August 13, 1997
ALPNET INC (AILP)
Quarterly Report (SEC form 10-Q)
ITEM 2: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS The following Management's Discussion and Analysis should be read in conjunction with the Consolidated
Financial Statements and notes thereto. FOREIGN OPERATIONS The Company serves its customers from 33
wholly-owned offices in 13 countries. The operations of the Company are predominantly located outside the U.S. and the
Company is subject to the effects of foreign currency exchange rate fluctuations. For all of the Company's foreign subsidiaries,
the functional currency has been determined to be the local currency. Accordingly, assets and liabilities are translated at
year-end exchange rates, and operating statement items are translated at weighted-average exchange rates prevailing during
the period. The resultant cumulative foreign currency adjustments to the assets and liabilities are recorded as a separate
component of shareholders' equity. The foreign currency equity adjustment for the first six months of 1997 was negative
$500,000 compared to a negative adjustment of $160,000 for the first six months of 1996. Generally, when the major foreign
currencies affecting the Company weaken as compared to the U.S. dollar, the shareholders' equity adjustment is negative since
the net assets denominated in foreign currencies are translated into fewer U.S. dollars. This occurred in both 1997 and 1996.
As of June 30, 1997, the cumulative net effect to the Company of the equity adjustment from movements in foreign currency
exchange rates was a reduction of $1.7 million in shareholders' equity. A significant portion of the cumulative foreign currency
adjustment relates to changes in the recorded amount of goodwill. In the first six months of 1997, the Company recorded a net
benefit of $99,000 for gains on foreign exchange transactions. Substantially all of this benefit was recorded in the U.K., and a
majority of the U.K. gain resulted from a weakening of the UK pound from December 31, 1996 to June 30, 1997. Because
the Company's U.K. subsidiary had a large amount of US$ denominated receivables outstanding as of December 31, 1996,
the Company recorded an unrealized loss on these receivables in 1996. The strengthening of the US$ against the UK pound in
1997 has meant that most of that loss was not realized. In the first six months of 1996, exchange gains and losses resulting
from foreign currency transactions included in the determination of net income were not material. Because most of the
Company's operations are located outside the U.S. and its foreign operations' financial results must be translated into U.S.
dollars, the Company's actual and reported financial results and financial condition are susceptible to movements in foreign
currency exchange rates. The Company has relatively few long-term monetary assets and liabilities denominated in currencies
other than the U.S. dollar, and therefore does not have any ongoing hedging programs in place to manage currency risk.
RESULTS OF OPERATIONS The following paragraphs discuss results of operations for the three- and six- month periods
ended June 30, 1997 as compared with the three- and six-month periods ended June 30, 1996, including the significant effects
of fluctuating foreign currency exchange rates. The Company reported net income of $619,000 for the three months ended
June 30, 1997, compared to net income of $662,000 for the three months ended June 30, 1996. If foreign currency exchange
rates for 1997 had remained unchanged from 1996, the Company would have reported net income of approximately
$589,000 instead of $619,000. The Company reported net income of $43,000 for the six months ended June 30, 1997
compared to $692,000 for the six months ended June 30, 1996. If foreign currency exchange rates for 1997 had remained
unchanged from 1996, the Company would have reported a net loss of approximately $35,000 instead of net income of
$43,000. Sales of services were $10.4 million for the three months ended June 30, 1997, compared to $9.0 million for the
three months ended June 30, 1996. The $1.4 million increase in reported sales for 1997 consisted of an increase in sales
volume of $1.6 million and a decrease of $200,000 due to fluctuating currency exchange rates. Sales of services were $19.2
million for the six months ended June 30, 1997 compared to $15.5 million for the six months ended June 30, 1996. The $3.7
million increase in reported sales from the first half of 1996 to the first half of 1997 consisted of an increase in sales volume of
$4.0 million and a decrease of $300,000 due to fluctuating currency exchange rates. The increases in sales volume in 1997
over 1996 are due to increases in sales in nearly all markets in which the Company has a presence, but most particularly in the
Company's North American and German offices. Contributions from new offices, especially in the Netherlands and Japan, also
boosted sales in 1997 over 1996, as did sales attributable to CompuType, a U.K. company acquired in January 1997. The
increase in sales volume is a result of generally expanding needs for language-related services in an increasingly global
marketplace where more and more businesses are entering foreign markets and becoming involved in worldwide trade. An
example of this is the software industry which has significant and increasing needs for product localization services such as
those provided by the Company. Also having a beneficial effect on sales levels is the Company's use of online services
(including the Internet) both as a marketing tool and as a means to communicate and interact with clients. The Company
competes on the basis of capability, quality, service and geographical proximity to clients and potential clients. The Company
has opened several new offices and expanded existing offices in recent years in order to increase its market share in what
management believes has been and will continue to be a growth industry. The intense price competition which the Company
encountered in prior years continues to limit the prices the Company can charge in the marketplace. The industry pricing
situation has not changed materially in 1997 compared to 1996. The following table shows a comparison of sales of services in
each of the Company's significant geographic areas for the six months ended June 30, 1997 and 1996, along with the effect of
foreign currency exchange rate fluctuations on sales between periods. Intercompany sales are normally billed on a margin-
sharing basis. All intercompany sales are eliminated in determining the totals. Thousands of dollars Increase (Decrease) in Six
Months Sales of Services due to Total Ended June 30 Sales Currency Increase 1997 1996 Volume Fluctuations (Decrease)
United States $ 3,806 $ 2,062 $1,744 $ - $1,744 Canada 2,854 2,055 815 (16) 799 Europe 14,343 12,928 1,766 (351)
1,415 Asia 1,970 1,514 550 (94) 456 Eliminations (3,759) (3,046) (903) 190 (713) Total Sales $19,214 $15,513 $3,972
$(271) $3,701 As shown in the above table, every major geographical region reported increased sales in the first six months of
1997 over the first six months in 1996. Significant changes in sales levels in the major geographic regions are discussed in the
following paragraphs. SALES OF SERVICES BY GEOGRAPHIC AREA U.S. sales increased $1.7 million or 85% in 1997
over 1996. Historically, U.S. sales from period to period have fluctuated more widely than in other geographical areas due to
industry conditions which have often been less predictable than those found in some of the Company's foreign markets. Such
conditions have been characterized by the relative inexperience of many U.S. companies in translation and localization of
language, as it relates to international business, and clients which were not sophisticated in the nuances of marketing to foreign
countries and thus unaware of the importance of related language issues. These factors, along with the unpredictable timing and
the nonrecurring nature of many large translation projects for U.S. companies, have resulted in an order stream which has
varied from period to period, but which has improved dramatically during the past two years. U.S. sales rose from 1996 to
1997, due largely to an increase in the number and size of projects for existing and new clients, especially software localization
services for companies in the computer hardware, software development and computer-based training industries. Much of this
increase is due to aggressive sales and marketing efforts initiated by the Company in late 1995 and early 1996. Management
expectations for the U.S. are for a general continuation of growth in sales, especially to the computer and computer-based
training industries, but the predictability and timing of actual orders from clients is uncertain and the high growth rate of 85%
achieved in the first half of 1997 is unlikely to be sustained throughout the year. Canada's reported sales for 1997 represent an
increase over 1996 of 39%, which is related to actual increases in sales volume with virtually no effect from fluctuating foreign
currency exchange rates. The increase in sales in Canada is due primarily to ongoing aggressive marketing and sales efforts and
the procurement of new large long-term contracts. These increases in sales have occurred despite continuing economic and
political challenges in Canada. Nevertheless, due primarily to several new large multi-year contracts, which were negotiated in
1996, but which did not begin until 1997, management believes it is likely that 1997 revenues in Canada will continue to
exceed 1996 levels. In 1997, sales in Europe of $14.3 million represent approximately 62% of the Company's consolidated
sales and grew by $1.4 million over 1996 sales levels, or by 11% year over year (14% absent the effects of fluctuating foreign
currency exchange rates). Most of the increase in European sales is the result of a 23% growth rate in Germany (38% absent
the effects of foreign currency exchange rate fluctuations) and higher sales in the Netherlands, which had minimal sales in 1996.
The U.K. and Germany accounted for 84% of Europe's total sales in 1997, compared to 87% in 1996. U.K. sales declined
2% in 1997 compared to 1996, primarily due to an unusually strong second quarter performance in 1996 and to decreased
1997 sales to the Company's largest client which reduced the number and size of purchase orders from historical levels. This
decrease was tempered by the sales of CompuType (see note 2 to the Consolidated Financial Statements). Primarily because
of the acquisition of CompuType, management believes it is likely that reported second half 1997 sales in the U.K. will
increase over 1996 levels, but this will depend on many factors which are subject to constant change. In particular, sales in this
country are greatly dependent upon the number and size of orders from large clients. In Germany, a high rate of growth was
achieved in 1997 compared to the first half of 1996. The Company's sales in Germany were unusually low in early 1996 due
largely to a sluggish economy, evidenced by the unemployment rate which increased to a post WWII high. Despite the ongoing
effects of the economic slowdown, sales were strong in 1997 as management increased its sales and marketing efforts,
including certain sales of lower-margin services, to more effectively utilize capacity. While management is expecting revenue
growth to continue in 1997, the uncertain economic conditions in Germany could have a dampening effect on the Company's
ability to increase sales. The Company opened offices in the Netherlands and in Ireland in late 1995 and in Belgium in late
1996 and closed its Switzerland office in late 1996. The Belgium office is a high volume, high quality production facility
servicing the needs of other ALPNET offices. The new European offices, along with the investments made in human and
equipment resources in existing offices in recent years, are expected to help the Company increase its revenues in Europe as
demand for language services in this region continues to expand. Sales in Asia of $2.0 million in 1997 grew by 30% over 1996
levels (36% absent the effects of foreign currency exchange rate fluctuations). The Company significantly expanded its Asian
presence in late 1995 by adding an office in The People's Republic of China, and in early 1996 an office in Tokyo was
opened. Also, the Company's offices in Singapore and Korea were expanded significantly during the later half of 1996. Since
its opening, the China office has functioned only as a production facility for sales made in other offices of the Company, but
China is expected to begin to sell to local companies in the future and contribute to the growth of sales in Asia in coming years.
The Company's Tokyo office has also served primarily as a production facility for sales made elsewhere in the Company, and
has therefore helped other offices sell to new and existing clients that have needs for Japanese language services. This office
started to sell to local Japanese clients in 1997, which is expected to help further accelerate sales growth in Asia in 1997. In
general, the Asian capacity developed in 1996 was underutilized in the first quarter of 1997 and contributed to the operating
loss sustained in that quarter. Underutilization also occurred in the second quarter of 1997, but was less pronounced than
earlier in the year. Management does not expect this underutilization situation to continue in the long term, due to increases in
customer orders for work to be produced into the major Asian languages. The Company closed its Hong Kong office in May
1997 as a result of continuing losses and declining strategic importance. Sales of this office were not material in either 1997 or
in 1996, but a provision of approximately $50,000 was recorded in the first quarter of 1997 to recognize the costs of closing
the office. Other Asian offices are now producing most of the Chinese work historically done by the Hong Kong office.
Management expects the increased demand for Asian language services to continue as many Asian countries are experiencing
very high economic growth rates and interest in Asia from the business communities in the U.S., Europe and elsewhere remains
high. The Company's business can be impacted dramatically by changes in the strength of the economies of the countries in
which it has a presence, and results of operations are highly influenced by general economic trends. Moreover, sales and
profitability are increasingly affected by the number and size of larger and more complex multi-language projects. During 1996
and thus far in 1997, the Company experienced significant fluctuations in quarterly sales and profitability levels largely as a
result of the increasing number of such projects. Management expects this trend to continue. The Company expects to be able
to capture increased sales in an expanding market which is expected to result in overall long-term sales growth. COST OF
SERVICES SOLD Cost of services sold as a percentage of sales of services has fluctuated primarily as a result of competition
in the marketplace and the volume and nature of direct production costs of project sales in each year, especially large projects
covering several accounting periods. In the first six months of 1997 (especially in the first quarter) margins were negatively
affected by underutilization of capacity, especially in Asia, and to a lesser extent by a higher proportion of low margin work in
certain geographic areas. Management expects competitive pricing pressures to continue in the foreseeable future, and perhaps
even intensify as a possible result of several recent mergers of small and mid-sized translation companies. The Company is
continuing its efforts to contain costs to offset the effects of these pricing pressures. These efforts include more effective
utilization of the Company's proprietary software on medium- to small-sized projects to improve the productivity of translators,
and the development of stronger "partnerships" with clients to enable the Company to provide higher margin solution-based
services to clients. OTHER COSTS AND EXPENSES Selling, general and administrative expenses increased 30% for the
first six months of 1997 over the first six months of 1996, and 16% for the three months ended June 30, 1997 over the three
months ended June 30, 1996. These increases are due to several factors, including the overall growth of existing offices and
the opening of new offices; increased marketing and sales efforts in substantially all of the Company's markets; certain costs
recorded in the first quarter of 1997 related to reorganizing and closing some of the Company's underperforming offices; and
to a lesser extent, the effect of increased corporate overhead costs related to the Company's growth. Development costs were
$203,000 for the first half of 1997 compared to $82,000 for the first half of 1996. Development costs are related to the
upgrading and expansion of the Company's proprietary language translation software developed in the early years of the
Company's existence, as well as efforts related to the development and expansion of the Company's online language service
product offering. The Company has enhanced certain features of its software and made it compatible with more of the
ever-increasing types and versions of software being developed by the software industry which are being used by clients and
potential clients. The Company expects development costs for the remainder of 1997 to continue higher than 1996 levels,
primarily because of the ongoing need to ensure the Company's technology is compatible with the software commonly used by
businesses. Fluctuations in the amount of goodwill amortization resulted from foreign currency exchange rate fluctuations from
year to year and from the Company's acquisition of CompuType in January 1997, which increased goodwill amortization by
about $3,000 per month. Net interest expense of $140,000 for the first six months of 1997 was 130% higher than for the
same period in 1996. There was also a large increase for the second quarter of 1997 compared to the second quarter of
1996. These increases are due primarily to higher average balances outstanding under revolving lines of credit, caused by
growth in sales and related accounts receivable; increases in long-term debt used to finance certain equipment purchases; and
a term loan obtained in January 1997 to finance a portion of the CompuType acquisition. Interest expense for the remainder of
1997 is expected to continue to outpace 1996 levels as the Company expects borrowings under revolving lines of credit to
increase as sales grow, and the Company plans to continue to use long-term debt to finance certain equipment purchases.
Also, any investments beyond modest requirements related to sales growth could require additional debt or equity financing
which would impact future levels of interest expense. The U.S. parent company and each of its subsidiaries are separate legal
and taxable entities subject to the domestic or foreign taxes pertaining to operations in their respective jurisdictions. For tax
purposes, the U.S. parent company, and most of its subsidiaries, have unused net operating losses from prior years which can
be utilized to reduce future years' taxable income of the respective entities. The availability of these net operating losses is
governed by applicable domestic and foreign tax rules and regulations, some of which limit the utilization of such losses due to
minimum tax requirements and other provisions. Income tax expense as presented in the Consolidated Financial Statements
represents the combined income tax expense and income tax credits of all of the entities of the Company. After consideration
of the effect of the utilization of net operating loss carryforwards, income tax expense was $105,000 for the first six months of
1997 ($60,000 for the second quarter), compared to $148,000 for the first six months of 1996 ($112,000 for the second
quarter). Fluctuations in the amount of income taxes arise primarily from the varying combinations of income and losses of the
Company's subsidiaries in the various domestic and foreign tax jurisdictions, including the utilization of net operating loss
carryforwards in many of those jurisdictions. The U.S. parent company has a net operating loss carryforward for U.S. Federal
tax purposes but has no net operating loss carryforwards for state income tax purposes. LIQUIDITY AND SOURCES OF
CAPITAL In the first half of 1997, the Company had a positive cash flow from operations of approximately $230,000
compared with a positive cash flow from operations in the first half of 1996 of approximately $50,000. In 1997, the
Company's investing activities consisted of the acquisition of CompuType (see note 2 to the Consolidated Financial
Statements) and the acquisition of equipment needed to maintain or upgrade production capability. In 1996, investing activities
consisted of the acquisition of equipment. Financing activities for both periods included fluctuations in the amounts utilized
under bank lines of credit used to finance the Company's working capital needs, and changes in outstanding debt used to
finance equipment purchases. Additionally, in 1997 the Company obtained a long-term unsecured loan for approximately
$330,000 used to finance a portion of the CompuType acquisition. In 1997, the Company's non-cash financing activities
include the conversion by a shareholder of certain of the Company's Preferred Stock to Common Stock, as described in more
detail in note 4 to the Consolidated Financial Statements. As of June 30, 1997, the Company's cash and cash equivalents were
approximately $1.4 million, representing an increase of approximately $300,000 during the first half of 1997. At June 30,
1997, the Company had working capital of approximately $2.4 million compared to $2.3 million at December 31, 1996. The
Company's primary working capital requirements relate to the funding of accounts receivable. The Company funds some of its
working capital needs with various lines of credit with financial institutions in the U.S., Canada, the U.K., Germany and Spain.
Most of the lines of credit are secured by accounts receivable and other assets of the Company or its subsidiaries. As of June
30, 1997, the Company had unused amounts under these lines of credit of approximately $580,000. Additionally, in July
1997, the Company obtained a mortgage with a bank in Spain for approximately $150,000 (see note 3 to the Consolidated
Financial Statements). Provided the Company remains profitable, the Company believes the available amounts under lines of
credit combined with current working capital are sufficient to fund the Company's operations at current levels and enable the
Company to grow at a modest level, without the need to seek significant new sources of capital. Most of the Company's credit
facilities are subject to annual renewals and the Company expects them to be renewed on substantially the same terms as those
which currently exist. In addition, the Company expects to be able to increase the maximum amounts which can be borrowed
under credit facilities if the Company's sales increase and if the Company can remain profitable over the long term. Some of the
banks which have loaned funds to the Company's subsidiaries under the credit facilities referred to above, have placed certain
limits on the flow of cash outside the respective countries. Such limitations have not been an undue burden to the Company in
the past, nor are they expected to be unduly burdensome in the foreseeable future. The Company has no present significant
commitments for capital expenditures, which generally consist of computer equipment and related peripheral hardware and
software. Capital expenditures in future periods are expected to vary according to the overall growth of the Company. The
Company plans to acquire and place additional translation services workstations in its offices in connection with future orders
from customers, as such orders are received. The Company expects to finance a certain portion of future equipment costs
through bank and/or leasing sources, similar to the financing arrangements entered into in recent periods. As described in more
detail in note 2 to the Consolidated Financial Statements, in January 1997 the Company acquired a U.K.-based business for
cash of approximately $550,000, most of which was financed. While there are no current commitments or plans, the Company
may pursue other acquisitions worldwide or open additional offices in strategic locations, as client demands dictate and
opportunities arise. The costs to open most offices have generally not been substantial and have been primarily related to the
procurement of computers and other translation-related equipment and, in certain instances, for office premises. The Tokyo
office, opened in early 1996, was an exception to this general situation, due both to the larger size of that office and the high
cost of doing business in Japan. The costs of any additional offices to be opened in the future can also be expected to vary
based on size and location and could require certain amounts of cash beyond the amount that can be generated through
operations, depending on profitability. As of December 31, 1996, the Company closed its Switzerland office and in May 1997
closed its Hong Kong office. In addition, a restructuring of the Paris office took place in early 1997. These office closures and
the restructuring have had or will have a negative effect on cash flow of approximately $200,000. No other significant office
closures or restructurings are currently planned. The Company believes it has the ability to issue additional debt or equity
securities if necessary, but does not currently have any firm plans to do so. In past years, the Company has relied on major
shareholders of the Company to fund certain obligations, but the Company has no firm commitments from, nor are there any
obligations of, any such shareholders to provide any debt or equity funds to the Company. In order for the Company to fund
investments beyond modest growth in operations, such as for significantly new or expanded services or product lines,
additional debt or equity funds will likely be required. Management believes that current working capital together with available
lines of credit will enable the Company to meet its financial obligations during 1997. It is more difficult to assess cash flows
beyond 1997 and the ability of the Company to meet its commitments without additional sources of capital is directly related to
the Company's operations providing a positive cash flow. Should the Company's operations fail to provide adequate funds to
enable it to meet its future financial obligations, management has the option, because of the Company's organizational structure,
to cut costs by selectively eliminating operations which are not contributing to the Company financially, as was done by closing
the Switzerland and Hong Kong offices. Inflation has not been a significant factor in the Company's operations. Competition,
however, has been and is expected to remain a major factor. To the extent permitted by competition and general economic
and market conditions, the Company will pass on increased costs from inflation and operations to clients by increasing prices.
Due to prior years' operating losses, the Company and many of its subsidiaries have net operating loss carryforwards available
to offset future taxable income in the various countries in which the Company operates. As a result, the Company historically
has not had significant income tax liabilities requiring the expenditure of cash. Due to currently available net operating loss
carryforwards, the Company expects this general trend to continue through 1997 and for several years into the future, for
those offices acquired many years ago which have sustained large losses in previous years. The levels of net operating losses
available to offset future taxable income are generally much lower for the new offices opened in recent years. Substantially all
of the Company's deferred tax assets at June 30, 1997 were comprised of net operating loss carryforwards for which the
Company has provided allowances. The ability of the Company to utilize these loss carryforwards in the future is dependent on
profitable operations in the various countries in which loss carryforwards exist, and the specific rules and regulations governing
the utilization of such losses, including the dates by which the losses must be used. CAUTIONARY STATEMENT The
statements in this Management's Discussion and Analysis that are not based on historical data are forward looking, including
for example, information about future sales growth in various countries in future periods; expected changes in the levels of
various expenses, including income taxes; the Company's plans for future investments in new offices, services, or products; and
financing plans and expectations. Forward looking statements contained in this Management's Discussion and Analysis involve
numerous risks and uncertainties that could cause actual results to be materially different from estimated or expected results.
Such risks and uncertainties include, among many others, fluctuating foreign currency exchange rates, changing levels of
demand for the Company's services, the effect of constantly changing general economic and political conditions in all of the
various countries |
