The recent and dramatic wave of industry consolidation poses questions such as:

- Why is this consolidation taking place?
- Since fewer capable vendors exist, what localization companies can customers turn to, to diversify the risks?
- Which of these vendors are “safe,” that is, able both to handle complex projects and stay in business?
- How does this consolidation offer customers an opportunity to spend their fewer localization dollars (or other currency) more effectively?

This report addresses these questions, and also provides an insider’s insights into the trends underlying the questions and a projection of the likely scenarios ahead.


The Information Technology Cataclysm

U.S. Information Technology (IT) companies have always accounted for the large majority of global localization spending, financing most localization companies and their staff, both inside and outside the U.S. Without IT, the localization industry would never evolved from its modest translation cottage industry origins, affording only few of us our current jobs, allowing newsletters such as this one to be written and read, and so forth.

The three main segments of IT localization spending – telecom, hardware, and software – have undergone successive and significant changes, starting in the summer of 2001. The changes in each of these segments has had a significant impact on the localization industry, as explained below.

Irrational Exuberance

Last year, as most of us know all too well, the U.S. IT sector experienced a severe correction. But the terrorists behind the tragic events of September 11 cannot be blamed for this correction.

Well before September 11, Silicon Valley had experienced its own form of destruction, as reflected in the NASDAQ’s steep decline. Large numbers of jobs were lost, H1-B employees returned to their home countries (without having time to collect unemployment or even sell their cards), stock portfolios and house values plummeted – all giving one the sense that the recessionary early 80s had returned, when even Intel doubted its future (as it should be now, given the surpluses of computing power).

Silicon Valley’s destruction stemmed from the “irrational exuberance” that had spread from Wall Street to Main Street, leading to (and caused by) overly optimistic business plans, investors, stock prices, analysts, compensation expectations, and, ultimately, executive fraud.

The resulting IT market crash had a direct and negative effect on the localization industry. Since SimulTrans was one of the localization houses affected by the market crash, this report will refer to SimulTrans’ actual experiences, including examples of SimulTrans’ customers, to illustrate trends that are still reshaping the localization industry.

Dot-Com Era

At least in SimulTrans’ world - that spans the U.S. as well as Europe, South America and Asia - the IT market changed markedly about a year ago, in the summer of 2001, when all kinds of IT spending slowed sharply.

The first half of 2001 started out fine, but warning signals were clearly visible. Even though the “dot com” Internet market was falling apart, the liquidation of hundreds of dot-com companies had little impact on SimulTrans and the rest of the localization industry. These companies had never gained the revenue traction to localize extensively, and therefore only indirectly contributed to the demise of numerous localization companies.

In July, however, spending stopped, as if a faucet had been turned off. A “1-2” knockout punch had been delivered. The telecom industry had hit the wall, a victim of overcapacity - inventory, personnel, etc. - vis-à-vis the market need. No longer able to sell to dot-com customers, telecom giants such as Motorola (an important SimulTrans customer) and Nortel (an important Lionbridge customer) were forced to lay off workers by the tens of thousands, simultaneously terminating their localization expenditures.

Telecom companies were able to cut localization expenses extremely rapidly, since they “never got religion” in the same way that software companies had. They had invested in localization only when surplus funds, i.e., profits, existed. When profits disappeared, U.S. telecom companies reverted to pushing localization back to their customers and country offices (“if you want translated documentation, pay for it yourself”), in a way that would be inconceivable for software companies.

(Most software companies see software globalization as an essential component of product development, and budget accordingly. If a company sees globalization as a “sales expense,” localization tends to become a mere afterthought, making it easy for the company to: 1. produce poorly globalized product, 2. suffer internationally, and 3. cancel localization projects.)

One Sector after Another

Adding a third punch to the preceding 1-2 combination, the next sector to nosedive was the generation of “pre-and-post IPO” companies, mostly software companies. In the months preceding September 11, many sanguine software companies saw their customers and investors lose confidence and walk away, shaken perhaps by the dot-com and telecom shakeout, forcing expenditure to be cut in all areas, including localization.

Perhaps indicative of other larger vendors, SimulTrans received only about 5% of its revenue from these kinds of companies (whose localization expenditures, like the companies themselves, have become a mere shadow of themselves). This ilk of company typically had annual burn rates of $50 million to $100 million, fueled by fantastic IPOs, but annual revenue of only a quarter or half of their burn rates.

Many of these software companies have seen their share price trade below $1, often de-listed from the NASDAQ stock exchange. [1] In SimulTrans’ estimation, most of these post-IPO companies will never again need localization services or localization staff, since they have no future, in terms of selling useful products. Their post-IPO balance sheets may sustain life for a few more years, but these companies will never be a factor in our, or any other, industry.

While the Internet and “pre-and-post IPO” sectors were never important factors in the localization industry, except in their frenetic and short-lived hiring of localization staff, these sectors’ demise had a crucial impact on many larger IT companies, such as Sun, H-P/Compaq, Cisco, Intel, and Siebel. In Q2 and Q3 of this year, these “industry bellwether” companies saw additional revenue sources disappear, causing their outlook to darken, stock prices to drop, and localization expenditure to drop. While the “economy” might have been blamed for their problems, the true cause was the over-hyped and self-hyped IT sector itself.

In any event, the 1-2-3 punch combination led to the across-the-board downturn of the largest IT companies, which has had the largest negative impact on the localization industry, since these companies represent the bread and butter of most localization houses.

The Graveyard of Globalization Technology

I wrote above that “the Internet and ‘pre-and-post IPO’ sectors were never important factors in the localization industry.” One easily forgotten example of this non-importance deserves recollection: the “globalization technology” companies.

This segment, like the machine translation companies of the 60s, was only a blip on our industry’s chart (though, ironically, MT is making a comeback, in the useful “gisting” service now provided by major search engines). As shown by the demise of the eTranslates and Uniscapes, that have ceased operations, knowledgeable customers never bought the story that the venture capitalists had bought into.

After all, what savvy localization manager would invest $300,000 into a software application that 1) is not needed by the localization department, 2) does not work, 3) would be much too complicated and costly to manage, 4) could eventually cost the decision-maker his or her job, 5) cannot be funded in today’s market? The $200 million of VC funds wasted on these companies would have been better used if handed out to homeless people.

While globalization technology companies were responsible for much hype in our industry (plus a frenzied two years of IPO discussion and funding, a series of “objective” and unfounded research reports about our industry, and many new jobs), these companies were in essence just another example of the “dot com” craziness that turned out to be very destructive for our industry.

September 11

September 11 escalated the U.S. market problems from the U.S. IT sector (largely Silicon Valley and Boston, which comprises approximately ¾ of America’s IT companies) to the U.S. economy.

While Silicon Valley was already in recession by this time, 9/11 nailed the coffin of many IT companies’ fiscal year, and that of their localization partners, especially on the East Coast, where selling was particularly difficult. As projects were postponed indefinitely (i.e., cancelled), SimulTrans’ and other companies’ sales staff on the East Coast saw their pipeline close, leading to an inevitable reduction of headcount.

From an economic perspective, the World-Trade-Center was most hurtful in leading to nationwide pessimism; CFOs and other managers throughout the U.S. became acutely conservative, constricting spending to and within virtually all IT companies. Larger software and service companies such as Oracle and IBM faired better initially than the larger hardware companies such as Sun and Gateway, but by the end of Q4, the trend lines for virtually all IT companies were descending. (Microsoft will remain a thriving exception.)

From an IT perspective, Europe as usual lagged the U.S. by three to six months; however, in Q1 of 2002, SimulTrans in Ireland observed that even technology companies in Europe were freezing salaries, reducing headcount, and delaying localizing decisions. U.S. IT companies had hoped that Europe would continue to invest in technology, but this hope has eventually petered out, putting us on the brink of a world-wide recession. [2]

When revenue disappears, previously masked problems surface, in some cases garnering the attention of the S.E.C. (Securities and Exchange Commission); auditors get fired, financials get restated, and companies eventually declare bankruptcy (as is the case of another SimulTrans customer, Peregrine). Both large and small localization vendors were inevitably hurt, often never able to collect the money owed by these customer deadbeats.

Worldwide Implications for the Localization Industry

High-tech companies outside the localization industry did not have a monopoly on behaving unethically. High-flying Lernout & Hauspie, which since 1996 had cobbled together a $100-million localization unit (which revived the “Mendez” name to distance themselves from the L&H infamy), was accused and convicted of fraudulent activities. Weighty legal problems eventually caused that company to fall to earth, with the Brussels-based Mendez unit landing in Bowne’s lap.

Shortly after the Mendez acquisition, another significant localization company gave up the ghost: AlpNet. AlpNet had had a strong presence in Europe, particularly in Germany, yet had been plagued for nearly a decade by poor management decisions. For example, perhaps because of its European executives’ focus on Europe, the company essentially ceded the U.S., the world’s most lucrative localization market, to more savvy sales-driven companies such as Lionbridge and SDL.

AlpNet also made other costly mistakes such as investing non-existent funds into tools (the bane of service providers), refusing to cut production headcount sufficiently, and accepting too much low-margin business (of which Germany has plenty).

In addition, AlpNet was known as the low-cost provider of our industry, which made it difficult for them to win work at higher margins. Without good margins, localization companies struggle to stay in business. This struggle to stay afloat is industry-wide and is the #1 reason explaining why vendors sell out. Owners simply tire fighting the battle, suspecting that things may never get better, and eventually decide to take their chips off the table and retire. If Microsoft is a vendor’s dominant customer, fatigue from fighting the battle sets in more quickly.

AlpNet was acquired by SDL, a well-managed and cleverly opportunistic localization company based in the U.K. As a result of this acquisition and the Bowne-Mendez transaction, four of the world’s largest localization companies had within months become two, causing many customers to wonder how many vendors would remain.


Vendors in Turmoil

The departures of L&H/Mendez and AlpNet from the localization playing field suggest that all is not well in the localization industry. While each company’s death was not caused by the IT crash (management incompetence was the major factor), this crash has weakened all IT-related companies, including the downstream localization vendors.

In recent months, the vendor field has thinned further. Among the smaller vendors, rarely a month goes by without another anxious CFO or CEO calling on SimulTrans, hoping to sell out. (SimulTrans does not consider these opportunities, since our mission is to grow only by organic means.) These smaller vendors are hard pressed to compete against the larger companies, that offer lower cost, off-shore production facilities, and much more localization expertise.

Two months ago, Bowne announced the acquisition of Berlitz. This is a dramatic development, signaling that the. . .


[End of Part I of this report. Please look for Part II in the next issue of SimulTimes, or check back here in December, 2002.]


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Footnotes:

[1] See, for example, http://www.business2.com/articles/mag/0,1640,17016,FF.html


[2] Not to be forgotten completely, Latin America, which had been a growing market prior to 2001, became a non-factor in 2001, as IT companies began cutting costs and investment in countries such as Brazil, whose currency, hence ability to pay for product, had become increasingly nugatory anyway.

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