Why did Bezeq pay so much for Yes?

Gad Perez

The ISA needs to prove its case and make an example of Bezeq on insider transactions.  

The results of the Israel Security Authority investigation of Bezeq will no doubt have an effect on the conduct of Israeli public companies when it comes to the notorious area of insider transactions.

As "Globes" revealed, in its first quarter financial statements Yes reported a worsening of its cash flow, because the company had had to defer payments to suppliers from the previous year, in order to meet the cash flow targets set for it in the deal whereby Bezeq bought Eurocom's stake in it. In the first quarter of this year, Yes posted negative free cash flow of NIS 9 million, which compares with positive cash flow of NIS 99 million in the corresponding quarter of 2016.

In other words, and Bezeq of course rejected this supposition, someone may have seen to it that Yes would meet the cash flow conditions in 2016 in order that Eurocom could receive hundreds of millions of shekels. The ISA investigation indicates that there are indeed suspicions that that was the case.

Yes was founded in 1998 by several shareholders, among them Bezeq and Eurocom and began operating in 2000 in competition with the then existing regional cable television companies. It had a difficult start but gradually took market share – at a heavy price. The company has lost billions of shekels over the years. Bezeq, a strong and rich telecommunications monopoly, was not perturbed by the losses. Its aim was to weaken the cable companies ahead of competition in the domestic telephony market, which was more important to it.

Bezeq and Eurocom began injecting cash into Yes in the form of owners' loans, and diluted the other shareholders. Eventually Eurocom could not provide more cash, and Bezeq was left the main, and ultimately sole, injector of cash.

At the same time, Bezeq raised its stake in Yes to 49%, while Eurocom reached a stake of 51% after buying out the remaining shareholders. Bezeq was forbidden to raise its stake above 50% by the Antitrust Commissioner, but nevertheless received an option on 9% of the shares from Eurocom against further cash injections.

Because of the owner's loans and the option it held, in its financial statements Bezeq attributed to itself a holding of 85-90% of Yes's value, far above its actual 49% shareholding. This means that Eurocom's true holding was only 10-15%, so that in the deal whereby Bezeq ultimately bought Eurocom's stake, the price should have been very low.

The Antitrust Commissioner opposed such a deal, but after Assaf Eilat replaced Shlomi Parizat as chief economist at the Antitrust Authority in 2013, the regulator relented. Since 2010, Eurocom owner Shaul Elovitch also controlled Bezeq, having bought the controlling stake from the Apax-Saban-Arkin group, through an indirect subsidiary of Eurocom, B Communications.

Although Elovitch and his associates were prevented from sitting on the Yes board on behalf of Eurocom, the Bezeq board appointed them as its representative directors at Yes. Thus Shaul Elovitch, his son Or, and his deputy Amikam Shorer sat on the Yes board of directors, while Or Elovitch and Shorer also represented Eurocom in the negotiations with Bezeq on the sale of its stake in Yes. These are clearly not ideal conditions for tough negotiating between a seller in distress and obliged to sell and a cunning buyer that will exploit the situation.

Merrill Lynch, which advised Bezeq, ultimately recommended that Bezeq should not pay more than NIS 250 million for Eurocom's stake in Yes. Prof. Asher Blass, hired by consultants Entropy to examine the deal, reached a similar conclusion, that the holding was not worth more than NIS 200 million. Eurocom, however, raised two demands: that Bezeq should pay it for future synergies; and that it should pay for the huge accumulated losses at Yes which it could set off against future tax liabilities. In the end, Bezeq agreed to pay NIS 1.08 billion (NIS 680 million cash immediately and NIS 370 million in conditional payments depending on utilization of the tax loss). Almost all the amount paid was attributed to the theoretical future synergies, that were dependent on abolition by the regulator of the structural separation between Bezeq and Yes by the end of 2016 (which did not happen, and may not happen at all in the near future), and to the tax asset, which too can only be exploited if the structural or corporate separation between the two companies is abolished.

Why did Bezeq agree to pay so much for an asset that Eurocom did not really hold? All of Bezeq's directors, including the directors on the public's behalf, owe their appointments and their continuation in office to controlling shareholder Shaul Elovitch. That's how it works in Israel. All of them, that is, except one, Rami Nomkin, a veteran Bezeq employee and the director on behalf of the employees since 2007. His votes on the Bezeq board have been 100% in the company's interests. Those who know Nomkin speak of a completely honest person, with a backbone of iron, who bends for no-one. He is also Bezeq's most experienced director.

Nomkin opposed the transaction with Eurocom on the grounds that Bezeq had no need to hurry, since the other side was under pressure to sell. He also noted that other companies were not waiting in line to buy Yes, so that Bezeq could extract the best possible deal. He was, of course, outvoted.

In the coming months, the full picture should become clear. We must wait and see whether the Israel Securities Authority's lawyers manage to discover all the discussions of Bezeq's board and of the special committee for the Yes purchase, and to prove that this is indeed a case of a dubious transaction that ought to be cancelled.

Derivative action

Meanwhile a derivative action has been brought by Adv. Ronen Adini alleging that the Yes deal is tainted and illegitimate, and was made by Bezeq against its own economic interests. Adini claims that Bezeq paid Elovitch (who controls both Bezeq and Eurocom), at least NIS 500 million too much. He argues that had the seller been a third party and not Elovitch, Bezeq would have conducted tough negotiations, as normal in the business world, and would have bought Yes at a much lower price, especially considering that Yes was a loss-making company, and that Elovitch had tried to sell his stake over the years without success.

Published by Globes [online], Israel business news - www.globes-online.com - on June 20, 2017

© Copyright of Globes Publisher Itonut (1983) Ltd. 2017

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