The biggest risks facing 3 of the hottest tech shares on the ASX

Whether it’s the sheer number of online betting agencies in the country, or the fact that the ASX has always been home to dozens of micro-cap mining stocks that attract investment, there is plenty of evidence that Australian investors are comfortable with a higher risk in exchange for a potentially higher reward.

That same mentality has seen many start-up and early stage technology businesses enter the ASX. But it pays to also find the reasons not to invest and weigh those up against the reasons to part with your capital. This is to make sure your risk versus reward analysis is balanced.

Here are some of the biggest challenges facing three of the hottest tech shares on the ASX.

XERO FPO NZ (ASX: XRO) has blitzed the online accounting software market in New Zealand, Australia and more recently, the United Kingdom. However, its most recent foray into the United States carries the most risk and most potential reward.

The risk is the 800-pound gorilla in the room in the shape of Intuit and its QuickBooks Online product. Unlike the incumbents that Xero has taken down in other battleground markets, Intuit is aggressively investing in cloud accounting and marketing.

Intuit also possesses a huge advantage through a multi-million user-installed desktop user base. Theoretically, it can convert those customers to its own cloud with less acquisition cost than Xero would need to capture them.

Catapult Group International Ltd (ASX: CAT) faces potential disruption on two main fronts: price and innovation. As motion and movement tracking technology becomes more common, the price falls, and there are no shortage of companies that can produce similar devices that didn’t exist when Catapult won its first clients.

That means that price deflation enters the market, and that the price charged for devices falls. While this is less likely to affect the premium end of the market, such as top tier sporting clubs, the huge university and college sectors, where Catapult is hoping to grow substantially, could be more price sensitive given the much larger number of athletes and lower budgets compared to professional teams.

The other major threat is that wearable devices may themselves be disrupted by smart clothing (jerseys) or smart equipment (boots and bats) that have tiny smart sensors incorporated into them. They could provide far richer biomechanical data sets than the “hitchhiker” style sensors that currently dominate the market.

Freelancer Ltd (ASX: FLN) labels itself as the world’s largest freelancing website, but that obscures the fact that much of its growth has been due to purchasing rival sites such as Warrior Forum and Scriptlance to name just two. What is not known is the drop off rate in users once these sites are purchased by Freelancer or when they are integrated into the “headline” website.

In addition, two of Freelancer’s largest competitors recently merged to create UpWork, a serious rival of scale to challenge the number one status of Freelancer, meaning that a serious heavyweight battle could be on the cards in the future.

The true strength of any online portal comes from its network effect, where additional users are attracted by the presence of high user numbers and value. It is this effect that has seen business models like Uber, Airbnb and LinkedIn grow rapidly. However, in the earlier stages of an industry, the risks on the path to gaining a dominant network effect are much higher, and the prizes for being the eventual number two player are far lower.

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Motley Fool contributor Ry Padarath owns shares of Xero. The Motley Fool Australia owns shares of Xero. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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