EXHIBIT 13.1
1996 ANNUAL REPORT TO STOCKHOLDERS
QUICKTURN DESIGN SYSTEMS, INC.
FINANCIAL HIGHLIGHTS
- ------------------------------------------------------------------------------
(AMOUNTS IN THOUSANDS OF DOLLARS EXCEPT PER SHARE AND EMPLOYEE DATA)
For the Fiscal Year 1992 1993 1994 1995 1996
- ------------------- --------- --------- --------- --------- ----------
Total revenue $ 25,779 $ 54,865 $ 65,523 $ 81,800 $ 104,370
Net income (loss) (5,467) (5,356) 4,601 * 13,083 ** 12,639
Net income (loss) per share (1.07) (0.63) 0.32 * 0.90 ** 0.83
Total revenue by geographic area
North America 21,858 40,872 48,594 56,107 65,716
Asia-Pacific 3,852 8,940 9,336 16,449 29,920
Europe 69 5,053 7,593 9,244 8,734
--------- --------- --------- --------- ----------
Total $ 25,779 $ 54,865 $ 65,523 $ 81,800 $ 104,370
--------- --------- --------- --------- ----------
--------- --------- --------- --------- ----------
At Year End
- -----------
Working capital $ 11,632 $ 33,927 $ 34,998 $ 43,538 $ 47,205
Total assets $ 25,352 $ 56,199 $ 77,349 $ 92,784 $ 108,853
Long-term debt $ 938 $ 3,487 $ 3,819 $ 3,502 ---
Stockholders' equity $ 15,368 $ 38,296 $ 49,895 $ 65,627 $ 81,786
Employees 122 177 244 272 333
* The 1995 results include a net year-to-date tax benefit of $3.7 million or
$0.26 per share.
** The 1996 results include a net year-to-date tax benefit of $542,000 or $0.03
per share.
TOTAL REVENUES STOCKHOLDERS' EQUITY WORKING CAPITAL EMPLOYEES
(IN THOUSANDS) (IN THOUSANDS) (IN THOUSANDS)
1992 $ 25,779 1992 $ 15,368 1992 $ 11,632 1992 122
1993 $ 54,865 1993 $ 38,296 1993 $ 33,927 1993 177
1994 $ 65,523 1994 $ 49,895 1994 $ 34,998 1994 244
1995 $ 81,800 1995 $ 65,627 1995 $ 43,538 1995 272
1996 $104,370 1996 $ 81,786 1996 $ 47,205 1996 333
QUICKTURN DESIGN SYSTEMS, INC.
SELECTED CONSOLIDATED FINANCIAL DATA
(AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA)
UNAUDITED
Quarter Ended
--------------------------------------------------------------------
Dec 31 Sep 30 Jun 30 Mar 31 Dec 31 Sep 30 Jun 30 Mar 31
1996 1996 1996 1996 1995 1995 1995 1995
--------- ------- ------- -------- -------- -------- ------- -------
Total revenue $28,786 $27,151 $25,339 $23,094 $23,000 $21,200 $19,600 $18,000
Cost of revenue 8,934 8,464 7,854 7,131 7,012 6,510 6,013 5,547
--------- ------- ------- -------- -------- -------- ------- -------
Gross profit 19,852 18,687 17,485 15,963 15,988 14,690 13,587 12,453
Operating expenses
Research & development 5,226 4,837 4,408 4,077 4,152 3,872 3,576 3,264
Sales & marketing 8,069 7,987 7,627 7,011 7,004 6,512 6,141 5,782
General & administrative 1,751 1,655 1,604 1,466 1,216 1,232 1,169 1,064
--------- ------- ------- -------- -------- -------- ------- -------
Total operating expenses 15,046 14,479 13,639 12,554 12,372 11,616 10,886 10,110
Operating income 4,806 4,208 3,846 3,409 3,616 3,074 2,701 2,343
Interest and other, net 505 510 467 303 192 225 167 153
--------- ------- ------- -------- -------- -------- ------- -------
Net income before provision
for (benefit from)
income taxes 5,311 4,718 4,313 3,712 3,808 3,299 2,868 2,496
Provision for (benefit from)
income taxes 1,216 1,555 1,421 1,223 (2,778) 825 717 624
--------- ------- ------- -------- -------- -------- ------- -------
Net income $4,095 $3,163 $2,892 $2,489 $6,586 $2,474 $2,151 $1,872
--------- ------- ------- -------- -------- -------- ------- -------
--------- ------- ------- -------- -------- -------- ------- -------
Net income per share $0.26 $0.21 $0.19 $0.17 $0.45 $0.17 $0.15 $0.13
--------- ------- ------- -------- -------- -------- ------- -------
--------- ------- ------- -------- -------- -------- ------- -------
Number of shares used
in per share calculations 15,583 15,228 15,171 14,832 14,735 14,741 14,552 14,390
--------- ------- ------- -------- -------- -------- ------- -------
--------- ------- ------- -------- -------- -------- ------- -------
Market price range:
High $21.63 $15.13 $16.50 $11.50 $11.13 $12.00 $10.38 $12.75
Low $11.75 $11.88 $11.13 $ 9.00 $ 9.00 $8.88 $ 7.88 $ 6.50
- ------------------------------------------------------------------------------------------------------
(AS A PERCENTAGE OF TOTAL REVENUE) Quarter Ended
-----------------------------------------------------------------
Dec 31 Sep 30 Jun 30 Mar 31 Dec 31 Sep 30 Jun 30 Mar 31
1996 1996 1996 1996 1995 1995 1995 1995
--------- ------- ------- -------- -------- -------- ------- -------
Total revenue 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0% 100.0%
Cost of revenue 31.0% 31.2% 31.0% 30.9% 30.5% 30.7% 30.7% 30.8%
--------- ------- ------- -------- -------- -------- ------- -------
Gross profit 69.0% 68.8% 69.0% 69.1% 69.5% 69.3% 69.3% 69.2%
Operating expenses
Research & development 18.2% 17.8% 17.4% 17.7% 18.0% 18.3% 18.2% 18.2%
Sales & marketing 28.0% 29.4% 30.1% 30.3% 30.5% 30.7% 31.3% 32.1%
General & administrative 6.1% 6.1% 6.3% 6.3% 5.3% 5.8% 6.0% 5.9%
--------- ------- ------- -------- -------- -------- ------- -------
Total operating expenses 52.3% 53.3% 53.8% 54.3% 53.8% 54.8% 55.5% 56.2%
Operating income 16.7% 15.5% 15.2% 14.8% 15.7% 14.5% 13.8% 13.0%
Interest and other, net 1.7% 1.9% 1.8% 1.3% 0.8% 1.1% 0.8% 0.9%
--------- ------- ------- -------- -------- -------- ------- -------
Net income before provision
for (benefit from)
income taxes 18.4% 17.4% 17.0% 16.1% 16.5% 15.6% 14.6% 13.9%
Provision for (benefit from)
income taxes 4.2% 5.8% 5.6% 5.3% (12.1%) 3.9% 3.6% 3.5%
--------- ------- ------- -------- -------- -------- ------- -------
Net income 14.2% 11.6% 11.4% 10.8% 28.6% 11.7% 11.0% 10.4%
--------- ------- ------- -------- -------- -------- ------- -------
--------- ------- ------- -------- -------- -------- ------- -------
The Company's common stock is traded on the over-the-counter market on
the Nasdaq National Market under the symbol "QKTN." As of December 31, 1996
there were approximately 209 stockholders of record and an estimated 6,000
additional stockholders who held stock in "street name."
17
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
OVERVIEW
Quickturn Design Systems, Inc. (the "Company") designs, manufactures, sells
and supports products that provide system-level verification solutions for
the design of integrated circuits and electronic systems. The Company
currently derives a substantial majority of its revenue from its System
Realizer product and related maintenance and consulting services. Quickturn's
products serve the needs of IC and systems design engineers in a variety of
markets including computers, workstations and PCs, telecommunications,
semiconductor, microprocesser and multimedia graphics. The Company began
operations in 1987 and commenced shipments in 1989. In 1996, the Company
introduced two new software products, Quest II and HDL-ICE 2.0 to enable
customers to more quickly and easily compile their IC designs.
On February 7, 1997, the Company acquired SpeedSim, Inc. ("SpeedSim"), a
provider of cycle-based simulation software for the verification of digital
logic designs (the "SpeedSim Merger") for 2.8 million shares of Quickturn
common stock. The acquisition was accounted for as a pooling of interests.
The Company estimates that it will incur direct transaction costs of at
least $1.2 million associated with the acquisition, which will be charged to
operations during the quarter ending March 31, 1997. See Note 15 of the
Notes to Consolidated Financial Statements.
RESULTS OF OPERATIONS
The following table sets forth certain financial data from the Company's
consolidated statements of operations as a percentage of revenue:
Year Ended December 31,
-----------------------------
1996 1995 1994
-----------------------------
Total revenue 100.0% 100.0% 100.0%
Cost of revenue 31.0% 30.7% 30.9%
-----------------------------
Gross margin 69.0% 69.3% 69.1%
Operating expenses
Research and development 17.8% 18.2% 18.9%
Sales and marketing 29.4% 31.1% 32.4%
General and administrative 6.2% 5.7% 11.6%
-----------------------------
Total operating expenses 53.4% 55.0% 62.9%
Operating income 15.6% 14.3% 6.2%
Interest and other, net 1.7% 0.9% 1.4%
-----------------------------
Net income before provision
for (benefit from) income taxes 17.3% 15.2% 7.6%
Provision for (benefit from) income taxes 5.2% (0.8%) 0.6%
-----------------------------
Net income 12.1% 16.0% 7.0%
-----------------------------
-----------------------------
TOTAL REVENUE
Total revenue increased by $22.6 million, or 28%, to $104.4 million in 1996
over 1995 compared with an increase of $16.3 million, or 25%, in 1995 over
1994. The total revenue growth in both 1996 and 1995 was primarily
attributable to increased sales of greater emulation capacity. System
Realizer product revenue accounted for 71% and 66% of total revenue in 1996
and 1995, respectively, while previous generation emulation products
accounted for 65% of total revenue in 1994. Maintenance revenue for all
products accounted for 16%, 14% and 13% of total revenue in 1996, 1995 and
1994, respectively. On a price per logic gate basis, both product costs and
the average price for an emulation system with equivalent capacity decreased
due to increased efficiency of reprogrammable system components and lower
component costs.
18
Domestic revenue (North American sales) grew by 17%, 15% and 19%, while
international revenue grew by 50%, 52% and 21% in 1996, 1995 and 1994,
respectively. International sales accounted for approximately 37%, 31% and
26% of total revenue in 1996, 1995 and 1994, respectively. The increase in
international sales was largely due to revenue growth in the Asia-Pacific
markets, which increased by 82% to $29.9 million in 1996, and by 76% to
$16.4 million in 1995. Revenue from most international customers is
denominated in U.S. dollars. However, receivables from certain other
international customers are denominated in local currencies. Such receivables
are hedged, where practicable, by forward exchange contracts to minimize the
impact of foreign exchange rate movements on the Company's operating
results. See Note 2 of the Notes to Consolidated Financial Statements.
There can be no assurance that fluctuations in the currency exchange rates in
the future will not have a material adverse impact on the receivables
derived from foreign currency denominated sales and thus the Company's
operating results and financial condition.
Many of the Company's customers order on an as-needed basis and often delay
delivery of firm purchase orders until the commencement dates of such
customers' development projects are determined. Moreover, a significant
portion of the Company's total revenue in each quarter generally results
from shipments in the last few weeks of the quarter; therefore, a delay in
the shipment of a few orders can have a significant impact upon total
revenue and results of operations in a given quarter.
A relatively limited number of customers have historically accounted for a
substantial portion of the Company's revenue. These customers represent early
adopters of emulation technology, typically for the design of complex
integrated circuits. In particular, the Company's top ten customers
represented 51%, 48% and 46% of total revenue in 1996, 1995 and 1994,
respectively. One customer, Fujitsu, comprised 13% of the Company's total
revenue in 1996, and no customer individually comprised more than 10% of the
Company's total revenue in 1995 and 1994. The Company expects that sales of
its products to a relatively limited number of customers will continue to
account for a high percentage of revenue for the foreseeable future. The
loss of a major customer or any reduction in orders by such a customer could
have an adverse effect on the Company's financial condition or results of
operations.
The Company believes that in the future its results of operations in a
quarterly period could be impacted by the timing of customer development
projects and related purchase orders for the Company's emulation systems, new
product announcements and releases by the Company, and economic conditions
generally and in the electronics industry specifically.
The Company recognizes revenue from sales of its emulation products and
services when all
substantial conditions have been met, including shipment to the customer,
fulfillment of acceptance terms, if any, and completion of all significant
contractual terms. Maintenance revenue is deferred and recognized ratably
over the term of the maintenance agreement, which is typically twelve months.
Maintenance contracts are typically renewed annually. Warranty and
similar costs related to post-contract customer support are accrued at the
time of sale.
GROSS MARGINS
Cost of revenue includes materials, labor and overhead incurred in the
manufacture of emulation systems as well as the cost of providing service and
maintenance. Gross margins were approximately 69% of total revenue in each of
the fiscal years 1996, 1995 and 1994. The Company was able to maintain its
gross margins primarily due to a sufficiently large revenue base over which
to spread fixed costs, and to continued manufacturing efficiencies, somewhat
offset by a decreasing average price per logic gate. The Company expects
competitive pressures to increase in its market from existing companies and
new entrants, which among other things could accelerate the trend of such
decreasing average price per logic gate. Accordingly, there can be no
assurance that the Company will be able to sustain its recent gross margins.
Furthermore, to the extent that the Company's cost reduction goals are
achieved, any resulting cost savings that are passed on to the Company's
customers may also have an adverse effect on gross margins.
RESEARCH AND DEVELOPMENT
Research and development expenses increased to $18.5 million in 1996 compared
to $14.9 million in 1995 and $12.4 million in 1994. These increases were
primarily attributable to increased staffing and equipment costs necessary to
enhance current products and research and development activities for the next
generation emulation products. Research and development expenses as a
percentage of total revenue were approximately 18%, 18% and 19% in 1996, 1995
and 1994, respectively. The Company expects to continue to invest a
significant amount of its resources in research and development.
19
SALES AND MARKETING
Sales and marketing expenses were $30.7 million in 1996 compared to $25.4
million in 1995 and $21.2 million in 1994. Sales and marketing expenses
increased in each period due to the expansion of the Company's marketing and
sales organizations and higher sales commissions associated with increased
revenue. As a percentage of total revenue, sales and marketing expenses were
approximately 29%, 31% and 32% in 1996, 1995 and 1994, respectively. The
Company expects that sales and marketing expenses will continue to increase
in absolute dollar amounts as the Company expands its sales and marketing
efforts.
GENERAL AND ADMINISTRATIVE
General and administrative expenses were $6.5 million in 1996 compared to
$4.7 million in 1995 and $7.6 million in 1994. The increase in general and
administrative expenses in 1996 was primarily attributable to increased legal
costs related to a patent infringement lawsuit filed by the Company in
January 1996. See Note 14 of the Notes to Consolidated Financial Statements.
The Company expects general and administrative expenses to increase in 1997
due primarily to continued legal costs associated with the lawsuit. General
and administrative expenses in 1994 included a $3.7 million write-off for bad
debts, consisting of a one-time charge attributed to two customers that
advised the Company in the quarter ended December 31, 1994 of their inability
to meet financial obligations. See Note 2 of the Notes to Consolidated
Financial Statements. General and administrative expenses represented
approximately 6%, 6% and 12% of total revenue in 1996, 1995 and 1994,
respectively.
OTHER INCOME AND EXPENSE
Interest income increased by $392,000 in 1996 over 1995 due primarily to a
greater average balance of cash and cash equivalents and marketable
securities. Interest expenses decreased $316,000 in 1996 over 1995 due to the
payoff of lease lines used to purchase certain fixed assets and the reduction
of other debt.
PROVISION FOR INCOME TAXES
The provision for federal, state and foreign income taxes was an expense of
$5.4 million in 1996, a benefit of $612,000 in 1995 and an expense of
$401,000 in 1994, representing effective tax rates of 30%, (4.9%) and 8%,
respectively. The effective income tax rate in each year was impacted by a
reduction in the Company's valuation allowance against deferred tax assets of
$1.6 million, $6.8 million and $1.1 million for 1996, 1995 and 1994,
respectively. The effective tax rate was also reduced by the tax benefit
from the Company's foreign sales corporation in 1996 and 1995, and by
utilization of federal and state tax credits in all years.
At December 31, 1996, the Company had federal net operating loss
carryforwards of $2.1 million and federal and state tax credit carryforwards
of $300,000 and $50,000, respectively. A significant portion of the Company's
net operating loss and tax credit carryforwards were acquired in a merger and
are subject to an annual limitation of approximately $1.2 million.
FACTORS AFFECTING OPERATING RESULTS
COMPETITION
The EDA industry is highly competitive and rapidly changing. The Company
faces significant competition for emulation-based system-level verification,
in addition to competition from traditional design verification methodologies
which rely on the approach of building and then testing complete system
prototypes. Because of customers' requirements for a design verification
methodology which reduces the number of costly design iterations and improves
product quality, the Company expects competition in the market for
system-level verification to increase as other companies attempt to introduce
emulation products and product enhancements. Moreover, the Company competes
with companies that have significantly greater financial, technical and
marketing resources, greater name recognition and larger installed bases than
the Company. In addition, many of these competitors have established
relationships with current and potential customers of the Company. Increased
competition could result in price reductions, reduced margins and loss of
market share, all of which could materially adversely affect the Company.
The Company believes that the principal competitive factors in the EDA market
are
20
quality of results, the mission-critical nature of the technology, technical
support, product performance, reputation, price and support of industry
standards. The Company believes that it currently competes favorably with
respect to these factors. However, there can be no assurance that the Company
will be able to compete successfully against current and future competitors
or that competitive pressures faced by the Company will not materially
adversely affect its business, operating results and financial condition.
In addition, competitors may resort to litigation as a means of competition.
Such litigation may result in substantial costs to the Company and
significant diversion of management time. In 1995, Mentor Graphics
Corporation ("Mentor") filed suit against the Company for declaratory
judgment of noninfringement, invalidity and unenforceability of several of
the Company's patents. Six of the Company's patents are now involved in the
disputes and the Company has filed counterclaims against Mentor and Mentor's
French subsidiary, Meta Systems ("Meta"), for infringement and threatened
infringement of those six patents. Furthermore, in January 1996, the Company
filed a complaint with the International Trade Commission, seeking to stop
unfair importation of hardware logic emulation systems manufactured by Meta
on the grounds that such systems infringe the Company's patents. See Note 14
of the Notes to Consolidated Financial Statements. Although patent and
intellectual property disputes in the EDA industry are often settled through
licensing, cross-licensing or similar arrangements, costs associated with
such litigation and arrangements may be substantial.
RISKS ASSOCIATED WITH THE SPEEDSIM MERGER
On February 7, 1997, the Company completed the SpeedSim Merger. There can be
no assurance that the Company will not incur additional charges in subsequent
quarters to reflect costs associated with the SpeedSim Merger or that
management will be successful in its efforts to integrate the operations of
the acquired company. Although the Company believes the SpeedSim Merger is in
the best interest of the Company and its stockholders, there are significant
risks associated with these transactions, including but not limited to: (i)
difficulties in the integration of SpeedSim, (ii) difficulties in maintaining
revenue levels during product transitions, (iii) difficulties or delays in
achieving product and technology integration benefits, and (iv) increased
competition from other software companies. Moreover, SpeedSim is a company
in the early stages of development. As a result, the Company believes that
the increases in operating expenses associated with the development and
integration of these new technologies will, in the near term, greatly exceed
any associated increases in revenue which will have an adverse impact on
operating results.
OTHER FACTORS
Other factors which could adversely affect the Company's quarterly operating
results in the future include efficiencies as they relate to managing
inventories and fixed assets, the timing of expenditures in anticipation of
increased sales, customer product delivery requirements and shortages of
components or labor. Moreover, a significant portion of the Company's total
revenue in each quarter generally results from shipments in the last few
weeks of the quarter; therefore, a delay in the shipment of a few orders can
have a significant impact upon total revenue and results of operations in a
given quarter. Additionally, as a significant portion of the Company's
revenue and net income may come from international operations, fluctuations
of the U.S. dollar against foreign currencies and the seasonality of
Asia-Pacific, European and other international markets could impact the
Company's results of operations and financial condition in a particular
quarter.
Due to the factors above, the Company's future earnings and stock price may
be subject to significant volatility, particularly on a quarterly basis. Any
shortfall in total revenue or earnings from levels expected by securities
analysts has had and could in the future have an immediate and significant
adverse effect on the trading price of the Company's common stock.
Additionally, the Company may not learn of such shortfalls until late in a
fiscal quarter, which could result in an even more immediate and adverse
effect on the trading price of the Company's common stock.
LIQUIDITY AND CAPITAL RESOURCES
As of December 31, 1996, the Company had $52.4 million in cash, cash
equivalents and marketable securities. Additionally, the Company had $9.8
million in unsecured revolving bank lines of credit. To date, no funds have
been drawn from the bank lines of credit. The Company's credit agreements
contain certain affirmative and restrictive covenants that are typical of
such commercial lending arrangements. The agreements require, among other
things, that the Company maintain a stipulated tangible net worth, meet
certain financial ratios (quick asset to current liability and debt to
tangible net
worth), achieve annual profitability targets and maintain quarterly debt
service. The agreements also prohibit, among other things, the Company from
paying cash dividends. See Note 7 of the Notes to Consolidated Financial
Statements.
21
Net cash provided by operating activities was $20.9 million in 1996, $10.9
million in 1995 and $2.7 million in 1994. The increase in cash provided by
operating activities in 1996 as compared to 1995 was primarily attributable
to an increase in deferred revenue and a significantly smaller increase in
deferred income taxes offset by an increase in inventories. Additionally,
the increase in cash provided by operations in 1995 as compared to 1994 was
primarily attributable to greater net income from operations and a
significantly smaller increase in accounts receivable and inventories in 1995
compared to the increase in accounts receivable and inventories in 1994,
offset by a decrease in accounts payable and accrued liabilities in 1995
compared to an increase in accounts payable and accrued liabilities in 1994.
Net cash used in investing activities was $13.4 million in 1996, as compared
with $500,000 provided by investing activities in 1995, and $32.4 million
used in investing activities in 1994. Net cash used in investing activities
was related primarily to net purchases of marketable securities, and to
acquisitions of property and equipment. The Company expects that investment
levels and net cash used in investing activities will increase in future
periods.
Capital expenditures, including capital leases, were approximately $6.2
million, $7.7 million and $9.3 million in 1996, 1995 and 1994, respectively.
These expenditures were primarily for the expansion of production capacity
and the addition of research and development equipment. While the Company has
no material capital commitments, the Company anticipates that its planned
purchases of capital equipment in 1997 will require additional expenditures
of approximately $11.0 million, a portion of which may be financed with cash
and a portion of which may be financed through capital leases.
The Company believes that its current cash and cash equivalents, together
with its existing credit facility and the cash flows expected to be generated
by operations, will be sufficient to meet its anticipated cash needs for
working capital, capital expenditures and marketing expansion through at
least 1997. Thereafter, if cash generated from operations is insufficient to
satisfy the Company's liquidity requirements, the Company may sell additional
equity or debt securities or obtain additional credit facilities.
22
QUICKTURN DESIGN SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF INCOME
(AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA)
Year Ended December 31,
-----------------------------
1996 1995 1994
--------- ---------- --------
Revenue
Product revenue $ 83,259 $ 67,679 $ 55,170
Maintenance and service revenue 21,111 14,121 10,353
--------- ---------- --------
Total revenue 104,370 81,800 65,523
Cost of revenue
Cost of product revenue 25,833 20,752 17,049
Cost of maintenance and service revenue 6,550 4,330 3,199
--------- ---------- --------
Total cost of revenue 32,383 25,082 20,248
--------- ---------- --------
Gross profit 71,987 56,718 45,275
Operating expenses
Research and development 18,548 14,864 12,414
Sales and marketing 30,694 25,439 21,195
General and administrative 6,476 4,681 7,612
--------- ---------- --------
Total operating expenses 55,718 44,984 41,221
Operating income 16,269 11,734 4,054
Interest income 2,126 1,734 1,368
Interest expense (420) (736) (437)
Other, net 79 (261) 17
--------- ---------- --------
Net income before provision
for (benefit from) income taxes 18,054 12,471 5,002
Provision for (benefit from) income taxes 5,415 (612) 401
--------- ---------- --------
Net income $ 12,639 $ 13,083 $ 4,601
--------- ---------- --------
--------- ---------- --------
Net income per share $ 0.83 $ 0.90 $ 0.32
--------- ---------- --------
--------- ---------- --------
Number of shares used in per
share calculations 15,204 14,605 14,350
--------- ---------- --------
--------- ---------- --------
The accompanying notes are an integral part of these consolidated
financial statements.
23
QUICKTURN DESIGN SYSTEMS, INC.
CONSOLIDATED BALANCE SHEETS
(AMOUNTS IN THOUSANDS EXCEPT SHARE DATA)
December 31,
------------------
ASSETS 1996 1995
--------- --------
Current assets
Cash and cash equivalents $ 23,911 $17,216
Marketable securities 10,314 14,181
Accounts receivable, net of allowance for
doubtful accounts of $1,840 in 1996 and 1995 21,537 20,706
Inventories 10,141 7,805
Prepaid expenses and other current assets 2,770 1,895
Deferred income taxes 5,599 5,390
--------- --------
Total current assets 74,272 67,193
Marketable securities 18,198 9,110
Fixed assets, net 11,032 13,003
Deferred income taxes 2,939 2,639
Other assets 2,412 839
--------- --------
Total assets $108,853 $92,784
--------- --------
--------- --------
LIABILITIES
Current liabilities
Current portion of long term debt $ 3,502 $ 3,401
Accounts payable 873 869
Accrued liabilities 14,541 15,847
Deferred revenue 8,151 3,538
--------- --------
Total current liabilities 27,067 23,655
Long term debt -- 3,502
--------- --------
Total liabilities 27,067 27,157
--------- --------
Commitments and contingencies (Notes 9 and 14).
STOCKHOLDERS' EQUITY
Preferred stock, $.001 par value: Authorized:
2,000,000 shares; Issued and outstanding: no shares -- --
Common stock, $.001 par value: Authorized: 20,000,000
shares; Issued and outstanding: 14,122,558 shares in
in 1996; 13,596,060 shares in 1995 14 14
Additional paid-in capital 75,119 71,507
Unrealized holding gain on marketable securities 10 102
Retained earnings (deficit) 6,643 (5,996)
--------- --------
Total stockholders' equity 81,786 65,627
--------- --------
Total liabilities and stockholders' equity $108,853 $92,784
--------- --------
--------- --------
The accompanying notes are an integral part of these consolidated
financial statements.
24
QUICKTURN DESIGN SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
(AMOUNTS IN THOUSANDS EXCEPT SHARE DATA)
Unrealized
Common Stock Additional Holding Gain (Loss) Retained
----------------------- Paid-in on Marketable Earnings
Shares Amount Capital Securities (Deficit) Total
------------ -------- ----------- ------------------- ----------- --------
BALANCES, DECEMBER 31, 1993 12,118,020 $12 $61,964 -- $(23,680) $38,296
Issuance of common stock, less
issuance costs 510,000 1 5,691 -- -- 5,692
Issuance of common stock,
employee stock purchase plan 87,360 -- 598 -- -- 598
Exercise of stock options and warrants 386,687 -- 344 -- -- 344
Tax benefit from option exercises -- -- 700 -- -- 700
Unrealized holding loss on marketable
securities -- -- -- $(336) -- (336)
Net income -- -- -- -- 4,601 4,601
------------ -------- ----------- ------------------- ----------- --------
BALANCES, DECEMBER 31, 1994 13,102,067 13 69,297 (336) (19,079) 49,895
Issuance of common stock,
employee stock purchase plan 158,488 -- 1,091 -- -- 1,091
Exercise of stock options 335,505 1 574 -- -- 575
Tax benefit from option exercises -- -- 545 -- -- 545
Unrealized holding gain on marketable
securities -- -- -- 438 -- 438
Net income -- -- -- -- 13,083 13,083
------------ -------- ----------- ------------------- ----------- --------
BALANCES, DECEMBER 31, 1995 13,596,060 14 71,507 102 (5,996) 65,627
Issuance of common stock,
employee stock purchase plan 198,117 -- 1,452 -- -- 1,452
Exercise of stock options 328,381 -- 1,161 -- -- 1,161
Tax benefit from option exercises -- -- 999 -- -- 999
Unrealized holding loss on marketable
securities -- -- -- (92) -- (92)
Net income -- -- -- -- 12,639 12,639
------------ -------- ----------- ------------------- ----------- --------
BALANCES, DECEMBER 31, 1996 14,122,558 $14 $75,119 $ 10 $ 6,643 $81,786
------------ -------- ----------- ------------------- ----------- --------
------------ -------- ----------- ------------------- ----------- --------
The accompanying notes are an integral part of these consolidated
financial statements.
25
QUICKTURN DESIGN SYSTEMS, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
(AMOUNTS IN THOUSANDS)
Year Ended December 31,
------------------------------
1996 1995 1994
----------- -------- --------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 12,639 $ 13,083 $ 4,601
Adjustments to reconcile net income to net cash
provided by operating activities
Depreciation and amortization 8,455 7,880 5,016
Provision for doubtful accounts -- -- 1,110
Write down of inventories 719 244 130
Deferred income taxes (509) (6,814) (1,215)
Changes in current assets and liabilities
Accounts receivable (831) (781) (11,270)
Inventories (3,055) (1,771) (4,472)
Prepaid expenses and other current assets (875) (955) (189)
Accounts payable and accrued liabilities (303) 8 8,915
Deferred revenue 4,613 (35) 65
----------- -------- --------
Net cash provided by operating activities 20,853 10,859 2,691
----------- -------- --------
CASH FLOWS FROM INVESTING ACTIVITIES
Acquisition of fixed assets (6,197) (4,747) (6,133)
Sale of marketable securities 19,931 27,530 44,958
Purchase of marketable securities (25,244) (21,714) (69,993)
Increase in other assets (1,860) (556) (1,269)
----------- -------- --------
Net cash provided by (used in)
investing activities (13,370) 513 (32,437)
----------- -------- --------
CASH FLOWS FROM FINANCING ACTIVITIES
Proceeds from equipment financing -- 1,500 784
Payments of long term debt (3,401) (4,219) (2,697)
Proceeds from stock issuances 2,613 1,666 6,634
----------- -------- --------
Net cash provided by (used in)
financing activities (788) (1,053) 4,721
----------- -------- --------
Net increase (decrease) in cash and cash equivalents 6,695 10,319 (25,025)
Cash and cash equivalents at beginning of period 17,216 6,897 31,922
----------- -------- --------
Cash and cash equivalents at end of period $ 23,911 $ 17,216 $ 6,897
----------- -------- --------
----------- -------- --------
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION
Cash paid during the period for:
Interest $ 408 $ 827 $ 421
Income taxes $ 4,338 $ 776 $ 1,044
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING
AND FINANCING ACTIVITY
Additions to fixed assets through capital
lease obligations $ -- $ 2,994 $ 3,184
Unrealized holding loss (gain) on
marketable securities $ 92 $ (438) $ 336
Tax benefit from stock option exercises $ 999 $ 545 $ 700
The accompanying notes are an integral part of these consolidated
financial statements.
26
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1 BUSINESS OF THE COMPANY
Quickturn Design Systems, Inc. (the "Company") designs, manufactures, sells
and supports system-level verification solutions for the design of integrated
circuits and electronic systems. The Company's development and manufacturing
facilities are located in Mountain View, California. The Company's principal
markets are in North America, Asia-Pacific and Europe.
2 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
FINANCIAL STATEMENT PRESENTATION
The consolidated financial statements include the accounts of the Company and
its wholly-owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions
that affect the reported amount of assets and disclosure of contingent assets
and liabilities at the date of the financial statements and the reported
amounts of revenue and expenses during the reported period. Actual results
could differ from those estimates.
CERTAIN RISKS AND CONCENTRATIONS
The Company's products are concentrated in the electronic design automation
industry which is highly competitive and rapidly changing. Revenue is
concentrated with a relatively limited number of customers, and supplies for
certain components are concentrated among a few providers. The loss of a
major customer or any reduction in orders by such a customer, the
interruption of certain supplier relationships, significant technological
changes in the industry or customer requirements, the infringement or
expropriation of proprietary intellectual property rights or patents, or the
emergence of a major direct competitor could affect operating results
adversely. In addition, a significant portion of the Company's revenue is
derived from international sales; therefore, fluctuations of the U.S. dollar
against foreign currencies or local economic conditions could adversely
affect operating results.
All marketable securities are classified as available-for-sale and are
carried at fair value. Unrealized gains and losses on marketable securities
classified as available-for-sale, when material, are reported as a separate
component of stockholders' equity. Realized gains and losses on sales of all
such investments are reported in earnings and computed using the specific
identification cost method.
Financial instruments which potentially subject the Company to a
concentration of credit risk principally consist of cash and cash
equivalents, marketable securities and accounts receivable.
The Company sells products to companies in the electronics industry in North
America, Asia-Pacific and Europe. To reduce credit risk, management performs
ongoing credit evaluations of its customers' financial condition. The
Company maintains reserves for potential credit losses on its trade accounts
receivable which are uncollateralized. Historically, except for the quarter
ended December 31, 1994, the Company has not experienced any significant
losses related to individual customers or groups of customers in any
particular industry or geographic area. In addition to the increase of
reserves for doubtful accounts, the Company recorded a $3.7 million write-off
of bad debts related to two customers in the quarter ended December 31, 1994.
The Company maintains its excess cash balances in a variety of financial
instruments such as money market securities in various financial institutions
and securities backed by the United States government. The Company has not
experienced any material losses in any of the instruments it has used for
excess cash balances.
The Company enters into foreign exchange forward contracts to hedge certain
foreign currency denominated receivable balances against changes in foreign
currency exchange rates. Gains and losses on the contracts are included
together with the gains or losses from revaluation of the related
receivables. These contracts require the Company to exchange foreign
currencies for U.S. dollars and generally mature within six months. At
December 31, 1996, the Company had forward exchange contracts outstanding
with a notional value of $2,597,000 and an estimated fair value of $2,602,000.
TRANSLATION OF FOREIGN CURRENCIES
The Company's foreign consolidated subsidiaries are considered to be
extensions of the U.S. operation and the functional currency of the
subsidiaries is the U.S. dollar. Accordingly, foreign entities translate
monetary assets and liabilities at year-end exchange rates while
27
nonmonetary items are translated at historical rates. Translation gains and
losses related to these subsidiaries are included in income. Income and
expense accounts are translated at the average rates in effect during the
year, except for depreciation and cost of revenue which are translated at
historical rates.
REVENUE RECOGNITION
The Company recognizes revenue from sales of its emulation products and
services when all substantial conditions have been met, including shipment to
the customer, fulfillment of acceptance terms, if any, and completion of all
significant contractual terms. Maintenance revenue is deferred and recognized
ratably over the term of the maintenance agreement, which is typically twelve
months. Maintenance contracts are typically renewed annually. Warranty and
similar costs related to post-contract customer support are accrued at the
time of sale.
RESEARCH AND DEVELOPMENT
Research and development expenses are charged to operations as incurred.
CASH EQUIVALENTS
Investments and deposits with original maturities of three months or less at
the date of purchase are considered to be cash equivalents.
FAIR VALUE OF FINANCIAL INSTRUMENTS
Carrying amounts of certain of the Company's financial instruments including
cash and cash equivalents, accounts receivable, accounts payable and other
accrued liabilities approximate fair value due to their short maturities.
Based on borrowing rates currently available to the Company for loans with
similar terms, the carrying value of the note payable and capital lease
obligations approximates fair value. Estimated fair values for marketable
securities (See Note 3) and forward exchange contracts (see Certain Risks and
Concentrations, above) are based on quoted market prices for the same or
similar instruments.
INVENTORIES
Inventories are stated at the lower of cost (first-in, first-out method) or
market. The Company's inventories include high technology parts and
components that may be specialized in nature or subject to rapid
technological obsolescence. While the Company has programs to minimize the
required inventories on hand and considers technological obsolescence when
estimating required reserves to reduce recorded amounts to market values, it
is reasonably possible that such estimates could change in the near term.
DEPRECIATION AND AMORTIZATION
Fixed assets are stated at cost and are depreciated on a straight-line method
over the estimated useful lives of the assets, typically one to five years.
Leasehold improvements are amortized on a straight-line method over the
shorter of the remaining lease term or the estimated useful life of the
asset, typically three to five years. Amortization of equipment under
capital leases is computed using the straight-line method over the shorter of
the remaining lease term or the estimated useful life of the related asset,
typically three to five years.
ACCRUED WARRANTY
The Company provides an accrual for future warranty costs based on the
historical relationship of revenue to warranty costs incurred.
RECLASSIFICATION
Certain amounts in the financial statements have been reclassified to conform
with the current year's presentation. These reclassifications had no impact
on previously reported working capital, operating income or net income.
INCOME TAXES
The Company provides for income taxes under the liability method in
accordance with Statement of Financial Accounting Standards No.109, (SFAS
109), "Accounting for Income Taxes." Under this method, deferred tax assets
and liabilities are determined based on differences between financial
reporting and tax bases of assets and liabilities, measured at the tax rates
that will be in effect when the differences are expected to reverse.
Valuation allowances are established when necessary to reduce deferred tax
assets to the amounts expected to be realized.
NET INCOME PER SHARE
Net income per share is calculated using the weighted average number of
common and dilutive common equivalent shares outstanding during the period.
Dilutive common equivalent shares consist of common stock issuable upon
exercise of stock options and warrants (using the treasury stock method).
FISCAL YEAR-END
Since 1995, for purposes of presentation, the Company has indicated that its
fiscal year ends on December 31, although the Company operates on a 52-week
or 53-week fiscal year, ending on the last Sunday in December. Both 1995 and
1996 were 52-week years.
28
3 MARKETABLE SECURITIES
At December 31, 1996 and 1995, all marketable securities are classified as
available-for-sale and are summarized as follows:
Marketable securities at December 31, 1996
- --------------------------------------------------------------------------------------------------------------
(IN THOUSANDS) Market Cost Unrealized Unrealized Net Unrealized
Value Basis Gains Losses Gains(Losses)
-------- -------- ---------- ---------- ---------------
United States government debt securities $ 6,355 $ 6,364 $ 6 $ (15) $ (9)
Municipal debt securities 17,815 17,800 39 (24) 15
Corporate debt securities 4,342 4,338 5 (1) 4
-------- -------- ---------- ---------- ---------------
$ 28,512 $ 28,502 $ 50 $ (40) $ 10
-------- -------- ---------- ---------- ---------------
-------- -------- ---------- ---------- ---------------
Marketable securities at December 31, 1995
- --------------------------------------------------------------------------------------------------------------
(IN THOUSANDS) Market Cost Unrealized Unrealized Net Unrealized
Value Basis Gains Losses Gains
-------- -------- ---------- ---------- ---------------
United States government debt securities $ 2,369 $ 2,345 $ 24 $ --- $ 24
Municipal debt securities 11,002 10,987 34 (19) 15
Corporate debt securities 9,920 9,857 74 (11) 63
-------- -------- ---------- ---------- ---------------
$ 23,291 $ 23,189 $ 132 $ (30) $ 102
-------- -------- ---------- ---------- ---------------
-------- -------- ---------- ---------- ---------------
At December 31, 1996, all marketable debt securities classified as current
have scheduled maturities of less than one year. Marketable debt securities
classified as noncurrent have scheduled maturities of one to three years.
4 INVENTORIES
Inventories comprise:
- ------------------------------------------------------------------------
(IN THOUSANDS) December 31,
-----------------------------
1996 1995
-----------------------------
Raw materials $ 8,431 $ 5,819
Work in process 1,710 1,986
--------- ----------
$ 10,141 $ 7,805
--------- ----------
--------- ----------
5 FIXED ASSETS
Fixed assets comprise:
- ------------------------------------------------------------------------
(IN THOUSANDS) December 31,
-----------------------------
1996 1995
-----------------------------
Equipment $ 24,429 $ 20,843
Furniture, fixtures and
leasehold improvements 3,598 2,725
Demonstration and rental
equipment 4,829 3,241
--------- ----------
32,856 26,809
Less accumulated depreciation
and amortization (21,824) (13,806)
--------- ----------
$ 11,032 $ 13,003
--------- ----------
--------- ----------
Depreciation and amortization expense amounted to $8,168,000, $6,989,000 and
$4,493,000 for the years ended December 31, 1996, 1995 and 1994,
respectively.
Fixed assets include equipment under capital leases as follows:
- ------------------------------------------------------------------------
(IN THOUSANDS) December 31,
-----------------------------
1996 1995
-----------------------------
Cost $ 2,302 $ 5,102
Less accumulated amortization (1,313) (2,021)
--------- ---------
$ 989 $ 3,081
--------- ---------
--------- ---------
The equipment under capital leases is pledged as collateral for repayment of
the related lease obligations.
29
6 ACCRUED LIABILITIES
Accrued liabilities comprise:
- ------------------------------------------------------------------------
(IN THOUSANDS) December 31,
-----------------------------
1996 1995
-----------------------------
Accrued payroll and related
items $ 5,465 $ 5,643
Income taxes payable 6,298 5,702
Other accrued liabilities 2,778 4,502
--------- --------
$ 14,541 $ 15,847
--------- --------
--------- --------
7 BANK BORROWING ARRANGEMENTS
The Company has unsecured revolving lines of credit totaling $9,800,000 which
provide for borrowings through June 1, 1997. Borrowings under these
agreements bear interest at the banks' prime rate (8.25% at December 31,
1996). The agreements are subject to certain restrictive covenants which
include achieving annual profitability, and meeting certain financial ratios
and minimum tangible net worth requirements. The agreements also prohibit the
payment of cash dividends. To date, no funds have been drawn against the
lines of credit.
8 LONG TERM DEBT
CAPITAL LEASE OBLIGATIONS
The Company has leases totaling $2,302,000 at interest rates varying from
8.4% to 9.8%. The Company's lease obligations under the leases were
collateralized by restricted deposits at December 31, 1996 and 1995 of
$85,000 and $106,000, respectively, which are included in other assets.
Minimum future lease payments for the year ending December 31, 1997, under
all equipment lease arrangements, are $2,441,000, of which $139,000
represents interest.
NOTE PAYABLE
At December 31, 1996, the Company had an uncollateralized note payable of
$1,200,000. The note had an original principal balance of $3,000,000 and
bears interest at 4% per annum, payable quarterly.
9 COMMITMENTS
The Company leases its operating facilities under noncancellable operating
leases with terms greater than one year. At December 31, 1996, future
minimum rent payments under these leases are as follows:
Year ending December 31,
- ------------------------------------------------------------------
(IN THOUSANDS)
1997 $ 2,614
1998 4,075
1999 3,840
2000 3,368
2001 3,157
Thereafter 8,310
---------
$ 25,364
---------
---------
Rent expense related to the facility and various equipment leases was
$1,561,000, $1,337,000 and $1,118,000 for the years ended December 31, 1996,
1995 and 1994, respectively.
10 STOCKHOLDERS' EQUITY
STOCK OPTION PLANS
As of December 31, 1996 the Company has reserved 3,723,713 common shares for
issuance under various stock option plans. Except for the 1994 Outside
Director Stock Option Plan, which provides for automatic grants to
non-employee directors, the Board of Directors may, under these plans, issue
incentive stock options to employees and nonstatutory stock options to
employees or paid consultants of the Company at prices no less than fair
market value for incentive and 85% of fair market value for nonstatutory
stock options. The options are exercisable at times and in increments as
specified by the Board of Directors. Options generally vest over four years
and expire ten years from date of grant. Options are exercisable prior to
vesting, however such unvested shares are subject to repurchase by the
Company at their original cost. At December 31, 1996, there were 375 shares
subject to repurchase.
30
EMPLOYEE STOCK PURCHASE PLAN
The Company has reserved 450,000 shares of common stock for issuance under
the Employee Stock Purchase Plan ("ESPP"). Shares are purchased through
employees' payroll deductions at exercise prices equal to 85% of the lesser
of the fair market value of the Company's common stock at either the first
day of an offering period or the last day of such offering period. Shares
issued under the ESPP in 1996, 1995 and 1994 were 198,117, 158,488 and 87,360
respectively.
WARRANTS
At December 31, 1996, warrants to purchase 474,059 shares of common stock
were outstanding which may be exercised at prices ranging from $6.98 to
$30.00 per share. The warrants expire over periods ranging from 1 to 5 years.
Information with respect to activity under these plans is set forth below:
- ----------------------------------------------------------------------------------
(AMOUNTS IN THOUSANDS, EXCEPT SHARE DATA)
Outstanding Options
-----------------------------------------------------------------------------
Shares
Available Options Number Price Aggregate Weighted Avg
for Grant Exercised of Shares Per Share Price Exercise Price
----------- --------- --------- ------------------ ---------- ---------------
Balance, December 31, 1993 446,856 295,350 2,119,953 $ 0.26 - $ 12.00 $ 6,351 $ 3.00
Additional shares reserved 250,000 --- --- --- --- ---
Options granted (1,161,900) --- 1,161,900 $ 6.13 - $ 14.75 9,372 $ 7.89
Options exercised --- 381,996 (381,996) $ 0.26 - $ 9.00 (344) $ 0.90
Options terminated 672,069 --- (672,069) $ 0.30 - $ 14.75 (6,737) $ 10.03
Options retired --- --- (33,600) $ 0.64 - $ 6.30 (123) $ 3.66
----------- --------- --------- ----------
Balance, December 31, 1994 207,025 677,346 2,194,188 $ 0.26 - $ 13.25 8,519 $ 3.62
Additional shares reserved 1,000,000 --- --- --- --- ---
Options granted (742,585) --- 742,585 $ 7.00 - $ 11.63 6,314 $ 8.76
Options exercised --- 336,401 (336,401) $ 0.26 - $ 10.38 (575) $ 1.73
Options terminated 314,217 --- (314,217) $ 0.30 - $ 11.63 (1,932) $ 6.15
Options repurchased 896 --- --- $ 0.30 - $ 0.50 --- $ 0.36
Options retired --- --- (13,497) $ 0.64 - $ 6.30 (38) $ 2.82
----------- --------- --------- ----------
Balance, December 31, 1995 779,553 1,013,747 2,272,658 $ 0.30 - $ 13.25 12,288 $ 5.40
Additional shares reserved 1,000,000 --- --- --- --- ---
Options granted (1,199,400) --- 1,199,400 $ 9.25 - $ 19.00 15,006 $ 12.53
Options exercised --- 328,381 (328,381) $ 0.30 - $ 11.63 (1,161) $ 3.54
Options terminated 355,891 --- (355,891) $ 0.50 - $ 13.25 (3,294) $ 9.51
Options retired --- --- (117) $ 0.64 - $ 0.64 --- $ 0.64
----------- --------- --------- ----------
Balance, December 31, 1996 936,044 1,342,128 2,787,669 $ 0.30 - $ 19.00 $22,839 $ 8.19
----------- --------- --------- ------------------ ---------- ---------------
----------- --------- --------- ------------------ ---------- ---------------
At December 31, 1996 and 1995, vested options to purchase 1,183,030 and
1,016,615 shares respectively were unexercised.
In July 1994, the Board of Directors offered to all employees the opportunity
to cancel outstanding stock options with exercise prices in excess of $6.13
per share (the fair market value of the common stock at that time) in
exchange for options exercisable at $6.13 per share which were otherwise
identical to the cancelled options except for a one-year extension of the
original vesting term. Options to purchase 562,025 shares of common stock at
original exercise prices ranging from $8.00 to $14.75 per share were
exchanged and are included above as 1994 grants and terminations.
31
The following table summarizes information with respect to stock options
outstanding at December 31, 1996:
Options Outstanding Options Exercisable
-------------------------------------------------------- ------------------------------
Number Weighted Average Weighted Average Number Weighted Average
Range of Outstanding Remaining Exercise Exercisable Exercise
Exercise Prices at 12/31/96 Contractual Life (Years) Price at 12/31/96 Price
- ------------------- ----------- ------------------------ ---------------- ----------- ----------------
$ 0.30 - $ 4.00 687,581 5.57 $ 1.58 687,543 $ 1.58
$ 6.00 - $ 9.00 645,320 7.44 $ 6.65 366,050 $ 6.57
$ 9.25 - $ 11.63 591,068 8.86 $10.37 113,604 $ 9.90
$ 12.13 - $ 19.00 863,700 9.70 $13.12 15,833 $13.27
----------- -----------
$ 0.30 - $ 19.00 2,787,669 7.98 $ 8.19 1,183,030 $ 4.08
----------- -----------
----------- -----------
The following information concerning the Company's stock option and employee
stock purchase plans is provided in accordance with SFAS No. 123, "Accounting
for Stock-Based Compensation." The Company accounts for such plans in
accordance with APB No. 25 and related interpretations.
The fair value of each option grant has been estimated on the date of grant
using the Black-Scholes option pricing model with the following weighted
average assumptions used for grants in 1996 and 1995:
Group A Group B
------------- -----------
Risk-free interest rates 6.30% 6.22%
Expected life 5 years 4 years
Volatility 0.70 0.70
Dividend yield --- ---
The weighted average expected life was calculated based on the exercise
behavior of each group. Group A represents officers and directors who are a
smaller group holding a greater average number of options than other option
holders and who tend to exercise later in the vesting period. Group B
represents all other option holders, virtually all of whom are employees.
This group tends to exercise earlier in the vesting period.
The weighted average fair value of those options granted in 1996 and 1995 was
$7.73 and $5.18, respectively.
The Company has also estimated the fair value for the purchase rights issued
under the Company's Employee Stock Purchase Plan, under the Black-Scholes
valuation model using the following assumptions for 1996 and 1995:
Risk-free interest rates 5.74% - 6.01%
Expected life 1.25 years
Volatility 0.70
Dividend yield ---
The weighted average fair value of those purchase rights granted in 1996 and
1995 was $5.15 and $3.74, respectively.
The following proforma income information has been prepared following the
provisions of SFAS No. 123:
- -------------------------------------------------------------------------------
(AMOUNTS IN THOUSANDS EXCEPT PER SHARE DATA)
1996 1995
---------- ----------
Net income - proforma $ 10,953 $ 12,313
Net income per share - proforma $ 0.72 $ 0.84
The above proforma effects on income may not be representative of the effects
on net income for future years as option grants typically vest over several
years and additional options are generally granted each year.
32
11 INCOME TAXES
Income before taxes and details of the income tax provision consist of the
following:
- -------------------------------------------------------------------------------
(IN THOUSANDS)
Year Ended December 31,
-----------------------------------
1996 1995 1994
--------- -------- ---------
Domestic income before taxes $17,058 $12,135 $ 4,731
Foreign income before taxes 996 336 271
--------- -------- ---------
Income before taxes $18,054 $12,471 $ 5,002
--------- -------- ---------
--------- -------- ---------
Income tax provision:
Federal:
Current payable (net of benefit
from utilization of net operating
loss carryforwards of $1,292,
$1,753 and $2,975 for 1996, 1995
and 1994, respectively) $ 4,749 $ 5,279 $ 1,251
Deferred (464) (5,579) (1,129)
--------- -------- ---------
4,285 (300) (122)
State:
Current payable 600 749 160
Deferred (45) (1,235) (86)
--------- -------- ---------
555 (486) (74)
Foreign:
Current payable 575 174 205
Deferred --- --- ---
--------- -------- ---------
575 174 205
--------- -------- ---------
Income tax provision (benefit) $ 5,415 $ (612) $ 401
--------- -------- ---------
--------- -------- ---------
The items accounting for the difference between income taxes computed at the
federal statutory rate and the provision for income taxes are as follows:
- -------------------------------------------------------------------------------
Year Ended December 31,
-------------------------------
1996 1995 1994
-------- -------- --------
Income tax at statutory rate 35.0% 35.0% 34.0%
State income taxes, net of federal benefit 5.9% 5.9% 3.0%
Change in valuation allowance (8.8%) (54.3%) (27.4%)
Benefit of foreign sales corporation (3.3%) (0.4%) ---
Nondeductible expenses 0.6% 2.0% 1.4%
Foreign taxes 1.5% 3.9% 0.5%
Research and development and business
tax credits (3.8%) (1.9%) (6.1%)
Other 2.9% 4.9% 2.6%
-------- -------- --------
Effective tax rate 30.0% (4.9%) 8.0%
-------- -------- --------
-------- -------- --------
The effective income tax rate in each year was impacted by a reduction in the
Company's valuation allowance against deferred tax assets of $1.6 million,
$6.8 million and $1.1 million for 1996, 1995 and 1994, respectively.
33
The components of the net deferred tax assets are:
- -------------------------------------------------------------------------------
(IN THOUSANDS)
December 31,
------------------------
1996 1995
--------- ---------
Accrued vacation and bonus $ 283 $ 499
Reserve for inventories 1,793 1,422
Depreciation expense 1,864 1,367
Deferred revenue 970 305
Other liabilities and reserves 2,393 3,741
State taxes, net of federal benefit 118 154
Net operating loss carryforward 767 1,710
Research and development and business credits 350 419
Valuation allowance --- (1,588)
--------- ---------
Net deferred tax asset $ 8,538 $ 8,029
--------- ---------
--------- ---------
No provision has been made for federal, state or foreign taxes that may
result from future remittances of undistributed earnings of foreign
subsidiaries ($649,000 at December 31, 1996) because it is expected that such
earnings will be reinvested in these foreign operations. It is not practical
to estimate the amount of taxes that might be payable on the eventual
remittance of such earnings.
The Company's income taxes currently payable for both federal and state
purposes have been reduced by the tax benefit derived from the disqualifying
dispositions of incentive stock options and the exercise of nonqualified
stock options. The benefit, which totalled $999,000 in 1996 and $545,000 in
1995 was credited directly to additional paid-in capital.
At December 31, 1996, the Company had approximately $2,100,000 of combined
net operating losses and federal and state tax credit carryforwards of
$300,000 and $50,000, respectively. The carryforwards expire in 2005 through
2010, if not utilized. A significant portion of the Company's net operating
loss and tax credit carryforwards is subject to an annual limitation of
approximately $1,200,000.
12 BUSINESS SEGMENTS AND MAJOR CUSTOMERS
The Company operates in a single industry segment encompassing the
development, manufacture, sales and support of system-level verification
solutions for the design of integrated circuits and electronic systems.
The Company's top ten customers represented 51%, 48% and 46% of total revenue
for the years ended December 31, 1996, 1995 and 1994, respectively. In the
year ended December 31, 1996, one customer, Fujitsu, comprised 13% of the
Company's total revenue, and in the years ended December 31, 1995 and 1994,
no customer individually comprised more than 10% of the Company's total revenue.
The Company markets its products to customers in North America, Asia-Pacific
and Europe and offers technical support, design consulting services,
training, hardware maintenance and software upgrades to its customers.
Products and services are marketed through a direct sales force in North
America, Japan and Europe. The Company also maintains distributorship
relationships in Israel, Korea, Singapore and Taiwan.
Revenue information by geographic region is as follows:
- -------------------------------------------------------------------------------
(IN THOUSANDS)
Year Ended December 31,
----------------------------------------
1996 1995 1994
--------- --------- ---------
North America $ 65,716 $ 56,107 $ 48,594
Asia-Pacific 29,920 16,449 9,336
Europe 8,734 9,244 7,593
--------- --------- ---------
$104,370 $ 81,800 $ 65,523
--------- --------- ---------
--------- --------- ---------
Identifiable assets of foreign operations are not significant. The net
income for all periods presented are derived primarily from the Company's
North American operations.
34
13 EMPLOYEE BENEFIT PLANS
The Company maintains 401(k) savings plans to provide retirement benefits
through tax deferred salary deductions for all its employees. The Company
may make discretionary contributions as determined by the Board of Directors,
which cannot exceed a percentage of the annual aggregate salaries of those
employees eligible to participate. The Company has made total contributions
to the plans of $394,000 for the year ended December 31, 1996, and none for
the years ended December 31, 1995 and 1994.
14 CONTINGENCIES
In January 1995, the Company and certain of its officers and directors were
named in a securities class action filed in the United States District Court
for the Northern District of California. The complaint seeks unspecified
damages and related fees and costs. In September 1995, the Court dismissed
with prejudice all claims against several defendants, including the Company's
outside directors. The Court also dismissed with prejudice many of the
allegations and claims asserted against the Company and certain of its
officers. While the Company believes that it has meritorious defenses to the
claims remaining in the action, the Company has entered into a Stipulation of
Settlement with plaintiffs in order to conserve legal expenses and management
resources. The Company's contribution to the proposed $2.75 million
settlement, net of insurance proceeds, is not material. The proposed
settlement has been preliminarily approved by the Court but remains subject
to the Court's final approval. There can be no assurance that the Company
will in fact succeed in obtaining final Court approval of the proposed
settlement with the plaintiffs. In the event the Court does not grant final
approval of the settlement, the Company will continue to contest this action
vigorously. While the outcome of the action in the absence of the proposed
settlement cannot be predicted with certainty, management does not believe
the outcome will have a material adverse impact on the Company's financial
position or results of operations.
Additionally, in January 1996, the Company filed a complaint with the
International Trade Commission (the "ITC") in Washington, DC, seeking to stop
unfair importation of logic emulation systems manufactured by Meta Systems
("Meta") of France, a subsidiary of Mentor Graphics Corporation ("Mentor").
In the complaint, the Company alleges that Mentor's hardware logic emulation
systems infringe the Company's patents. In July 1996, the ITC Administrative
Law Judge issued an Initial Determination granting a Temporary Exclusion
Order stopping the importation of Mentor Graphic's emulation products into
the U.S., absent the posting of a bond by Mentor. The ITC Initial
Determination included a Cease and Desist Order against all sales activities
of the Mentor emulation products into the U.S. In August 1996, the ITC
ratified the judge's Initial Determination. The Company is continuing its
legal efforts with the ITC to obtain a Permanent Exclusion Order stopping the
importation of Mentor's emulation products into the U.S. The Company also is
engaged in a Federal District Court case involving six of the Company's
patents. Mentor and Meta are seeking a declaratory judgment of
noninfringement, invalidity and unenforceability of the patents in dispute,
and the Company has filed counteractions against Mentor and Meta for
infringement and threatened infringement of the six patents. Mentor has also
claimed in this Federal District Court case that press releases issued by the
Company were defamatory and interfered with Mentor's business advantage.
Additionally, Aptix Corporation recently filed a suit against the Company
alleging various violations of the antitrust laws and unfair competition.
The Company does not believe these claims are meritorious and plans to mount
a vigorous defense against them. The outcome of these actions cannot be
predicted with certainty.
The Company is engaged in certain other legal and administrative proceedings
incidental to its normal business activities. While it is not possible to
determine the ultimate outcome of these actions at this time, management
believes that any liabilities resulting from such proceedings or claims which
are pending or known to be threatened, will not have a material adverse
effect on the Company's consolidated financial position or results of
operations.
35
15 SUBSEQUENT EVENT
On February 7, 1997, the Company acquired SpeedSim, Inc. ("SpeedSim"), a
provider of cycle-based simulation software for the verification of digital
logic designs (the "SpeedSim Merger"). The Company purchased all of the
outstanding capital stock and assumed all of the outstanding stock options of
SpeedSim, a privately held company, for an aggregate of approximately 2.8
million shares of Quickturn common stock. The Company estimates that it will
incur direct transaction costs of at least $1.2 million associated with the
acquisition, which will be charged to operations during the quarter ending
March 31, 1997. The acquisition was accounted for as a pooling of interests,
and accordingly, historical financial data in future reports of the Company
will be restated to include SpeedSim data. The following unaudited pro forma
data summarizes the combined results of operations of the Company and
SpeedSim for the years presented except for 1994, which had an immaterial pro
forma impact on results of operations and net income per share:
Year Ended December 31,
(unaudited pro forma)
(AMOUNTS IN THOUSANDS EXCEPT
PER SHARE DATA)
----------------------------
1996 1995
-------- --------
Total revenue $109,578 $ 82,442
Net income $ 14,131 $ 12,478
Net income per common share: $ 0.79 $ 0.74
36
REPORT OF INDEPENDENT ACCOUNTANTS
To the Board of Directors and Stockholders
Quickturn Design Systems, Inc.
Mountain View, California
We have audited the accompanying consolidated balance sheets of Quickturn
Design Systems, Inc. as of December 31, 1996 and 1995, and the related
consolidated statements of income, stockholders' equity and cash flows for
each of the three years in the period ended December 31, 1996. These
financial statements are the responsibility of the Company's management.
Our responsibility is to express an opinion on these financial statements
based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to
obtain reasonable assurance about whether the financial statements are free
of material misstatement. An audit includes examining, on a test basis,
evidence supporting the amounts and disclosures in the financial statements.
An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material aspects, the consolidated financial position
of Quickturn Design Systems, Inc. as of December 31, 1996 and 1995, and the
consolidated results of its operations and its cash flows for each of the
three years in the period ended December 31, 1996 in conformity with
generally accepted accounting principles.
/s/ Coopers & Lybrand L.L.P.
San Jose, California
January 16, 1997
37