Gilat’s Attorneys: “Comtech is sabotaging the Merger”

A judge in the Delaware Court of Chancery, Texas, issued earlier this month a temporary injunction order against Comtech, following information presented by Gilat’s lawyers, according to which Comtech’s representatives met many times during the recent months with officials from the Federal Antimonopoly Service of Russia, without informing Gilat of the meetings, Bloomberg News revealed.

According to the information, Comtech members held about 17 “secret calls” with Russian officials, contrary to the agreement between the companies, which requires that representatives from both companies be present or informed at any “significant” meeting related to the merger transaction. Gilat’s lawyers claim that the very act of conducting these meetings and their concealment indicate that Comtech made steps behind Gilat’s back that were meant to delay the approval of the merger in Russia until after the deadline set in the agreement (October 23).

After receiving the information, Judge Joseph Slights issued an injunction order requiring Comtech to provide Gilat with a notification 24 hours before any meeting or conversation with the Russian authority. The trial between the two companies will begin on October 5. The injunction order issued by the judge is a hard blow to Comtech, as the new information debunks its claim that Gilat is the one who tried to sabotage the obtaining of an approval from Russia.

Comtech’s Original Sin: Excessive Leverage

Gilat is a satellite networking technology, solutions and services provider. At the end of January 2020,  Comtech Telecommunications Corp. and Gilat signed a deal under which Comtech would acquire Gilat for $577 million: 70% of them in cash and the rest in shares. The merger was supposed to create a company with annual revenues of about $1 billion. Even then, however, question marks arose concerning the financial basis of the deal.

Oppenheimer Israel analyst, Assaf Handley, told Techtime that he had already warned at the time of signing of the agreement that the capital structure of the deal was problematic, since it required Comtech to incur a debt of $500 million. “Such a debt represents a leverage that is four times larger in relation to the EBITDA of the merged company.

“It is a very high leverage for this industry, since the satellite communications market is very volatile. Companies of this type don’t take on large leverage since the volatility in quarterly earnings is very high, and cancellation of even a single order could cut a significant portion of the revenue and cash flow – and jeopardize repayment ability.”

Were the Russians merely an excuse?

If 2020 had been a normal year, Comtech would have been able to handle the debt burden, but COVID-19 shuffled the deck: the revenues of both companies fell sharply in the first half of 2020. Gilat ended its first quarter with a 23% drop in sales and a loss of $11.7 million. In the second quarter, sales fell by 35% and the company reported a loss of $4 million. Comtech reported a 20% drop in sales in the fiscal quarter that ended late April and a loss of $4 million.

Both companies attributed the deterioration in business to delays in orders in the wake of the COVID-19 crisis. Comtech’s share has been cut by more than half  – a major blow to the merger, since approximately third of the deal was supposed to be paid for in shares. Could it be that Comtech has decided to withdraw from the deal due to this reason? Unilateral cancellation of the agreement involves payments of tens of millions of dollars in compensation. According to Gilat’s attorneys, this is the reason why Comtech had decided to find an excuse to renege the agreement.

The injunction order is not reassuring for Comtech

In July 2020, Comtech filed a lawsuit in the Delaware Court of Chancery, alleging that Gilat had made structural changes to its subsidiary in Russia and thereby jeopardized the approval of the merger. A few days later it filed a revised lawsuit in which it sought a declaratory ruling that would determine that the COVID-19 crisis had inflicted a “significant adverse harm” to Gilat’s operations, and that this constitutes a ground for rescinding the agreement.

Gilat responded in a counterclaim in which it claims that Comtech is deliberately trying to sabotage the approval of the deal, and is looking for an excuse to shake off the merger. Handley believes that regulatory proceedings in Russia were simply an excuse. “If Comtech really wanted a deal, they would simply waive the Russian approval.

“In any case, Gilat’s activity in Russia is negligible. The injunction order issued by the judge, which in fact supports Gilat’s claims, is not reassuring for Comtech. It is hard to believe that in the current circumstances the deal will be executed, but there may be a real basis for Gilat to sue for compensation due to the substantial damages it suffered.”

Gilat-Comtech Merger becomes Forced Marriage

Gilat Satellite Networks announced it intends to file a counterclaim against Comtech, demanding to enforce the $577 million Merger Agreement signed on January 2020, or otherwise determine financial compensation to the amount of hundreds of millions of dollars. Gilat’s threat comes after Comtech recently filed an amended complaint with the Delaware Court of Chancery, in which it has already asked quite explicitly from the Court to withdraw from the Merger Agreement with Gilat, which was in advanced stages of regulatory approval.

In its statement, Gilat said that it was aware that Comtech’s amended complaint requests an additional declaratory judgment which will confirm that due to COVID-19, Gilat has suffered a “Material Adverse Effect”, and therefore Comtech was not required to complete the merger. Gilat reacted sharply, “strongly rejects all these allegations,” claiming that Comtech’s complaint “is nothing short of an attempt to avoid its clear contractual obligation to acquire Gilat, due to Comtech’s own rapidly deteriorating performance.”

Exploiting the Russian Regulator

The initial complaint filed by Comtech concerned changes made by Gilat in its Russia-based subsidiary, which, according to Comtech, could have undermined attempts to receive approval from the Russian Monopoly Service (FAS). Gilat claims that it was only a pretext sought by Comtech in order to annul the Agreement, and whoever sabotaged attaining Russian approval was in fact Comtech: “Gilat believes that Comtech has willfully breached its obligations under the Merger Agreement so as to attempt to ensure that FAS approval is not timely obtained and Comtech will not be required to consummate the merger.

Gilat said in a press release that it intends to file a counter claim against Comtech seeking, “among other things, a declaration that Comtech cannot terminate the Merger Agreement and, if the merger is not consummated, Comtech should pay Gilat monetary damages for all losses that Gilat and its shareholders and option holders have suffered, which Gilat will assert amount to hundreds of millions of dollars.”

COVID-19 hit both companies

Gilat Satellite Networks provides satellite-based broadband communications, including a cloud based VSAT network platform, high-speed modems, high performance on-the-move antennas and high power Solid State Amplifiers (SSPA) and Block Upconverters (BUC). During Q1 2020, Gilat’s sales totaled $47.7 million, compared to $62.1 million in Q1 2019. The company said that the decline in sales was a result of the effects of the COVID-19 pandemic, mainly due to sharp decline in passenger aircraft market (Inflight Connectivity).

Comtech’s business situation is no different: for the quarter ended April 2020, it reported a 17% drop in sales to $135.1 million, also due to the COVID-19 pandemic. As a result, it was forced to take action to reduce expenses, including a 10% reduction in the workforce and a reduction in wages.

Comtech to Acquire Gilat for $532.5 Million

Comtech Telecommunications from New York announced an agreement to acquire Gilat Satellite Networks from Petah Tikva (near Tel Aviv) for approximately $532.5 million. This is a cash and stock transaction of which 70% will be paid in cash and 30% in Comtech common stock. Gilat provides satellite ground stations and in-flight connectivity solutions and services, based on its satellite networking technology.

Gilat is planned to become a wholly owned subsidiary of Comtech and will maintain its brand and its corporate headquarters and research and development facility in Petah Tikva, Israel under the leadership of Yona Ovadia, Gilat’s current CEO. No Comtech or Gilat facility locations are expected to be closed as a result of the transaction. Gilat expects to achieve 2019 annual sales of $260-$270 million. Comtech announced on December 2019 that it expects to achieve sales of $712-$732 million in 2019.

The combined companies would employ approximately 3,000 people and offer satellite technology, public safety and location technology and secure wireless solutions to commercial and government customers around the world. Fred Kornberg, Chairman of the Board and CEO of Comtech, said that The combination of accelerating satellite connectivity demand, and the increasing availability of low-cost satellite bandwidth, makes this a perfect time to unify Comtech and Gilat’s solutions. “Gilat is an exceptional business that has developed extraordinary technology and has a well-respected product portfolio supported by strong research and development capabilities.”

Gilat is well positioned to take part in the new Low Earth Orbit (LEO) Communications Satellite Constellations. Last November it achieved the fastest ever modem speeds of 1.2 Gbps total throughput over Telesat’s Phase 1 LEO satellite. This industry milestone demonstrates the potential of high throughput Non-Geostationary Orbit (NGSO) satellite constellations. The combination of high throughput provided by Gilat’s technology and the low latency from NGSO is considered essential for delay-sensitive applications such as 5G – which is a main target market of Comtech.