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Mistral Software

They make cell phone software, but can they make a killing?

Entrepreneur's gut value: $25 million-$35 million
Len Green's value: $30 million
Mary O'Connor's value: $14 million

Inside your local ATM, your printer, your PDA, and your cell phone is a tiny computer that makes the device do what it's designed to do. The technical term for that little computer is an "embedded system."

In 1997, Anees Ahmed and two partners founded Mistral, a company that provides hardware and software for these systems, in Bangalore, India. At launch, the trio had $12,000, a staff of 16--and a vision to become an international powerhouse. Ahmed has remained intensely focused ever since. In 2001, the company landed $2.75 million in first-round financing. It now employs 260, has three offices in India and three offices in the United States, and a global base of customers including Texas Instruments. In 2005, Mistral hit $8.4 million in sales and was profitable. By 2008, Ahmed and his partners are aiming for revenue of as much as $24 million. Ahmed wants to pursue another round of financing--to expand the business and perhaps make an acquisition. In preparation, he's undergone a couple of professional appraisals, which have come in between $20 million and $25 million. But he'd like a higher number to present to investors. "If we can get the right person," he says, "I know we can get between $25 million and $35 million."

Len Green's assessment

Green started by scrutinizing the company's numbers and getting a sense of Mistral's niche in the marketplace. Two things jumped out at him: Mistral was growing faster than the average company in this sector, and the company was investing more in R&D than rivals of a similar size. He scheduled an interview with Ahmed. Much of the talk concerned how far Mistral had come and how much opportunity there was in the future. In this regard, Green saw little cause for concern. What's more, Mistral is on the right side of the outsourcing equation.

Green was impressed by Ahmed's drive, commitment, and tech smarts. But savvy entrepreneurs, ironically, also raise some red flags. What if that founder no longer is able to handle day-to-day operations--or, as Green likes to put it, "What happens if you get shot by a jealous lover?" Most entrepreneurs don't have a good answer, and Green often drops the value as a result--sometimes as much as 30%. In Mistral's case, Green felt that the management team was solid enough to perform even with Ahmed out of the picture.

As for competitive threats, Green didn't see many. The worst that could happen was that a larger company with deeper pockets might take notice of Mistral's success and compete for clients by cutting prices or advertising more heavily.

The next step was to boil these impressions down to a number. Because Green believes that a company is worth what someone is willing to pay for it, he established a baseline of $14 million--the amount the company was valued at in 2001, when it landed its first investors. Sales at that time were obviously lower than they are today. Taking the assumption that a company's value would increase in direct proportion with revenue, Green calculated that the top of the range for Mistral's value would be about $60 million.

Green now had to decide where Mistral fell in the $14 million to $60 million range. He started by estimating the premium he'd be willing to pay for Mistral's advantages: a faster-than-average growth rate, a strong management team, the heavy R&D investments that might pay off down the line. This brought him to around $50 million. Then he reduced the sum by 20%--something he generally does when assessing small companies that run the risk of having a large competitor swoop into the market; the discount also took into account the risk of Ahmed leaving the company and the risk of the company trying to expand too fast. The bottom line: "I believe this company justifies a value of $30 million today."

Mary O'Connor's assessment

Preparing for her interviews with Ahmed, O'Connor found herself curious about his motivation. Did he found Mistral because he loved the idea of running his own company? Or was he determined to make it as profitable as possible? Venture capital investors, of course, care a lot more about the latter than the former. As a result, entrepreneurs with a solid exit strategy tend to get higher valuations.

O'Connor pored over Mistral's old business plans and mission statements. Ahmed did not disappoint. "The vision was always to get to the next profitable stage as quickly as possible," she says, "and then identify where they would go for the next round of funding." It sounds like basic business strategy, but O'Connor says such methodical planning is rare. "So many entrepreneurs think that somehow the funding will just be there and luck will prevail because they have a good idea," she says.

After delving into background research on the industry, she began her calculations. Given the company's track record, she proceeded with the assumption that an investor would be satisfied with a 35% return after a holding period of three years. Based on Mistral's projections, if a venture capitalist sold its stake in the company in 2008, it would walk away with $34.5 million. To get that number, the VC would have to invest $14 million today--which is the value she assigns to Mistral.

She admits it's conservative. The company has other potential assets, but O'Connor had a hard time pinning a value on them. Most important, Mistral is developing software that it eventually plans to license. "This may become 30% of their business and can provide substantial funding for growth," she says. "But given the information available, it can't be adequately valued. Financial statements just don't help us with this kind of intellectual property."

Anees Ahmed's response:

Not surprisingly, Ahmed prefers Green's assessment. "Len has done a valuation with an entrepreneur's insight," Ahmed says. "He has not just checked financial numbers, but also the technology and expertise that we have, along with the customers and future prospects." But at the same time, Ahmed voices the typical entrepreneurial complaint: The number should have been higher. "With future growth and more focus on intellectual-property development, this valuation can increase substantially," he says.

O'Connor's assessment, on the other hand, "only gives part of the value," he says. If you add such factors as Mistral's intellectual property and the loyalty of its customers, "the numbers will add up. How much is in the eye of the beholder."

Indeed, Ahmed was struck by the extent to which a company's value can depend on who is doing the assessing. As he searches for both new financing and potential partners, he plans to look for entities that will be more likely to give him credit for the intellectual property he's created and place a strategic value on his company's technical capabilities and engineering team.

Last updated: Jan 1, 2006

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