Cadence Design Systems, Inc. — Q2 2015 Form 10-Q
Business context and reporting period. Cadence develops electronic design automation software, emulation hardware, design and verification IP, maintenance, and engineering services. This unaudited quarterly report covers the three and six months ended July 4, 2015; comparisons are to the periods ended June 28, 2014. Amounts below are U.S. dollars; financial figures are in millions unless stated otherwise.
Financial performance and liquidity
| Metric | Q2 2015 | Q2 2014 | First half 2015 | First half 2014 |
|---|---|---|---|---|
| Revenue | $415.9 | $378.8 | $827.2 | $757.3 |
| Operating income | $76.4 | $35.5 | $125.7 | $77.8 |
| Operating margin | 18.4% | 9.4% | 15.2% | 10.3% |
| Net income | $58.2 | $23.3 | $94.4 | $56.3 |
| Diluted EPS | $0.19 | $0.08 | $0.30 | $0.19 |
| Operating cash flow | Not stated for quarter | Not stated for quarter | $168.4 | $97.0 |
Q2 gross margin was approximately 87.6%, versus 85.6%; first-half gross margin was approximately 86.4%, versus 85.3%. These are calculated from reported revenue and product, maintenance, and services costs.
- Revenue mix: Q2 product and maintenance revenue was $385.0 million, up 9%; services revenue was $30.9 million, up 27%. First-half revenue increased 9% overall, with product and maintenance up 8% and services up 29%.
- Costs and earnings: Q2 operating income more than doubled. Lower emulation-hardware costs and favorable foreign-exchange effects on operating expenses contributed; research and development spending and stock-based compensation increased. First-half R&D expense rose 7% to $321.0 million.
- Balance sheet at July 4: Cash and cash equivalents were $647.9 million and short-term investments were $96.6 million, totaling $744.4 million, down from $1,022.6 million at January 3. Net working capital was $539.9 million, up from $458.6 million.
- Debt: Outstanding debt was $350.0 million principal, carried at $348.7 million, consisting of 4.375% senior notes due 2024. The $350.0 million 2015 convertible notes were paid or settled before quarter-end. The $250 million revolving facility had no borrowings; the company reported compliance with its financial covenants.
- Cash uses and sources: First-half investing activities used $28.1 million, compared with $180.5 million in 2014, when acquisitions were a major use. Financing activities used $410.6 million, primarily for settlement of the 2015 notes and $93.1 million of share repurchases. Cash declined by $284.3 million during the half.
Material changes and management commentary
- Management attributed revenue growth primarily to higher business levels and incremental revenue from fiscal 2014 acquisitions; services growth also reflected increased demand for IP offerings.
- Revenue increased in the United States and Asia, while Japan revenue declined 6% in Q2 and 7% in the first half, attributed to yen depreciation and challenging customer conditions.
- Management aims for approximately 90% of revenue to be recurring, but actual period mix can be affected by hardware sales and revenue-recognition timing.
- Management estimated a fiscal 2015 annual effective tax rate of approximately 15%, excluding certain uncertain or unanticipated items, including any future research-credit benefit.
- Management said available cash, operating cash flows, potential domestic borrowings, and the revolving facility should cover working-capital and other liquidity needs for at least the next 12 months, including possible acquisitions and repurchases.
Outlook, risks, contingencies, and unusual items
- No specific revenue or earnings guidance was provided in the filing. Management cautioned that results may vary and depend on customer design activity, bookings, product mix, delivery timing, and revenue recognition.
- Key risks include semiconductor and electronics industry cyclicality; competition and pricing pressure; rapid technology change; reliance on sole suppliers for certain hardware components; foreign-currency exposure; customer payment or project delays; and risks in integrating acquisitions.
- Approximately 53% of cash, cash equivalents, and short-term investments was held by foreign subsidiaries. Repatriating certain indefinitely reinvested foreign earnings could create additional tax expense. One customer represented approximately 19% of receivables at July 4.
- Interest-rate sensitivity: a 1% increase in market rates was estimated to reduce the fair value of marketable debt securities by approximately $0.9 million. Foreign-exchange forward contracts had $134.7 million notional value and estimated fair value of negative $0.5 million.
- The 2015 notes’ related cash-conversion hedge proceeds offset $530.6 million of conversion-derivative payments. Separate 2015 warrants, with a $10.78 strike price, were scheduled to expire between September and December 2015 and could dilute shareholders if the stock price exceeded the strike.
- In July 2015, the board authorized an additional $578.8 million under prior repurchase authorizations and established an 18-month repurchase plan of up to $1.2 billion, beginning in Q3. Repurchases are discretionary and subject to conditions.
- A new restructuring plan generated $3.9 million of first-half charges, mainly severance; related cash payments were expected through Q4 fiscal 2016. The filing describes ordinary-course legal disputes but gives no clear quantified estimate of potential losses. Management reported disclosure controls were effective and no material quarterly change in internal control.
Important facts for investors to verify
- Whether revenue growth and improved margins persist, particularly given hardware delivery timing, recurring-revenue mix, and acquisition contributions.
- Cash generation and the impact of debt settlement, the expanded repurchase authorization, and any warrant-related dilution on liquidity and per-share results.
- Exposure to Japan and other foreign currencies, customer receivable concentration, and the level of cash held outside the United States.
- Execution of the restructuring plan, the fiscal 2015 tax-rate estimate, and any material developments in litigation, customer credit, or supplier availability.