- -------------------------------------------------------------------------------- - --------------------------------------------------------------------------------UNITED STATES
SECURITIES AND EXCHANGE COMMISSIONWASHINGTON,Washington, D.C. 20549------------------------FORM 10-Q
(MARK ONE)(Mark One)
/X/x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED SEPTEMBERFor the quarterly period ended June 30,
20002001OR
/ /o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM ______________ TO ______________ COMMISSION FILE NUMBERFor the transition period from __________ to __________
Commission file number 1-10606
------------------------CADENCE DESIGN SYSTEMS, INC.
(Exact(Exact name of Registrant as Specified in Its Charter)------------------------
DELAWARE 77-0148231 (State
(State or Other Jurisdiction of(I.R.S. Employer Identification No.)
Incorporation or Organization)77-0148231
(I.R.S. Employer
Identification No.)
SEELY AVENUE, BUILDINGSeely Avenue, Building 5,SAN 95134 JOSE, CALIFORNIA (Zip Code) (AddressSan Jose, California
(Address of Principal Executive Offices)95134
(Zip Code)(408) 943-1234
Registrant'sRegistrant’s Telephone Number, including Area Code------------------------Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes
/X/x No/ /oAt
November 3, 2000,August 4, 2001, there were245,787,927248,519,432 shares of theregistrant'sregistrant’s common stock, $0.01 par value, outstanding.- -------------------------------------------------------------------------------- - --------------------------------------------------------------------------------CADENCE DESIGN SYSTEMS, INC. INDEXTABLE OF CONTENTSCADENCE DESIGN SYSTEMS, INC.
INDEX
Page FINANCIAL INFORMATION Item 1. Financial Statements: Condensed Consolidated Balance Sheets: June 30, 2001 and December 30, 2000 3 Condensed Consolidated Statements of Operations: Three and Six Months Ended June 30, 2001 and July 1, 2000 4 Condensed Consolidated Statements of Cash Flows: Six Months Ended June 30, 2001 and July 1, 2000 5 Notes to Condensed Consolidated Financial Statements 6 Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations 19 Item 3. Quantitative and Qualitative Disclosures About Market Risk 39 OTHER INFORMATION Item 1. Legal Proceedings 43 Item 2. Changes in Securities and Use of Proceeds 46 Item 3. Defaults Upon Senior Securities 46 Item 4. Submission of Matters to a Vote of Security Holders 47 Item 5. Other Information 47 Item 6. Exhibits and Reports on Form 8-K 47 Signatures 48 2
PART I. FINANCIAL INFORMATION
ITEMItem 1.FINANCIAL STATEMENTSFinancial StatementsCADENCE DESIGN SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS(IN THOUSANDS)
SEPTEMBER 30, JANUARY 1, 2000 2000 ------------- ---------- (UNAUDITED)ASSETS Current Assets: Cash and cash equivalents................................. $ 122,190 $ 111,401 Short-term investments.................................... 5,788 7,357 Receivables, net.......................................... 256,302 248,034 Inventories, net.......................................... 17,285 19,872 Prepaid expenses and other................................ 87,012 93,248 ---------- ---------- Total current assets.................................... 488,577 479,912 Property, plant, and equipment, net......................... 348,288 330,409 Software development costs, net............................. 10,736 10,692 Acquired intangibles, net................................... 349,158 402,154 Installment contract receivables............................ 40,423 84,160 Other assets................................................ 178,807 152,332 ---------- ---------- $1,415,989 $1,459,659 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities: Notes payable and current portion of capital leases....... $ 2,651 $ 3,924 Accounts payable and accrued liabilities.................. 250,056 265,518 Deferred revenue.......................................... 194,596 152,116 ---------- ---------- Total current liabilities............................... 447,303 421,558 ---------- ---------- Long-term Liabilities: Long-term notes payable and capital leases................ 3,817 25,024 Other long-term liabilities............................... 47,453 26,928 ---------- ---------- Total long-term liabilities............................. 51,270 51,952 ---------- ---------- Stockholders' Equity: Common stock and capital in excess of par value........... 789,366 857,960 Treasury stock, at cost................................... (221,593) (240,748) Retained earnings......................................... 351,734 344,247 Accumulated other comprehensive income (loss)............. (2,091) 24,690 ---------- ---------- Total stockholders' equity.............................. 917,416 986,149 ---------- ---------- $1,415,989 $1,459,659 ========== ==========(In thousands)ASSETS
June 30, December 30, 2001 2000 (Unaudited) Current Assets: Cash and cash equivalents $ 130,037 $ 85,220 Short-term investments 11,026 51,749 Receivables, net 249,077 289,468 Inventories, net 22,138 20,149 Prepaid expenses and other 126,133 110,262 Total current assets 538,411 556,848 Property, plant, and equipment, net 381,859 368,879 Software development costs, net 11,338 10,738 Acquired intangibles, net 355,508 326,518 Installment contract receivables 33,650 38,420 Other assets 159,306 175,918 $ 1,480,072 $ 1,477,321 LIABILITIES AND STOCKHOLDERS’ EQUITY Current Liabilities: Notes payable and current portion of capital leases $ 1,807 $ 2,212 Accounts payable and accrued liabilities 243,826 273,594 Deferred revenue 233,068 215,768 Total current liabilities 478,701 491,574 Long-term Liabilities: Capital leases 2,207 3,298 Minority interest 6,878 11,612 Other long-term liabilities 60,044 61,372 Total long-term liabilities 69,129 76,282 Stockholders’ Equity: Common stock and capital in excess of par value 798,745 847,099 Treasury stock at cost (164,151 ) (256,260 ) Deferred compensation (53,506 ) (60,978 ) Retained earnings 369,157 394,224 Accumulated other comprehensive loss (18,003 ) (14,620 ) Total stockholders’ equity 932,242 909,465 $ 1,480,072 $ 1,477,321 The accompanying notes are an integral part of these condensed consolidated financial statements.
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CADENCE DESIGN SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) (UNAUDITED)(In thousands, except per share amounts)(Unaudited)
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 2001 2000 Revenue: Product $ 190,166 $ 140,383 $ 371,423 $ 245,915 Services 73,798 80,177 153,818 155,992 Maintenance 83,611 78,122 166,991 154,268 Total revenue 347,575 298,682 692,232 556,175 Costs and Expenses: Cost of product 21,820 20,501 43,483 40,979 Cost of services 48,765 52,182 102,481 101,183 Cost of maintenance 15,918 15,329 32,876 29,518 Marketing and sales 96,163 95,031 189,650 181,198 Research and development 73,902 65,772 144,882 128,345 General and administrative 27,454 23,751 58,209 46,283 Amortization of acquired intangibles 25,928 19,868 47,920 39,534 7,175 - - - - 13,115 - - - - Restructuring, asset impairment, and unusual items 67,704 - - - - 84,788 - - - - Total costs and expenses 384,829 292,434 717,404 567,040 Income (loss) from operations (37,254 ) 6,248 (25,172 ) (10,865 ) Other income, net 536 1,407 158 2,453 Income (loss) before provision (benefit) for income taxes (36,718 ) 7,655 (25,014 ) (8,412 ) Provision (benefit) for income taxes (7,829 ) 2,029 53 (2,229 ) Net income (loss) $ (28,889 ) $ 5,626 $ (25,067 ) $ (6,183 ) Basic net income (loss) per share $ (0.12 ) $ 0.02 $ (0.10 ) $ (0.03 ) Diluted net income (loss) per share $ (0.12 ) $ 0.02 $ (0.10 ) $ (0.03 ) Weighted average common shares outstanding 248,020 244,404 244,609 244,516 Weighted average common and potential common shares outstanding — assuming dilution 248,020 258,583 244,609 244,516
THREE MONTHS ENDED NINE MONTHS ENDED -------------------------- -------------------------- SEPTEMBER 30, OCTOBER 2, SEPTEMBER 30, OCTOBER 2, 2000 1999 2000 1999 ------------- ---------- ------------- ----------Revenue: Product...................................... $165,341 $ 80,658 $411,256 $385,905 Services..................................... 87,320 73,125 243,312 220,542 Maintenance.................................. 79,800 72,114 234,068 218,834 -------- -------- -------- -------- Total revenue.............................. 332,461 225,897 888,636 825,281 -------- -------- -------- -------- Costs and Expenses: Cost of product.............................. 22,931 20,405 63,910 59,005 Cost of services............................. 55,991 47,559 157,174 143,661 Cost of maintenance.......................... 17,183 13,613 46,701 39,443(1) Amortization of acquired intangibles......... 20,648 16,833 60,182 42,403 Marketing and sales.......................... 97,845 88,203 279,043 251,202 Research and development..................... 66,614 58,447 194,959 159,674 General and administrative................... 24,121 22,449 70,404 64,612 Unusual items................................ 10,101 12,171 10,101 46,011 -------- -------- -------- -------- Total costs and expenses................... 315,434 279,680 882,474 806,011 -------- -------- -------- -------- Income (loss) from operations............ 17,027 (53,783) 6,162 19,270 Other income, net.............................. 1,573 520 4,026 796 -------- -------- -------- -------- Income (loss) before provision (benefit) for income taxes....................... 18,600 (53,263) 10,188 20,066 Provision (benefit) for income taxes........... 4,929 (11,817) 2,700 11,657 -------- -------- -------- -------- Net income (loss)........................ $ 13,671 $(41,446) $ 7,488 $ 8,409 ======== ======== ======== ======== Basic net income (loss) per share.............. $ 0.06 $ (0.17) $ 0.03 $ 0.03 ======== ======== ======== ======== Diluted net income (loss) per share............ $ 0.05 $ (0.17) $ 0.03 $ 0.03 ======== ======== ======== ======== Weighted average common shares outstanding..... 244,597 242,877 244,543 241,643 ======== ======== ======== ======== Weighted average common and potential common shares outstanding-assuming dilution......... 262,823 242,877 261,803 256,046 ======== ======== ======== ========deferred stock compensation would be classified as follows:
Cost of services $ 1,441 $ - - - - $ 3,047 $ - - - - Marketing and sales 1,550 - - - - 2,785 - - - - Research and development 1,658 - - - - 2,078 - - - - General and administrative 2,526 - - - - 5,205 - - - - $ 7,175 $ - - - - $ 13,115 $ - - - - The accompanying notes are an integral part of these condensed consolidated financial statements.
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CADENCE DESIGN SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS(IN THOUSANDS) (UNAUDITED)
NINE MONTHS ENDED ---------------------------- SEPTEMBER 30, OCTOBER 2, 2000 1999 -------------- -----------Cash and Cash Equivalents at Beginning of Period $111,401 $209,074 -------- -------- Cash Flows from Operating Activities: Net income................................................ 7,488 8,409 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization........................... 150,414 117,924 Asset impairment and write-off of equipment and non-current assets.................................... -- 12,744 Deferred income taxes................................... (1,264) 13,529 Net investment gains on sale, equity loss, and write-downs........................................... (7,645) 458 Write-off of acquired in-process technology............. -- 20,700 Minority interest expense (income)...................... 12,209 (126) Provisions for losses on trade accounts receivable...... 1,443 9,114 Changes in operating assets and liabilities, net of effect of acquired businesses: Receivables........................................... (134,588) (99,041) Inventories........................................... (2,875) (2,846) Prepaid expenses and other............................ (35,965) (15,667) Installment contract receivables...................... 79,190 39,328 Accounts payable and accrued liabilities.............. 21,102 (12,574) Income taxes payable.................................. 4,968 (11,590) Deferred revenue...................................... 42,480 25,338 Other long-term liabilities........................... 8,316 (2,568) -------- -------- Net cash provided by operating activities........... 145,273 103,132 -------- -------- Cash Flows from Investing Activities: Maturities of short-term investments-held-to-maturity..... 999 23,591 Purchases of short-term investments-held-to-maturity...... -- (43) Maturities of short-term investments-available-for-sale... 2,621 24,510 Purchases of short-term investments-available-for-sale.... -- (15) Purchases of property, plant, and equipment............... (78,575) (101,347) Capitalization of software development costs.............. (21,428) (19,609) Increase in acquired intangibles and other assets......... (45,586) (1,878) Net investment in venture capital partnership and equity investments............................................. 4,543 (5,925) Cash effect of business acquisitions...................... (4,503) (96,784) Sale of put warrants...................................... 30,163 3,609 Purchase of call options.................................. (30,163) (3,609) -------- -------- Net cash used for investing activities.............. (141,929) (177,500) -------- -------- Cash Flows from Financing Activities: Proceeds from long-term notes payable..................... 38,000 98,544 Principal payments on long-term notes payable and capital leases.................................................. (60,821) (195,204) Proceeds from issuance of common stock.................... 69,298 55,298 Purchases of treasury stock............................... (158,396) (82,223) Proceeds from transfer of financial assets in exchange for cash.................................................... 124,303 102,390 -------- -------- Net cash provided by (used for) financing activities........................................ 12,384 (21,195) -------- -------- Effect of exchange rate changes on cash..................... (4,939) (153) -------- -------- Net increase (decrease) in cash and cash equivalents........ 10,789 (95,716) -------- -------- Cash and Cash Equivalents at End of Period.................. $122,190 $113,358 ======== ========(In thousands)(Unaudited)
Six Months Ended June 30, July 1, 2001 2000 Cash and Cash Equivalents at Beginning of Period $ 85,220 $ 111,401 Cash Flows from Operating Activities: Net loss (25,067 ) (6,183 ) Adjustments to reconcile net loss to net cash provided by operating activities: Depreciation and amortization 120,555 95,819 Net investment gain on sale, equity gain, and write-downs (4,476 ) (5,124 ) Minority interest income (1,959 ) - - - - Fair market value of options issued to consultants (897 ) - - - - Deferred income taxes (137 ) 14 Write-off of acquired in-process technology 13,100 - - - - Write-off of goodwill 25,834 - - - - Non-cash restructuring and other related charges 17,495 - - - - Provisions for losses on trade accounts receivable 17,347 883 Changes in current assets and liabilities, net of effect of acquired and disposed businesses: Receivables (60,908 ) (65,265 ) Inventories (7,384 ) (809 ) Prepaid expenses and other (14,953 ) (24,458 ) Installment contract receivables (2,357 ) 38,251 Accounts payable and accrued liabilities (8,209 ) 10,682 Deferred revenue 15,191 40,352 Other long-term liabilities (1,353 ) 4,247 Net cash provided by operating activities 81,822 88,409 Cash Flows from Investing Activities: Maturities of short-term investments — held-to-maturity - - - - 999 Maturities of short-term investments — available-for-sale 60,463 1,107 Purchases of short-term investments — available-for-sale (19,741 ) - - - - Purchases of property, plant, and equipment (74,706 ) (46,652 ) Capitalization of software development costs (15,332 ) (14,714 ) Increase in acquired intangibles and other assets (5,115 ) (21,848 ) Investment in venture capital partnership and equity investments (90 ) (497 ) Cash effect of business acquisitions (2,188 ) (4,503 ) Sale of put warrants 12,032 25,516 Purchase of call options (12,032 ) (25,516 ) Net cash used for investing activities (56,709 ) (86,108 ) Cash Flows from Financing Activities: Proceeds from long-term debt and capital leases 184,949 - - - - Principal payments on long-term debt and capital leases (186,235 ) (21,763 ) Proceeds from issuance of common stock 36,030 40,945 Purchases of treasury stock (101,372 ) (98,631 ) Repurchase of minority interest (1,342 ) - - - - Proceeds from transfer of financial assets in exchange for cash 91,704 80,808 Net cash provided by financing activities 23,734 1,359 Effect of exchange rate changes on cash (4,030 ) (1,896 ) Net increase in cash and cash equivalents 44,817 1,764 Cash and Cash Equivalents at End of Period $ 130,037 $ 113,165 The accompanying notes are an integral part of these condensed consolidated financial statements.
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CADENCE DESIGN SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS(UNAUDITED) BASIS OF PRESENTATION(Unaudited)Basis of Presentation
The condensed consolidated financial statements included herein have been prepared by Cadence, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. However, Cadence believes that the disclosures are adequate to make the information presented not misleading. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in
Cadence'sCadence’s Annual Report on Form 10-K for the fiscal year endedJanuary 1,December 30, 2000.The unaudited condensed consolidated financial statements included herein reflect all adjustments (which include only normal, recurring adjustments) that are, in the opinion of management, necessary to state fairly the results for the periods presented. The results for such periods are not necessarily indicative of the results to be expected for the full fiscal year.
The preparation of condensed consolidated financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the condensed consolidated financial statements and the reported amounts of
revenuerevenues and expenses during the reporting period. Actual results could differ from those estimates.Certain amounts in the
condensedconsolidated financial statements as ofJanuary 1,December 30, 2000 and for the three andninesix months endedOctober 2, 1999July 1, 2000 have been reclassified to conform with theSeptemberJune 30, 2001 presentation.Acquisitions
In the three months ended June 30, 2001, Cadence acquired substantially all of the assets of two companies for an aggregate price of $10.5 million, net of acquisition costs, of which $4.4 million was cash and $6.1 million was shares of Cadence common stock, plus future contingent payments. The acquisitions were accounted for as a purchase. Upon consummation of the acquisitions, Cadence immediately charged to expense $1 million representing acquired in-process technology that had not yet reached technological feasibility and had no alternative future use.
In February 2001, Cadence acquired CadMOS Design Technology, Inc., a privately-held design tools firm headquartered in San Jose. CadMOS provides solutions to the noise problems experienced in ultra-deep submicron processes. Its noise-analysis solutions are targeted at both digital and mixed signal designers working on microprocessors, dynamic random access memory, mixed-signal System-on-a-Chip, and application-specific integrated circuits. Cadence acquired all of the outstanding stock of CadMOS and assumed all outstanding stock options and warrants. The purchase price was $92.7 million and the acquisition was accounted for as a purchase. The purchase price could increase up to an additional $12.6 million, representing up to 488,970 shares, if certain predetermined performance factors are achieved over the next three years. Of the $12.6 million, $1.7 million is contingent on continued employment of certain specified individuals. The $12.6 million is based on the share price of Cadence’s common stock at the time of the acquisition. In connection with the acquisition, Cadence acquired goodwill of $58.3 million, which is being amortized over 5 years, and technology and workforce intangibles of $12.9 million, which are being amortized over 3 to 5 years. The results of operations of CadMOS and the estimated fair value of the assets acquired and liabilities assumed are included in Cadence’s consolidated financial statements from the date of acquisition.
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Upon consummation of the CadMOS acquisition, Cadence immediately charged to expense $12.1 million representing acquired in-process technology that had not yet reached technological feasibility and had no alternative future use. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Unusual Items.” The value assigned to acquired in-process technology was determined by identifying research projects in areas for which technological feasibility has not been established. The value was determined by estimating the costs to develop the acquired in-process technology into commercially viable products, estimating the resulting net cash flows from such projects, and discounting the net cash flows back to their present value. The discount rate included a factor that took into account the uncertainty surrounding the successful development of the acquired in-process technology. The in-process technology is expected to be commercially viable in 2002. Expenditures to complete the in-process technology are expected to total approximately $1.8 million. These estimates are subject to change, given the uncertainties of the development process, and no assurance can be given that deviations from these estimates will not occur. Additionally, these projects will require additional research and development after they have reached a state of technological and commercial feasibility.
Comparative pro forma financial information for all acquisitions has not been presented because the results of operations were not material to Cadence’s consolidated financial statements.
Restructuring, Asset Impairment, and Unusual Items
In the second quarter of 2001, Cadence announced a worldwide restructuring plan targeted at reducing workforce and consolidating facilities and assets.
Cadence recorded $32.7 million of restructuring charges classified as unusual operating expenses associated with the worldwide restructuring plan. Cadence’s restructuring plan and associated costs consisted of $11.3 million for reduction in personnel and $21.4 million to downsize and close excess facilities. The restructuring plan was initiated primarily due to the severe downturn in the economic environment in the electronics industry, particularly in the U.S. The restructuring was primarily aimed at reducing excess personnel and capacity costs. Management estimates that the restructuring resulted in annualized cost reductions of approximately $30.8 million in salary and benefit costs and $35.1 million in facility costs.
The restructuring plan will result in the reduction of approximately 325 employees. While employee reductions are across all business functions, operating units, and geographic regions, Cadence’s wireless communications-related areas will be affected more than other areas. In addition, the number of temporary and contract workers employed by Cadence is being reduced. Severance costs in the restructuring included severance benefits, notice pay, and out-placement services. Approximately $5.3 million of these costs resulted from the payments to certain participants in Cadence’s employee stock purchase plan prior to Tality’s separation from Cadence in October 2000. All terminations and termination benefits were communicated to the affected employees prior to June 30, 2001. All severance benefits are expected to be paid out by the end of 2001.
Facilities consolidation charges of $21.4 million were incurred in connection with the downsizing and closing of 16 sites. Closure and downsizing costs included payments required under lease contracts, less any applicable sublease income after the properties were abandoned, lease buyout costs, restoration costs associated with certain lease arrangements, and costs to maintain facilities during the period after abandonment. To determine the lease loss, which is the loss after Cadence’s cost recovery efforts from subleasing a building, certain assumptions were made related to the (1) time period over which the relevant building would remain vacant, (2) sublease terms, and (3) sublease rates, including common area charges. The lease loss is an estimate under Statement of Financial Accounting Standards No. 5Accounting for Contingenciesand represents the low end of the range, $10.8 million, which will be adjusted in the future upon certain triggering events (change in estimate of time to sublease, actual sublease rates, etc.). Cadence has estimated that the high end of the lease loss could be $50.4 million if facilities operating lease rental rates
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continue to decrease in the applicable markets or if it takes longer than expected to find a suitable tenant to sublease the facility. Asset-related costs that were expensed consisted of leasehold improvements for facilities that were abandoned and whose estimated fair market value is zero. As of June 30, 2001, two sites had been vacated and four sites had been downsized.In relation to the wireless communications business downsizing and current decline in business conditions generally, Cadence restructured certain of its businesses and realigned resources to focus on profit contribution, high-growth markets, and core opportunities. As a result, Cadence recorded a charge of $25.8 million related to the impairment of goodwill and acquired intangibles associated with the acquisition of Diablo Research Company LLC, or Diablo. Key factors in this write-off were significant downsizing or reassignment of personnel directly related to these assets and reduction of future emphasis on this line of business. The charge was determined as the amount by which the carrying value of the goodwill and intangible assets associated with Diablo’s acquisition exceeded the fair value of those assets.
The following table summarizes Cadence’s restructuring activity for the six months ended June 30, 2001:
For the Six Months Ended June 30, 2001 Severance And Excess Benefits Facilities Assets Total (In thousands) Balance, December 30, 2000. $ 2,319 $ 4,938 $ 280 $ 7,537 2001 restructuring charges 11,290 10,264 11,100 32,654 Non-cash charges 16 (2,787 ) (8,910 ) (11,681 ) Cash charges (10,841 ) (2,511 ) (427 ) (13,779 ) Reclassifications - - - - 525 - - - - 525 Balance, June 30, 2001. $ 2,784 $ 10,429 $ 2,043 $ 15,256 The majority of the restructuring reserve balance at December 30, 2000
presentation. INVENTORIES Cadence'swas offset to the 2001 restructuring plan.Inventories
Cadence’s inventories include high technology parts and components for complex computer systems that emulate the performance and operation of computer chips and electronic systems.
In connection with its announced restructuring, Cadence recorded a $5.8 million provision expense against inventory, which is included in unusual items in the Condensed Consolidated Statements of Operations. Of the $5.8 million, $3.7 million related to two discontinued product lines as part of Cadence’s restructuring and $2.1 million related to excess inventory of emulation products. The $3.7 million related to inventory and other related costs for two product lines Cadence will no longer sell. As part of the restructuring, Cadence examined the business and determined that these products would not result in future revenue growth. The excess inventory charge of $2.1 million was due to a sudden and significant decrease in forecasted revenue for emulation products and was calculated in accordance with Cadence’s policy, which is based on inventory in excess of 12-month demand. Inventory purchases and commitments are based on future sales forecasts. Cadence typically buys and builds inventory levels for certain key components to mitigate component supply constraints. Based on our current 12-month demand forecast, we do not anticipate that the excess inventory subject to this provision will be used at a later date.
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A summary of inventories follows:
SEPTEMBER 30, JANUARY 1, 2000 2000 ------------- ---------- (IN THOUSANDS)Raw materials............................................... $15,460 $19,033 Work in process............................................. 1,825 839 ------- ------- Total inventories, net.................................. $17,285 $19,872 ======= =======RESTRUCTURING Liabilities for excess facilities and other restructuring charges are included in accrued and other long-term liabilities, while severance and benefits liabilities are included in payroll and payroll-related 6CADENCE DESIGN SYSTEMS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) accruals. The following table summarizes Cadence's restructuring activity during the nine months ended September 30, 2000:
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 ------------------------------------------------------------ SEVERANCE AND EXCESS OTHER BENEFITS FACILITIES RESTRUCTURING ASSETS TOTAL --------- ---------- ------------- -------- -------- (IN THOUSANDS)Balance, January 1, 2000.................... $8,013 $6,464 $ 426 $5,861 $20,764 Non-cash charges.......................... (127) (644) (62) (4,238) (5,071) Cash charges.............................. (4,892) (345) (364) (763) (6,364) ------ ------ ----- ------ ------- Balance, September 30, 2000................. $2,994 $5,475 $ -- $ 860 $ 9,329 ====== ====== ===== ====== =======CREDIT FACILITIES
June 30, December 30, 2001 2000 (In thousands) Raw materials $ 17,691 $ 17,897 Work in process 4,447 2,252 Total inventories, net $ 22,138 $ 20,149 Credit Facility
On September 29, 2000, Cadence entered into two syndicated senior unsecured credit facilities that allow Cadence to borrow up to $350 million, referred to as the 2000 Facilities. The 2000 Facilities replace a prior $355 million revolving credit facility,
referred to as the 1998 Facility,of which $177.5 million terminated on September 27, 2000, and $177.5 million was terminated immediately prior to closing of the 2000 Facilities. One of the new 2000 Facilities is a $100 million three-year revolving credit facility, referred to as the Three-Year Facility. The other new facility is a $250 million 364-day revolving credit facility convertible into a two-year term loan, referred to as the 364-Day Facility. The Three-Year Facility terminates on September 29, 2003. The 364-Day Facility will terminate on September 28, 2001, at which time therevolving credit facility364-Day Facility may be converted to a two-year term loan with a maturity date of September 29, 2003, or, at the request of Cadence and with the consent of members of the bank group that wish to do so, the termination date of therevolving facility364-Day Facility may be extended for one additional 364-day period with respect to the portion of the364-day364-Day Facility that a consenting bank holds. For both of the 2000 Facilities, Cadence has the option to pay interest based on LIBOR plus a spread of between 1.25% and 1.50%, based on a pricing grid tied to a financial covenant, or the higher of (i) the(i)Federal Funds Rate plus 0.50%andor (ii) the prime rate. As a result,Cadence'sCadence’s interestrate expensesexpense associated with this borrowing will vary with market rates. In addition, commitment fees are payable on the unused portion of the Three-Year Facility at rates between 0.25% and 0.34% based on a pricing grid tied to a financial covenant and on the unused portion of the 364-Day Facility at a fixed rate of 0.20%. Cadence may not borrow under the364-day facility364-Day Facility at any time that any portion of the Three-Year Facility remains unused. The 2000 Facilities contain certain financial and other covenants.During the nine months ended SeptemberAt June 30,2000, Cadence repaid all of the $20 million outstanding under the 1998 Facility at January 1, 2000. At September 30, 2000,2001, there were no borrowings outstanding under the 2000 Facilities.7CADENCE DESIGN SYSTEMS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) COMPREHENSIVE INCOME (LOSS)Comprehensive
income (loss)LossComprehensive loss includes foreign currency translation gains and losses and other unrealized gains and losses that have been previously excluded from net income (loss) and reflected instead in
shareholders'stockholders’ equity. A summary of comprehensiveincome (loss)loss follows:
THREE MONTHS ENDED NINE MONTHS ENDED -------------------------- -------------------------- SEPTEMBER 30, OCTOBER 2, SEPTEMBER 30, OCTOBER 2, 2000 1999 2000 1999 ------------- ---------- ------------- ---------- (IN THOUSANDS)Net income (loss)............................... $13,671 $(41,446) $ 7,488 $8,409 Translation gain (loss)......................... (2,924) 186 (4,591) (286) Unrealized gain (loss) on investments........... 5,413 (34) (22,190) (190) ------- -------- -------- ------ Comprehensive income (loss)................. $16,160 $(41,294) $(19,293) $7,933 ======= ======== ======== ======NET INCOME (LOSS) PER SHARE
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 2001 2000 (In thousands) Net income (loss) $ (28,889 ) $ 5,626 $ (25,067 ) $ (6,183 ) Translation loss (1,462 ) (1,549 ) (3,715 ) (1,667 ) Unrealized income (loss) on investments 2,022 (20,826 ) 332 (27,603 ) Comprehensive loss $ (28,329 ) $ (16,749 ) $ (28,450 ) $ (35,453 ) 9
Net Income (Loss) Per Share
The following is a reconciliation of the weighted average common shares used to calculate basic net income (loss) per share to the weighted average common and potential common shares used to calculate diluted net income (loss) per share:
THREE MONTHS ENDED NINE MONTHS ENDED -------------------------- -------------------------- SEPTEMBER 30, OCTOBER 2, SEPTEMBER 30, OCTOBER 2, 2000 1999 2000 1999 ------------- ---------- ------------- ---------- (IN THOUSANDS)Weighted average common shares used to calculate basic net income (loss) per share............. 244,597 242,877 244,543 241,643 Options....................................... 17,662 -- 16,143 12,488 Warrants and other contingent shares.......... 537 -- 583 301 Puts.......................................... 27 -- 534 1,614 ------- ------- ------- ------- Weighted average common and potential common shares used to calculate
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 2001 2000 (In thousands) Weighted average common shares used to calculate basic net income (loss) per share 248,020 244,404 244,609 244,516 Options - - - - 11,996 - - - - - - - - Warrants and other contingent shares - - - - 712 - - - - - - - - Puts - - - - 1,471 - - - - - - - - Weighted average common and potential common shares used to calculate diluted net income (loss) per share 248,020 258,583 244,609 244,516 Options to purchase 52,568,767 shares of common stock were outstanding for the three and six months ended June 30, 2001, but were not included in the computation of diluted
net income (loss) per share.............................. 262,823 242,877 261,803 256,046 ======= ======= ======= =======Had Cadence recordednetincomeloss per share because their effect would be antidilutive. These options expire at various dates through 2011. Put warrants to purchase 5,123,800 shares of common stock were outstanding for the three and six months ended June 30, 2001, but were not included in the computation of diluted net loss per share because their effect would be antidilutive. The put warrants outstanding during the three and six months ended June 30, 2001 expire on various dates through February 2002. Warrants to purchase 140,000 shares of common stock were outstanding for the three and six months ended June 30, 2001, but were not included in the computation of diluted net loss per share because their effect would be antidilutive. The warrants outstanding expire in June 2003.Options to purchase 19,374,536 shares of common stock were outstanding for the three months ended
October 2, 1999, dilutive weightedJuly 1, 2000, but were not included in the computation of diluted net income per share because their effect would be antidilutive. These options expire at various dates through 2011.Options to purchase 50,685,907 shares of common stock were outstanding for the six months ended July 1, 2000, but were not included in the computation of diluted net loss per share because their effect would be antidilutive. These options expire at various dates through 2010. Put warrants to purchase 6,330,775 shares of common stock were outstanding for the six months ended July 1, 2000, but were not included in the computation of diluted net loss per share because their effect would
have been 8.7 million and dilutive weightedbe antidilutive. The put warrants outstanding during the six months ended July 1, 2000 expire on various dates through February 2002. Warrants to purchase 140,000 shares of common stock were outstanding for the six months ended July 1, 2000, but were not included in the computation of diluted net loss per share because their effect would be antidilutive. The warrantsputs, and other contingent shares would have been 2.5 million. CONTINGENCIESoutstanding expire in June 2003.Contingencies
Refer to Part II, Item 1 for a description of legal proceedings.
PUT WARRANTS AND CALL OPTIONSPut Warrants and Call Options
Cadence has authorized a share repurchase program under which repurchased shares with a value of up to $500 million will be used for general corporate purposes including the share issuance requirements of Cadence’s employee stock option and purchase plans and acquisitions. See “Subsequent Events.”
10
As of June 30, 2001, Cadence had authorized three seasoned systematic stock repurchase programs under which it
repurchasesrepurchased common stock to satisfyitsestimated requirements for shares to be issued under itsEmployee Stock Purchase Plan, or ESPP, the 1997 Nonstatutory Stock Option Plan, referred to as the 1997 Plan,employee stock option andthe 2000 Nonstatutory Stock Option Plan, referred to as the 2000 Plan. These repurchases are intended to 8CADENCE DESIGN SYSTEMS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) cover Cadence's expected reissuances under the ESPP for the next 12 months and both the 1997 Plan and 2000 Plan for the next 24 months.purchase plans.As part of its authorized stock repurchase
programs,program, Cadence has sold put warrants through private placements. AtSeptemberJune 30,2000,2001, there were55.1 million put warrants outstandingeach of which entitlesthat entitle the holder to sell one share of common stock to Cadence on a specified date and at a specified price ranging from$19.56$23.87 to$22.31$26.90 per share. Additionally, during this same period, Cadence purchased call options that entitle Cadence to buysharesone share ofitscommon stock at a specified price to satisfy anticipated stock repurchase requirements underCadence'sCadence’s systematic stock repurchase programs. AtSeptemberJune 30,2000,2001, Cadence had3.63.8 million call options outstanding atexerciseprices ranging from$19.81$24.12 to$22.56$27.15 per share. The put warrants and call options outstanding atSeptemberJune 30,2000 are exercisable2001 expire on various dates throughMay 2001February 2002 and Cadence has the contractual ability to settle the options prior to their maturity. AtSeptemberJune 30,2000,2001, the estimated fair value of the call options was approximately$20.5$3 million and the estimated fair value of the put warrants was approximately$4.4$35.6 million.The fair values of the call options and put warrants were estimated by Cadence's investment bankers.If exercised, Cadence has the right to settle the put warrants with
that number of shares of Cadencecommon stockhaving a valueequal to the difference between the exercise price and the fair value of the common stock at the date of exercise. Settlement of the put warrants with common stock could cause Cadence to issue a substantial number of shares, depending on the exercise price of the put warrants and the per share fair value ofCadence'sCadence’s common stock at the time of exercise. In addition, settlement of put warrants in common stock could lead to the disposition by put warrant holders of shares ofCadence'sCadence’s common stock that such holders may have accumulated in anticipation of the exercise of the put warrants or call options, which maynegativelyadversely affect the price ofCadence'sCadence’s common stock. AtSeptemberJune 30,2000, because2001, Cadence had the ability to settle these put warrants with common stock and, therefore, no amount was classified out ofstockholders'stockholders’ equity in the condensed consolidated balance sheets.TALITY CORPORATIONTality Corporation
On July 17, 2000, Cadence announced its plan to separate its electronics design services group into a new
publicly-tradedcompany named Tality Corporation, or Tality.Tality'sTality’s separation from Cadence waseffectivesubstantially completed on October 4,2000. Tality's2000, and the electronic design services business now operates asan indirecta majority-owned subsidiary of Cadence. Talityhasfiled a registration statement with the Securities and Exchange Commission forTality'sTality’s initial public offering, or IPO. As a result of the separation in the third quarter of 2000, Cadence has recorded deferred stock compensation resulting from Tality option grants and restricted stock sales. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Unusual Items.” On October 9, 2000, Cadence announcedthat it had postponed Tality'sthe postponement of Tality’s IPO due to unfavorable market conditions. As a result of the postponement of the Tality IPO Cadence wrote off $2.8 million of IPO related expenses in the first quarter of 2001. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Unusual Items.” On April 17, 2001, Cadence announced the withdrawal of the Tality IPO registration statement. The financial statements and financial information in this Quarterly Report on Form 10-Q do not give effect to the IPO.Immediately followingAs a result of a reorganization of theproposedTality entities during June and July, 2001, Tality is currently an indirect wholly-owned subsidiary of Cadence.Minority Interest
In relation to the postponement of the Tality IPO, Cadence
expects that it will own approximately 80%and Tality began to redeem the minority interest in Tality. As ofTality's equityJune 30, 2001, Cadence had repurchased 0.6% minority interest, leaving a minority interest of 1.7%. These remaining shares outstanding were repurchased in the third quarter ending September 29, 2001. In conjunction with the transaction, Cadence repurchased 455,000 restricted Tality shares from certain Cadence executives andwill continue to consolidate Tality's financial results so long as Cadence retains voting control over Tality. The full impactkey employees by cancelling a portion of theseparation on Cadence's business, operating results,related notes11
payable to Cadence owed by such Cadence executives andfinancial condition cannot be predicted at this time. SEGMENT REPORTING Withkey employees equal to theseparationrepurchase price for such shares. Tality repurchased 220,000 restricted shares from three of its directors. The purchase price was $6.10, the fair market value of TalityCadence's business activitiesstock at the time of repurchase.Statement of Cash Flows
The supplemental cash-flow information for the six months ended June 30, 2001 and July 1, 2000 follows:
For the Six Months Ended June 30, 2001 July 1, 2000 (In thousands) Cash Paid During the Period For: Interest $ 967 $ 942 Income taxes (including foreign withholding tax) $ 8,357 $ 9,905 Non-Cash Investing and Financing Activities: Capital lease obligations incurred for equipment $ 153 $ 689 Common stock and options issued for acquisitions $ 100,452 $ - - - - Transfer of inventory to fixed assets $ - - - - $ 5,462 Equity investment by transfer of equipment or software $ - - - - $ 8,140 Repurchase of restricted Tality stock and cancellation of a portion of related notes payable $ 2,775 $ - - - - Segment Reporting
In 1998, Cadence adopted Statement of Financial Accounting Standards, or SFAS, No. 131, “Disclosures about Segments of an Enterprise and Related Information.” Under SFAS No. 131, operating segments are
now organized ondefined as components of an enterprise about which separate financial information is available that is evaluated regularly by thebasis of fourchief operatingsegments.decision maker when deciding how to allocate resources and when assessing performance. Cadence’s chief operating decision making group is the Executive Staff, which includes Cadence’s President and Chief Executive Officer and Cadence’s other senior management. Cadence’s Executive Staff reviews the Cadence consolidated results within three segments: Product, Services, and Maintenance, and also reviews Tality’s results separately as a stand-alone entity.The Product segment
designsincludes revenue andlicensesassociated costs to design and license to customers a variety of electronic design automation products. TheTality segment provides engineering services and intellectual property for the design of complex electronic systems and integrated circuits. TheServices segmentoffersincludes revenue and associated costs to offer methodology and design services either to assist companies in developing electronicdesigns.designs or to assume responsibility for the design effort when customers wish to outsource this work. The Maintenance segmentisincludes revenue and associated costs primarily for a9CADENCE DESIGN SYSTEMS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED)technical support organization, and maintenance agreements are offered to customers either as part of our product license agreements or separately. Within the Cadence consolidated results, Tality revenue is included in the Services segment, and associated Tality costs are reflected in each of the three segments, consistent with the benefit derived by the respective segments from those services.Segment income from operations is defined as gross margin under generally accepted accounting principles and excludes amortization of acquired intangibles, operating expenses (marketing and sales, research and development, and general and administrative), unusual items, other income, net, and income taxes. Profitability information about Cadence’s segments is available only to the extent of gross margin by segment, and operating expenses and other income and expense items are managed on a functional basis. There are no differences between the accounting policies used to measure profit and loss for segments and
12
those used on a consolidated basis. Revenue is defined as revenue from external customers with no intersegment revenue.Cadence’s management does not identify or allocate
theseits assets, including capital expenditures, by operating segment. Accordingly, assets are not being reported by segment because the information is not available by segment and is not reviewed by Cadence’s Executive Staff to make decisions about resources to be allocated among the segmentsexcept for Tality, belowor to assess their performance. Depreciation and amortization of purchased software is allocated among the segments in order to determine each segment’s grossmargin level. Cadence's organizational structure reflects this segmentation and segments have not been aggregated for purposes of this disclosure.margin.The following tables present information about reported segments for the three months ended
SeptemberJune 30,20002001 andOctober 2, 1999:
FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2000 ----------------------------------------------------------------------- CONSOLIDATED PRODUCT TALITY SERVICES MAINTENANCE OTHER TOTAL -------- -------- -------- ----------- --------- ------------ (IN THOUSANDS)Revenue.............................. $165,341 $ 52,033 $35,287 $79,800 $ -- $332,461 Cost of revenue...................... 22,931 39,650 16,341 17,183 -- 96,105 Amortization of acquired intangibles........................ 16,398 4,074 176 -- -- 20,648 -------- -------- ------- ------- --------- -------- Gross margin....................... 126,012 8,309 18,770 62,617 -- 215,708 Marketing and sales.................. -- (9,274) -- -- (88,571) (97,845) Research and development............. -- (2,871) -- -- (63,743) (66,614) General and administrative........... -- (8,553) -- -- (15,568) (24,121) Unusual items........................ -- (5,349) -- -- (4,752) (10,101) Other income, net.................... -- 411 -- -- 1,162 1,573 -------- -------- ------- ------- --------- -------- Income (loss) before provision (benefit) for income taxes......... $126,012 $(17,327) $18,770 $62,617 $(171,472) $ 18,600 ======== ======== ======= ======= ========= ========
FOR THE THREE MONTHS ENDED OCTOBER 2, 1999 ----------------------------------------------------------------------- CONSOLIDATED PRODUCT TALITY SERVICES MAINTENANCE OTHER TOTAL -------- -------- -------- ----------- --------- ------------ (IN THOUSANDS)Revenue.............................. $ 80,658 $ 33,794 $39,331 $72,114 $ -- $225,897 Cost of revenue...................... 20,405 28,546 19,013 13,613 -- 81,577 Amortization of acquired intangibles........................ 14,960 1,521 352 -- -- 16,833 -------- -------- ------- ------- --------- -------- Gross margin....................... 45,293 3,727 19,966 58,501 -- 127,487 Marketing and sales.................. -- (7,836) -- -- (80,367) (88,203) Research and development............. -- (2,129) -- -- (56,318) (58,447) General and administrative........... -- (7,194) -- -- (15,255) (22,449) Unusual items........................ -- -- -- -- (12,171) (12,171) Other income, net.................... -- (305) -- -- 825 520 -------- -------- ------- ------- --------- -------- Income (loss) before provision (benefit) for income taxes......... $ 45,293 $(13,737) $19,966 $58,501 $(163,286) $(53,263) ======== ======== ======= ======= ========= ========10CADENCE DESIGN SYSTEMS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED)July 1, 2000:
For the Three Months Ended June 30, 2001 Product Services Maintenance Other Total Tality (In thousands) Revenue $ 190,166 $ 73,798 $ 83,611 $ - - - - $ 347,575 $ 45,266 Cost of revenue 21,820 48,765 15,918 - - - - 86,503 32,103 Amortization of acquired intangibles - - - - - - - - - - - - 25,928 25,928 - - - - Inventory write- down and other - - - - - - - - - - - - 6,944 6,944 1,148 Gross margin 168,346 25,033 67,693 (32,872 ) 228,200 12,015 Marketing and sales - - - - - - - - - - - - (96,163 ) (96,163 ) (7,337 ) Research and development - - - - - - - - - - - - (73,902 ) (73,902 ) (6,206 ) General and administrative - - - - - - - - - - - - (27,454 ) (27,454 ) (8,994 ) Amortization of acquired intangibles - - - - - - - - - - - - - - - - - - - - (4,001 ) Amortization of deferred stock compensation - - - - �� - - - - - - - - (7,175 ) (7,175 ) (3,205 ) Unusual items - - - - - - - - - - - - (60,760 ) (60,760 ) (42,857 ) Other income (expense), net - - - - - - - - - - - - 536 536 (20 ) Income (loss) before provision (benefit) for income taxes $ 168,346 $ 25,033 $ 67,693 $ (297,790 ) $ (36,718 ) $ (60,605 ) 13
For the Three Months Ended July 1, 2000 Product Services Maintenance Other Total Tality (In thousands) Revenue $ 140,383 $ 80,177 $ 78,122 $ - - - - $ 298,682 $ 47,257 Cost of revenue 20,501 52,182 15,329 - - - - 88,012 36,740 Amortization of acquired intangibles - - - - - - - - - - - - 19,868 19,868 - - - - Gross margin 119,882 27,995 62,793 (19,868 ) 190,802 10,517 Marketing and sales - - - - - - - - - - - - (95,031 ) (95,031 ) (8,726 ) Research and development - - - - - - - - - - - - (65,772 ) (65,772 ) (3,025 ) General and administrative - - - - - - - - - - - - (23,751 ) (23,751 ) (7,804 ) Amortization of acquired intangibles - - - - - - - - - - - - - - - - - - - - (4,185 ) Unusual items - - - - - - - - - - - - - - - - - - - - (741 ) Other income, net - - - - - - - - - - - - 1,407 1,407 470 Income (loss) before provision (benefit) for income taxes $ 119,882 $ 27,995 $ 62,793 $ (203,015 ) $ 7,655 $ (13,494 ) 14
The following tables present information about reported segments for the
ninesix months endedSeptember 30, 2000 and October 2, 1999:
FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2000 ----------------------------------------------------------------------- CONSOLIDATED PRODUCT TALITY SERVICES MAINTENANCE OTHER TOTAL -------- -------- -------- ----------- --------- ------------ (IN THOUSANDS)Revenue............................. $411,256 $142,317 $100,995 $234,068 $ -- $888,636 Cost of revenue..................... 63,910 109,828 47,346 46,701 -- 267,785 Amortization of acquired intangibles....................... 47,499 12,167 516 -- -- 60,182 -------- -------- -------- -------- --------- -------- Gross margin...................... 299,847 20,322 53,133 187,367 -- 560,669 Marketing and sales................. -- (25,943) -- -- (253,100) (279,043) Research and development............ -- (8,668) -- -- (186,291) (194,959) General and administrative.......... -- (24,232) -- -- (46,172) (70,404) Unusual items....................... -- (6,090) -- -- (4,011) (10,101) Other income, net................... -- 1,540 -- -- 2,486 4,026 -------- -------- -------- -------- --------- -------- Income (loss) before provision (benefit) for income taxes........ $299,847 $(43,071) $ 53,133 $187,367 $(487,088) $ 10,188 ======== ======== ======== ======== ========= ========
FOR THE NINE MONTHS ENDED OCTOBER 2, 1999 ----------------------------------------------------------------------- CONSOLIDATED PRODUCT TALITY SERVICES MAINTENANCE OTHER TOTAL -------- -------- -------- ----------- --------- ------------ (IN THOUSANDS)Revenue............................. $385,905 $ 91,314 $129,228 $218,834 $ -- $825,281 Cost of revenue..................... 59,005 83,572 60,089 39,443 -- 242,109 Amortization of acquired intangibles....................... 36,792 4,903 708 -- -- 42,403 -------- -------- -------- -------- --------- -------- Gross margin...................... 290,108 2,839 68,431 179,391 -- 540,769 Marketing and sales................. -- (24,175) -- -- (227,027) (251,202) Research and development............ -- (7,358) -- -- (152,316) (159,674) General and administrative.......... -- (20,601) -- -- (44,011) (64,612) Unusual items....................... -- -- -- -- (46,011) (46,011) Other income, net................... -- (59) -- -- 855 796 -------- -------- -------- -------- --------- -------- Income (loss) before provision (benefit) for income taxes........ $290,108 $(49,354) $ 68,431 $179,391 $(468,510) $ 20,066 ======== ======== ======== ======== ========= ========NEW ACCOUNTING STANDARDS In September 2000, the Emerging Issues Task Force, or EITF, published their consensus on EITF Issue No. 00-19, "Determination of Whether Share Settlement is Within the Control of the Issuer for Purposes of Applying Issue No. 96-13," which was taken up to address implementation of the EITF's March 2000 final consensus of EITF Issue No. 00-7, "Application of EITF Issue No. 96-13 to Equity Derivative Transactions That Contain Certain Provisions That Require Cash Settlement If Certain Events Occur." The final consensus in Issue 00-7 generally stated that equity derivative contracts that contain provisions that implicitly or explicitly require net cash settlement outside of the control of the company must be treated as assets and liabilities and carried at fair value with changes in fair value recognized in 11CADENCE DESIGN SYSTEMS, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) (UNAUDITED) earnings rather than equity instruments carried at original cost and reported as part of permanent equity. This interpretation becomes effectiveJune 30, 2001 and July 1, 2000:
For the Three Months Ended June 30, 2001 Product Services Maintenance Other Total Tality (In thousands) Revenue $ 371,423 $ 153,818 $ 166,991 $ - - - - $ 692,232 $ 89,446 Cost of revenue 43,483 102,481 32,876 - - - - 178,840 70,918 Amortization of acquired intangibles - - - - - - - - - - - - 47,920 47,920 - - - - Inventory write- down and other - - - - - - - - - - - - 6,944 6,944 1,148 Gross margin 327,940 51,337 134,115 (54,864 ) 458,528 17,380 Marketing and sales - - - - - - - - - - - - (189,650 ) (189,650 ) (16,665 ) Research and development - - - - - - - - - - - - (144,882 ) (144,882 ) (12,402 ) General and administrative - - - - - - - - - - - - (58,209 ) (58,209 ) (24,431 ) Amortization of acquired intangibles - - - - - - - - - - - - - - - - - - - - (8,026 ) Amortization of deferred stock compensation - - - - - - - - - - - - (13,115 ) (13,115 ) (6,743 ) Unusual items - - - - - - - - - - - - (77,844 ) (77,844 ) (46,218 ) Other income (expense), net - - - - - - - - - - - - 158 158 (679 ) Income (loss) before provision (benefit) for income taxes $ 327,940 $ 51,337 $ 134,115 $ (538,406 ) $ (25,014 ) $ (97,784 ) 15
For the Three Months Ended July 1, 2000 Product Services Maintenance Other Total Tality (In thousands) Revenue $ 245,915 $ 155,992 $ 154,268 $ - - - - $ 556,175 $ 90,284 Cost of revenue 40,979 101,183 29,518 - - - - 171,680 70,178 Amortization of acquired intangibles - - - - - - - - - - - - 39,534 39,534 - - - - Gross margin 204,936 54,809 124,750 (39,534 ) 344,961 20,106 Marketing and sales - - - - - - - - - - - - (181,198 ) (181,198 ) (16,669 ) Research and development - - - - - - - - - - - - (128,345 ) (128,345 ) (5,797 ) General and administrative - - - - - - - - - - - - (46,283 ) (46,283 ) (15,679 ) Amortization of acquired intangibles - - - - - - - - - - - - - - - - - - - - (8,093 ) Unusual items - - - - - - - - - - - - - - - - - - - - (741 ) Other income, net - - - - - - - - - - - - 2,453 2,453 532 Income (loss) before provision (benefit) for income taxes $ 204,936 $ 54,809 $ 124,750 $ (392,907 ) $ (8,412 ) $ (26,341 ) Internationally, excluding Japan, Cadence markets and supports its products and services primarily through its subsidiaries and various distributors. Cadence licenses its products in Japan through Innotech Corporation, in which Cadence is
not expectedan approximately 15% stockholder. Cadence markets its methodology and design services in Japan through a wholly-owned subsidiary.Revenues are attributed to
have a material effectgeographic areas based onCadence's financial position, resultsthe country in which the customer is domiciled. In the three months ended June 30, 2001, there were two customers that accounted for more than 10% ofoperations, or cash flows.total revenues. InMarch 2000,theFinancial Accounting Standards Board, or FASB, issued interpretation No. 44, "Accounting for Certain Transactions involving Stock Compensation", an interpretation of Accounting Principles Board, or APB, Opinion No. 25. This interpretation provides guidance regardingsix months ended June 30, 2001, and theapplication of APB Opinion No. 25 to stock compensation involving employees. This interpretation was effectivethree and six months ended July 1, 2000, no one customer accounted for more than 10% of total revenues. Long-lived assets are attributed to geographic areas based on the country where the assets are located.16
The following table presents a summary of revenues by geographic region for the three months ended June 30, 2001 and
didJuly 1, 2000:
For the Three Months Ended June 30, July 1, 2001 2000 North America: United States $ 189,423 $ 160,542 Other 11,739 9,115 Total North America $ 201,162 $ 169,657 Europe: United Kingdom $ 35,568 $ 22,065 Germany 11,852 22,270 Other 38,156 27,243 Total Europe $ 85,576 $ 71,578 Japan and Asia: Japan $ 43,466 $ 44,077 Asia 17,371 13,370 Total Japan and Asia 60,837 57,447 Total $ 347,575 $ 298,682 The following table presents a summary of revenues and long-lived assets by geographic region for the six months ended June 30, 2001 and July 1, 2000:
For the Six Months Ended For the Six Months Ended June 30, 2001 July 1, 2000 Long-Lived Long-Lived Revenues Assets Revenues Assets North America: United States $ 398,949 $ 330,792 $ 312,571 $ 283,934 Other 18,756 2,890 14,091 3,336 Total North America $ 417,705 $ 333,682 $ 326,662 $ 287,270 Europe: United Kingdom $ 30,994 $ 26,918 $ 43,991 $ 32,912 Germany 48,960 772 31,756 732 Other 65,682 10,497 46,307 5,556 Total Europe $ 145,636 $ 38,187 $ 122,054 $ 39,200 Japan and Asia: Japan $ 92,387 $ 3,233 $ 83,342 $ 5,355 Asia 36,504 6,757 24,117 5,930 Total Japan and Asia 128,891 9,990 107,459 11,285 Total $ 692,232 $ 381,859 $ 556,175 $ 337,755 17
Subsequent Events
On August 1, 2001, Cadence’s Board of Directors approved an authorization to repurchase up to $500 million of common stock. The repurchased shares will be used for general corporate purposes including the share issuance of employee stock option and purchase plans and acquisitions. Share repurchases under this authorization may be made in the open market or in privately negotiated transactions.
On July 25, 2001, Avant! Corporation was ordered to pay Cadence $195 million in criminal restitution after Avant! entered a plea of no contest and was found guilty by the Superior Court of the State of California of conspiracy to take and use Cadence’s trade secrets. Cadence received $100 million of this amount on July 26, 2001, and $40 million on August 1, 2001. Avant! has publicly stated that it cannot currently pay the remainder of the award, and that it is seeking additional sources of funding to pay the $55 million balance. Cadence is negotiating a security agreement with Avant! to secure the remaining payments.
On July 1, 2001, Cadence adopted two employee stock purchase plans to allow Tality employees to participate in Cadence’s employee benefit plan. The two plans are the 2001 Employee Stock Purchase Plan, which is a qualified employee stock purchase plan under the Internal Revenue Code, and the Non-Qualified Stock Purchase Plan, which is an employee stock purchase plan not qualified under the Internal Revenue Code and will be primarily used for Tality employees located outside the U.S. Other than the qualified nature of the 2001 Employee Stock Purchase Plan, the provisions of the two plans are the same. The qualified plan will be presented to Cadence stockholders for approval at Cadence’s next annual meeting.
The plans are administered by Cadence’s board of directors or by a committee appointed by the board. Tality employees, including officers and employee directors but excluding 5% or greater stockholders, are eligible to participate if they are regular employees who work 20 hours or more per week.
Each offering period will normally have
a material effect on Cadence's financial position, resultsfour purchase periods, which will result in four purchase dates during each offering period. The purchase periods, other than the initial two periods under the plan, are generally the same as those under the current Cadence employee stock purchase plan.The plans permit eligible Tality employees to purchase Cadence common stock through payroll deductions, which, except for the first purchase period, may not exceed 12% of
operations, or cash flows. In December 1999,an employee’s compensation. During each purchase period, payroll deductions will accumulate without interest. On theSecuritieslast business day of each purchase period, accumulated payroll deductions will be used to purchase Cadence common stock. Other terms of these plans are generally the same as the terms of the current Cadence employee stock purchase plan.18
Item 2. Management’s Discussion and
Exchange Commission issued Staff Accounting Bulletin, No. 101, "Revenue RecognitionAnalysis of Financial Condition and Results of OperationsThe following discussion should be read in conjunction with the Condensed Consolidated Financial Statements
"and notes thereto included elsewhere in this quarterly report on Form 10-Q. Except for historical information, the following discussion contains forward-looking statements based on current expectations that involve certain risks and uncertainties. Cadence’s actual results could differ materially from those discussed herein. Factors that could cause actual results orSAB 101, which provides guidance on the recognition, presentation,performance to differ materially or contribute to such differences include, but are not limited to, those discussed below in “Results of Operations,” “Liquidity anddisclosure of revenue in financial statements. Cadence must adopt SAB 101 in the fourth quarter of its fiscal 2000. The adoption of this statement is not expected to have a material effect on Cadence's financial position, results of operations, or cash flows. In June 1998, the FASB issued Statement of Financial Accounting Standards, or SFAS, No. 133, "Accounting for Derivative InstrumentsCapital Resources,” “Factors That May Affect Future Results,” andHedging Activities." SFAS No. 133 establishes accounting and reporting standards requiring that every derivative instrument be recorded in the balance sheet as either an asset or liability measured at its fair value. It requires that changes in the derivative's fair value be recognized currently in earnings unless specific hedge accounting criteria are met and that a company must formally document, designate, and assess the effectiveness of transactions that receive hedge accounting. In June 1999, SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities--Deferral of the Effective Date of FASB Statement No. 133," was issued. The statement defers the effective date of SFAS No. 133 until the first quarter of fiscal 2001. The adoption of this statement is not expected to have a material effect on Cadence's financial position, results of operations, or cash flows. 12ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS THE FOLLOWING DISCUSSION SHOULD BE READ IN CONJUNCTION WITH THE CONDENSED CONSOLIDATED FINANCIAL STATEMENTS AND NOTES THERETO INCLUDED ELSEWHERE IN THIS QUARTERLY REPORT ON FORM 10-Q. EXCEPT FOR HISTORICAL INFORMATION, THE FOLLOWING DISCUSSION CONTAINS FORWARD-LOOKING STATEMENTS BASED ON CURRENT EXPECTATIONS THAT INVOLVE CERTAIN RISKS AND UNCERTAINTIES. CADENCE'S ACTUAL RESULTS COULD DIFFER MATERIALLY FROM THOSE DISCUSSED HEREIN. FACTORS THAT COULD CAUSE ACTUAL RESULTS OR PERFORMANCE TO DIFFER MATERIALLY OR CONTRIBUTE TO SUCH DIFFERENCES INCLUDE, BUT ARE NOT LIMITED TO, THOSE DISCUSSED BELOW IN "RESULTS OF OPERATIONS," "LIQUIDITY AND CAPITAL RESOURCES," "FACTORS THAT MAY AFFECT FUTURE RESULTS," AND "DISCLOSURES ABOUT MARKET RISK." OVERVIEW Cadence Design Systems, Inc., or“Disclosures about Market Risk.”Overview
Cadence provides comprehensive software and other technology and offers design and methodology services for the product development requirements of the
world'sworld’s leading electronics companies. Cadence licenses its leading-edge electronic design automation, or EDA, software and hardware technology and provides a range of services tocompaniesits customers throughout the world to helpits customersthem optimize their product development processes. Cadence is a supplier of end-to-end products and serviceswhichthat are usedby companiesto design and develop complex chips and electronic systems including semiconductors, computer systems and peripherals, telecommunications and networking equipment, mobile and wireless devices, automotive electronics, consumer products, and other advanced electronics.TALITY CORPORATIONIn recent years, the worldwide electronics industry has experienced expansion driven primarily by the communications (networking and wireless) markets. More recently, however, both the U.S. economy in general and the electronics industry in particular began to experience a slowdown in late 2000, the severity of which has increased in 2001. The electronics industry slowdown, especially in the semiconductor industry, may reduce our revenue and harm Cadence’s results of operations.
On July 25, 2001, Avant! Corporation was ordered to pay Cadence $195 million in criminal restitution after Avant! entered a plea of no contest and was found guilty by the Superior Court of the State of California of conspiracy to take and use Cadence’s trade secrets. Cadence received $100 million of this amount on July 26, 2001, and $40 million on August 1, 2001. Avant! has publicly stated that it cannot currently pay the remainder of the award, and that it is seeking additional sources of funding to pay the $55 million balance. Cadence is negotiating a security agreement with Avant! to secure the remaining payments.
In the three months ended June 30, 2001, Cadence acquired substantially all of the assets of two companies for an aggregate price of $10.5 million, net of acquisition costs, of which $4.4 million was cash and $6.1 million was shares of Cadence common stock, plus future contingent payments. The acquisitions were accounted for as a purchase. Upon consummation of the acquisitions, Cadence immediately charged to expense $1 million representing acquired in-process technology that had not yet reached technological feasibility and had no alternative future use.
In February 2001, Cadence acquired CadMOS Design Technology, Inc., a privately held design tools firm headquartered in San Jose. CadMOS provides solutions to the noise problems experienced in ultra-deep submicron processes. Its noise-analysis solutions are targeted at both digital and mixed signal designers working on microprocessors, dynamic random access memory, mixed-signal System-on-a-Chip, and application-specific integrated circuits. Cadence acquired all of the outstanding stock of CadMOS and assumed all outstanding stock options and warrants. The purchase price was $92.7 million and the acquisition was accounted for as a purchase. The purchase price could increase up to an additional $12.6 million, representing up to 488,970 shares, if certain predetermined performance factors are achieved over the next three years. Of the $12.6 million, $1.7 million is contingent on continued employment. The $12.6 million is based on the share price of Cadence’s common stock at the time of the acquisition. In connection with the acquisition, Cadence acquired goodwill of $58.3 million, which is being amortized over 5 years, and
19
technology and workforce intangibles of $12.9 million, which are being amortized over 3 to 5 years. The results of operations of CadMOS and the estimated fair value of the assets acquired and liabilities assumed are included in Cadence’s consolidated financial statements from the date of acquisition.On July 17, 2000, Cadence announced its plan to separate its electronics design services group into a new
publicly-tradedcompany named Tality Corporation, or Tality.Tality'sTality’s separation from Cadence waseffectivesubstantially completed on October 4,2000. Tality's2000, and the electronic design services business now operates asan indirecta majority-owned subsidiary of Cadence. Talityhasfiled a registration statement with the Securities and Exchange Commission forTality'sTality’s initial public offering, or IPO. As a result of the separation in the third quarter of 2000, Cadence has recorded deferred stock compensation resulting from Tality option grants and restricted stock sales. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Unusual Items.” On October 9, 2000, Cadence announcedthat it had postponed Tality'sthe postponement of Tality’s IPO due to unfavorable market conditions. As a result of the postponement of the Tality IPO Cadence wrote off $2.8 million of IPO related expenses in the first quarter of 2001. See “Management’s Discussion and Analysis of Financial Condition and Results of Operations — Unusual Items.” On April 17, 2001, Cadence announced the withdrawal of the Tality IPO registration statement. The financial statements and financial information in this Quarterly Report on Form 10-Q do not give effect to the IPO.Immediately following the proposed IPO, Cadence expects that it will own approximately 80% of Tality's equity and will continue to consolidate Tality's financial results so long as Cadence retains voting control over Tality.As a result ofthe separation and pending IPO, Cadence has incurred and will continue to incur certain incremental costs, primarily for deferred stock compensation, legal and accounting services, strategic business planning, information systems separation, development of compensation and benefits strategies, and recruitment of certain key Tality management. Direct costsa reorganization of the TalityIPO, suchentities during June and July, 2001, Tality is currently an indirect wholly-owned subsidiary of Cadence.Results of Operations
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 % Change 2001 2000 % Change (In millions, except percentages) Product $ 190.2 $ 140.4 35 % $ 371.4 $ 245.9 51 % Services 73.8 80.2 (8 )% 153.8 156.0 (1 )% Maintenance 83.6 78.1 7 % 167.0 154.3 8 % Total revenue $ 347.6 $ 298.7 16 % $ 692.2 $ 556.2 24 % Sources of Revenue as
the underwriters' commissions and legal and accounting fees will be deducted from the proceedsa Percent ofthe offering. The full impact of the separation on Cadence's business, operating results, and financial condition cannot be predicted at this time. 13RESULTS OF OPERATIONSTotal Revenue
THREE MONTHS ENDED NINE MONTHS ENDED -------------------------- -------------------------- SEPTEMBER 30, OCTOBER 2, SEPTEMBER 30, OCTOBER 2, 2000 1999 % CHANGE 2000 1999 % CHANGE ------------- ---------- -------- ------------- ---------- -------- (IN MILLIONS, EXCEPT PERCENTAGES)REVENUE Product............................. $165.3 $ 80.7 105 % $411.2 $385.9 7 % Tality.............................. 52.0 33.8 54 % 142.3 91.3 56 % Services............................ 35.4 39.3 (10)% 101.0 129.3 (22)% Maintenance......................... 79.8 72.1 11 % 234.1 218.8 7 % ------ ------ ------ ------ Total revenue..................... $332.5 $225.9 47 % $888.6 $825.3 8 % ====== ====== ====== ====== SOURCES OF REVENUE AS A PERCENT OF TOTAL REVENUE Product............................. 50% 36% 46% 47% Tality.............................. 16% 15% 16% 11% Services............................ 11% 17% 11% 16% Maintenance......................... 24% 32% 26% 27%
Product 55% 47% 54% 44% Services 21% 27% 22% 28% Maintenance 24% 26% 24% 28% Product revenue increased
$84.7$49.8 million and$25.4$125.5 million in the three andninesix months endedSeptemberJune 30,2000,2001, respectively, when compared to the same periods in1999.2000, primarily due to an increase in license renewals with major customers as well as an increase in new sales of Cadence’s software products. The increase in sales volume of products in the three months endedSeptemberJune 30,20002001 was primarily due to the increased sales volume of integrated circuit implementation products, which include place and route, physical design, and physical verification products. The increase in sales volume in the six months ended June 30, 2001 was due to an overall increase in sales volume ofCadence'sCadence’s software products. The increase in sales volume of products was primarily attributable toincreasedhigher sales of integrated circuit implementation products,which include place and route, physical design and verification products, intellectual property creation products, which include mixed signal and simulation products, and printed circuit board related products. The increase in the nine months ended September 30, 2000 was primarily due to an increase inintellectual property creation products, and printed circuitboard related products, partially offset by a decreaseboard-related products. In the three and six months ended June 30, 2001, more than one third of software revenue came from Cadence’s ratable software license arrangements. In the three and six months ended July 1, 2000, more than 15% of software revenue came from Cadence’s ratable software license arrangements. The percentage of ratable revenue will20
vary, inintegrated circuit implementation products. Talityany given quarter, depending on the actual mix of revenueincreased $18.2generated from Cadence’s various licensing models.Services revenue decreased $6.4 million and
$51$2.2 million in the three andninesix months endedSeptemberJune 30,2000,2001, respectively, when compared to the same periods in1999,2000, primarily due toan increaseTality’s decline indemand for Tality's services and billable hours incurred for design services. The increase in Talityrevenue. Tality’s revenuewasdeclined primarily due toan increase in services performedfewer active engagements and decreased total client service hours billed. Tality’s revenue is expected to continue to be affected by the slowdown in thewireless communications areaeconomy andto moderate increases in wired communications, information appliances, and industrial electronics. Serviceselectronics industry specifically, with flat sequential revenuedecreased $3.9expected through the rest of the year.Maintenance revenue increased $5.5 million and
$28.3$12.7 million in the three andninesix months endedSeptemberJune 30,2000,2001, respectively, when compared to the same periods in1999, primarily due to a decrease in services engagements due to lower staffing levels. 14Maintenance revenue increased $7.7 million and $15.2 million in the three and nine months ended September 30,2000,respectively, when compared to the same periods in 1999,primarily due to the growth of the installed customer base and the renewal of maintenance and support contracts.
THREE MONTHS ENDED NINE MONTHS ENDED -------------------------- -------------------------- SEPTEMBER 30, OCTOBER 2, SEPTEMBER 30, OCTOBER 2, 2000 1999 % CHANGE 2000 1999 % CHANGE ------------- ---------- -------- ------------- ---------- -------- (IN MILLIONS, EXCEPT PERCENTAGES)REVENUE BY GEOGRAPHY Domestic.............................. $191.6 $120.4 59% $504.3 $397.9 27 % International......................... 140.9 105.5 34% 384.3 427.4 (10)% ------ ------ ------ ------ Total revenue....................... $332.5 $225.9 47% $888.6 $825.3 8 % ====== ====== ====== ====== REVENUE BY GEOGRAPHY AS A PERCENT OF TOTAL REVENUE Domestic.............................. 58% 53% 57% 48% International 42% 47% 43% 52%
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 % Change 2001 2000 % Change (In millions, except percentages) Domestic $ 189.4 $ 160.5 18 % $ 398.9 $ 312.6 28 % International 158.2 138.2 14 % 293.3 243.6 20 % Total revenue $ 347.6 $ 298.7 16 % $ 692.2 $ 556.2 24 % Revenue by Geography as a Percent of Total Revenue
Domestic 54% 54% 58% 56% International 46% 46% 42% 44% International revenue increased
$35.3$20 million anddecreased $43.1$49.7 million in the three andninesix months endedSeptemberJune 30,2000,2001, respectively, when compared to the same periods in1999.2000. The increase in the three months endedSeptemberJune 30,20002001 was primarily due to increases in productand maintenancerevenue in all regions,partially offset by a decrease in services revenue in Europe, Japan, and Asia. The decrease in the nine months ended September 30, 2000 was primarily due to a decrease in product andservices revenue in Japan anda decreaseAsia, and maintenance revenue in Europe, partially offset by decreases in maintenance revenue in Japan and Asia and services revenue in Europe. The increase in the six months ended June 30, 2001 was primarily due to increases in product revenue in all regions, maintenance revenue in Europe and Asia, and services revenue in Europe, partially offset byincreasesdecreases inproductservices revenue in Japan, Asia, and Canada and maintenance revenue inEurope.Japan.Differences in the rate of revenue growth over the periods presented and as compared geographically are primarily due to fluctuations in sales volume of integrated circuit implementation and intellectual property creation products and for Cadence’s design and methodology services offerings.
Foreign currency exchange rates
negligibly affected revenue for the three months ended September 30, 2000, and positivelynegatively affected revenue by$4.7$5.2 million and $9.8 million during theninethree and six months endedSeptemberJune 30,20002001, respectively, when compared to the same periods in1999. The increase during the nine months ended September 30,2000,wasprimarily due to thestrengtheningweakening of the Japanese yen in relation to the U.S.dollar, offset partially by the weakeningdollar.
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 % Change 2001 2000 % Change (In millions, except percentages) Product $ 21.8 $ 20.5 6 % $ 43.5 $ 41.0 6 % Services $ 48.8 $ 52.2 (7 )% $ 102.5 $ 101.2 1 % Maintenance $ 15.9 $ 15.3 4 % $ 32.9 $ 29.5 11 % 21
Cost of
the German mark and British pound sterling in relation to the U.S. dollar. Foreign currency exchange rates positively affected revenue by $4.9 million and $12.9 million during the three and nine months ended October 2, 1999, respectively, when compared to the same periods in 1998, primarily due to the strengtheningRevenue as a Percent ofthe Japanese yen in relation to the U.S. dollar.
THREE MONTHS ENDED NINE MONTHS ENDED -------------------------- -------------------------- SEPTEMBER 30, OCTOBER 2, SEPTEMBER 30, OCTOBER 2, 2000 1999 % CHANGE 2000 1999 % CHANGE ------------- ---------- -------- ------------- ---------- -------- (IN MILLIONS, EXCEPT PERCENTAGES)COST OF REVENUE Product............................... $22.9 $20.4 12 % $ 63.9 $59.0 8 % Tality................................ $39.7 $28.5 39 % $109.8 $83.6 31 % Services.............................. $16.3 $19.1 (15)% $ 47.4 $60.1 (21)% Maintenance........................... $17.2 $13.6 26 % $ 46.7 $39.4 19 % COST OF REVENUE AS A PERCENT OF RELATED REVENUE Product............................... 14% 25% 16% 15% Tality................................ 76% 84% 77% 92% Services.............................. 46% 49% 47% 46% Maintenance........................... 22% 19% 20% 18%15Related Revenue
Product 11% 15% 12% 17% Services 66% 65% 67% 65% Maintenance 19% 20% 20% 19% Cost of product revenue includes costs of production personnel, packaging and documentation, royalties, and amortization of capitalized software development costs for software products. Manufacturing costs associated with hardware emulation system products include materials, labor, and overhead.
Cost of product revenue increased $1.3 million for the three months ended June 30, 2001, when compared to the same period in 2000, primarily due to an increase in amortization of software development costs and third-party royalty costs, partially offset by a decrease in manufacturing expenses associated with emulation system products. Cost of product revenue increased $2.5 million
and $4.9 millionfor thethree and ninesix months endedSeptemberJune 30,2000, respectively,2001, when compared to the sameperiodsperiod in1999,2000, primarily due tohigher manufacturingthird-party royalty costsassociated with emulation system products.and purchased software amortization.Because the majority of
Cadence'sCadence’s cost of software product revenue does not vary significantly with changes in revenue, product gross margin increased in the three andninesix months endedSeptemberJune 30,2000,2001, when compared to the same period in1999,2000, primarily due to an increase insalesprice and volume ofsoftware products. Cost of Tality revenue includes costs associatedlicense renewals withproviding electronics design services to customers, including salaries and benefits, cost of software, depreciation, facilities, and project management. Cost of Tality revenue increased $11.1 million and $26.3 million in the three and nine months ended September 30, 2000, respectively, when compared to the same periods in 1999, primarily due to Tality's addition of design engineers and the acquisition of Diablo Research Company LLC, or Diablo, which was completed in the fourth quarter of 1999. Tality gross margin increased in the three and nine months ended September 30, 2000, when compared to the corresponding periods in 1999, primarily due to improved engineering staff utilization and increased use of reusable intellectual property.major customers.Cost of services revenue includes costs associated with providing services to customers, primarily salaries and costs to recruit, develop, and retain personnel, and costs to maintain the infrastructure necessary to manage a services organization. Cost of services revenue decreased
$2.7 million and $12.7$3.4 million in the threeand ninemonths endedSeptemberJune 30, 2001, when compared to the same period in 2000,respectively,primarily due to Cadence’s reduction of services professionals and employee-related costs. Cost of services revenue increased $1.3 million in the six months ended June 30, 2001, when compared to the same period in 2000, primarily due to Cadence’s addition of services professionals and employee-related costs that occurred in the three months ended March 31, 2001, partially offset by the reduction in employee-related costs in the three months ended June 30, 2001.Services gross margin slightly decreased for the three and six months ended June 30, 2001, when compared to the same periods in
1999,2000, primarily due toa decreaseincreased headcount inservices engagements. Services gross margin remained flatTality inthe three and nine months ended September 30, 2000, when compared to the corresponding periods in 1999.anticipation of increased demand which did not materialize. Services gross margin has been, and may continue to be, harmed byCadence'sCadence’s inability to fully utilize its services resources. In addition, services gross margin may continue to be harmed byCadence's inability to achieve operating efficiencies while implementing a growing number of services offerings.the slowdown in the economy generally and in the electronics systems industry in particular.Cost of maintenance revenue includes the cost of customer services, such as hot-line and on-site support, production personnel, packaging, and documentation of maintenance updates. Cost of maintenance revenue remained flat and increased
$3.6$3.4 millionand $7.3 million infor the three andninesix months endedSeptemberJune 30,2000,2001, respectively, when compared to the same periods in1999,2000. The increase for the six months ended June 30, 2001 was primarily due toincreasesan increase in employee-relatedcostscosts.
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 % Change 2001 2000 % Change (In millions, except percentages) Marketing and sales $ 96.2 $ 95.0 1 % $ 189.7 $ 181.2 5 % Research and development $ 73.9 $ 65.8 12 % $ 144.9 $ 128.3 13 % General and administrative $ 27.5 $ 23.8 16 % $ 58.2 $ 46.3 26 % 22
Expenses as a Percent of Total Revenue
Marketing and sales 28% 32% 27% 33% Research and development 21% 22% 21% 23% General and administrative 8% 8% 8% 8% Marketing and
costs to invest in customer service.
THREE MONTHS ENDED NINE MONTHS ENDED -------------------------- -------------------------- SEPTEMBER 30, OCTOBER 2, SEPTEMBER 30, OCTOBER 2, 2000 1999 2000 1999 ------------- ---------- ------------- ---------- (IN MILLIONS)AMORTIZATION OF ACQUIRED INTANGIBLES Amortization of acquired intangibles............ $20.6 $16.8 $60.2 $42.4 AMORTIZATION OF ACQUIRED INTANGIBLES AS A PERCENT OF TOTAL REVENUE Amortization of acquired intangibles............ 6% 7% 7% 5%Amortization of acquired intangiblessales expenses increased$3.8$1.1 million and$17.8$8.5 million in the three andninesix months endedSeptemberJune 30,2000, respectively, when compared with the same periods in 1999, primarily due to the 1999 acquisition of OrCAD and Tality's acquisition of Diablo. 16
THREE MONTHS ENDED NINE MONTHS ENDED -------------------------- -------------------------- SEPTEMBER 30, OCTOBER 2, SEPTEMBER 30, OCTOBER 2, 2000 1999 % CHANGE 2000 1999 % CHANGE ------------- ---------- -------- ------------- ---------- -------- (IN MILLIONS, EXCEPT PERCENTAGES)OPERATING EXPENSES Marketing and sales................... $97.9 $88.2 11% $279.0 $251.2 11% Research and development.............. $66.6 $58.4 14% $195.0 $159.7 22% General and administrative............ $24.1 $22.4 8% $ 70.4 $ 64.6 9% EXPENSES AS A PERCENT OF TOTAL REVENUE Marketing and sales................... 29% 39% 31% 30% Research and development.............. 20% 26% 22% 19% General and administrative............ 7% 10% 8% 8%Marketing and sales expenses increased $9.6 million and $27.8 million in the three and nine months ended September 30, 2000,2001, respectively, when compared to the same periods in1999,2000, primarily due to an increase in employee-relatedcostscosts.Research and
costs associated with the 1999 acquisition of OrCAD for which there were no similar costs in the first seven months of 1999. Cadence'sdevelopment expenses,in research and development,prior to the reduction for capitalization of software development costs, were$73.3$81.6 million, representing22%23% of total revenue, in the three months endedSeptemberJune 30,20002001, and$64.5$71.7 million, representing29%24% of total revenue, for the three months endedOctober 2, 1999.July 1, 2000. For the three andninesix months endedSeptemberJune 30,2000,2001, Cadence capitalized software development costs of$6.7$7.7 million and$21.4$15.3 million, respectively, representing 9% and 10% of total research and development expenditures, respectively. For the three andninesix months endedOctober 2, 1999,July 1, 2000, Cadence capitalized software development costs of$6.1$5.9 million and$19.6$14.7 million, respectively, representing9%8% and11%10% of total research and development expenditures, respectively. The increase in capitalized software development costs for the three andninesix month periods endedSeptemberJune 30,2000,2001, resulted primarily from increases inhours incurred onnew product developmentand new product releases.projects in which costs are expensed until technological feasibility is established. In any given period, the amount of capitalized software development costs may vary depending on the exact nature of the development performed.The increase in net research and development expenses of
$8.2$8.1 million and$35.3$16.5 million for the three andninesix months endedSeptemberJune 30,2000,2001, respectively, when compared to the same periods in1999,2000, was primarilyattributabledue to employee-related costsconsulting costs,andcosts associated with the 1999 acquisition of OrCAD for which there were no similar costsincreased investment inthe first seven months of 1999.research and development projects.General and administrative expenses increased
$1.7$3.7 million and$5.8$11.9 million in the three andninesix months endedSeptemberJune 30,2000,2001, respectively, when compared to the same periods in1999,2000, primarily due tocosts associated with building the infrastructurean increased use ofthe Tality organization.outside consulting services and increases in bad debt expense, primarily in Tality.Foreign currency exchange rates positively affected operating expenses by
$1.3$3 million and$1.1$5.8 million for the threemonthsandninesix months endedSeptemberJune 30,2000,2001, respectively, when compared to the same periods in1999. The decrease during these periods ended September 30,2000,was primarily due to the weakening of the British pound sterling, the French franc, and the German mark in relation to the U.S. dollar, partially offset by the strengthening of the Japanese yen in relation to the U.S. dollar. Foreign currency exchange rates negatively affected operating expenses by $2 million and $3.4 million during the three and nine months ended October 2, 1999, respectively, when compared to the same periods in 1998,primarily due to the weakening of the Japanese yen and the British pound in relation to the U.S. dollar.17UNUSUAL ITEMS The following table presents information regarding unusual items for
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 2001 2000 (In millions) Amortization of acquired intangibles $ 25.9 $ 19.9 $ 47.9 $ 39.5 Amortization of Acquired Intangibles as a Percent of Total Revenue
Amortization of acquired intangibles 7% 7% 7% 7% 23
Amortization of acquired intangibles increased $6 million and $8.4 million in the three and
ninesix months endedSeptemberJune 30, 2001, respectively, when compared with the same periods in 2000, primarily due to the 2001 acquisition of CadMOS.
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 2001 2000 (In millions) Amortization of deferred stock compensation $ 7.2 $ - - - - $ 13.1 $ - - - - Amortization of Deferred Stock Compensation as a Percent of Total Revenue
Amortization of deferred stock compensation 2% 0% 2% 0% Cadence records deferred stock compensation resulting from Tality option grants for Tality stock, Tality restricted stock sales, and
October 2, 1999:
THREE MONTHS ENDED NINE MONTHS ENDED -------------------------- ------------------------------- SEPTEMBER 30, OCTOBER 2, SEPTEMBER 30, OCTOBER 2, 2000 1999 2000 1999 ------------- ---------- ------------- --------------- (IN MILLIONS)Deferred stock compensation.............. $ 5.2 $ -- $ 5.2 $ -- Separation costs......................... 4.9 -- 4.9 -- Restructuring charges.................... -- 0.4 -- 13.3 Merger costs............................. -- -- -- 8.4 Asset impairment......................... -- -- -- 6.6 Litigation settlement.................... -- -- -- (3.0) Write-off of acquired in-process technology............................. -- 11.8 -- 20.7 ----- ----- ----- ----- Total unusual items...................... $10.1 $12.2 $10.1 $46.0 ===== ===== ===== =====DEFERRED STOCK COMPENSATIONCadence’s acquisition of CadMOS. Deferred stock compensation from Tality option grants and restricted stock sales represents the difference between the exercise price of stock option grants to Tality employees and directors, and restricted stockgrantssales to certain Cadence executives and key employees, and the deemed fair market value ofTality'sTality’s common stock at the time of thosegrants. We recorded deferredgrants and sales. Deferred stock compensation from the CadMOS acquisition represents the difference between the exercise price of$64.7 million forstock option grants to CadMOS employees and thethree and nine months ended September 30, 2000. We arefair market value of Cadence’s common stock at the time of acquisition. Cadence is amortizing the deferred stock compensation to expense over the period during which the stock options and restricted stockvest, four yearsvest. Cadence recorded $7.2 million andone year, respectively. Accordingly,$13.1 million in the three and six months ended June 30, 2001, respectively, of amortization of deferred stock compensationexpense is recognized overfor which there were no similar costs in theperiod during which the services have been provided. Such amortization amounted to $5.2 millionfirst six months of 2000.Unusual Items
The following table presents information regarding unusual items for the three and
ninesix months endedSeptemberJune 30,2000. SEPARATION COSTS2001:
Three Months Ended Six Months Ended June 30, July 1, June 30, July 1, 2001 2000 2001 2000 (In millions) Restructuring charges $ 32.7 $ - - - - $ 34.2 $ - - - - Goodwill write-off 25.8 - - - - 25.8 - - - - Inventory write-off and other 6.9 - - - - 6.9 - - - - Separation costs 1.3 - - - - 4.8 - - - - Write-off of acquired in-process technology 1.0 - - - - 13.1 - - - - �� Total unusual items $ 67.7 $ - - - - $ 84.8 $ - - - - Restructuring
In the
threesecond quarter of 2001, Cadence announced a worldwide restructuring plan targeted at reducing workforce andnine months ended September 30, 2000,consolidating facilities and assets.Cadence recorded
$4.9$32.7 million of restructuring charges classified as unusual operating expenses associated with the worldwide restructuring plan. Cadence’s restructuring plan and associated costs consisted of $11.3 million for reduction inseparation costs relatedpersonnel and $21.4 million to downsize and close excess facilities. The restructuring plan was initiated primarily due to theseparation and planned IPO of Tality. These costs include legal and accounting services, strategic business planning, information systems separation, and development of compensation and benefits strategies. RESTRUCTURING Insevere downturn in thethree months ended July 3, 1999, Cadence recorded $10.7 millioneconomic environment in the24
electronics industry, particularly in the U.S. The restructuringcharges, including severance costs to terminate 49 employees and to consolidate facilities. Severance costs of $8.7 million relate to restructuring planswas primarily aimed at reducing excess personnel and capacity costs. Management estimates that the restructuring resulted in annualized cost reductions of approximately $30.8 million in salary and benefit costsafterand $35.1 million in facility costs.The restructuring plan will result in the reduction of approximately 325 employees. While employee reductions will be across all business functions, operating units, and geographic regions, Cadence’s wireless communications-related areas will be affected more than other areas. In addition, the number of temporary and contract workers employed by Cadence
merged with Quickturn, further actions taken to restructureis being reduced. Severance costs in theCadence services business in Japan,restructuring included severance benefits, notice pay, andseverance expense resultingout placement services. Approximately $5.3 million of these costs resulted from theresignationpayments to certain participants in Cadence’s employee stock purchase plan prior to Tality’s separation from Cadence in October 2000. All terminations and termination benefits were communicated to the affected employees prior to June 30, 2001. All severance benefits are expected to be paid out by the end ofCadence's former Chief Executive Officer.2001.Facilities consolidation charges of
$2$21.4 million were incurred in connection with theclosuredownsizing and closing of15 Quickturn facilities, including $1 million to close and exit the excess facilities and $1 million of related leasehold improvement abandonment costs.16 sites. Closure andexitdownsizing costsincludeincluded payments required under lease contracts, less any applicable sublease income after the properties were abandoned, lease buyout costs, restoration costs associated with certain lease arrangements, and costs to maintain facilities during the period after abandonment. To determine the lease loss, which is the loss after Cadence’s cost recovery efforts from subleasing a building, certain assumptions were made related to the (1) time period over which the relevant building would remain vacant, (2) sublease terms, and (3) sublease rates, including common area charges. The lease loss is an estimate under Statement of Financial Accounting Standards No. 5Accounting for Contingenciesand represents the low end of the range, $10.8 million, which will be adjusted in the future upon certain triggering events (change in estimate of time to sublease, actual sublease rates, etc.). Cadence has estimated that the high end of the lease loss could be $50.4 million if facilities operating lease rental rates continue to decrease in the applicable markets or if it takes longer than expected to find a suitable tenant to sublease the facility. Asset-related costswritten-off consistthat were expensed consisted of leasehold improvements for facilities that were abandoned and whose estimated fair market value is zero. As ofJuly 1, 2000, all of the 15 excess QuickturnJune 30, 2001, two sites had beenvacated. Noncancelable lease paymentsvacated and four sites had been downsized.In the first quarter of 2001, Cadence recorded $1.5 million of restructuring expenses incurred in connection with its research and development process.
Goodwill Write-Off
In relation to the wireless communications business downsizing and current decline in business conditions generally, Cadence restructured certain of its businesses and realigned resources to focus on profit contribution, high-growth markets, and core opportunities. As a result, Cadence recorded a charge of $25.8 million related to the impairment of goodwill and acquired intangibles associated with the acquisition of Diablo Research Company LLC, or Diablo. Key factors in this write-off were significant downsizing or reassignment of personnel directly related to these assets and reduction of future emphasis on this line of business. The charge was determined as the amount by which the carrying value of the goodwill and intangible assets associated with Diablo’s acquisition exceeded the fair value of those assets.
Inventory Write-Off and Other
In connection with its announced restructuring, Cadence recorded a $5.8 million provision expense against inventory. Of the $5.8 million, $3.7 million related to two discontinued product lines as part of Cadence’s restructuring and $2.1 million related to excess inventory of emulation products. The $3.7 million related to inventory and other related costs for
vacated facilitiestwo product lines Cadence will no longer sell. As part of the restructuring, Cadence examined the business and determined that these products would not result in future revenue growth. The excess inventory charge of $2.1 million was due to a sudden and significant decrease in25
forecasted revenue for emulation products and was calculated in accordance with Cadence’s policy, which is based on inventory in excess of 12-month demand. Inventory purchases and commitments are based on future sales forecasts. Cadence typically buys and builds inventory levels for certain key components to mitigate component supply constraints. Based on our current 12-month demand forecast, we do not anticipate that the excess inventory subject to this provision will bepaid out through 2003. 18used at a later date. Also in connection with its announced restructuring, certain additional costs will be incurred in order to fulfill Tality contracts. As a result, a loss provision of $1.1 million has been placed against these contracts.
Tality IPO Related Expense and Separation Costs
In the three months ended
April 3, 1999,June 30, 2001, Cadence recorded$2.2$1.3 millionin severanceof Tality separation costs primarily related toterminate 45 employees. These actions were taken to complete Cadence's restructuring program initiated inlegal and consulting fees.In the
fourthfirst quarter of1998. The restructuring plan was2001, Cadence wrote off $2.8 million of Tality IPO related expense as a result of the postponement of the Tality IPO on October 9, 2000. These expenses consisted of legal and accounting services and registration statement printing and filing fees and were incurred primarilyaimed at reducing the costsduring 2000. In addition, Cadence recorded $0.7 million ofexcess personnel in its services business. Actual amounts of termination benefits, facilities, and other restructuring related payments can be found in Notes to Condensed Consolidated Financial Statements under "RESTRUCTURING." MERGER COSTS In connection with the acquisition of Quickturn, Cadence charged to expense $8.4 million representing mergerTality separation costs in thethree month period ended July 3, 1999. These merger costs represented professional fees for financial advisors, attorneys,first quarter of 2001, related primarily to information systems separation.Acquisitions and
accountants. ASSET IMPAIRMENTIn-Process TechnologyIn the three months ended
July 3, 1999,June 30, 2001, Cadenceincurred charges totaling $3.5 million in connection with the cancellation of an information technology services contract with a third party and the abandonment of capitalized software development costs associated with Cadence products that were no longer to be sold. In the three months ended April 3, 1999, Cadence incurred charges totaling $3.1 million in connection with the abandonment of certain third-party software licenses that were no longer to be used by its design services business and capitalized software development costs associated with Cadence products that were no longer to be sold. The impairment losses recorded for the nine months ended October 2, 1999 were the amounts by which the carrying amountsacquired substantially all of theintangibleassetsexceeded their fair market values. LITIGATION SETTLEMENTof two companies for an aggregate price of $10.5 million, net of acquisition costs, of which $4.4 million was cash and $6.1 million was shares of Cadence common stock, plus future contingent payments. The acquisitions were accounted for as a purchase. Upon consummation of the acquisitions, Cadence immediately charged to expense $1 million representing acquired in-process technology that had not yet reached technological feasibility and had no alternative future use.In
June 1999, Cadence and Mentor Graphics Corporation announced the settlement of a patent infringement action pending in the United States District Court for the District of Oregon. As a result, the court entered a judgment declaring that certain Quickturn patents are valid, enforceable, and were infringed by Mentor's sale of SimExpress products in the U.S. Mentor is permanently enjoined from producing, marketing or selling SimExpress emulation systems in the U.S. In connection with the settlement, Mentor paid Cadence $3 million. IN-PROCESS TECHNOLOGY In August 1999,February 2001, Cadence acquiredOrCAD,CadMOS Design Technology, Inc., asupplier of computer-aided engineeringprivately held design tools firm headquartered in San Jose. CadMOS provides solutions to the noise problems experienced in ultra-deep submicron processes. Its noise-analysis solutions are targeted at both digital andcomputer-aided design softwaremixed signal designers working on microprocessors, dynamic random access memory, mixed-signal System-on-a-Chip, andservices for the printed circuit board industry, for cash.application-specific integrated circuits. Cadence acquired all of the outstanding stock ofOrCADCadMOS and assumed all outstandingOrCADstockoptions.options and warrants. The purchase price was$131.4$92.7 million and the acquisition was accounted for as a purchase. The purchase price could increase up to an additional $12.6 million, representing up to 488,970 shares, if certain predetermined performance factors are achieved over the next three years. Of the $12.6 million, $1.7 million is contingent on continued employment. The $12.6 million is based on the share price of Cadence’s common stock at the time of the acquisition. In connection with the acquisition, Cadence acquired goodwill of $58.3 million, which is being amortized over 5 years, and technology and workforce intangibles of $12.9 million, which are being amortized over 3 to 5 years. The results of operations of CadMOS and the estimated fair value of the assets acquired and liabilities assumed are included in Cadence’s consolidated financial statements from the date of acquisition.Upon consummation of the
OrCADCadMOS acquisition, Cadence immediately charged to expense$11.8$12.1 million representing acquired in-process technology that had not yet reached technological feasibility and had no alternative future use. The value assigned to acquired in-process technology was determined by identifying research projects in areas for which technological feasibilityhadhas not been established. The value was determined by estimating the costs to develop the acquired in-process technology into commercially viable products, estimating the resulting net cash flows from such projects, and discounting the net cash flows back to their present value. The discount rate included a factor that took into account the uncertainty surrounding the successful development of the acquired in-process technology.Certain of the acquiredThe in-process technologybecameis expected to be commercially viable ineach of 1999 and 2000. Expenditures to 19complete this acquired in-process technology did not materially differ from the original cost to complete estimations. To date, OrCAD's results have not differed significantly from the forecast assumptions. In addition, Cadence's research and development expenditures since the acquisition have not differed materially from expectations. Revenue contribution from the acquired technology falls within an acceptable range of plans in its role in Cadence's suite of design systems and tools. The risks associated with this research and development are still considered high and no assurance can be made that these products will meet market expectations. In January 1999, Cadence acquired Design Acceleration, Inc., or DAI, a supplier of design verification technology used in system-on-a-chip, or SOC, design. The total purchase price was $25.7 million and the acquisition was accounted for as a purchase. Upon consummation of the DAI acquisition, Cadence immediately charged to expense $8.9 million representing acquired in-process technology that had not yet reached technological feasibility and had no alternative future use. The value assigned to acquired in-process technology was determined by identifying research projects in areas for which technological feasibility had not been established. The value was determined by estimating the costs to develop the acquired in-process technology into commercially viable products, estimating the resulting net cash flows from such projects, and discounting the net cash flows back to their present value. The discount rate included a factor that took into account the uncertainty surrounding the successful development of the acquired in-process technology. Certain acquired in-process technology under development at the time of acquisition was initially expected to become commercially viable in 1999, but has since been delayed to 2000 and 2001.2002. Expenditures to completethis acquiredthe in-process technology are26
expected to total approximately$1.5$1.8 million. These estimates are subject to change, given the uncertainties of the development process, and no assurance can be given that deviations from these estimates will not occur. Additionally, these projects will requireexpenditures foradditional research and development after they have reached a state of technological and commercial feasibility.To date, DAI's results have not differed significantly fromAt the
forecasted assumptions. In addition, Cadence'stime of its acquisition by Cadence, CadMOS’s in-process research and developmentexpenditures sinceprojects were related to theacquisition have not differed materiallydevelopment of a static timing analysis tool, the development of advanced fixing capabilities in the noise analysis area, and in the mixed signal area, the development of a flow to integrate with Cadence tools and a tool to analyze large application-specific integrated circuit designs for substrate noise. The nature of the efforts to complete these projects related, in varying degrees, to the completion of all planning, designing, prototyping, verification, and testing activities necessary to establish that the proposed technologies meet their design specifications including functional, technical, and economic performance requirements.The net cash flows resulting from
expectations. Revenue contributionthe projects underway at CadMOS used to value the purchased research and development were based on management’s estimates of revenue, cost of revenue, research and development costs, selling, general and administrative costs, and income taxes from such projects. The revenue projections were based on the potential market size that the projects address, Cadence’s ability to gain market acceptance in these segments, and the life cycle of this in-process technology.Estimated total revenue from the acquired in-process technology
falls within an acceptable rangeis expected to peak in 2004 and decline rapidly thereafter as other new products are expected to enter the market. In addition, a portion ofplans in its role in Cadence's suitethe anticipated revenue had been attributed to enhancements ofdesign systemsthe base technology under development, andtools.has been excluded from net cash flow calculations. Existing technology was valued at $3.6 million. Therisks associated withnet cash flows generated from theresearchacquired in-process technology were expected to reflect earnings before interest, taxes, anddevelopment are still considered high anddepreciation of approximately 50% of the revenue generated from in-process technology. However, there can be no assurancecan be madethat thesefuture productsassumptions willmeet market expectations. OTHER INCOME AND INCOME TAXESprove accurate, or that Cadence will realize the anticipated benefit of the acquisition.The discount of the net cash flows to their present value was based on the weighted average cost of capital, or WACC. The WACC calculation produces the average required rate of return of an investment in an operating enterprise, based on the required rates of return from investments in various areas of the enterprise. The rate used to discount the net cash flows from purchased in-process technology was 28%. The discount rate is sometimes higher than the WACC due to the inherent uncertainties in the estimates, including the uncertainty surrounding the successful development of the acquired in-process technology, the useful life of such technology, the profitability levels of such technology, if any, and the uncertainty of technological advances, all of which were unknown at that time.
Other Income and Income Taxes
Other income
increased $1.1decreased $0.9 million and$3.2$2.3 million in the three andninesix months endedSeptemberJune 30,2000,2001, respectively, when compared to the same periods in1999,2000, primarily due toan increasedecreases in foreign exchange gains and interest income, partially offset by an increase in minority interest income and adecreasereduction ininterest income.investment losses. The decrease in interest income was due to a lower average balance of invested cash and short-terminvestments. Cadence'sinvestments and lower interest rates.Cadence’s estimated effective tax rate for the three and
ninesix months endedSeptemberJune 30,20002001 was 26.5%, excluding the effect of amortization of acquired intangibles, amortization of deferred stock compensation, and unusual items. Proceeds from the Avant! judgement will be subject to U.S. federal and state taxes. Cadence will provide for taxes on the Avant! proceeds at a rate of 40%. The effective tax rate for the three andninesix months endedOctober 2, 1999July 1, 2000 was28.5%, excluding the effect of the write-off of acquired in-process technology of $8.9 million, which is not deductible for income tax purposes. The decrease in the 2000 effective tax rate when compared to 1999 is primarily due to foreign earnings being taxed at a lower rate. LIQUIDITY AND CAPITAL RESOURCES26.5%.27
Liquidity and Capital Resources
At
SeptemberJune 30,2000, Cadence's2001, Cadence’s principal sources of liquidity consisted of$128$141.1 million of cash and cash equivalents and short-term investments, compared to$118.8$137 million atJanuary 1,December 30, 2000, and two syndicated senior unsecured credit20facilities that allow Cadence to borrow up tototaling $350 million. As ofSeptemberJune 30,2000,2001, Cadence had no outstanding borrowings under these credit facilities.Cash provided by operating activities
increased $42.1decreased $6.6 million to$145.3$81.8 million for theninesix months endedSeptemberJune 30,2000,2001, when compared to theninesix months endedOctober 2, 1999.July 1, 2000. Theincreasedecrease was primarily due toincreases in installment contract receivables,the payment of accounts payable and accruedliabilities, depreciation and amortization, and deferred revenue, partially offset by decreases in receivables, prepaid expenses and other, and net income before unusual items.liabilities.At
SeptemberJune 30,2000,2001, Cadence had net working capital of$41.3$59.7 million compared with$58.4$65.3 million atJanuary 1,December 30, 2000. The working capital decrease was driven primarily by a decrease in receivables of $40.4 million and an increase in deferred revenue of$42.5$17.3 million, partially offset by a decrease in accounts payable and accrued liabilities of$15.6$29.8 million and an increase incashprepaid expenses andcash equivalentsother of$10.8$15.8 million.The increase in deferred revenue was due to increase product sales and maintenance contracts. The decrease in accounts payable and accrued liabilities was primarily due to reductions in accrued employee benefits, accrued consulting service, and accruals for payments to vendors.In addition to its short-term investments,
Cadence'sCadence’s primary investing activities consisted of acquisitions, purchases of property, plant, and equipment, capitalization of software development costs,acquired intangiblesandother assets,venture capital partnership investments,and equity investments, and business acquisitions,which combined represented$145.5$97.4 million and$225.5$88.2 million of cash used for investing activities in theninesix months endedSeptemberJune 30, 2001 and July 1, 2000,and October 2, 1999,respectively.Since 1994,Cadence
has soldsells put warrants andpurchasedpurchases call options through private placements. See"Notes“Notes toCondensedConsolidated FinancialStatements."Statements — Put Warrants and Call Options.” AtSeptemberJune 30,2000,2001, Cadence had a maximum potential obligation related to put warrants torepurchase 5buy back 5.1 million shares of its common stock at an aggregate price of approximately$104.8$128.8 million. The put warrants will expire on various dates throughMay 2001,February 2002, and Cadence has the contractual ability to settle theoptionsput warrants prior to their maturity. Cadence has therightability to settle these put warrants with stock and, therefore, no amount was classified out ofstockholders'stockholders’ equity in the condensed consolidated balance sheets.Anticipated cash requirements for the remainder of 2000 include working capital, capital expenditures and payment of operating expenses, including marketing and sales expense, research and development expense, general and administrative expense and potential acquisitions of, or investments in, complementary businesses or technologies, and the purchase of treasury stock through Cadence's stock repurchase programs.As part of its overall investment strategy, Cadence
has becomeis a limited partner in a venture capital fund and is committed to invest up to $100 million. As ofSeptemberJune 30,2000,2001, Cadence had contributed approximately$47.0$70.5 million to this partnership, which is reflected in other assets in the accompanying condensed consolidated balancesheets, netsheets.On September 29, 2000, Cadence entered into two syndicated senior unsecured credit facilities that allow Cadence to borrow up to $350 million, referred to as the 2000 Facilities. The 2000 Facilities replace a prior $355 million revolving credit facility consisting of
operating losses.a $177.5 million two-year revolving credit facility, which was terminated on September 27, 2000, and a $177.5 million 364-day revolving credit facility, which was terminated immediately prior to consummation of the 2000 Facilities. One of the new 2000 Facilities is a $100 million three-year revolving credit facility, referred to as the Three-Year Facility. The other new facility is a $250 million 364-day revolving credit facility convertible into a two-year term loan, referred to as the 364-Day Facility. The Three-Year Facility terminates on September 29, 2003. The 364-Day Facility will terminate on September 28, 2001, at which time the 364-Day Facility may be converted to a two-year term loan with a maturity date of September 29, 2003, or, at the request of Cadence and with the consent of members of the bank group that wish to do so, the termination date of the 364-Day Facility may be extended for one additional 364-day period with respect to the portion of the 364-Day Facility that a consenting bank holds. For both of the 2000 Facilities, Cadence has the option to pay interest based on LIBOR plus a spread of between 1.25% and 1.50%, based on a pricing grid tied to a financial covenant, or the higher of (i) the Federal Funds Rate plus 0.50% or (ii) the prime rate. As a result, Cadence’s interest expenses associated with this borrowing will vary with market rates. In addition, commitment fees are payable on the unused portion of the Three-Year Facility at rates between 0.25% and 0.34% based on a pricing grid tied to a financial covenant and on the unused portion of the 364-Day Facility at a fixed rate of 0.20%. Cadence may28
not borrow under the 364-Day Facility at any time that any portion of the Three-Year Facility remains unused. The 2000 Facilities contain certain financial and other covenants. At June 30, 2001, there were no borrowings outstanding under the 2000 Facilities.Cadence anticipates that current cash and short-term investment balances, cash flows from operations, and its
two$350 million revolving credit facilitiesthat allow borrowings of up to $350 millionwill be sufficient to meet its working capital and capital requirements on a short-and long-term basis.New Accounting Standards
In August 2001, the Financial Accounting Standards Board, or FASB, issued Statement of Financial Accounting Standards, or SFAS, No. 143, “Accounting for Obligations Associated with the Retirement of Long-Lived Assets.” SFAS No. 143 addresses financial accounting and reporting for the retirement obligation of an asset. This statement states that companies should recognize the asset retirement cost, at their fair value, as part of the cost of the asset and classify the accrued amount as a liability in the condensed consolidated balance sheet. The asset retirement liability is then accreted to the ultimate payout as interest expense. The initial measurement of the liability would be subsequently updated for revised estimates of the discounted cash outflows. The Statement will be effective for fiscal years beginning after June 15, 2002. Cadence has not yet determined the effect SFAS No. 143 will
continuehave on its consolidated financial position, results of operations, or cash flows.In June 2001, the FASB issued SFAS No. 141, “Business Combinations.” SFAS No. 141 addresses financial accounting and reporting for business combinations and it requires business combinations in the scope of this Statement to
fund Tality'sbe accounted for using one method, the purchase method. The provisions of this Statement apply to all business combinations initiated after June 30, 2001. The adoption of this Statement will not have a material effect of Cadence’s consolidated financial position, results of operations,as itor cash flows.In June 2001, the FASB issued SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 142 addresses financial accounting and reporting for acquired goodwill and other acquired assets. It addresses how intangible assets that are acquired individually or with a group of other assets (but not those acquired in a business combination) should be accounted for in financial statements upon their acquisition. This Statement also addresses how goodwill and other intangible assets should be accounted for after they have been initially recognized in the financial statements. With the adoption of this Statement, goodwill is no longer subject to amortization over its estimated useful life. Goodwill will be assessed for impairment each year using the fair-value-based test. This Statement becomes effective January 1, 2002. Cadence is currently assessing the impact of the discontinued amortization of goodwill and, while Cadence is not aware of any impairment charges, an analysis will have to be done upon adoption of this Statement to determine if an impairment charge is necessary. Cadence has
done historically, throughnot yet determined thedate that Tality receives the net proceeds fromeffect SFAS No. 142 will have on itsplanned IPO. NEW ACCOUNTING STANDARDSconsolidated financial position, results of operations, or cash flows.In September 2000, the Emerging Issues Task Force, or EITF, published their consensus on EITF Issue No. 00-19,
"Determination of Whether Share Settlement is Within the Control of the Issuer“Accounting forPurposes of Applying Issue No. 96-13,"Derivative Financial Instruments Indexed to, and Potentially Settled in, a Company’s Own Stock,” which was taken up to address implementation of theEITF'sEITF’s March 2000 final consensus of EITF Issue No. 00-7,"Application“Application of EITF Issue No. 96-13 to Equity21Derivative TransactionsInstruments That Contain Certain Provisions That Require Net Cash Settlement If Certain Events Outside the Control of the Issuer Occur."” The final consensus in Issue No. 00-7 generally stated that equity derivative contracts that contain provisions that implicitly or explicitly require net cash settlement outside of the control of the company must be treated as assets and liabilities and carried at fair value with changes in fair value recognized in earnings rather than equity instruments carried at original cost and reported as part of permanent equity. This interpretationbecomesbecame effective June 30, 2001 andisdid notexpected tohave a material effect onCadence'sCadence’s consolidated financial position, results of operations, or cash flows.In March 2000, the Financial Accounting Standards Board, or FASB, issued interpretation No. 44, "Accounting for Certain Transactions involving Stock Compensation", an interpretation of Accounting Principles Board, or APB, Opinion No. 25. This interpretation provides guidance regarding the application of APB Opinion No. 25 to stock compensation involving employees. This interpretation was effective July 1, 2000 and did not have a material effect on Cadence's financial position, results of operations, or cash flows. In December 1999, the Securities and Exchange Commission issued Staff Accounting Bulletin, No. 101, "Revenue Recognition in Financial Statements," or SAB 101, which provides guidance on the recognition, presentation, and disclosure of revenue in financial statements. Cadence must adopt SAB 101 in the fourth quarter of its fiscal 2000. The adoption of this statement is not expected to have a material effect on Cadence's financial position, results of operations, or cash flows. In June 1998, the FASB issued Statement of Financial Accounting Standards, or SFAS, No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 establishes accounting and reporting standards requiring that every derivative instrument be recorded in the balance sheet as either an asset or liability measured at its fair value. It requires that changes in the derivative's fair value be recognized currently in earnings unless specific hedge accounting criteria are met and that a company must formally document, designate, and assess the effectiveness of transactions that receive hedge accounting. In June 1999, SFAS No. 137, "Accounting for Derivative Instruments and Hedging Activities--Deferral of the Effective Date of FASB Statement No. 133," was issued. The statement defers the effective date of SFAS No. 133 until the first quarter of fiscal 2001. The adoption of this statement is not expected to have a material effect on Cadence's financial position, results of operations, or cash flows. FACTORS THAT MAY AFFECT FUTURE RESULTS29
Factors That May Affect Future Results
The following risk factors and other information included in this Quarterly Report on Form 10-Q should be carefully considered. The risks and uncertainties described below are not the only ones
we face.Cadence faces. Additional risks and uncertainties notpresentlycurrently known tousCadence or thatweCadence currently deem immaterial also may impairourCadence’s business operations. If any of the following risks actuallyoccurs, ouroccur, Cadence’s business, operating results, and financial condition could be materially harmed.The risk factors affecting Tality Corporation which, immediately after its initial public offering will remain a subsidiary of Cadence, are described in detail in the Registration Statement on Form S-1 filed by Tality Corporation with the Securities and Exchange Commission on July 17, 2000, as amended.Unless specifically noted, references to Cadence in the discussion below are references to Cadence and its subsidiaries, including Tality Corporation and its subsidiaries.CADENCE HAS REORGANIZED ITS DESIGN SERVICES GROUP ASCadence is subject to the cyclical nature of the integrated circuit industry and the electronics systems
industry, and the current downturn or any future downturns may reduce our revenue Purchases of our products and services are highly dependent upon the commencement of new design projects by integrated circuit manufacturers and electronics systems companies. The integrated circuit industry is highly cyclical and is characterized by constant and rapid technological change, rapid product obsolescence and price erosion, evolving standards, short product life cycles, and wide fluctuations in product supply and demand. The integrated circuit and electronics systems industries have experienced significant downturns, often connected with, or in anticipation of, maturing product cycles of both these companies’ and their customers’ products and a decline in general economic conditions. These downturns have been characterized by diminished product demand, production over capacity, high inventory levels and accelerated erosion of average selling prices. During these downturns, the number of new design projects may decrease. A
SEPARATE COMPANY, WHICH MAY IMPACT ITS FINANCIAL RESULTSnumber of integrated circuit manufacturers and electronics systems companies have announced significant slowdowns of demand and production. Cadence expects continued weakness in the communications businesses of the electronics systems industry for the foreseeable future. The current slowdown and any future downturns may reduce our revenue and harm our results of operations.Cadence has reorganized its design services group as a separate company, which may impact its financial results
Since 1995, Cadence has operated an
internalelectronics design services group. On July 17, 2000, Cadence announced its plan to separate its design services group into a separate company named Tality Corporation focused on providing design solutions and proprietary technology to electronics product companies and integrated circuit manufacturers, and announced the planned initial public offering of the separate company. The separation waseffectivesubstantially completed on October 4, 2000.Upon completion of the plannedOn October 9, 2000, Cadence announced that it had postponed Tality’s initial public offering due to unfavorable market conditions. On April 17, 2001, Tality withdrew the registration statement for its initial public offering. Cadence currently intends to consider undertaking an initial public offering for Tality when market conditions become favorable. As a result of22Tality, Cadence expects that it will hold approximately 80%a reorganization of thevoting powerTality entities during the end ofTality. Whilethe second quarter and beginning of the third quarter, Tality now operates as an indirect wholly-owned subsidiary of Cadence. Cadence’s expenses in the design services business increased in connection with Tality’s separation from Cadencedoesand Tality’s reorganization, and its expenses may continue to increase. The rate of growth of Tality’s revenue over prior periods has declined in 2001, and may notcurrently planincrease in the near term, or at all, and its separation and reorganization may prove more expensive than Cadence anticipates. If Tality fails todistributeincrease its revenue toCadence stockholdersoffset itsequity interests inexpenses, TalityCorporation or its subsidiaries, itwillhave the right at any timecontinue tosell some or all of these equity interests.experience losses.Cadence has agreed
with the underwriters nottotransfer its equity interests ingrant certain rights and provide certain services to TalityCorporation and limited partnership units in Tality, LP for 180 days after the date of the initial public offering of Tality Corporation, except with the prior written consent of Goldman, Sachs & Co. After the expiration of this 180-day period, Cadence will no longer be restricted from transferring any of its common stock of Tality Corporation or limited partnership units in Tality, LP to the public or its stockholders. Cadence currently expectson terms thatthe principal factors that it would consider in determining whether and when to exchange, convert, sell or distribute to its stockholders any of its shares or partnership units include: - The relative market prices of Tality's common stock and Cadence's common stock; - The ability of an affiliate of Tality to make sales under Rule 144 of the Securities Act of 1933 or under an effective registration statement covering Cadence's shares of Tality's common stock; - The absence of any court order or other regulation prohibiting or restricting such sales; and - Other conditions affecting Tality's business or Cadence's other businesses. CADENCE HAS AGREED TO GRANT CERTAIN RIGHTS AND PROVIDE CERTAIN SERVICES TO TALITY ON TERMS THAT ARE MORE FAVORABLE TO TALITY THAN TERMS THAT WOULD BE OFFERED TO AN UNRELATED PARTYare more
favorable to Tality than terms that would be offered to an unrelated party In connection with the separation of Tality, Cadence entered into a number of agreements governing its business relationships with Tality and
Cadence'sCadence’s provision of certain services to Tality, including provision of certain facilities, and accounting, finance, legal, human resources, and other administrative services, on30
terms that are more favorable to Tality than terms that would be offered to an unrelated entity. As a result, Cadence is obligated to provide certain services to Tality for the periods defined in the various agreements, some of which have long or unspecified terms. Continued provision of such services after Tality’s separation and after a potential future initial public offering may impact our financial results.CADENCE LACKS LONG-TERM EXPERIENCE IN ITS ELECTRONICS DESIGN AND METHODOLOGY SERVICES BUSINESSCadence has
no long-term experiencehistorically suffered losses inofferingits electronics design and methodology services business andthereforemaynot be as experienced in these businesses as others.
continue to do so in the future The market for
theseelectronics design and methodology services is relatively new and rapidly evolving.Cadence expects the expenses of the design services business to increase substantially in connection with Tality's separation from Cadence and as it continues to expand its operations. The rate of growth of Tality's revenue over prior periods may not continueCadence’s orincrease, and its separation and expansion may prove more expensive than Cadence anticipates. If Tality fails to increase its revenue to offset its expenses, Tality will continue to experience losses. Cadence's or Tality'sTality’s failure to succeed in these electronics design and methodology services businesses may seriously harmCadence'sCadence’s business, operating results, and financial condition.THE SUCCESS OF CADENCE'S ELECTRONIC DESIGN AND METHODOLOGY SERVICES BUSINESSES DEPEND ON MANY FACTORS THAT ARE BEYOND ITS CONTROLThe success of Cadence’s electronic design and methodology services businesses depend on many factors that
are beyond its control In order to be successful with its electronics design and methodology services, Cadence must overcome several factors that are beyond its control, including the following:
- CADENCE'S COST OF SERVICES PERSONNEL IS HIGH AND REDUCES GROSS MARGIN. Gross margin represents the difference between the amount of revenue from the sale of services and Cadence's
• Cadence’s cost of services personnel is high and reduces gross margin.Gross margin represents the difference between the amount of revenue from the sale of services and Cadence’s cost of providing those services. Cadence must pay high salaries to attract and retain professional services personnel. This results in a lower gross margin than the gross margin in Cadence’s software business. In addition, the high cost of training new services personnel or not fully utilizing these personnel can significantly lower gross margin. • A substantial portion of these services contracts are fixed-price contracts.This means that the customer pays a fixed price that is agreed upon at the time of contract execution, regardless of how much time or how many resources Cadence must actually devote to successfully complete the contract. Although Cadence is moving towards more time based contracts, there can be no guarantee that this shift will occur. If Cadence’s cost in performing the services consistently and significantly exceeds the amount the customer has agreed to pay, it could seriously harm Cadence’s business, operating results, and financial condition. Cadence’s failure to
attract and retain professional services personnel. This results in a lower gross margin than the gross margin in Cadence's software business. In addition, the high cost of training new services personnel or not fully utilizing these personnel can significantly lower gross margin. 23- A SUBSTANTIAL PORTION OF THESE SERVICES CONTRACTS ARE FIXED-PRICE CONTRACTS. This means that the customer pays a fixed price that has been agreed upon ahead of time, no matter how much time or how many resources Cadence must devoterespond quickly toperform the contract. If Cadence's cost in performing the services consistently and significantly exceeds the amount the customer has agreed to pay, ittechnological developments couldseriously harm Cadence's business, operating results, and financial condition. CADENCE'S FAILURE TO RESPOND QUICKLY TO TECHNOLOGICAL DEVELOPMENTS COULD MAKE ITS PRODUCTS UNCOMPETITIVE AND OBSOLETEmake its products uncompetitive
and obsolete The industries in which Cadence competes experience rapid technology developments, changes in industry standards, changes in customer requirements and frequent new product introductions and improvements. Currently, the
electronic chipelectronics design industry is experiencing several revolutionary trends:-
• The size of features such as wires, transistors, and contacts on chips is shrinking due to advances in semiconductor manufacturing processes. Process feature sizes refer to the width of the transistors and the width and spacing of the interconnect on the chip. Feature size is normally identified by the headline transistor length, which is shrinking from 0.35 microns to 0.18 microns and below. This is commonly referred to in the semiconductor industry as the migration to deep submicron and it represents a major challenge for all levels of the semiconductor industry from chip design and design automation to design of manufacturing equipment and the manufacturing process itself. Shrinkage of transistor length to such infinitesimal proportions (for reference, the diameter of the period at the end of this sentence is approximately 400 microns) is challenging fundamental laws of physics and chemistry. - The ability to design very large chips, in particular integration of entire electronic systems onto a single chip instead of a circuit board (a process that is referred to in the industry as SOC), increases the complexity of managing a design that at the lowest levelis shrinking due to advances in semiconductor manufacturing processes. Process feature sizes refer to the width of the transistors and the width and spacing of the interconnect on the chip. Feature size is normally identified by the headline transistor length, which is shrinking from 0.35 microns to 0.18 microns and smaller. This is commonly referred to in the semiconductor industry as the migration to deep submicron and it represents a major challenge for all levels of the semiconductor industry from chip design and design automation to design of manufacturing equipment and the manufacturing process itself. Shrinkage of transistor length to such infinitesimal proportions (for reference, the diameter of the period at the end of this sentence is approximately 400 microns) is challenging fundamental laws of physics and chemistry.• The ability to design very large chips, in particular integration of entire electronic systems onto a single chip instead of a circuit board (a process that is referred to in the industry as “system-on-a-chip”), increases the complexity of managing a design that at the lowest level is 31
represented by billions of shapes on the fabrication mask. In addition, systems typically incorporate microprocessors and digital signal processors that are programmed with software, requiring simultaneous design of the silicon chip and the related embedded software on the chip. If Cadence is unable to respond quickly and successfully to these developments and changes, Cadence may lose its competitive position and its products or technologies may become uncompetitive or obsolete. In order to compete successfully, Cadence must develop or acquire new products and improve its existing products and processes on a schedule that keeps pace with technological developments in its industries. Cadence must also be able to support a range of changing computer software, hardware platforms and customer preferences. There is no guarantee that Cadence will be successful in this regard.
CADENCE'S FAILURE TO OBTAIN SOFTWARE OR OTHER INTELLECTUAL PROPERTY LICENSES OR ADEQUATELY PROTECT ITS PROPRIETARY RIGHTS COULD SERIOUSLY HARM ITS BUSINESS Cadence'sCadence’s failure to obtain software or other intellectual property licenses or adequately protect its
proprietary rights could seriously harm its businessCadence’s success depends, in part, upon its proprietary technology. Many of
Cadence'sCadence’s products include software or other intellectual property licensed from third parties, and Cadence may have to seek new or renew existing licenses for this software and other intellectual property in the future.Cadence'sCadence’s design services business also requires it to license software or other intellectual propertyoffrom third parties.Cadence'sCadence’s failure to obtain for its use software or other intellectual property licenses or other intellectual property rights on favorable terms, or the need to engage in litigation over these licenses or rights, could seriously harmCadence'sCadence’s business, operating results, and financial condition.Also, Cadence generally relies on patents, copyrights, trademarks and trade secret laws to establish and protect its proprietary rights in technology and products. Despite precautions Cadence may take to protect its intellectual property, Cadence cannot assure you that third parties will not try to challenge, invalidate, or circumvent these patents. Cadence also cannot assure you that the rights granted under its patents will provide it with any competitive advantages, patents will be issued on any of its pending
24applications, or future patents will be sufficiently broad to protect Cadence'sCadence’s technology. Furthermore, the laws of foreign countries may not protectCadence'sCadence’s proprietary rights in those countries to the same extent as U.S. law protects these rights in theU.S.United States.Cadence cannot assure you that its reliance on licenses from or to third parties, or that patent, copyright, trademark, and trade secret protections, will be enough to be successful and profitable in the industries in which Cadence competes.
INTELLECTUAL PROPERTY INFRINGEMENT BY OR AGAINST CADENCE COULD SERIOUSLY HARM ITS BUSINESS
Intellectual property infringement by or against Cadence could seriously harm its business There are numerous patents in the electronics design automation, or EDA, industry and new patents are being issued at a rapid rate. It is not always economically practicable to determine in advance whether a product or any of its components infringes the patent rights of others. As a result, from time to time, Cadence may be forced to respond to or prosecute intellectual property infringement claims to protect its rights or defend a
customer'scustomer’s rights. These claims, regardless of merit, could consume valuable management time, result in costly litigation, or cause product shipment delays, all of which could seriously harmCadence'sCadence’s business, operating results, and financial condition. In settling these claims, Cadence may be required to enter into royalty or licensing agreements with the third parties claiming infringement. These royalty or licensing agreements, if available, may not have terms acceptable to Cadence. Being forced to enter into a license agreement with unfavorable terms could seriously harmCadence'sCadence’s business, operating results, and financial condition. Any potential intellectual property litigation could force us to do one or more of the following:- Pay damages to the party claiming infringement; - Stop licensing, or providing services that use, the challenged intellectual property; - Obtain a license from the owner of the infringed intellectual property to sell or use the relevant technology, which license may not be available on reasonable terms, or at all; or -
• Pay damages to the party claiming infringement; • Stop licensing, or providing services that use, the challenged intellectual property; 32
• Obtain a license from the owner of the infringed intellectual property to sell or technology, which license may use the relevant not be available on reasonable terms, or at all; or • Redesign the challenged technology, which could be time-consuming and costly. If we were forced to take any of these actions, our business and results of operations may be harmed.
CADENCE OBTAINS KEY COMPONENTS FOR ITS HARDWARE PRODUCTS FROM A LIMITED NUMBER OF SUPPLIERS
Cadence obtains key components for its hardware products from a limited number of suppliers Cadence depends on several suppliers for certain key components and board assemblies used in its hardware-based
emulationverification products.Cadence'sCadence’s inability to develop alternative sources or to obtain sufficient quantities of these components or board assemblies could result in delays or reductions in product shipments. In particular, Cadence currently relies onXilinx, Inc. andTaiwan Semiconductor Manufacturing Corporation for the supply of key integrated circuits and on IBM for the hardware components forboth Cadence's CoBALT-TM- productCadence’s COBALT™ andMercury Design Verification System-TM-.MERCURYPLUS™ products. Other disruptions in supply may also occur. If there were such a reduction or interruption,Cadence'sCadence’s results of operations would be seriously harmed. Even if Cadence can eventually obtain these components from alternative sources, a significant delay inCadence'sCadence’s ability to deliver products would result.FLUCTUATIONS IN QUARTERLY RESULTS OF OPERATIONS COULD HURT CADENCE'S BUSINESS AND THE MARKET PRICE OF ITS STOCKFluctuations in quarterly results of operations could hurt Cadence’s business and the market price of its stock
Cadence has experienced, and may continue to experience, varied quarterly operating results. Various factors affect
Cadence'sCadence’s quarterly operating results and some of them are not withinCadence'sCadence’s control, including the mix of products and services sold, the mix of licenses used to sell products and the timing of significant orders for its software products and services by customers. Quarterly operating results are affected by the mix of products and services sold because there are significant differences in margins from the sale of hardware and software products and services. For example, based on a three-year averagein 1999through 2000, Cadence had realized gross margins on software product sales of approximately91%90% but realized gross margins of approximately65%67% on hardware product sales and32%approximately 33% on its performance of services. In25the thirdsecond quarter of2000,2001, realized gross marginsremained flat at 91%increased to approximately 92% for software products,anddecreased to approximately63%60% for hardware products, and increased to approximately36%34% for services. In addition,Cadence'sCadence’s quarterly operating results are affected by the mix of licenses entered into in connection with the sale of software products. Cadence has three basic licensing models: perpetual, fixed-term, and subscription. Perpetual and fixed-term licenses recognize a larger portion of the revenue at the beginning of the license period and subscription licenses recognize revenue ratably over each quarter of the term of the license. As Cadence customers purchase more software products pursuant to subscription agreements, future operating results may be lower than that of comparable quarters in which perpetual and fixed-term licenses were in greater use for software product transactions. Finally,Cadence'sCadence’s quarterly operating results are affected by the timing of significant orders for its software products because a significant number of contracts for software products are in excess of $5 million. The failure to close a contract for the sale of one or more orders ofCadence'sCadence’s software products could seriously harm its quarterly operating results.Sales of
Cadence'sCadence’s hardware products depend, in significant part, upon the decision of the prospective customer to commence a project for the design and development of complex computer chips and systems. These projects often require significant commitments of time and capital.Cadence'sCadence’s hardware sales may be delayed if customers delay commencement of projects. Cadence has experienced greater delays during 2001 than in the past and such increase in delays may continue. Lengthy hardware sales cycles subject Cadence to a number of significant risks over which Cadence has little or no control, including insufficient, excess or obsolescent inventory, variations in inventory valuation and fluctuations in quarterly operating results.In addition, Cadence bases its expense budgets partially on its expectations of future revenue. However, it is difficult to predict revenue levels or growth. Revenue levels that are below
Cadence'sCadence’s expectations could seriously hurtCadence'sCadence’s business, operating results, and financial condition. If revenue or33
operating results fall short of the levels expected by public market analysts and investors, the trading price of Cadence common stock could decline dramatically. Also, because of the timing of large orders and itscustomers'customers’ buying patterns, Cadence may not learn of revenue shortfalls, earnings shortfalls or other failures to meet market expectations until late in a fiscal quarter, which could cause even more immediate and serious harm to the trading price of Cadence common stock.BecauseCadence
has no long-term experience providing services, itbelieves that quarter-to-quarter comparisons ofitsthe results of operations of its services business segments may not be meaningful. Therefore, stockholders should not viewCadence'sCadence’s historical results of operations as reliable indicators of its future performance. In addition, many of our services engagements are terminable with little or no advance notice and without penalty. Since a significant portion of our costs is fixed, we may not be able to reduce our costs in a timely manner in connection with the unanticipated revenue loss when one or more projects is terminated.THE LENGTHY SALES CYCLE OF CADENCE'S PRODUCTS AND SERVICES MAKES THE TIMING OF ITS REVENUE DIFFICULT TO PREDICT AND MAY CAUSE ITS OPERATING RESULTS TO FLUCTUATE UNEXPECTEDLYThe lengthy sales cycle of Cadence’s products and services makes the timing of its revenue difficult to predict
and may cause its operating results to fluctuate unexpectedly Cadence has a lengthy sales cycle that generally extends at least three to
fivesix months. The length of our sales cycle may cause our revenue and operating results to vary unexpectedly from quarter to quarter. The complexity and expense associated with our business generally requires a lengthy customer education and approval process. Consequently, we may incur substantial expenses and devote significant management effort and expense to develop potential relationships that do not result in agreements or revenue and may prevent us from pursuing other opportunities.In addition, sales of our products and services may be delayed if customers delay approval or commencement of projects because of:
- Customers' budgetary constraints and internal acceptance review procedures; - The timing of customers' budget cycles; and - The timing of customers' competitive evaluation processes. 26
• Customers’ budgetary constraints and internal acceptance review procedures; • The timing of customers’ budget cycles; and • The timing of customers’ competitive evaluation processes. If customers experience delays in their approval or project commencement activities, we may not learn of, and therefore would not be able to communicate to the public, revenue or earnings shortfalls until late in a fiscal quarter.
CADENCE EXPECTS TO ACQUIRE OTHER COMPANIES AND MAY NOT SUCCESSFULLY INTEGRATE THEM OR THE COMPANIES IT HAS RECENTLY ACQUIREDCadence has recently completed acquisitions, expects to acquire other companies or businesses, and may not
successfully integrate them Cadence has acquired other businesses before and
mayis likely to do so again. While Cadence expects to analyze carefully all potential transactions before committing to them, Cadence cannot assure you that any transaction that is completed will result in long-term benefits to Cadence or its stockholders, or thatCadence'sCadence’s management will be able to manage the acquired businesses effectively. In addition, growth through acquisition involves a number of risks. If any of the following events occurs after Cadence acquires another business, it could seriously harmCadence'sCadence’s business, operating results, and financial condition:- Difficulties in combining previously separate businesses into a single unit; -
• Difficulties in combining previously separate businesses into a single unit; • The substantial diversion of management’s attention from day-to-day business when negotiating these transactions and then integrating an acquired business; • The discovery after the acquisition has been completed of liabilities assumed from the acquired business; • The failure to realize anticipated benefits such as cost savings and revenue enhancements; • The failure to retain key personnel of the acquired business; 34
• Difficulties related to assimilating the products of an acquired business in, for example, distribution, engineering, and customer support areas; • Unanticipated costs; • Adverse effects on existing relationships with suppliers and customers; and • Failure to understand and compete effectively in markets in which we have limited previous experience. Cadence’s international operations may seriously harm its financial condition because of
management's attention from day-to-day business when negotiating these transactions and then integrating an acquired business; - The discovery after the acquisition has been completed of liabilities assumed from the acquired business; - The failure to realize anticipated benefits such as cost savings and revenue enhancements; - The failure to retain key personnel of the acquired business; - Difficulties related to assimilating the products of an acquired business in, for example, distribution, engineering, and customer support areas; - Unanticipated costs; - Adverse effects on existing relationships with suppliers and customers; and - Failure to understand and compete effectively in markets in which we have limited previous experience. CADENCE'S INTERNATIONAL OPERATIONS MAY SERIOUSLY HARM ITS FINANCIAL CONDITION BECAUSE OF SEVERAL WEAK FOREIGN ECONOMIES AND THE EFFECT OF FOREIGN EXCHANGE RATE FLUCTUATIONSseveral weak foreign
economies and the effect of foreign exchange rate fluctuations Cadence has significant operations outside the United States.
Cadence'sCadence’s revenue from international operations as a percentage of total revenue was approximately 46% for the three months ended June 30, 2001 and July 1, 2000. Cadence’s revenue from international operations as a percentage of total revenue was approximately 42% and43%44% for thethree and ninesix months endedSeptemberJune 30,2000, respectively,2001 and47% and 52% for the three and nine months ended October 2, 1999,July 1, 2000, respectively. Cadence also transacts business in various foreign currencies.Recent economic uncertainty and the volatility of foreign currencies in certain parts of the Asia-Pacific region and Europe, has had, and may continue to have, a seriously harmful effect on Cadence's revenue and operating results.Fluctuations in the rate of exchange between the U.S. dollar and the currencies of countries other than theU.S.United States in which Cadence conducts business could seriously harm its business, operating results, and financial condition. For example, if there is an increase in the rate at which a foreign currency exchanges into U.S. dollars, it will take more of the foreign currency to equal a specified amount of U.S. dollars than before the rate increase. If Cadence prices its products and services in the foreign currency, it will receive less in U.S. dollars than it did before the rate increase went into effect. If Cadence prices its products and services in U.S. dollars, an increase in the exchange rate will result in an increase in the price forCadence'sCadence’s products and services compared to those products of its competitors that are priced in local currency. This27could result in Cadence'sCadence’s prices being uncompetitive in markets where business is transacted in the local currency.Cadence'sCadence’s international operations may also be subject to other risks, including:- The adoption and expansion of government trade restrictions; - Volatile foreign exchange rates and currency conversion risks; - Limitations on repatriation of earnings; - Reduced protection of intellectual property rights in some countries; - Recessions in foreign economies; - Longer receivables collection periods and greater difficulty in collecting accounts receivable; - Difficulties in managing foreign operations; - Political and economic instability; - Unexpected changes in regulatory requirements; - Tariffs and other trade barriers; and -
• The adoption and expansion of government trade restrictions; • Volatile foreign exchange rates and currency conversion risks; • Limitations on repatriation of earnings; • Reduced protection of intellectual property rights in some countries; • Recessions in foreign economies; • Longer receivables collection periods and greater difficulty in collecting accounts receivable; • Difficulties in managing foreign operations; • Political and economic instability; • Unexpected changes in regulatory requirements; • Tariffs and other trade barriers; and • U.S. government licensing requirements for export which make licenses difficult to obtain. Cadence expects that revenue from its international operations will continue to account for a significant portion of its total revenue.
Exposure to foreign currency transaction risk can arise when transactions are conducted in a currency different from the functional currency of a Cadence subsidiary. A
subsidiary'ssubsidiary’s functional currency is the currency in which it primarily conducts its operations, including product pricing, expenses and borrowings. Cadence uses foreign currency forward exchange contracts and purchases foreign currency put options to help protect against currency exchange risks. These forward contracts and put options allow Cadence to buy35
or sell specific foreign currencies at specific prices on specific dates. Increases or decreases in the value ofCadence'sCadence’s foreign currency transactions are partially offset by gains and losses on these forward contracts and put options. Although Cadence attempts to reduce the impact of foreign currency fluctuations, significant exchange rate movements may hurtCadence'sCadence’s results of operations as expressed in U.S. dollars.Foreign currency exchange risk occurs for some of
Cadence'sCadence’s foreign operations whose functional currency is the local currency. The primary effect of foreign currency translation onCadence'sCadence’s results of operations is a reduction in revenue from a strengthening U.S. dollar, offset by a smaller reduction in expenses. Exchange rate gains and losses on the translation into U.S. dollars of amounts denominated in foreign currencies are included as a separate component ofstockholders'stockholders’ equity.FAILURE TO OBTAIN EXPORT LICENSES COULD HARM CADENCE'S BUSINESSFailure to obtain export licenses could harm Cadence’s business
Cadence must comply with U.S. Department of Commerce regulations in shipping its software products and other technologies outside the U.S. Although Cadence has not had any significant difficulty complying with these regulations so far, any significant future difficulty in complying could harm
Cadence'sCadence’s business, operating results, and financial condition.CADENCE'S INABILITY TO COMPETE IN ITS INDUSTRIES COULD SERIOUSLY HARM ITS BUSINESSCadence’s inability to compete in its industries could seriously harm its business
The EDA market and the commercial electronics design and methodology services industries are highly competitive. If Cadence is unable to compete successfully in these industries, it could seriously harm
Cadence'sCadence’s business, operating results, and financial condition. To compete in these industries, Cadence must identify and develop innovative and cost competitive electronic design automation software products and market them in a timely manner. It must also gain industry acceptance for its design and methodology28services and offer better strategic concepts, technical solutions, prices and response time, or a combination of these factors, than those of other design companies and the internal design departments of electronics manufacturers. Cadence cannot assure you that it will be able to compete successfully in these industries. Factors whichthat could affectCadence'sCadence’s ability to succeed include:- The development of competitive EDA products and design and methodology services could result in a shift of customer preferences away from Cadence's products and services and significantly decrease revenue; - The electronics design and methodology services industries are relatively new and electronics design companies and manufacturers are only beginning to purchase these services from outside vendors; - The pace of the technology change demands continuous technological development to meet the requirements of next-generation design challenges; and -
• The development of competitive EDA products and design and methodology services could result in a shift of customer preferences away from Cadence’s products and services and significantly decrease revenue; • The electronics design and methodology services industries are relatively new and electronics design companies and manufacturers are only beginning to purchase these services from outside vendors; • The pace of the technology change demands continuous technological development to meet the requirements of next-generation design challenges; and • There are a significant number of current and potential competitors in the EDA industry and the cost of entry is low. In the EDA products industry, Cadence currently competes with
a number ofthree large companies,includingAvant! Corporation, Mentor Graphics Corporation, and Synopsys, Inc.and Zuken-Redac,, and numeroussmallsmaller companies. Cadence also competes with manufacturers of electronic devices that have developed or have the capability to develop their own EDA products. Many manufacturers of electronic devices may be reluctant to purchase services from independent vendors such as Cadence because they wish to promote their own internal design departments. In the electronics design and methodology services industries, Cadence competes with numerous electronic design and consulting companies as well as with the internal design capabilities of electronics manufacturers. Other electronics companies and management consulting firms continue to enter the electronic design and methodology services industries.CADENCE IS SUBJECT TO THE CYCLICAL NATURE OF THE INTEGRATED CIRCUIT INDUSTRY, AND ANY FUTURE DOWNTURNS WILL LIKELY REDUCE OUR REVENUE Purchases of our products36
Cadence’s failure to attract, train, motivate, and
services are highly dependent upon the commencement of new design projects by integrated circuit manufacturers. The integrated circuit industry is highly cyclical and is characterized by constant and rapid technological change, rapid product obsolescence and price erosion, evolving standards, short product life cycles, and wide fluctuations in product supply and demand. The industry has experienced significant downturns, often connected with, or in anticipation of, maturing product cycles of both integrated circuit companies' and their customers' products and a decline in general economic conditions. These downturns have been characterized by diminished product demand, production overcapacity, high inventory levels and accelerated erosion of average selling prices. During these downturns, the number of new integrated circuit design projectsretain key employees maydecrease. Any future downturns may reduce our revenue andharmour results of operations. CADENCE'S FAILURE TO ATTRACT, TRAIN, MOTIVATE, AND RETAIN KEY EMPLOYEES MAY HARM ITS BUSINESSits businessCompetition for highly skilled employees is very intense.
Cadence'sCadence’s business depends on the efforts and abilities of its senior management, its research and development staff, and a number of other key management, sales, support, technical, and services personnel. The high cost of training new personnel, not fully utilizing these personnel, or losing trained personnel to competing employers could reduce our gross margins and harm our business and operating results. Competition for these personnel is intense, particularly in geographic areas recognized as high technology centers such as the Silicon Valley area, where our principal offices are located, and the other locations where we maintainlargefacilities. To attract and retain individuals with the requisite expertise, we may be required to grant large numbers of stock options or other stock-based incentive awards, which may be dilutive to existing stockholders. We may also be required to pay significant base salaries and cash bonuses, which could harm our operating29results. If we do not succeed in hiring and retaining candidates with appropriate qualifications, we will not be able to grow our business and our operating results will suffer. Cadence'sCadence’s failure to attract, train, motivate, and retain key employees would impair its development of new products, its ability to provide design and methodology services and the management of its businesses. This would seriously harmCadence'sCadence’s business, operating results, and financial condition.IF CADENCE BECOME SUBJECT TO UNFAIR HIRING CLAIMS, CADENCE COULD BE PREVENTED FROM HIRING NEEDED PERSONNEL, INCUR LIABILITY FOR DAMAGES AND INCUR SUBSTANTIAL COSTS IN DEFENDING ITSELFIf Cadence becomes subject to unfair hiring claims, Cadence could be prevented from hiring needed
personnel, incur liability for damages and incur substantial costs in defending itself Companies in
Cadence'sCadence’s industry whose employees accept positions with competitors frequently claim that these competitors have engaged in unfair hiring practices or that the employment of these persons would involve the disclosure or use of trade secrets. These claims could prevent us from hiring personnel or cause us to incur liability for damages. Cadence could also incur substantial costs in defendingourselvesitself or its employees against these claims, regardless of their merits. DefendingourselvesCadence from these claims could also divert the attention ofitsCadence’s management away from its operations.ERRORS OR DEFECTS IN CADENCE DESIGNS COULD EXPOSE IT TO LIABILITY AND HARM OUR REPUTATION Cadence'sErrors or defects in Cadence designs could expose it to liability and harm our reputation
Cadence’s customers use its products and services in designing and developing products that involve a high degree of technological complexity, each of which has its own specifications and is based on various industry standards. Because of the complexity of the systems and products with which Cadence works, some of its products and designs can be adequately tested only when put to full use in the marketplace. As a result, its customers or their end users may discover errors or defects in
Cadence'sCadence’s software or the systems Cadence designs, or the products or systems incorporating its design and intellectual property may not operate as expected. Errors or defects could result in:-
• Loss of current customers and loss of, or delay in, revenue and loss of market share; • Failure to attract new customers or achieve market acceptance; • Diversion of development resources to resolving the problem; • Increased service costs; and • Liability for damages. We rely on a continuous power supply to conduct our operations, and California’s current energy crisis could
disrupt our operations and increase our expenses California is in the midst of an energy crisis that could disrupt our operations and increase our expenses. In the event of an acute power shortage, that is, when power reserves for the State of California fall below 1.5%, California has on some occasions implemented, and may in the future continue to implement, rolling blackouts throughout California. We currently have backup generators or alternate sources of power
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for critical operations in the event of a blackout. If, however, blackouts interrupt our power supply, or the power supply of our service providers, we may be temporarily unable to continue operations at our facilities. Any such interruption in our ability to continue operations at our facilities could damage our reputation, harm our ability to retain existing customers andloss of or delay in revenue and loss of market share; - Failuretoattractobtain new customers, and could result in lost revenue, any of which could substantially harm our business and results of operations. Our current insurance does not provide coverage for any damages we orachieve market acceptance; - Diversionour customers may suffer as a result ofdevelopment resources to resolving the problem; - Increased service costs;any interruption in our power supply.Anti-takeover defenses in Cadence’s charter, by-laws, and
- Liability for damages. ANTI-TAKEOVER DEFENSES IN CADENCE'S CHARTER, BY-LAWS, AND UNDER DELAWARE LAW COULD PREVENT AN ACQUISITION OF CADENCE OR LIMIT THE PRICE THAT INVESTORS MIGHT BE WILLING TO PAY FOR CADENCE COMMON STOCKunder Delaware law could prevent an acquisition
of Cadence or limit the price that investors might be willing to pay for Cadence common stock Provisions of the Delaware General Corporation Law that apply to Cadence and its Certificate of Incorporation could make it difficult for another company to acquire control of Cadence. For example:
- Section 203 of the Delaware General Corporation Law generally prohibits a Delaware corporation from engaging in any business combination with a person owning 15% or more of its voting stock, or who is affiliated with the corporation and owned 15% or more of its voting stock at any time within three years prior to the proposed business combination, for a period of three years from the date the person became a 15% owner, unless specified conditions are met. - Cadence's Certificate of Incorporation allows Cadence's Board of Directors to issue, at any time and without stockholder approval, preferred stock with such terms as it may determine. No shares of preferred stock are currently outstanding. However, the rights of holders of any Cadence preferred stock that may be issued in the future may be superior to the rights of holders of its common stock. - Cadence has a rights plan, commonly known as a "poison pill," which would make it difficult for someone to acquire Cadence without the approval of Cadence's Board of Directors. 30
• Section 203 of the Delaware General Corporation Law generally prohibits a Delaware corporation from engaging in any business combination with a person owning 15% or more of its voting stock, or who is affiliated with the corporation and owned 15% or more of its voting stock at any time within three years prior to the proposed business combination, for a period of three years from the date the person became a 15% owner, unless specified conditions are met. • Cadence’s Certificate of Incorporation allows Cadence’s Board of Directors to issue, at any time and without stockholder approval, preferred stock with such terms as it may determine. No shares of preferred stock are currently outstanding. However, the rights of holders of any Cadence preferred stock that may be issued in the future may be superior to the rights of holders of its common stock. • Cadence has a rights plan, commonly known as a “poison pill,” which would make it difficult for someone to acquire Cadence without the approval of Cadence’s Board of Directors. All or any one of these factors could limit the price that certain investors would be willing to pay for shares of Cadence common stock and could delay, prevent or allow
Cadence'sCadence’s Board of Directors to resist an acquisition of Cadence, even if the proposed transaction was favored by a majority ofCadence'sCadence’s independent stockholders.ITEMCadence’s inability to deal effectively with the conversion to the euro may negatively impact its marketing
and pricing strategies On January 1, 1999, 11 member countries of the European Union adopted the euro as their common legal currency and established fixed conversion rates between their sovereign currencies and the euro. Transactions can be made in either the sovereign currencies or the euro until January 1, 2002, when the euro must be used exclusively. Currently, only electronic transactions may be conducted using the euro. Cadence is in the process of upgrading its internal systems and believes that its financial institution vendors are capable of handling the euro conversion and Cadence is in the process of examining current marketing and pricing policies and strategies that may be affected by conversion to the euro. The cost of this effort is not expected to materially harm Cadence’s results of operations or financial condition. However, Cadence cannot assure you that all issues related to the euro conversion have been identified and that any additional issues would not materially harm Cadence’s results of operations or financial condition. For example, the conversion to the euro may have competitive implications on Cadence’s pricing and marketing strategies and Cadence may be at risk to the extent its principal European suppliers and customers are unable to deal effectively with the impact of the euro conversion. Cadence has not yet completed its evaluation of the impact of the euro conversion on its functional currency designations.
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Item 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK DISCLOSURES ABOUT MARKET RISK INTEREST RATE RISK Cadence'sQuantitative and Qualitative Disclosures About Market RiskDisclosures about Market Risk
Interest Rate Risk
Cadence’s exposure to market risk for changes in interest rates relates primarily to its investment portfolio and long-term debt obligations. While Cadence is exposed with respect to interest rate fluctuations in many of the
world'sworld’s leading industrialized countries,Cadence'sCadence’s interest income and expense is most sensitive to fluctuations in the general level of U.S. interest rates. In this regard, changes in U.S. interest rates affect the interest earned onCadence'sCadence’s cash and cash equivalents, short-term and long-term investments, and interest paid on its long-term debt obligations as well as costs associated with foreign currency hedges.Cadence invests in high quality credit issuers and, by policy, limits the amount of its credit exposure to any one issuer. As stated in its policy,
Cadence'sCadence’s first priority is to reduce the risk of principal loss. Consequently, Cadence seeks to preserve its invested funds by limiting default risk, market risk, and reinvestment risk. Cadence mitigates default risk by investing in only high quality credit securities that it believes to be low risk and by positioning its portfolio to respond appropriately to a significant reduction in a credit rating of any investment issuer or guarantor. The portfolio includes only marketable securities with active secondary or resale markets to ensure portfolio liquidity.On September 29, 2000, Cadence entered into two syndicated senior unsecured credit facilities that allow Cadence to borrow up to $350 million, referred to as the 2000 Facilities. The 2000 Facilities replace a prior $355 million revolving credit facility
referred to as the 1998 Facility,consisting ofwhicha $177.5 millionexpiredtwo-year revolving credit facility, which was terminated on September 27, 2000, and a $177.5 million 364-day revolving credit facility, which was terminated immediately prior toclosingconsummation of the 2000 Facilities. One of the new 2000 Facilities is a $100 million three-year revolving credit facility, referred to as the Three-Year Facility. The other new facility is a $250 million 364-day revolving credit facility convertible into a two-year term loan, referred to as the 364-Day Facility. The Three-Year Facility terminates on September 29, 2003. The 364-Day Facility will terminate on September 28, 2001, at which time therevolving credit facility364-Day Facility may be converted to a two-year term loan with a maturity date of September 29, 2003, or, at the request of Cadence and with the consent of members of the bank group that wish to do so, the termination date of therevolving facility364-Day Facility may be extended for one additional 364-day period with respect to the portion of the364-day364-Day Facility that a consenting bank holds. For both of the 2000 Facilities, Cadence has the option to pay interest based on LIBOR plus a spread of between 1.25% and 1.50%, based on a pricing grid tied to a financial covenant, or the higher of (i) the(i)Federal Funds Rate plus 0.50%andor (ii) the prime rate. As a result,Cadence'sCadence’s interestrateexpenses associated with this borrowing will vary with market rates. In addition, commitment fees are payable on the unused portion of the Three-Year Facility at rates between 0.25% and 0.34% based on a pricing grid tied to a financial covenant and on the unused portion of the 364-Day Facility at a fixed rate of 0.20%. Cadence may not borrow under the364-day facility364-Day Facility at any time that any portion of the Three-Year Facility remains unused. The 2000 Facilities contain certain financial and other covenants. At June 30, 2001, there were no borrowings outstanding under the 2000 Facilities.The table below presents the carrying value and related weighted average interest rates for
Cadence's investment portfolio.Cadence’s interest bearing instruments. All highly liquid investments with an original maturity of three months or less at the date of purchase are considered to be cash equivalents; investments with original maturities between three and 12 months are considered to be short-term investments. Investments with original maturities greater31than 12 months are considered non-current assets.long-term investments. As ofSeptemberJune 30,2000,2001, all ofCadence'sCadence’s39
investments have maturities of less than 12 months. The carrying value approximated fair value atSeptemberJune 30,2000.
FAIR AVERAGE VALUE INTEREST RATE -------- -------------(In millions, except for average interest rates) Investment Securities: Short-term investments-fixed rate......................... $ 5.8 6.58% Cash equivalents-fixed rate............................... 9.3 5.89% Cash equivalents-variable rate............................ 60.6 5.06% ----- ---- Total interest bearing instruments...................... $75.7 5.28% ===== ====INTEREST RATE SWAP RISK2001.
Carrying Average Value Interest Rate (In millions) Interest Bearing Instruments: Cash — variable rate $ 54.0 3.80% Cash — fixed rate 16.4 3.05% Short-term investments — fixed rate 11.0 3.94% Cash equivalents — variable rate 1.0 3.38% Total interest bearing instruments $ 82.4 3.67% Interest Rate Swap Risk
In October 1998, Cadence entered into a 4.8% fixed interest rate-swap in connection with its accounts receivable financing program to modify the interest rate characteristics of the receivables sold to a financing institution on a non-recourse basis.
At SeptemberAs of June 30,2000,2001, the notional amount payable was$10.8$4.3 millionwhichthat will be amortized in quarterly installments of approximately $2.2 million through October 2001. The estimated fair value atSeptemberJune 30,20002001 wasimmaterial. FOREIGN CURRENCY RISK Cadence'snegligible.Foreign Currency Risk
Cadence’s operations include transactions in foreign currencies and, as
a result,such, Cadence benefits from a weaker dollar and isharmedadversely affected by a stronger dollar relative to major currencies worldwide. Accordingly, the primary effect of foreign currency transactions onCadence'sCadence’s results of operations is a reduction in revenueand expensesfrom a strengthening U.S.dollar.dollar, offset by a smaller reduction in expenses.Cadence enters into foreign currency forward exchange contracts and purchases foreign currency put options with financial institutions primarily to protect against currency exchange risks associated with existing assets and liabilities and probable but not firmly committed transactions, respectively. Forward contracts are not accounted for as hedges and, therefore, the unrealized gains and losses are recognized in other income, net in advance of the actual foreign currency cash flows with the fair value of these forward contracts being recorded as accrued liabilities.
Cadence purchases put options to hedge the currency exchange risks associated with probable but not firmly committed transactions. Probable but not firmly committed transactions consist of revenue from
Cadence'sCadence’s products and maintenance contracts in a currency other than the functional currency. These transactions are made throughCadence'sCadence’s subsidiaries in Ireland and Japan. The premium costs of the put options are recorded in other current assets while the gains and losses are deferred and recognized in income in the same period as the hedged transaction. Gains and losses on accounting hedges realized before the settlement date of the related hedged transaction are also generally deferred and recognized in income in the same period as the hedged transaction. Cadence does not use forward contracts and put options for trading purposes.Cadence'sCadence’s ultimate realized gain or loss with respect to currency fluctuations will depend on the currency exchange rates and other factors in effect as the forward contracts and put options mature.The table below provides information as of
SeptemberJune 30,20002001 aboutCadence'sCadence’s forward contracts. As of June 30, 2001, there were no put options outstanding. The information is provided in U.S. dollar equivalent40
amounts. The table presents the notional amounts, at32contract exchange rates, and the weighted average contractual foreign currency exchange rates. These forward contracts mature on or before November 16, 2000.prior to September 13, 2001.
AVERAGE NOTIONAL CONTRACT AMOUNT RATE -------- --------Forward Contracts: (In millions, except for average contract rates) Japanese yen.............................................. $ 39.7 105.67 Euro...................................................... 34.2 0.90 British pound sterling.................................... 25.6 1.50 Swedish krona............................................. 2.8 9.66 Canadian dollars.......................................... 2.6 1.48 Hong Kong dollars......................................... 0.9 7.80 Singapore dollars......................................... 0.2 1.74 ------ $106.0 ======
Weighted Average Notional Contract Amount Rate (In millions) Forward Contracts: Euro $ 37.8 0.86 Japanese yen 24.7 121.54 Swedish krona 11.7 10.59 British pound sterling 8.3 1.37 Canadian dollars 3.9 1.53 Hong Kong dollars 1.4 7.80 Singapore dollars 1.3 1.81 $ 89.1 Estimated fair value $ (0.4 ) While Cadence actively manages its foreign currency risks on an ongoing basis, there can be no assurance that
Cadence'sCadence’s foreign currency hedging activities will substantially offset the impact of fluctuations in currency exchange rates on its results of operations, cash flows, and financial position. On a net basis, foreign currency fluctuations did not have a material impact onCadence'sCadence’s consolidated results of operations and financial position during thethree monthsquarter endedSeptemberJune 30,2000. Due to the short-term nature of the forward contracts, the fair value at September 30, 2000 was negligible.2001. The realized gain (loss) on the forward contracts as they matured was not material to the consolidated operations of Cadence.EQUITY PRICE RISKEquity Price Risk
Cadence repurchases shares of its common stock under its stock repurchase program. Repurchased shares will be used for general corporate purposes including the share issuance requirements of Cadence’s employee stock option and purchase plans and acquisitions. As part of
its authorizedthese repurchaseprogram,programs, Cadence hassold put warrantspurchased andpurchasedwill purchase call optionsthrough private placements.or has sold and will sell put warrants. The put warrants, if exercised and settled by physical delivery of shares, would entitle the holder to sell shares of Cadence common stock to Cadence at a specified price. Similarly, the call options entitle Cadence to buy shares of Cadence common stock at a specified price. Cadencerepurchases shares of its common stock under stock repurchase programs for issuance under its Employee Stock Purchase Plan, or ESPP, its 1997 Stock Option Plan, referred to as the 1997 Plan, and its 2000 Stock Option Plan. As part of these repurchase programs, Cadencehaspurchased and will purchase call options or has sold and will sell put warrants. These transactions may result in sales of a large number of shares and consequent decline in the market price of Cadence common stock. Cadence's stock repurchase program includes the following characteristics: - Call options allow Cadence to buy shares of its common stock on a specified day at a specified price. If the market price of the stock is greater than the exercise price of a call option, Cadence will typically exercisethe optionand receive sharesto elect “net share settlement”, rather than physical settlement, ofits stock. If the market price of the common stockput warrants that are exercised; that is,less than the exercise price of a call option, Cadence typically will not exercise the option. - Call option issuers may accumulate a substantial number of shares of Cadence common stock in anticipation of Cadence's exercising its call option and may dispose of these shares if and when Cadence fails to exercise its call option. This could cause the market price of Cadence common stock to fall. - Put warrants allow the holder to sell to Cadence shares of Cadence common stock on a specified day at a specified price.Cadence has the right to settle the exercised put warrants with shares of Cadence common stock valued at the difference between the exercise price and the fair value of the stock at the date of exercise.33- Depending on the exercise priceThese transactions may result in sales ofthe put warrantsa large number of shares and consequent decline in the market price of Cadence common stock. Cadence’s stockatrepurchase program includes thetime of exercise, settlement of the put warrants with Cadence common stock could cause Cadence to issue a substantial number of shares to the holder of the put warrant. The holder may sell these shares in the open market, which could cause the price of Cadence common stock to fall. -following characteristics:
• Call options allow Cadence to buy shares of its common stock on a specified day at a specified price. If the market price of the stock is greater than the exercise price of a call option, Cadence will typically exercise the option and receive shares of its stock. If the market price of the common stock is less than the exercise price of a call option, Cadence typically will not exercise the option. • Call option issuers may accumulate a substantial number of shares of Cadence common stock in anticipation of Cadence’s exercising its call option and may dispose of these shares if and when Cadence fails to exercise its call option. This could cause the market price of Cadence common stock to fall. 41
• Depending on the exercise price of the put warrants and the market price of Cadence common stock at the time of exercise, “net share settlement” of the put warrants with Cadence common stock could cause Cadence to issue a substantial number of shares to the holder of the put warrant. The holder may sell these shares in the open market, which could cause the price of Cadence common stock to fall. • Put warrant holders may accumulate a substantial number of shares of Cadence common stock in anticipation of exercising their put warrants and may dispose of these shares if and when they exercise their put warrants and Cadence issues shares in settlement of their put warrants. This could also cause the market price of Cadence common stock to fall. The table below provides information
at Septemberas of June 30,20002001 aboutCadence'sCadence’s outstanding put warrants and call options. The table presents the contract amounts and the weighted average strike prices. The put warrants and call options expire on various dates throughMay 2001February 2002 and Cadence has the contractual ability to settle the options prior to their maturity.
2000 2001 ESTIMATED MATURITY MATURITY FAIR VALUE -------- -------- ----------(Shares and contract amounts in millions) Put Warrants: Shares.................................................... 3.1 1.9 Weighted average strike price............................. $21.16 $21.06 Contract amount........................................... $ 65.6 $ 39.2 $ 4.4 Call Options: Shares.................................................... 2.2 1.4 Weighted average strike price............................. $21.34 $21.31 Contract amount........................................... $ 48.0 $ 29.8 $20.534
2001 2002 Estimated Maturity Maturity Fair Value (Shares and contract amounts in millions) Put Warrants: Shares 3.4 1.7 Weighted average strike price $ 25.15 $ 25.13 Contract amount $ 86.4 $ 42.4 $ 35.6 Call Options: Shares 2.5 1.3 Weighted average strike price $ 25.42 $ 25.38 Contract amount $ 63.5 $ 31.7 $ 3.0 42
PART II. OTHER INFORMATION
ITEMItem 1.
LEGAL PROCEEDINGSLegal ProceedingsFrom time to time Cadence is involved in various disputes and litigation matters that arise in the ordinary course of business. These include disputes and lawsuits related to intellectual property, mergers and acquisitions, licensing, contract law, distribution arrangements, and employee relations matters.
Cadence filed a complaint in the U.S. District Court for the Northern District of California on December 6, 1995 against Avant! Corporation and certain of its employees for misappropriation of trade secrets, copyright infringement, conspiracy, and other illegal acts.
On January 16, 1996, Avant! filed various counterclaims against Cadence and Joseph B. Costello,
Cadence'sCadence’s former President and Chief Executive Officer, and with leave of the court, on January 29, 1998, filed a second amended counterclaim. The second amended counterclaim alleges,INTER ALIA,inter alia, that Cadence and Mr. Costello had cooperated with the Santa Clara County, California, District Attorney and initiated and pursued its complaint against Avant! for anti-competitive reasons, engaged in wrongful activity in an attempt to manipulate Avant!'s’s stock price, and utilized certain pricing policies and other acts to unfairly compete against Avant! in the marketplace. The second amended counterclaim also alleges that certain Cadence insiders engaged in illegal insider trading with respect to Avant!'s’s stock. Cadence and Mr. Costello believe that they have meritorious defenses to Avant!'s’s claims, and each intends to defend such action vigorously. By an order dated July 13, 1996, the court bifurcated Avant!'s’s counterclaim fromCadence'sCadence’s complaint and stayed the counterclaim pending resolution ofCadence'sCadence’s complaint. The counterclaim remains stayed.In an order issued on December 19, 1997, as modified on January 26, 1998, the District Court entered a preliminary injunction barring Avant! from any further infringement of
Cadence'sCadence’s copyrights inDesign Framework IIDESIGN FRAMEWORK II® software, or selling, licensing or copying such product derived fromDesign FrameworkDESIGN FRAMEWORK II, including, but not limited to, Avant!'s’s ArcCell products. On December 7, 1998, the District Court issued a further preliminary injunction, which enjoined Avant! from selling its Aquarius product line. Cadence posted a $10 million bond in connection with the issuance of the preliminary injunction. On July 30, 1999, the U.S. Court of Appeals for the Ninth Circuit affirmed the preliminary injunction.By an order dated July 22, 1997, the District Court stayed most activity in the case pending in that court and ordered Avant! to post a $5 million bond in light of related criminal proceedings pending against Avant! and several of its executives.
On September 7, 1999, the District Court ruled on the
parties'parties’ Motions for Summary Adjudication, and granted in part, and denied in part, eachparty'sparty’s motion regarding the scope of a June 6, 1994 Release Agreement between the parties. The court held thatCadence'sCadence’s copyright infringement claim against Avant! is not barred by the release and that Cadence may proceed on that claim. The court also held thatCadence'sCadence’s trade secret claim based on Avant!'s’s use ofCadence's Design FrameworkCadence’s DESIGN FRAMEWORK II source code is barred by the release.TheOn May 15, 2001, the Ninth Circuithas agreed to hearheard oral arguments by bothparties' appealparties on their appeals from the DistrictCourt'sCourt’s order. On June 11, 2001, the Ninth Circuit certified a question of California law to the California Supreme Court. The Ninth Circuit’s request has not yet been accepted or rejected by the California Supreme Court. The trial date has been vacated pending a decision on theappeal and the outcome of the criminal case, for which the trial is scheduled to begin in February 2001. On April 30, 1999, Cadence and several of its officers and directors were named as defendants in a lawsuit filed in the U.S. District Court for the Northern District of California, entitled Spett v. Cadence Design Systems, et al., civil action no. C 99-2082. The action was brought on behalf of a class of stockholders who purchased Cadence common stock between November 4, 1998 and April 20, 1999, and alleges violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. The lawsuit arises out of Cadence's announcement of its first quarter 1999 financial results. On September 18, 2000 the District Court granted Cadence's Motion to Dismiss Plaintiffs' Claims with leave to amend. To date, no amended complaint has been filed. Should an amended complaint be filed, Cadence and the individual defendants intend to continue their vigorous defense of the allegations. 35appeal. In February 1998, Aptix Corporation and Meta Systems, Inc. filed a lawsuit against Quickturn Design Systems, Inc. in the U.S. District Court for the Northern District of California. In this lawsuit, entitled Aptix Corporation and Meta Systems, Inc. v. Quickturn Design Systems, Civil Action No. C 98-00762 WHA, Aptix and Meta Systems alleged that Quickturn infringed a U.S. patent owned by Aptix and licensed to Meta. Quickturn filed a counterclaim requesting the District Court to declare the Aptix patent invalid in view of the prior art and unenforceable based on inequitable conduct during the
43
prosecution of the patent. In June 2000 the District Court entered judgment in favor of Quickturn, dismissing the complaint and declaring the patent unenforceable. The Court also granted summary judgment to Aptix denying Quickturn’s abuse of process counterclaim, and Quickturn filed an appeal brief on June 30, 2000. On September 8, 2000 the Court ordered Aptix to pay $4.2 million to Quickturn as reimbursement to Quickturn of theattorneys'attorneys’ fees and costs it incurred in the litigation. Aptix has appealed theDistrict's Court'sDistrict’s Court’s judgment and, in the meantime, has agreed to post a $2 million bond to secure the judgment. The U.S. Court of Appeals for the Federal Circuit heard oral arguments on June 7, 2001 on Aptix and Meta’s appeal of the sanctions and claim construction and on Quickturn’s appeal of the denial of its abuse of process counterclaim. On June 8, 2001, the Federal Circuit affirmed the District Court’s dismissal of Quickturn’s abuse of process counterclaim. Aptix’s appeal is under submission.On January 7, 1999, in the suit captioned Mentor Graphics Corporation, et. al. v. Lobo, et. al., Delaware Chancery Court, New Castle County, Civ. Action No. 16843-NC (“Mentor v. Lobo”), an amended complaint was filed and served by Mentor asserting claims against Cadence, Quickturn Design Systems, Inc. and its Board of Directors for declaratory and injunctive relief for various alleged breaches of fiduciary duty purportedly owned by Quickturn and its Board of Directors to Quickturn’s shareholders in connection with the merger between Quickturn and Cadence. Mentor alleged that Cadence aided and abetted Quickturn and its Board of Directors in those purported breaches. Mentor has not prosecuted the matter since January 1999. In May 2000, Mentor advised the Delaware Chancery Court of its objection to the settlement of a companion action brought on behalf of certain Quickturn shareholders. Mentor further advised the court that it would seek an award of attorneys’ fees related to its prosecution of the Mentor v. Lobo action. At the request of the court, on July 28, 2000, Mentor filed its brief in support of its standing to seek such an award. Cadence, Quickturn and the individual defendants have opposed Mentor’s request. A hearing on the matter was held on February 2, 2001. The court has taken the matter under submission.
On April 30, 1999, Cadence and several of its officers and directors were named as defendants in a lawsuit filed in the U.S. District Court for the Northern District of California, entitled Spett v. Cadence Design Systems, et al., civil action no. C 99-2082. The action was brought on behalf of a class of stockholders who purchased Cadence common stock between November 4, 1998 and April 20, 1999, and alleges violations of Sections 10(b) and 20(a) of the Securities Exchange Act of 1934. The lawsuit arises out of Cadence’s announcement of its first quarter 1999 financial results. On September 18, 2000 the District Court granted Cadence’s Motion to Dismiss Plaintiffs’ Claims with leave to amend. To date, no amended complaint has been filed. Should an amended complaint be filed, Cadence and the individual defendants intend to continue their vigorous defense of the allegations.
In early 1999, Cadence entered into negotiations with Intelect Communications, Inc., and Intelect’s wholly-owned subsidiary, DNA Enterprises, Inc., with respect to a potential purchase of substantially all the assets of DNA. The transaction was not consummated and, in July 1999, Intelect and DNA filed suit against Cadence in a Texas state court alleging breach of contract, fraud, negligent misrepresentation and breach of fiduciary duty, seeking unspecified compensatory and punitive damages. Cadence has answered, denying liability, and discovery has concluded. In February 2001, Cadence filed a motion for partial summary judgment. The Court has taken the motion under submission but has not yet issued a ruling. A trial date has been scheduled for October 1, 2001. Cadence believes that it has defenses to, and it disputes, the allegations made by Intelect and DNA, including the allegation that a purchase contract was entered into, and intends to defend the action vigorously.
On July 21, 1999, Mentor filed suit against Quickturn in the U.S. District Court for the District of Delaware, alleging that
Quickturn's Mercury-TM-Quickturn’s MERCURY™ hardware emulation systems infringe U.S. Patent Nos. 5,777,489 and 5,790,832 allegedly assigned to Mentor. AtQuickturn'sQuickturn’s request, Cadence was added as a party defendant. Mentor has since asserted thatQuickturn's Mercury Plus(plus)-TM-Quickturn’s MERCURYPLUS™ emulation systems also infringe44
U.S. Patent Nos. 5,777,489 and 5,790,832. The complaint seeks a permanent injunction and unspecified damages. Cadence intends to vigorously defend itself against these claims. On December 14, 1999, this action was transferred to the U.S. District Court for the Northern District of California, and renumbered Civil Action No. C 99-5464 SI.On February 25, 2000, Cadence and several of its officers were named as defendants in a lawsuit filed in the U.S. District Court for the Northern District of California, entitled Maxick v. Cadence Design Systems, Inc., File No. C 00 0658PJH. The action was brought on behalf of a class of shareholders of OrCAD, Inc., and alleges violations of Section 14(d)(7) of the Securities Exchange Act of 1934, as amended, and Rule 14d-10 thereunder. The lawsuit arises out of
Cadence'sCadence’s acquisition of OrCAD, which was completed in August 1999.Cadence'sCadence’s Motion to Dismissplaintiffs'plaintiffs’ claims was denied. Discovery is continuing. The defendants believe the complaint is without merit and intend to continue their vigorous defense of the allegations.On March 24, 2000, Mentor and Meta and several founders of Meta filed suit against Quickturn and Cadence and a former Quickturn employee in the U.S. District Court for the Northern District of California, Civil Action No. C 00-01030
SI.WHA. The suit alleges patent infringement of a U.S. Patent allegedly assigned to Mentor, misappropriation of trade secrets and breach of confidence, and seeks unspecified damages, injunctive relief and the assignment to Mentor of a patent previously issued to Quickturn. Cadence intends to vigorously defend itself against these claims, and has filed a counterclaim for declaratory judgment of invalidity of several patents allegedly assigned to Mentor. Following a motion by Cadence, the former Quickturn employee was dismissed as a party to the action. Discovery in the action has subsequently been consolidated with discovery in Civil Action No. C 99-5464, the Mentor v. Quickturn suit transferred from Delaware.On
January 7, 1999,September 11, 2000, Mentor filed a complaint against Quickturn and Cadence in thesuit captioned Mentor Graphics Corporation, et. al. v. Lobo, et. al., Delaware ChanceryU.S. District CourtNew Castle County, Civ. Actionfor the Northern District of California (Case No.16843-NC ("Mentor v. Lobo"), an amended complaint was filedC-00-03291) accusing Quickturn andserved by Mentor asserting claims againstCadenceQuickturn Design Systems, Inc. and its BoardofDirectors for declaratory and injunctive relief for various alleged breaches of fiduciary dutyinfringing U.S. Patent No. 5,574,388, purportedly owned by Mentor and seeking unspecified damages and injunctive relief. Quickturn andits BoardCadence believe the complaint filed by Mentor is without substance and that the patent that is the subject ofDirectors to Quickturn's shareholdersthis suit inconnection withinvalid and not infringed. Cadence and Quickturn are vigorously defending themerger between Quickturn and Cadence. Mentor alleged that Cadence aided and abetted Quickturn and its Board of Directors in those purported breaches. Mentor has not prosecuted the matter since January 1999. In May 2000, Mentor advised the Delaware Chancery Court of its objection to the settlement of a companion action brought on behalf of certain Quickturn shareholders. Mentor further advised the court that it would seek an award of attorneys' fees related to its prosecution of the Mentor v. Lobo action. At the request of the court, on July 28,claim. On November 3, 2000, Mentor filedits brief in supporta motion for preliminary injunction, asking the Court to prohibit the sale ofits standingQuickturn’s MERCURYPLUS emulation systems prior toseek such an award. Cadence, Quickturn and the individual defendants have opposed Mentor's request.trial of this action. Thecourt is awaiting Mentor's Reply Brief and will then takehearing on that motion was held on April 17, 2001. The Court took the matter under submission.36The parties have agreed to consolidate this action with Civil Action Nos. C99-5464 and C 00-01030 WHA, described above, for purposes of discovery and pre-trial motions. A trial date of October 7, 2002 has been set for all three actions. On November 2, 2000, Mentor and Meta filed a complaint for declaratory judgment against Quickturn and Cadence in the U.S. District Court for the District of Oregon (Case No. C-00-1489) seeking a ruling that Mentor’s proposed design verification approach (in which chip designers would use U.S.-based computer terminals to operate SimExpress emulation systems located overseas) will not infringe Quickturn’s patents and will not violate the permanent injunction entered by the Oregon District Court on July 7, 1999 in Civil Action No. C-96-00342. On January 5, 2001, Quickturn and Cadence answered the complaint. In their answer, Quickturn and Cadence denied Mentor and Meta’s contention, and asserted that Mentor and Meta’s complaint lacks subject matter jurisdiction and is barred by res judicata and collateral estoppel. In January 2001, Quickturn and Cadence filed a Motion to Dismiss the action, based on lack of subject matter jurisdiction. On May 1, 2001, the Court provisionally granted Quickturn’s motion to dismiss.
On November 22, 2000, a former design services customer, Uniden Corporation, filed an action for fraud, negligent misrepresentation and breach of contract in the State Court of Texas against Cadence and other corporate defendants. Uniden seeks compensatory and punitive damages in an unspecified amount. The suit was filed after Cadence demanded payment of approximately $1 million for design services rendered
45
to Uniden. Cadence since has filed a counterclaim to recover the approximate $1 million owed for services rendered. The parties agreed to dismiss voluntarily the actions pending in the State Court of Texas and to re-file in the State Court of California, County of Orange. Uniden refilled its Complaint on July 2, 2001 in Orange County, California. Cadence intends to file its answer and counterclaim on or before September 11, 2001.On December 28, 2000, a former design services customer, Scanz Communications, filed an action for fraud, breach of contract, negligence, intentional interference with prospective advantage, negligent interference with prospective advantage, negligent misrepresentation and unfair business practices in the Los Angeles Superior Court of California against Cadence and Tality. Scanz seeks compensatory and punitive damages in an unspecified amount. The suit was filed after Cadence demanded payment of $4,657,556.17 for design services rendered to Scanz. Cadence demurred to Scanz’ complaint. Cadence’s demurrer was sustained on all causes of actions. Accordingly, Scanz’s complaint was dismissed on March 13, 2001, with leave to amend. Cadence and Tality filed a Complaint against Scanz in April 2001 for recovery of the $4,657,556.17 owed. Scanz filed its First Amended Complaint on April 2, 2001, to which Cadence demurred on May 7, 2001. Cadence filed a cross-complaint against Scanz on May 8, 2001. On June 25, 2001, Cadence’s demurrers to the first amended complaint were sustained in part. On July 10, 2001 Scanz filed a second amended complaint.
On June 2, 2001 Cadence filed a cross-complaint against Scanz alleging breach of contract and unjust enrichment, and seeking declaratory relief. On July 12, 2001, Scanz filed an answer to Cadence’s cross-complaint denying all allegations. Cadence intends to vigorously defend the claims alleged by Scanz.
Management believes that the ultimate resolution of the disputes and litigation matters discussed above will not have a material adverse effect on
Cadence'sCadence’s business, operating results or financial condition. However, were an unfavorable ruling to occur in any specific period, there exists the possibility of a material adverse impact on the result ofoperationsoperations.Item 2. Changes in Securities and Use of
that period. ITEMProceedsDuring the quarter ended June 30, 2001, 272,297 shares of common stock were issued by Cadence in connection with one of Cadence’s acquisitions pursuant to an exemption under Regulation S under the Securities Act of 1933, as amended.
Item 3. Defaults Upon Senior Securities
None.
46
Item 4. Submission of Matters to a Vote of Security Holders
At the Annual Meeting of Stockholders held on May 16, 2001, the stockholders of Cadence approved the following matters:
1. A proposal to elect eight (8) directors of Cadence to serve for the ensuing year and until their successors are elected or until such director’s earlier resignation or removal.
Nominee In Favor Withheld H. Raymond Bingham 183,380,447 42,440,790 Susan L. Bostrom 225,261,500 559,737 Dr. Leonard Y.W. Liu 225,238,755 582,482 Donald L. Lucas 225,214,844 606,393 Dr. Alberto Sangiovanni-Vincentelli 187,255,565 38,565,672 George M. Scalise 225,246,927 574,310 Dr. John B. Shoven 225,259,217 562,020 Roger S. Siboni 225,258,878 562,359 2.
CHANGES IN SECURITIES AND USE OF PROCEEDSA proposal to approve the Amended and Restated Senior Executive Bonus Plan was approved by a vote of 220,789,910 for, 4,743,608 opposed, and 287,719 withheld.3. A proposal for the ratification of the selection of Arthur Andersen LLP as independent public accountants for the fiscal year ending December 29, 2001 was approved by a vote of 221,634,239 for, 4,136,224 opposed, and 50,774 withheld.
Item 5. Other Information
None.
ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. ITEM 5. OTHER INFORMATION None. ITEMItem 6.
EXHIBITS AND REPORTS ON FORMExhibits and Reports on Form 8-K(a) The following exhibits are filed herewith:
EXHIBIT NUMBER EXHIBIT TITLE - --------------------- -------------2.01 Amended and Restated Agreement of Limited Partnership of Tality, LP dated October 4, 2000, between Tality Corporation and Cadence Holdings, Inc. 2.02 Amended and Restated Master Separation Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality LP. 2.03 General Assignment and Assumption Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality, LP. 2.04 Master Intellectual Property Ownership and License Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality, LP. 2.05 Employee Matters Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality, LP. 2.06 Master Corporate Services Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality, LP. 2.07 Real Estate Matters Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality, LP. 2.08 Master Confidentiality Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality, LP. 2.09 Indemnification and Insurance Matters Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality, LP. 2.10 Asset Purchase Agreement dated as of October 4, 2000 by and among the Registrant, Cadence Design System (Canada) Limited and Tality Canada Corporation. 2.11 Asset Purchase Agreement dated as of October 3, 2000 by and among Symbionics Limited, the Registrant and Cadence Design Systems Limited. 2.12 Fixed Term License Agreement dated as of October 4, 2000 between the Registrant and Tality, LP. 2.13 Joint Technology Development and Support Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality, LP.37
EXHIBIT NUMBER EXHIBIT TITLE - --------------------- -------------2.14 Joint Sales Agreement dated as of October 4, 2000 by and among Tality Corporation, the Registrant, Cadence Holdings, Inc. and Tality, LP. 10.01 Credit Agreement, dated as of September 29, 2000, by and among the Registrant and ABN AMRO Bank N.V., Bank One, N.A., KeyBank National Association and UBS AG, Stamford Branch. 10.02 364 Day Credit Agreement, dated as of September 29, 2000, by and among the Registrant and ABN AMRO Bank N.V., Bank One, N.A., KeyBank National Association and UBS AG, Stamford Branch. 10.03 The Registrant's 1997 Stock Option Plan, as amended on November 1, 2000. 10.04 The Registrant's 2000 Non-Statutory Equity Incentive Plan, as amended (incorporated by reference to the Registrant's Form S-8 Registration Statement filed on November 14, 2000). 10.05 Employment Agreement between Tality Corporation and Robert P. Wiederhold dated as of July 14, 2000. 10.06 Tality Corporation 2000 Equity Incentive Plan, as amended. 10.07 Tality Corporation Directors Stock Option Plan 27.01 Financial data schedule for the period ended September 30, 2000.
Exhibit Number Exhibit Title 2.1 7 Assignment and Assumption Agreement, dated as of June 2, 2001, by and between Tality Corporation and Tality, LP. 2.1 8 Master Amendment and Consent, effective as of June 2, 2001 by and among the Registrant, Tality Corporation, Tality Transition Corporation, Tality, LP, and Cadence Holdings, Inc. 10.5 0 Tality Holdings, Inc. 2000 Equity Incentive Plan. 10.5 1 Tality Holdings, Inc. Directors Stock Option Plan. 10.5 6 Form of Letter Agreement between the Registrant and certain holders of Tality Corporation Class A Common Stock and regarding the repurchase of Tality stock. 10.5 7 The Registrant’s 2001 Employee Stock Purchase Plan. 10.5 8 The Registrant’s Non-Qualified Employee Stock Purchase Plan. (b) Reports on Form 8-K:
Cadence filed a Current Report on Form 8-K dated July 17, 2000 attaching Cadence's press release reporting the separation and initial public offering of Tality. Cadence filed a Current Report on Form 8-K dated October 9, 2000 attaching Cadence's press release announcing the delay of the initial public offering of Tality. 38None.
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
CADENCE DESIGN SYSTEMS, INC. (Registrant) Date: November 14, 2000DATE:August 13, 2001
By: /s/ H. RAYMOND BINGHAM -----------------------------------------/s/ H. Raymond Bingham PRESIDENT, CHIEF EXECUTIVE OFFICER, AND DIRECTOR Date: November 14,
H. Raymond Bingham President, Chief Executive Officer, and Director DATE:August 13, 2001
By: /s/ William Porter
William Porter Senior Vice President and Chief Financial Officer 48
EXHIBIT INDEX
Exhibit Number Exhibit Title 2.17 Assignment and Assumption Agreement, dated as of June 2, 2001, by and between Tality Corporation and Tality, LP. 2.18 Master Amendment and Consent, effective as of June 2, 2001 by and among the Registrant, Tality Corporation, Tality Transition Corporation, Tality, LP, and Cadence Holdings, Inc. 10.50 Tality Holdings, Inc. 2000 By: /s/ WILLIAM PORTER ----------------------------------------- William Porter SENIOR VICE PRESIDENT AND CHIEF FINANCIAL OFFICEREquity Incentive Plan.10.51 Tality Holdings, Inc. Directors Stock Option Plan. 10.56 Form of Letter Agreement between the Registrant and certain holders of Tality Corporation Class A Common Stock and regarding the repurchase of Tality stock. 10.57 The Registrant’s 2001 Employee Stock Purchase Plan. 10.58 The Registrant’s Non-Qualified Employee Stock Purchase Plan. 39
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