Appen Limited (APX) Earnings Call Transcript & Summary

Thank you for standing by, and welcome to the Appen Limited Company update. [Operator Instructions] I would now like to hand the conference over to Mr. Mark Brayan, CEO. Please go ahead.

Yes. Thank you, Darcy, and good morning, and hello, everybody. My name is Mark Brayan, and I'm the Chief Executive Officer of Appen. I'm joined this morning by our Chief Financial Officer, Kevin Levine; as well as our Head of Investor Relations, Rosalie Duff. This morning, we provided an update on our first half results and FY 2022 outlook. Today's call is focused on a high-level commentary in relation to the half year. And we will provide further details about the first half and our FY 2022 outlook when we release our results on the 25th of August 2022. In May, we provided a trading update advising that our revenue was lower than the prior corresponding period. We also advised that our first half FY 2022 EBITDA was expected to be materially lower than the prior corresponding period. In light of our main trading updates and how our results are shaping up, we wanted to provide an update. The numbers released this morning are unaudited and still subject to Board approval, however, they are expected to be. Group revenue of $182.8 million, down 7%, primarily reflects a lower contribution from the global division due to weaker digital advertising demand and a resultant slowdown in spending by some of our large customers. New Markets revenue of $45 million is down 5.7%, impacted mainly by lower Global Product revenue. Excluding Global Product, New Markets revenue was up 35%. Underlying EBITDA after foreign exchange impact of $8.4 million was down 70% due to lower revenue and investments in transformation, product and technology as well as a foreign exchange loss. Statutory net loss after tax of $9.4 million compared to a $6.7 million statutory net profit after tax in the first half of '21, impacted by higher amortation (sic) [ amortization ] on product development; underlying net loss after tax of $3.8 million compared to a $12.5 million net profit after tax in the first half of FY '21; cash balance of $42.1 million on the 30th of June 2022 with a high cash flow conversion. The first half result has been characterized by challenging external operating and macro conditions, resulting in weaker digital advertising demand and a slowdown in spending by some of our major customers. This has especially impacted our Global division, particularly those customers with a high exposure to digital advertising. While only 26% of our first half Global revenue supports digital advertising, we are seeing a flow-on effect to non-ad-related projects in some of our core programs as our customers reduce their overall spend. As stated in February, costs in this half are higher, primarily due to transformation costs and investment in product and technology resulted in higher employee expenses, recruitment and IT costs. Together with lower-than-expected revenue, this has impacted earnings and margins. In China, however, despite a 3-month COVID lockdown, we have continued to grow with first half revenue up 141% to $18 million. The Enterprise business is also showing growing momentum. Second half has started well with orders of $9.3 million in July. In the first half, we saw a solid free cash flow generation and cash conversion from EBITDA increased from 101% to 211% in the half. Importantly, the fundamentals of our business remain strong, and our operational performance and the quality of the service we provide our customers continue to improve, evidenced by higher Net Promoter Scores. We are increasing our range of products and through our product investments, remain well positioned to serve our customers. To the FY 2022 outlook. We moved away from short-term guidance of the full-year results. So my comments on the outlook are fairly brief. We expect to achieve higher volumes in the latter part of the second half due to the delivery of seasonal projects and ramp-up in existing projects. However, with no improvement in July trading, there remains uncertainty about a continued slowdown of spending from our global customers and their exposure to weaker digital advertising demand. As a result, the conversion of forward orders to sales is less certain this year compared to prior years. Given the revenue skew and fixed cost operating leverage of the business, we expect FY 2022 EBITDA to be weighted to the second half. We are reviewing all areas of the business to accelerate productivity improvements and margin expansion. And while some of our customers are reducing the pace of their investments in AI, the use of AI and their AI product development is expected to increase. We remain confident that the AI training data market will continue to grow in the longer term. Despite the challenging -- current challenging operating conditions, we remain committed to our longer-term growth strategy. I will now invite questions, noting that we will provide further details about the first half performance and outlook when we released our results on the 25th of August 2022. Thank you. Back to you, Darcy.

[Operator Instructions] Your first question comes from Garry Sherriff of RBC.

Mark and Kevin, question is how does today's result reflect on your strategy? Were there have been any changes to the strategy? And how should we think about your spending plans going forward?

Yes. Garry, no change to the strategy. With reference to spending plans, as I mentioned, we're looking at all areas of the business to accelerate productivity improvements and margin expansions that are, overall -- no change to the strategy overall.

And then how do you get comfort on future revenue visibility? And I guess the follow-on being, how can you provide calendar year '26 targets, but not a calendar year '22 guide?

So clearly, at the beginning of the year, well, conditions have changed through the year. And the conditions that we're facing at the moment make near-term guidance or near-term visibility a little tougher. But longer term, we're banking on what we believe is a very strong trend around AI and a very strong need for AI training data. In our longer-term views, we have taken fairly conservative views to revenues that we'd expect from our global customers and more growth rates consistent with the market for customers outside of that set.

Your next question comes Josh Kannourakis from Barrenjoey .

Mark and Kevin. First question, just around -- and I know you've talked about the conversion ratio work in hand with revenue being different. Had that work-in-hand and revenue number actually changed as well? Or is it mainly the convert, like, maybe just to give a bit more context around the conversion versus the actual work in hand that you've got today?

Yes. Josh, we haven't provided an update of that number from the number we provided at the AGM. We'll be doing so with the first half results in August, and we can comment further on that at that time.

Okay. Got it. Cool. And just a clarification on the ad spend and your ad revenue. You mentioned 26% of global revenue. Usually, you sort of benchmark that to your global customer revenues. What number should we be sort of linking that 26% to in terms of the ones you've provided there?

So yes, that's related to the Global division revenue, and we haven't provided a full update or a full breakout at this point. In the table, we've got Global Services and New Markets, but we haven't broken it out, which we'll do so at the first half as well.

Okay. Cool. No, perfect. And final one, just in terms of the competitive environment, Mark, can you just give us a bit of context, like, does this feel like it's just total sector spend driven? Are you seeing any sort of increased contended tensions in any particular areas of the market? Maybe you could just comment on that more broadly as well, please.

It feels like a sector-spend issue, Josh. We monitor a variety of signals that tell us that there is -- we're maintaining share with our major customers. So we think -- we're fairly confident this is a sector slowdown rather than a competitive situation.

Your next question comes from Siraj Ahmed of Citi.

Mark, just the first question. Just on the second half, right, given the start in July, I understand you're going to -- you expect to see a skew to the second half. But do you reckon Global Services revenue can be up year-on-year? Do you recognize the down year-on-year in the second half as well?

Yes. Siraj, we'll comment further on the full year at the full release in August. We've come to the market with the information that we have to hand and that's what's in the release. And we can provide further information in the first half release.

Okay. And just on the second one on the ad-related versus non-ad-related. It seems like the non-ad-related work has declined faster in this half based on your -- the commentary you made. So just -- can you add any comments on that? Because I understand the ad-related being down, but it seems like non-ad has been impacted a bit more.

So yes, all revenue to our Global customers has been impacted. And per the release, whilst 26% of the revenue is tied to ad-related programs, revenue, overall, is down because that's filtered across to the other programs as we say in the release.

Okay. And any gross margin pressures you're seeing?

Again, this is the information we have to hand at the moment. We'll comment more on the full release of the first half.

Okay. And just last one for Kevin. Just in terms of cash balance, you've given the cash flow conversion, so I understand that around $20 million of operating cash flow. Just -- is the CapEx higher or -- just trying to bridge the gap between what you've mentioned conversion to the cash balance.

Yes. So the main driver of the conversion is you recall, we had the strong Q4 finish last year and a lot of -- obviously, a lot of revenue tied up in receivables at year-end. That's subsequently been collected. And that's -- and then when you actually compare the consistency of the volumes, the Q4 last year to the Q2 this year. And then obviously, the resultant working capital trading saw impacts from that. That's what's driven -- that's the large driver behind the increased conversion.

Yes. And is the CapEx higher or something? Just trying to understand why the cash balance is down to $44 million.

Yes, yes. Look, consistent with everything else, we'll provide more commentary on that as part of the full year, but that's the main driver for the higher conversion.

Your next question comes from Bob Chen of JPMorgan.

Just a few from me. Can you provide a bit more color on those comments around reviewing the investments to accelerate productivity and margin expansion? Are you looking to spend a little bit more here to sort of accelerate these things? Or are you looking at cost out?

Bob, we're looking at all the areas of the business with a view to improving productivity and expanding margins. And again, we'll provide further commentary on that when we get to the full release at the 25th of August.

Okay. No worries. And then in terms of your comments earlier around having baked in fairly conservative views around revenues from your global customers into your '26 numbers. Like, how does this update track against those fairly conservative views?

So again, we'll provide more information at the half, Bob. This is the information we have on hand currently.