Cadence Design Systems, Inc. — Q2 2016 Form 10-Q
Reporting period: Quarter ended July 2, 2016; comparisons are with the quarter ended July 4, 2015. Six-month results compare the corresponding six-month periods. Amounts below are in U.S. dollars; financial statement figures are rounded to millions unless stated otherwise.
Business context
Cadence develops electronic design automation software, emulation and prototyping hardware, design intellectual property, maintenance and engineering services for semiconductor and electronics customers. It reports as one operating segment. Management said growth reflected increased demand for software, emulation and prototyping hardware, and services.
Financial performance and liquidity
| Metric | Q2 2016 | Q2 2015 | First half 2016 | First half 2015 |
|---|---|---|---|---|
| Revenue | $453.0m | $415.9m | $900.9m | $827.2m |
| Operating income | $66.9m | $76.4m | $124.9m | $125.7m |
| Net income | $49.3m | $58.2m | $99.9m | $94.4m |
| Diluted EPS | $0.17 | $0.19 | $0.33 | $0.30 |
| Operating cash flow | — | — | $163.6m | $168.4m |
- Q2 revenue rose 9% year over year: product and maintenance increased 9% to $420.0m, while services rose 7% to $33.1m. First-half revenue also grew 9%; services increased 18%, partly reflecting recognition of a customer contract upon completion.
- Operating margin was approximately 14.8% in Q2 versus 18.4% a year earlier; first-half margin was approximately 13.9% versus 15.2%. Net margin was approximately 10.9% in Q2 versus 14.0%, and 11.1% for the first half versus 11.4%.
- Operating income declined in both comparison periods. Q2 net income fell 15%, while first-half net income rose 6%, helped by lower interest expense. Q2 research and development expense increased 15% and general and administrative expense increased 32%; product and maintenance costs rose 36%, primarily with higher hardware revenue and costs.
- First-half capital expenditures were $28.3m. Operating cash flow less capital expenditures was approximately $135.3m, compared with $144.4m in the prior-year period; this is a simple calculation, not a company-reported measure.
- At July 2, cash, cash equivalents and short-term investments totaled $704.3m, down from $711.2m at fiscal year-end. Net working capital was $397.7m, versus $427.9m. Current assets were $962.2m and current liabilities $564.5m.
- Debt carrying value was $693.1m, comprising a $300m term loan, $350m of 2024 notes and $50m drawn on the revolving facility. The term loan and revolver bear variable interest. Cadence reported covenant compliance. Approximately 66% of cash and short-term investments were held by foreign subsidiaries.
Material changes and unusual items
- Cadence repurchased $480.1m of shares in the first half, versus $93.1m in the prior-year period; approximately $480m remained authorized at July 2. Outstanding treasury stock and financing changed substantially as a result of repurchases and new borrowing.
- Two acquisitions were completed for $42.4m net cash consideration. Preliminary purchase accounting included $23.6m of goodwill and $23.2m of acquired intangible assets. Pro forma results were not presented because the acquisitions were not material to reported results.
- A first-half restructuring plan generated $14.2m of severance and related charges; $3.0m of related liabilities remained at quarter-end. Q2 restructuring and other charges were a small credit.
- Cadence early-adopted stock-based compensation accounting guidance in Q1, recording an approximately $7.8m cumulative reduction to opening accumulated deficit. The reported income tax provision includes the effects of the new accounting treatment.
Outlook, management commentary and risks
- Management estimated a fiscal 2016 annual effective tax rate of approximately 18%, excluding certain stock-compensation effects, potential acquisitions and other items that cannot be anticipated.
- Management expected R&D employee compensation costs and related stock-based compensation to increase during fiscal 2016. It also expected to execute the remaining repurchase authorization through fiscal year-end, subject to market, business and other conditions.
- Management said existing cash and investments, operating cash generation and available revolver capacity should meet working-capital and other liquidity needs, including acquisitions and repurchases, for at least the next 12 months.
- Key risks include uncertainty and cyclicality in semiconductor and electronics markets; customer design-project spending and revenue timing, especially for hardware and IP deliveries; competition and technology changes; dependence on certain hardware suppliers; foreign-exchange exposure; and debt, variable interest rates and restrictive covenants. The filing also discusses tax, cybersecurity, intellectual-property and litigation risks.
- Cadence described ordinary-course legal disputes and contingencies but did not provide a clear quantified estimate of potential losses in the supplied filing text. Management reported disclosure controls were effective and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether hardware and IP bookings and deliveries sustain revenue growth, given the quarter’s lower operating income and margins.
- How continued share repurchases, acquisitions and debt affect cash, leverage, interest expense and covenant headroom.
- Whether R&D and stock-compensation cost increases support future growth without further margin pressure.
- Potential changes to the estimated tax rate, foreign-cash access, currency exposure, and any material developments in litigation or other contingencies.