As fears of inflation and rising interest rates rattle the ASX, tech shares have been among the hardest hit.
The S&P/ASX All Technology Index (ASX: XTX) has tumbled nearly 25% this year as investors lose their appetite for high-risk businesses and turn their backs on lofty valuations.
The sell-off has been brutal and there could be more pain ahead. But for long-term investors, this pullback could be an opportunity to pick up quality names at a discount.
Two high-quality ASX tech shares that are down more than 30% this year are Xero Limited (ASX: XRO) and Altium Limited (ASX: ALU).
So which of these two ASX tech darlings could be a better buy?
The case to zero in on Xero shares
Gone are the days when accounting software was on discs that you had to install locally on your computer. And for small business owners, loading all of your data onto a USB to send to your accountant is a thing of the past.
Enter Xero, a ‘beautiful’ cloud-first accounting software platform you can access anytime, anywhere and from any device.
After dominating the local Australian and New Zealand markets, Xero set its sights abroad. It now has a strong foothold in the United Kingdom and North America, where cloud adoption still has a long runway.
Being mission-critical to a small business’ operations, Xero’s software is incredibly sticky. In other words, it’s so embedded in its customers’ lives that it’s hard to give up.
Not only does this lead to high rates of customer retention but it also gives Xero lucrative pricing power. Together with the addition of new features and add-ons, this has helped Xero increase its average revenue per user (ARPU) over time.
The beauty of Xero’s economics can be seen through the relationship between two metrics: customer acquisition costs (CAC) and lifetime value (LTV). After all, the basic idea for any sustainable business is that it costs less to acquire a new customer than what that customer pays over their expected lifetime.
In FY22, Xero reported an LTV-to-CAC ratio of 6.9. This means Xero estimates it gets $6.90 back for every $1 it spends to get a customer paying for its products. So while many investors are quick to point out Xero’s hefty marketing spend, I think it makes sense to invest in these channels at such attractive rates of return.
The case to add Altium to your portfolio
Altium provides software involved in the design of printed circuit boards (PCBs), which sit inside electronic devices.
As Altium’s investor presentations make sure to highlight, the company is a market leader with a wide range of applications and a who’s who of high-profile customers.
Since PCBs are used as the base in most electronics, Altium is exposed to the growth of a number of different industries, including automotive, aerospace, consumer electronics, and life sciences.
Altium is also a key player in the rise of connected devices, or the ‘internet of things’ thematic.
As I’ve written about previously, Altium ticks many boxes of a high-quality growth share. It’s a capital-light business that scales extremely well; it exhibits high switching costs which leads to sticky revenue; and it boasts a cashed-up, debt-free balance sheet.
Management has also shown tremendous execution to date and now has its sights set on an ambitious target of 100,000 Altium Designer subscribers and US$500 million revenue by FY26. For context, Altium reported 56,000 subscribers in the most recent half and booked US$191 million of revenue in FY21.
While acquisitions will likely play a part, the key to achieving these targets will be the success of the company’s new cloud platform, Altium 365. Taking the electronics design process into the cloud and building an ecosystem around it could be a game-changer for Altium . And importantly, it has the first-mover advantage.
Which ASX tech shares come out on top?
There’s plenty to like about both of these ASX tech shares.
Both have scalable cost bases, capital-light business models, sticky revenues, stiff industry tailwinds at their backs, strong balance sheets, and proven management teams.
So it’s no surprise that Xero and Altium are among the best performers in the S&P/ASX 200 Index (ASX: XJO) over the last 10 years.
While I own shares in both companies, I’m especially attracted to Xero’s delicious unit economics, the simplicity of the business, and how it’s evolving to take a greater share of customer wallets.
Although Altium is a proven performer, COVID threw the business off course and in my eyes, it’s emerged as a riskier business. I’m keen to see how Altium has been faring in a post-pandemic world when it releases its FY22 results next week.