1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 FORM 10-Q (Mark One) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 29, 1996 ------------------------------------ OR [X] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from to ------------------------------------ Commission file number 1-10606 CADENCE DESIGN SYSTEMS, INC. (Exact name of registrant as specified in its charter) Delaware 77-0148231 (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 555 River Oaks Parkway, San Jose, California 95134 (Address of principal executive offices) (Zip Code) (408) 943-1234 Registrant's telephone number, including area code Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No -- -- At August 2, 1996 there were 77,852,577 shares of the registrant's Common Stock, $0.01 par value outstanding.
2 CADENCE DESIGN SYSTEMS, INC. INDEX <TABLE> <CAPTION> PAGE <S> <C> <C> PART I. FINANCIAL INFORMATION Item 1. Financial Statements Condensed Consolidated Balance Sheets: June 29, 1996 and December 30, 1995 1 Condensed Consolidated Statements of Income: Three and Six Months Ended June 29, 1996 and July 1, 1995 2 Condensed Consolidated Statements of Cash Flows: Six Months Ended June 29, 1996 and July 1, 1995 3 Notes to Condensed Consolidated Financial Statements 4 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 7 PART II. OTHER INFORMATION Item 1. Legal Proceedings 11 Item 4. Submission of Matters to a Vote of Security Holders 12 Item 6. Exhibits and Reports on Form 8-K 13 Signatures 15 </TABLE>
3 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS CADENCE DESIGN SYSTEMS, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS) <TABLE> <CAPTION> June 29, December 30, 1996 1995 ---------- --------- (Unaudited) <S> <C> <C> ASSETS Current Assets Cash and cash investments $ 88,646 $ 84,867 Short-term investments 10,433 11,774 Accounts receivable, net 93,955 88,503 Inventories 6,726 8,203 Prepaid expenses and other 21,747 13,576 ---------- --------- Total current assets 221,507 206,923 Property, Plant and Equipment, net 139,117 124,103 Software Development Costs, net 24,643 25,793 Purchased Software and Intangibles, net 11,170 8,268 Other Assets 16,091 8,948 ---------- --------- Total assets $ 412,528 $ 374,035 ========== ========= LIABILITIES AND STOCKHOLDERS' EQUITY Current Liabilities Current portion of long-term debt $ 3,025 $ 1,497 Accounts payable and accrued liabilities 95,300 91,999 Income taxes payable 6,259 14,524 Deferred revenue 115,139 92,407 ---------- --------- Total current liabilities 219,723 200,427 ---------- --------- Long-Term Liabilities Long-term debt 19,898 1,619 Deferred income taxes 3,809 7,307 Minority interest liability 14,113 12,167 Other long-term liabilities 16,494 18,434 ---------- --------- Total long-term liabilities 54,314 39,527 ---------- --------- Stockholders' Equity: Common stock and capital in excess of par value 332,167 299,544 Treasury stock at cost (38,686 and 35,231 shares, respectively) (369,413) (290,884) Retained earnings 176,728 124,471 Accumulated translation adjustment (991) 950 ---------- --------- Total stockholders' equity 138,491 134,081 ---------- --------- Total liabilities and stockholders' equity $ 412,528 $ 374,035 ========== ========= </TABLE> The accompanying notes are an integral part of these statements. 1
4 CADENCE DESIGN SYSTEMS, INC. CONDENSED CONSOLIDATED STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) <TABLE> <CAPTION> Three Months Ended Six Months Ended June 29, July 1, June 29, July 1, 1996 1995 1996 1995 --------- --------- --------- --------- (Unaudited) (Unaudited) <S> <C> <C> <C> <C> REVENUE Product $ 98,376 $ 65,687 $ 188,558 $ 127,797 Service 26,529 16,895 49,627 27,372 Maintenance 52,121 45,957 102,271 89,403 --------- --------- --------- --------- Total revenue 177,026 128,539 340,456 244,572 --------- --------- --------- --------- COSTS AND EXPENSES Cost of product 12,885 10,664 23,772 22,517 Cost of service 18,605 14,508 36,202 23,721 Cost of maintenance 6,275 4,279 11,430 8,176 Marketing and sales 52,961 42,612 105,154 84,832 Research and development 29,221 22,652 55,234 43,515 General and administrative 13,646 9,707 26,658 19,205 --------- --------- --------- --------- Total costs and expenses 133,593 104,422 258,450 201,966 --------- --------- --------- --------- INCOME FROM OPERATIONS 43,433 24,117 82,006 42,606 Other income (expense), net (764) 207 (1,159) (216) --------- --------- --------- --------- Income before provision for income taxes 42,669 24,324 80,847 42,390 Provision for income taxes 14,081 7,353 26,680 11,869 --------- --------- --------- --------- NET INCOME $ 28,588 $ 16,971 $ 54,167 $ 30,521 ========= ========= ========= ========== NET INCOME PER SHARE $ .31 $ .18 $ .59 $ .33 ========= ========= ========= ========== Weighted average common and common equivalent shares outstanding 91,841 92,880 91,557 93,807 ========= ========= ========= ========== </TABLE> The accompanying notes are an integral part of these statements. 2
5 CADENCE DESIGN SYSTEMS, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS) <TABLE> <CAPTION> Six Months Ended June 29, July 1, 1996 1995 --------- --------- (Unaudited) <S> <C> <C> CASH AND CASH INVESTMENTS AT BEGINNING OF PERIOD $ 84,867 $ 75,011 --------- --------- CASH FLOWS FROM OPERATING ACTIVITIES Net income 54,167 30,521 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization 24,665 22,856 Deferred income taxes, noncurrent (3,408) 1,585 Write-offs of equipment and other long-term assets 1,690 419 Other long-term liabilities and minority interest expense 17 (763) Changes in current assets and liabilities: Accounts receivable (14,390) 24,104 Inventories (2,229) (1,364) Prepaid expenses and other (678) (4,263) Accrued liabilities and payables 20,161 6,109 Deferred revenue 23,680 12,282 --------- --------- Net cash provided by operating activities 103,675 91,486 --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES Maturities of short-term investments 8,200 25,829 Purchases of short-term investments (6,859) (17,431) Purchases of property and equipment (24,554) (12,091) Capitalization of software development costs (6,897) (5,895) Increase in purchased software and intangibles and other assets (14,459) (7,086) Sale of put warrants 3,425 -- Purchase of call options (3,425) -- --------- --------- Net cash used for investing activities (44,569) (16,674) --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES Principal payments on capital lease obligations and long-term debt (1,016) (1,957) Net proceeds from issuance of long-term debt 19,763 -- Sale of common stock 13,169 16,221 Purchase of treasury stock (80,905) (91,242) Purchase of warrant (4,347) (12,125) --------- --------- Net cash used for financing activities (53,336) (89,103) --------- --------- EFFECT OF EXCHANGE RATE CHANGES ON CASH (1,991) 2,284 --------- --------- INCREASE (DECREASE) IN CASH AND CASH INVESTMENTS 3,779 (12,007) --------- --------- CASH AND CASH INVESTMENTS AT END OF PERIOD $ 88,646 $ 63,004 ========= ========= </TABLE> The accompanying notes are an integral part of these statements. 3
6 NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) BASIS OF PRESENTATION The condensed consolidated financial statements included herein have been prepared by the Company, without audit, pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. However, the Company believes that the disclosures are adequate to make the information presented not misleading. These condensed consolidated financial statements should be read in conjunction with the financial statements and the notes thereto included in the Company's annual report on Form 10-K for the fiscal year ended December 30, 1995. The unaudited condensed consolidated financial statements included herein reflect all adjustments (which include only normal, recurring adjustments) that are, in the opinion of management, necessary to state fairly the results for the periods presented. The results for such periods are not necessarily indicative of the results to be expected for the full fiscal year. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The Company's fiscal year is determined based upon the 52 - 53 week period ending on the Saturday closest to December 31. NEW ACCOUNTING STANDARD In October 1995, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards (SFAS) No. 123, "Accounting for Stock Based Compensation" which was adopted by the Company this year. SFAS No. 123 allows companies that have stock-based compensation arrangements with employees to adopt a new fair-value basis of accounting for stock options and other equity instruments, or to continue to apply the existing rules under Accounting Principles Board (APB) Opinion No. 25, "Accounting for Stock Issued to Employees" but with additional financial statement disclosure. The Company continues to account for employee stock-based compensation arrangements under APB Opinion No. 25, and therefore SFAS No. 123 did not have a material impact on its financial position, results of operations or cash flows. NET INCOME PER SHARE Net income per share for each period is calculated by dividing net income by the weighted average shares of common stock and common stock equivalents outstanding during the period (calculated using the modified treasury stock method). Common stock equivalents consist of dilutive shares issuable upon the exercise of outstanding common stock options and warrants. Fully diluted net income per share is substantially the same as primary net income per share. 4
7 INVENTORIES Inventories, which consist primarily of test equipment, are stated at the lower of cost (first-in, first-out method) or market. Cost includes labor, material and manufacturing overhead. Inventories consisted of the following (in thousands): <TABLE> <CAPTION> June 29, December 30, 1996 1995 -------- -------- (Unaudited) <S> <C> <C> Raw materials and supplies $ 3,325 $ 2,335 Work-in-process 2,664 3,825 Finished goods 737 2,043 -------- -------- Total $ 6,726 $ 8,203 ======== ======== </TABLE> NOTE PAYABLE In May 1996, the Company's wholly owned real estate partnership, River Oaks Place Associates L.P. (the Partnership), entered into a $20 million long-term financing arrangement (the Loan) with a bank. The financing agreement expires on December 31, 2005, and requires quarterly principal payments beginning on September 30, 1996 in amounts ranging from $.4 million to $.7 million. The Partnership has the option to pay interest at the London Interbank Offering Rate (LIBOR) plus 1.5% or the higher of the bank's prime rate plus 0.5% or the Federal Funds rate plus 1.5%. The Loan is secured by the real and personal properties of the Partnership. In connection with the Loan agreement, the Company extended its lease agreements with the Partnership until December 31, 2005 and minimum lease payments under the agreements have been assigned as security under the Loan agreement. LINE OF CREDIT In April 1996, the Company entered into a senior secured revolving credit facility (the Facility) which allows the Company to borrow up to $120.0 million through April 1999. The security for the Facility includes the majority of the Company's property, plant and equipment, cash, investments, intangibles, and certain other assets. The Company has the option to pay interest based upon LIBOR plus 1.5%, or the higher of the federal funds effective rate plus .5% or prime. The Company must comply with certain financial covenants and conditions as defined in the Facility which the Company was in compliance with at June 29, 1996. As of June 29, 1996, the Company had no outstanding borrowings under the Facility. COMMITMENTS AND CONTINGENCIES The Company is involved in various disputes and litigation matters which have arisen in the ordinary course of business. These include disputes and lawsuits related to intellectual property, contract law and employee relations matters. The Company filed a complaint in the United States District Court for the Northern District of California on December 6, 1995 against Avant! Corporation (Avant!, formed by a merger of companies formerly known as ArcSys, Inc. and ISS, Inc.) and certain of its employees for misappropriation of trade secrets, copyright infringement, conspiracy and other illegalities. On January 16, 1996, Avant! filed various counterclaims against the Company and the Company's President and CEO, and on April 12, 1996, Avant! filed a First Amended Counterclaim. The amended counterclaim alleges, inter alia, that the Company and its President and CEO had cooperated with the Santa Clara County District Attorney and initiated and pursued its complaint against Avant! for anticompetitive reasons, engaged in wrongful activity in an attempt to manipulate Avant!'s stock price and utilized certain pricing policies and other acts to unfairly compete against Avant! in the marketplace. The amended counterclaim also alleges that certain Company insiders engaged in illegal insider trading with respect to Avant!'s stock. The Company and its President and CEO continue to believe that each has meritorious defenses to Avant!'s amended counterclaims, and each intends to defend such action vigorously. By an order dated July 13, 1996, the court bifurcated Avant!'s counterclaim from the Company's complaint. 5
8 On April 19, 1996, the Company filed a motion seeking a preliminary injunction to prevent Avant! from continuing to market ArcCell and ArcCell XO, two software lines which the Company alleges were misappropriated. A hearing on the motion is anticipated to take place in the third quarter of 1996. Management believes that the ultimate resolution of the disputes and litigation matters discussed above will not have a material adverse effect on the Company's financial position or results of operations. PUT WARRANTS AND CALL OPTIONS The Company has an authorized stock repurchase program. In total, as of June 29, 1996, the Company had authorized the repurchase of 55.6 million shares, of which approximately 44.0 million shares had been repurchased. Included in the authorized 55.6 million shares are 4.5 million shares authorized for repurchase by the Board of Directors in May 1996, that are subject to certain constraints. The Company repurchases common stock in part to satisfy estimated requirements for shares to be issued under its employee stock option and stock purchase plans as well as in connection with acquisitions. Since 1994, as part of its authorized stock repurchase program, the Company has sold 15.7 million put warrants through private placement. As of June 29, 1996, 15.1 million of these warrants had expired out of the money. The remaining outstanding .6 million warrants entitle the holder to sell one share of common stock to the Company on a specified date at $34.92 per share. Additionally, during this same period, the Company purchased approximately 11.8 million call options that entitled the Company to buy on a specified date one share of common stock, at a specified price. As of June 29, 1996, the Company had repurchased 11.4 million common shares pursuant to the exercise of call options for $125.1 million. The remaining .4 million outstanding call options have a price of $35.17 per share. Subsequent to June 29, 1996 the Company sold an additional 1.9 million put warrants which entitle the holder to sell one share of common stock to the Company on a specified date at a specified price ranging from $34.39 to $36.11 per share and purchased 1.4 million call options that entitle the Company to buy on a specified date one share of common stock, at a specified price ranging from $34.64 to $36.36 per share. The Company has the right to settle the put warrants with stock, cash or a combination of stock and cash equal to the difference between the exercise price and the fair value at the date of exercise. Settlement of the put warrants with stock could cause the Company to issue a substantial number of shares, depending on the exercise price of the put warrants and the per share fair value of the Company's common stock at the time of exercise. In addition, settlement of put warrants in stock or cash could lead to the disposition by put warrant holders of shares of the Company's common stock that such holders may have accumulated in anticipation of the exercise of the put warrants or call options, which may impact the trading price of the Company's common stock. At June 29, 1996, the Company had both the unconditional right and the intent to settle these put warrants with stock, and therefore, no amount was classified out of stockholders' equity in the accompanying balance sheet. The effect of the exercise of these put warrants and call options is reported in stockholders' equity. STOCK SPLIT In May, 1996, the Company's Board of Directors effected a three-for-two stock split, which was paid May 31, 1996, in the form of a dividend of one additional share of the Company's common stock for every two shares owned by stockholders as of the record date, May 16, 1996. Par value remained at $0.01 per share. The stock split resulted in the issuance of approximately 38.5 million additional shares of common stock from authorized but unissued shares. All share and per share data have been adjusted to reflect the stock split. 6
9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Except for the historical information contained herein, the following discussion contains forward looking statements that involve risks and uncertainties. The Company's actual results could differ materially from those discussed herein. Factors that could cause or contribute to such differences include, but are not limited to, those discussed below in Factors That May Affect Future Results. RESULTS OF OPERATIONS REVENUE <TABLE> <CAPTION> Three Months Ended Six Months Ended ------------------ ---------------- June 29, 1996 July 1, 1995 % Change June 29, 1996 July 1, 1995 % Change ------------- ------------ -------- ------------- ------------ -------- <S> <C> <C> <C> <C> <C> <C> (In millions) Product $ 98.4 $ 65.7 50% $ 188.6 $ 127.8 48% Service 26.5 16.9 57% 49.6 27.4 81% Maintenance 52.1 45.9 13% 102.3 89.4 14% --------- --------- -------- -------- Total revenue $ 177.0 $ 128.5 38% $ 340.5 $ 244.6 39% ========= ========= ======== ======== Sources of Revenue as a Percent of Total Revenue Product 56% 51% 55% 52% Service 15% 13% 15% 11% Maintenance 29% 36% 30% 37% </TABLE> International revenue was approximately $91.1 million and $61.9 million or 51% and 48% of total revenue for the three months ended June 29, 1996 and July 1, 1995, respectively. For the six month period ended June 29, 1996, revenue from international sources was $166.0 million, representing 49% of total revenue as compared to $125.0 million, representing 51% of total revenue for the comparable period in 1995. The increases in revenue from international sources when comparing 1996 results to the comparable 1995 periods are attributable to sales growth and new Spectrum service contracts in all regions. The increase in international revenue in the second quarter of 1996 compared with the second quarter of 1995 more than offset the negative impact of $7.3 million on revenue as the result of the weakening of certain foreign currencies, primarily the Japanese yen, in relation to the U.S. dollar. The increase in product revenue for the three and six months ended June 29, 1996 as compared with the same periods of the prior year was primarily the result of increased demand for the Company's products which enable customers to meet complex design challenges, including deep sub-micron IC design. This was exemplified by increased sales volume of its automatic place and route, physical verification and timing-driven design process tools. Service revenue increased for the three and six months ended June 29, 1996 as compared with the same periods of the prior year. The increase in service revenue was the result of increased demand for the Company's Spectrum Services offerings. Additionally, revenue for the six months ended June 29, 1996 included a full six months of revenue related to the March 1995 outsourcing agreement with Unisys Corporation (Unisys) to assume substantial portions of Unisys' internal silicon design operation. The increase in maintenance revenue for the three and six month periods ended June 29, 1996 as compared to the three and six month periods ended July 1, 1995, was attributable to an increase in the Company's installed base of products. 7
10 COST OF REVENUE <TABLE> <CAPTION> Three Months Ended Six Months Ended ------------------- ---------------- June 29, 1996 July 1, 1995 % Change June 29, 1996 July 1, 1995 % Change ------------- ------------ -------- ------------- ------------ -------- <S> <C> <C> <C> <C> <C> <C> (In millions) Product $ 12.9 $ 10.7 21% $ 23.8 $ 22.5 6% Service $ 18.6 $ 14.5 28% $ 36.2 $ 23.7 53% Maintenance $ 6.3 $ 4.3 47% $ 11.4 $ 8.2 40% Cost of Revenue as a Percent of Related Revenue Product 13% 16% 13% 18% Service 70% 86% 73% 87% Maintenance 12% 9% 11% 9% </TABLE> Cost of product revenue includes costs of production personnel, packaging and documentation, amortization of capitalized software development costs and purchased software costs and costs of the Company's automated test equipment hardware business. The increase in cost of product in absolute dollars for the quarter and six months ended June 29, 1996 as compared to the quarter and six months ended July 1, 1995 was due to higher amortization of purchased software costs resulting from 1996 purchases and the write-off of approximately $1.6 million of capitalized software development costs related to products at the end of their life cycle. The decrease in cost of product as a percentage of product revenue for the quarter and six months ended June 29, 1996 as compared to the quarter and six months ended July 1, 1995 was primarily due to consolidation and centralization of the Japanese production process. Cost of service revenue includes personnel and related costs associated with providing services to customers and the infrastructure to manage a service organization, as well as costs to recruit, develop and retain service professionals. Cost of service increased in total dollars due to increased service revenue and the continued development of this line of business. Additionally, the costs for the six months ended June 29, 1996 included a full six months of expenses related to the March 1995 outsourcing agreement with Unisys to assume substantial portions of Unisys' internal silicon design operation. As part of this agreement, the Company retained approximately 180 hardware and software designers and acquired fixed assets and certain intangibles. While primarily focused on serving the needs of Unisys, the design and service resources acquired by the Company are also intended to be used to support other customers' design needs. In the first half of 1996, as the Company utilized more of its design and service resources to generate revenue, cost of service as a percentage of service revenue decreased as compared to the prior year. However, until these design and service resources are fully utilized through additional revenue contracts or until further operating efficiencies are obtained, service gross margins could continue to be negatively impacted. Additionally, the cost of integrating new services professionals performing a growing number of service offerings will also put pressure on service gross margins until operating efficiencies are obtained. Cost of maintenance revenue includes the cost of customer services such as hot-line and on-site support and the production cost of the maintenance renewal process. Cost of maintenance increased in total dollars and as a percentage of maintenance revenue due to additional on-site support costs necessary to support a larger installed base. 8
11 OPERATING EXPENSES <TABLE> <CAPTION> Three Months Ended Six Months Ended ------------------- ---------------- June 29, 1996 July 1, 1995 % Change June 29, 1996 July 1, 1995 % Change ------------- ------------ -------- ------------- ------------ -------- <S> <C> <C> <C> <C> <C> <C> (In millions) Marketing and sales $ 53.0 $ 42.6 24% $ 105.2 $ 84.8 24% Research and development $ 29.2 $ 22.7 29% $ 55.2 $ 43.5 27% General and administrative $ 13.6 $ 9.7 41% $ 26.7 $ 19.2 39% Expenses as a Percent of Total Revenue Marketing and sales 30% 33% 31% 35% Research and development 17% 18% 16% 18% General and administrative 8% 8% 8% 8% </TABLE> The increase in marketing and sales expenses, for the three and six month periods ended June 29, 1996, as compared to the same periods in the prior year, was primarily the result of increases in employee related expenses attributable to increased headcount. Weakening of certain foreign currencies in relation to the U.S. dollar favorably impacted marketing and sales expenses by approximately $2.3 million and $3.1 million for the three and six month periods ended June 29, 1996, respectively, as compared to the prior year. The Company's investment in research and development, prior to the reduction for capitalization of software development costs, was $32.9 million and $25.6 million for the quarters ended June 29, 1996 and July 1, 1995, respectively, representing 19% and 20% of total revenue. Capitalization of software development costs for the quarters ended June 29, 1996 and July 1, 1995 was $3.7 million and $2.9 million, respectively, which represented 11% of total research and development expenditures made in each of those periods. For the six months ended June 29, 1996, gross research and development expenses were $62.1 million compared to $49.4 million for the same period in 1995, after capitalization of $6.9 million and $5.9 million which represented 11% and 12% of total research and development expenditures made in those periods, respectively. The expense increases for the three and six month periods of 1996 as compared to 1995 were primarily attributable to increases in salary related costs due to increased headcount and higher consulting and other outside service costs. In any given period, the amount of capitalized software development costs may vary depending on the exact nature of the development performed. General and administrative expenses increased in the three and six month periods ended June 29, 1996 as compared to the same periods of the prior year primarily as a result of higher legal costs of $1.8 million and $3.7 million, respectively. In addition, the Company incurred higher outside service and consulting costs and increased headcount related expenses. Net other expense for the quarter ended June 29, 1996 was $.8 million of expense compared with $.2 million of income for the same period in 1995. For the six months ended June 29, 1996, net other expense was $1.2 million of expense compared with $.2 million of expense for the same period in 1995. The increase in net other expense for the three and six month periods ended June 29, 1996 was primarily the result of a $.9 million and $1.5 million increase, respectively, in minority interest expense primarily related to Integrated Measurement Systems, Inc., the Company's majority-owned subsidiary. The Company's estimated annual effective tax rate for fiscal 1996 is 33% as compared to an annual effective tax rate of 28% for fiscal 1995. This estimated increase in the tax rate is based on the limited availability of net operating losses and tax credits and the potential effect of earnings generated in countries which have a tax rate greater than the U.S. tax rate. 9
12 LIQUIDITY AND CAPITAL RESOURCES At June 29, 1996, the Company's principal sources of liquidity consisted of $99.1 million of cash and short-term investments as compared to $76.5 million at July 1, 1995 and a three-year, $120 million secured revolving line of credit agreement. As of June 29, 1996, the Company had no borrowings under the revolving line of credit. Cash generated from operating activities increased $12.2 million for the six months ended June 29, 1996, as compared to the six months ended July 1, 1995. The increase was due to higher net income and an increase in accrued liabilities and payables and deferred revenue; offset by an increase in accounts receivable. At June 29, 1996, the Company had a working capital surplus of $1.8 million compared with $6.5 million at December 30, 1995. The primary reasons for the decrease were increases in deferred revenue of $22.7 million, partly offset by a decrease in income tax payable of $8.3 million and an increase in prepaid expenses and other current assets of $8.2 million. The increase in deferred revenue was attributable to increased maintenance renewals and an increase in deferred product revenue in accordance with the American Institute of Certified Public Accountants Statement of Position 91-1 entitled "Software Revenue Recognition." The increase in prepaid expenses and other current assets was due to an increase in other receivables. In addition to its short-term investments, the Company's primary investing activities were purchases of property and equipment, purchases of software and intangibles and the capitalization of software development costs, which combined, represented $45.9 million and $25.1 million of cash used for investing activities in the six months ended June 29, 1996 and July 1, 1995, respectively. The Company has an authorized stock repurchase program. In total, as of June 29, 1996, the Company had authorized the repurchase of 55.6 million shares, of which approximately 44.0 million shares had been repurchased. Included in the authorized 55.6 million shares are 4.5 million shares authorized for repurchase by the Board of Directors in May 1996, that are subject to certain constraints. The Company repurchases common stock in part to satisfy estimated requirements for shares to be issued under the Company's employee stock option and stock purchase plans as well as in connection with acquisitions. Past repurchase activity should not be considered as an indicator of future repurchases. Since 1994, as part of its authorized stock repurchase program, the Company has sold 15.7 million put warrants and purchased 11.8 million call options through private placements. The Company had a maximum potential obligation related to the put warrants at June 29, 1996 to buy back .6 million shares of its common stock at an aggregate price of approximately $20.0 million. The put warrants will expire in June 1997. Subsequent to June 29, 1996, the Company sold an additional 1.9 million put warrants which entitle the holder to sell one share of common stock to the Company on a specified date at a specified price ranging from $34.39 to $36.11 per share and purchased 1.4 million call options that entitle the Company to buy on a specified date one share of common stock, at a specified price ranging from $34.64 to $36.36 per share. Anticipated cash requirements for fiscal 1996 include the purchase of treasury stock through the exercise of call options and in the open market and the contemplated additions of property, plant and equipment of approximately $32.0 million. As part of its overall investment strategy, the Company has committed to participating in a venture capital partnership as a limited partner. The Company's total committed investment of at least $25.0 million will be made over the next three to four years. As of June 29, 1996, the Company had contributed approximately $5.0 million, which is reflected in other assets in the accompanying balance sheet. The Company anticipates that current cash and short-term investment balances, cash flows from operations, and the $120 million revolving line of credit will be sufficient to meet its working capital and capital expenditure requirements on a short and long-term basis. 10
13 FACTORS THAT MAY AFFECT FUTURE RESULTS The Company competes in the highly competitive EDA market which continues to be characterized by aggressive pricing practices, rapid technological change and new market entrants. The Company's success is dependent upon its ability to develop innovative, cost-competitive EDA software products and services, and to bring them to market in a timely manner. The Company's future operating results are dependent on the Company's ability to successfully implement its strategy to help its customers meet their business objectives by developing custom solutions that leverage and improve the people, process and technology they use for product development. The Company accomplishes this through a combination of technology and services. Inherent in implementing this strategy are a number of risks that the Company must manage and that could affect its future operating results. These risks include the ability to successfully recruit, train and retain its skilled service professionals and the ability to profitably deliver solutions to increasingly complex customer design challenges. Growth of the service business is constrained by the Company's ability to hire and train service professionals to keep pace with demand. The Company's profitability could be adversely affected if it is unable to develop its service business as expected. It is anticipated that international revenue will continue to constitute a significant portion of total revenue. International revenue is subject to certain additional risks normally associated with international operations, including, among others, adoption and expansion of government trade restrictions, volatile foreign exchange rates, currency conversion risks, limitations on repatriation of earnings and reduced protection of intellectual property rights. The Company enters into foreign currency forward contracts to hedge the impact of foreign currency fluctuations. Though the Company attempts to reduce the impact of foreign currency fluctuations, significant exchange rate movements may have a material adverse impact on the Company's results of operations. The Company's operating expenses are partially based on its expectations of future revenue. The Company's results of operations may be adversely affected if revenue does not materialize in a quarter as expected. Since expense levels are usually committed in advance of revenues and because only a small portion of expenses vary with revenue, the Company's operating results may be impacted significantly by lower revenue. Based on the Company's operating history and factors that may cause fluctuations in the quarterly results, quarter to quarter comparisons should not be relied upon as indicators of future performance. Due to the foregoing, as well as other factors, past financial performance should not be considered an indicator of future performance. In addition, the Company's participation in a highly dynamic industry often results in significant volatility of the Company's common stock price. Any change in revenues or operating results below levels expected by securities analysts for the Company or its competitors, and the timing of the announcement of such shortfalls, could have an immediate and significant adverse effect on the trading price of the Company's common stock in any given period. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS The Company is involved in various disputes and litigation matters which have arisen in the ordinary course of business. These include disputes and lawsuits related to intellectual property, contract law and employee relations matters. The Company filed a complaint in the United States District Court for the Northern District of California on December 6, 1995 against Avant! Corporation (Avant!, formed by a merger of companies formerly known as ArcSys, Inc. and ISS, Inc.) and certain of its employees for misappropriation of trade secrets, copyright infringement, conspiracy and other illegalities. On January 16, 1996, Avant! filed various counterclaims against the Company and the Company's President and CEO, and on April 12, 1996, Avant! filed a First Amended Counterclaim. The amended counterclaim alleges, inter alia, that the Company and its President and CEO had cooperated with the Santa Clara County District Attorney and initiated and pursued its complaint against Avant! for anticompetitive reasons, engaged in wrongful activity in an attempt to manipulate Avant!'s stock price and utilized certain pricing policies and other acts to 11
14 unfairly compete against Avant! in the marketplace. The amended counterclaim also alleges that certain Company insiders engaged in illegal insider trading with respect to Avant!'s stock. The Company and its President and CEO continue to believe that each has meritorious defenses to Avant!'s amended counterclaims, and each intends to defend such action vigorously. By an order dated July 13, 1996, the court bifurcated Avant!'s counterclaim from the Company's complaint. On April 19, 1996, the Company filed a motion seeking a preliminary injunction to prevent Avant! from continuing to market ArcCell and ArcCell XO, two software lines which the Company alleges were misappropriated. A hearing on the motion is anticipated to take place in the third quarter of 1996. Management believes that the ultimate resolution of the disputes and litigation matters discussed above will not have a material adverse effect on the Company's financial position or results of operations. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS At the Annual Meeting of Stockholders held May 3, 1996, the stockholders of the Company approved the following matters. 1. A proposal to elect nine (9) directors of the Company to serve for the ensuing year and until their successors are elected or until such directors earlier resignation or removal. <TABLE> <CAPTION> NOMINEE IN FAVOR WITHHELD <S> <C> <C> Carol Bartz 40,361,324 2,317,396 Joseph B. Costello 40,360,291 2,318,429 Henry E. Johnston 40,361,011 2,317,709 Leonard Y.W. Liu 40,359,373 2,319,347 Donald L. Lucas 40,360,312 2,318,408 Alberto Sangiovanni-Vincentelli 40,361,303 2,317,417 George M. Scalise 40,359,426 2,319,294 John B. Shoven 40,360,853 2,317,867 James E. Solomon 40,361,978 2,316,742 </TABLE> 2. A proposal for the approval of the adoption of the Company's 1995 Directors Stock Option Plan, as amended, was approved by a vote of 31,726,853 for, 10,404,510 opposed and 140,934 withheld. 3. A proposal for the approval of the adoption of the Company's Chief Executive Officer Bonus Plan was approved 41,075,969 for, 931,729 opposed and 264,599 withheld. 4. A proposal for the ratification of the selection of Arthur Andersen LLP as independent public accountants was approved by a vote of 42,623,573 for, 35,123 opposed and 20,024 withheld. 12
15 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) The following exhibits are filed herewith: <TABLE> <CAPTION> EXHIBIT NUMBER EXHIBIT TITLE LOCATION - ------- ------------- -------- <C> <C> <C> 10.32 Term loan dated May 31, 1996, by and between Credit Lyonnais and River Oaks Place Associates L.P. (ROPA), a California limited partnership (the Term Loan). 16 10.33 Deed of Trust, Security Agreement, Assignment of Leases and Rents, Fixture Filing and Financing Statement dated May 31, 1996, Schedule to Term Loan. 74 10.34 Assignment of Leases and Rents dated May 31, 1996, Schedule to Term Loan. 100 10.35 Assignment of Partnership Interests Seeley Properties, Inc. dated May 31, 1996, Schedule to Term Loan. 109 10.36 Assignment of Partnership Interests Cadence Design Systems, Inc. dated May 31, 1996, Schedule to Term Loan. 118 10.37 Environmental Indemnity dated May 31, 1996, Schedule to Term Loan. 127 10.38 Amendment dated August 2, 1996, to Registrant's 1987 Stock Option Plan (incorporated by reference to Exhibit 4.01 to the Registrant's Form S-8 Registration Statement (No. 33-53913) filed on May 31, 1994). 135 10.39 Amendment dated August 2, 1996, to Registrant's 1993 Non Statutory Stock Option Plan (incorporated by reference to the Registrant's Form 10-Q for the third quarter ended September 30, 1994). 141 10.40 Amendment Number 1, dated May 31, 1996, to Lease Agreement for the Registrant's executive offices at 555 River Oaks Parkway, San Jose, California, by and between ROPA and the Registrant (incorporated by reference to Exhibit 10.14 to the Registrant's Form 10-K for the fiscal year ended December 31, 1990 (the 1990 Form 10-K)). 147 10.41 Amendment Number 2, dated May 31, 1996, to Lease Agreement for the Registrant's executive offices at 555 River Oaks Parkway, San Jose, California, by and between ROPA and the Registrant (incorporated by reference to Exhibit 10.14 to the 1990 Form 10-K). 149 10.42 Amendment Number 1, dated May 31, 1996, to Lease Agreement for the Registrant's offices at 575 River Oaks Parkway, San Jose, California, by and between ROPA and the Registrant (incorporated by reference to Exhibit 10.16 to the 1990 Form 10-K). 151 10.43 Amendment Number 2, dated May 31, 1996, to Lease Agreement for the Registrant's offices at 575 River Oaks Parkway, San Jose, California, by and between ROPA and the Registrant (incorporated by reference to Exhibit 10.16 to the 1990 Form 10-K). 153 10.44 Amendment Number 1, dated May 31, 1996, to Lease Agreement for the Registrant's offices at 535 and 545 River Oaks Parkway, San Jose, California, by and between ROPA and the Registrant (incorporated by reference to Exhibit 10.17 to the 1990 Form 10-K). 155 </TABLE> 13
16 <TABLE> <CAPTION> EXHIBIT NUMBER EXHIBIT TITLE LOCATION - ------- ------------- -------- <C> <C> <C> 10.45 Amendment Number 2, dated May 31, 1996, to Lease Agreement for the Registrant's offices at 535 and 545 River Oaks Parkway, San Jose, California, by and between ROPA and the Registrant (incorporated by reference to Exhibit 10.17 to the 1990 Form 10-K). 157 27.1 Financial data schedule for the period ended June 29, 1996. (b) Reports on Form 8-K No reports on Form 8-K have been filed during the quarter ended June 29, 1996. </TABLE> 14
17 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. CADENCE DESIGN SYSTEMS, INC. (REGISTRANT) DATE: August 12, 1996 By: /s/ Joseph B. Costello ---------------- -------------------------------------- JOSEPH B. COSTELLO President and Chief Executive Officer DATE: August 12, 1996 By: /s/ H. Raymond Bingham ---------------- -------------------------------------- H. RAYMOND BINGHAM Executive Vice President and Chief Financial Officer 15