving Xero greater capacity to reach its opex target (re-iterated at around 75%); (2) Continued FCF margin improvement at 13.3% in 1H24 (vs. 2.4% 1H23), and looking to Rule-of-40 (GSe Rev growth + FCF margin) as a performance measure, we forecast 36% in FY24E; (3) Despite high cloud accounting penetration, ANZ continues to perform strongly adding +139k subs and +9% (CC) ARPU. RoW/NA seeing solid momentum with further detail provided on Xero's US strategy noting a continued focus on investing at a reasonable rate relative to top line growth.

Offsetting some of these positives, though, were a few negatives according to Goldman. It explains:

(1) Opex as a % of sales at 79.1% in 1H24 higher than GSe (75.3%) reflecting cost seasonality (i.e. timing of XeroCon, FIFA Women's World Cup sponsorship). Given the unchanged opex target, Xero needs to achieve a ratio in the low 70s% (GSe 72%) in 2H; (2) UK subscriber net adds subdued (+40k vs. GSe prior +55k) due to softer MTD demand with limited commentary around 2H outlook; (3) Platform revenue growth decelerating to +20% YoY vs. +27% 1H23 (CC), albeit strong growth in payments.

The sum of the above is a reasonably minor revision to its revenue and earnings estimates. The broker adds:

We revise FY24-FY26E revenue by -1-2% and EBITDA by -3-5%, primarily reflecting lower subscriber numbers. We forecast an expense ratio of 75.2% in FY24 and have this trending down.

Big returns ahead

Goldman has reiterated its conviction buy rating on Xero's shares with a trimmed price target of $141.00.

Based on yesterday's close price of $100.47, this implies a potential upside of 40% for investors.

Motley Fool contributor James Mickleboro has positions in Xero. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has positions in and has recommended Goldman Sachs Group and Xero. The Motley Fool Australia has positions in and has recommended Xero. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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