Synopsys, Inc. — Q3 FY2016 Form 10-Q
Reporting period: Quarter ended July 31, 2016 (the company’s fiscal quarter ended July 30); nine-month results are for the period ended July 31. Comparisons are with the corresponding FY2015 periods. Amounts below are U.S. dollars unless stated otherwise.
Business context and performance
Synopsys provides electronic design automation software, semiconductor intellectual property, hardware and related services, as well as software quality and security tools. It operates as one reportable segment. Management says about 90% of annual revenue is generally time-based; 89% of Q3 revenue was time-based.
| Metric | Q3 FY2016 | Q3 FY2015 | Nine months FY2016 | Nine months FY2015 |
|---|---|---|---|---|
| Revenue | $615.2M | $555.8M | $1,788.8M | $1,655.1M |
| Gross margin | 77.3% | 76.7% | 77.6% | 77.1% |
| Operating income | $76.7M | $61.5M | $234.6M | $208.9M |
| Operating margin | 12.5% | 11.1% | 13.1% | 12.6% |
| Net income | $64.7M | $55.4M | $194.1M | $176.2M |
| Diluted EPS | $0.42 | $0.35 | $1.26 | $1.12 |
| Net margin | 10.5% | 10.0% | 10.9% | 10.6% |
- Q3 revenue rose 11%; management attributes growth mainly to higher hardware sales, time-based license revenue from earlier bookings, and acquisitions. Nine-month revenue grew 8%.
- Q3 time-based license revenue was $479.3M, up 8%; upfront license revenue was $66.9M, up 37%, primarily reflecting hardware sales; maintenance and service revenue was $69.0M, up 13%. For nine months, time-based license revenue increased 8%, upfront license revenue 21%, and maintenance and service revenue 1%.
- Q3 costs and operating expenses totaled $538.5M, up 9%. R&D increased 12% in the quarter, mainly from headcount and acquisition-related costs. The Q3 effective tax rate was 24.1%, versus 15.0%; the nine-month rate was 21.3%, versus 21.9%.
Cash flow, balance sheet and capital allocation
- Nine-month operating cash flow was $439.0M, versus $342.7M. Investing activities used $125.6M, versus $333.7M; financing activities used $205.6M, versus providing $13.4M.
- At July 31, cash, cash equivalents and short-term investments totaled $1,089.9M, up from $964.9M at October 31, 2015. Cash and equivalents were $946.3M; short-term investments were $143.5M.
- Current liabilities exceeded current assets by $111.6M (negative working capital). Deferred revenue was $1,086.9M in total, including $1,009.1M current. Accounts receivable was $317.1M; days sales outstanding were 47, down from 60 at fiscal year-end.
- Debt was $277.5M, all classified as short-term: $255.0M drawn on the revolver and $22.5M on the term loan. Cash and investments exceeded debt by about $812.4M. The company reported compliance with credit-facility covenants; the revolver matures in May 2020.
- Approximately 88% of cash, cash equivalents and short-term investments was held outside the U.S. Management believes available liquidity, operating cash flow and credit capacity are sufficient for routine needs for at least 12 months.
- Nine-month treasury-stock purchases were $300.0M, with an additional $25.0M equity-forward amount settled in August. At July 31, $175.0M remained available under the repurchase authorization.
Outlook, risks and unusual items
- No quantified quarterly or full-year earnings or revenue guidance is provided in the supplied filing text. Management describes the business outlook as solid and expects time-based license, maintenance and professional-services revenue to remain about 90% of annual revenue.
- Management cautions that results can fluctuate with customer spending and design activity, contract timing and payment terms, hardware sales, product mix, acquisitions, foreign exchange, and the timing of renewals and services projects. Semiconductor-industry weakness or customer consolidation could pressure demand and margins.
- Mentor Graphics litigation remains material: a jury assessed approximately $36M in damages and an injunction restricted certain ZeBu sales activities. Synopsys appealed; the appeal hearing occurred June 9, 2016, with a decision pending. A separate Japan ruling was affirmed in Synopsys’s favor. Other patent appeals also remained pending.
- The company disclosed unauthorized third-party access to its SolvNet customer license and product delivery system, discovered in October 2015 and beginning in July 2015. It reported that no customer project or design data, personal information or payment-card information was accessed.
- Gross unrecognized tax benefits were $111.5M, excluding interest and penalties. The company said a decrease of $0–$20M was reasonably possible within 12 months, but timing and settlement outcomes were uncertain.
- Fiscal 2016 acquisitions had aggregate purchase consideration of $56.6M, net of cash acquired; preliminary purchase allocations were not finalized. Nine-month restructuring charges were $3.0M, with payments expected to be completed before fiscal year-end.
- One customer, including subsidiaries, accounted for more than 10% of revenue in both the quarter and nine-month periods. The filing also cites foreign-exchange exposure, international tax changes, acquisition integration, cybersecurity, and dependence on semiconductor-industry investment as risks.
Most important facts for investors to verify
- Whether revenue growth—particularly hardware and upfront license sales—continues, and how it affects gross and operating margins.
- Whether operating cash flow remains strong relative to repurchases, acquisition spending and debt, including the effect of the large overseas cash balance on U.S. liquidity.
- The outcome and potential financial or operational impact of the Mentor litigation appeals and injunction.
- Developments in tax audits and unrecognized tax benefits, and any effect of international tax-rule changes on the effective tax rate.
- Whether customer concentration, semiconductor spending, acquisitions and cybersecurity risks materially change future results.