Xero Limited (XRO) Earnings Call Transcript & Summary

Good morning from Sydney, Australia. Thank you for joining our investor briefing today, covering Xero's financial and operating results for the half year ending the 30th of September 2023. I'm Sukhinder Singh Cassidy, this time I'm getting it right, I think. And I'm with Kirsty Godfrey-Billy, our CFO. Our first agenda item is an introduction in summary of Xero's performance during the half. I'll then pass to Kirsty to cover our financial results in detail before I finish with strategic themes and Xero's outlook. We'll then move to Q&A. So moving on to a summary of our results on Slide 5. I'll touch on a few of the key metrics here, and Kirsty will discuss them in more detail later. Revenue grew 21% to $799.5 million. Headline EBITDA of $206.1 million is up $97.5 million on last year. Operating income of $67.4 million increased $46.7 million year-on-year. This strong operating results drove free cash flow generation with free cash flow increasing to $106.7 million. This reinforces the strength of Xero's fundamental business and shows we are starting to balance growth and profitability. So now moving on to the 2 key themes in our H1 performance. I'll talk briefly through each key theme with more details in the next few slides. First and foremost, Xero has continued to deliver revenue momentum. Secondly, we're delivering emerging profitability as we operate more efficiently and effectively. Moving to the next slide. If you release the macro resilient business that continues to deliver strong top line growth. Revenue rose 21% or 20% on a constant currency basis. This reflected subscriber growth of 13% year-on-year, with subscriber additions of $204,000 in the first half. Price changes across both our business and partner addition products were a key driver of ARPU, increasing 6% or 8% on a constant currency basis. While ARPU expansion slowed from 13% in the prior period, this largely reflects first half '23, benefiting from spot FX volatility. This was only 6% on a constant currency basis in the prior period growth lower than the 8% we delivered this half. I'll now spend a few minutes to outline the regional contribution to this revenue growth. Slide 8 shows continued progress in our Australian and New Zealand businesses with solid revenue and subscriber growth as we drove further adoption across the channel. The ANZ segment delivered 21% revenue growth, 22% in constant currency terms, with H1 -- from H1 FY '23, outpacing subscriber growth of 13%. ARPU expanded 4% nominally, it was 9% on a constant currency basis, mainly from price rises. Both countries contributed to this with Australia growing revenue by 22% and adding a further 122,000 subscribers in the house, while New Zealand grew revenue by 15% and added 17,000 subscribers. We see this as a great outcome in regions that already have high cloud accounting penetration. We also hosted our Xerocon event again this year in Sydney, attracting several thousand accounting bookkeeping and ecosystem partners from across our markets. Xerocon continues to be an important partner engagement opportunity and highlights the strength and importance of our relationship. Turning to the International segment. We delivered 22% revenue growth, 18% in constant currency terms and reached 1.67 million subscribers, up 12% compared to H1 FY '23. ARPU grew by 8% to 37.9% or 7% on a constant currency basis, mainly driven by price changes. In the U.K., revenue increased 23% to $216 million or 18% in constant currency. Subscribers were up 13% year-on-year with net additions for the half of 40,000. Subscriber growth in U.K. was subdued, largely reflect in lack of MTD demand and accountants and bookkeepers managing their undeployed or final inventory. This inventory management by accountants and bookkeepers led to increase in subscriber volume churn. However these subscriptions are much lower valued which meant we didn't see this come through on international MRR churn and the revenue impact was limited. On MTD, we saw the benefit of Phase II in the second half of full year '23. This phase is now completed, and we saw this contribute to softer demand for compliance software in the first half. Another factor impacting the half was seasonality, with the first half historically lower than the second half in this market. We continue to see a strong long-term opportunity to digitize small business cloud accounting in the U.K. and believe we have a strong value proposition, brand momentum that is building, and we'll continue to focus on product and go-to-market initiatives. In North America, revenue increased by 9%. However, this was impacted by a couple noisy items that Kirsty will talk to. Excluding those items, revenue was up 19%. Total subscribers were up 12% year-on-year with net additions of 12,000 in the half. There are a few dynamics at play here. Our U.S. business had good momentum and delivered a good balance between subscriber growth and ARPU expansion. Canada's net subscriber outcome for the half was disappointing. We're working through changes to our team and our sales motions in this market. This has translated to a good revenue outcome but impacted subscriber additions. In our Rest of World markets, revenue grew 29% or 27% in constant currency terms, with the proportion of higher value customers in this region contributing to the high revenue growth we delivered. Total subscribers grew 10% year-on-year with net additions of 13,000 over the half. The largest driver of subscriber growth in this segment is South Africa, where we continue to see good momentum. Before I hand to Kirsty, I want to highlight another key theme of H1 performance, and that is emerging profitability. As seen on Slide 10, we have focused on managing our cost base while driving continued revenue momentum. We measure profitability through a number of metrics, but I'll highlight 3 here. In the first half, our net profit after tax increased to $54.1 million. Our operating income margin increased to 8.4% from 3.1% in the comparable period. Finally, on the right-hand side of the chart, you can see our free cash flow margin increased to 13.3% from 2.4%. Each of these demonstrate that we are focusing on the bottom line as well as top line growth, and we're really pleased with this outcast. We will continue to focus on managing our resources better to help support operating income growth and free cash flow. I'll now hand to Kirsty to cover the financial results in more detail before coming back to you to cover our strategic fee and outlook.

Thanks, Sukhinder, and good morning, everyone. I'll now provide some further detail on our financial results for H1 FY '24 starting on Slide 12. This slide shows AMRR and gross profit. The result Xero has delivered showed continued growth momentum across the group, demonstrating the value that we deliver to our customers. As you can see on the left, headline AMRR increased 19% or 22% in constant currency to more than $1.7 billion. This was driven by subscriber growth of 13% and an ARPU increase of 6% or 8% on a constant currency basis. This metric reflects the annualized benefit of price changes in ANZ and the U.K. in addition to the subscriber growth that occurred at the end of H1 and indicates an exit rate for our business coming into the second half. Price rises in our North America and Rest of World segment are not reflected in this number as they became effective after the half closed. Our high gross margin, combined with the revenue result have seen gross profit increased by 22%. The chart on the right shows this trend with gross profit at $700 million for the half. We have remained disciplined as we serve our customers and this is reflected in an improved gross margin compared to last year of 87.5%. This focus on efficiency is part of our operating rhythm and we continue to look at new ways to improve and innovate in the space. A great example of this is how we have experimented with generative AI and Xero Central, a customer support and learning site, which Sukhinder will talk more about later. The next slide is the breakdown of revenue showing the contribution of our core and platform revenues. Core accounting revenue growth of 24% or 23% in constant currency was driven by subscriber growth and ARPU expansion as prior period price changes flow through. Platform revenues grew 21% or 17% in constant currency and remained at 10.5% of operating revenues. The decrease in other revenues largely reflects a reduction in Xerocon revenue as we only held one event in the half versus 3 in H1 '23. It also reflected the decision to [ sunset ] our Loqate product as we release Xero inventory plus. At a regional level, this reduction in other revenues largely impacted North America with these items contributed $3.7 million in H1 FY '23. As Sukhinder mentioned earlier, excluding these items, North America revenue growth was higher at 19%. Let's turn to the detail on platform revenues. On this slide are the activity indicators for the 3 largest elements of platform revenues, payments, Planday and payroll. While there are differing dynamics across each of these, an overarching theme is that we're still relatively immature, and we see a significant opportunity in fixing this attachment [ leader ]. This includes changes to sales motions, pricing and packaging work and investment and product functionality. On the left, we show that monthly invoice payment value grew 23% since September 2022. We see this as a great opportunity and are focused on improving the user experience to increase customer uptake, for example, continuing to streamline the onboarding and workflow experience. Revenue growth was higher than that of the [ TPV ] at 37%, reflecting higher average payment value over the period and improved economics with our partners as we reach growth milestones. The middle chart shows the number of Planday users at the end of each quarter since September 22. This increased by approximately 9% from the prior year period. As we highlighted in our last results, Planday is transitioning to focus more on the smaller segment in its European home market. This has impacted the growth rate in the number of employees using Planday as we transition between segments. We've now launched 5 awards of Planday's award and [ to rotation ] tool in Australia, and we're pleased with the momentum, although it has limited contribution to this number. The right-hand chart shows employees paid through Xero Payroll. This increased 10% since this time last year across Australia, New Zealand and the U.K. where we offer this product. While there is more work to do to enable our products to better deliver for customers in the U.K. and New Zealand markets, there is an element of normalization and growth in Australia following STP tailwinds in prior years. Turning to our FX metrics, which we show on a half-by-half basis. As we show on the left-hand side of Slide 15, ARPU has increased by 8% over the half to more than $37. Price changes are the largest driver of the increase, followed by FX benefit noting that FX impact included in these metrics are on a spot basis rather than average rates over the period. We also saw some benefits from mix shift. We are more actively turning our focus to improving mix but it is early days. As the right-hand chart shows, the decline in churn since COVID has been sustained and was 0.94% per month in H1. We did see a slight uptick in churn, which we report on an IRR basis over the half. Moving to the next slide. Here, we highlight how these SaaS metrics reflect the value Xero generates. LTV is a high-level measure of the value customers bring to Xero over their lifetime, which on average globally is around 9 years. The chart on the left shows the expansion in LTV in recent years. Over this period, we've continued to see customers join us. And as we have delivered increased value for them, we've seen them stay with us. This is reflected and the key contributors of LTV, which you can see on the right, ARPU of $37.38 and churn of 0.94%. We measure our efficiency of acquiring new subscribers through LTV to the average cost of acquiring a subscriber or LTV to CAC, as this best reflects the individual value that customers bring. The unit economics we generate in New Zealand and Australia reflects the value that Xero can deliver in a more developed market with an LTV to CAC ratio of 14.6. Moving to the next slide, we break down how these metrics have evolved over the half. Last on the left hand of the slide, where we show how the drivers of LTV have moved over the half. Moving from this to right, subscriber growth contributed $773 million to LTV. ARPU expansion was the largest driver of the LTV uplift, reflecting price rises across our full product range. FX was also a benefit with the majority coming from our U.K. business. The contribution of gross margin improved slightly as we continue to efficiently serve our customers. This is a great outcome. The slight increase in churn was a drag on LTV of $634 million. I want to touch on some of the related metrics, which are highlighted in the chart on the right. LTV subscriber, CAC and LTV to CAC. You'll also find these metrics in the appendix. LTV per subscriber grew 4% over the half to $3,742 or 3% on a constant currency basis. Tax spent over -- tax spend covers 3 broad areas: The cost of acquiring new subscribers and investing in our brands for future subscribers, initiatives to educate existing customers to encourage retention and costs associated with upselling and cross-selling to existing customers. The majority of acquisition costs are expensed in the period in contrast to the revenue from subscribers added, which is earned over multiple years. Tax spend increased 16% as we increased investment and brand recognition, particularly in the U.K., through partnering with organizations such as FIFA Women's Football to drive future growth. The CAC per gross add metric increased by 6% over the last 6 months. The increase in tax spend per gross add is reflected in higher tech months in the International segment, increasing from 23.3 months in March just 23.5 months in September. However, at a group level, CAC months fell from 15.9% to 15.6%, reflecting improved efficiency in ANZ. While we don't expect to reach the same LTV to CAC in our international segment over the long term, we see substantial opportunity to further grow LTV as the benefits of our investment come through as we become more efficient to drive an improvement in LTV to CAC. LTV to CAC was broadly flat at 6.4% compared to 6.5% in March '23. The reduction here was due to the higher CAC per gross add. Now moving to expenses. We completed our restructuring program and worked hard to embed these changes into our business in order to operate with greater clarity, speed and effectiveness. The outcome of the restructure is reflected in the 14% decrease in our FTE through September '23 from 4,915 to 4,242. This has flowed through our financials with continued improvement in operating leverage driving our bottom line outcomes. We remain committed to our FY '24 guidance with operating expenses to operating revenue ratio to be around 75%. There is an element of seasonality to both components of the ratio, which is reflected in our first half through the cash investment on events like Xerocon and our FIFA World -- Women's World Cup sponsorship and recently announced price changes, which have limited contribution to revenue this half. Let's turn to the detail in our cost base. Sales and marketing costs increased 16% against revenue growth of 21%, which resulted in lease cost falling to 34.7% of revenue. Spend during the period included our sponsorship with FIFA and other brand spend. This investment we've made in our brand will take time to translate through to returns as brand awareness and recognition devalue. Moving to G&A expenses. These fell to 12.1% of revenue due to cost control. Signing on product design and development costs, fees fell to 32.1% of revenue. This area was where the majority of FTE reductions occurred as part of our restructure and the small -- spent here is largely a flow through of these changes. Total product and development costs, including capitalized costs, was 34.9% of revenue, down from 44.3% in H1 FY '23. This coincided with our capitalization rate falling slightly to 40.6%. This movement in our capitalization rate is largely an outcome of timing, project spend and the impact of our technology function redesign. Moving to Slide 20. Here, we present a summary income statement for the half as well as a reconciliation projected EBITDA. Our continued revenue momentum and lower cost base following our restructure contributed to the large increases in operating income and EBITDA this half. There were limited adjustment impacts in this period with $2.1 million restructuring charge as we finalized our organization redesign, a $6.8 million benefit to the P&L from accounting adjustments related to the sale of Waddle and $3.1 million of noncash revaluations. Shifting to the right-hand side, we present a summary income statement for the year. Operating income more than doubled, reflecting our shift to balance in growth and profitability. This flowed through to our -- this flowed through to our cash position, so let's move to the detailed year. This slide shows the constituent movements of our free cash flow over the past 12 months and clearly highlights our shift towards balancing growth and profitability. Taking a look at the key components of operating cash flow, starting with our customer receipts. This is mainly payments from subscribers and tends to follow our reported revenue. Moving across the chart for payments to suppliers and employees. This movement compared to H1 FY '23 includes the payment of redundancy costs totaling $31 million from our restructuring as well as increased payments for annual software licenses renewals, payments to suppliers for brand spend. While this chart presents a year-on-year view, a consideration for the movement half-on-half as we tend to pay more of our annual software license renewals in the first half. We saw net cash interest receipts during this period. This reflects our earnings on our cash and term deposit balances given the current rate environment. I'd like to highlight that there is a divergence here from our P&L as the majority of the interest expense we incur as noncash amortization of our convertible notes. Income tax payments had a limited impact on our cash flows in the period. We are beginning to utilize our New Zealand tax losses, which you can see in the deferred tax asset movement on the balance sheet. Finally, capitalized costs mainly reflect product development as well as a small amount of investment in physical assets. As I said earlier, we saw a slight fall in our capitalized spend during the half due to the timing of our investment spend. This benefited free cash flow. Turning to Slide 24. The increase in cash generation was a key contributor to the $136 million increase in Xero's total cash position including short-term deposits to $1.6 billion at September 30. Our term debt liability reflects entirely the Xero coupon convertible notes that mature in December 25. The reduction here reflects exchange rate impacts as the U.S. dollar-denominated partly offset by the continued unwind of discount on the issue. This is a noncash item that is reflected in our P&L. Given the flexibility that our convertible notes funding provider and another half of free cash flow generation, we are comfortable with our net cash position, which has increased by more than $150 million from this time last year. Thank you. I'll now pass back to Sukhinder.

Thanks, Kirsty. I'd now like to spend a few minutes on the early stages of our journey to become a higher-performing global SaaS company. We're excited as we look forward and are starting to implement some of the principles we discussed in the full year '23 results call. On this slide, you can see these principles, which set us up for Xero's next chapter. We talked about becoming more focused, being more dynamic, more measured and more balanced. We also outlined our multiple levers for growth. Today, I'd like to share some strategic themes that are important as we continue to evolve in the direction of our global aspirations. The first thing we're doing is sharpening our focus on segments and mix as a key lever for growth. Secondly, our U.S. review has finished, and it shows us there's a clear opportunity to be more focused and grow in 2 key customer segments with more consistent execution. Thirdly, evolving our global leadership team is key to Xero's next chapter, and we've added new capabilities to that theme. Fourth, we see AI as a critical opportunity and it's one that already powers Xero are opportunities to invest and experiment further. We have a good understanding of our customers how they use Xero and how they work with accountants and bookkeepers. And now it's time to sharpen our focus on mix as we seek to improve this over the coming years. Xero generates value through serving small businesses who have a range of requirements from those with simpler needs with one or 2 jobs to be done to those who have multiple needs and engage Xero as part of their core business activities. Accountants and bookkeepers support customers right across this range. Underlying all of this is Xero's ladder products, from simple to more complex that meets the different needs of customers in these segments. Understanding these segments and how our products align to them enables us to focus on where we should both invest our GTM and product efforts and drive the right solutions for the right customer. We want to be proactive in driving mix. This is a relatively new lever for our business, and as we grow revenues, we'll seek to better balance mix with subscriber volumes. As we sharpen our focus on customer segments and mix, our teams have undertaken a review of the level of customer usage and engagement in subscriptions with accountants and bookkeepers, practices that are digitizing. Through this work, we've identified a small group of long idle low-value subscriptions that are still undeployed after an extended period and where we no longer expect to deploy -- them to deploy in a reasonable time frame. By way of definition, we count idle subsets that have been purchased largely by accountants and bookkeeping partners but are yet to be deployed and have tasks initiated on behalf of a small business. As accountants and bookkeepers transform their practices, they tend to buy Xero subscriptions and packages ahead of deploying these subscriptions to small business clients. As a result, there's often a natural period during which these subscriptions are idle, and then they are increasingly deployed and actively managed by partners as they utilize them on behalf of new or existing small business clients. We estimate there is a small pool of between 150,000 and 200,000 long idle subs that it makes sense to remove from our overall base going forward. As you can see on the slide, we define long idle subscriptions as those that have been undeployed for more than 24 months and are not expected to deploy in a reasonable time frame. The majority of the subscriptions are located in our international segment across North America and the U.K. with a smaller portion in Australia and Rest of World. We plan to remove these subs after the end of full year '24 during the first half '25. Based on the midpoint of that range, as of the 30th of September 2023, these subscriptions had an ARPU of approximately $3.7 and if they were removed at that date, group ARPU would increase by approximately 3% to 5%. The removal of these subscribers is expected to have minimal impact on FY '25 revenue. We believe this is the right approach for Xero as we seek to build an even more engaged customer base going forward. Removing these subscriptions will support an evolution of our sales motion by allocating resources towards improving mix and working with accountants and bookkeepers to acquire and deploy their Xero inventory through smaller and more frequent sales motions. Moving to our U.S. review on the next few slides. Over the half, we undertook work to form a deeper and more nuanced view of our U.S. strategy and execution. We continue to see a strong opportunity for Xero to deliver value to U.S. customers. But, I'd like to start by acknowledging what we've done less well historically shown on the left-hand side of this slide. Over a number of years, we've had inconsistent sales motions such as targeting multiple segments with suboptimal onboarding, frequent North America sales leadership changes and a varied product and technology investment approach. While our approach is varied over time, our level view of investment in the U.S. overall has been fairly measured with the average annual net direct investment in the U.S. over the last 10 years sitting at around NZD 30 million. We believe this is comparable to U.S. center-led growth business. So if I now turn to what is working well. We have better product fit that is desired and offers value to 2 key segments in the U.S., small businesses with multiple jobs to be due and the Client Advisory Services segment of accountants and bookkeepers. Our go-to-market approach is steadily improving. We've learned from our previous experience, and we're increasingly aligning our sales motions to our key customer segments. And thirdly, our open ecosystem and partner approach is a differentiator. It serves us well in a market where customers continue to use a variety of platforms and want choice in their app stack. Now I'd like to talk about how it will drive growth going forward. As we now better understand where we offer value, our efforts will be directed towards our 2 key segments, with investments in the right products with the right marketing for those segments. Making our products better for small businesses with multiple needs will enable us to scale ARPU over time through Xero and through our ecosystem partners. As we serve the CAS segment of accountants and bookkeepers who want to build their advisory practices, we'll look to leverage our tools that can provide them help in moving up the value chain to advisory. Secondly, as part of this focus on segments, as we said, we plan to remove long idle lower-value subscriptions during the first half of FY '25 from our U.S. subscriber base. This will enable our sales teams to further focus their efforts on mix and work with accounts and bookkeepers to buy and deploy inventory in small and more frequent motions. Thirdly, we'll be more targeted in our go-to-market investments. We'll do this by increasing efficiency of our direct product funnel and being more focused on targeting our marketing spend in local U.S. geographies with critical density in our core segments where that spend can be more effective. Additionally, we'll try to increase our execution capability through a revised operating structure designed to better respond to North America's needs. This includes giving our U.S. and Canadian country has more visibility and accountability by reporting directly to our new Chief Revenue Officer, and reducing one management layer. It also includes enhancing our product and technology delivery with more onshore U.S.-based product and engineering support for improved localization. Finally, we'll continue to use our open ecosystem as a point of differentiation to enable customers to build the solutions that work for them in a robust, highly fragmented small business software market like the U.S. This partner approach is a key tenet to Xero's value proposition. So in conclusion, we're clear about the execution path in the U.S. and will be more targeted in how we approach growth. In line with our overall strategy to be more focused and disciplined as a company, our U.S. plan is to invest at a reasonable burn rate relative to the top line growth. Moving on to our next key theme, the evolution of our leadership team. We've made a number of strategic appointments over recent months to evolve our executive leadership team for Xero's next chapter. This ensures we have the right leadership capability and structure in place to more effectively operate and manage a global portfolio. Each leader is now fully responsible for global functions and brings in-depth experience to help optimize each area of our business. Ashley Grech joined Xero in August as our new Chief Revenue Officer, responsible for our go-to-market functions. This includes global sales operations, mutual managing directors, customer experience, ecosystem and partnerships and revenue operations across all geographies. Before Xero, Ashley was Chief Operating Officer for ReCharge, a payment solution provider and Global Head of Sales for Square now block. Michael Strickman was appointed as our Chief Marketing Officer in October driving our direct customer and partner marketing journeys across all regions and aligning our brand, marketing, digital and communications team. Michael joins from Uber where he was Vice President, Performance Marketing and Growth; and prior to that, led global demand generation for TripAdvisor. Diya Jolly joined in April as our new Chief Product Officer to lead our user experience team, product management and product marketing functions globally. Prior to Xero, Diya was Chief Product Officer at Okta, a global SaaS security provider and previously led YouTube advertising monetization product efforts. In September, Diya assumed additional responsibilities for our global product engineering team. Diya is closely supported in her expanded portfolio by Chris Patalano, who joined Xero's senior leadership team in October as Executive Vice President for Engineering. Prior to Xero, Chris was Chief Technology Officer at Realtor.com and previously was an engineering executive at Pandora app. These new additions strongly complement our existing tenured and experienced executive leadership team which includes Damien Coleman, our Chief Legal Officer and Company Secretary; Kirsty Godfrey-Billy, our Chief Financial Officer, who many of you know well; Nicole Reid, Chief People Officer; and Angad Soin, our Chief Business Operations and Strategy Officer. Xero's executive leadership team represents a deep and diverse set of capabilities designed to help deliver on our aspirations. We're really looking forward to providing investors with an opportunity to meet and interact with the full executive leadership team at our inaugural Investor Day in February 2024. As part of the organization structure changes we've made, Rachael Powell, Chief Customer Officer; Mark Rees, Chief Technology Officer; and Chris O'Neill, Chief Growth Officer, decided to leave Xero to pursue new opportunities. We want to sincerely thank Rachael and Mark and Chris for the deep and meaningful contribution to Xero, our customers and our people. And of course, we wish them all the best in the future. Now to finish, I'd like to provide a brief update on our approach to AI to Xero. Xero has always been committed to innovating to help businesses streamline time consuming and manual processes while delivering useful and timely insights to help them make more informed decisions. As part of this commitment, AI is a core technology that already powers many of Xero's products. It's important to note that we will always look to protect customers, security and trust in every solution we launch. Our approach to AI, including the opportunity presented by generative AI is focused on 4 key areas. First, reducing customer toil to help customers run their businesses more efficiently and effectively. We seek to automate and streamline repetitive time-consuming work. A great example of this is our continued investment in improving bank reconciliations, which now applies existing machine learning tools to populate new contacts that aren't already in Xero and in a customer's Xero contactless, saving small businesses time on repetitive manual data entry. Secondly, we seek to use AI-powered insights to deliver the right insight at the right time to help customers thrive. Our short-term cash flow in Xero Analytics plus now includes predictions for recurring invoice and bill payments giving small businesses a clear picture of its potential future cash flow. Thirdly, we see an opportunity to introduce conversational or next-generation interfaces to assist customer engagement and improve the customer experience. An example of this is our launch on generative AI in Xero Central, which aims to deliver accurate support answers faster by flying a large language model to our array of customer support articles and processes. It's early days in our experimentation here. However, we're seeing good results with a 40% reduction in search time for customers and a 20% reduction in customer experience case flows. Lastly, we see, of course, the opportunity to increase the productivity of our team using AI and to move faster for customers. This is where we're evolving and experimenting in our marketing and engineering functions. We see the opportunity to expand our use of AI into the future by further investing, experimenting, implementing and refining to create beautiful customer experiences. Now moving to Xero's outlook. Slides 32 and 33 are both slides you're familiar with. I'll start by pointing to the statement at the top of the outlook slide, where we've reiterated our statement that we are seeking to balance growth and profitability and our approach to capital allocation. The operating expense and operating income margin guidance underneath this reflects this. As we told you in May, along with reinvestment in strategic priorities, management is targeting an operating revenue to expense ratio in full year '24 of around 75%. The reinvestment will be split across sales and marketing opportunities and product and design, where as we mentioned, we're continuing on our multiyear modernization journey while investing in value for our customers. Moving to the financial evolution slide. This shows you the directional composition of this ratio in FY '24 as well as for longer-term aspiration for these metrics. In full year '24, we expect to see improved efficiency across each of our expense lines, and we've delivered this in the first half of '24. In the case of sales and marketing, the flat to down arrow reflects optionality to direct spending to revenue-generating opportunities across the levers I highlighted, of course, with appropriate discipline. Our long-term aspiration is to improve both our operating expense ratio and our operating income margin is Xero and the global cloud accounting industry continue to mature noting that we have not set a specific time line and there could be variability from period to period as we identify growth opportunities. This reflects the moment our business has. I'm really excited about how we're positioned, the opportunity ahead and the multiple levers we have to grow. Xero is evolving and we are early on the journey to become an even higher-performing global SaaS company. Before I conclude, I want to acknowledge our teams around the world, and I really want to thank them for their hard work as we continue to do all we can to support our customers and our partners. That concludes our presentation. I'll now pass over to the moderator for your questions.

[Operator Instructions] Your first question comes from Bob Chen from JPMorgan.

I just want to get a bit of color on the first half cost base and how we should think about that in sort of the second half. We can see that you've reduced employee head count quite materially, but we haven't actually seen the benefit coming through in the cost base. So can you talk a little bit about how that was staged through the first half? And then -- just on the FIFA Women's World Cup sponsorship as well. Can you sort of quantify how much that contributed to the first half cost?

Bob, thanks for your questions. So if we just look at the first half and compared to the second half, we'll then ultimately working towards that around 75% for the year. Within the first half, we did have some one-off expenses. So I mentioned around FIFA, which I'll get to in a moment and explain a bit more about it and also Xerocon. We also -- just because revenue is growing, we therefore do see a higher percentage in the first half. And then sort of into your next points around the restructuring, we announced that just before the end of the year, the financial year. And so therefore, it didn't really start to take effect to a couple of months in. So for you to be able to sort of work out how you get from where we are in the first half to where we need to be for the full year, you are going to see quite a considerable reduction in that operating expense to revenue ratio to get us across the year to that 75%. Now as far as the FIFA sponsorship, we're not -- I don't think we go into the details of exactly how much that deal was worth. It is a multiyear deal. But just from an accounting perspective, you actually look to see where you expense it based on the value that you get from the particular sponsorship across those -- across the duration of the multiyear deal. And so based on the fact that there was all the matches and the brand that we got in the first half. It does have a greater impact on the first half than it will have any other period through the full sponsorship.

Your next question comes from Elise Kennedy from Jarden.

I just wanted to ask a question around the U.S. and the more targeted growth approach. I thought it was my understanding that you previously had pulled back a streamlined into those markets 3 to 4 years ago when the U.K. was a focus. I'm trying to understand what that growth profile looks going forward in terms of subs revenue offset by the expense growth?

Thanks, Elise. I'll start and then I'll pass to Sukhinder. So we did a few years ago, as you say, really look at the cost base. And there's really -- that was -- I presume you were talking around that move when we move from really focusing on direct back to the partner channel. And so at the time, we did look. And so we -- when we say the 30 as an average across the 10 years, that obviously hasn't been exactly the same through that 10-year period. And so prior to that 3 to 4 years, obviously, potentially, there was a slightly higher investment than that. As far as the difference between 3 to 4 years ago and today, I think -- and this is what Sukhinder can elaborate further on. There is more focus, and 3, 4 years ago, when we did talk around, for example, the community strategy, we then had only really started to do that and then COVID hits, which then meant that we weren't able to hit that same level of in-person development of relationships with the accountants and bookkeeper channel as we would have liked as we first started that community strategy, but, Sukhinder?

Sure. So first of all, thank you for the question. I think to Kirsty's point, remember, we offered an average across the 10-year period. And my review was just looking back on the last 10 years in trying to understand the history of the business while doing a deep dive review with the current team. So I believe many of the things which I got today are obviously already some of the things that we're happy are starting to happen in the business, not so it's just happening going forward. One thing we reflected on is that some things that have been going well more recently left this more targeted approach. And we think about moving forward, we already stated at a company level, our desire is to invest, but invest in a measured and disciplined way. And that extends to the U.S. as well. So we wanted to provide some quantum, so people actually have a level set on what we've actually invested. Kirsty and I have heard a variety of numbers in investor meetings, we wanted to first level set and then as we talked about, just talk about our approach going forward, which is to be focused and reasonable while we will continue to invest as we think it's appropriate for market in this size and scale.

Your next question comes from Siraj Ahmed from Citigroup.

The question is just on -- Sukhinder maybe this one is for you. It sounds like there's a bit more focus on higher-value subs rather than just in the lower value partner vision subs, which has brought in advance. So just -- how should we think of this impacting your cadence of growth, right? Should we be thinking lower sub solutions going forward and maybe potentially lower revenue growth as well as you pivot towards this higher value subs? [indiscernible] to understand that?

I think our ambition is to remain a high-growth company and to be smart about our growth, and I think that's the theme that we started to chat about and we said, "Hey, we should be using multiple levers in our toolkit to grow to both growth subscribers, but also deepen our engagement. "So we just think that there is a continuum of opportunity available to us in product mix, and we want to signal that, that is as important in consideration as just subscriber volumes. If you think about subscriber volume alone, I think it's maybe a less sophisticated way of thinking about growth. And we seek to be more sophisticated in how we think about the levers of growth available as we go forward. So I think it's about smarter growth and balanced growth.

Just clarifying that should mean that particularly subs growth is going to be a bit lower -- MRR extra should be a bit higher potentially. Is that the way you're thinking?

I think that we really don't offer guidance. I think it's more about wanting to use the levers in balance.

Your next question comes from Garry Sherriff from RBC.

A couple of questions. One on pricing. You've got really strong back book growth, which is impressive. From a front book perspective, there's been intense discounting in Australia and U.K. market of late, particularly by QuickBooks. And it's not just the depth of discounting, but it's the prolonged nature of that discounting. Just interested in your views as to whether you think that could impact your subs growth or churn in those markets, those 2 big markets of yours in the coming 6 to 12 months?

So yes, if we look at the -- focusing on the international market and what competitors are doing and therefore, what impact they'll have on us, we do obviously take an interest in what competitors are doing. But in all of the international markets, there is so much opportunity for growth with cloud penetration being so low that we certainly don't believe that they should hinder our growth in those markets. And as far as churn goes completely connected with that, as I say, there's so much opportunity so we don't believe that, that should have an impact, but Sukhinder...

I think one of the themes and hopefully is emerging from our different results calls, as we hear about long-term quality growth. And so there are always competitive dynamics. We -- in our markets. We operated in many intensely competitive markets. And of course, we need to be aware and responsive to short-term dynamics. But we hope everybody is focused on quality growth.

Your next question comes from Lucy Huang from UBS.

Just have a follow-on question around the U.S. So should we be thinking about that kind of $30 million net investment rate to be the number that we should be thinking about your spend in that region moving forward? And I guess now you've narrowed to 2 customer segments. Do we need to see a bit of a step-up for the way in which you develop the product? Would that require a bit of a change or a step up in cost?

I don't think we're here to offer guidance on the dollar investment. I think what we're here to say is our investment should be reasonable relative to the top line revenue that we seek to generate. And again, that's more the way I would take that commentary. I think the way I'd take the commentary on our segments is it allows us to be focused in our product investment. And I think -- we think that is one type of operating discipline that's important for us.

Your next question comes from Eric Choi from Barrenjoey.

I was wondering if I could do 2 as well. The first one, just wondering if we can extrapolate that implied second half FY '24 OpEx to sales ratio of, call it, 71 to 72 into FY '25. But I feel like you can argue it both ways, like maybe there's potential attrition on that 4,200 head count -- the leak into FY '25 or maybe you can say, second half FY '24 is missing some one-off costs like Xerocon. So maybe if Kirsty can talk us through some of the variables. And then just following on Lucy's question, I'm not going to ask you how that minus 30 evolves going forward. But can you just clarify if it was close to the minus 30 in FY '23? And I'm just asking because, obviously, the U.S. is delivering a revenue delta of about $20 million per annum. So on that math, if it was close to minus 30 in FY '23, like the U.S. could be breakeven in a few years. So yes, that would be really helpful.

Okay. So I'll start, Eric, and then pass to Sukhinder, if she wants to add anything at the end. So as far as the operating cost base, you are quite correct. To get to 75 for the year, you do have to have, as I said, a lower OpEx to revenue ratio for the second half, and then as far as giving guidance for next year, we don't give guidance for FY '25. But what we do say within our outlook statement is that we will, in the long term, continue to really focus on that operating expense ratio plus also our operating revenue margin. So both looking at the revenue growth, but also really still focused on net efficiency, and as far as one-off costs, there is a bit of seasonality to every year, and so that does need to be taken into account. From a Xerocon perspective, they are one-off costs that do make have an impact depending on which half they fall in. And then it's just about looking at the opportunity and if we see one then we want to be able to take hold of that opportunity. So as far as next year goes, we're not giving guidance on it, but we're certainly ending the second half with lower than where we sit today operating expense to revenue ratio. As far as the U.S., as we see, that's an average across 10 years. We, as I were speaking earlier on in the call, there was a period of time here for a year or 2, where we did put a bit more investment in when we were doing that going more on and focusing just on the direct channel. So that's all part of the average. So if you think around that and the fact that in the first few years, you may not have put as much on, but you definitely wouldn't have had as much revenue. We've had revenue growth, and it does also fall within that 75% as far as our cost outlook that we provide. We're not going to give you the figures for going forward, but we're certainly saying that we will manage the amount of investment. And as far as whether or not we're going to be breakeven in a couple of years, well, we're saying that we will invest depending on the revenue. And so therefore, we need to see the growth in that, but we'll ensure that we invest the right amount.

Your next question comes from Roger Samuel from Jefferies.

I just want to clarify what did you acquire during the half? I can see from the cash flow statement, there was $8.6 million going out? And just wondering, with your acquisitions, you saw Waddle retired locate. What's the strategy for Planday going forward? Just wondering if Planday that is still loss-making?

Okay. So I'll take the start and then I'll pass to Sukhinder. So Roger, we didn't acquire in the half. The cash that you're seeing in the cash flow statement is actually an earn-out for one of our -- for one of our acquisitions that we've made in the past. So no new acquisition.

And then on Planday overall, I mean, that is a business that is in investment mode. Now I think we noted that Planday is in transition. It had a CEO exit and a new CEO arrive in May, who were very excited about lately. And we will be looking to expand on our product offering for a simpler customer where we've seen resonance with the Planday existing base, and so that's an area of opportunity investment. But again, we manage a portfolio of businesses, some that are in growth stages and investment road will be loss-making. Others are mature and quite profitable and our goal is to balance all those things to deliver the right outcome while appropriately investing in things we think have long-term potential. And of course, it goes without saying time and attendance is one of the key jobs to be done that our small businesses continue to point to as it need.

Your next comes from Darren Leung from Macquarie.

I just had one on subscriber growth, please. Obviously, the rate of additions is still positive but moderating pretty much across most regions. Can you provide a bit of color, please, as to whether you think the drivers on this are and then in particular I'm thinking of things such as whether it's market or macro driven? Is it market share? Or are the impacts in terms of the new operating cost base post the restructuring that you at earlier in the year?

Sure. First, let me assure you that our operating cost base reductions were not targeted in our go-to-market activities. If anything, we want to be flexible in our capital allocation to be able to invest in demand generation and we freed up some of our cost base in order to be able to be more flexible and dynamic. So when we see revenue opportunity, we actually be able to take them, I think, in a better way. So I would not correlate those 2 at all. Number two, as you think about our business, obviously, we run a very large business across a number of markets. And as we said, our goal is to use our levers for growth in conjunction with each other and smartly, and so we are always looking to grow our share and position in our markets. That has not changed, but we will also seek to -- as we talk about going forward, start to think even more deeply about mix and ways of making sure we're driving engage with our customers. So I don't think there is any kind of anything more you should read other than we're continuing to try and be smart about subscriber growth and where we spend our [ capital ] and the opportunity will take it, but always within high towards growing the quality book of it.

Your next question comes from Nick Basile from CLSA.

I have a question on the new focus on the balance of subscriber volume and mix. Can you tell us a little bit more about the mix of growth from a customer to your perspective? You have been seeing -- where you're seeing churn and which type of user you'll sort of be leaning into in the future. I guess the observation I've made is I think Intuit has made a more explicit case for focusing on advanced users. And I think historically, Xero has been more focused on smaller businesses. So just trying to understand, I guess, how you're seeing that evolving? And where do you think the sweet spot lies for Xero from an LTV perspective.

Sure. Well, first of all, I think what we meant to do in share in that slide, with we have a range of small businesses. By the way, they're all small businesses. So we're not talking about mid-market or enterprise in that slide we gave you. We're talking about customers that on average might be 0 to 100 employees, maybe even 50 but what is distinguishing and that we want to start to point to is the amount of business they can do with Xero or some people who come to us just for tax or compliance, somebody might come for just invoicing and those who can take advantage of all the products we have to offer. So the way I would read that slide is we have a continuum. We're excited about serving the continuum. That actually helps us drive obviously share in every market. But it's also increasingly important to understand like who are the customers we can do more with and be very intentional about seeking to do more with them, as we said. That's the way I think about it, continuum. We're excited to serve small businesses of different kind some are more volume-driven and some are clearly able to engage with us in a deeper way and drive more ARPU advancements.

Your next question comes from Paul Mason from E&P.

I just wanted to ask about the U.S. client accounting services opportunity. I mean, about 2 years ago, you guys signed what looked like this -- like really big deal with Block Advisory, I don't think we've really heard that much color on it since. So I was just hoping maybe you could talk to us a bit about like how that deal has gone, whether you've got any other firms like that in your pipeline that might give you like scale or any that are already sort of on your books that we just haven't heard about because they weren't sort of publicized as much. Yes, just sort of how big it is for you at the moment and what's in your pipeline around that.

I don't know -- I don't think we're going to go into kind of describing different accounts we have on this call, that's obviously more appropriate for kind of a deeper U.S. review that we're giving today. But I will note that Block is a strategic partner. We're continuing to do business with them. I'd say both they and we are excited about the opportunity to continue to activate clients. So it's been a positive deal for us, and I know there are continued opportunities with Block that we're both excited about.

Your next question comes from [ Annabelle Lee ] from Goldman Sachs.

So on the U.K. sub growth. In the first half of '23, when growth was also softer, you provided some positive commentary around the second half outlook. Given you didn't make any of these thoughts and comments, again, is it reasonable to see the second half run rate half of this year will be down beyond year? And also, do you expect to be all the way through the U.K. subscription management issue, that impacts the half?

Sorry, when you say U.K. subscription management issue, what are you referring to specifically just so I make sure we understand the question.

Just the accountants and bookkeepers managing that undeployed inventory that impacted your churn.

Got it. And as we noted, it's a volume churn, not a dollar churn issue. I think overall, the way we think about the U.K., we're not giving guidance on subs. That's I think, think about the macro messages that we've been giving you on the call. Number one, we're pleased with our revenue growth. Number two, our brand awareness and momentum is building. I would say we're pretty pleased with the go-to-market activities we conduct while I think that partners may continue to manage their inventory levels and that's up to them. Sometimes we see that happening after a price rise as an example, which is one of the things we put through at the end of last year. And so from time to time, you will see that activity. And we want partners deploying and engaging with us. So that's up to them to manage, and we'll seek to obviously continue to help them manage that more proactively going forward. So no sub guidance. And as we've noted, generally, we will look to manage in all of our businesses and all of our regions a balance between mix and subs going forward.

Your next question comes from Rohan Sundram from MST Financial.

Just one for me. In terms of Sukhinder, how would you describe the operating environment at present? And maybe how would you compare it to, say, 6 or 12 months ago? And is there anything you're seeing in some of these more challenged markets that you view as encouraging?

Sorry. Do you mean the macro operating environment or the operating environment in the company? I just want to make sure.

The operating environment in light of the macro.

Got it. Got it. Yes. Look, I think that it's -- as you know, it continues to be a pretty, I would say, a mixed operating environment inflation is sort of still like while it's coming down and so to sticky. There's no indication that interest rates are going to come down anytime soon, yes, unemployment rates overall are low while they're high while layoffs continue to be seen in tech and macro small businesses, they're still having challenges by having enough people to kind of fill their open vacancies. In Australia, we see kind of maybe a more positive environment according to our XSBI than we see in the U.K., where companies are seeing real dollar terms, lower sales growth, and they're taking longer to get paid. So I think overall, the operating environment is mixed. And then of course, we have new kind of geopolitical issues. So I think it's a mixed bag, and I think we continue to see it staying a mixed bag. So inside of those environments, what we try and do every day, we just try and stay focused on making sure we're putting in the hands of our small businesses, the tools they need to make decisions in good times and in uncertain times. And -- that's about as much as we can control. So that's what we're going to stay focused on.

Thank you. That is all the time we have for questions today. I'll now hand back to Ms. Sukhinder Cassidy for closing remarks.

Well, thank you again for taking the time. And of course, most of all, we want to thank our customers for their continued support, our partners for their continued loyalty and bureaus around the world for really all the hard work they do every year, every half, every month, every day. Thanks so much.