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GeoEye Takeover Seen After DigitalGlobe Bid Backfires: Real M&A

In the race to map Earth from space, GeoEye Inc.’s bid to swallow DigitalGlobe Inc. has left its own valuation at the lowest in three years. That could compel GeoEye to try and sell itself instead.

GeoEye, which supplies satellite images to customers such as Google Inc. and the U.S. Defense Department, fell 21 percent through yesterday after DigitalGlobe this month rejected an unsolicited offer of $17 a share in cash and stock. GeoEye traded at 8.4 times earnings, the lowest since the financial crisis erupted in 2008, according to data compiled by Bloomberg.

While GeoEye Chief Executive Officer Matt O’Connell went public with the proposal after DigitalGlobe countered with a takeover offer of its own, Oscar Gruss & Son Inc. says DigitalGlobe, which is about 69 percent larger and worth seven times as much relative to profit, has more leverage as a buyer. Without a deal, GeoEye may cost shareholders more money as the U.S. considers cuts to a $7.4 billion satellite imagery program that provides GeoEye with more revenue, Tullett Prebon Plc said.

GeoEye is like a “minnow swallowing a whale,” Yemi Oshodi, New York-based managing director of M&A and special situations trading at WallachBeth Capital LLC, said in a telephone interview. “It makes no sense to use your lower valued currency to buy a higher valued currency.”

Mark Seifert, a spokesman for Herndon, Virginia-based GeoEye, declined to comment on whether it would consider putting itself up for sale. Eric Brielmann, a spokesman for DigitalGlobe, declined to comment beyond the Longmont, Colorado-based company’s May 6 statement. In it, DigitalGlobe said the bid “substantially undervalues” the company.

Acquisition Detail

Today, GeoEye rose 0.5 percent to $19.65 a share as of 9:50 a.m. in New York.

GeoEye offered to pay $8.50 in cash and 0.3537 shares for each DigitalGlobe share to create the world’s largest commercial-imagery satellite company. The proposal, 33 percent above DigitalGlobe’s 20-day average, valued DigitalGlobe at $762 million, data compiled by Bloomberg show. Including net debt, the deal was worth $1.04 billion.

GeoEye, with $437 million in market value, announced its bid this month after twice rejecting a counteroffer from DigitalGlobe, according to DigitalGlobe’s statement. After GeoEye expressed interest in acquiring DigitalGlobe in February, DigitalGlobe offered to buy GeoEye on March 2 in a deal that would have given GeoEye holders 40 percent of the combined company. The offer was repeated April 13.

Defense Spending

While DigitalGlobe had fallen 3.6 percent since turning down the bid, GeoEye lost about a fifth of its value. GeoEye ended at $19.55 yesterday, bringing shareholder losses to 43 percent in the past year, data compiled by Bloomberg show. DigitalGlobe fell by 33 percent in the same span.

The slump drove down GeoEye’s price-earnings ratio to the lowest since December 2008, three months after Lehman Brothers Holdings Inc. collapsed in the biggest bankruptcy in history.

The GeoEye bid resembles a so-called Pac-Man defense, a strategy where a target fends off an unwanted takeover by buying the acquirer and named after a popular 1980s video-arcade game, showing GeoEye is worried cuts in U.S. defense spending will lead to further share declines without a deal, said Louis Meyer, a New York-based special situations analyst at Oscar Gruss.

The U.S. National Geospatial-Intelligence Agency awarded contracts in August 2010 worth $3.8 billion to GeoEye and $3.5 billion to DigitalGlobe for the development of EnhancedView, a program that will provide commercial satellite imagery to the defense and intelligence communities for 10 years.

Relative Value

As the Defense Department considers “major” spending reductions to the program, some investors are concerned that GeoEye may face a greater revenue drop because it was allotted more money, according to Dougherty & Co.

GeoEye also has fewer satellites orbiting the earth and 650 million square kilometers (251 million square miles) of imagery, less than one-third the size of DigitalGlobe’s library, the companies’ statements showed.

DigitalGlobe, which ended talks with GeoEye and will wait until the U.S. decides whether to make cuts to EnhancedView before considering another bid for GeoEye, said this month the government process would be “favorable to the company.”

The statement indicates DigitalGlobe is confident it can weather a reduction in spending better than GeoEye or enable it to buy GeoEye at a lower price, according to Paul Coster, a New York-based analyst for JPMorgan Chase & Co. It also shows that GeoEye could be forced to consider giving up control if it wants to provide a return to shareholders, Oscar Gruss’s Meyer said.

‘The Other Asset’

GeoEye’s proposal “was more a sign of weakness than of strength, leveraging this government funding cut as the rationale,” he said in a telephone interview. “It’s really DigitalGlobe’s for the taking. They have the upper hand here.”

Amy Yong, a New York-based analyst at Macquarie Group Ltd., says that while defense spending cuts will hurt both companies, GeoEye has the financial wherewithal to persuade DigitalGlobe shareholders to support the deal because it is backed by Cerberus Capital Management LP.

Cerberus, the $20 billion New York-based private-equity firm led by Stephen Feinberg, owned 21 percent of GeoEye as of March 31 and is “prepared to contribute substantial capital in support” of the DigitalGlobe takeover, GeoEye said this month.

“The deal makes a lot of sense” for GeoEye as the acquirer, Yong said in a telephone interview. Because Cerberus is GeoEye’s biggest shareholder, “they’re probably a little bit more well-positioned to do an acquisition.”

With investors putting a premium on owning DigitalGlobe, WallachBeth’s Oshodi still says that GeoEye’s shareholders may be better served if the company sells itself to its larger rival.

DigitalGlobe sold for 61 times earnings yesterday, versus 8.4 times for GeoEye, data compiled by Bloomberg show.

“Why would I take GeoEye’s stock knowing that their stock is lower and could be lower?” Sachin Shah, a Jersey City, New Jersey-based merger arbitrage strategist at Tullett Prebon, said in a telephone interview. “There are two assets and one asset is worth more and going to be less detrimentally affected by the government cuts. It seems like GeoEye is the other asset.”

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