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Is the Appen Ltd share price in the buy zone?

The share price of technology company Appen Ltd (ASX: APX) rose 3.5% in Friday morning trade to $13.46. Shares in Appen have performed relatively well over the last several weeks despite the turmoil in global equity markets.

An earnings upgrade in November was the major catalyst in Appen outperforming other tech darlings such as Altium Limited (ASX: ALU) and WiseTech Global Ltd (ASX: WTC) over the last several weeks.

FY18 earnings upgrade

On November 15, Appen announced a full year earnings upgrade for FY18 which has seen the company’s share price surge 20% higher since. The company now expects underlying earnings before interest, tax, depreciation and amortisation (EBITDA) for the year ending 31 December 2018 to be in the range of $62 million to $65 million at an AUD/USD exchange rate of 80 cents.

The earnings upgrade is a 12.4% increase at the midpoint of the company’s previous guidance. In August, Appen had projected underlying EBITDA for FY18 to be in the range of $54 million to $59 million.

November’s earnings upgrade was attributed to a sharp increase in monthly revenues that was primarily from existing projects and from existing customers. It is also the second earnings upgrade for FY18 that Appen has announced this year. Appen had initially guided for underlying EBITDA to be between $50 million and $55 million in February whilst releasing its full-year numbers for FY17.

Foolish takeaway

Appen is a global leader in developing high-quality human annotated datasets that are used in the burgeoning fields of machine learning and artificial intelligence. The company counts many of the world’s technology giants as clients including Apple, Facebook and Alphabet (Google).

Appen also revealed in August that it has won early project tenders in China which is something to monitor over the next several years as the Chinese tech space continues to grow in size and scale.

Following November’s earnings upgrade, analysts have upgraded their earnings projections for FY19. The consensus estimate for FY19 earnings per share has risen 11.8% from 44.82 cents a month ago to the current level 50.12 cents. This would represent earnings growth of 32.3% over the FY18 estimate of 37.87 cents per share.

At current prices, shares of Appen are trading for around 27 times FY19 earnings which looks undervalued if the company can grow earnings by 32% in FY19. Appen’s business is susceptible to the timing of work from major customers and the company has yet to provide a definitive outlook for FY19. However, at this stage, the long-term thesis for investing in Appen remains intact and should the company continue to grow earnings over the next several years the share price should follow.

Motley Fool contributor Tim Katavic owns shares of Appen Ltd and Alphabet (A shares). 

Suzanne Frey, an executive at Alphabet, is a member of The Motley Fool’s board of directors. The Motley Fool Australia's parent company Motley Fool Holdings Inc. owns shares of and recommends Alphabet (A shares), Alphabet (C shares), Apple, and Facebook. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has the following options: long January 2020 $150 calls on Apple and short January 2020 $155 calls on Apple. The Motley Fool Australia owns shares of Altium, Appen Ltd, and WiseTech Global. The Motley Fool Australia has recommended Alphabet (A shares), Apple, and Facebook. 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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