MIND C.T.I. (MNDO)

A software company printing cash, and returning it to shareholders

MIND is a leading provider of convergent real-time end-to-end billing and customer care product-based solutions as well as unified communication call accounting and analytics solutions for organizations and large multinational corporates. Founded in 1995 with a vision to provide comprehensive yet flexible, ready for deployment solutions to any telecommunication service.  MIND delivers its applications in any business model (license, SaaS, managed service, or complete outsourced service) to enable its customers to choose the best model that fits their needs.

MIND differentiates from competitors on quality, not price – they are focused on providing a superior good for a reasonable price. They currently have three product lines: “A”, billing solutions for service providers; “B”, UC accounting; and “C”, mobile messaging solutions. Product line “A”, which is their core line of business, markets itself to smaller telecommunications service providers (what they call tier 2/3 companies) with easy-to-use, scalable billing solutions for their businesses, along with an e-commerce platform all bundled together under the MINDBill umbrella.

MINDBill focuses on remaining as flexible as possible, offering on-premises deployment or in the cloud, and while their product is not the cheapest, the ability to interface all components of the billing process and easily integrate with leading technology vendors like Microsoft, Ericsson, Cisco, and Nokia brings down the total cost of ownership. They are generally able to offer the lowest total cost of ownership due to the skill and low cost of their employees, many of which are based in Romania (124 of the 160 employees). Their customers tend to agree, which is why they are willing to sign long-term contracts with MIND, which has led to the long-term stability of the company’s revenues and cash flow. Even more encouraging is the fact that customers are willing to pay much of the cost upfront, evidenced by MIND’s consistently large deferred revenue balance – another sign of the value they present to customers.

Furthermore, the company exhibits good receivable terms for a company selling software, as they have less than $2.65mm in receivables compared to $21.5mm in revenue, which is very encouraging for their value proposition. Their second product line is much smaller, and not specific to the telecom industry, which they market as a state-of-the-art, flexible solution for unified communication analytics and call accounting for enterprises. Fortunately, this is not their core business, as their shrinking revenue in this space indicates they likely don’t present great value and might want to consider divesting. Their customers in this space tend to be larger, global corporations (McDonald’s, Nestle, Intel, Disney, and FedEx, to name a few), making it unlikely they abandon this line of service so long as it is profitable and providing value.

Their third and final product line which they recently entered through the purchase of two independent subsidiaries in 2019, however, has shown great promise. While MIND doesn’t have expertise in this area, they allow their subsidiaries who have both been in the industry for 15+ years to work independently and deliver another high-quality service that customers value. They focus on customized mobile communication solutions with an emphasis on high standards of security, and the value they present is evidenced by their strong revenue growth in the space since their acquisitions.

The management and ownership of MIND look strong. The entire management team has been with the company for a long time with little turnover, showing their willingness to stay with the company and their understanding of the business. CFO Arie Abramovitch is the youngest and shortest-tenured person on the management team, and he was with KPMG until 2020 as a senior accountant. The real selling point of the management team is CEO and founder Monica Iancu, who has built this company from the ground up and is heavily incentivized to maximize shareholder value due to her 16.5% equity stake in the company. Her salary is quite low for the CEO of a tech sales company, at just over $500K USD.

Founder-led businesses with insider ownership tend to outperform those without the same qualities, but it can be problematic if the founder is making poor decisions. Fortunately, that is not the case, as Monica and the rest of the management team have shown their business savvy in recent years, acquiring Message Mobile and GTX Messaging in 2019 which has performed well since the acquisitions and has helped drive recent revenue growth, while consistently earning above average returns on invested capital (ROIC) of over 20% for a more than a decade.

The management team has also steered clear of debt, creating a fortress balance sheet with tons of cash that they can either return to shareholders in the form of dividends, which they have done consistently for over 15 years or make more acquisitions for the right price to further drive growth in their services revenue. There is also little worry about dilution from management options (~1%). Notably, Monica was 64 at the release of last year’s 20-F, so it is possible she is nearing retirement and possibly makes the firm a suitable acquisition target.

Getting into the valuation for MIND, being a strong company with good management in a competitive industry with no real moat or competitive advantage, I will look at it from two perspectives: what would a private market buyer pay (i.e., what would it cost to reproduce MIND), and what are the sustainable owner’s earnings worth assuming no long-term growth. For the former, we will start with the balance sheet, before getting into the income statement for owner’s earnings.

With regards to their current assets, there are no necessary adjustments to the reported book value. We might add the provisions for the receivables, but there is no information regarding such provision and the difference is likely negligible. Looking into long-term assets, we will ignore the severance pay fund, the ROU assets, and deferred tax assets as they all have offsetting liabilities. Long-term trade receivables can be slightly discounted and added, bringing us to ~20.5mm before getting into P&E, goodwill, and intangibles.

MIND’s property and equipment is made up almost entirely of computers and electronic equipment, currently held on their books at $250k. With an original cost of over $2mm, we can estimate that due to technological advances, it would likely be cheaper to acquire that equipment today. Therefore, while the original cost of P&E was almost $2.5mm, we will take a conservative approach here and estimate it would cost roughly 60%, or $1.5mm, to reproduce their property and equipment, which brings us to $22mm.

The core goodwill and intangibles that play a role in the reproduction cost of MIND are revenue acquisition costs, technology reproduction costs, and start-up costs. Startup costs are relatively easy to estimate. While the company does have a someone costly structure between HQ in Israeli and the offices in Romania, we will assume it will take 2-3 years of average administrative costs to get up and running. Taking an average of the past 3 years, this will cost between $3-5mm. To value the acquisition of their current revenue stream (we will assume a constant revenue stream of $22mm, slightly above 2022 numbers but below the 3 previous years), we will look at recent acquisitions made by MIND. In 2019, they acquired GTX and Message Mobile for a total of ~$3.25mm which gave them additional annual recurring revenue of between $7.5-12mm (the 3-year average is right around the middle at $9.5mm). This would value MIND’s $22mm revenue stream at between $6-9.5mm, and an average of $7.5mm, bringing us to pre-intangible technology asset value of $31-36.5mm, or $33.5mm on average.

The reproduction cost of technology is difficult to estimate, but I will approximate to the best of my abilities using a sensible thought process. The company currently depreciates core technology over 10.75 years, meaning that is their best estimate of the currently lifespan of their core product. Since 2016, they have consistently spent between $3.5-4.5mm annually on R&D to maintain their competitive position, so we can roughly estimate that their technology would cost somewhere between $37-48mm to reproduce ($3.5-4.5mm annual spend * 10.75 years of useful life). MIND’s technology might last longer than 10.75 years, but this number given by the company feels safe and logical to use, bringing out reproduction value of assets to $69-84.5mm, or $76mm.

This number is substantially higher than the current book value of $31.7mm but is much more indicative of what it would truly cost to reproduce the business and is closer to what a private market buyer would be willing to pay. Subtracting current payables and accruals as well as long-term deferred revenues, we obtain a likely reproduction cost for MIND of somewhere between $66-81.5mm, with the low-end estimate still providing a 45% margin of safety compared to the company’s current market cap. Alternatively, since technology is the only intangible that requires any real guess-timation, we can think of it as the market currently valuing MIND’s core technology, on which they spend $3.5-4.5mm annually with an estimated useful life of 10.75 years, at $11.5-17mm.

Delving into owner’s earnings, the valuation is simpler. As I previously mentioned, I will be assuming sustainable long-term revenue to be $22mm but will look also look at a range of $18-26mm. Average EBIT margins for the last 10 years is ~25%, right around the current number, so we will assume annual recurring EBIT of $4.5-6.5mm, or $5.5mm, with no non-recurring expenses to account for. The company has had an average tax rate of 12.5%, but their annual report mentions their status as a “Preferred Technological Enterprise” in Israel, granting them a corporate tax rate of 7.5% through (at least) 2026, which is in line with the average tax rate over the last 5 years of 8.5% - to be safe, I will use 10, giving them sustainable NOPAT (net operating profits after tax) of $4-6mm, or $5mm. We will also assume CapEx and depreciation continue to offset one another into the future, as they have had a negligible effect on value.  

The company currently has no debt is relatively stable margins, the cost of capital, required return, or whatever you want to call it is in the eyes of the beholder. Considering low investment-grade bonds currently yield ~6%, and we are trying to be conservative, we will look at MIND’s required return between a range of 10-15%. This would give them an enterprise value between $27-60mm (4/0.15 - 6/0.1), which on the low end, discounted at an incredibly conservative 15% (near venture capital required returns for a stable, debt-free company paying out 10% in dividends with long-term contracts) is equal to what the market is pricing it at. Adding back net cash ($17.5mm), this gives us an implied equity value of $45.5-77.5mm, a much broader range than our asset-based valuation, but quite similar, and still containing a large margin of safety.

Additionally, this valuation assumes zero growth going into the future for a company that has compounded revenue growth of 3.4% over the last 10 years, which is closer to 6% for the services revenue lines, as opposed to their dying licensing revenues. Furthermore, this is a company with a fortress balance sheet and tons of net cash that they are returning to shareholders, while continuing to earn high returns on invested capital, averaging 22% for the last 10 years, even with their cash hoard. There is also a real possibility that due to the company’s strong position in their market, the age of the founder, and the health of their balance sheet, they could make a compelling acquisition target for larger software players.

On a relative basis, MIND checks all the boxes, especially for a company selling software. They trade at ~5x normalized EBIT, sub-10x trailing earnings (ex-cash, this falls to almost 5x), they’ve got no debt, they are relatively stable, they pay out all earnings in dividends, minimizing the potential risk of this being a value trap. They may not have a sustainable competitive advantage, which is always nice to have, but this is still an incredibly well-run business generating stable owner’s earnings with a reproduction cost of assets likely much higher than the current value in the market. It would not be shocking in the slightest for this to be acquired for a premium, and even if that is not the case, owners can collect a dividend yield >10%.

There are several important risks to the business that may adversely affect future profitability which fall into two main categories: geographical and operational. Geographically, the company is exposed to the fluctuating values of currencies. Over the last few years, The Euro has depreciated against the US Dollar while the company has grown their European revenues, which has hurt revenue numbers in the recent past. That risk will prevail as the company’s functional and presentation currencies remain different. Because the company operates in a highly scrutinized industry, there are regulatory concerns over services that differ between geographies, and the company will need to make sure they are operating within the confines of the law in several jurisdictions regarding data encryption and privacy, among other factors.

Operationally, beyond the numerous risks the company lists in its annual report, there are two potential risks that stand out. The first is (according to MIND), customers are beginning to seek “solutions that are implemented upon a native cloud architecture” which they have not yet developed, which might cause customers to seek other options upon completion of current contracts. Secondly, due to recent economic conditions and a looming recession, companies might seek different cost-cutting measures, which could lead them to choose a lower-cost provider. MIND’s end-to-end solution reduces the total cost of ownership, but customers might start to cut corners and seek providers that are very low-cost but do not have the end-to-end capabilities of MINDBill. This led to a decrease in new customers in 2021 which they believe could continue going forward.

All-in-all, MIND C.T.I. looks like a compelling investment with an adequate margin of safety on several bases. Likely, they will continue to see high returns on invested capital and do have an opportunity to grow using their cash hoard to make acquisitions. It remains to be seen if the growth from those theoretical acquisitions will increase value, or potentially, the company will decide to focus on its core competencies and pay out a special dividend to shareholders. Either way, the company looks to be quite strong and stable, and in a no-growth scenario still appeared undervalued, potentially significantly. As a bonus, with their growing revenues in Europe, they may even “double dip” on the Euro’s recovery and see high revenue growth while maintaining costs.