Xero (XRO) has faced similar AI-related scrutiny to many software names, with investors increasingly questioning how generative AI will reshape the economics of cloud accounting software. Despite delivering a solid FY26 result, covered here, the stock struggled as investors focused on the negatives, including Melio-related noise and rising AI-related competitive risk. Despite the launch of its premium Ultra tier, the rollout of Xero’s AI-powered assistant and continued momentum in the US, the market remained focused on disruption risk, particularly following Anthropic’s unveiling of AI tools aimed at small businesses.
- The bear case is that increasingly capable AI agents could automate many of the bookkeeping, reconciliation and administrative tasks that have traditionally underpinned accounting software.
- The bull case is that Xero’s competitive advantage extends far beyond the user interface, encompassing proprietary transaction data, deep banking integrations, regulatory compliance capabilities and thousands of bank feeds that would be difficult for any AI-native challenger to replicate at scale.
Like many small businesses in Australia and NZ, we are a user of Xero, and its relatively low cost makes it unlikely we will be moving anytime soon, but the bookkeeping function that sits on top is more vulnerable, in our opinion, at least in the short term. Importantly, management has chosen to embrace rather than resist the shift, integrating Anthropic’s Claude into the platform while maintaining a broader multi-model AI strategy that also leverages OpenAI technologies.
For now, however, the market remains cautious, treating Xero as a classic “show-me” story as investors wait to see whether AI ultimately strengthens the platform or commoditises parts of its value proposition. With Xero now trading ~65% below its 5-year valuation, albeit extremely high in the first place, we like the risk/reward ~$80.
However, we would be more concerned for US rival Intuit (NASDAQ: INTU), which focuses on larger businesses with an average spend of more than 5x that of Xero, giving more motivation to consider alternatives, although the respective stock prices have moved in almost perfect tandem.
- We can initially see ~20% upside for XRO from the $80 area – MM owns XRO in the Active Growth Portfolio.
MM is long and bullish towards XRO around $80
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