Kiwi Startup Xero Pries Accountants Away from Intuit’s QuickBooks
[Updated 6/30/14, see below] If you run a small- or medium-sized business and it’s big enough to have bookkeeper, chances are he or she is using QuickBooks, the desktop accounting program sold by Intuit since the mid-1990s. QuickBooks has a market share of around 90 percent in North America, making it one of the most powerful and long-lasting near-monopolies in the world of business software.
When Intuit’s QuickBooks division looks over its shoulder these days, the company it probably sees looming largest is Toronto-based Freshbooks, which started out as a simple invoicing tool for non-accountants but has added many bookkeeping functions. The startup claims to have 5 million users, although it doesn’t say how many of those are paying.
But while the Freshbooks threat is very real, there’s another company trying to sneak up on QuickBooks, from an unexpected direction: New Zealand. Wellington-based Xero offers a cloud-based business software accounting package that earns around $87 million in recurring subscription revenues from 300,000 paying customers around the world. At the moment, only about 18,000 of those subscribers are in North America. But the U.S. market is so central to Xero’s growth plans that it has put nearly a sixth of its 600-strong workforce into its North American headquarters, on Green Street in downtown San Francisco.
Xero is a public company in New Zealand, where it has a market capitalization of more than $3 billion, and over the last two years it has collected $200 million more in private funding from the likes of Peter Thiel and Matrix Partners. That leads Jamie Sutherland, president of Xero’s U.S. operations, to compare the company to a speedboat that’s zooming forward while bigger and smaller players—read: Intuit and Freshbooks—bob about in its wake. “We’re well-funded and well-capitalized, with the right talent,” Sutherland says. “The big players are fumbling around figuring things out, and then there’s a whole slew of smaller companies that aren’t well capitalized but try to play in our space.”
As someone who’s been following Intuit for a while—I wrote a long piece in 2012 about the financial-software giant’s efforts to keep innovating even as it enters its fourth decade—I’ve been intrigued by Xero’s bold move into one of the two U.S. markets that Intuit still convincingly dominates (the other being online tax accounting through TurboTax). The basic value proposition at the Kiwi startup, founded in 2006, is that it understands the Web-based software model and user-friendly design in a way that Intuit and other established competitors, such as UK-based Sage and Australia-based MYOB, never will. But just being new isn’t enough in a market as conservative as business accounting. If any company is going to steal QuickBooks’ market share, it will have to win the hearts of accountants and bookkeepers, since they—not their clients—are usually the ones who choose an accounting package. So I’ve been spending some time talking with Sutherland and his colleague Peter Karpas, Xero’s U.S. CEO, to find out more about the company’s strategy.
Rod Drury, a prominent serial entrepreneur in New Zealand, conceived Xero after difficulties communicating with accountants in his previous businesses. “He was frustrated that he couldn’t get a sense of what was going on with his business in the desktop world,” Sutherland says. “He’d send a question to his accountant and it would take three or four days to get the answer back, and by that time the information was out of sync. That problem doesn’t make sense in our day and age of cloud computing, when you can have all the data in one location.”
With no product, no customers, and barely an idea, Drury and his co-founder Hamish Edwards were able to raise money to start Xero in an IPO on the New Zealand Stock Exchange. (Just try doing that in the U.S.; Sutherland said it was only possible on the back of Drury’s track record as the founder of successful New Zealand software companies Glazier Software and AfterMail.)
Xero took off quickly in its home region, displacing a QuickBooks-like product called MYOB in New Zealand and Australia and then making inroads against Sage in the U.K. and Europe, Sutherland says. Good design and usability were among Xero’s selling points from the beginning. “We wanted to make accounting easy and fun,” he says. “It isn’t this old, legacy desktop application where you cringe when you look at it. It looks and feels like a consumer application.”
A case in point: Xero’s interface for reconciling a business’s internal books with its bank statement, which is one of the first things many small business owners do every morning. It’s usually a mundane and annoying task, but Sutherland says Xero’s interface makes it feel like a game. “The transaction is on the right and what you expect at the bank is on the left and it’s just a game of matching,” he says. “It’s sort of like Tetris. We’ve heard people saying they’re upset when they’re done that they have nothing left to reconcile.”
The consumer-like features extend into Xero’s mobile app, which lets users enter expenses into the system by snapping a photo of a receipt. Because the system is cloud-based and accessed from a Web browser, there’s no on-premise software to download or maintain—another feature that cements Xero’s resemblance to Mint, Check, and other popular consumer money management apps.
Intuit offers a cloud-based version of QuickBooks, but its architecture dates back to the desktop days, and it’s been known to suffer downtime, including a four-day outage in 2011 that paralyzed many small businesses. “I think there are systemic issues in the core of that product, largely because it was built in the early days, before mobile took off,” Sutherland says. “They basically ported their desktop product and put it online and didn’t rethink how it actually works.” Xero was born in the cloud, which means the startup has a more natural understanding of how information flows between accountants and small business owners, especially those who are on the go, Sutherland says. [Update 6/30/14: Steve Sharp, Intuit's communications manager for small business, contacted Xconomy to dispute Sutherland's characterization of QuickBooks Online. Sharp says the company "launched an entirely new, rebuilt from the ground up and made-in-the-cloud version of QuickBooks Online last September."]
But as fun as Xero is for business owners, it’s accountants who choose what software to use to keep a company’s books—which is why they’re the main focus of Xero’s sales strategy.
Under Xero’s business model, the basic cloud software is free to accountants, as is some extra client-management software for running an accounting practice. It’s only when an accountant brings a new client onto the system that’s Xero starts charging a subscription fee. (Prices range from $9 per month to $180 per month, depending on the number of employees a company has and the amount of file storage it needs.) The more customers an accountant brings to Xero, the larger the discount the startup offers to her clients. It’s a clever model, since winning just one accountant can meaning winning all of his or her clients.
Karpas acknowledges that there are hundreds of thousands of accountants who have been using QuickBooks for years and aren’t about to defect to Xero or Freshbooks. But he thinks there’s plenty of room for Xero to compete in two other segments: new businesses that aren’t using any accounting software yet, or are only using Excel spreadsheets, and businesses served by accountants who are dissatisfied with QuickBooks, or who see it as the choice of an older generation of accounting professionals.
“The accounting practice that is run by the person who is in their 60s and is thinking about retirement and has used QuickBooks for 20 years—they are not going to switch,” Karpas says. “But the younger, more aggressive accountants, meaning people in their 20s, 30s, and 40s, who are looking to grow their practices, are very open to talking to us and are looking for an alternative to QuickBooks, which has acted like a monopoly.”
The classic “disruptive” startup, as defined by Harvard Business School scholar Clay Christensen, starts out by offering a product that’s inferior to the incumbent, but is so much cheaper it draws users away. That’s not the scenario with Xero, which is actually more expensive and more feature-rich than QuickBooks Online. Rather, Xero’s strategy has been to frame itself as the modern, mobile-friendly, consumerized alternative to a stodgy 1990s brand.
All it needs now is more name recognition. “Our biggest issue now in the U.S. is that we are not famous enough,” Karpas says. “We are the first legitimate competitor to QuickBooks in at least a decade, and you could argue even longer. We have invested over $200 million over eight years in building this product, and we have traction around the world. What all that means is, if people hear about us, they can know that we are going to be around. And then we will win more than our fair share of bakeoffs.”
Becoming famous is a different problem in the U.S. than in other markets, mainly because there are so many small businesses here: 23 million, according to the Small Business Administration. So Xero’s big challenge in North America is to decide which sectors to go after, and tailor its software and sales pitch accordingly. Xero has a plan, according to Karpas, but he demurs about the details—he says that’s the startup’s “secret sauce.” If he and Sutherland can get more American accountants to take a look at a little-known service from a Southern Hemisphere country with a population smaller than Houston’s, they may yet become a bigger worry for Intuit.