益華電腦 (CDNS) 2003 Q2 法說會逐字稿

Welcome to the Cadence Design Systems second quarter 2003 earnings release conference call.

During the presentation, all participates will be in a listen only mode.

Afterwards we will conduct a question and answer session.

At that time if you do have a question please press the one followed by the four on your telephone.

As a reminder, this conference is being recorded Tuesday, July 15, 2003.

I will now turn the conference over to Mr. Bill Porter, Chief Financial Officer.

Thank you, operator.

This is Bill Porter and I'm here with Ray Bingham, President and Chief Executive Officer.

Welcome to our second quarter earnings conference call for 2003.

We appreciate your patience as we understand we had some logistical problems getting our press release on the web but you should be able to get it now on the business wire.

The web cast of this call could be accessed through our website www.Cadence.com and archived for one week.

First the Safe Harbor statement.

The discussion today will contain forward-looking statements and actual results may differ materially from those expectations.

For more information about factors that could cause a difference in results, refer to the 10-K for the period ended December 28, 2002 and the 10-Q for the period ended March 29, 2003.

All numbers reflect earnings excluding good will and unusual items, GAAP earnings and reconciliations of the numbers are available in the earnings press release we issued this afternoon available on our website, www.Cadence.com.

With that, I'll turn the call over to Ray Bingham.

Thank you, Bill.

Good afternoon.

This quarter we made good progress toward achieving our 2003 financial goals.

Earnings per share were 9 cents.

Total revenue was $276 million consistent with our guidance. 82% of our Q2 product business was booked under subscription licenses.

I am pleased with these results.

Today I'll cover our technology leadership role, the design automation business, how we are executing our strategy of making customers successful and our business execution.

A year ago I shared with you our strategy for building the best design implementation technology solutions for our customers.

At that point we had acquired four critical technologies in advance critical design.

We integrated these technologies with the Cadence timing engine and our internally developed products, launching the resulting encounter platform in September.

Since then, three major releases have increased the level of integration and added key capabilities including the open access database.

The technology advantage of integrating encounter is being proven by our customers as we speak.

We are actively engaged in over 200 case out projects using an SOC encounter at both 130 and 90 nanometer technologies.

In Q2, for example, [Relacos] (ph) adopted SOC encounter as a standard design flow for 130 nanometer and below.

Any designer will tell you it's a different world at 130 nanometer.

What that depends and demands a whole new approach to architecture and database.

That's why we invested in first encounter and the signal integrity ready routing of nano route, both of which are a generation ahead of the rest of the industry.

With the acquisition of the Get2Chip, we are now integrating new generation nanometer synthesis technology into physical synthesis within encounter.

For example in Q2, encounter including RTO compiler from Get2Chip and the nano route ultra router has enabled Toshiba to deliver the world's fastest 64 bit (inaud) core.

No IC design solution is complete without a strong custom analog offering.

We are the clear leaders in that space.

Historically, many large IC companies have relied on their own tools for custom analog, but with the productivity and automation we offer with new integrated flows in the custom analog area, we are able to change all that with three leading customers this quarter both here in North America and in Asia.

During the last six months, we completed the integration of two leading custom analog technologies we acquired, Activia and Ultra Sim which are shipping today as part of the Cadence custom analog solution.

Activia provides analog automation, reducing the overall analog design cycle time by 30%.

Ultra Sim is the leading fast flight simulation technology.

In addition Cadence began shipping the [virtuoso] chip editor on open access delivering 10x performance and 3 x capacity improvements.

These are exciting times for Cadence.

We have technology leadership and physical implementation and now we also have the ability to bring the whole solution to market for functional and logic designers but the recent acquisition of Get2Chip and yesterday's announcement of the acquisition with Verplex, we are bringing together a solution that provides the highest performance and highest impact on timing closure and chip performance.

Think about it.

Get2Chip synthesis Verplex formal verification, IBM test technology and Cadence incisive software and hardware-based verification integrated into one place from one supplier.

Engineers designing big fast chips are incredibly excited by this combination.

The first time all the leading technologies have been inside Cadence.

Our mission in the design space for the next 12 month is to bring these technologies together for our customers.

Incisive platform is another example of great technology and great integration providing massive productivity to customers.

We developed the leading edge engines in verification, designed them into a platform and brought them to market as a fully integrated solution.

The incisive platform announced in the first quarter started with great momentum with companies like inVidia (ph), Force 10 and with strategic partners like ARM.

That continued into this quarter, Q2 with ten strategic wins like Samsung, Bachusta (ph) and F3 (ph).

Now the verification strategy is on track for the second quarter in a row, ahead of plan and continues to gain momentum.

In addition to the second quarter in a row, illusion had a quarter.

We are leading this emalation segment, by winning new customers in existing markets and getting into new runs as a result of the platform.

Our synthesis bookings also are exceeding our exceptions only two months after acquiring the [vista] chip and RTO core compiler.

Terranian (ph) Networks is an established semiconductor company leading highly integrated network processing engines.

Terranian (ph) drew on the strength of RTO compiler to design a networking chip set containing 200 million transistors.

This chip set [Terra] package is among the densest today.

Our technology strength is clear.

Cadence leads in Silicon design change integration with partners like applied materials, IBM and PSMC.

This is critical to completing the customer solution.

Open access and X architecture further strengthen this position.

All of our products are on or moving rapidly to open access.

In addition, more than 800 open access licenses have been issued by SI 2 this year.

Regarding the X architecture, we are very pleased with another major Japanese semiconductor [company], Cadence property for the x architecture, all these technology efforts are gaining transaction as we speak.

The opportunity here is to change the game for our customers with the new generation Cadence.

The pieces are in place.

As I said before, these are exciting times for Cadence.

Vendor consolidation is happening.

Customers are looking for partners that can provide greater technology, productivity gains, cost savings and reduced risk.

The customers receive the benefits of a close relationship with Cadence.

They make a significant commitment as we place internal technology, help them reduce cost by reducing the number of vendors they have to deal with to provide services and methodologies.

This approach helps us close two very large contracts in Japan, for example.

One such-- a leader like [Radasos] (ph).

We have a tremendous focus on technology and a tremendous focus on customers.

We also continue to make changes to our business structure to stream line our operations to enable us to get closer to our customers.

I was pleased to be in Japan for an important event.

With the support of all the big players in the semiconductor industry, we launched a new era for Cadence Japanese.

We acquired major parts of Inotech including 50 sales and AE’s.

In addition, we appointed Bob, former president of Inotech.

They'll now sell to every major company in the Japanese semiconductor industry.

Inotech will focus on the Japanese systems market, a growth segment for the industry on developing new business.

This arrangement provides us with a more efficient channel and larger presence in Japan.

In every geography, in every market, our customers tell us that our products speak to their needs.

While we continue investing in our market leading platforms, in the current business environment we must also work to refine our operations.

A careful analysis has resulted in the decision we announced this morning to eliminate approximately 500 jobs or about 10% of our world wide employment.

These moves about stream lining—(inaud) fewer layers, focused seams--

I'm determined to make this organization in every discipline, in ever geography,more focused, responsive to customers.

Let me close my comments by saying we haven't seen any upturn in the IC market.

Customers are focused on improving their bottom lines.

In response, we are riveted on customers and partners as they tackle those difficult technical problems in the industry.

They are aggressively going after those problems and we are privileged to be a part of that team.

Tough technical challenges go hand in hand with all significant technological advances.

That's what Cadence thrives on.

While these keep us up at night, it also gets us going in the morning.

So let me recap, our strategy is working.

We're on track and I'm confident in the future of Cadence.

Now let me turn the call over to Bill who will take you through the numbers.

Thanks, Ray.

During Q2 we closed the business we targeted even though the customer environment remained difficult with visibility to end markets still markets.

Revenue of $276 million was at the higher end of our target range.

Product revenue was $160 million.

Maintenance revenue was $81 million and services revenue was $35 million.

We booked 82% of our Q2 product business under subscription licenses with our target range of 80-90%.

Revenue from backlog came in as expected with approximately 65% of software product revenue coming from rival backlog in Q2.

As we approach equilibrium in the subscription model toward the end of 2004, the percentage of backlog will approach the 80-90% target range.

Average contract life was 2.9 years.

We believe that by keeping our contract duration below three years, we have a better opportunity to receive increased value as the economy recovers.

We believe this is a preferable approach to the lengthening of contracts we have seen from some of our competitors.

In Q2 we received earnings per share on a pro-forma basis of 9 cents and a net income of $25 million.

On a GAAP basis including amortization of acquired intangibles of $26 million, amortization of preferred stock of $10 million and process technology of chip and other items of $9 million, we have a loss of $8 million worth 3 cents per share.

Please refer to our earnings press release or our website, Cadence.com for a detailed reconciliation between GAAP and pro-forma earnings.

Our geographic mix was similar for Q1.

North America contributed 55% of the revenue, Europe 15%, Japan 22% and Asia 8%.

Cadence also strengthened its challenge as a result of completing the acquisition of major parts of the Inotech software distribution business.

We expect near term impact on the top line from this strategic investment with longer term benefits deriving from a closer relationship of customers and a more efficient channel.

The acquisition should be about 1 dilative in Q3.

Total cost and expenses were down 10% from the second quarter of 2002.

We expect total cost and expenses for the second half of 2003 to be down about 20%.

This includes the effects of the restructuring currently under way as well as estimate d impact of the acquisition which we expect to be about 1 cent dilative in Q3.

At the same time as we are driving more efficiency into our organization, you'll also see us continue to support our strategy with the acquisition of key technologies and talent.

The actions we are taking to reduce our workforce by approximately 500 positions or about 10% of employment world wide will result in a Q3 restructuring charge of approximately $60 million.

Quarter end head count was approximately 5,000.

DSO's increased to 107 days from 105 days in Q1 due to more business done on a net 30 basis.

The addition of some receivables with the acquisition and lower receivable sales.

DSO's will trend down as we move through the acquisition and our continuing efforts to accelerate payments, we are revising our target range for DSO's.

We now expect DSO's to be in the mid-90s in Q3, mid-high 80s in Q4 and mid-70s by the end of 2004.

Now the quality remained high with receivables 90 days past due at 2%.

The lower end of our target range of 2-3%.

We ended the quarter with $207 million in cash.

About $80 million was used for acquisitions.

Capital expenditures were $20 million as expected as further evidence of the improving efficiency we were on track for Cap Ex to be down 40% from 2002.

We did not repurchase any stock in the quarter because of our acquisition activities.

Authorization remains at about $370 million.

You should expect us to continue to use our free cash flow both to repurchase stock and to support our strategy through the acquisition of key technology.

We generated approximately $37 million of operating cash flow which includes $17 million of restructuring cost.

Operating cash flow which tracks with operating income will improve as operating income increases through the remainder of the year.

Now I'll turn to our outlook in Q3 and the year.

In the soft economy, the principle compelling events for customers, buy renewals or introduction of new technology.

We continue to do well with new technology and renewals.

Non-renewal based business is slower due to continuing customer caution with discretionary spending.

We expect bookings for the year to be down approximately 10% from 2002.

For Q3, we expect total revenue to be in the range of $265 million-$275 million. 65-70% software product revenue to come from backlog.

Proforma earnings per share from 11 cents to 13 cents.

For 2003, we expect total revenue to be in the range of $1.09 billion to 1.11 -- $1.13 billion.

Proforma earnings per share in the range of 48-52.

Subscriptions should continue to make up 80-90% of total software focus.

In summary, we are continuing to invest in the future of our company.

We've also made very difficult decisions in order to make adjustments that will bring better focus to our business and we are confident that together these actions will enable us to deliver market leading technologies and solutions to our customers.

With that, operator, I'd like to open it up for questions.

Ladies and gentlemen, if you'd like to register a question, press the 1 followed by 4 on the telephone.

If your question is answered and you would like to withdraw your registration, press the 1 followed by the 3.

If you are using a speaker phone, lift your hand set before entering your request.

One moment for the first question.

Our first question comes from the line of Erach Desai with American Tech Research.

Please proceed with your question.

Good afternoon.

Where do I start.

Let me start with Ray.

Ray, big picture question.

You commented and Bill has commented, too, you have not seen a material pickup truck in the IC business overall.

I think synopsis and mentor in the past reports seem to suggest things are improving.

Is this a case that we should interpret market share dislocation?

No, I don't think that's the right conclusion.

We remain very clear on the evidence we're seeing that we need to make very strong progress including progress in taking share.

I think it's a question of what you are focused on.

Certainly there are some encouraging harbingers in the marketplace that are encouraging, for example the Stock Market to start to discount the future in favor of an upturn.

What I'm reporting to you is two things.

One is the continued focus of our customers on rolling their bottom line at a time that they are having grave difficulty growing their top line.

And also the fact that the preponderance of customers and businesses are not seeing anything other than glimmers of encouragement in a few segments but far from enterprise wide.

So consistent with what the time survey showed at the deck conference.

Not familiar with that, Erach.

The second question is still for you, Ray.

It was within this restructuring, the elimination of jobs, well rumored and well debated and talked about, I'm curious, there's rumblings of organizational changes and focus in terms of sort of how the market, especially in the overall design side is bearing out.

Could you give us a sense of there is certainly divisionalization or something like that?

Sure.

First of all, if you step back and look at the investments that we have been making over the last couple of years in building this implementation of leadership that I spoke of in my comments, if you look at the very important technology investments we have made as well as the hiring that we have done over the last couple of years, it's a natural thing to step back and see a focus on stream lining and rationalizing those investments.

That just makes sense especially in an environment, while we can all be hopeful about the economy, the evidence is that it hasn't turned yet.

We look at the stream lining we've done, it's affected every geography, every organization.

There are some businesses that certainly are reducing the focus in and other business where is we are building additional focus.

Those are -- we took this as a matter of focusing on strategic priorities and building from the bottom up.

Zero-based approach in our business to align around the things we were trying to accomplish in the marketplace.

We are drawing a slightly different point internally in our organizations.

We have announced internally that we are focusing our business into two areas, one, a continuing focus on the physical implementation side of the house which is led by lobby and a new focus designed and functional verification led by Penny Herscher.

That business will take the synthesis technology we have already had in-house but that we acquired plus functional verification and emulation and insightful assets, the whole platform that comes together as well as the IBM test technology and that team that we brought in from IBM last fall.

So, it sounds to be more a business unit of business focus alignment rather than a functional marketing versus R&D type.

The organization is a company that was already business-driven.

What I've done is to divide it between the design and verification focus so as to bring more business focus into the marketplace.

We will, of course, be benefiting our channel significant that way because we simply give them a crisper view of our customers are doing design and the problems they are trying to accomplish.

Thanks, Ray.

Bill, a question for you.

You are changing for this year your bookings of growth outlook?

Bookings growth?

I am trying to reconcile, you did $276 odd million in revenues this quarter.

You will be adding [workplex], you’ll be getting more from [gesture] chip,going forward, the Japan realignment should give you an incremental more in revenue –why the down effectively.

Revenue guidance sequentially?

Erach, a couple of points and then I'll talk in general.

For the Japan channel, one of the clarifications is important, our distributor markup has been relatively modest.

As we go ahead and acquire the major parts of that business, we're not going to see a significant add to our top line.

Officially as we continue to work closely with those large customers, of course, we think we'll bring more top line but that's going to be over a longer period of time, that's not a short-term effect of picking up distributor commission because that was very modest.

As we looked at the full year, one of the things we have been seeing is renewal business is doing right as we expected.

We are winning with new technology.

Really, as we talk, our pipeline isn't as robust as we expected.

So we are revising down our total bookings outlook for the year just because we see the environment staying as it is.

And we don't want to try to reach too hard or additional pipeline business.

It's much better left to renew in 2004 and pick it up when the economy picks up.

We're having a more conservative view of bookings and we’ve reflected that in our top line outlook.

We expect to get traction with the newer technologies but not significant enough to offset what we think is just going to be a difficult pipeline environment for the rest of 2003.

Come on, second half recovery evidence is all over the place.

Thank you.

Next question comes from the line of Bill Frerichs with D.A. Davidson.

Please proceed with your question.

Good afternoon, Ray and Bill.

You mentioned the business line, realignment, it sounds to me like it's more structurally, at least, akin to the way synopsis goes to market, is that right?

I couldn't comment on that, Bill.

What we're looking at is where we have powerful new technologies and naturally grouped together and aligning that with what our customers are telling us they want focused on.

Okay.

And then I take it you're regionalizing the U.S. as a business unit on its own, more or less and these will be customers of those product groups?

Is that how it will work.

Then will Japan be regionalized in its own way?

In Japan, Asia and Europe have been regionalized for some time.

So the U.S. becomes more like Japan, Asia and Europe.

From the way it operates, yes.

We have named a head of the North American region, someone that is new who, I think, you know.

Lance is leading the North American region with that P&L.

Within that P&L, he'll be responsible for all field operations including the operation and delivery of feel services.

Okay.

And one last question, Mitsubishi, Hitachi, a combination of their semiconductor businesses, did that bring forward or accelerate any deals that might have originated with one or the other that you could essentially renew or plan to renew in the near future?

Well, the fact that the two of them came together, it illustrates, I think, a new beginning which resulted for us, at least, a very significant contract.

Okay.

And that booked in this quarter?

That booked last quarter.

Okay.

And finally what did you pay for the two acquisitions [Intech] (ph) and Vertex?

Haven't announced that as of yet, Bill.

Very good.

Thank you.

Our next question comes from the line of Raj Seth with SG Cowen.

Please proceed with your question.

Thank you.

I wonder if I can go back to Erach's question as it relates to the different tone you have relative to synopsis and others.

You mentioned renewals as a point of opportunity for sales in this difficult environment.

I'm curious if there was a way to characterize where you are in your big deal renewal cycle.

Is it that as we move into '04, you have a whole lot more renewals and expect growth to pick up on the back of those and at a trough now?

Is there any way to talk about bookings across the next quarters and how much comes from renewal activity and how that unwinds as we move into '04?

Raj, in this environment, I believe that customers, in order to spend money have to see some compelling event.

We've been very fortunate over the last year or so to create some of those compelling events because of the technology, the new technology we are bringing to market.

Though, the principle event in this kind of environment and certainly for the last couple of years has been the renewal opportunity.

I believe that that is far and away the most important theme in designed automation business right now whether you're talking about Cadence or any competitors on a renewal-based licensing approach.

Speaking of Cadence, we saw just looking at that two-year time frame, a good renewal season in '02, and it resulted in good growth for us in a really difficult period. '03 is not as strong a renewal period for us.

The calendar of renewals is less than it was in '02 and certainly less than it will be as we see it in '04 and '05.

I won't get specific about the rest of this year, I think those comments stand by themselves.

Renewals are driving the market today.

New technology is as important as seeds and important for us to establish a bunch of new and critical customer relationships in parts of the market, the power user market where we wanted to make a statement.

They're driving small numbers today.

Not the thing that's moving at least a financial results.

So let me make sure I'm clear here.

The assertion is that the difference in outlooks between you and your major competitor is driven principally and correct me if I'm wrong, but principally by where you guys are in your various renewal cycles, not any kind of share shift in the long-term.

I think that is exactly right.

We do not see lots of share.

On the contrary, I am very contrary we are making significant gains and where we have invested and delivering in the marketplace is showing and I believe we've evidenced in the customer announcements we've been able to make.

One last question if I might and forgive me if you went over this a minute ago.

Can you clarify again what happens to the channel, the sales channel in the United States as it relates to this reorganization?

Are sales people getting new assignments?

Are you splitting the responsibility of sales people between verification and implementation tool as soon as what's happening there?

I have with me, Penny, who is going to care a lot about how that plays out in the field.

Let me ask her to comment on her planning with the feel teams.

Sure.

Raj, what we are doing in the field in North America, where we put a lot of initial focus, is no change in the fundamental structure on account based teams, but we are putting specialists overlays in place, some who come into the acquisition and also taking some of our stronger sales people and signing them with deployment of new technology into the marketplace so we'll be relying on the incredible strength with relationships Cadence already has and the way we do business with customers and augmenting that with compensation structures, specific quotas and specialists who help drive our new technologies in the marketplace.

Thanks.

Our next question comes from the line of David Raezer of Morgan Stanley.

I want to understand the change in guidance for DSO.

What's causing that and do you feel confident?

Yes, David.

Because we have aggressively tried to get more of our business done on a shorter payment cycle, we did that this quarter and as a result our shorter term receivables have gone up by having that business in the short-term we'll continue to have that focus and that's the major driver for our increase in DSO and as we continue to push for more payments in the earlier part of the contracts, that will continue at least for the next year or so.

But as we look forward, we have been maybe more conservative in our DSO estimates but feel confident we'll get them by the time we get to 2004 by that mid-70s range.

There are smaller things as we acquire companies.

We picked up some receivables like we did with Inotech acquisition and also not selling as many receivables in the past.

Those are smaller short-term pressures on DSO.

So the balance we should see in the next six quarters should be what?

As I mentioned, we're going to be into the mid-90s in Q3.

Should be able to get into the mid-to high 80s in Q4.

Coming out of short-term or long-term?

Okay.

For long-term we'll see long-term continue to come down.

I don't have a specific forecast for that over time.

Okay.

Thank you.

You're welcome.

Our next question comes from the line of Jay Vleeschhouwer from Merrill Lynch.

Bill, to start off since we had something to say about bookings, can you talk about what happened in the second quarter.

Seemed product bookings are up sequentially and you talked about sequential trends for the encounter platform, perhaps you have something to say about that as well.

Yes, Jay.

In terms of granularity for bookings as I think we discussed over time, we'll keep that on a longer term view.

What I can tell you is clearly our bookings were solidly book to bill positive over one, and just leave it.

I'm not going to get into specifics quarter versus quarter.

I think we've given also, good indication of how our counter platform is getting good traction with production balance which, I think, is a more important balance now because of what we saw last year.

I think you have to start looking at it differently.

Incisive now is the product that just getting introduced, it is more accurately measured on initial sales of the first two quarters which we think is the right indication there and going up solidly.

In terms of the restructuring, is the 500-person reduction net of the 150 people you're bringing into the company from Verplex and Inotech or 500 before you're bringing the 150 in?

That's a gross number.

That's before, Jay.

Okay.

Then that change is really 350 once you bring the new group in.

That's accurate.

And your expense reductions in the second half encompass that?

That is correct.

Ray, since you talk about the progress you made in the last year in terms of technology integration and getting the applications up on the way and so forth, can you talk about the milestones we should look for over the next 6-12 months to get you to the point where you think you ultimately need to be in terms of having a stable or mature platform?

When would you say all the pieces you say, all the pieces which you say you have will be in effect, fully-cooked and integrated.and where you say they should be?

We're in a very dynamic market, and so to categorically say we're done simply doesn't happen.

We started making very strong moves two years ago because we saw this 130 and 90 nanometer coming at us and believed that we could distance ourselves from the pack by getting ready for it and we have done that.

We think all the pieces are in place from that are implementation but that doesn't mean all the investments we'll ever make are done and certainly not as the for instance design for manufacturing part of that world become increasingly protocol.

That will be an area of perhaps separate focus if you choose to see it as a separate thing.

I see it as a continuum.

There are other parts of the business that are important.

The logic and functual verification business is an area where we don't have the share in the implementation business and I think it is a big opportunity there and as you take that continuum, there are major technology advances that are alike both inside and interesting things to look at outside that we would pay attention to.

Since Penny’s former job of chief marketing officer will for now be vacant, is this some new way you foresee getting the message out of customers?

Some change in marketing orientation or messaging or anything of that kind?

No, there is not.

Okay.

Bill, synopsis on their conference calls, they don't give a precise bookings number, will give us a potential carry over from one quarter to the next.

Is there a number like that in your case you could talk about?

No, Jay.

That's not a significant impact for us.

Not a material number.

Correct.

A couple more things.

With respect to Inotech you mentioned, that there will be a balance sheet effect from their receivables, is there any other balance sheet effects from the acquisition besides receivables?

As far as the normal purchase accounting, Jay, you'll see our intangibles go up which is essentially what we acquired with the customer contracts from that business, then you'll see, [it’s already on our financials] long-term on our financials and the long-term liability for the purchase of the business.

But that's really it.

Are the intangibles significant going forward?

No, it’s just part of the amortization of intangibles that you see with all of our acquisitions.

Okay.

And one last thing in technology, Ray, you said since the beginning of the year, the main objective is to get as many applications as possible on the way.

Are you pretty much done with that process or by the end of the year you'll be where you want to be with that availability?

Broadly, the answer is, yes.

But I think the goal is to get everything on open access which is well under way.

Then there's the goal of much, much deeper integration on open access so it operates more like (inaud_and that's a continuing process.

(inaud) versions, those are shipped in December.

We have now shipped the custom for Open Access where it is coming from.

So the big pieces of dust and now refinement of the integration process continuing to extend Open Access for new capabilities.

We are very pleased with customer response on Open Access.

Okay.

To wrap up, do you think your analog business, your CIC business, bookings will match corporate decline down 10% or do you think you can do better in analog than the rest of the business?

Because of these numbers, Jay, are driven by renewals, I would expect they'll be similar in direction.

I don't think they'll break the curve.

We saw some very, very big years in '01 and '02 in analog mix signal growth as the market was filling the needs to get into that capability in the current market, it's more about what's already there and renewing the contracts.

Thanks, very much.

Our next question comes Garo Toomajanian with RBC Capital Markets.

A question for Ray.

Under the new plan you mentioned, sounds like you're splitting synthesis and IC implementation into separate groups.

Are you seeing the customers not seeing these as married pieces and buying them separately?

Garo, I'll take that one.

There are two applications in synthesis.

Synthesis pulls front end logic who have not been going there this implementation, that’s in the process of creating a working RTL.

An RTL is a ready (inaud)[ application].

Second application synthesis is in the implementation flow, placed in route.

We are trying to get technology, the classical logic synthesis tool, but also integrated to encounter and taking core technology and integrating it into physical synthesis and as well as bringing new technologies that have not yet been announced.

Like the chip technology might cross those lines, then?

Absolutely, it will cross.

It [will deployed] both sides.

And, Garo, that's not unique just to synthesis.

The technology sharing is something that is already well understood among the business units that are being assigned between Penny and those practices will continue.

Great.

Regarding the asset acquisition with Inotech, you mentioned you are acquiring, leaving them the semi conductor business and leaving them with the assistance ship business?

Is that right?

Let me be clear about that.

We are acquiring most of their EDA software distribution capability and the persons of the 50 sales in AEs led by Bob.

We'll take direct responsibility for sales if not all of the Japanese IC market.

Inotech as our exclusive distributor will continue to distribute Cadence software into the systems market which we view as a real growth opportunity in the Japanese market.

So then are you acquiring most of the business?

Is that just a percent mark in terms of the business Inotech did for Cadence?

Yes, on the order of 80 to 85% of what Inotech had done for Cadence in a booking or revenue point of view.

They did a wonderful job of developing the IC market over the last ten years for us, now they'll turn their focus to develop the systems market for us.

Got it.

Lastly, on the Vertex acquisition, I think you said that on the one cent (inaud)-- do you see that turning break even in Q4 and accretive after that?

I do, Garo, this is short-term impact sort of getting them in and we should see that, getting accretive in 2004.

Thanks a lot.

Our next question comes from the line of Medhi Hosseini with Soundview Technology Group.

I have a couple of questions starting with booking for the year.

Now you are expecting to be down 10%.

Could you elaborate on customer types or end market or different segments where you see a strength or you see a weakness.

Is this 10% down here driven by any particular segment, and then I have follow-up questions.

Medhi, it's Ray.

It's broad.

There are exceptions we can speak about where investments are a little more aggressive.

But it's on the margin.

Companies involved, heavily involved in wireless applications are doing somewhat better, but still very focused on growing their bottom line because their top lines are not going that much.

Customers in the consumer areas of the market appear to be doing better but they're taking license in this environment to hammer a cost and grow the cost as part of the value propositions of their shareholders.

In sum, while you can point at bright spots here and there, hand-held devices, consumers, consumer goods, some wireless applications, it's a pervasive malaise or sideways market that most companies are experiencing evidenced by lack of top line growth.

Sure.

So to that extent, if we can look at it from a manufacturing point of view, are you seeing customers pushing out, delaying the transition to a nanometer and to that extent, if you could elaborate on eventual transition from 130 to 90 nanometer and how is this transition compare and contrasted from a transition 130-80 nanometers?

We have seen it stretch out.

Companies have put fewer projects and strain resources and move in that direction but we also see it coming back.

We see our customers beginning to prioritize their investment towards the 90 nanometer flows that they need they need to deliver on over the next year or so.

The same time something like 70-80% of the market is still designing on 180 nanometers or larger.

Sure.

So would you expect 130 nanometer to have extended lifetime compared to 180?

Sure.

I think that like 180, it will be longer than people have predicted.

Nonetheless investments now being made in the direction of 90 nanometer and we think that's an important reason why we are being successful with especially the power users in the market place.

Sure.

And my last question has to do with your new organization of product business groups.

If I understand it correctly, you separated business into physical implementation and functional [implementation], correct?

Correct.

Isn't that kind of contrary to what you have been saying in the past where you've been talking about integrated product offering where everything is integrated, front-end, back-end, everything integrated.

Now with this new organization and maybe I'm missing something, you've gone back to your old way of doing things separating front-end and back-end.

I don't think that this takes anything away from the integration story at all.

We are in the marketplace with five platforms that are highly integrated.

That takes integration up significantly from the very recent past of selling tools.

The synthesis as we discussed earlier, verification technology on flows, what we're describing is a focus internally on new technologies, the designer and the logic designer and new technologies and a powerful set of platforms, the physical [range] of our customer activity so that's the product level as it relates to how we go to market, it's still very much an integrated product creation solution.

What we're talking to customers about is how they get products to market from creating a front end all the way to physical implementation at the back end.

Sure.

Thank you.

Our next question comes from the line of Rich Valera with Needham & Company.

I guess this is for you Ray.

You talked about the strength of your renewal cycle this year being weak relative to '02 and expect '04 to be stronger.

Is there any way you can qualify or quantify the weakness relative to '04 and how that compares to '02.

Do you expect that to rebound to similar levels you saw in '02 in terms of relative strength?

I don't know that I can compare it to '02.

I don't really look at it this way.

As we plan-- awe looked at our plan coming into this year, we saw consisting renewal activity as I stated is the main driver in the EDA marketplace today, it consisted of driving new technology we developed internally and acquired and consists of the market share displacement and internal tool displacement, kind of activity that you can chisel out of the market even in a weak economy.

What's different about '03 is that the last part, the channel part of the pipeline part as Bill referred to, has proven to be in cost-conscious environment, the most difficult.

We look forward to next year and we still see the opportunities, we see the opportunity for a much larger renewal candle.

Continue to drive new technology in the marketplace and we believe if the economy recovers as we all hope it will, that the channel or pipeline business gets a lot better.

Okay.

That’s helpful.

With respect to your emulation booking, last quarter you had a record booking, you mentioned it is again strong—could you give us a sense was it close to that record level again this quarter on the emulation side?

It was another strong quarter and the encouraging part of it is the platform is opening up big opportunities with the kind of companies that didn't think they could afford to invest in a big emulation box but sure like access to the whole verification including emulations and platforms.

And one final one, in terms of accounting for D books, will those always netted out in a commentary you offer to us?

Yes, Rich, they are.

Our next question from the line of Dennis Wassung from Adams Harkness & Hill.

You mentioned on your call, you talked about a cash member in Q2, can you repeat that number?

Sure.

It's $89 million used for acquisitions in Q3.

Okay.

That was just Q2 or--?

That's correct.

.

And I guess secondly from there, just curious, [that] you talked quite a bit about design from the manufacturing state, any progress from that area you can comment on here or in addition to that, the DFT area, you've been working a lot with the IBM technology, any efforts there?

I’ll take that one.

Yes, we continue with that heavily and we are very pleased with some customer relationships resulting there.

We won't be announcing strategy until 2004.

With respect to DST, we are currently bringing the IBM technology to market through (inaud), but getting extremely strong endorsements from major IBM’s and power of technology.

So we'll bring it to market but we’re making sure it's ready.

That’s Likely a 2004 story as well?

You’ll see a story on task within the next 12 months.

Okay.

Additionally you mentioned a new I think [x] architecture technology license in Japan in Q2, can you elaborate on that at all?

No, we are keeping it confidential on the customer’s reguest, but it’s a major Japanese supplier and will liken the technology to production.

Okay.

And lastly, a question for Ray, you're talking about just no real rebound in the IC space, can you comment on design activity?

Obviously customers are not willing to open up the checkbook much here, are you seeing increases, projects being given the green light or activity in general while the customers are holding their EDA spending?

Any of that happening as pricing is under pressure here and they’re demanding more tools for the same amount of dollar as soon as.

There are two things going on out there.

If I'm running an IC company, I'm looking to grow something.

If I can't grow the top line, I’m going to grow the bottom line and that's the pervasive view in IC companies, in electronics companies today.

At the same time they all look at the same things we do.

They understand they're in a growth business and that they're hopeful we are beginning to see the beginnings of a pickup.

We are seeing a moderate pickup truck in design activity.

I think that's consistent with our view that we're beginning to see a pickup in the move to 19 nanometers.

Okay.

Would you say those increases are on the design activity side or specific to those areas you talked about namely consumer, wireless, hand held, those types of areas or is that more broad across the electronics environment?

No, it's consistent where you see the encouraging areas, wireless areas, wireless, consumer, that's where the design activities are happening because that's where they can justify it from an end market point of view.

Okay.

You mentioned earlier on a percentage of design activity right now still at 180 nanometers?

What was that number again and can you qualify or give an estimate where you think 130 and 90 are and relative to that as well?

Referring to private (inaud) the industry data that I see is that between 70-80% of all designs today are done at 180 or larger.

That same steady that I was looking at actually last night suggested the number is more like 60% next year.

It means more is moving to 150, 130 and beyond.

Are you talking about current design activity or current chips in the market?

Chips.

Okay.

Very good.

Thank you much for your help.

Our next question comes from the line of Arnab Chanda with Lehman Brothers.

Please proceed with your question.

Just a couple of questions.

Seems like you see growth in the second quarter after a few quarters of declines and, again you were again [posting] a decline third quarter.

Is there something that changed in the quarter, something that happened that was unanticipated for this to happen and then a couple of follow-up as soon as.

No.

I don't think there's anything that's happening here in terms of cycles.

For the year we saw things pick up slowly in the first half and that’s just what you are seeing reflected really in the second half in terms of revenue.

Given our subscription model, the weaker outlook seeing a flow into the second quarter, or second half.

Also the other thing we have seen is very good strength particularly in the second quarter with our hardware revenue because we had strong quarters in Q1 and Q2.

Good bookings activity in Q3 but not as much during the revenue base on the shipments.

Those are tactical things but that's just what is reflected in the total year.

So nothing dramatically changing.

I think that 10% is really something we saw in the pipeline business and just being reflected in the second half.

Nothing more significant than that.

Thank you.

It's great that you've been able to control the cost so that you're not changing much of the bottom line, seems like you're expecting a big move up in the fourth quarter.

Is there something that suggests that?

Obviously you made a couple of acquisitions giving you some revenues, maybe you could shed some light on that?

I'm sorry.

You cut off during the question so I didn't get the full question.

Could you repeat it, please?

Sure.

Basically what I was suggesting is it seems you are suggesting a fourth quarter bump up in revenues.

I was curious.

You made a couple of acquisitions, that you announced-- the change in the business model in Japan, could you talk where you expect that bump up to come from to get those sort of numbers?

We'll be getting additional traction from those technologies coming in, it takes about a quarter to get everything in place and moving.

An also we’ve go Q4, we've got business we feel confident about.

A combination of both of those activities.

The cycle is just picking up in the fourth quarter.

Thanks a lot.

Our next question from the line of Rai Seth with SG Cowan.

Please proceed with your follow up question.

Thanks.

Question has been answered.

Next question comes from the line of Bill Frerichs of D.A.

Davidson & Co. Please proceed with your follow up question.

Yes, first of all the spending, or the cost and expenses reduction year over year for the second half, those are year over year down comparisons, right?

That's correct. 20%.

So I should look at last year second half.

Does it include your cost of goods or just expense?

Or all costs?

All costs and expenses, Bill.

Great.

And then, finally, do you have to grow bookings in the second half to get to your down 10% target?

Yes, we do expect bookings to grow during the second half just as this cycle picks up.

Great.

Thank you very much.

I'm showing no further questions at this time.

Please continue with your presentation and closing.

Thank you. (Inaud).

Ladies and gentlemen, please stand by, your conference call will resume momentarily.

That does conclude your conference call today.

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