Are shares of Appen Ltd (ASX:APX) a post-earnings buy?

The share price of technology company Appen Ltd (ASX:APX) has risen 41% in August bringing the year-to-date gain to 84%.

Appen’s share price has surged over the last couple of weeks due to the release of positive results from fellow tech darlings Altium Limited (ASX:ALU) and WiseTech Global Ltd (ASX:WTC), and in anticipation of the company’s own half-year numbers which occurred on Tuesday this week.

Appen released its half-yearly earnings report on Tuesday and it did not disappoint the lofty expectations of the market. The company’s share price has risen a further 8% since the close of Monday’s trading session to $15.30 at the time of writing.

With Appen’s share price currently trading at a valuation multiple of 46 times consensus FY18 estimates, should investors buy shares in the company, or wait for a more attractive valuation?

Content Relevance shines

Appen is a global leader in developing high-quality human annotated datasets that are used for machine learning and artificial intelligence.

The business is divided into two segments, Language Resources, which provides annotated speech and image data for speech recognisers and other machine-learning technologies, and Content Relevance, which provides annotated data for search technology, social media applications and e-commerce.

The company managed to grow revenues by 106% to $152.8 million in the first half of FY18 with underlying EBITDA up 100% to $25.6 million. A significant contributor to the increase in revenue came from Appen’s acquisition of rival firm Leapforce in December. The acquisition resulted in Content Relevance revenue climbing 146% to $131.2 million with margins expanding from 16.8% to 21.7%. Excluding the Leapforce contribution, revenue from Content Relevance saw impressive organic growth of 64% to $87.4 million.

The news was not entirely positive with Language Resources EBITDA declining 55% to $3.4 million despite a 4% increase in revenue to $20.7 million.

Management stated that margins for the division were impacted by the project mix from fewer complex government projects which is predominantly a timing issue. The margin issues in Language Resources saw group underlying EBITDA margins fall from 17.2% to 16.8%. A return to more normalised margins in Language Resources of around 30% as seen in FY17 would see group margins increase into the high teens.

Another thing to note was management’s announcement of early project wins in China. This could become material to earnings over the next couple of years if Appen can replicate its success in the United States in the Chinese market.

Foolish takeaway

The company provided guidance of underlying EBITDA for FY18 of $54 million to $59 million at an AUD/USD exchange rate of 80 cents. With year-to-date revenue plus orders in hand at ~$250 million at the end of July and the weakness in the Australian dollar, this looks like a conservative forecast, which in my opinion the company has a reasonable chance of exceeding.

The great run in Appen’s share price over the last couple of weeks justifies some caution before buying shares in my view. The company’s long-term growth thesis is intact but the valuation is high, so I’m happy to wait and accumulate on any weakness in the event of a correction.

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Motley Fool contributor Tim Katavic owns shares of Appen Ltd. The Motley Fool Australia owns shares of Altium, Appen Ltd, and WiseTech Global. 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 Scott Phillips.

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