Appian (APPN 0.19%) reported fourth-quarter results last Thursday, and the numbers were mostly in line with expectations.
Revenue at the low-code software company rose 20% to $125.8 million, which beat estimates of $123 million. Cloud subscription revenue, the company's primary focus, rose 29% to $65.8 million.
On the bottom line, Appian reported an adjusted earnings before interest, taxes, depreciation, and amortization (EBITDA) loss of $24.8 million compared to $10 million in the quarter a year ago, a reflection of its having reached its hiring goals earlier than expected.
Its adjusted loss of $0.28 per share was worse than $0.16 in the quarter a year ago, but better than the analyst consensus at $0.40.
Appian stock moved higher on the news, closing up 2.5% on Friday, as the numbers seemed to convince investors that the company was handling the challenging macroeconomic climate well.
Management also called for solid cloud subscription revenue growth in 2023, at 24% to 25%, though it sees overall revenue growth slowing to 13% to 14%.
Like most of the software sector, Appian shares fell sharply last year as valuations compressed and the market grew skeptical of unprofitable growth stocks as interest rates rose.
While Appian has consistently delivered strong top-line growth, its bottom-line performance has lagged. It has reported an adjusted EBITDA loss in nearly every quarter since it went public, and that loss has mostly gotten wider, as the chart below shows.
Appian addressed those concerns on the recent earnings call, and investors should take a listen to what management had to say.
The profit picture
Management seems well aware that the market expects improvement on the bottom line after Appian's stock plunged on its third-quarter earnings report when the company reported a wider loss than expected.
The company promised that it would cut its adjusted EBITDA loss margins to less than 10% of revenue by the second half of this year, and management revisited the subject after the fourth-quarter report.
CEO Matt Calkins said:
"Before I conclude, though, I want to briefly discuss Appian's stance on investment in the business. In 2023, we are once again planning negative EBITDA, albeit with a narrower margin than last year. We understand that today's high-interest rates make near-term profits more valuable and future growth less valuable.
Investors are right to question companies about the merits of continued investment for further growth. We've considered this deeply, and we believe that continued investment for growth is the right decision for our shareholders."
Calkins is essentially saying that the company is in control of its bottom line and that it's continuing to operate at a loss because it's making the choice to invest in the business. If it wanted to, it could scale back on line items like sales and marketing in order to report a profit, but the company believes it's better off investing in growth, and the numbers back that up.
The company consistently posts gross renewal rates of 99%, meaning 99% of its customers stick with Appian's product, which helps them easily create and deploy the applications that they need, year after year. Appian's subscription-level gross margins are also strong at around 90%.
Based on those numbers, the lifetime value of each incremental customer is high. The company retains nearly all of its customers, and converts about 90% of subscription spending into cash it can use to reinvest in the growth of the business.
Those numbers show why Appian believes it makes sense to spend on marketing and areas like research and development to bring in new customers and grow the business.
The potential game-changer for Appian
While investors may understand that trade-off, every company needs to balance both growth and profitability, and investors have made it clear that they want to see more profitability from Appian.
Following up on the comments above, Calkins also said: "We understand the importance of disciplined growth and would like to assure our investors that we are committed to growth and scrutiny. We aim to steadily improve our margins through 2023 and beyond."
If the company can follow through on that goal and deliver steady margin improvement while maintaining a strong growth rate in cloud subscriptions, the stock should respond well. Shares look well-priced for the software sector at a price-to-sales ratio of 7.3.
With its strong renewal rates and gross margins, Appian's cloud software suite has demonstrated its success with customers. Delivering meaningful improvement on the bottom line could make it the same for investors.
