CADENCE DESIGN SYSTEMS, INC. Second Quarter 2015 Financial Results Conference Call

CADENCE DESIGN SYSTEMS, INC. Second Quarter 2015 Financial Results Conference Call Remarks of Lip-Bu Tan, President and Chief Executive Officer, and Geoff Ribar, Senior Vice President and Chief Financial Officer July 27, 2015 2:00 P.M. Pacific Remarks of Alan Lindstrom, Group Director of Investor Relations Safe Harbor Statement Thank you operator, and welcome everyone to our second quarter 2015 earnings conference call. The webcast of this call can be accessed through our website cadence.com and will be archived through September 18, 2015. A copy of today s prepared remarks will also be available on our website at the conclusion of today s call. With me today are Lip-Bu Tan, President and CEO, and Geoff Ribar, Senior Vice President and CFO. Please note that today s discussion will contain forward-looking statements and that our actual results may differ materially from those expectations. For information on the factors that could cause a difference in our results, please refer to our filings with the Securities and Exchange Commission. These include Cadence s most recent reports on Form 10-K and Form 10-Q, including the company s future filings, and the cautionary comments regarding forward-looking statements in the earnings press release issued today. In addition to the financial results prepared in accordance with Generally Accepted Accounting Principles, or GAAP, we will also present certain non-gaap financial measures today. Cadence management believes that in addition to using GAAP results in evaluating our business, it can also be

useful to measure results using certain non-gaap financial measures. Investors and potential investors are encouraged to review the reconciliation of non-gaap financial measures with their most direct comparable GAAP financial results. The reconciliation can be found in the quarterly earnings section of the investor relations portion of our website. A copy of today s press release dated July 27, 2015 for the quarter ended July 4, 2015, and related financial tables, can also be found in the investor relations portion of our website. Our 10-Q for the quarter ended July 4, 2015 was filed today. Now I ll turn the call over to Lip-Bu.

Remarks of Lip-Bu Tan, President and Chief Executive Officer Good afternoon everyone and thank you for joining us today. Cadence produced strong operational results for Q2 while continuing to deliver innovative new products. Revenue was $416 million, Non-GAAP operating margin was 28 percent, Non-GAAP EPS was 27 cents, and Operating cash flow was $122 million. Let's start with the environment. Semiconductor business conditions continue to be mixed, with some segments performing better than others. Overall, softer sales for the year now appear more likely. So far there has been no material impact on design activity, and demand for our products remains stable. We are also mindful of the customer consolidations in Q2. The long-term impact of this on our industry is complex and difficult to predict. While we do not expect a material impact near-term, consolidations could pose a challenge to industry growth over the next few years. Earlier today we announced a change to our current stock repurchase program. Cadence is committed to driving shareholder value through a balanced approach that drives growth, invests in innovation, and returns capital to our shareholders. Our Board and management team regularly and thoughtfully review all aspects of Cadence's business and capital structure, and as a result of such review, we announced a new $1.2 billion stock repurchase program which replaces our current program. Geoff will share more details about this program in a few minutes.

Now let's review the Q2 product highlights. We continued to execute on our System Design Enablement strategy. I'm pleased with our progress in driving growth in our core EDA business, which is at the heart of the strategy; and with our momentum in IP and system interconnect. Innovation is the driving engine of our strategy, and in Q2 we introduced two new products - the Genus Synthesis solution, which is our next generation synthesis engine for digital design, and the Indago Debug Platform, which significantly enhances functional debug productivity. With these new products, we have now delivered more than a dozen innovative new products in the past two years. Genus is the latest addition to our industry leading, advanced digital design and signoff platform which includes INNovus, Tempus, Voltus and Quantus. Genus improves on previous synthesis tools by employing a massively parallel architecture that delivers up to 5 times faster turn-around and linear scaling of runtimes beyond 10 million instances. This will greatly improve our customers' design productivity. TI and Imagination Technologies have endorsed Genus, and we have more than a dozen engagements underway. INNovus, our next generation digital implementation system, continues to rapidly gain traction with market-shaping customers on their most advanced designs. Qualcomm Technologies, NVIDIA, ST Microelectronics, and Faraday Technology have joined ARM, Freescale, Juniper and others in adopting INNovus for production design at the most advanced nodes, benefitting from excellent quality of results and faster turnaround time.

Another important part of our System Design Enablement strategy is to bring a vertical orientation to our product portfolio and go-to-market strategy. I'm delighted to report that we are making good progress on several verticals. Infineon Technologies decided to partner with Cadence on a comprehensive Automotive Functional Safety solution, and a major Asian car manufacturer adopted Sigrity for system level analysis for Automotive Functional Safety. Tensilica had two significant automotive wins - one for car-to-car communication and another for an ADAS application. Bosch deployed our new Indago Debug Platform for advanced mixed-signal MEMS sensors and they believe that Indago will enable them to continue to deliver for applications including consumer electronics, fitness tracking, wearables and IoT. And, we expanded our business with two major mil/aero customers. IP is the fastest growing part of our business and is essential to the System Design Enablement strategy. The three major parts of our IP business are Tensilica DSP, design IP, and verification IP. Tensilica represents the second most popular instruction- set architecture in the market, and we estimate that around 50 million IoT devices that contain Tensilica IP are already shipping annually. This quarter, we announced a collaboration with TSMC for IoT IP subsystems with our Tensilica Fusion DSP, plus our analog interfaces, peripheral and sensor interfaces. Demand for high-performance-wired-interface IP cores for servers and datacenters was strong with a major datacenter OEM adopting our PCIe Gen 4 and DDR4 IP solutions. In the memory space, we had our first 10-nanometer DDR4 physical interface IP win.

On the hardware front, Palladium XP won six new logos. One of our newest Palladium use models, Dynamic Power Analysis, is proving to be vital in diagnosing and debugging software-related power issues in mobile applications. Pre-production testing of our next-generation emulator continues, and we remain on track to start shipping later this year. So, now to summarize: Q2 was a solid quarter with strong operational execution, Our System Design Enablement strategy is bringing more innovation and a more vertical focus to our business and solutions, We continue to gain traction in Digital with the launch of Genus for RTL synthesis and top-tier customer adoption of the INNovus Implementation System, IP growth was strong and we continue to gain new customers, and Finally, our new $1.2 billion stock repurchase program will return additional capital to our shareholders. I will now turn the call over to Geoff to give you more details on our new stock repurchase program, review the financial results, and provide our outlook.

Remarks of Geoff Ribar, Senior Vice President and Chief Financial Officer Thanks Lip-Bu, and good afternoon everyone. Let me start the discussion today with our new stock repurchase program, and then move on to our second quarter results and outlook. As Lip-Bu said, we have been, and are committed to driving shareholder value through a balanced approach that drives growth, invests in innovation, and returns capital to our shareholders. We will do this by: Continuing to invest in, and profitably grow the business, Operating the business effectively and efficiently, Financing the business with an efficient capital structure that provides the necessary flexibility to meet the investment needs of the business while maintaining adequate liquidity; and Allocating capital to the highest return opportunities that will create value for our customers and for our investors. Our most recent review of Cadence s capital structure took into account Cadence s capitalization, projected free cash flows, ongoing investment requirements, maintaining adequate liquidity, future acquisition opportunities, and input from investors. Based on the results of this review, we are replacing our current 450 million dollar stock repurchase program with a new program to repurchase 1.2 billion dollars of our shares over the next six quarters through the end of 2016. The actual timing and amount of repurchases will be based on business and market conditions, corporate and regulatory requirements, acquisition opportunities, and other factors.

One such factor is the settlement of our warrants which begins in September of this year and extends through early December. We plan to limit the pace of our repurchase program during that period. We expect that the new share repurchase program will be funded by U.S. cash on hand, future U.S. cash flow, and additional debt. We also plan to: Reduce U.S. cash over time to a minimum level that we believe is prudent to operate the business; Maintain adequate liquidity; and Maintain strategic capacity for investment opportunities. Now let s move on to the quarterly review. Cadence had a strong Q2. Total revenue was 416 million dollars, up 10 percent compared to 379 million for Q2 2014. The revenue mix for the geographies was: 48 percent for the Americas; 23 percent for Asia; 20 percent for EMEA; and 9 percent for Japan. The revenue mix by product group was: 21 percent for functional verification, 29 percent for digital IC design and signoff, 27 percent for custom IC design, 11 percent for system interconnect and analysis, and 12 percent for IP.

Weighted average contract life was approximately 2.4 years. Total costs and expenses on a non-gaap basis were 300 million dollars, compared to 315 million dollars for Q1, and 290 million dollars for the year ago quarter. Q2 headcount was 6,405 which was up 145 from Q1, primarily due to hiring in R&D and technical field positions. Non-GAAP operating margin was 28 percent, compared to 23 percent for Q1, and 23 percent for the year ago quarter. Product mix, the timing of certain expenses, and the fact that our Fourth of July shutdown week fell in Q2 this year instead of the usual Q3, all contributed to a higher than normal non-gaap operating margin for Q2. GAAP net income per share was 19 cents. Non-GAAP net income per share was 27 cents, compared to 23 cents for Q1, and 21 cents for Q2 2014. Operating cash flow was 122 million dollars, compared to 47 million for Q1, and 69 million for the year ago quarter. Total DSOs were 29 days, compared to 30 for Q1 and 26 for the year ago quarter. Capital expenditures were 17 million dollars. This is higher than Q1 due to the timing of facilities investments. We expect capital expenditures to remain approximately 40 million dollars for the year. Cash and short-term investments were 744 million dollars at quarter-end, compared to 980 million at the end of Q1. We paid 296 million dollars in cash on June 1st to complete the retirement of our convertible notes. We repurchased 2.9 million shares of common stock for 56.3 million dollars during the quarter.

47 percent of our cash and short-term investments were in the U.S. at quarter-end. As a reminder, our outstanding warrants will settle from September through December. The potential dilution table is in our 10-Q filing. Financial Outlook Now let's turn to our outlook for the third quarter. Note that our outlook includes the projected impact of increased share repurchases and additional debt. For Q3 we expect revenue to be in the range of 423 to 433 million dollars. Non-GAAP operating margin is expected to be in the range of 25 to 26 percent. As Lip-Bu mentioned in his remarks, in Q2 we added several more marquee customers for digital. We are continuing our plan to invest in hiring to support and expand our business with market-shaping customers in Q3 and Q4. GAAP EPS for the third quarter is expected to be in the range of 17 to 19 cents. Non-GAAP EPS for the third quarter is expected in the range of 25 to 27 cents. Now for our fiscal 2015 outlook. The midpoints of our bookings and revenue guidance for the year are unchanged from last quarter. Bookings are projected to be in the range of 1.87 to 1.93 billion dollars. We expect weighted average contract life in the range of 2.4 to 2.6 years, and We expect at least 90 percent of revenue for the year to be recurring in nature. Revenue is expected to be in the range of 1.685 to 1.715 billion dollars.

We continue to expect hardware revenue to increase in 2015 compared to last year. Non-GAAP operating margin is expected to be in the range of 25 to 26 percent. This is up from our prior expectation of approximately 25 percent due to favorable expense variances in the first half. We will not address 2016 until our Q4 earnings call, but as you think about next year: You should be aware of the fact that the costs of our investments in hiring for R&D and technical customer support are ramping throughout the year So we will exit 2015 with a higher expense run rate than where we are at present. Non-GAAP other income and expense is now expected to be in the range of a negative 25 to a negative 19 million dollars. Our assumed non-gaap income tax rate is 23 percent. We are assuming weighted average diluted shares outstanding of 308 to 314 million for the year. GAAP EPS is now expected to be in the range of 63 to 69 cents. Non-GAAP EPS is now expected in the range of $1.00 to $1.06, which is an increase of 2 cents at the midpoint. We expect operating cash flow to be approximately 360 million dollars, up from our prior guidance of approximately 350 million dollars. Our DSO forecast is approximately 30 days, and we expect capital expenditures of approximately 40 million dollars.

Now in closing. We believe that our new stock repurchase program will enable us to enhance value to our investors by optimizing our balance sheet to continue delivering mission critical products to our customers, expanding our leadership position in system design enablement, and allocating capital efficiently between future investments in the business, maintaining liquidity and returning capital to our shareholders. So with that, operator, we'll now take questions.

Remarks of Lip-Bu Tan, President and Chief Executive Officer In closing, I am proud of what we are accomplishing together at Cadence and I want to thank all of our hardworking employees, shareholders, customers, and partners for their continued support. Thank you all for joining us this afternoon.