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Form 10-K
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
Commission file number 0 - 13442
MENTOR GRAPHICS CORPORATION
(Exact name of registrant as specified in its charter)
Oregon 93-0786033
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
8005 SW Boeckman Road 97070-7777
Wilsonville, Oregon (Zip Code)
(Address of principal executive offices)
Registrant's telephone number, including area code (503) 685-7000
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, without par value
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 twelve 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 [ ]
The aggregate market value of the voting stock held by non-affiliates of the
Registrant was approximately $905,939,098 on March 4, 1999 based upon the last
price of the Common Stock on that date reported in the Nasdaq National Market.
On March 4, 1999, there were 65,588,351 shares of the Registrant's Common Stock
outstanding.
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or in any amendment to
this Form 10-K. [X]
DOCUMENTS INCORPORATED BY REFERENCE
Part of Form 10-K into
Document which incorporated
------------------------------------ ----------------------
Portions of the 1999 Proxy Statement Part III
13
Table of Contents Page
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Part I ......................................................................15
Item 1. Business .......................................................15
Item 2. Properties .....................................................20
Item 3. Legal Proceedings ..............................................20
Item 4. Submission of Matters to a Vote of Security Holders ............22
Part II .....................................................................23
Item 5. Market for the Registrant's Common Equity and
Related Stockholder Matters ....................................23
Item 6. Selected Consolidated Financial Data ...........................23
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations ............................24
Item 7A. Quantitative and Qualitative Disclosures About Market Risk .....33
Item 8. Financial Statements and Supplementary Data ....................34
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure ............................49
Part III ....................................................................49
Item 10. Directors and Executive Officers of Registrant .................49
Item 11. Executive Compensation .........................................49
Item 12. Security Ownership of Certain Beneficial
Owners and Management ..........................................49
Item 13. Certain Relationships and Related Transactions .................49
Item 14. Exhibits, Financial Statement Schedules, and
Reports on Form 8-K ............................................50
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PART I
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Item 1. Business
This Form 10-K contains forward-looking statements that involve risks and
uncertainties. Actual results may differ materially from the forward-looking
statements. Factors that could cause or contribute to such differences include,
but are not limited to, those set forth under the caption "Factors That May
Affect Future Results and Financial Condition" under "Item 7, Management's
Discussion and Analysis of Results of Operations and Financial Condition."
GENERAL
Mentor Graphics Corporation (the Company) manufactures, markets and supports
software and hardware Electronic Design Automation (EDA) products and provides
related services which enable engineers to design, analyze, simulate, model,
implement and verify the components of electronic systems. In addition to
traditional EDA products, the Company's product offerings include (1)
intellectual property (IP) products and services intended to increase design
efficiency by delivering standard, reusable functions for the design of hardware
components and (2) embedded systems software development and system verification
tools intended to shorten product time-to-market by allowing for simultaneous
development and testing of hardware and embedded software. The Company markets
its products primarily to large companies in the communications, computer,
consumer electronics, semiconductor, aerospace, and transportation industries.
Customers use the Company's software in the design of such diverse products as
supercomputers, automotive electronics, telephone-switching systems, cellular
base stations and handsets, computer network hubs and routers, signal processors
and personal computers. The Company licenses its products primarily through its
direct sales force in North and South America (Americas), Europe, Japan and
Pacific Rim, and through distributors where a direct sales presence is not
warranted. The Company was incorporated in Oregon in 1981 and its common stock
is traded on the Nasdaq National Market under the symbol MENT. The Company's
executive offices are located at 8005 S.W. Boeckman Road, Wilsonville, Oregon
97070-7777. The telephone number at that address is (503) 685-7000. The Company
Website address is www.mentor.com.
PRODUCTS
Customers use the Company's products in the design, analysis, simulation,
modeling, implementation and verification of electronic designs for
communications, computer, consumer electronics, semiconductor, aerospace, and
transportation products. This use is intended to make design engineers more
productive, make even complex designs more accurate and, thus, shrink
time-to-market schedules.
The electronic design process begins when an electrical engineer describes the
architectural, behavioral, functional and structural characteristics of an
integrated circuit (IC), printed circuit board (Board) or electronic system. In
this process the engineer describes the overall product system architecture and
then implements it by creating a design description, simulating the design to
reveal electrical defects and reiterating the description until it meets the
previously determined design specifications. Engineers use the Company's
products to specify the components of the IC or Board, determine the
interconnections among the components and define the components' associated
physical properties. Engineers also use the Company's simulation products
throughout the design process to identify design errors before the design is
manufactured. Simulation also gives engineers the ability to test design
alternatives. Engineers use the Company's verification products to identify
functionality and performance issues while the cost to correct is still low.
Verification
Verification of electronic designs is addressed by Company products from several
aspects, including simulation and emulation of the entire chip, execution of
software on the virtual hardware prototype, and analysis of physical
implementation effects and their impact on functionality, performance and
quality.
With advancements in IC technology, the Company believes that the fabrication of
"deep submicron" physical feature dimensions is becoming commonplace, and a new
threshold in IC complexity and system integration is being crossed. The term
"deep submicron" is generally defined as any IC manufacturing process that has
transistor gate lengths under 0.35u (microns). The Company's Calibre(R)
product line is specifically engineered for physical verification of deep
submicron circuit designs.
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xCalibre(R) is the Company's brand for deep submicron IC backend physical
extraction products. xCalibre's complete design flow provides technology for
deep submicron parasitic extraction. Parasitic extraction is the process of
creating an electrical model representation of the physical connections present
between devices in an IC. xCalibre provides the ability to organize vast amounts
of input data, extract parasitics to the desired level of accuracy, and manage
this extracted data into a form usable by post-layout analysis tools. Advances
in deep submicron process technology and IC complexity have forced designers to
seek new solutions for physical extraction. xCalibre products close the gap
between creating designs for deep submicron processes and verifying the physical
implementation of those designs at a system level. Unlike other physical
verification tools, xCalibre tools offer an open design flow that enables IC
designers to take a massive database of electronic circuit information, split it
up into manageable pieces for analysis, and reintegrate the information into the
overall chip design.
The Company's co-verification tools provide a means to verify the hardware and
embedded software comprising an electronic system without having to build a
hardware prototype. This improves the efficiency of the customers' product
development cycles by giving customers more time to fix software bugs and
resolve hardware-software interface errors.
Seamless(TM) is the Company's hardware/software co-verification product family
that enables simultaneous simulation of the hardware and software components of
a system design. These tools verify the software-hardware interface by running
the software against simulated models of the hardware. Seamless tools allow
designers to verify software much earlier in the system design process instead
of waiting until the hardware design has been completed, verified and
manufactured into a prototype. Early verification of the system identifies
functionality and performance issues while the cost to correct them is still
small and reduces the overall design cycle. Seamless tools can be applied to
Systems on Chips, application specific integrated circuits (ASICs) with embedded
microcontroller cores, or microprocessor and digital signal processor (DSP)
based board designs. Some products with embedded systems or processor-based
board designs that benefit from using Seamless tools in the design process
include cellular phones, telephone switching equipment, network hubs, routers,
wireless base stations, automobile engine management modules, aircraft avionics
and controls, and computer equipment.
The Company's design-for-test, or "DFT", product line offers products which
automate the process of making integrated circuits and systems testable and the
generation of their test programs. The Company's DFT product brands include
FastScan(TM), FlexTest(TM), DFTAdvisor(TM), DFTInsight(TM), MBISTArchitect(TM),
LBISTArchitect(TM), BSDArchitect(TM), and CTIntegrator(TM)--an automated test
solution for System on Chip designs incorporating IP products.
The Company's simulation product line gives electrical designers representative
or virtual data to reproduce conditions in a model that could occur in the
performance of a system under different operating conditions. The Company's
simulation products for system, Board, ASIC or field programmable gate array
simulation include QuickSim II(TM), Quick HDL Pro(TM) and ModelSim(TM).
As more ICs and Boards support both analog and digital circuits, designers need
a unified simulation solution that allows both analog and digital analysis
within the mixed-signal design. The Company offers a range of alternative tools
for analog and mixed-signal designers. The tools provide a flow that begins with
design entry or a language description, continues with verification and analysis
options and finishes with a physical description for fabrication of hardware
prototype. The Company's analog/mixed signal products include Analog Station
II(TM), AccuParts(TM), Eldo(TM) and Accusim II(TM).
Design Re-use and Embedded Systems Software
The Company believes that the demand for tools to develop increasingly complex
electronic systems cannot be entirely satisfied with traditional EDA tools.
Under its Integrated System Design strategy, the Company has combined its EDA
products with products and services that facilitate rapid development of complex
systems through reusable design components referred to in the industry as
"intellectual property" or "IP" and the integration of hardware and embedded
systems development.
The Company's Inventra brand IP products and related services are intended to
increase engineering productivity through the use of predefined and preverified
"building blocks" or "cores" of frequently used circuit functions for the design
of hardware
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components. Use of IP products allows designers to focus on optimizing system
architecture and developing proprietary functionality. The Company believes that
companies which integrate IP products into their design methodology can expect
better quality products at lower costs and faster time-to-market. The Company
provides IP products that are used in ASIC design, IC design, embedded software
design and Board design. These products include circuit functions for a range of
electronic consumer and communications applications including microprocessors,
peripheral interface controllers, digital signal processors, and communications
controllers cores. In 1998, the Company entered into an IP alliance with
International Business Machines Corporation (IBM) under which the Company is
licensed to offer the IBM PowerPC 401 and 405 embedded processor "cores" as part
of its extensive library of proven commercial cores. The agreement is unique in
that it is the first time a 32-bit microprocessor architecture is available
through an independent IP provider.
The Company also provides embedded systems software and development tools.
Embedded systems control the function of hardware components dedicated to
specialized tasks of such common consumer products as VCRs, telephones and fax
machines. Embedded systems software is used in a range of other products in the
aerospace, communications, medical instrumentation, transportation, computer,
industrial and consumer markets. The Company's embedded systems software
products include the VRTX(R) real-time operating system, the XRAY(R) family
of debugger products and other software development tools including Microtec
brand compilers, assemblers, linkers and simulators.
System Design
The Company's Board design tools allow designers to select from a library of
parts to be included in a Board to simulate and test the performance of the
Board, to test for manufacturability, to analyze thermal and signal integrity,
and to output data which will allow the Board to be manufactured. "Boards,"
refers to a common way of packaging electronic circuits, consisting of epoxy
material upon which ICs, ASICs and discrete components such as resistors and
capacitors are mounted. Products within the Board design flow include Design
Architect(R), Board Station(R), Board Architect(TM), Hybrid Station(R) and
Library Management System.
The Company's Field Programmable Gate Array (FPGA) solutions are comprised of a
combination of products including ModelSim(TM) previously discussed, Leonardo
Spectrum(TM), the Company's FPGA Synthesis product line and Renoir(TM) Hardware
Description Language (HDL) graphical entry product line. Renoir(TM) provides a
highly automated environment for the design of electronic systems, using
graphical tools to capture or reuse high-level designs and functional behavior.
The Monet(R) behavioral synthesis product line defined a new capability for
designers, which the Company calls "architectural exploration." Architectural
exploration allows designers to rapidly explore and determine the right
architecture tradeoffs before they commit resources to creating a hardware
prototype such as an IC.
The Company's Interconnectix(TM) brand Interconnect Synthesis (IS) products
combine the disciplines of timing and signal integrity analysis with the
physical implementation of floorplanning, placement and routing for high-speed
board design. IS products reduce the time consuming iteration cycle among
placement, routing, analysis and rework.
PLATFORMS
The Company's software products are available on UNIX and Windows NT platforms
in a broad range of price and performance levels. Platforms are purchased by
customers primarily from Hewlett-Packard Company, Sun Microsystems, Inc. and
Compaq Computer Corporation. These computer manufacturers have a substantial
installed base and make frequent introductions of new products.
MARKETING AND CUSTOMERS
In 1998, the Company again focused its marketing and selling resources on a
limited number of emerging products. Those products include the Calibre physical
verification product, the xCalibre(R) physical extraction product, the
Seamless(TM) CVE hardware/software co-verification tool, the IP products of its
Inventra(TM) business unit, and the IS routing products of its Interconnectix
business unit. The SimExpress(TM)/Celaro(TM) products of the Company's Meta
Systems SRL (Meta) subsidiary are also marketed as emerging products outside of
the U.S. The Company's marketing also emphasizes its Integrated System Design
strategy for the integration of both hardware and software development for
electronic systems, a direct sales force
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and large corporate account penetration in the communications, computer,
consumer electronics, semiconductor, aerospace, and transportation industries.
The Company licenses its products primarily through its direct sales force in
the Americas, Europe, Japan and Pacific Rim. The Company also licenses its
products through distributors where a direct sales presence is not warranted.
During the years ending December 31, 1998, 1997 and 1996 sales outside of the
Americas accounted for 45 percent of total sales. The Company enters into
foreign currency forward contracts to help mitigate the impact of foreign
currency fluctuations. These contracts do not eliminate all potential impact of
foreign currency fluctuations and significant exchange rate movements may have a
material adverse impact on the Company's results. See pages 30-32, "Factors That
May Affect Future Results and Financial Condition," for a discussion of the
effect foreign currency fluctuation may have on the Company's business and
operating results. Additional information relating to foreign and domestic
operations is contained in Note 12 of Notes to Consolidated Financial Statements
beginning on Page 46, below.
No material portion of the Company's business is dependent on a single customer.
The Company has traditionally experienced some seasonal fluctuations in receipts
of orders, which are typically stronger in the second and fourth quarters of the
year. Due to the complexity of the Company's products, the selling cycle can be
three to six months or longer. During the selling cycle the Company's account
managers, application engineers and technical specialists make technical
presentations and product demonstrations to the customer. At some point during
the selling cycle, the Company's products may also be "loaned" to customers for
on-site evaluation. As is typical of many other companies in the electronics
industry, the Company generally ships its products to customers within 180 days
after receipt of an order, and a substantial portion of quarterly shipments tend
to be made in the last month of each quarter.
The Company licenses its products and some third party products pursuant to
purchase and license agreements. The Company generally schedules deliveries only
after receipt of purchase orders under these agreements.
UNIVERSITY PROGRAMS
The Company shares its technology and expertise with universities worldwide
through its Higher Education Program (HEP). Founded in 1985 because the Company
believes the success of the electronics industry is dependent upon highly
skilled engineers, the HEP offers colleges and universities a cost-effective way
to acquire the Company's products for teaching and academic research. This
program helps to insure that engineering graduates enter industry proficient in
the use of state-of-the-art tools and techniques. Through the HEP, the Company
develops long term relationships with engineering colleges and universities
around the world. The Company has partnerships with more than 330 colleges and
universities worldwide.
BACKLOG
The Company's backlog of firm orders was approximately $77 million on December
31, 1998 as compared to $78 million on December 31, 1997. This backlog includes
products not shipped and unfulfilled professional services and training. The
Company does not track backlog for support services. Support services are
typically delivered under annual contracts that are accounted for on a pro rata
basis over the twelve-month term of each contract. Substantially all the
December 31, 1998 backlog of orders is expected to ship during 1999.
MANUFACTURING OPERATIONS
The Company's manufacturing operations primarily consist of reproduction of the
Company's software and documentation. In the Americas, manufacturing is
substantially outsourced, with distribution to Western Hemisphere customers
occurring from major West Coast sites in the U.S. Distribution centers in The
Netherlands and Singapore serve their respective regions. The Company's line of
accelerated verification products, which is comprised of both hardware and
software, is manufactured in France. In 1998 the Company established an Irish
company (Irish Company) and began transfer of its European manufacturing and
distribution from the Netherlands to Ireland. The Irish Company will be
responsible for manufacturing and distributing its products to the European,
Middle East, and African markets through the Company's established sales
channels.
PRODUCT DEVELOPMENT
The Company's research and development is focused on continued improvement of
its existing products and the development of new products. During the years
ended December 31, 1998, 1997 and 1996, the Company expensed $117,853,000,
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$112,227,000 and $92,905,000 respectively, and capitalized $0, $0, and
$5,691,000 respectively, related to product research and development. The
Company also seeks to expand existing product offerings and pursue new lines of
business through acquisitions. Acquisitions accommodate the Company's focused
strategic requirements by filling gaps in existing products or technologies,
eliminating dependencies on third parties and providing the Company with an
avenue into new lines of business. The Company's future success depends on its
ability to develop or acquire competitive new products that satisfy customer
requirements.
SUPPLIERS
The Company seeks to provide its customers with software and IP products that
address customers' electronic system design processes. Supplier products fill
gaps in the Company's existing product lines and allow it to offer products
which are needed by customers but which are not central to the Company's
business. Supplier agreements are also used to explore possible new lines of
business. Supplier agreements are typically multi-year agreements with royalty
payments based on a percentage of product revenue. The agreements generally
require an escrow of the supplier's source code. Customer support for supplier
products is usually provided by the Company with the supplier providing backup
support and research and development in the event of a problem with the product
itself.
CUSTOMER SUPPORT AND CONSULTING
The Company has a worldwide organization to meet its customers' needs for
software support. The Company offers support contracts providing software
updates and support. Most of the Company's customers have entered into software
support contracts. In November of 1998, the Software Support Professionals
Association (SSPA) announced that the Company's Customer Support Division had
won its 1999 SSPA STAR (Software Technical Assistance Recognition) Award in the
Complex Support category. The STAR Awards are given annually to recognize
excellence in six areas of software and technical support. Competing companies
undergo a rigorous self-nominating process. Applicants are then evaluated by
SSPA's Advisory Board. The winner in Complex Support category must demonstrate a
consistently high level of support for mission-critical applications used in
scientific, engineering, and other highly technical environments. The Company's
Customer Support Division also won the STAR Award in 1993 and 1995.
Mentor Consulting, the Company's consulting division, is comprised of a
worldwide team of consulting professionals who provide services for
System-on-Chip, Systems to Silicon Verification, Design Reuse, and High
Performance Systems Design. The Company's consulting group was established in
1987. The services provided to customers by Mentor Consulting include advising
customers on design process, design reuse and IC verification and test. Design
process consulting helps customers improve how they design. Design reuse
consulting helps customers modify existing designs for use in new designs.
Mentor Consulting's mission is to team with customers' design groups to increase
productivity while reducing costs and time-to-market.
COMPETITION
The markets for the Company's products are competitive and are characterized by
price reductions, rapid technological advances in application software,
operating systems and hardware, and new market entrants. The EDA and IP product
industries tend to be labor intensive rather than capital intensive. This means
that the number of actual and potential competitors is significant. While many
competitors are large companies with extensive capital and marketing resources,
the Company also competes with small companies with little capital but
innovative ideas.
The Company believes the main competitive factors affecting its business are
breadth and quality of application software, product integration, ability to
respond to technological change, quality of a company's sales force, price, size
of the installed base, level of customer support and professional services. The
Company believes that it generally competes favorably in these areas. The
Company can give no assurance, however, that it will have financial resources,
marketing, distribution and service capability, depth of key personnel or
technological knowledge to compete successfully in its markets.
The Company's principal competitors are Cadence Design Systems Inc., Synopsys
Inc., Avant! Corporation, Quickturn Design Systems, Inc., IKOS Systems, Inc.,
Wind River Systems Inc. and numerous small companies.
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EMPLOYEES
The Company and its subsidiaries employed approximately 2,600 people full time
as of December 31, 1998. The Company's success will depend in part on its
ability to attract and retain employees who are in great demand. The Company
continues to enjoy satisfactory employee relations.
PATENTS AND LICENSES
The Company holds 32 United States and 9 foreign patents on various
technologies. In 1998, the Company was granted 12 patents and filed 38 patent
applications worldwide. As of January 1999, the Company has a total of 51 patent
applications filed and pending and an additional 29 in process but not yet
filed. While the Company believes the pending applications relate to patentable
technology, there can be no assurance that any patent will be issued or that any
patent can be successfully defended. Although the Company believes that patents
are less significant to the success of its business than technical competence,
management ability, marketing capability and customer support, the Company
believes that software patents are becoming increasingly important in the
software industry.
The Company regards its products as proprietary and protects all products with
copyrights, trade secret laws, and internal non-disclosure safeguards, as well
as patents, when appropriate, as noted above. The Company typically includes
restrictions on disclosure, use and transferability in its agreements with
customers and other third parties.
Item 2. Properties
The Company owns six buildings on 53 acres of land in Wilsonville, Oregon. The
Company occupies 341,000 square feet, in five of those buildings, as its
corporate headquarters. The Company leases the remaining building and portions
of one headquarters building to third parties. The Company also owns an
additional 98 acres of undeveloped land adjacent to its headquarters. All
corporate functions and a majority of its domestic research and development
operations are located at the Wilsonville site.
The Company leases additional space in San Jose, California, where some of its
domestic research and development takes place, and in various locations
throughout the United States and in other countries, primarily for sales and
customer service operations. Some additional research and development is done in
locations outside the U.S. The Company believes that it will be able to renew or
replace its existing leases as they expire and that its current facilities will
be adequate through at least 1999.
Item 3. Legal Proceedings
During 1995, the Company filed suit in U.S. Federal District Court in Portland,
Oregon, against Quickturn Design Systems, Inc. (Quickturn) for a declaratory
judgment of non-infringement, invalidity and unenforceability of three of
Quickturn's patents. These patents relate to products of Meta Systems SRL
(Meta), a French company acquired by the Company in 1996 that manufactures and
sells computers used for accelerated verification of hardware designs. Quickturn
filed a counterclaim against the Company alleging infringement of six of
Quickturn's patents, including the three patents subject to the declaratory
judgment action. The counterclaim seeks a permanent injunction prohibiting sales
of the Company's SimExpress products in the U.S., compensatory and punitive
damages and attorneys' fees.
Quickturn filed an administrative complaint with the U.S. International Trade
Commission (ITC) in 1996 seeking to prohibit the distribution of SimExpress
products in the U.S. In August 1996, the ITC issued a ruling effectively
prohibiting the importation of this technology into the U.S. In August 1997, the
ITC Administrative Law Judge recommended the imposition of evidentiary and
monetary sanctions against the Company and Meta. This order has been appealed
and no dollar amount of monetary sanctions has been set. In August 1997, the
U.S. District Court in Portland, Oregon granted Quickturn a preliminary
injunction prohibiting the Company from selling its SimExpress version 1.0 and
1.5 accelerated verification systems in the U.S. The injunction also prohibits
the Company from shipping current U.S. inventory modified in the U.S. to any of
its non-U.S. locations. In October 1997, Quickturn also filed an action against
Meta and the Company in a German court alleging infringement by SimExpress of a
European patent.
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In December 1997, the ITC issued a Cease and Desist Order prohibiting the
Company from importing SimExpress products or components and from providing
repair or maintenance services to its existing U.S. customers. That order took
effect in 1998. A trial in the U.S. District Court action is scheduled in June
of 1999, in which Quickturn will seek a permanent injunction, compensatory
damages, punitive damages, and attorneys' fees. An unfavorable ruling in this
trial could involve substantial cost to the Company and effectively prevent the
Company from manufacturing and selling its existing accelerated verification of
hardware design products in the U.S. market.
In February 1998, Meta filed a patent infringement action against Quickturn in
the U.S. District Court for the Northern District of California in San Jose,
California. The complaint, which is based on a patent licensed to the Company
and Meta and which Meta has a right to enforce, seeks damages for infringement
as a result of Quickturn's manufacture and sale of certain emulation equipment.
Meta, which has been joined in the suit by Aptix Corporation of San Jose,
California, will ultimately seek an injunction prohibiting further infringement
by Quickturn. A trial date in the U.S. District Court has been set for the third
quarter of 1999. In October 1998, Quickturn filed an action against Meta and the
Company in France alleging infringement by SimExpress and Celaro of a European
patent.
On August 12, 1998 the Company commenced a $12.125 per share tender offer for
all outstanding shares of Quickturn, or approximately $216,000,000 for
approximately 17,800,000 Quickturn shares outstanding. The Company expected to
finance this offer through its available cash balances and a new bank credit
facility for which the Company had a definitive Credit Agreement. Quickturn's
management and board of directors attempted to modify their bylaws to postpone a
special shareholder meeting and attempted to install a deferred redemption
provision in Quickturn's "poison pill" to preclude the closing of the Company's
offer until at least July 1999. The Company litigated those actions in Delaware
Chancery Court. The trial was completed on October 28, 1998 and a decision in
favor of the Company was announced by the Delaware Chancery Court on December 3,
1998. On December 9, Quickturn and Cadence Design Systems, Inc. announced an
agreement to merge. The Company sought to enjoin consummation of the proposed
merger agreement and invalidate certain termination fees and stock option
provisions of that agreement in a suit filed in the Delaware Court of Chancery
on December 15, 1998. On January 8, 1999, the Company withdrew its tender offer.
On July 2, 1998, the Company filed an action for declaratory judgment in the
Federal District Court for the District of Oregon against Armagan Akar, a former
employee of Mentor Graphics Singapore Ptd. Ltd. (MG Singapore), a wholly owned
subsidiary of the Company. The declaratory judgment action requests the Oregon
federal court to determine the obligations of the Company and MG Singapore to
Mr. Akar in connection with a dispute regarding Mr. Akar's termination from MG
Singapore. On or about July 27, 1998, Mr. Akar filed an action in the Superior
Court of California for the County of Santa Clara alleging wrongful termination
of employment. The complaint alleges that Mr. Akar's employment was terminated
following his claimed notification to the Company and MG Singapore of violations
of the U.S. Foreign Corrupt Practices Act occurring in the Company's operations
located in the Peoples' Republic of China. Mr. Akar also alleges that one or
more employees of MG Singapore made defamatory statements about him in
connection with the termination of his employment. Mr. Akar seeks compensatory
and exemplary damages. The Superior Court case was removed to the U.S. District
Court for the Northern District of California and on November 2, 1998, that
court granted the Company's motion to transfer the case to the U.S. District
Court in Oregon. Mr. Akar has answered the Company's complaint in the
declaratory judgment and has included his claims as counterclaims in that case.
The Company intends to vigorously pursue its declaratory judgment action and to
contest Mr. Akar's action and allegations, and does not believe that the outcome
of the suit will have a material adverse effect on the Company's financial
condition, results of operations or liquidity.
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On or about August 6, 1998, three shareholders of Exemplar Logic, Inc.
("Exemplar"), a corporation owned more than 80% by the Company, filed an action
in the Superior Court of California for the County of Alameda against the
Company, Exemplar and certain employees of the Company who have served as
directors of Exemplar. The complaint alleged that the Company breached a
contract with Exemplar which provides that, under certain circumstances, the
Company would take reasonable steps to support Exemplar in its efforts to
complete an initial public offering of its equity, that the Company breached its
alleged fiduciary duty as a majority shareholder of Exemplar, that the Company
made false and misleading representations and concealments that defrauded
Exemplar and that the Company conducted unfair business practices against
Exemplar under California law. The Company, Exemplar and the plaintiffs
subsequently entered into a Stand Still Agreement in which the plaintiffs agreed
to dismiss their complaint without prejudice and the Company agreed to make
reasonable efforts to come to a decision to i) take Exemplar public, ii) sell
Exemplar to a third party or iii) acquire the Exemplar minority shareholders'
interests prior to October 31, 1998. The plaintiffs dismissed the complaint and
the Company and the Exemplar minority shareholders entered into a merger
agreement under which the Company acquired the minority shareholders' interest
on January 5, 1999.
In addition to the above litigation, from time to time the Company is involved
in various disputes and litigation matters that arise from the ordinary course
of business. These include disputes and lawsuits relating to intellectual
property rights, licensing, contracts, and employee relations matters. The
Company believes that final resolution of such disputes and lawsuits 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
No matters were submitted to a vote of the security holders of the Company
during the fourth quarter of the fiscal year ended December 31, 1998.
EXECUTIVE OFFICERS OF REGISTRANT
The following are the executive officers of the Company:
Has Served
As An Executive
Officer of the
Name Position Age Company Since
- ------------------------------------------------------------------------------
Walden C. Rhines President, Chief Executive 52 1993
Officer and Director
Gregory K. Hinckley Executive Vice President, 52 1997
Chief Operating Officer and
Chief Financial Officer
G. M. "Ken" Bado Senior Vice President, 44 1996
World Trade
Dean Freed Vice President, 40 1995
General Counsel and Secretary
Anne Wagner Vice President, Marketing 46 1998
Anthony B. Adrian Vice President, 56 1998
Corporate Controller
Dennis Weldon Treasurer 51 1998
- ------------------------------------------------------------------------------
The executive officers are elected by the Board of Directors of the Company at
its annual meeting. Officers hold their positions until they resign, are
terminated or their successors are elected. There are no arrangements or
understandings between the officers or any other person pursuant to which
officers were elected and none of the officers are related.
Dr. Rhines has served as Director, President and Chief Executive Officer of the
Company since October 1993. From 1972 to 1993, Dr. Rhines was employed by Texas
Instruments Incorporated, a manufacturer of electrical and electronics products,
where he held a variety of technical and management positions and was most
recently Executive Vice President of Texas Instruments Semiconductor Group. Dr.
Rhines is currently a director of Cirrus Logic, Inc., and Triquint
Semiconductor, Inc., both semiconductor manufacturers.
Mr. Hinckley has served as Executive Vice President, Chief Operating Officer and
Chief Financial Officer since joining the Company in January 1997. From November
1995 until December 1996 he held the position of Senior Vice President with VLSI
Technology, Inc. (VLSI), a manufacturer of complex ASICs. From August 1992 until
December 1996, Mr. Hinckley
22
held the position of Vice President, Finance and Chief Financial Officer with
VLSI. Mr. Hinckley is a director of OEC Medical Systems, Inc., a manufacturer of
medical imaging equipment, and Amkor Technology, Inc., an IC packaging, assembly
and test services company.
Mr. Bado has served as Senior Vice President, World Trade since December 1996.
From April 1994 to December 1996 he held the position of Vice President of the
Americas. From February 1996 through December 1996 Mr. Bado also held the
position of Vice President and General Manager, Professional Services. Mr. Bado
was the Southern Area General Manager for North American Sales from January 1991
to April 1994. He has been employed by the Company since September 1988.
Mr. Freed has served as Vice President, General Counsel and Secretary of the
Company since July 1995. Mr. Freed served as Deputy General Counsel and
Assistant Secretary of the Company from April 1994 to July 1995, and was
Associate General Counsel and Assistant Secretary from 1990 to April 1994. He
has been employed by the Company since January 1989.
Ms. Wagner has served as Vice President, Marketing of Mentor Graphics since June
1998. From 1996 to 1998, Ms. Wagner was Vice President of Corporate Marketing
for the SunSoft operating company of Sun Microsystems, Inc. From 1977 to 1996,
Ms. Wagner was employed by National Semiconductor Corporation where her duties
included Vice President, Marketing and Communications.
Mr. Adrian has served as Vice President, Corporate Controller since joining the
Company in January 1998. From August to December of 1997 he held the position of
Vice President and Acting Controller for Wickland Oil Company, a petroleum
marketing and distribution company. From January 1996 to August 1997 Mr. Adrian
served as Managing Director of Wickland Terminals in Australia. From November
1992 to January 1996 Mr. Adrian served as Vice President and Controller of
Wickland Oil.
Mr. Weldon has served as Treasurer and Director of Business Development since
February 1996. Mr. Weldon served as Director of Business Development from June
1994 to January 1996. From July 1991 to June 1994 Mr. Weldon served as Director
of Finance. Mr. Weldon has been employed by the Company since July 1988.
Item 5. Market for the Registrant's Common Equity and
Related Stockholder Matters
The Company's Common Stock trades on the Nasdaq National Market under the symbol
MENT. The following sets forth for the periods indicated the high and low sales
prices for the Company's Common Stock, as reported by the Nasdaq National
Market:
Quarter ended March 31 June 30 September 30 December 31
- ----------------------------------------------------------------------------
1998
High $ 11 1/8 $ 11 13/16 $ 11 1/16 $ 10 5/16
Low $ 8 1/8 $ 9 3/8 $ 6 19/32 $ 5 7/16
1997
High $ 11 $ 9 3/8 $ 12 1/2 $ 12 1/16
Low $ 8 5/8 $ 6 5/8 $ 8 1/2 $ 9
- ----------------------------------------------------------------------------
As of December 31, 1998, the Company had 1,073 stockholders of record. No
dividends were paid in 1997 or 1998. The Company does not intend to pay
dividends in the foreseeable future.
Item 6. Selected Consolidated Financial Data
In thousands, except per share data and percentages
Year ended December 31, 1998 1997 1996 1995 1994
- ---------------------------------------------------------------------------------------------
Statement of Operations Data
Total revenues $ 490,393 $ 454,727 $ 447,886 $ 432,517 $ 390,119
Research and development $ 117,853 $ 112,227 $ 92,905 $ 86,782 $ 81,231
Operating income (loss) $ 4,742 $ (36,370) $ (9,849) $ 52,554 $ 30,980
Net income (loss) $ (519) $ (31,307) $ (4,978) $ 50,506 $ 30,453
Gross margin percent 75% 65% 70% 73% 73%
Operating income (loss)
as a percent of revenues 1% (8)% (2)% 12% 8%
Per Share Data
Net income (loss) per
share - basic $ (0.01) $ (0.48) $ (0.08) $ 0.79 $ 0.50
Net income (loss) per
share - diluted $ (0.01) $ (0.48) $ (0.08) $ 0.78 $ 0.49
Weighted average
number of shares
outstanding - basic 65,165 64,885 64,134 63,710 60,361
Weighted average
number of shares
outstanding - diluted 65,165 64,885 64,134 65,134 62,211
Balance Sheet Data
Cash and investments,
short-term $ 137,585 $ 137,060 $ 197,079 $ 211,996 $ 154,255
Cash and investments,
long-term $ - $ - $ 30,000 $ 30,000 $ 30,000
Working capital $ 139,198 $ 148,191 $ 200,848 $ 213,491 $ 150,865
Property, plant and
equipment, net $ 95,214 $ 103,452 $ 102,253 $ 99,605 $ 102,291
Total assets $ 464,123 $ 402,302 $ 513,359 $ 495,372 $ 429,290
Short-term borrowings $ 24,000 - $ 9,055 $ 9,358 $ 8,661
Long-term debt and
other deferrals $ 1,425 $ 617 $ 56,375 $ 55,054 $ 53,123
Stockholders' equity $ 295,282 $ 277,537 $ 319,640 $ 326,226 $ 258,419
- ---------------------------------------------------------------------------------------------
23
Item 7. Management's Discussion and Analysis
of Financial Condition and Results of Operations
All numerical references in thousands, except percentages and per share data
NATURE OF OPERATIONS
Mentor Graphics Corporation (the Company) is a supplier of electronic design
automation (EDA) systems--advanced computer software, accelerated verification
systems and intellectual property designs and data bases used to automate the
design, analysis and testing of electronic hardware and embedded systems
software in electronic systems and components. The Company markets its products
and services primarily to customers in the communications, computer,
semiconductor, consumer electronics, aerospace, and transportation industries.
The Company sells and licenses its products through its direct sales force in
North and South America (Americas), Europe, Japan and Pacific Rim, and through
distributors where a direct sales presence is not warranted. In addition to its
corporate offices in Wilsonville, Oregon, the Company has sales, support,
software development and professional services offices worldwide.
RECENT DEVELOPMENTS
On August 12, 1998, the Company commenced a $12.125 per share tender offer for
all outstanding shares of Quickturn Design Systems, Inc., a Delaware corporation
(Quickturn), or approximately $216,000 for approximately 17,800 shares
outstanding. In connection with this offer, the Company purchased 591 shares of
Quickturn common stock for $4,522. The Company expected to finance this offer
through its available cash balances and a new bank credit facility for which the
Company had a definitive Credit Agreement. On January 8, 1999, the Company
withdrew its tender offer and subsequently terminated its new credit facility.
The Company incurred acquisition costs of approximately $9,000 of which $4,614
was capitalized and the remaining amount was not accrued as of December 31,
1998. Because the offer was withdrawn, these costs will be expensed and will be
partially offset by a gain on the sale of the Quickturn stock of approximately
$4,000 in the first quarter of 1999.
On January 5, 1999, the Company purchased the remaining minority interest of its
then 84% owned subsidiary, Exemplar Logic, Inc. (Exemplar) for cash and stock
options valued at approximately $14,000. This business combination will be
accounted for as a purchase. The cost of the acquisition will be allocated on
the basis of estimated fair value of assets and liabilities assumed. In
connection with the acquisition, the Company will record a charge to operations
for the write-off of Exemplar's in-process research and development (R&D) that
had not reached technological feasibility, the amount of which is yet to be
determined.
In 1998, the Company completed three business combinations which were accounted
for as purchases. In March 1998, the Company purchased an additional ownership
interest of 32% of its Korean distributor, Mentor Korea Co. LTD, for a total
ownership interest of 51%. In November 1998, the Company purchased CLK
Computer-Aided Design Inc. (CLK CAD) and OPC Technology Inc. (OPCT). The total
purchase price including acquisition expenses for these acquisitions was
$16,513. The purchase accounting allocations resulted in charges for in-process
R&D of $8,500, goodwill capitalization of $6,613, and technology capitalization
of $1,400. Results of operations of all acquisitions that were accounted for as
purchases are included in the Company's Consolidated Financial Statements only
from the date of acquisition forward.
RESULTS OF OPERATIONS
Revenues and Gross Margins
Year ended December 31, 1998 Change 1997 Change 1996
- --------------------------------------------------------------------------------------------------
System and software revenues $ 277,396 18% $ 235,808 (3)% $ 242,147
System and software gross margins $ 250,860 38% $ 182,316 (10)% $ 202,951
Gross margin percent 90.4% 77.3% 83.8%
Service and support revenues $ 212,997 (3)% $ 218,919 6% $ 205,739
Service and support gross margins $ 116,036 2% $ 113,378 2% $ 111,119
Gross margin percent 54.5% 51.8% 54.0%
Total revenues $ 490,393 8% $ 454,727 2% $ 447,886
Total gross margins $ 366,896 24% $ 295,694 (6)% $ 314,070
Gross margin percent 74.8% 65.0% 70.1%
- --------------------------------------------------------------------------------------------------
24
SYSTEM AND SOFTWARE
System and software revenues are derived from sales or licenses of software
products, third party owned software products for which the Company pays
royalties, accelerated verification systems and some workstation hardware. For
1998, the increase in software product revenues is attributable to growth of the
Company's newer product offerings. The Company's newer products primarily focus
on system verification and design re-use subsets of the EDA industry, which have
experienced above industry average growth rates over the last year. In addition,
improved demand for several of the Company's older product offerings is
primarily attributable to recent product upgrades such as Year 2000 compliance
and ports to the Windows NT platform. Accelerated verification revenue also
improved in 1998 as next generation systems began shipping in the first half of
the year. The Company's SimExpress accelerated verification product is not
available in U.S. markets due to a 1997 court ruling. See "Part I-Item 3. Legal
Proceedings" for further discussion. These increases occurred despite the
weakening of the Japanese Yen versus the U.S. dollar which negatively impacted
revenues. See "Geographic Revenues Information" for further discussion. For 1997
compared to 1996, the decrease in system and software revenue was attributable
to a decline in software product sales partially offset by increased sales of
accelerated verification systems. Software product revenues declined in 1997 due
in part to an accelerated decline of the Company's older integrated circuit (IC)
and also certain printed circuit board products.
Gross margins were significantly higher for 1998 compared to 1997 due to lower
costs for direct materials and overhead, lower third party product sales for
which royalties were paid, lower purchased technology and capitalized software
development costs amortization, and a write-down of certain previously
capitalized software development costs in 1997. For 1997 compared to 1996, the
decline in system and software gross margins as a percent of revenues was due to
higher royalty costs, one-time inventory and capitalized software development
cost adjustments and higher purchased technology amortization. Increased royalty
costs in 1997 were primarily attributable to a write-off of costs associated
with a non-refundable royalty contract where the committed costs were not
recovered. In addition, the Company incurred an inventory write-down of all U.S.
SimExpress systems inventory in 1997 as a result of the 1997 court ruling. See
"Part I-Item 3. Legal Proceedings" for further discussion.
Amortization of previously capitalized software development costs to system and
software cost of revenues was zero in 1998 compared to $5,448 and $6,215 in 1997
and 1996, respectively. In addition, the Company recognized impairment in value
of certain previously capitalized software development costs in 1997 primarily
as a result of the accelerated decline in sales of older software product
offerings. These costs, which totaled $5,358, were determined to be
unrecoverable and were charged to system and software cost of revenues in the
first quarter of 1997. Amortization of purchased technology costs to system and
software cost of revenues was $2,278, $5,484 and $3,559 for 1998, 1997 and 1996,
respectively. The decline in amortization in 1998 is attributable to a
significant decline in business acquisitions in 1998 and 1997 and accelerated
amortization of technologies in 1997 where assets were impaired or disposed of.
Purchased technology costs are amortized over a three-year period to system and
software cost of revenues.
SERVICE AND SUPPORT
Service and support revenues consist of revenues from annual software support
contracts and professional services, which includes consulting services,
training services, custom design services and other services. The decrease in
service and support revenues in 1998 is due primarily to an approximate 20%
decrease in professional service revenues offset by a slight increase in support
revenues. The increase in service and support revenues in 1997 was due primarily
to an approximate 20% increase in professional service revenues as well as a
slight increase in software support revenues.
For 1998, growth levels for software support revenues compared to software
product revenues were lower due in part to the carryover effect of the prior
year decline in software product revenues. For 1997, growth in software support
revenues occurred despite a decline in software product revenues as the
installed base of customers on support contracts increased during the year.
Since growth in software support is dependent on continued success of the
software product offerings, increases in the Company's installed customer base,
and the impact of acquisitions, future software support revenue levels are
difficult to predict.
25
Professional service revenues totaled approximately $49,000, $60,000 and $50,000
in 1998, 1997 and 1996, respectively. The decrease in 1998 is due to a more
narrowly focused effort toward engagements that enable customers to better
utilize the Company's products and away from out-source custom design service
engagements. Consulting engagements with printed circuit board design customers
also declined in 1998 due in part to lower printed circuit board software
product sales in 1998. The increase in professional services in 1997 was
attributable to consulting services and custom design services as demand for
these services grew.
Service and support gross margins increased in 1998 as a result of higher
software support revenues and approximately flat software support cost of
revenues. Professional service gross margins were negative in 1998 as several
prior period contracts continued to require resources. In 1997, professional
service gross margins were negative due to unprofitable contracts, most of which
were entered into in 1996, where costs of completion exceeded the revenues. The
Company has refined its contract approval practices to reduce the likelihood of
entering into unprofitable custom design contracts.
GEOGRAPHIC REVENUES INFORMATION
Americas revenues including service and support revenues, increased by 8% from
1997 to 1998 and by 2% from 1996 to 1997. Revenues outside of the Americas
represented 45% of total revenues in 1998, 1997 and 1996. European revenues
increased by approximately 23% from 1997 to 1998 and 4% from 1996 to 1997.
Increased European revenues are attributable to improved economic conditions
primarily in the telecommunications industry and increased demand for newer
product offerings in 1998. The effects of exchange rate differences from
European currencies to the U.S. dollar for 1998 and 1997 were not significant.
Japanese revenues decreased by approximately 17% from 1997 to 1998 and 7% from
1996 to 1997. The effects of exchange rate differences from the Japanese Yen to
the U.S. dollar negatively impacted revenues by approximately 10% and 11% in
1998 and 1997, respectively. Exclusive of currency effects, lower revenue levels
in Japan are the result of continued economic difficulties in 1998. Since the
Company generates approximately half of its revenues outside of the U.S. and
expects this to continue in the future, revenue results should continue to be
impacted by the effects of future foreign currency fluctuations.
OPERATING EXPENSES
Year ended December 31, 1998 Change 1997 Change 1996
- ----------------------------------------------------------------------------------------------------
Research and development $ 117,853 5% $ 112,227 21% $ 92,905
Percent of total revenues 24.0% 24.7% 20.7%
Marketing and selling $ 169,034 7% $ 157,343 7% $ 146,754
Percent of total revenues 34.5% 34.6% 32.8%
General and administration $ 45,825 5% $ 43,636 7% $ 40,918
Percent of total revenues 9.3% 9.6% 9.1%
Special charges $ 20,942 11% $ 18,858 57% $ 11,998
Percent of total revenues 4.3% 4.1% 2.7%
Merger and acquisition
related charges $ 8,500 - $ - (100)% $ 31,334
Percent of total revenues 1.7% - 7.0%
- ----------------------------------------------------------------------------------------------------
RESEARCH AND DEVELOPMENT
As a percent of revenue, R&D costs decreased slightly from 1997 to 1998 and
increased from 1996 to 1997. During 1998, the Company disposed of several
businesses which were not core to its strategy of system verification and design
re-use which reduced R&D costs by approximately $6,000 compared to 1997.
Increased spending for activities more closely aligned to Company strategy
offset these savings. The increase in R&D spending in 1997 was also attributable
to investment in core strategy areas and merger and acquisition activity. R&D
costs increased in 1997 by approximately $8,000 as a result of prior year
business purchases. These purchases during 1996 resulted in added expenses only
from the date of acquisition and not for all prior periods presented as is the
case for pooling of interest transactions. In addition, other business
combinations accounted for as pooling of interests experienced higher R&D
investment in 1997. During 1997 and 1998, the Company capitalized software
development costs of $0, compared to $5,691 for 1996. This decrease in
capitalization is due to timing and content of product development activities
which resulted in a lower level of costs eligible for capitalization. Based on
these lower eligible costs, product development activities have been expensed on
a current basis. The Company does not expect significant capitalization in 1999.
26
MARKETING AND SELLING
In 1998 the increase in marketing and selling costs was principally attributable
to increased product sales through the Company's direct sales force and third
party distributors offset in part by savings resulting from subsidiary
divestitures totaling approximately $3,000. In 1997, the increase in marketing
and selling costs was principally attributable to prior year business purchases
and increased sales through third party distributors. The year to year impact of
acquisitions on marketing and selling costs in 1997 was approximately $2,000. In
addition, selling costs increased approximately $3,000 in 1997 as a result of
increased third party sales channel revenue. A stronger U.S. dollar during 1998
and 1997 reduced expenses by approximately 10% and 11% in Japan, respectively.
GENERAL AND ADMINISTRATION
For 1998 compared to 1997 general and administrative (G&A) costs decreased as a
percent of sales due to subsidiary divestitures and higher sales volume. For
1998, the absolute dollar increase in G&A is attributable to increased headcount
to maintain and support business systems and support higher sales volume. The
increase in general and administrative costs from 1996 to 1997 was a result of
integration costs and additional headcount related to business purchases offset
by certain administrative savings subsequent to integration of Microtec
Research, Inc. (Microtec) and Interconnectix, Inc. (Interconnectix). Also in
1997, the Company experienced increased costs of information technology
personnel as the global information system reached the implementation phase
during the year.
SPECIAL CHARGES
During 1998, the Company recorded special charges of $20,942. The charges
primarily consist of four subsidiary divestitures, moving of the European
distribution center to Ireland to strengthen the Company's tax position, related
terminations arising from the divestitures and the distribution center move, and
impairment in value of certain assets. Substantially all of these costs were
expended in 1998 and the remaining amount should be expended in the first half
of 1999 and there have been no significant modifications to the amount of the
charges.
During 1997, the Company recorded special charges of $18,858. The charges
consisted of disposals of subsidiaries and related employee terminations, early
termination of an interest rate swap agreement, recognition of the impairment in
value of certain goodwill and purchased technology and some streamlining of
worldwide operations and reserves for various legal claims. Substantially all of
the costs associated with these charges were expended in 1997 and the first half
of 1998 and there have been no significant modifications to the amount of the
charges.
In 1996, the Company recorded special charges of $11,998. The Company downsized
and redirected certain operations and re-targeted an incentive compensation
program resulting in severance costs, facility lease and equipment abandonment
costs and other costs totaling approximately $7,000. The Company also recognized
a $5,000 write-down for impairment in value of goodwill and certain other assets
associated with Meta Systems SRL (Meta) as the recoverability of these assets
was adversely affected by the ongoing SimExpress patent litigation.
MERGER AND ACQUISITION RELATED CHARGES
In 1998, the Company incurred merger and acquisition related charges of $8,500
for in-process R&D related to two of the three business combinations accounted
for as purchases. The charges were a result of allocating a portion of the
acquisition costs to in-process product development that had not reached
technological feasibility.
In 1996, the Company incurred merger and acquisition related charges of $31,344
as a result of nine business combinations. Seven acquisitions were accounted for
as purchases that resulted in charges for in-process R&D of $26,234. Two
acquisitions were accounted for as pooling of interests and resulted in merger
expenses of $4,410 and $700, respectively, which were associated with the
elimination of duplicate facilities, severance costs, the write-off of certain
property and equipment and legal and accounting fees associated with the merger
activities.
27
OTHER INCOME (EXPENSE), NET
Year ended December 31, 1998 1997 1996
- --------------------------------------------------------------------------------
Other income (expense), net $ (4,721) $ 3,319 $ 8,411
- --------------------------------------------------------------------------------
Other income (expense) was negatively impacted by increased legal costs
primarily associated with the ongoing patent litigation with Quickturn which
totaled $10,301 in 1998, compared to $4,675 and $3,611 in 1997 and 1996,
respectively. The increase is attributable to license fees for certain
intellectual property rights licensed from Aptix Corporation and expenses
attributable to a patent infringement lawsuit filed jointly by a subsidiary of
the Company and Aptix against Quickturn. See "Part I-Item 3. Legal Proceedings"
for further discussion. Interest income was $7,771, $7,723 and $9,485 in 1998,
1997 and 1996, respectively. Interest expense was $768, $555 and $2,423 in 1998,
1997 and 1996, respectively. The decrease in interest income and interest
expense in 1998 and 1997 versus 1996 is primarily attributable to lower average
cash, cash equivalents, short-term investments and borrowings outstanding during
1998 and 1997 due to pay-down of short term lines of credit and the long term
revolving credit facility. For 1999, exclusive of any changes in cash balances
or interest rates, the increase in interest bearing term receivables should
favorably affect interest income. In 1996, the Company sold common stock of two
independent public companies for $6,744 that had carrying costs of $1,199,
resulting in a gain of $5,545.
PROVISION (BENEFIT) FOR INCOME TAXES
The provision (benefit) for income taxes was $540, ($1,744), and $3,540 in 1998,
1997 and 1996, respectively. The tax provision (benefit) in all periods is the
result of the mix of profits earned by the Company and its subsidiaries in tax
jurisdictions with a broad range of income tax rates.
Because the Company's income tax position for each year combines the effects of
available tax benefits in certain countries where the Company does business,
benefits from available net operating loss carryforwards and tax expense for
subsidiaries with pre-tax income, the Company's income tax position and
resultant effective tax rate is uncertain for 1999 and beyond.
EFFECTS OF FOREIGN CURRENCY FLUCTUATIONS
Approximately half of the Company's revenues are generated outside of the United
States. For 1998, 1997 and 1996, approximately half of European and all of
Japanese revenues were subject to exchange rate fluctuations as they were booked
in local currencies. The effects of these fluctuations were substantially offset
by local currency cost of revenues and operating expenses, which resulted in an
immaterial net effect on the Company's results of operations.
The "accumulated other comprehensive income--foreign currency translation
adjustment," as reported in the stockholders' equity section of the Consolidated
Balance Sheets, increased to $14,176 at December 31, 1998, from $7,795 at the
end of 1997. This reflects the increase in the value of net assets denominated
in foreign currencies since year-end 1997 as a result of a stronger U.S. dollar
at the close of 1997 versus 1998.
NEW ACCOUNTING PRONOUNCEMENTS
In March 1998, the American Institute of Certified Public Accountants issued
Statement of Position (SOP) No. 98-1, "Software for Internal Use", which
provides guidance on accounting for the cost of computer software developed or
obtained for internal use. This statement of position is effective for financial
statements for fiscal years beginning after December 15, 1998. The Company does
not expect SOP 98-1 to have a material impact on its Consolidated Financial
Statements.
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities." SFAS No. 133 establishes accounting and
reporting standards requiring that every derivative instrument be recorded in
the balance sheet as either an asset or liability measured at its fair value.
SFAS No. 133 also requires that changes in the derivative's fair value be
recognized currently in results of operations unless specific hedge accounting
criteria are met. SFAS No. 133 is effective for fiscal years beginning after
June 15, 1999. The Company does not expect SFAS No. 133 to have a material
impact on its Consolidated Financial Statements.
28
In October 1998, the AICPA issued SOP 98-9, "Modification of SOP 97-2, Software
Revenue Recognition, With Respect to Certain Transactions". This SOP amends
certain paragraphs of SOP 97-2 to require recognition of revenue using the
"residual method" in circumstances outlined in the SOP. Under the residual
method revenue is recognized as follows: (1) the total fair value of undelivered
elements, as indicated by vendor specific objective evidence, is deferred and
subsequently recognized in accordance with the relevant sections of SOP 97-2 and
(2) the difference between the total arrangement fee and the amount deferred for
the undelivered elements is recognized as revenue related to the delivered
elements. SOP 98-9 is effective for fiscal years beginning after March 15, 1999.
Also, the provisions of SOP 97-2 that were deferred by SOP 98-4 will continue to
be deferred until the date SOP 98-9 becomes effective. The Company does not
expect SOP 98-9 to have a material impact on its Consolidated Financial
Statements.
LIQUIDITY AND CAPITAL RESOURCES
Year Ended December 31, 1998 1997
- -----------------------------------------------------------------------------
Current assets $ 305,444 $ 272,339
Cash and investments, short-term $ 137,585 $ 137,060
Cash provided by operations $ 2,766 $ 13,854
Cash used for investing activities,
excluding short-term investments $ (40,651) $ (35,606)
Cash provided (used) by financing activities $ 35,261 $ (37,596)
- ------------------------------------------------------------------------------
CASH AND INVESTMENTS
Cash and short-term investments increased $525 during 1998. Cash provided by
operations was $2,766, a decrease of $11,088 from 1997. A net loss of $519 and
an increase in term receivables, long term of $32,965 negatively impacted cash
provided by operations in 1998, offset by non-cash asset write-downs and
business disposals totaling $20,828. In 1997, cash was negatively impacted by a
net loss of $31,307 offset by non-cash asset write-downs and business disposals
totaling $17,817.
Cash used for investing activities was negatively impacted by the capital
expenditures of $21,627 and $32,614 in 1998 and 1997, respectively. In 1998,
purchase of equity interests totaled $19,024, compared to zero in 1997. In 1998,
cash provided by financing activities was favorably impacted by short-term
borrowings of $24,000 to meet short-term cash demands of foreign subsidiaries.
In 1997, cash used by financing activities was negatively impacted by the
pay-down of short term lines of credit and the long term revolving credit
facility totaling $61,103 offset by the release of $30,000 in cash held as
collateral previously classified as long term on the Consolidated Balance
Sheets. Cash and short-term investments were positively impacted by the proceeds
from issuance of common stock upon exercise of stock options and employee stock
plan purchases in the amount of $11,381 and $9,447 in 1998 and 1997,
respectively. In 1997, this increase was offset by repurchases of common stock
of $15,940, compared to zero in 1998.
TRADE ACCOUNTS RECEIVABLE
The trade accounts receivable balance increased $19,834 from December 31, 1997
compared to December 31, 1998. Average days sales outstanding in accounts
receivable increased slightly from 76 days at the end of 1997 to 78 days at the
end of 1998.
PREPAID EXPENSES AND OTHER
Prepaid expenses and other increased $10,597 from December 31, 1997 to December
31, 1998. This increase is primarily due to capitalized acquisition costs
related to the unsolicited tender offer for Quickturn of $4,614, which will be
expensed in 1999 due to the Company's withdrawal of the offer. In addition, the
accelerated verification systems inventory balance increased by $5,655.
29
TERM RECEIVABLES, LONG-TERM
Term receivables, long-term increased to $36,430 at December 31, 1998 from
$3,465 at December 31, 1997. The increase is primarily due to an increase in
demand for multi-year, multi-element term license and perpetual license
installment sales (term) agreements from the Company's top-rated credit
customers. Balances under term agreements that are due within one year are
included in trade accounts receivable and balances that are due in more than one
year are included in term receivables, long-term. The Company uses term
agreements as a standard business practice and has a history of successfully
collecting under the original payment terms without making concessions on
payments, products or services.
CAPITAL RESOURCES
Expenditures for property and equipment decreased to $21,627 for 1998 compared
to $32,614 for 1997. The decrease in capital expenditures is a result of fewer
individually significant projects in 1998 as compared to 1997. In 1998, the
Company completed three business acquisitions and purchased Quickturn stock,
which resulted in cash payments of $19,024. The Company anticipates that current
cash balances, anticipated cash flows from operating activities, and existing
credit facilities will be sufficient to meet its working capital needs for at
least the next twelve months.
FACTORS THAT MAY AFFECT FUTURE RESULTS
AND FINANCIAL CONDITION
The statements contained in this report that are not statements of historical
fact, including without limitation, statements containing the words "believes,"
"expects," and words of similar import, constitute forward-looking statements
that involve a number of risks and uncertainties. Moreover, from time to time
the Company may issue other forward-looking statements. The following discussion
highlights factors that could cause actual results to differ materially from the
forward-looking statements. The forward-looking statements should be considered
in light of these factors.
The Company competes in the highly competitive and dynamic EDA industry. The
Company's success is dependent upon its ability to develop and market products
that are innovative, cost-competitive and meet customer expectations.
Competition in the EDA industry is intense, which can create adverse effects
including, but not limited to, price reductions, lower product margins, loss of
market share and additional working capital requirements.
The Company's business is largely dependent upon the success and growth of the
electronics industry. The outlook for the electronics industry for 1999 is
uncertain due in part to adverse economic conditions in Asia and to potential
slowing of growth in other regions. As a result, many companies in the
electronics industry have announced employee layoffs and will likely curtail the
number of electronic design projects and the level of demand for design
automation capital which could result in decreased spending for the Company's
products and services. In addition, there have been a number of mergers in the
electronics industry, which could result in decreased or delayed capital
spending patterns. The above business challenges for the electronics and related
industries may have a material adverse effect on the Company's financial
condition and results of operations.
A material amount of the Company's software product revenue is usually the
result of current quarter order performance of which the majority is usually
booked in the last month of each quarter. In addition, the Company's revenue
often includes multi-million dollar contracts. The timing of the completion of
these contracts and the terms of delivery of software, hardware and other
services can have a material impact on revenue recognition for a given quarter.
The combination of these factors impairs and delays the Company's ability to
identify shortfalls or overages from quarterly revenue targets.
The Company uses term or installment sales agreements as a standard business
practice and has a history of successfully collecting under the original payment
terms without making concessions on payments, products or services. These
multi-year, multi-element term license and perpetual license term agreements are
from the Company's top-rated credit customers and average between one and three
years in length. These agreements may increase the element of risk associated
with collectibility from customers that can arise for a variety of reasons
including ability to pay, product satisfaction or disagreements
30
and disputes. If collectibility for any of these multi-million dollar agreements
becomes a problem the Company's results of operations could be adversely
affected.
The Company generally realizes approximately half of its revenues outside the
U.S. and expects this to continue in the future. As such, the effects of foreign
currency fluctuations can impact the Company's business and operating results.
To hedge the impact of foreign currency fluctuations, the Company enters into
foreign currency forward contracts. However, significant changes in exchange
rates may have a material adverse impact on the Company's results of operations.
International operations subject the Company to other risks including, but not
limited to, changes in regional or worldwide economic or political conditions,
government trade restrictions, limitations on repatriation of earnings,
licensing and intellectual property rights protection.
A significant percent of the Company's sales to European customers is U.S.
dollar based. However, the Company is affected by the emergence of the new
European Monetary Unit and is currently implementing and testing system changes
to support transactions in this currency. Provided the Company's European
Monetary Unit project is completed on a timely basis, the expense of the
project, and its related effect on the Company's earnings, is not expected to be
material.
The Company is currently re-aligning its professional services business in an
attempt to improve profitability by moving toward engagements that enable
customers to better utilize the Company's products and away from out-source
custom design service engagements. Business reorganizations can increase
personnel management complexities including retention and hiring of key
technical and management personnel. While the Company will attempt to improve
the execution and pricing of its services, there can be no assurance that the
challenges will be effectively met.
The Company's operating expenses are generally committed in advance of revenue
and are based to a large degree on future revenue expectations. Operating
expenses are incurred in order to generate and sustain higher future revenue
levels. If the revenue does not materialize as expected, the Company's results
of operations can be adversely impacted.
Acquisitions of complementary businesses are a part of the Company's overall
business strategy. There are several risks associated with this strategy
including integration of sales channels, training and education of the sales
force for new product offerings, integration of product development efforts,
retention of key employees, integration of systems of internal controls, and
integration of information systems. All of these factors can impair the
Company's ability to forecast, to meet quarterly revenue and earnings targets,
to meet various debt obligations used to finance acquisitions and to effectively
manage the business for long-term growth. There can be no assurance that these
challenges will be effectively met.
As a result of the acquisition of Meta Systems and its accelerated verification
products, the Company has entered the hardware development and assembly
business. Some risk factors include: procuring hardware components on a timely
basis, assembling and shipping systems on a timely basis with appropriate
quality control, developing new distribution and shipment processes, managing
inventory, developing new processes to deliver customer support of the hardware
and placing new demands on the sales force. In addition, the Company is engaged
in litigation with Quickturn in which Quickturn has asserted that the Company
and Meta are infringing Quickturn's patents. A trial is scheduled in June 1999
and no assurance can be given as to the outcome of such trial. This litigation
may negatively affect demand for accelerated verification products for all
vendors worldwide until the outcome is determined. This could result in lower
sales of the Company's accelerated verification products and increase its risk
of inventory obsolescence and could have a materially adverse effect on the
Company's results of operations.
The Company has been able to recruit and retain necessary personnel to research
and develop, market, sell and service products that satisfy customers' needs.
There can be no assurance that the Company can continue to recruit and retain
such personnel.
Generally accepted accounting principles require management to make estimates
and assumptions that affect the reported amounts of assets, liabilities and
contingencies at the date of the financial statements and the reported amounts
of revenue and expenses during the reporting periods. Actual results could
differ from those estimates.
31
The Company is involved in various administrative matters and litigation. There
can be no assurance that various litigation and administrative matters will not
have a material adverse impact on the Company's consolidated financial position
or results of operations. See "Part I-Item 3. Legal Proceedings" for further
discussion.
Due to the factors above, as well as other market factors outside the Company's
control, the Company's future earnings and stock price may be subject to
significant volatility. Past financial performance should not be considered a
reliable indication of future performance. The investment community should use
caution in using historical trends to estimate future results or trends. In
addition, if future results vary significantly from expectations of analysts,
the Company's stock price could be adversely impacted.
YEAR 2000
The Company is aware of the potential inability of computer programs to
adequately process date information after December 31, 1999 (Year 2000). The
Company has conducted a review of its products, information technology and
facilities computer systems to identify all software that could be affected by
the Year 2000 issue and has developed or is developing implementation plans to
address this issue. The Company has announced that its current release of
software products is Year 2000 compliant. The effect of the Year 2000 issue with
regard to the Company's product offerings is not expected to have any material
adverse effect on its financial condition and results of operations.
In addition to computers and related systems, the operations of the Company's
office and facilities equipment, such as fax machines, photocopiers, telephone
switched security systems, elevators and other common devices may be affected by
the Year 2000 problem. The Company is currently assessing the potential effect
of, and costs of remediating the Year 2000 problem on this equipment. The
Company estimates that its total cost of completing any required modifications,
upgrades or replacements of these internal systems should total approximately
$2,000 in 1999. Identifiable expenditures through 1998 have totaled
approximately $2,200.
In addition, the Company has developed and is implementing a program to review
the Year 2000 compliance status of computer software programs licensed from
third parties and used in its internal business processes to obtain appropriate
assurances of Year 2000 compliance from manufacturers of these products. The
Company believes that it will be able to complete its Year 2000 compliance
review and make any necessary modifications prior to the end of 1999. Provided
the Company's Year 2000 projects are completed on a timely basis, the expense of
these projects, and its related effect on the Company's financial condition and
results of operations, is not expected to be material. However, the compliance
of systems acquired from third parties is dependent on factors outside the
Company's control. If key systems, or a significant number of systems fail as a
result of Year 2000 problems, the Company could incur substantial expense and
experience a disruption of business operations, which would potentially have a
material adverse effect on the Company's financial condition and results of
operations.
Furthermore, the Company is making an assessment as to whether any of its
customers, suppliers or service providers will be affected by the Year 2000
issue. Failure of the Company's customers, suppliers or service providers to
comply with Year 2000 could have a material adverse impact on the Company's
financial condition and results of operations. The purchasing patterns of
customers and potential customers may be affected by Year 2000 issues as
companies may be required to devote significant resources to correct or patch
their current software systems for Year 2000 compliance. These expenditures may
result in reduced funds available to purchase the Company's software products
that could have a materially adverse effect on the Company's financial condition
and results of operations. There can be no assurance that Year 2000 related
operating problems or material expenses will not occur with the Company's
computer systems or in connection with the interface to the Company's major
vendors or suppliers.
The Company is currently developing contingency plans to be implemented as part
of its efforts to identify and correct Year 2000 problems affecting its internal
systems. The Company expects to complete its contingency plans by the end of the
second quarter of 1999. Depending on the systems affected, these plans could
include, (a) accelerated replacement of affected equipment and software; (b)
short to medium term use of back up equipment and software; (c) increased work
hours for the Company personnel or use of contract personnel to provide manual
workarounds for information systems; and (d) other similar approaches.
32
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
All numerical references in thousands, except rate data
INTEREST RATE RISK
The Company's exposure to market risk for changes in interest rates relates
primarily to its investment portfolio. The Company does not use derivative
financial instruments for speculative or trading purposes. The Company places
its investments in instruments that meet high credit quality standards, as
specified in the Company's investment policy. The policy also limits the amount
of credit exposure to any one issuer and type of instrument. The Company does
not expect any material loss with respect to its investment portfolio.
The table below presents the carrying value and related weighted-average
interest rates for the Company's investment portfolio. The carrying value
approximates fair value at December 31, 1998. In accordance with the Company's
investment policy all investments mature in twelve months or less. A nominal
amount of non-interest bearing instruments has been
included in the table below:
Carrying Average
Principal (notional) amounts in U.S. dollars: Amount Interest Rate
- ----------------------------------------------------------------------------
Cash equivalents - fixed rate $ 118,512 4.46%
Short-term investments - fixed rate 19,073 5.70%
--------- -----
Total interest bearing instruments $ 137,585 4.63%
========= =====
- ----------------------------------------------------------------------------
FOREIGN CURRENCY RISK
The Company enters into forward foreign exchange contracts as a hedge against
foreign currency sales commitments and intercompany balances. To hedge its
foreign currency against highly anticipated sales transactions, the Company also
purchases foreign exchange options which permit but do not require foreign
currency exchanges at a future date with another party at a contracted exchange
price. Remeasurement gains and losses on forward and option contracts are
deferred and recognized when the sale occurs. All subsequent remeasurement gains
and losses are recognized as they occur to offset remeasurement gains and losses
recognized on the related foreign currency accounts receivable balances. These
contracts generally have maturities which do not exceed twelve months. At
December 31, 1998 and 1997, the difference between the recorded value and the
fair value of the Company's foreign exchange position related to these contracts
was approximately zero. The fair value of these contracts was calculated based
on dealer quotes. The Company does not anticipate non-performance by the
counter-parties to these contracts. Looking forward, the Company does not expect
any material adverse effect on its consolidated financial position, results of
operations, or cash flows resulting from the use of these instruments. There can
be no assurance that these strategies will be effective or that transaction
losses can be minimized or forecasted accurately.
The following table provides information about the Company's foreign exchange
forward contracts at December 31, 1998. Due to the short-term nature of these
contracts, the contract rate approximates the weighted-average contractual
foreign currency exchange rate and the amount in U.S. dollars approximates the
fair value of the contract at December 31, 1998. These forward contracts mature
in approximately thirty days. The following table presents short-term forward
contracts to sell and buy foreign currencies in U.S. dollars related to customer
receivables and intercompany balances:
Contract
Short-term forward contracts: Amount Rate
- -----------------------------------------------------------------
German mark $ 60,948 $ 1.67
French franc 19,461 5.59
Japanese yen 6,773 114.42
British pound sterling 3,304 1.67
Finnish markka 3,002 5.08
Other 6,634 -
- -----------------------------------------------------------------
The unrealized gain (loss) on the outstanding forward contracts at December 31,
1998 was not material to the Company's consolidated financial statements. The
realized gain (loss) on these contracts as they matured was not material to the
Company's consolidated financial position, results of operations, or cash flows
for the periods presented.
33
Item 8. Financial Statements and Supplementary Data
CONSOLIDATED STATEMENTS OF OPERATIONS
In thousands, except per share data
Year ended December 31, 1998 1997 1996
- -------------------------------------------------------------------------------------------------------------
Revenues:
System and software $ 277,396 $ 235,808 $ 242,147
Service and support 212,997 218,919 205,739
--------- --------- ---------
Total revenues 490,393 454,727 447,886
--------- --------- ---------
Cost of revenues:
System and software 26,536 53,492 39,196
Service and support 96,961 105,541 94,620
--------- --------- ---------
Total cost of revenues 123,497 159,033 133,816
--------- --------- ---------
Gross margin 366,896 295,694 314,070
--------- --------- ---------
Operating expenses:
Research and development 117,853 112,227 92,905
Marketing and selling 169,034 157,343 146,754
General and administration 45,825 43,636 40,918
Special charges 20,942 18,858 11,998
Merger and acquisition related charges 8,500 - 31,344
--------- --------- ---------
Total operating expenses 362,154 332,064 323,919
--------- --------- ---------
Operating income (loss) 4,742 (36,370) (9,849)
Other income (expense), net (4,721) 3,319 8,411
--------- --------- ---------
Income (loss) before income taxes 21 (33,051) (1,438)
Provision (benefit) for income taxes 540 (1,744) 3,540
--------- --------- ---------
Net loss $ (519) $ (31,307) $ (4,978)
========= ========= =========
Net loss per share:
Basic $ (0.01) $ (0.48) $ (0.08)
========= ========= =========
Diluted $ (0.01) $ (0.48) $ (0.08)
========= ========= =========
Weighted average number of shares outstanding:
Basic 65,165 64,885 64,134
========= ========= =========
Diluted 65,165 64,885 64,134
========= ========= =========
- -------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
34
CONSOLIDATED BALANCE SHEETS
In thousands
As of December 31, 1998 1997
- -----------------------------------------------------------------------------------------------------------
Assets
Current assets:
Cash and cash equivalents $ 118,512 $ 84,402
Short-term investments 19,073 52,658
Trade accounts receivable, net of allowance for doubtful
accounts of $2,987 in 1998 and $2,426 in 1997 125,844 106,010
Other receivables 7,575 6,282
Prepaid expenses and other 23,503 12,906
Deferred income taxes 10,937 10,081
--------- ---------
Total current assets 305,444 272,339
Property, plant and equipment, net 95,214 103,452
Term receivables, long-term 36,430 3,465
Other assets, net 27,035 23,046
--------- ---------
Total assets $ 464,123 $ 402,302
========= =========
Liabilities and Stockholders' Equity
Current liabilities:
Short-term borrowings 24,000 $ -
Accounts payable 10,101 11,125
Income taxes payable 20,408 23,000
Accrued payroll and related liabilities 41,958 31,055
Accrued liabilities 33,295 30,119
Deferred revenue 36,484 28,849
--------- ---------
Total current liabilities 166,246 124,148
Long-term debt - 120
Other long-term deferrals 1,425 497
--------- ---------
Total liabilities 167,671 124,765
--------- ---------
Minority Interest 1,170 -
Stockholders' Equity:
Common stock, no par value, authorized 100,000 shares; 65,739 and
64,367 issued and outstanding for 1998 and 1997, respectively 303,352 291,263
Incentive stock, no par value, authorized 1,200 shares; none issued - -
Accumulated deficit (22,246) (21,521)
Accumulated other comprehensive income - foreign currency
translation adjustment 14,176 7,795
--------- ---------
Commitments and contingencies
Total stockholders' equity 295,282 277,537
--------- ---------
Total liabilities and stockholders' equity $ 464,123 $ 402,302
========= =========
- -----------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
35
CONSOLIDATED STATEMENTS OF CASH FLOWS
In thousands
Year ended December 31, 1998 1997 1996
- -------------------------------------------------------------------------------------------------------------------------------
Operating Cash Flows:
Net loss $ (519) $ (31,307) $ (4,978)
Adjustments to reconcile net loss to net cash provided by operating activities:
Depreciation and amortization of property, plant and equipment 27,235 27,516 21,472
Gain on sale of investments held for sale - - (5,545)
Deferred taxes (2,223) (8,434) (5,988)
Amortization of other assets 3,503 11,604 11,586
Write-down of assets 16,315 12,422 31,234
Business disposals 4,513 5,395 -
Changes in operating assets and liabilities:
Trade accounts receivable (15,210) 711 (11,201)
Prepaid expenses and other (9,580) 5,036 (5,534)
Term receivables, long-term (32,965) (3,465) -
Accounts payable (848) (3,593) 3,458
Accrued liabilities 8,484 (2,662) 1,319
Other liabilities and deferrals 4,061 631 6,491
--------- --------- ---------
Net cash provided by operating activities 2,766 13,854 42,314
--------- --------- ---------
Investing Cash Flows:
Net maturities (purchases) of short-term investments 33,585 (21,746) (5,018)
Proceeds from sale of investments held for sale - - 6,744
Purchases of property, plant and equipment, net (21,627) (32,614) (23,931)
Capitalization of software development costs - - (5,691)
Purchases of equity interests (19,024) - (32,358)
Purchases of technologies - (2,992) (2,583)
--------- --------- ---------
Net cash used by investing activities (7,066) (57,352) (62,837)
--------- --------- ---------
Financing Cash Flows:
Proceeds from issuance of common stock 11,381 9,447 12,477
Proceeds (repayment) of short-term borrowings 24,000 (8,782) (263)
Repayment of long-term debt (120) (52,321) (501)
Repurchase of common stock - (15,940) (11,507)
Decrease in cash and investments, long-term - 30,000 -
--------- --------- ---------
Net cash provided (used) by financing activities 35,261 (37,596) 206
--------- --------- ---------
Effect of exchange rate changes on cash and cash equivalents 3,149 90 (953)
--------- --------- ---------
Net change in cash and cash equivalents 34,110 (81,004) (21,270)
Cash and cash equivalents at beginning of period 84,402 165,406 186,676
--------- --------- ---------
Cash and cash equivalents at end of period $ 118,512 $ 84,402 $ 165,406
========= ========= =========
- -------------------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
36
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Accumulated
Retained Other Total
Common Stock Earnings Comprehensive Comprehensive Stockholders'
In thousands Shares Amount (Deficit) Income (Loss) Income (Loss) Equity
- ---------------------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1995 63,875 $ 294,917 $ 17,715 $ 13,594 $ 326,226
------- --------- -------- -------- ---------
Net loss - - (4,978) - (4,978) (4,978)
Change in value of investments available
for sale - - (2,951) - (2,951) (2,951)
Foreign currency translation adjustment,
net of tax benefit of $422 - - - (1,496) (1,496) (1,496)
--------
Comprehensive loss - - - - $ (9,425) -
========
Stock issued under stock option and stock
purchase plans and tax benefit associated
with options 1,428 12,477 - - 12,477
Stock issued for acquisition of businesses 138 1,825 - - 1,825
Compensation related to nonqualified stock
options granted - 44 - - 44
Repurchase of common stock (833) (11,507) - - (11,507)
------- --------- -------- -------- ---------
Balance at December 31, 1996 64,608 297,756 9,786 12,098 319,640
------- --------- -------- -------- ---------
Net loss - - (31,307) - (31,307) (31,307)
Foreign currency translation adjustment,
net of tax benefit of $1,214 - - - (4,303) (4,303) (4,303)
--------
Comprehensive loss - - - - $(35,610) -
========
Stock issued under stock option and stock
purchase plans and tax benefit associated
with options 1,414 9,447 - - 9,447
Repurchase of common stock (1,655) (15,940) - - (15,940)
------- --------- -------- -------- ---------
Balance at December 31, 1997 64,367 291,263 (21,521) 7,795 277,537
------- --------- -------- -------- ---------
Net loss - - (519) - (519) (519)
Foreign currency translation adjustment,
net of tax expense of $1,800 - - - 6,381 6,381 6,381
--------
Comprehensive income - - - - $ 5,862 -
========
Stock issued under stock option and stock
purchase plans and tax benefit associated
with options 1,372 11,381 - - 11,381
Stock options issued for acquisition of business - 708 - - 708
Dividends to minority owners - - (206) - (206)
------- --------- -------- -------- ---------
Balance at December 31, 1998 65,739 $ 303,352 $(22,246) $ 14,176 $ 295,282
======= ========= ======== ======== =========
- ---------------------------------------------------------------------------------------------------------------------------------
See accompanying notes to consolidated financial statements.
37
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
All numerical references in thousands, except percentages and per share data
1 Summary of Significant Accounting Policies
Principles of Consolidation
The consolidated financial statements include the financial statements of the
Company and its wholly owned and majority-owned subsidiaries. All significant
intercompany accounts and transactions are eliminated in consolidation.
Foreign Currency Translation
Local currencies are the functional currencies for the Company's foreign
subsidiaries except for the Netherlands and Singapore where the U.S. dollar is
used as the functional currency. Assets and liabilities of foreign operations
are translated to U.S. dollars at current rates of exchange, and revenues and
expenses are translated using weighted average rates. Gains and losses from
foreign currency translation are included as a separate component of
stockholders' equity. Foreign currency transaction gains and losses are included
as a component of other income and expense.
Financial Instruments
The Company enters into forward foreign exchange contracts as a hedge against
foreign currency sales commitments and intercompany balances. To hedge its
foreign currency against highly anticipated sales transactions, the Company also
purchases foreign exchange options which permit but do not require foreign
currency exchanges at a future date with another party at a contracted exchange
price. Remeasurement gains and losses on forward and option contracts are
deferred and recognized when the sale occurs. All subsequent remeasurement gains
and losses are recognized as they occur to offset remeasurement gains and losses
recognized on the related foreign currency accounts receivable balances. At
December 31, 1998 and 1997, the Company had forward contracts and options
outstanding of $100,122 and $57,818, respectively, to primarily buy and sell
various foreign currencies. These contracts generally have maturities which do
not exceed twelve months. At December 31, 1998 and 1997, the difference between
the recorded value and the fair value of the Company's foreign exchange position
related to these contracts was approximately zero. The fair value of these
contracts was calculated based on dealer quotes. The Company does not anticipate
non-performance by the counterparties to these contracts.
The Company places its cash equivalents and short-term investments with major
banks and financial institutions. The Company's investment policy limits its
credit exposure to any one financial institution. Concentrations of credit risk
with respect to trade receivables are limited due to the large number of
customers comprising the Company's customer base, and their dispersion across
different businesses and geographic areas. The carrying amounts of cash
equivalents, short-term investments, trade receivables, accounts payable, and
short term borrowings approximate fair value because of the short-term nature of
these instruments. The Company does not believe it is exposed to any significant
credit risk or market risk on its financial instruments.
Cash, Cash Equivalents, and Short-Term Investments
The Company classifies highly liquid investments purchased with an original
maturity of three months or less as cash equivalents. Short-term investments
consist of certificates of deposit, commercial paper and other highly liquid
investments with original maturities in excess of three months. Short-term
investments are classified as available for sale and are recorded at amortized
cost, which approximates market value. These investments mature primarily in
less than one year.
Property, Plant and Equipment
Property, plant and equipment is stated at cost. Expenditures for additions to
property, plant and equipment are capitalized. The cost of repairs and
maintenance is expensed as incurred. Depreciation of buildings and building
equipment, and land improvements, is computed on a straight-line basis over
lives of forty and twenty years, respectively. Depreciation of computer
equipment and furniture is computed principally on a straight-line basis over
the estimated useful lives of the assets, generally three to five years.
Leasehold improvements are amortized on a straight-line basis over the lesser of
the term of the lease or estimated useful lives of the improvements.
38
In accordance with SFAS No. 121, "Accounting for the Impairment of Long-Lived
Assets and for Long-Lived Assets to Be Disposed Of", management reviews
long-lived assets and the related intangible assets for impairment whenever
events or changes in circumstances indicate the carrying amount of such assets
may not be recoverable. Recoverability of these assets is determined by
comparing the forecasted undiscounted net cash flows of the operation to which
the assets relate, to the carrying amount including associated intangible assets
of such operation. If the operation is determined to be unable to recover the
carrying amount of its assets, then intangible assets are written down first,
followed by the other long-lived assets of the operation, to fair value. Fair
value is determined based on discounted cash flows or appraised values,
depending upon the nature of the assets.
Income Taxes
The Company uses the asset and liability method of accounting for income taxes.
Under the asset and liability method, deferred income taxes are recognized for
the future tax consequences attributable to temporary differences between the
financial statement carrying amounts and tax balances of existing assets and
liabilities. Deferred tax assets and liabilities are measured using enacted tax
rates expected to apply to taxable income in the years in which those temporary
differences are expected to be recovered or settled. The effect on deferred
taxes of a change in tax rates is recognized in income in the period that
includes the enactment date.
Revenue Recognition
Revenues from system and software licenses are recognized at the time of
shipment, except for those that include rights to future software products or
have significant other delivery requirements. Product revenues from term or
installment sales agreements which include either perpetual or term licenses are
with the Company's top-rated credit customers and are recognized upon shipment
while any maintenance revenues included in these arrangements are deferred and
recognized ratably over the contract term. Revenues from subscription-type term
license agreements, which include software, rights to future software products,
and services, are deferred and recognized ratably over the term of the
subscription period. Training and consulting contract revenues are recognized
using the percentage of completion method or as contract milestones are
achieved.
In 1997, the American Institute of Certified Public Accountants (AICPA) issued
Statement of Position (SOP) No. 97-2, "Software Revenue Recognition". In March
1998, the Financial Accounting Standards Board (FASB) approved SOP 98-4,
"Deferral of the Effective Date of a Provision of 97-2, Software Revenue
Recognition". SOP 98-4 defers for one year, the application of several
paragraphs and examples in SOP 97-2 which limits the definition of vendor
specific objective evidence (VSOE) of the fair value of various elements in a
multiple element arrangement. The provisions of SOP's 97-2 and 98-4 have been
applied to transactions entered into beginning January 1, 1998. Prior to 1997,
the Company's revenue policy was in accordance with the preceding authoritative
guidance provided by SOP 91-1, "Software Revenue Recognition".
Software Development Costs
The Company accounts for software development costs in accordance with SFAS No.
86, "Accounting for the Costs of Computer Software to be Sold, Leased or
Otherwise Marketed." Software development costs are capitalized beginning when a
product's technological feasibility has been established by completion of a
working model of the product and ending when a product is available for general
release to customers. In 1997 and 1998, completion of a working model of the
Company's products and general release have substantially coincided. As a
result, the Company has not capitalized any software development costs during
these periods since the amounts have not been material.
Amortization of capitalized software development costs is calculated as the
greater of the ratio that the current product revenues bear to estimated future
revenues or the straight-line method over the expected product life cycle of
approximately three years. Amortization is included in system and software cost
of revenues in the Consolidated Statements of Operations and was $0, $5,448 and
$6,215 for the years ended December 31, 1998, 1997, and 1996, respectively.
39
The Company recognized impairment in value of certain previously capitalized
software development costs in the first quarter of 1997 primarily as a result of
the accelerated decline in sales of older software product offerings. These
costs, which totaled $5,358, were determined to be unrecoverable and were
charged to system and software cost of revenues. All remaining previously
capitalized software costs were amortized evenly over the final three quarters
of 1997 to recognize the change in estimated useful lives of these older
technologies.
Goodwill and Intangibles
Goodwill represents the excess of the aggregate purchase price over the fair
value of the tangible and intangible assets acquired in the various
acquisitions. Technology and goodwill costs are being amortized over a three to
five year period to system and software cost of revenues and operating expenses,
respectively.
The Company recognized impairment in value of certain goodwill and purchased
technology, which resulted in associated write-downs of $2,732 and $2,708 in
1998 and $2,056 and $2,370 in 1997, respectively. Total goodwill and purchased
technology amortization expenses were $2,935, $6,263 and $4,190 for the years
ended December 31, 1998, 1997, and 1996, respectively.
Net Income (Loss) Per Share
In 1997, the Company adopted SFAS No. 128 "Earnings Per Share" which provides
that "basic net income (loss) per share" and "diluted net income (loss) per
share" for all prior periods presented are to be computed using the weighted
average number of common shares outstanding during each period, with diluted net
income per share including the effect of potentially dilutive common shares.
Common stock equivalents related to stock options are anti-dilutive in a net
loss year and, therefore, are not included in 1998, 1997 and 1996 diluted net
loss per share.
Comprehensive Income (Loss)
On January 1, 1998, the Company adopted SFAS No. 130, "Reporting Comprehensive
Income". SFAS No. 130 establishes standards for reporting and presentation of
comprehensive income and its components in a full set of financial statements.
Comprehensive income (loss) consists of net income (loss), foreign currency
translation adjustment and net unrealized gains (losses) on securities and is
presented in the consolidated statement of stockholders' equity. The Statement
requires only additional disclosures in the consolidated financial statements;
it does not affect the Company's financial position or results of operations.
Prior year financial statements have been reclassified to conform to the
requirements of SFAS No. 130.
Use of Estimates
Generally accepted accounting principles require management to make estimates
and assumptions that affect the reported amount of assets, liabilities and
contingencies at the date of the financial statements and the reported amounts
of revenues and expenses during the reporting periods. Actual results could
differ from those estimates.
Reclassifications and Restatements
Certain reclassifications have been made in the accompanying consolidated
financial statements for 1996 and 1997 to conform with the 1998 presentation.
2 Special Charges
Following is a summary of the major elements of the special charges:
Year ended December 31, 1998 1997 1996
- ------------------------------------------------------------------------
Employee severance $ 4,982 $ 2,322 $ 3,486
Asset impairments 7,377 5,541 5,000
Business disposals 4,513 5,395 -
Reserves for various claims 1,860 3,950 -
Other 2,210 1,650 3,512
-------- -------- --------
Total $ 20,942 $ 18,858 $ 11,998
======== ======== ========
- ------------------------------------------------------------------------
40
During 1998, the Company recorded special charges of $20,942. The charges
primarily consist of four subsidiary divestitures, moving of the European
distribution center to Ireland to strengthen the Company's tax position, related
terminations arising from the divestitures and the distribution center move, and
impairment in value of certain assets. Substantially all of these costs were
expended in 1998 and the remaining amount should be expended in the first half
of 1999 and there have been no significant modifications to the amount of the
charges.
During 1997, the Company recorded special charges of $18,858. The charges
consisted of subsidiary divestitures and related employee terminations, early
termination of an interest rate swap agreement, recognition of the impairment in
value of certain goodwill and purchased technology and some streamlining of
worldwide operations and reserves for various legal claims. Substantially all of
the costs associated with these charges were expended in 1997 and the first half
of 1998 and there have been no significant modifications to the amount of the
charges.
In 1996, the Company recorded special charges of $11,998. The Company downsized
and redirected certain operations and re-targeted an incentive compensation
program resulting in severance costs, facility lease and equipment abandonment
costs and other costs totaling approximately $7,000. The Company also recognized
a $5,000 write-down for impairment in value of goodwill and certain other assets
associated with its Meta Systems subsidiary, as the recoverability of these
assets was adversely affected by the ongoing SimExpress patent litigation.
3 Mergers and Acquisitions
Results of operations for all pooling of interest transactions are included in
the Company's Consolidated Financial Statements for all periods presented.
Results of operations of all acquisitions accounted for as purchases are
included in the Company's Consolidated Financial Statements only from the date
of acquisition forward.
In 1998, the Company completed three business combinations which were accounted
for as purchases. In March 1998, the Company purchased an additional ownership
interest of 32% of its Korean distributor, Mentor Korea Co. LTD (MGK) for a
total ownership interest of 51%. In November 1998, the Company purchased CLK
Computer-Aided Design Inc. (CLK CAD) and OPC Technology Inc. (OPCT). CLK CAD is
primarily engaged in developing and marketing timing driven placement and
optimization tools for deep submicron designs. OPCT is primarily engaged in
developing and marketing software, which extends the life of optical
lithography, by modifying IC physical layout to compensate for manufacturing
distortions prior to design tape out. The total purchase price including
acquisition expenses for all 1998 purchase acquisitions was $16,513. The Company
paid the purchase price in cash and notes payable for MGK and OPCT and in cash
and stock options for CLK CAD. The cost of each acquisition was allocated on the
basis of estimated fair value of assets and liabilities assumed. The purchase
accounting allocations resulted in charges for in-process research and
development (R&D) of $8,500, goodwill capitalization of $6,613, and technology
capitalization of $1,400.
In connection with these acquisitions, the Company recorded one-time charges to
operations for the write-off of OPCT's and CLK CAD's in-process R&D. The value
assigned to in-process R&D related to research projects for which technological
feasibility had not been established. The value was determined by estimating the
net cash flows from the sale of products resulting from the completion of such
projects, and discounting the net cash flows back to their present value. The
Company then estimated the stage of completion of the products at the date of
the acquisition based on R&D costs that had been expended as of the date of
acquisition as compared to total R&D costs at completion. The percentages
derived from this calculation were then applied to the net present value of
future cash flows to determine the in-process charge. The nature of the efforts
to develop the in-process technology into commercially viable products
principally related to the completion of all planning, designing, prototyping,
verification and testing activities that are necessary to establish that the
product can be produced to meet its design specification, including function,
features and technical performance requirements. The estimated net cash
41
flows from these products were based on management's estimates of related
revenues, cost of sales, R&D costs, selling, general and administrative costs
and income taxes. The Company will monitor how underlying assumptions compare to
actual results. The separate results of operations of the acquisitions were not
material compared to the Company's overall results of operations, and
accordingly pro-forma financial statements of the combined entities have been
omitted.
In 1996, the Company completed nine business combinations, two of which were
accounted for as pooling of interests and seven of which were accounted for as
purchases. The Company purchased dQdt, Inc. (dQdt), Meta Systems SRL, (Meta),
Seto Software GmbH (Seto), Royal Digital Centers, Inc. (Royal Digital), Open
Networks Engineering, Inc. (ONE), Systolic Technology, LTD (Systolic), and CAE
Technology, Inc. (CAE) in April 1996, May 1996, June 1996, August 1996, November
1996, November 1996 and December 1996, respectively. The total purchase price
including acquisition expenses for all 1996 purchase acquisitions was $40,708.
The purchase accounting allocations resulted in charges for in-process research
and development (R&D) of $26,234, goodwill capitalization of $5,517, and
technology capitalization of $8,957. The purchase accounting allocations
performed on 1996 acquisitions were substantially the same as those performed on
1998 acquisitions.
In January and August of 1996, the Company completed the acquisitions of
Microtec Research, Inc. (Microtec) and Interconnectix, Inc. (Interconnectix),
respectively. These acquisitions were accounted for as pooling of interests. A
total of 6,223 and 2,133 shares of the Company's common stock were issued for
Microtec and Interconnectix, respectively. Merger expenses of $5,110 were
incurred associated with the elimination of duplicate facilities, severance
costs, the write-off of certain property and equipment and legal and accounting
fees associated with the merger activities.
4 Income Taxes
Domestic and foreign pre-tax income (loss) is as follows:
Year ended December 31, 1998 1997 1996
- -------------------------------------------------------------------------
Domestic $ (15,759) $ (17,976) $ (10,023)
Foreign 15,780 (15,075) 8,585
--------- --------- ---------
Total $ 21 $ (33,051) $ (1,438)
========= ========= =========
- -------------------------------------------------------------------------
The provision (benefit) for income taxes is as follows:
Year ended December 31, 1998 1997 1996
- -------------------------------------------------------------------------
Current:
Federal $ 1,113 $ 3,730 $ 3,563
State 122 150 118
Foreign 1,528 2,810 5,847
--------- --------- ---------
Total current 2,763 6,690 9,528
--------- --------- ---------
Deferred:
Federal (1,308) (5,848) (6,093)
Foreign (915) (2,586) 105
--------- --------- ---------
Total deferred (2,223) (8,434) (5,988)
--------- --------- ---------
Total $ 540 $ (1,744) $ 3,540
========= ========= =========
- -------------------------------------------------------------------------
The effective tax expense (benefit) differs from the statutory federal tax
expense (benefit) as follows:
Year ended December 31, 1998 1997 1996
- -------------------------------------------------------------------------
Federal tax $ 7 $ (11,568) $ (503)
State tax, net of Federal benefit 79 98 77
Impact of international operations (3,785) 6,485 (6,594)
Non-deductible acquisition costs 6,080 - 13,835
Other, net (1,841) 3,241 (3,275)
--------- --------- ---------
Effective tax expense (benefit) $ 540 $ (1,744) $ 3,540
========= ========= =========
- -------------------------------------------------------------------------
The significant components of deferred income tax expense are as follows:
Year ended December 31, 1998 1997 1996
- --------------------------------------------------------------------------------
Net changes in deferred tax assets
and liabilities $ 362 $ (14,800) $ (3,462)
Increase (decrease) in the valuation
allowance for deferred tax assets (2,585) 6,366 (2,526)
-------- --------- ---------
Total $ (2,223) $ (8,434) $ (5,988)
======== ========= =========
- --------------------------------------------------------------------------------
The tax effects of temporary differences and carryforwards which gave rise to
significant portions of deferred tax assets were as follows:
As of December 31, 1998 1997
- ------------------------------------------------------------------------------
Deferred tax assets:
Depreciation of property and equipment $ 1,859 $ 1,199
Reserves and allowances 2,436 2,235
Accrued expenses not currently deductible 5,906 9,502
Net operating loss carryforwards 31,384 29,614
Tax credit carryforwards 20,549 23,629
Purchased technology 1,858 1,540
Other, net 5,373 2,008
-------- --------
Total gross deferred tax assets 69,365 69,727
Less valuation allowance (52,303) (54,888)
-------- --------
Net deferred tax asset $ 17,062 $ 14,839
======== ========
- ------------------------------------------------------------------------------
42
The Company has established a valuation allowance for certain deferred tax
assets, including those for net operating loss and tax credit carryforwards.
Such a valuation allowance is recorded when it is more likely than not that some
portion of the deferred tax assets will not be realized. The portion of the
valuation allowance for deferred tax assets for which subsequently recognized
tax benefits will be applied directly to contributed capital is $13,888 as of
December 31, 1998. This amount is attributable to differences between financial
and tax reporting of employee stock option transactions.
As of December 31, 1998, the Company, for federal income tax purposes, has net
operating loss carryforwards of approximately $44,755 and research and
experimentation credit carryforwards of $13,975. For state income tax purposes,
as of December 31, 1998 the Company has net operating loss carryforwards
totaling $114,769 from multiple jurisdictions, research and experimentation
credits of $3,823 and child care and facility credits of $583. If not used by
the Company to reduce income taxes payable in future periods, net operating loss
carryforwards will expire between 2002 through 2011, and research and
experimentation credit carryforwards between 1999 through 2012.
The Company has not provided for Federal income taxes on approximately $150,968
of undistributed earnings of foreign subsidiaries at December 31, 1998, since
these earnings have been invested indefinitely in subsidiary operations. Upon
repatriation, some of these earnings would generate foreign tax credits which
will reduce the Federal tax liability associated with any future foreign
dividend.
The Company has settled its Federal income tax obligations through 1991. The
Company believes the provisions for income taxes for years since 1991 are
adequate.
5 Property, Plant and Equipment
A summary of property, plant and equipment follows:
As of December 31, 1998 1997
- -------------------------------------------------------------------------------
Computer equipment and furniture $ 146,683 $ 155,433
Buildings and building equipment 49,555 53,702
Land and improvements 15,560 14,658
Leasehold improvements 17,786 15,320
--------- ---------
229,584 239,113
Less accumulated depreciation and amortization (134,370) (135,661)
--------- ---------
Property, plant and equipment, net $ 95,214 $ 103,452
========= =========
- -------------------------------------------------------------------------------
The Company has entered into agreements to lease portions of its facility sites
in Wilsonville, OR, Santa Clara, CA, and Warren, NJ. Under terms of these
agreements approximately 280 square feet of space was rented to third parties
and are expected to result in rental receipts of $5,253 in 1999.
6 Short-Term Borrowings
Short-term borrowings from time to time include drawings by subsidiaries under
multi-currency unsecured credit agreements. Interest rates are generally based
on the applicable country's prime lending rate depending on the currency
borrowed. The weighted average interest rate on short-term borrowings during
1998 and 1997 was approximately 6%. The Company has available lines of credit of
approximately $15,500 as of December 31, 1998. Certain agreements require
compensatory balances, which the Company has met. No borrowings were outstanding
under these agreements at December 31, 1998.
In 1998, the Company entered into a committed revolving loan with a bank that
remains in effect until 2001, which gives the Company the ability to borrow up
to $100,000 and is available for general operating purposes. As of December 31,
1998 the Company had short-term borrowings of $24,000 outstanding on this
revolving loan. The revolving loan has a variable rate, which is calculated
based on the Company's financial position and operating performance and is
subject to certain loan covenants. The Company paid underwriting fees of $600
for this agreement, which will be amortized over its life.
In 1998, the Company entered into a committed revolving loan with a bank that
gave the Company the ability to borrow up to $200,000 and was available
primarily for the unsolicited tender offer of Quickturn Design Systems Inc.
(Quickturn). In connection with this arrangement the Company paid underwriting
fees of $1,250, which were capitalized as acquisition costs as of December 31,
1998. The revolving loan had a variable rate, which was calculated based on the
Company's financial position and operating performance and was subject to
certain loan covenants. Subsequent to December 31, 1998, the Company terminated
this new credit facility and will expense the capitalized underwriting fees in
the first quarter of 1999.
43
7 Incentive Stock
The Board of Directors has the authority to issue incentive stock in one or more
series and to determine the relative rights and preferences of the incentive
stock.
8 Employee Stock and Savings Plans
The Company has three common stock option plans which provide for the granting
of incentive and nonqualified stock options to key employees, officers, and
non-employee directors of the Company and its subsidiaries. The three stock
option plans are administered by the Compensation Committee of the Board of
Directors, and permit accelerated vesting of outstanding options upon the
occurrence of certain changes in control of the Company.
The Company also has a stock plan that provides for the sale of common stock to
key employees of the Company and its subsidiaries. Shares can be awarded under
the plan at no purchase price as a stock bonus and the stock plan also provides
for the granting of nonqualified stock options.
SFAS No. 123 "Accounting for Stock-Based Compensation" defines a fair value
based method of accounting for an employee stock option and similar equity
instrument. As is permitted under SFAS No. 123, the Company has elected to
continue to account for its stock-based compensation plans under APB Opinion No.
25. The Company has computed, for pro forma disclosure purposes, the value of
all options granted during 1998, 1997 and 1996 using the Black-Scholes option
pricing model as prescribed by SFAS No. 123 using the following weighted average
assumptions for grants:
Year ended December 31, 1998 1997 1996
- -------------------------------------------------------------------
Risk-free interest rate 5.5% 6.25% 6%
Expected dividend yield 0% 0% 0%
Expected life (in years) 5.5 5.5 5.5
Expected volatility 61% 46% 63%
- -------------------------------------------------------------------
Using the Black-Scholes methodology, the total value of options granted during
1998, 1997 and 1996 was $29,797, $17,862 and $32,375, respectively, which would
be amortized on a pro forma basis over the vesting period of the options. The
weighted average fair value of options granted during 1998, 1997 and 1996 was
$10.23, $6.43, and $6.29 per share, respectively. If the Company had accounted
for its stock-based compensation plans in accordance with SFAS No. 123, the
Company's net loss and net loss per share would approximate the pro forma
disclosures below:
Year ended December 31, 1998 1997 1996
- ------------------------------------------------------------------------------
Net loss $ (7,915) $ (37,663) $ (12,447)
Net loss per share, basic and diluted $ (0.12) $ (0.58) $ (0.19)
- ------------------------------------------------------------------------------
The effects of applying SFAS No. 123 in this pro forma disclosure are not
indicative of future amounts. SFAS No. 123 does not apply to awards prior to
January 1, 1995, and additional awards are anticipated in future years.
The following table summarizes information about options outstanding and
exercisable at December 31, 1998:
----------- Outstanding ------------ ---- Exercisable ----
Range of Remaining Weighted Weighted
Exercise Number of Contractual Average Number of Average
Prices Shares Life (Years) Price Shares Price
- ------------------------------------------------------------------------------
$ 0.07 - 6.00 950 6.04 $ 3.87 689 $ 4.71
$ 6.68 - 7.31 214 6.49 $ 7.08 117 $ 7.03
$ 7.50 - 7.75 2,483 7.75 $ 7.74 1,204 $ 7.75
$ 8.31 - 8.81 219 9.66 $ 8.48 7 $ 8.57
$ 8.88 - 9.00 1,278 8.10 $ 9.00 336 $ 9.00
$ 9.13 - 10.00 1,079 8.05 $ 9.68 386 $ 9.66
$10.06 - 10.06 1,896 9.15 $ 10.06 2 $ 10.06
$10.13 - 15.88 1,037 5.91 $ 12.18 803 $ 12.19
$17.13 - 18.25 78 6.63 $ 17.31 48 $ 17.32
$19.76 - 19.76 32 1.36 $ 19.76 32 $ 19.76
------ ----- -------- ----- --------
$00.07 - 19.76 9,266 7.72 $ 8.84 3,624 $ 8.69
====== ===== ======== ===== ========
- ------------------------------------------------------------------------------
Options under all four plans generally become exercisable over a four to
five-year period from the date of grant or from the commencement of employment
at prices generally not less than the fair market value at the date of grant.
The excess of the fair market value of the shares at the date of grant over the
option price, if any, is charged to operations ratably over the vesting period.
At December 31, 1998, 27,810 shares were reserved for issuance and 2,008 shares
were available for future grant. Stock options outstanding, the weighted average
exercise price and transactions involving the stock option plans are summarized
as follows:
44
Shares Price
- -----------------------------------------------------------------
Balance at December 31, 1995 6,073 $ 9.17
Granted 5,113 9.83
Exercised (1,013) 5.38
Canceled (3,323) 13.27
-------- --------
Balance at December 31, 1996 6,850 8.23
Granted 2,832 9.23
Exercised (620) 5.69
Canceled (957) 9.25
-------- --------
Balance at December 31, 1997 8,105 8.65
Granted 2,995 8.77
Exercised (665) 5.86
Canceled (1,169) 9.09
-------- --------
Balance at December 31, 1998 9,266 $ 8.84
======== ========
- -----------------------------------------------------------------
In May 1989, the shareholders adopted the 1989 Employee Stock Purchase Plan and
reserved 1,400 shares for issuance. The shareholders have subsequently amended
the plan to reserve an additional 4,000 shares for issuance. Under the plan,
each eligible employee may purchase up to six hundred shares of stock per
quarter at prices no less than 85% of its fair market value determined at
certain specified dates. Employees purchased 707 and 794 shares under the plan
in 1998 and 1997, respectively. At December 31, 1998, 363 shares remain
available for future purchase under the plan. The plan will expire upon either
issuance of all shares reserved for issuance or at the discretion of the Board
of Directors. There are no plans to terminate the plan at this time.
In 1997, the Company repurchased 1,655 shares, approximately 800 of which were
repurchased immediately prior to the Employee Stock Purchase Plan (ESPP)
purchases and then reissued to plan participants. The remaining shares were
repurchased in the fourth quarter of 1997 to be reissued to participants of the
ESPP in 1998. The market value of all repurchases was $15,940. During 1998, the
Company did not repurchase any shares.
The Company has an employee savings plan (the Savings Plan) that qualifies as a
deferred salary arrangement under Section 401(k) of the Internal Revenue Code.
Under the Savings Plan, participating U.S. employees may defer a portion of
their pretax earnings, up to the Internal Revenue Service annual contribution
limit. The Company currently matches 50% of eligible employee's contributions,
up to a maximum of 6% of the employee's earnings. Employer matching
contributions vest over 5 years, 20% for each year of service completed. The
Company's matching contributions to the Savings Plan were $2,765, $2,730, and
$2,299, in 1998, 1997, and 1996, respectively.
9 Commitments
The Company leases a majority of its field office facilities under
non-cancelable operating leases. In addition, the Company leases certain
equipment used in its research and development activities. This equipment is
generally leased on a month-to-month basis after meeting a six-month lease
minimum.
The Company rents its Japanese facilities under two-year cancelable leases
allowing a six-month notice of cancellation. The total remaining commitment
under these cancelable leases, which expire December 2000, is $5,145, of which
the first six months payments of $1,430 are included in the schedule below.
Future minimum lease payments under all non-cancelable operating leases are
approximately as follows:
Annual periods ending December 31,
- --------------------------------------------------------------
1999 $ 18,452
2000 13,022
2001 9,307
2002 7,912
2003 7,279
Later years 18,486
--------
Total $ 74,458
========
- --------------------------------------------------------------
Rent expense under operating leases was $21,623, $19,598, and $15,480 for the
years ended December 31, 1998, 1997, and 1996, respectively.
10 Other Income (Expense), Net
Other income (expense) is comprised of the following:
Year ended December 31, 1998 1997 1996
- ---------------------------------------------------------------------
Interest income $ 7,771 $ 7,723 $ 9,485
Interest expense (768) (555) (2,423)
Litigation related costs (10,301) (4,675) (3,611)
Gain (loss) on sale of investments - - 5,545
Other, net (1,423) 826 (585)
-------- -------- --------
Total $ (4,721) $ 3,319 $ 8,411
======== ======== ========
- ---------------------------------------------------------------------
45
11 Supplemental Cash Flow Information
The following provides additional information concerning supplemental
disclosures of cash flow activities:
Year ended December 31, 1998 1997 1996
- --------------------------------------------------------------------------
Cash paid for:
Interest expense $ 599 $ 829 $ 2,198
Income taxes $ 2,475 $ 3,307 $ 1,984
Issuance of stock and stock options
for purchase of business $ 708 - $ 1,825
- --------------------------------------------------------------------------
12 Segment Reporting
The Company operates exclusively in the EDA industry. The Company markets its
products primarily to customers in the communications, computer, semiconductor,
consumer electronics, aerospace, and transportation industries. The Company
sells and licenses its products through its direct sales force in North and
South America (Americas), Europe, Japan and Pacific Rim, and through
distributors where a direct sales presence is not warranted. The Company's
reportable segments are based on geographic area.
All intercompany revenues and expenses are eliminated in computing revenues and
operating income (loss). The corporate component of operating income (loss)
represents research and development, corporate marketing and selling, corporate
general and administration, special, and merger and acquisitions related
charges. Corporate capital expenditures and depreciation and amortization are
generated from assets allotted to research and development, corporate marketing
and selling, and corporate general and administration. Reportable segment
information is as follows:
Year ended December 31 1998 1997 1996
- --------------------------------------------------------------------------
Revenues
Americas $ 271,159 $ 250,236 $ 244,972
Europe 146,559 119,501 114,678
Japan 54,582 65,662 70,902
Pacific Rim 18,093 19,328 17,334
--------- --------- ---------
Total $ 490,393 $ 454,727 $ 447,886
========= ========= =========
Operating Income (Loss)
Americas $ 174,245 $ 130,673 $ 158,974
Europe 42,631 24,132 8,229
Japan 16,697 21,575 7,541
Pacific Rim 8,209 5,377 27,436
Corporate (237,040) (218,127) (212,029)
--------- --------- ---------
Total $ 4,742 $ (36,370) $ (9,849)
========= ========= =========
Depreciation and Amortization
Americas $ 1,943 $ 2,198 $ 2,071
Europe 7,887 8,283 4,431
Japan 1,044 1,019 1,183
Pacific Rim 1,385 833 674
Corporate 18,479 26,787 24,699
--------- --------- ---------
Total $ 30,738 $ 39,120 $ 33,058
========= ========= =========
Capital Expenditures:
Americas $ 4,886 $ 4,309 $ 4,598
Europe 10,469 8,707 5,178
Japan 803 1,317 649
Pacific Rim 503 1,541 1,071
Corporate 4,966 16,740 12,435
--------- --------- ---------
Total $ 21,627 $ 32,614 $ 23,931
========= ========= =========
Identifiable Assets:
Americas $ 251,709 $ 259,417 $ 330,609
Europe 136,851 71,868 105,582
Japan 36,447 34,860 42,634
Pacific Rim 39,116 36,157 34,534
--------- --------- ---------
Total $ 464,123 $ 402,302 $ 513,359
========= ========= =========
- --------------------------------------------------------------------------
46
13 Subsequent Events
On August 12, 1998, the Company commenced a $12.125 per share tender offer for
all outstanding shares of Quickturn Design Systems, Inc., a Delaware corporation
(Quickturn), or approximately $216,000 for approximately 17,800 shares
outstanding. In connection with this offer, the Company purchased 591 shares of
Quickturn common stock for $4,522. The Company expected to finance this offer
through its available cash balances and a new bank credit facility for which the
Company had a definitive Credit Agreement. On January 8, 1999, the Company
withdrew its tender offer and subsequently terminated its new credit facility.
The Company incurred acquisition costs of approximately $9,000 of which $4,614
was capitalized and the remaining amount was not accrued as of December 31,
1998. Because the offer was withdrawn, these costs will be expensed and will be
partially offset by a gain on the sale of the Quickturn stock of approximately
$4,000 in the first quarter of 1999.
On January 5, 1999, the Company purchased the remaining minority interest of its
then 84% owned subsidiary, Exemplar Logic, Inc. (Exemplar) for cash and stock
options valued at approximately $14,000. This business combination will be
accounted for as a purchase. The cost of the acquisition will be allocated on
the basis of estimated fair value of assets and liabilities assumed. In
connection with the acquisition, the Company will record a charge to operations
for the write-off of Exemplar's in-process product development that had not
reached technological feasibility, the amount of which is yet to be determined.
On February 10, 1999, the Company adopted a Shareholder Rights Plan and declared
a dividend distribution of one Right for each outstanding share of Common Stock,
payable to holders of record on March 5, 1999. Under certain conditions, each
Right may be exercised to purchase 1/100 of a share of Series A Junior
Participating Incentive Stock at a purchase price of $95, subject to adjustment.
The Rights are not presently exercisable and will only become exercisable if a
person or group acquires or commences a tender offer to acquire 15% of the
Common Stock. If a person or group acquires 15% of the Common Stock, each Right
will be adjusted to entitle its holder to receive, upon exercise, Common Stock
(or, in certain circumstances, other assets of the Company) having a value equal
to two times the exercise price of the Right or each Right will be adjusted to
entitle its holder to receive, upon exercise, common stock of the acquiring
company having a value equal to two times the exercise price of the Right,
depending on the circumstances. The Rights expire on February 10, 2009 and may
be redeemed by the Company for $0.01 per Right. The Rights do not have voting or
dividend rights, and until they become exercisable, have no dilutive effect on
the earnings of the Company.
14 Quarterly Financial Information - Unaudited
A summary of quarterly financial information follows:
Quarter ended March 31 June 30 September 30 December 31
- -----------------------------------------------------------------------------------
1998
Total revenues $ 108,008 $ 119,117 $ 117,933 $ 145,335
Gross margin $ 77,205 $ 86,058 $ 88,605 $ 115,028
Operating income (loss) $ (6,434) $ 1,121 $ 10,179 $ (124)
Net income (loss) $ (7,454) $ 804 $ 7,703 $ (1,572)
Net income (loss) per share,
diluted and basic $ (0.12) $ 0.01 $ 0.12 $ (0.02)
1997
Total revenues $ 101,559 $ 114,638 $ 116,006 $ 122,524
Gross margin $ 53,732 $ 76,968 $ 77,642 $ 87,352
Operating income (loss) $ (32,144) $ 2,831 $ 1,059 $ (8,116)
Net income (loss) $ (28,149) $ 3,732 $ 1,901 $ (8,791)
Net income (loss) per share,
diluted and basic $ (0.43) $ 0.06 $ 0.03 $ (0.14)
- -----------------------------------------------------------------------------------
47
Report of Management
Management of Mentor Graphics Corporation is responsible for the preparation of
the accompanying consolidated financial statements. The consolidated financial
statements have been prepared in conformity with generally accepted accounting
principles appropriate in the circumstances and necessarily include some amounts
which represent the best estimates and judgments of management. The consolidated
financial statements have been audited by KPMG Peat Marwick LLP, independent
auditors, whose report is included below.
The Audit Committee of the Board of Directors is comprised of three directors
who are not officers or employees of Mentor Graphics Corporation or its
subsidiaries. These directors meet with management and the independent auditors
in connection with their review of matters relating to the Company's annual
financial statements, the Company's system of internal accounting controls, and
the services of the independent auditors. The Committee meets with the
independent auditors, without management present, to discuss appropriate
matters. The Committee reports its findings to the Board of Directors and also
recommends the selection and engagement of independent auditors.
Gregory K. Hinckley
Executive Vice President
and Chief Operating Officer/Chief Financial Officer
Walden C. Rhines
President and Chief Executive Officer
Independent Auditors' Report
To the Stockholders and Board of Directors
Mentor Graphics Corporation:
We have audited the accompanying consolidated balance sheets of Mentor Graphics
Corporation and subsidiaries as of December 31, 1998 and 1997, and the related
consolidated statements of operations, stockholders' equity, and cash flows for
each of the years in the three-year period ended December 31, 1998. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these consolidated
financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Mentor Graphics
Corporation and subsidiaries as of December 31, 1998 and 1997, and the results
of their operations and their cash flows for each of the years in the three-year
period ended December 31, 1998 in conformity with generally accepted accounting
principles.
KPMG Peat Marwick LLP
Portland, Oregon
February 1, 1999, except for note 13, which is as of February 10, 1999
48
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure
None.
Item 10. Directors and Executive Officers of Registrant
The information required by this item concerning the Company's Directors is
included under "Election of Directors" in the Company's 1999 Proxy Statement and
is incorporated herein by reference. The information concerning the Company's
Executive Officers is included herein on page 22 under the caption "Executive
Officers of the Registrant." The information required by Item 405 of Regulation
S-K is included under "Section 16(a) Beneficial Ownership Reporting Compliance"
in the Company's 1999 Proxy Statement and is incorporated herein by reference.
Item 11. Executive Compensation
The information required by this item is included under "Compensation of
Directors," and "Information Regarding Executive Officer Compensation" in the
Company's 1999 Proxy Statement and is incorporated herein by reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information required by this item is included under "Election of Directors"
and "Information Regarding Beneficial Ownership of Principal Shareholders and
Management" in the Company's 1999 Proxy Statement and is incorporated herein by
reference.
Item 13. Certain Relationships and Related Transactions
The information required by this item is not applicable to the Company.
49
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) 1 Financial Statements:
The following consolidated financial statements are included in Item 8:
Page
- ----------------- --------------------------------------------------------------
Consolidated Statements of Operations for the years ended
December 31, 1998, 1997 and 1996 ............................................34
Consolidated Balance Sheets as of December 31, 1998 and 1997 ................35
Consolidated Statements of Cash Flows for the years ended
December 31, 1998, 1997 and 1996 ............................................36
Consolidated Statements of Stockholders' Equity for the years
ended December 31, 1998, 1997 and 1996 ......................................37
Notes to Consolidated Financial Statements ..................................38
Independent Auditors' Report ................................................48
(a) 2 Financial Statement Schedule:
The schedule and report listed below are filed as part of this report on the
pages indicated:
Schedule Page
- --------------------------------------------------------------------------------
II Valuation and Qualifying Accounts .......................................52
Independent Auditors' Report on Financial Statement Schedule ................52
All other financial statement schedules have been omitted
since they are not required, not applicable or the information
is included in the Consolidated Financial Statements or Notes.
(a) 3 Exhibits
3. A. 1987 Restated Articles of Incorporation. Incorporated by reference to
Exhibit 4A to the Company's Registration Statement on Form S-3
(Registration No. 33-23024).
B. Articles of Amendment of 1987 Restated Articles of Incorporation.
C. Bylaws of the Company.
4. A. Rights Agreement, dated as of February 10, 1999, between the Company
and American Stock, Transfer & Trust Co. Incorporated by reference to
Exhibit 4.1 to the Company's Current Report on Form 8-K filed on
February 19, 1999.
10.*A. 1982 Stock Option Plan. Incorporated by reference to Exhibit 10.A to the
Company's Annual Report on Form 10-K for the fiscal year ended December
31, 1994 (1994 10-K).
*B. Nonqualified Stock Option Plan. Incorporated by reference to Exhibit
10.C to the Company's Annual Report on Form 10-K for the fiscal year
ended December 31, 1989.
*C. 1986 Stock Plan. Incorporated by reference to Exhibit 10.C to the
Company's Annual Report on Form 10-K for the fiscal year ended
December 31, 1997 (1997 10-K).
*D. 1987 Non-Employee Directors' Stock Option Plan. Incorporated by
reference to Exhibit 10.D to the Company's 1994 10-K.
*E. Form of Indemnity Agreement entered into between the Company and each
of its executive officers and directors.
*F. Form of Severance Agreement entered into between the Company and each
of its executive officers.
G. Lease dated November 20, 1991, for 999 Ridder Park Drive and 1051 Ridder
Park Drive, San Jose, California. Incorporated by reference to Exhibit
10.M to the Company's Form SE dated March 25, 1992.
H. Credit Agreement between Mentor Graphics Corporation and Bank of America
National Trust and Savings Association, dated February 6, 1998.
Incorporated by reference to Exhibit 10.6 to the Company's 1997 10-K.
21. List of Subsidiaries of the Company.
23. Consent of Accountants.
* Management contract or compensatory plan or arrangement
(b) No reports on Form 8-K were filed by the Company during the last quarter of
1998.
50
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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, on March 15, 1999.
MENTOR GRAPHICS CORPORATION
By /s/ WALDEN C. RHINES
-----------------------------------------
Walden C. Rhines
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed by the following persons on behalf of the registrant on March
15, 1999, in the capacities indicated.
Signature Title
---------------------------------------------------------------------------
(1) Principal Executive Officer:
/s/ WALDEN C. RHINES President, Chief Executive Officer
----------------------------- and Director
Walden C. Rhines
(2) Principal Financial Officer:
/s/ GREGORY K. HINCKLEY Executive Vice President, Chief Operating
----------------------------- Officer and Chief Financial Officer
Gregory K. Hinckley
(3) Principal Accounting Officer:
/s/ ANTHONY B. ADRIAN Vice President, Corporate Controller
-----------------------------
Anthony B. Adrian
(4) Directors:
/s/ JON A. SHIRLEY Chairman of the Board
-----------------------------
Jon A. Shirley
/s/ MARSHA B. CONGDON Director
-----------------------------
Marsha B. Congdon
/s/ JAMES R. FIEBIGER Director
-----------------------------
James R. Fiebiger
/s/ DAVID A. HODGES Director
-----------------------------
David A. Hodges
/s/ FONTAINE K. RICHARDSON Director
-----------------------------
Fontaine K. Richardson
51
Schedule II
MENTOR GRAPHICS CORPORATION AND SUBSIDIARIES
Valuation and Qualifying Accounts (In Thousands)
Beginning Ending
Description Balance Additions Deductions Balance
- ----------------------------------------------------------------------------------------------------------
Year ended December 31, 1996
Allowance for doubtful accounts/1 $ 3,291 $ 1,168 $ 1,296 $ 3,163
Allowance for obsolete inventory/2 $ 389 $ 308 $ 292 $ 405
Year ended December 31, 1997
Allowance for doubtful accounts/1 $ 3,163 $ 1,220 $ 1,957 $ 2,426
Allowance for obsolete inventory/2 $ 405 $ 4,626 $ 500 $ 4,531
Year ended December 31, 1998
Allowance for doubtful accounts/1 $ 2,426 $ 2,578 $ 2,017 $ 2,987
Allowance for obsolete inventory/2 $ 4,531 $ - $ 162 $ 4,369
- ----------------------------------------------------------------------------------------------------------
/1 Deductions primarily represent accounts written off during the period.
/2 Deductions represent inventory scrapped during each period.
Independent Auditors' Report
The Board of Directors and Stockholders
Mentor Graphics Corporation:
Under date of February 1, 1999, except for note 13, which is as of February 10,
1999, we reported on the consolidated balance sheets of Mentor Graphics
Corporation and subsidiaries as of December 31, 1998 and 1997, and the related
consolidated statements of operations, stockholders' equity and cash flows for
each of the years in the three-year period ended December 31, 1998, which are
included in the annual report on Form 10-K for the year 1998. In connection with
our audits of the aforementioned consolidated financial statements, we also have
audited the related consolidated financial statement schedule as listed in the
accompanying index. This financial statement schedule is the responsibility of
the Company's management. Our responsibility is to express an opinion on this
financial statement schedule based on our audits.
In our opinion, such financial statement schedule, when considered in relation
to the basic consolidated financial statements taken as a whole, presents
fairly, in all material respects, the information set forth therein.
KPMG Peat Marwick LLP
Portland, Oregon
February 1, 1999, except for note 13, which is as of February 10, 1999
52