Watchdog Report Assails IAI Support of Eros Program

TEL AVIV, Israel — Conflicts of interest and lax oversight led government-owned Israel Aircraft Industries Ltd. (IAI) to continue to invest state resources in a money-losing commercial satellite imaging venture, according to the nation’s top watchdog agency.

In its 2005 annual report, released Aug. 31, Israel’s comptroller general leveled harsh criticism at IAI for what it claimed was a series of improper business decisions in support of ImageSat International, owner and operator of the Eros-A high-resolution imaging spacecraft. IAI established ImageSat in 1997, along with other investors, as a vehicle for promoting and securing orders for IAI-produced satellites.

According to the report, IAI not only failed to recoup its initial $42.3 million investment in ImageSat, but registered $36.7 million in losses for its estimated 40-percent share of the company. Additionally, government investigators disclosed that IAI extended $39 million in credit to ImageSat to help underwrite its newest Eros-B imaging satellite without seeking or securing the approval of IAI’s board of directors.

The comptroller’s disclosure of Eros-related losses appears to contradict earlier ImageSat claims of an operational surplus that allowed it to fund Eros-B , planned for launch in early 2006, through its own reserves and private-sector loans.

“This company is cash flow positive. We looked at our revenue stream and determined it was sufficient to keep Eros-C [the firm’s third planned satellite] on a low flame and fund Eros-B from our own cash flow operations surplus together with a bank loan,” ImageSat president Menashe Broder said in a June 2004 interview.

ImageSat, which is preparing its first public stock offering in the United States, declined to explain the apparent discrepancy when contacted Sept. 5. “ImageSat is a privately owned firm and we won’t discuss our financial affairs,” company spokeswoman Karen Gold-Anisfeld said. She also said the firm does not disclose the identities of its investors or their equity in the satellite venture.

“We must view these things amid the fact that IAI at the same time serves as the provider and also a shareholder of a customer … The situation in which senior managers at IAI serve in senior positions in [ImageSat] is problematic and embedded by suspicions of conflict of interest, the results of which can not be overcome through the existing arrangement,” the comptroller’s report charged.

It upbraided IAI managers for flawed strategic planning, misplaced adherence to “overly optimistic” market projections and for not providing its board a detailed assessment “of why, from the perspective of IAI, it was worthwhile to continue to promote the [ImageSat] business plan in light of changes that were decided from time to time.”

In a March 1999 business plan prepared for prospective customers and investors, ImageSat — then called West Indian Space Ltd. — advertised a program to launch and operate a constellation of eight Eros satellites by the end of 2004. The company now envisions launch of its second satellite, Eros-B, in early 2006, followed by Eros-C prior to 2008.

Finally, the report insisted IAI should have learned from similar mistakes made in the context of the Amos commercial communications satellite venture , which resulted in huge losses for the firm.

A prepared statement dated Aug. 29 — two days prior to the release of the comptroller’s report — IAI defended its decision in the late 1990s to establish ImageSat together with other partners as a vehicle for entering the emerging satellite Earth-imaging market. IAI insisted that ImageSat has generated “significant revenue” since the December 2000 launch of the Eros-A. Nevertheless, IAI acknowledged that after five years of space operations, “ImageSat is still in an investment phase with respect to its [planned] network of satellites.”

With regard to charges of unsupported, overly optimistic market projections, IAI said: “It is natural and understandable that forecasts, which were evaluated thoroughly and methodically and upon which the business plan was based, were only partially fulfilled.”

The company said Moshe Keret would continue to serve as top manager at IAI as well as chairman of ImageSat. However, “IAI wishes to clarify that in order to prevent a situation of a conflict of interests, [Keret] delegated his authorities with respect to ImageSat to IAI’s corporate vice president and general counsel, and to IAI’s corporate vice president for finance.”

Despite efforts to reduce the appearance of conflict between ImageSat and IAI, the two firms continue to share senior executives. ImageSat recently announced that Broder, a former IAI executive, would be replaced by Shimon Eckhaus, who until early this summer served as corporate vice president for marketing and business development at IAI.

ImageSat’s 250-kilogram Eros-A imaging satellite, built by IAI, is based on technologies developed by IAI and other Israeli firms for the nation’s Ofeq spy satellite.