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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-K

Commission file number: 000-33291

NASSDA CORPORATION
(Exact name of registrant as specified in its charter)

2650 San Tomas Expressway
Santa Clara, California 95051
(Address of principal executive offices, including zip code))

(408) 988-9988
(Registrant's Telephone Number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None

Securities Registered Pursuant to Section 12(g) of the Act: Common Stock, $0.001 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 12 months (or for such shorter period that the registrant was required to file such reports) and (2) has been subject to such requirements for the past 90 days. Yes ý    No o

        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 the Form 10-K or any amendment to this Form 10-K. ý

        Indicate by check mark if the registrant is an accelerated filer (as defined in Rule 12b-2 of the Securities Exchange Act of 1934, as amended). ý

        The aggregate market value of the voting stock held by non-affiliates of the Registrant, based on the closing sale price of the Registrant's common stock on March 31, 2003, the last business day of Registrant's most recently completed second fiscal quarter, as reported on the Nasdaq National Market, was approximately $55,041,406. Shares of common stock held by each executive officer and director and by each person who may be deemed to be an affiliate of the Registrant have been excluded from this computation. The determination of affiliate status for this purpose is not necessarily a conclusive determination for other purposes. As of November 14, 2003, the Registrant had 26,247,661 shares of its common stock, $0.001 par value, issued and outstanding.

        DOCUMENTS INCORPORATED BY REFERENCE

        The Registrant has incorporated by reference into Part III of this Form 10-K portions of its Proxy Statement for the 2004 Annual Meeting of Stockholders.

NASSDA CORPORATION

ANNUAL REPORT ON FORM 10-K

For The Fiscal Year Ended September 30, 2003

TABLE OF CONTENTS

PART I

        This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 about Nassda Corporation ("Nassda," "we," "us" or "our company"). These statements include, among other things, statements concerning our future operations, financial condition and prospects, and business strategies. The words "may," "will," "continue," "estimate," "project," "intend," "believe," "expect," "anticipate" and other similar expressions generally identify forward-looking statements. Forward-looking statements in this Form 10-K include, but are not limited to, statements regarding the following: the effectiveness and advantages of our products, our marketing and product development strategies, factors relating to demand for our products, hiring of additional personnel, the proprietary nature of our products, including infringement and enforcement of proprietary rights, competition and our ability to compete, sufficiency of our facilities and resolution of legal proceedings.

        Investors in our common stock are cautioned not to place undue reliance on forward-looking statements. Forward-looking statements are not guarantees of future performance. The forward-looking statements are subject to substantial risks and uncertainties that could cause our future business, financial condition, or results of operations to differ materially from our historical results or currently anticipated results. Investors should carefully review the information contained under the caption "Factors Affecting Future Results" contained in "Management's Discussion and Analysis of Financial Condition and Results of Operations" and elsewhere in, or incorporated by reference into, this report. All forward-looking statements are based on information available to us on the date hereof, and we assume no obligation to update forward-looking statements. These forward-looking statements are made in reliance upon the safe harbor provision of The Private Securities Litigation Reform Act of 1995.

ITEM 1.    Business

Overview

        We are a leading provider of full-chip circuit simulation and analysis software for the design and verification of complex nanometer-scale semiconductors. We believe that our initial product, HSIM, which as of April 2003 was available in Version 3.0, is the industry's first hierarchical simulator that meets the circuit verification challenges of today's integrated circuit designs, and we believe our second product, LEXSIM, is the leading electronic design automation tool able to simulate the nanometer effects of both the power network and signal interconnects for complex integrated circuits, or ICs, with millions of transistors. In December 2002, we released our third product, CRITIC, which we believe is the first electronic design automation tool able to provide accurate analysis of nanometer effects automatically on critical signal paths and clock networks for complex, high-performance digital ICs with high-end applications specific integrated circuits (ASIC) or customer-owned tooling flows. In April 2003, we released version 3.0 of HSIM with many new enhancements and a new digital co-simulation interface option. In May 2003, we also announced the limited customer release of our fourth product, HANEX, which we believe to be the first hybrid timing analysis tool to automatically identify critical paths and report timing violations, which incorporate the impact of crosstalk effects on signal delays in high-speed custom digital ICs. By enabling semiconductor designers to identify and correct nanometer design and verification problems, our software provides a number of key benefits to our customers, including an improved ability to achieve first silicon success, reduced chip production costs, accelerated time-to-market through shortened design cycles and enhanced chip performance.

        We were incorporated in California in August 1998. We reincorporated in Delaware in September 2001. Our principal executive offices are located at 2650 San Tomas Expressway, Santa Clara, California 95051. Our telephone number at that location is (408) 998-9988. Our website is www.nassda.com, which includes links to reports we have filed with or furnished to the Securities Exchange Commission, such as our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K and amendments to those reports. The contents of our website are not incorporated by reference in this Annual Report on Form 10-K.

Industry Background

        Technological advances in the semiconductor industry have stimulated strong demand for communications equipment, personal computers, wireless devices, digital consumer and other semiconductor-based products. Competition and the rapid pace of electronic innovation have also decreased the life cycles of these products, making time-to-market critical to the success of new product introductions. Electronics manufacturers have been able to offer smaller, higher performance products by using faster and more complex semiconductors. These advances have been driven in significant part by reductions in the size of semiconductor circuit elements, or feature sizes. Feature sizes have shrunk from 3.0 microns in the 1980s to 0.5 microns ten years ago and 0.09 microns, or 90 nanometers, today. Several semiconductor companies have begun their efforts of developing the technology necessary for feature sizes that are 65 nanometers and below. We believe that the proportion of chips with feature sizes at or below 0.18 microns, which we refer to as nanometer-scale semiconductors, will increase significantly in the future.

        Decreasing feature sizes have enabled the development of higher capacity and more complex memory and processor circuits, as well as systems-on-a-chip, or SoCs. SoCs combine traditionally separate microprocessor, memory and communications devices onto a single chip. Mixed-signal designs combine both analog and digital circuits. Today's SoCs typically incorporate embedded memory blocks with digital and analog circuit components. SoCs offer significant cost, power and performance advantages over systems that use discrete chips to achieve the same functionality.

Complex Nanometer-Scale Semiconductor Design Flow

        The sequence of procedures used to develop and verify integrated circuit designs is commonly referred to as the design flow. This design flow can be broadly divided into two types: a digital design flow and a custom design flow, including analog, mixed-signal and memory designs. Complex SoCs devices that incorporate multiple memory and analog components use separate design flows for the analog/mixed - signal/memory and digital portions of the design. The digital design flow is relatively straightforward and designers can use simple models of the logic gates to describe the design. Analog, mixed-signal and memory components require a more complex design flow that models the circuit at the transistor-level to account for the greater circuit sensitivity to transistor behavior and electrical effects from the interconnects, or the wires connecting individual transistors.

        As semiconductor designs continue to incorporate increasingly smaller nanometer-scale feature sizes, circuit simulation and analysis in both the digital and custom design flows become more critical to ensure that chips function as intended. In nanometer-scale semiconductors, transistors and interconnects are so densely packed that the different components of a chip may interact in unintended ways and interfere with the proper functioning of the whole chip. The pre-layout verification stage assumes that the wiring or interconnect is ideal and these effects are either ignored or estimated in the analysis. These effects can be more accurately analyzed after the design has been committed to a specific layout for a silicon chip. This is known as the post-layout stage of the design process. Most of these unintended physical and electrical interactions, or parasitic effects, are negligible at larger feature sizes and thus have traditionally been ignored in chip design. As designs become more dense, however, accurate circuit simulation and analysis of transistor behavior and parasitic effects become fundamentally important and critical to the successful design and manufacture of complex nanometer-scale semiconductors.

Challenges of Complex Nanometer-Scale Semiconductor Design and Verification

        The trends toward nanometer-scale feature sizes and the increased use of embedded memories, analog and mixed-signal components have created new challenges for detailed simulation and analysis of designs prior to manufacture. In addition, the integration of designs from third-party suppliers, known as intellectual property, or IP, cores, into SoCs dramatically increases the total transistor count, thus creating additional potential points of failure. As feature sizes decrease, the parasitic effects that occur in

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nanometer-scale analog and mixed-signal circuits make the design and analysis of these circuits increasingly more difficult than digital circuits. As a result, circuit verification of complex nanometer-scale semiconductor designs requires sophisticated simulation and analysis of the following:

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Functionality. Semiconductor designs must be verified to determine whether they meet their exact functional specifications. These simulations determine whether the chips will operate as intended under a variety of scenarios and conditions. Simulating functionality of complex nanometer-scale semiconductors overwhelms the capacity and performance of traditional simulation tools. Functional verification of mixed-signal SoC designs is even more challenging because the analog and memory portions of the circuit require a highly accurate simulator.



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Timing behavior. Electrical signals must move through a semiconductor at precise time intervals in order for the chip to function properly at the specified operating frequency. As feature sizes continue to shrink, it becomes increasingly difficult to determine the impact of parasitic effects on signal propagation timing. This makes it more difficult to determine whether the signal timing for the entire nanometer-scale semiconductor design is correct because there are numerous possible signal paths and all signals must work synchronously.



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Power behavior. Due to the demand for extended battery life of electronic products and low semiconductor packaging costs, nanometer-scale semiconductors must consume power within product specifications. Power supply current simulation, leakage current simulation and power analysis are necessary to help predict the power level for a given circuit and reduce any excessive power to ensure power consumption remains at or below the design specification.



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Electrical supply. Maintaining appropriate electrical supplies to all components of a chip is crucial for proper chip performance. As the complexity of nanometer-scale semiconductors increases, it becomes difficult to predict the impact of fluctuations in local electrical supply voltages. This problem is exacerbated when the overall supply voltage level decreases in supporting smaller feature-sized circuits. These supply voltage fluctuations can lead to circuit performance degradation or functionality failure.



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Signal integrity. Feature size reductions have decreased the distances between interconnects. These reduced distances increase the likelihood of unintended interference between signals flowing through adjacent wires. This problem is exacerbated by high speed designs and the use of mixed-signal integrated circuits in which analog components are particularly susceptible to interference from digital components. As the feature sizes decrease to 0.13 microns or lower, the nonlinear or non-digital device behavior may also cause signal integrity degradation and must be addressed.



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Nonlinear device behavior. The nonlinear device behavior at 0.13 micron process node or below is an intrinsic nature of semiconductor device physics, which can complicate circuit response assumed in large feature sized circuits. Under nanometer-scale conditions, certain presumed digital circuit operations may exhibit analog circuit behavior unexpected by the designer, which must be addressed for achieving the design success.



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Thermal effects. As currents pass through resistors in a circuit, heat is generated. In a dense circuit operating at a high clock frequency, excessive heat may raise the chip temperature and cause the circuit to function differently. Thermal effects usually cause high temperature circuit component areas (hot spots) to operate at reduced signal speeds and therefore create overall chip performance degradation and possible functional errors.



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Spectral behavior. Semiconductors for communications applications are required to operate within a limited range of the radio frequency spectrum. The verification process for chips that incorporate radio frequency components must confirm that the chips are operating within the specified spectrum to avoid unwanted signal distortion.

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        Managing the challenges associated with simulation and analysis of complex designs has emerged as a critical hurdle in the design and first silicon success of complex nanometer-scale semiconductors such as SoCs. The size and features of complex nanometer-scale semiconductors demand full-chip simulation and analysis. However, the volume of data required for the simulation of complex nanometer-scale semiconductors has in general exceeded the capacity of traditional simulation software.

        Designers using traditional simulation software must perform partial simulations by partitioning the circuit into smaller blocks and verifying them independently. Independent simulation and analysis of these blocks alone may lead to a potential for error when these independent blocks are ultimately integrated. For example, when all components are brought together, inconsistent signal exchanges among adjacent blocks, subtle timing errors or an excessive local supply voltage drop can cause a design to fail, or total power usage may exceed specified limits. If the design fails, the chip must be redesigned and remanufactured, which can be time consuming and costly. We believe that the cost for the redesign and remanufacture of a flawed semiconductor may be $1.0 million or more for a 0.18 micron semiconductor. We expect this cost to increase substantially for semiconductors with feature sizes of 0.13 microns and lower.

        In addition to the high cost to redesign and remanufacture a flawed chip, delays caused by design flaws can cause product launch postponements or cancellation, lost revenue or reduced market share, each of which can result in failure of products, divisions and even businesses. As a result, we believe that there is a significant market opportunity for a solution that enables semiconductor manufacturers to achieve first silicon success by providing rapid, accurate, full-chip circuit simulation and analysis of complex nanometer-scale semiconductor designs.

The Nassda Solution

        We provide full-chip circuit simulation and analysis software solutions for the design and verification of complex nanometer-scale semiconductor designs. Our software helps our customers reduce time-to-market and achieve first silicon success by simulating and analyzing complex chip designs rapidly and accurately. Our software assists semiconductor designers to confirm that their designs perform as intended at the pre-layout and post-layout verification stages. In particular, our software enables our customers to simulate and analyze the behavior of designs at the level of the semiconductor's smallest and most fundamental circuit structures, consisting of transistors and interconnect elements.

        Our software provides the following key benefits to our customers:

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First silicon success and reduced production cost. By enabling designers of complex chips to accurately verify their designs before the release of the design to begin manufacture of prototype semiconductors, a step in the design process known as tapeout, our software can help customers achieve first silicon success. Our customers benefit by reducing or avoiding the significant costs and delays associated with repeatedly redesigning and remanufacturing their chips.



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Accelerated time-to-market through shortened design cycles. Our software has the ability to rapidly simulate and analyze complex nanometer-scale semiconductor designs, which assists our customers in shortening their design cycles and accelerating their products' time-to-market. Time-to-market is critical to our customers' ability to remain competitive and capture market share.



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Enhanced chip performance and reliability. Our software is designed to help our customers design and produce faster, lower power and more reliable chips. Our software's capacity enables customers to simulate designs that are significantly more complex without sacrificing quality of results. We believe that by enabling customers to simulate and analyze larger, more complex designs more rapidly and accurately, our customers can develop more reliable products with higher performance and lower power consumption. Our software's rapid processing time also enables our customers to optimize their designs through additional analyses without lengthening the design cycle.

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Broad application. Designers can use our software in several stages of the semiconductor design flow. Early in the design process, our software helps designers to design and optimize circuit blocks, as well as to characterize IP cores. Later, at the post-layout stage of the design process, our software assists customers to simulate, analyze and optimize timing and power behavior to determine whether the entire chip will function correctly and meet design, power and timing specifications. Our software also is applicable to a wide range of semiconductor products ranging from analog, mixed-signal, memory, SoCs to high-speed ASIC and custom digital circuits. The capabilities provided by our software go beyond circuit simulation and include hybrid timing analysis, supply voltage fluctuation analysis and power rail and signal interconnect current density reliability analyses.



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Ease of adoption and integration. We designed our software to be easy to learn, use and integrate into a customer's existing design flow. Because our software is compatible with standard formats supported in most design environments such as SPICE, DSPF and SPEF, the integration becomes straightforward and most designers require minimal training to become proficient users.

        Key features of our software include the following:

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High capacity. Our software is designed to simulate and analyze chips of up to a billion transistors efficiently and accurately. Our software accomplishes this through our hierarchical database technology that stores repeated instances of identical subcircuits efficiently, thereby reducing memory usage substantially and increasing simulation capacity. Identical subcircuits need to be captured and maintained only once, which makes the simulation more efficient and less prone to error. As a result, our software is capable of performing simulation and analysis of significantly larger designs at the transistor-level than traditional solutions. In addition, at the post-layout stage, the number of extracted parasitic elements can be as high as tens to hundreds of millions. Our software can read in these elements in tens of gigabytes of data volume and manage to process them and create reduced equivalent network structures for final simulation and analyses. We believe that our software is the most capable in handling large post-layout circuit verification on the market today.



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Full-chip simulation capability. The capacity afforded by our hierarchical technology enables our software to simulate and analyze not just large circuit blocks but also full-chip designs rapidly. Full-chip simulation is critical in complex nanometer-scale designs because the circuit behavior of individual blocks may differ from the behavior of those blocks in a full-chip environment and it is necessary to ascertain the functionality, timing and power behavior of the chip as a whole. Only through such full-chip verification and analyses can a complex nanometer-scale silicon success be assured.



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Speed and accuracy. In addition to increased capacity, our hierarchical database and simulation algorithms also substantially reduce the computing time required for complex circuit simulation and analyses. Relative to traditional circuit simulation software, our software generates more rapid and more accurate results. Shorter turnaround time for each simulation can help reduce the design and verification cycle and allow more thorough analyses at circuit level. By analyzing the design at the transistor level, our software achieves a higher level of accuracy which gives more reliable simulation results and correlates with real silicon more closely. Applying the hybrid analysis approach, there is no need to use test vectors as in simulation and hence the overall analysis efficiency can be increased significantly.



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Digital, analog and memory circuit simulation. Our software is designed to concurrently simulate digital, analog and memory circuit components inside the entire chip. We believe this full-chip concurrent analysis capability is critical to designers who would otherwise have to use separate software to test these different circuit types separately. Independent analysis of separate blocks may not ensure that the entire design will perform as intended when the blocks are integrated. Only

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concurrent simulation and analyses can provide the final verification of all aspects of the whole circuit with various analog, digital and memory components to meet the overall product specifications.

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Timing analysis. Our software conducts timing simulations and dynamic or hybrid timing analysis at the transistor level and reports timing problems to the designers. By analyzing the design at the transistor level, our software provides accurate timing information not available in digital simulators or analyzers performing at the logic gate level. Our software can also analyze timing changes due to electrical, temperature and manufacturing variations so that designers can determine whether the design will operate properly under varied operating conditions. Among the electrical influences, cross coupling capacitors may cause serious concerns to signal delays as the feature size goes below 130 nm. Our software captures the coupling capacitance effects on delays accurately and hence provides the most reliable timing analysis results.



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Power and reliability analysis. The power analysis capabilities of our software predict the power consumption with very high accuracy in complex nanometer-scale designs. Because our software predicts power usage and localizes unintended power loss quickly and accurately, entire designs can be optimized to provide the desired performance with reduced power consumption. Our software further uses the concurrently calculated currents on power rails and signal interconnects to identify current density reliability problems in these metal-wiring structures. Such metal migration problems usually will not appear initially during early chip operations in a system and thus can be very difficult to detect. After a period of time, the conductivity of the metal interconnect becomes eroded, timing errors emerge and even wire breakdown may occur when an excessive local metal migration takes place.



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Simulation of parasitic effects. Our software is designed to simulate the physical and electrical problems, or parasitic effects, that arise in complex nanometer-scale designs without sacrificing considerable speed or accuracy. These parasitic effects, if not fully understood and analyzed, can cause silicon failures. For example, our software simulates signal integrity problems associated with interference among interconnects that may arise noticeably and obscure real signals as feature sizes are reduced. The inductor induced signal oscillations or ground voltage bouncing can introduce further signal integrity degradation. Additionally, our software is designed to accurately simulate the effects of electrical supply voltage drops on performance and handle the introduction of large amount of parasitic data without significant speed reduction as compared to traditional simulation tools.

Nassda Strategy

        Our goal is to become the leader in full-chip circuit simulation, analysis and optimization of complex nanometer-scale semiconductor designs. To achieve this goal, we have pursued and intend to continue to pursue the following strategies:

        Enhance technology leadership position.    We intend to maintain and expand our technology leadership position in the field of circuit simulation and analyses of complex nanometer-scale semiconductor designs by continuing to devote significant resources to technology development. We intend to introduce new products and options to address many other aspects of complex nanometer-scale semiconductor design, simulation, analyses and optimization. In addition, we plan to continue to expand our software's interoperability with complementary products. We also may acquire or license technologies we believe are strategic and synergistic to extend or improve our software offerings.

        Expand market for simulation products.    We intend to expand the markets we serve by enhancing our current products and developing new products to address the needs of designers of complex nanometer-scale semiconductors. We believe the capacity constraints of traditional simulation software have limited its application in the circuit design and verification process to less complex designs. We also believe that

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traditional simulation software has not been used in the post-layout stage of the design process. Through continued innovation, we intend to extend the use of circuit simulation tools into applications where they are not effectively used today, such as faster turnaround analog simulations, high performance digital circuit analyses, mixed-signal SoC circuit simulations and post-layout full-chip simulation, verification and problem analyses.

        Expand customer relationships.    End users of our products include 18 of the 20 largest semiconductor manufacturers. We believe that we have a significant opportunity to penetrate this customer base further with our current and future products, particularly in those design groups within our customers' organizations that do not currently use our software. We believe that the strategic importance of our software to our customers allows us to develop relationships with their senior design and software managers, which will help us proliferate our software throughout the organizations. We will also continue to leverage our customer relationships to gain feedback to assist us to develop new features and product capabilities for our software that meet the critical needs of our current and future customers.

        Continue to emphasize customer support.    We have built a support team with expertise in software development, semiconductor device modeling, circuit design and analyses. We believe that further growth in the size of our customer support organization will continue to facilitate our customers' design successes, build brand loyalty and strengthen our competitive advantage. Our support helps to build strong customer references that we believe help to shorten our sales cycle. We plan to continue to increase our staff of product specialists and application engineers dedicated to technical support and customer service.

        Develop strategic alliances.    We believe that forging strategic alliances with electronic design automation companies whose solutions are complementary to ours will assist us to deliver comprehensive semiconductor design solutions. We work closely with several companies through informal technology alliances and joint marketing arrangements, and we intend to continue to develop these relationships to reinforce our position in the market for complex nanometer-scale semiconductor simulation and analysis solutions. We also intend to develop additional strategic alliances to increase our market penetration.

Products

        HSIM provides full-chip circuit simulation, analysis and optimization of complex nanometer-scale semiconductors. HSIM combines the simulation of functionality, timing, power, signal integrity, spectral behavior and related parasitic effects to allow comprehensive analysis of complex circuits in many design styles. To meet our customers' varying needs, we offer HSIM in three separate configurations: HSIM-XL, HSIM-MS and HSIM-SC.

        Our HSIM-XL, the highest capacity configuration of HSIM, is designed for simulation of memories, SoCs and other large, complex designs containing 10 million transistors or more. The XL configuration of HSIM is also particularly well suited for simulation and analysis of high production volume chips where thorough verification of the design is crucial before large numbers of chips are produced. HSIM-XL's high capacity is designed to enable simulation of complex nanometer-scale chips at both the pre-layout and the more computationally intensive post-layout phases of the semiconductor design flow.

        Our HSIM-MS configuration is designed to provide high speed simulation and analysis of mixed-signal designs and other circuits containing up to 10 million transistors. Relative to traditional circuit simulators, HSIM-MS operates significantly faster and with greater accuracy for the mid-ranged circuit sizes. Like HSIM-XL, HSIM-MS can be used to simulate chips at both the pre-layout and post-layout stages of the design flow, although post-layout simulation of very complex nanometer-scale designs may require HSIM-XL or LEXSIM.

        Our HSIM-SC configuration is designed for rapid and accurate simulation of smaller analog and mixed-signal circuits of up to 100,000 transistors. HSIM-SC is used primarily during the initial design

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stages of these semiconductors or for block level design verification and optimization. It is also often used for cell library and small memory IP characterizations.

        LEXSIM employs sophisticated techniques to read in high volume post-layout parasitic data, reduce parasitic networks associated with voltage supply and ground buses as well as signal interconnects. It can also back annotate the extracted post-layout parasitics onto the pre-layout hierarchical netlist of a given design. This combination of techniques enables LEXSIM to provide the highest capacity and speed for effective post-layout simulation of large nanometer-scale ICs. In particular, LEXSIM is effective in its dynamic supply voltage drop simulation so that designers can use it to investigate the circuit performance degradation caused by such supply voltage variations. As process technology migrates to feature sizes of 0.13 microns or lower, supply voltage fluctuation problems become increasingly severe. LEXSIM's ability to predict dynamic instantaneous supply voltage drop effects on circuit behavior helps reduce silicon iterations and get semiconductor products to market sooner. The initial release of LEXSIM was targeted at full-chip post-layout verification of large IC memories and embedded memory intellectual property. Today, LEXSIM has demonstrated its ability to start handling small to medium-sized mixed-signal SoC designs.

        CRITIC is a full-chip critical timing delay calculator designed for rapid post-layout timing analysis of high-speed ASIC and cell-based digital ICs, including their associated clock networks. CRITIC complements traditional gate-level based static timing analysis verification methods with fast, accurate transistor-level analysis of timing performance of circuits based on nanometer process technologies of 0.13 microns and lower. The important cross coupling capacitance effects on delay are fully accounted in CRITIC to assure the analysis accuracy. CRITIC automates such post-layout timing delay analysis of both signal nets and clock nets with minimal designer intervention, which can help designers to ensure their final timing sign-off.

        HANEX is a circuit-level timing and crosstalk analysis tool for leading-edge custom digital designs, which include pre-charged, dynamic logic and domino logic circuit design styles. HANEX analyzes the timing of nanometer circuits and determines critical delay paths using a hybrid of dynamic and static methods that accurately capture nanometer parasitic effects on circuit signal delays and reduce the number of false paths reported. Without test vectors, HANEX can identify worst-case critical signal delay paths that limit the circuit speed performance. HANEX fills the gap between static analysis methods and the increasing requirements for more accurate timing analysis to ensure successful silicon for leading-edge high-performance nanometer designs. We believe HANEX delivers results with the accuracy of dynamic simulation and the speed and comprehensive coverage of static analysis. As a result, we believe HANEX helps custom digital IC designers gain detailed timing results with SPICE-like accuracy in hours, improved substantially from the days or weeks required by traditional simulation approaches or from the less accurate, less reliable results by pure static timing analyzers.

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Customers

        Our software has been licensed to over 200 organizations worldwide. Based upon revenues generated from inception to September 30, 2003, the following table lists our top 20 end users and what we believe to be the types of designs for which they use our software.

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        In our fiscal years ended September 30, 2001 ("fiscal 2001"), 2002 ("fiscal 2002") and 2003 ("fiscal 2003"), Marubeni Solutions, our Japanese distributor, accounted for approximately 24.1%, 19.4% and 15.5% of our total revenue, respectively. In fiscal 2003, Broadcom Corporation accounted for approximately 10.5% of our total revenue. No other customer or distributor accounted for more than 10% of our total revenue during any of these periods.

Technology

        Our software is designed to provide more accurate results, significantly higher capacity and faster speed through the following technologies:

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Hierarchical database and simulation engine.  We use a hierarchical database to store the design during simulation. Our hierarchical database technology delivers significant capacity improvements and reduces memory usage by storing repeated instances of identical subcircuits once and reusing them when required. Complex chips, particularly memory circuits, are typically created with a hierarchy in which the overall design is divided up into various subcircuits, many of which are used repeatedly within the design. When simulation and analysis are performed using traditional simulation tools, however, this hierarchy is fully expanded so that all instances of identical subcircuits are replicated and stored in memory while the simulation is running. As a result, simulation of large designs with traditional simulation tools places a significant processing burden and memory usage constraint on computing resources, particularly at the post-layout stage of design analysis. Analysis by traditional simulation tools becomes computationally infeasible when designs consist of tens of millions of transistors. To accelerate simulation performance, our software reuses simulated behavior for identical subcircuits operating under almost identical conditions during a very short period of time.



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Effective parasitic reduction.  The interconnects for nanometer-scale semiconductors need to be modeled as networks of individual elements, or parasitic elements, such as resistors, capacitors and inductors. By simulating the parasitic effects, a designer can determine how these networks are likely to interfere with the intended functionality and the timing behavior of the design. As the number of transistors in a design increases and feature size decreases, the number of parasitic elements extracted from a given layout can increase substantially. Incorporation of the parasitic element data into a simulation may require a significant amount of memory storage which can exceed the capacity of traditional simulation tools. An excessive number of parasitic elements will generally slow down the simulation speed substantially and make the turnaround time of traditional simulation tools undesirable. Our parasitic reduction technology reduces the complexity of the parasitic data and therefore reduces the storage requirement, while at the same time improving simulation performance and retaining the desired accuracy. LEXSIM provides additional reduction techniques for handling the coupling capacitors in association with signal cross-talk effects among adjacent interconnects.



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Efficient signal integrity analysis.  Our software is designed to accurately simulate noise problems caused by signal interaction among adjacent interconnects through coupling capacitors and simulate electrical supply voltage drop effects on the circuit performance. Additional inductors creating noises in the forms of circuit oscillations or ground bounces can also be simulated efficiently. Our software handles the introduction of these parasitic elements without significant speed degradation as compared to traditional simulation tools.



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Hierarchical back annotation.  LEXSIM offers a proprietary technique that annotates parasitic elements from flat extraction onto the pre-layout netlist of a design and also maintains the hierarchies in the pre-layout design. This technique enables our hierarchical simulation engine to be used for post-layout analysis without suffering from the performance degradation or circuit size

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limitation inherent in traditional solutions, and offers greater speed and capacity than HSIM for post-layout verification of the most complex semiconductor designs.

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Hybrid timing analysis technology.  To improve pure static timing analysis technology, we developed HANEX, a new hybrid timing analysis technology that combines our static timing analysis technology and dynamic simulation technology to form a new generation timing analysis technology for complex nanometer designs. The dynamic simulation technology asserts a high timing accuracy and static timing analysis technology detects worst-case timing delay paths without using any test vectors. Their combination creates a more ideal solution for analyzing timing behavior for high performance digital circuits. The algorithms that hold these two analyses together are concurrent simulation techniques, which take into account the crosstalk coupling effects on signal delays and reduce false critical paths often reported by traditional pure static timing analyzers. As process technology continues to migrate to smaller feature sizes, the accuracy of timing delay with reduced false paths will have an increasing importance in predicting the timing behavior of these designs.

Customer Service and Support

        Our software is designed to be installed quickly and used effectively by our customers, thus minimizing the level of support required. However, our customers' design activities are highly complex. We believe that high quality user service and support are critical to the success of our business. We have developed, and expect to continue to improve, our comprehensive service and support organization to manage user accounts. In fiscal 2003, we established a support office in Dallas, Texas and as of September 30, 2003 had 14 direct service and support offices worldwide. We plan to continue to expand existing and establish additional service and support sites to support customers in those markets.

        Our service and support organization assists customers with product evaluation, installation and configuration. Our service and support organization also assists customers to resolve issues that arise from their complex design tasks. We generally respond to user support requests quickly and provide supplemental software patches to address individual user design issues. Effective execution of these tasks requires highly skilled engineers familiar with our customers' design tasks and with third-party products that may be used by the designer in connection with our software. We provide our support via electronic mail, our web site, facsimile, telephone and on-site as necessary.

Sales and Marketing

        We sell our software directly through our sales force in North America and Europe and primarily indirectly through distributors in Asia. Revenue attributable to sales outside North America accounted for 51.0%, 42.0% and 39.6% of our total revenue in fiscal 2001, 2002 and 2003, respectively. While we continue to seek to diversify our user base and expand the portion of our total revenue which is derived from direct sales, we anticipate that our operating results will continue to depend, to a lesser extent, on a relatively high volume of sales through a relatively small number of international distributors and other channel partners.

Direct sales

        As of September 30, 2003, our direct sales and support staff consisted of 45 employees based in 17 sales and support offices. We have domestic direct sales and support offices in Scottsdale, Arizona; Santa Clara, California; Irvine, California; Meritt Island, Florida; Cambridge, Massachusetts; Austin and Dallas, Texas; Redbank and Allendale, New Jersey; and Brooklyn, New York. We also have direct sales and/or support offices in Vancouver, Canada; Grenoble, France; Munich, Germany; Bangalore, India; Israel; Singapore; Taipei, Taiwan; and Hatfield, England. Direct sales accounted for approximately 61.2%, 72.1% and 75.3% of our total revenue in fiscal 2001, 2002 and 2003, respectively. Our sales teams generally

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include sales managers and applications engineers for each territory. Our typical sales cycle ranges from three to six months and may be longer, particularly in today's challenging economic environment.

Indirect sales

        In addition to our direct sales strategy, we have established indirect sales channels through distributors in Asia. Currently, our software is distributed by exclusive distributors in China, Hong Kong, Korea, Japan, Malaysia and Taiwan. Our relationships with distributors play a critical role in extending our reach to more customers. Revenue from distributors was approximately 38.8%, 27.9% and 24.7% of our total revenue in fiscal 2001, 2002 and 2003 respectively. Our distributors typically perform marketing, sales and technical support functions in their country or region. We typically grant the distributor exclusive rights to sell our software in a particular country or region. Our agreements with our distributors do not obligate the distributors to purchase or sell any minimum number of licenses of our software. Most arrangements provide incentives to the distributors to provide a small number of sales and support personnel dedicated to our software, provide basic support to end users and use their best efforts to jointly promote our software in their territory. We provide product enhancements and backup support for more complex questions and issues raised by end users who purchase our software through our distributors. Most of our distributor arrangements are for a term of one year and are renewed annually upon mutual consent. Generally, either party may terminate the arrangement for a material default by the other party or by written request within a specified period prior to the end of each annual term.

        Revenue from Marubeni Solutions, our Japanese distributor, accounted for approximately 24.1%, 19.4% and 15.5% of our total revenue for fiscal 2001, 2002 and 2003, respectively. Marubeni Solutions accounted for 28.1% of our accounts receivable at September 30, 2001, 23.0% of our accounts receivable at September 30, 2002 and 18.4% of our accounts receivable at September 30, 2003. We renewed our agreement with Marubeni Solutions as of October 1, 2003 for a one-year period on substantially similar terms to our prior arrangements.

Marketing

        We focus our marketing efforts to create awareness of Nassda and our software and generate leads for our sales organization. Our strategy is to distinguish our software by its high capacity, accuracy and performance, ease-of-use and time-to-market advantages. We employ a wide variety of communication channels to inform customers and potential customers about our software. These channels include our web site, print and web advertising, public relations, live seminars, trade shows and technical publications.

Research and Development

        We believe that strong product development capabilities are essential to our strategy of enhancing our core technology, developing additional software and increasing the competitiveness of our software offerings. We have invested significant time and resources in creating a structured process for undertaking all product development projects. This process involves key functional groups within our company and is designed to provide a framework for defining and addressing the steps required to bring product concepts and development projects to market successfully. Our product development strategy emphasizes rapid innovation and product releases.

        We actively recruit engineers and software developers with expertise and degrees in computer science, semiconductor physics, electrical engineering and other engineering disciplines. As of September 30, 2003, we had 42 employees engaged in research and development activities, of whom 20 held doctorate degrees. Our research and development expenses were $5.1 million in fiscal 2001, $5.5 million in fiscal 2002 and $7.1 million in fiscal 2003.

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Proprietary Rights

        Our software relies on our internally developed intellectual property and other proprietary rights. We rely primarily on a combination of patent, copyright, trademark and trade secret laws, confidentiality procedures and contractual provisions to protect our intellectual property and other proprietary rights. However, we believe that these measures afford only limited protection. To date we have filed two patent applications, one of which was issued by the U.S. Patent and Trademark Office in June 2003. We have two registered trademarks, Nassda and HSIM, and four trademarks, CircuitCheck, CRITIC, HANEX and LEXSIM. We also generally enter into confidentiality agreements with our employees and technical consultants. Despite our efforts to protect our proprietary rights, unauthorized parties may attempt to copy aspects of our software or obtain and use information that we regard as proprietary. Policing unauthorized use of our software is difficult and we are unable to determine the extent to which piracy of our software exists. In addition, the laws of some foreign countries do not protect our proprietary rights as fully as the laws of the United States. We are not aware that our software employs technologies that infringe any proprietary rights of third parties. We expect that software developers will increasingly be subject to infringement claims as the number of products and competitors in our industry segment grows and the functionality of products in different industry segments overlaps. Except as described under the heading "Business—Litigation," we are unaware of any claims that our software violates any other party's proprietary rights.

Competition

        We compete in markets that are intensely competitive and rapidly evolving. We face competition primarily from large electronic design automation software product vendors that provide software suites to perform a variety of design functions for all types of semiconductors. We have experienced and expect to continue to experience increased competition from current and potential competitors, many of which have significantly greater financial, technical, marketing and other resources.

        Companies offering competitive products vary in scope and breadth. Our competitors include providers of general purpose semiconductor design and verification software such as Cadence Design Systems, Inc., Mentor Graphics Corporation, Synopsys, Inc. and privately held companies. In addition, our software also competes with software developed internally by design groups of semiconductor companies. While all of these organizations compete with us, some also have cooperative marketing or sales relationships with us.

        We believe that the principal competitive factors in our market include:

•

high performance and accuracy;



•

short run time;



•

ease of use;



•

depth and breadth of product features;



•

high quality user support;



•

frequency of product updates;



•

conformance to industry standards;



•

interoperability; and



•

price.

        We believe that we compete favorably on these factors. However, we expect competition in the electronic design automation software market for complex nanometer-scale semiconductors to increase significantly as new companies enter the market and current competitors expand their product lines and

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services. Many of these potential competitors are likely to enjoy substantial competitive advantages, including greater resources that can be devoted to the development, promotion and sale of their products. In addition, these potential competitors may have more established sales channels, broader product offerings, greater software development experience and/or greater name recognition.

Employees

        As of September 30, 2003, we had 100 full time employees, of whom 42 were engaged in research and development, 47 in sales, user support services and marketing, and 11 in finance, administration and operations. None of our employees is represented by a labor union. We have not experienced any work stoppages and consider our relations with our employees to be good.

Executive Officers and Key Employees

        The following table lists our executive officers and key employees and their ages as of September 30, 2003:

        Sang S. Wang has served as our Chief Executive Officer and Chairman of the board of directors since April 1999. From March 1997 to March 1998, Dr. Wang served as Senior Vice President and Co-General Manager of the EPIC Technology Group of Synopsys and as a member of the board of director of Synopsys. From September 1986 to February 1997, Dr. Wang served as Chairman and Chief Executive Officer of EPIC Design Technology, Inc., a publicly traded electronic design automation software company that was acquired by Synopsys in February 1997. Prior to co-founding EPIC Design Technology, Dr. Wang was a member of the senior technical staff and manager of computer aided design at Advanced Micro Devices. Dr. Wang also serves as a member of the board of directors of Electronic Design Automation Consortium, an industry group. Dr. Wang holds a B.S. in electrical engineering from National Taiwan University, an M.S. in physics from Ohio State University and a Ph.D. in electrical engineering from Stanford University.

        An-Chang Deng, one of our co-founders, served as our Chief Executive Officer from August 1998 to April 1999, Chief Financial Officer from August 1998 to September 2000 and President and Chief Operating Officer since August 1998. He has served on our board of directors since August 1998. From March 1997 to August 1998, Dr. Deng was Vice President of Research and Development of the EPIC Technology Group of Synopsys. From January 1992 to February 1997, Dr. Deng served as Vice President of Research and Development for EPIC Design Technology. From September 1989 to January 1992, Dr. Deng served as a developer of timing and analysis products at Cadence. From 1986 to September 1989, Dr. Deng was an assistant professor of electrical engineering at Texas A&M University. Dr. Deng holds a B.S. in electrical engineering from National Taiwan University, an M.S. in electrical engineering from the University of Notre Dame and a Ph.D. in electrical engineering and computer science from the University of California at Berkeley.

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        Tammy S. Liu has served as our Chief Financial Officer, Vice President, Finance and Administration and Secretary since September 2000. From August 1997 to August 2000, Ms. Liu was an independent financial consultant for startup companies. From March 1997 to July 1997, Ms. Liu served as Interim Acting Chief Financial Officer of Synopsys. From January 1994 through February 1997, Ms. Liu served as Chief Financial Officer and Secretary of EPIC Design Technology. From January 1990 to September 1993, Ms. Liu served as Chief Financial Officer of PiE Design Systems, Inc., a manufacturer of system level verification tools. From 1988 to December 1989, she served as Corporate Controller of Plexus Computers, Inc., a manufacturer of image processing computers. Prior to 1988, Ms. Liu served in a variety of financial management positions at Cadence and Finnigan Corporation, a manufacture of mass spectrometers. Ms. Liu holds a B.S. in accounting from Baruch College and an M.B.A. from Santa Clara University.

        John A. Yelinek has served as our Vice President, Worldwide Sales and Support since October 2002 and served as our Vice President, Sales from January 2000 to September 2002. From March 1997 to December 1999, Mr. Yelinek served as Vice President of Sales of the EPIC Technology Group of Synopsys. From November 1992 to March 1997, Mr. Yelinek served in a variety of positions with EPIC Design Technology, including Vice President, North American Sales. From 1983 to April 1992, Mr. Yelinek served in a variety of positions at Cadence, the most recent of which was Director of Integrated Circuit Sales. Mr. Yelinek holds a B.A. in biology from the University of California at San Diego.

        Walter Chan, one of our co-founders, has served as our Vice President, Software Engineering since September 2002 and Director of Software Development from August 1998 to September 2002. Mr. Chan served as a development manager of Synopsys in the EPIC Technology Group from March 1997 to August 1998. From January 1993 to March 1997, Mr. Chan served as software developer and software development manager at EPIC Design Technology. From December 1988 to January 1993, Mr. Chan served as a system software engineer at Sun Microsystems. Mr. Chan holds a B.A. in computer science from the University of California at Berkeley.

        Iouri Feinberg, one of our co-founders, has served as our Vice President, Technology Research since September 2002 and Director of Technology Research from August 1998 to September 2002. Mr. Feinberg served as an Engineer Manager of the EPIC Design Technology Group of Synopsys from March 1997 to August 1998. From May 1995 to February 1997, Mr. Feinberg served in a variety of positions with EPIC Design Technology, including Senior Developer and Staff Engineer. Prior to joining EPIC Design Technology, Mr. Feinberg was the Senior Engineer of Silvaco Data Systems, an electronic design automation company. Mr. Feinberg holds a M.S. in computer science from St. Petersburg Engineering Academy.

        Jeong-Tyng Li has served as our Vice President, Digital Product Development since April 2003, Director of Circuit Analysis Development from November 2001 to March 2003 and Architect of Physical Design and Analysis from December 2000 to October 2001. Dr. Li served as a Director of Router at Mentor Graphics from July 2000 to November 2000. Dr. Li also held a variety positions at Avant! Corporation, which was acquired by Synopsys in June 2002, from July 1995 to June 2000, including Head of Physical Synthesis. Prior to joining Avant!, from January 1990 to June 1995, Dr. Li was a co-founder and Director of Emulation Compiler of PiE Design Systems, Inc., a manufacturer of system level verification tools which later merged with Quickturn Design Systems, Inc. Dr. Li holds a B.S. in electrical engineering from National Taiwan University and a Ph.D. in electrical engineering from University of California at Berkeley.

        Andrei V. Tcherniaev, one of our co-founders, has served as our Vice President, Simulation Core Technology since September 2002 and Director of Technology Development from August 1998 to September 2002. From March 1997 to August 1998, Dr. Tcherniaev served as a project leader of the EPIC Technology Group of Synopsys. From April 1995 to March 1997, Dr. Tcherniaev served as a developer of timing simulation tools at EPIC Design Technology. From September 1991 to April 1995, Dr. Tcherniaev

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served as a developer of circuit and device simulation tools at Silvaco Data Systems. From July 1990 to August 1991, Dr. Tcherniaev served as a research scientist in Moscow Institute of Physics and Technology. Dr. Tcherniaev holds a M.S. in physics and Ph.D. in microelectronics from the Moscow Institute of Physics and Technology.

        Graham P. Bell has served as our Senior Director of Marketing since June 2003 and served as our Director of Marketing from January 2001 to May 2003. From February 1999 to December 2000, Mr. Bell served as Director of Marketing of Averant, Inc., an electronic design automation software company. From February 1998 to February 1999, Mr. Bell served as a product line manager of the EPIC Technology Group of Synopsys. From September 1996 to December 1997, Mr. Bell served as a Marketing Manager of View Logic. From June 1995 to September 1996, Mr. Bell served as a co-founder of Avista Design Systems, Inc., a design verification software company. Mr. Bell holds a B.C.S. in computer science from Carleton University, Ottawa, Canada.

ITEM 2.    Properties

        Our principal offices consist of 23,716 square feet of leased office space in Santa Clara, California which house substantially all of our research and development and a majority of our domestic sales and support services employees, as well as all marketing, administration and finance employees. We maintain leased sales or support offices, each of which is 1,600 square feet or less, in or near Scottsdale, Arizona; Irvine, California; Austin and Dallas, Texas; Cambridge, Massachusetts; Hatfield, England; Grenoble, France; Munich, Germany; and Taipei, Taiwan. We also have sales or support centers in Florida, New Jersey, and New York domestically and Canada, India, Israel and Singapore internationally. Other than the leases for our Santa Clara, California and Grenoble, France offices, none of the leases for our sales offices is of more than 12 months in duration. As we continue to grow our field sales and support offices, we may also choose to expand some of our existing sales and support offices or establish new offices during fiscal 2004.

ITEM 3.    Legal Proceedings

        Synopsys has filed claims against us in state and federal court. These claims are based on the alleged facts and circumstances relating to the departure of our five founders from their employment at Synopsys, the founding of our company and the development and sale of HSIM and our other products. Each of our founders and Dr. Sang S. Wang, our Chief Executive Officer, became an employee of Synopsys when Synopsys acquired EPIC Design Technology in February 1997. Dr. Wang resigned from Synopsys in March 1998 and served as a consultant to Synopsys until June 1998. Dr. An-Chang Deng, our President, and our four other founders resigned from Synopsys at approximately the same time in August 1998 and became employees of our company immediately thereafter. Dr. Wang became an employee of our company in April 1999. None of Drs. Wang or Deng or our four other founders was subject to a noncompetition agreement with Synopsys at any time.

        In February 2000, Synopsys filed a complaint in the Superior Court of the State of California in the County of Santa Clara (Case No. CV787950) against us and Dr. Deng, our President. The complaint alleged breach of contract, breach of fiduciary trust, diversion of corporate opportunity and constructive trust. In September 2001, Synopsys filed its second amended complaint, which added claims of inducing/aiding and abetting breach of fiduciary duty, including/aiding and abetting diversion of corporate opportunity, misappropriation of trade secrets, civil conspiracy, breach of confidence and unfair competition, and added as individual defendants Dr. Wang and our four other founders. In September 2002, Synopsys filed a supplemental second amended complaint that contained supplemental allegations but added no new claims or parties. In January 2003, the discovery referee issued orders creating rebuttable presumptions in favor of Synopsys on certain evidentiary issues to sanction us for erasure of certain computer files requested in discovery by Synopsys. These rulings mean that we must prove at trial that we did not take or use Synopsys' source code or other confidential information, rather

16

than the usual requirement that Synopsys provide such proof in the first instance. However, none of these rulings resolves any of the claims made by Synopsys in the case and the trial judge or jury can reach their own conclusions based upon the evidence presented at trial. We filed a motion for reconsideration of this order and in March 2003, the court denied our motion, concluding that it was barred on procedural grounds. In January 2003, Synopsys filed a third amended complaint, which contained supplemental allegations but added no new claims or parties. We have filed an answer denying Synopsys' allegations. In August 2003, Synopsys filed several motions for terminating sanctions against us which are scheduled for hearing in January 2004. We oppose each of these motions and intend to file oppositions within the time permitted by law. Synopsys has requested unspecified damages of at least $25 million, an injunction, a constructive trust on unspecified intellectual property belonging to us and other relief. Further, in September 2003, Synopsys notified us that it reserves the right to seek up to $80 million in punitive damages with respect to claims for which punitive damages are allowed under California Civil Code Section 3294, and up to $50 million in punitive damages with respect to the trade secret claims under California Civil Code Section 3426.3(c). This action is currently in discovery. A trial date has not yet been set.

        We believe that we have meritorious defenses to Synopsys' allegations and claims and we intend to continue to defend ourselves vigorously. However, because of the inherent uncertainty of litigation in general, and the fact that the discovery related to this litigation is ongoing, we cannot assure you that we will ultimately prevail. Should Synopsys ultimately succeed in the prosecution of its claims, we could be permanently enjoined from selling our software and deriving related maintenance revenue. In addition, we could be required to pay substantial monetary damages to Synopsys. Further, we could be enjoined preliminarily from selling our software during the course of the litigation. Litigation such as the suit Synopsys has brought against us can take years to resolve and can be expensive to defend. Although the final outcome of the litigation may not occur for some time, the parties periodically conduct evidence gathering, meet to discuss the status of the litigation and file motions and other requests for the court to act. The results of these periodic activities, particularly the court's decisions on current pending and future motions, could have the effect of determining the ultimate outcome of the litigation, either for or against us, prior to a trial on the merits, or strengthen or weaken our ability to assert claims and defenses. For example, in November 2001, the court denied a motion brought by Synopsys for injunctive relief that, if granted, could have prevented us from selling our products. If any of Synopsys' motions ultimately prevail, our ability to defend ourselves against the claims brought against us in this litigation could be severely limited. It is possible that our relationships with our customers will be seriously harmed in the future as a result of the Synopsys litigation. Accordingly, an adverse judgment, if entered in favor of any Synopsys claim, could seriously harm our business, financial position and results of operations and cause our stock price to decline substantially. In addition, the Synopsys allegations and claims, even if ultimately determined to be without merit, could be time consuming to defend, result in costly litigation, divert our management's attention and resources, cause product shipment delays or require us to enter into royalty or license agreements. These royalty or license agreements may not be available on terms acceptable to us, if at all, and the prosecution of the Synopsys allegations and claims could significantly harm our business, financial position and results of operations and cause our stock price to decline substantially.

        In May 2001, Synopsys filed a complaint in the United States District Court, Northern District of California, San Jose division (Case No. CO1-20423 PVT) against us, alleging that our HSIM software infringes U.S. Patent No. 5,878,053 entitled "Hierarchical Power Network Simulation and Analysis tool for reliability testing of Deep Submicron IC Designs" (the "053 patent"), which is purportedly assigned to Synopsys. Since the case began, Synopsys has also alleged that our subsequently released HSIM 2.0 and LEXSIM products, infringe the 053 patent. Synopsys has requested relief including damages from $4.1 million to $13.7 million and an injunction. Synopsys has also requested that any damage award be trebled for alleged willful infringement. In June 2001, we filed an answer to the complaint denying infringement of a valid, enforceable patent and asserting counterclaims. We have since amended our counterclaims. Our current counterclaims allege that, among other things, the 053 patent is invalid,

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unenforceable and not infringed and that Synopsys has violated federal antitrust and state unfair competition laws.

        From time to time, the court has ruled on summary judgment motions in the case. In May 2002, the court granted summary judgment in favor of Synopsys on our invalidity defenses and counterclaims, concluding that they were barred by the doctrine of assignor estoppel. The court denied Synopsys' motion with respect to our unenforceability defense and counterclaim. In November 2002, the court issued an order granting summary judgment in favor of Synopsys on certain antitrust counterclaims based on the doctrine of assignor estoppel. However, the court declined to rule on Synopsys' motion with respect to our other antitrust and unfair competition counterclaims. In addition, the court issued a ruling construing the claims of the 053 patent in August 2002.

        In September 2002, the U.S. Patent and Trademark Office granted our request for ex parte reexamination of the 053 patent based on prior art not previously considered by the Patent Office. We moved to stay the federal litigation pending the outcome of the reexamination and the court granted our motion in December 2002. During the reexamination of the 053 patent, the Patent Office may determine that the subject matter in the patent is patentable as originally claimed, that the subject matter is patentable if the claims are modified or that the subject matter is not patentable. We cannot predict what the result of the reexamination procedure will be or how long it will take to complete.

        Activity on several other summary judgment motions has been suspended because the court stayed the federal litigation. In November 2002, Synopsys filed three motions for summary judgment. The first motion asked the court to enter judgment before trial that Nassda's products infringe the 053 patent. The second motion asked the court to rule before trial against us on our defense that the 053 patent is unenforceable because Synopsys committed inequitable conduct in obtaining the patent. We submitted oppositions to both of these motions. Synopsys' third motion asked the court to rule before trial against us on our remaining antitrust counterclaims. Because of the court's prior rulings against us on our other antitrust counterclaims, we did not oppose this motion. In November 2002, we also filed a summary judgment motion, which asked the court to enter judgment before trial that our products do not infringe the 053 patent. Synopsys opposed this motion. The court issued its order staying the federal litigation before the parties' reply briefs were due.

        In June 2003, Synopsys filed a second complaint in the United States District Court, Northern District of California, San Francisco Division (Case No. C03-2664 RS) against us, alleging that the our products, including, but not limited to HSIM and HANEX software products, infringe Synopsys' U.S. Patent No. 6,249,898 entitled "Methods and Systems for Reliability Analysis of CMOS VLSI Circuits Based on Stage Partitioning and Node Activities" (the "898 Patent"). In July 2003, we filed an answer denying that we infringe the 898 Patent and asserting as defenses that the 898 Patent is invalid and unenforceable. We also brought a declaratory judgment counterclaim seeking judgment that the 898 Patent is not infringed by us and that the 898 Patent is invalid and unenforceable. In August 2003, Synopsys filed a motion to dismiss these defenses and counterclaims on the ground that we are barred from contesting the validity and enforceability of the 898 Patent based on the doctrine of assignor estoppel. Synopsys' motion also sought to strike our defenses of laches, patent misuse and unclean hands on the ground that we had not pleaded them with sufficient particularity. We opposed Synopsys' motions. In October 2003, the court denied Synopsys' motion to dismiss and strike the invalidity and unenforceability defenses and counterclaims and granted Synopsys' motion to strike the laches, patent misuse and unclean hands defenses with leave to amend the pleadings. The court has scheduled a case management conference for December 2003.

        We believe we have meritorious defenses to Synopsys' claims and intend to defend ourselves vigorously. However, because of the high degree of complexity of the intellectual property at issue, the inherent uncertainties of litigation in general and the preliminary nature of this litigation, we cannot assure you that we will ultimately prevail. Should Synopsys ultimately succeed in the prosecution of its claims, we could be permanently enjoined from selling our software and deriving related maintenance revenue. In

18

addition, we may be required to pay substantial monetary damages to Synopsys. Further, we could be enjoined preliminarily from selling our software during the course of the litigation. Litigation such as the suit Synopsys has brought against us can take years to resolve and can be expensive to defend. The court's decisions on current pending and future motions could have the effect of determining the ultimate outcome of the litigation prior to a trial on the merits, or strengthen or weaken our ability to assert claims and defenses. It is possible that our relationships with our customers will be seriously harmed in the future as a result of the Synopsys litigation. Accordingly, an adverse judgment, if entered on any Synopsys claim, could seriously harm our business, financial position and results of operations and cause our stock price to decline substantially. In addition, the Synopsys allegations and claims, even if ultimately determined to be without merit, could be time consuming to defend, result in costly litigation, divert our management's attention and resources, cause product shipment delays or require us to enter into royalty or license agreements. These royalty or license agreements may not be available on terms acceptable to us, if at all, and the prosecution of the Synopsys allegations and claims could significantly harm our business, financial position and results of operations and cause our stock price to decline substantially.

        On July 1, 2003, a purported derivative complaint was filed against us and our directors in the United States District Court for the Northern District of California. This complaint alleged violations of California Corporations Code Section 25402, breach of fiduciary duty, waste of corporate assets and unjust enrichment based generally on the facts and circumstances alleged in the Synopsys litigations. The complaint seeks equitable relief and an unspecified amount of damages on behalf of Nassda. The case is still in the preliminary stages, and it is not possible for us to quantify the impact, if any, on Nassda. An unfavorable outcome in this case could have a material adverse effect on our business, financial condition, results of operations and cash flow. In addition, the expense of defending any litigation may be costly and divert management's attention from the day-to-day operations of our business.

ITEM 4.    Submission of Matters to a Vote of Security Holders

        None.

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PART II

ITEM 5.    Market for Common Equity and Related Stockholder Matters

        Our common stock has been traded on the Nasdaq National Market under the symbol "NSDA" since our initial public offering in December 2001. The following table sets forth, for the periods indicated, the high and low closing prices reported on the Nasdaq National Market.

        The closing price of our common stock on the Nasdaq National Market was $8.16 on November 14, 2003. As of November 14, 2003, there were 26,247,661 shares of our common stock issued and outstanding and held by approximately 68 stockholders of record.

        The information required by this Item regarding equity compensation is incorporated by reference to the information set forth in Item 12 of this Annual Report on Form 10-K.

Dividend Policy

        We have never declared or paid cash dividends on our capital stock. We currently expect to retain future earnings, if any, for use in the operation and expansion of our business and do not anticipate paying any cash dividends in the foreseeable future.

ITEM 6.    Selected Consolidated Financial Data

        The selected consolidated financial data set forth below are qualified in their entirety by, and should be read in conjunction with, the Consolidated Financial Statements and Notes thereto and "Management's Discussion and Analysis of Financial Condition and Results of Operations" included elsewhere in this report. The results for the fiscal year ended September 30, 2003 are not necessarily indicative of the results for any future period.

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        The historical results presented below are not necessarily indicative of future results.

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ITEM 7.    Management's Discussion and Analysis of Financial Condition and Results of Operations

        This report contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements include, among other things, statements concerning our future operations, financial condition and prospects and business strategies. The words "may," "will," "continue," "estimate," "project," "intend," "believe," "expect," "anticipate," and other similar expressions generally identify forward-looking statements. Forward-looking statements in this Item 7 include, but are not limited to, statements regarding the following: impact of quarterly fluctuations of revenue, revenue from the sale of our products, including the future composition of our revenues and future revenues from international operations, future operating results, increased spending due to legal fees and the hiring of new personnel, future liquidity and capital requirements, sufficiency of cash and cash equivalents and availability of funds, effect of and exposure to foreign currency exchange rates, intellectual property rights and consequences of intellectual property disputes. In evaluating these statements, you should specifically consider various factors including those discussed in "Factors Affecting Future Results."

        Investors in our common stock are cautioned not to place undue reliance on forward-looking statements. Forward-looking statements are not guarantees of future performance. Forward-looking statements are subject to substantial risks and uncertainties that could cause our future business, financial condition or results of operations to differ materially from our historical results or currently anticipated results. Investors should carefully review the information contained under the caption "Factors Affecting Future Results" beginning on page 34 of this Management's Discussion and Analysis of Financial Condition and Results of Operations and elsewhere in or incorporated by reference into this report. The following discussion and analysis also should be read in conjunction with "Selected Consolidated Financial Data" and our Consolidated Financial Statements and Notes thereto included elsewhere in this report. All forward-looking statements included in this document are based on information available to us on the date hereof, and we assume no obligation to update any such forward-looking statements. These forward-looking statements are made in reliance upon the safe harbor provision of The Private Securities Litigation Reform Act of 1995.

Overview

        We are a leading provider of full-chip circuit simulation and analysis software for the design and verification of complex semiconductors. Our customers use our software to reduce time-to-market and achieve first silicon success by simulating complex designs rapidly and accurately. We released our first product, HSIM, in July 1999 and began recognizing revenue from HSIM in the three months ended September 30, 1999. In February 2002, with the release of HSIM 2.0, we also introduced two new options, CircuitCheck and Cadence Analog Artist Integration, which are sold as separate options. We released our second major product, LEXSIM, in May 2002, and our third product, CRITIC, in December 2002. In April 2003, we released HSIM 3.0 with a new digital co-simulation interface option, and in May 2003, we released on a limited basis our fourth product, HANEX.

Sources of Revenue

        We derive all of our revenue from software licensing and maintenance fees. To date, we have derived substantially all of this revenue from the licensing and support of HSIM. We do not expect LEXSIM, CRITIC and HANEX to account for any meaningful percent of our total revenue until the second half of fiscal 2004. Our software does not require customization and generally does not require on-site implementation services. As a result, we have not generated a significant amount of professional service or consulting revenue. We do not consider backlog to be a meaningful measure of future revenue because our customers can generally cancel orders without penalty.

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Product Revenue—Perpetual Licenses

        Historically, we have generated the majority of our total revenue from perpetual licenses. As more customers have been purchasing time-based licenses, product revenue as a percent of total revenue and in absolute dollars has decreased and accounted for only 33.6% of our total revenue in fiscal 2003 as compared to 56.3% of our total revenue in fiscal 2002. We expect that over time product revenue will continue to decrease as a percent of our total revenue. Perpetual license customers pay a one-time license fee and are entitled to use the software as long as they desire. To receive support, periodic updates and new enhancements from us, perpetual license customers must purchase maintenance contracts.

Subscription Revenue—Time-Based Licenses

        Our time-based licenses give the customer the right to use our software for a fixed period of time, typically one to three years, and include maintenance. Time-based licenses can be renewed for one or more years. At times, customers may also acquire additional licenses for a shorter term, typically multiples of one-month licenses, to be used when they reach certain stages of the design process in conjunction with their other time-based or perpetual licenses. These shorter term licenses are sold primarily to help customers with their peak usage demands. To date, revenue from these shorter term licenses has not been significant. An increasing absolute dollar amount and proportion of our total revenue is derived from time-based licenses, as more of our large customers who initially subscribe to time-based licenses renew those licenses or subscribe to additional time-based licenses. In today's challenging economic environment, some of the customers who had purchased perpetual licenses previously and new customers are also choosing to purchase time-based licenses due to their flexible licensing and payment terms and we expect this trend to continue.

Maintenance Revenue

        Our perpetual license customers typically purchase maintenance contracts and renew them annually. Customers who purchase maintenance receive support, updates and enhancements when we make them available to our general installed base. We anticipate that as an increasing proportion of our future licenses come from time-based licenses, maintenance revenue may decrease as a percent of total revenue. Maintenance revenue may also fluctuate from quarter to quarter due to the timing of annual renewals.

Deferred Revenue

        We include in deferred revenue time-based licenses and maintenance that are invoiced in advance and are either paid or due. We generally recognize deferred revenue from these sources ratably over the contract period on a straight-line basis. Deferred revenue also consists of deferred perpetual license fees for which all of the revenue recognition criteria have not been met. Deferred revenue fluctuates depending on the timing of perpetual licenses meeting all the revenue recognition criteria, as well as the number, subscription period, payment terms and timing of renewals or new purchases of time-based licenses and maintenance contracts. We classify deferred revenue expected to be recognized beyond one year from the balance sheet date as long-term deferred revenue.

Foreign Currency Transactions

        Our revenue is generally denominated in United States dollars; however, our operating expenses in international locations are denominated in local currencies. Historically, our exposure to foreign exchange fluctuations has been minimal; however, as our international sales and operations expand, we anticipate that our exposure to risks associated with foreign currency fluctuations will increase.

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Critical Accounting Policies

Revenue Recognition

        We recognize revenue in accordance with the provisions of American Institute of Certified Public Accountants Statement of Position 97-2 ("SOP 97-2"), "Software Revenue Recognition. The application of SOP 97-2 requires judgment, including whether a software arrangement includes multiple elements, and if so, whether vendor-specific objective evidence ("VSOE") of fair value exists for each of those elements. When certain elements of an arrangement are delivered at different times, the ability to identify VSOE for those undelivered elements could materially impact the amount of earned and unearned revenue.

        We recognize and report revenue in three separate categories: product revenue, subscription revenue and maintenance revenue. Product revenue is derived from perpetual license fees. Subscription revenue is derived from time-based license fees and includes maintenance during the license period. We recognize product revenue and subscription revenue when all of the following conditions are met:

•

a written purchase order, license agreement or other contract has been executed;



•

the product and the production license key have been delivered;



•

user acceptance periods, if any, have expired;



•

the license fee is fixed and determinable; and



•

collection of the fee is probable.

        VSOE exists for maintenance on perpetual licenses based on renewal rates. Our customers generally purchase the first year of maintenance when they purchase a perpetual license, so we use the residual method to determine the allocation of revenue to the license portion of multiple element arrangements involving perpetual licenses. Because we bundle both the license and maintenance into our agreements for time-based licenses for the entire term, VSOE does not exist for each element of the arrangement. Therefore, we recognize subscription revenue from time-based licenses ratably over the period of the license. Maintenance revenue is derived from the annual maintenance contracts that are purchased by perpetual licensees. We generally recognize revenue from maintenance ratably over the maintenance period, which is typically one year.

        Future changes in accounting pronouncements, including those affecting revenue recognition, could require us to change our methods of revenue recognition. These changes could cause us to defer revenue from current periods to subsequent periods or accelerate recognition of deferred revenue to current periods.

Allowance for Doubtful Accounts

        We maintain an allowance for doubtful accounts based on management's best estimate of probable losses inherent in the outstanding accounts receivable balance. Management determines the allowance based on known troubled accounts, historical experience and other currently available evidence. If the financial condition of our customers were to deteriorate, resulting in an impairment of their ability to make payments, additional allowances may be required.

Sales Commission Accrual and Expenses

        Sales commissions are earned and paid to our sales force for each order received, shipped and collected. Based on our policies, we pay a portion of the sales commissions based on both bookings and collections and the commission rate varies depending on each sales person's ability to attain his or her annual quota. Commission rates increase as the sales person achieves a certain percent of his or her annual quota. We determine an estimated average annual commission rate during the first three fiscal quarters for

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purposes of accruing commissions. We adjust the balance of the commission accrual and the actual commission expense at the end of each fiscal year based on each sales person's actual commission rates.

Contingent Liabilities

        We are subject to several legal proceedings and claims, the outcomes of which are subject to significant uncertainty. Standard Financial Accounting Standards (SFAS) No. 5, Accounting for Contingencies, requires that an estimated loss from a loss contingency should be accrued by a charge to income if it is probable that an asset has been impaired or a liability has been incurred and the amount of the loss can be reasonably evaluated, taking into account the degree of probability of an unfavorable outcome and the ability to make a reasonable estimate of the amount of loss, among other factors. Changes in these factors could materially impact our financial position or our results of operations. We regularly evaluate current information available to us to determine whether such accruals should be recorded. To date, we have not accrued any loss contingencies.

Recent Accounting Pronouncements

        In October 2001, the Financial Accounting Standards Board (FASB) issued SFAS No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, which addresses financial accounting and reporting for the impairment or disposal of long-lived assets. SFAS No. 144 supersedes SFAS No. 121, Accounting for the Impairment of Long-Lived Assets and for Assets to Be Disposed of. We adopted SFAS No. 144 for fiscal 2003 beginning October 1, 2002. The adoption of SFAS No. 144 had no impact on our financial position, results of operations or cash flows.

        In December 2002, the FASB issued SFAS No. 148, Accounting for Stock-Based Compensation—Transition and Disclosure. SFAS No. 148 amends SFAS No. 123, Accounting for Stock-Based Compensation, to provide alternative methods of transition for a voluntary change to the fair value based method of accounting for stock-based employee compensation. In addition, SFAS No. 148 amends the disclosure requirements of SFAS No. 123 to require prominent disclosures in both annual and interim financial statements about the method of accounting for stock-based employee compensation and the effect of the method used on reported results. SFAS No. 148 is effective for fiscal years ending after December 15, 2002. We adopted the disclosure provisions of SFAS No. 148 for the quarterly period beginning on January 1, 2003. We do not expect to change to the fair value based method of accounting for stock-based employee compensation; therefore, the adoption of SFAS No. 148 had no impact on our financial position, results of operation or cash flows.

        In January 2003, the FASB issued FASB Interpretation 46 ("FIN 46"), Consolidation of Variable Interest Entities. FIN 46 clarifies the application of Accounting Research Bulletin 51, Consolidated Financial Statements, for certain entities that do not have sufficient equity at risk to finance their activities without additional subordinated financial support from other parties or in which equity investors do not have the characteristics of a controlling financial interest ("variable interest entities"). Variable interest entities within the scope of FIN 46 will be required to be consolidated by their primary beneficiary. The primary beneficiary of a variable interest entity is determined to be the party that absorbs a majority of the entity's expected losses, receives a majority of its expected returns, or both. FIN 46 applies immediately to variable interest entities created after January 31, 2003, and to variable interest entities in which an enterprise obtains an interest after that date. It applies in the first fiscal year or interim period beginning after December 15, 2003 to variable interest entities in which an enterprise holds a variable interest that it acquired before February 1, 2003. We are in the process of determining what impact, if any, the adoption of the provisions of FIN 46 will have upon our financial condition or results of operations. However, we do not expect that FIN 46 will have a material impact on our financial condition or results of operations.

        In April 2003, the FASB issued SFAS No. 149, Amendment of Statement 133 on Derivative Instruments and Hedging Activities. SFAS No. 149 amends and clarifies financial accounting and reporting for derivative

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instruments, including certain derivative instruments embedded in other contracts, and for hedging activities under SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. SFAS No. 149 amends SFAS No. 133 for decisions made as part of the Derivatives Implementation Group process and in connection with implementation issues raised in relation to the application of the definition of a derivative. SFAS 149 is effective for contracts entered into or modified after June 30, 2003. The adoption of SFAS No. 149 had no impact on our financial position or results of operations.

        In May 2003, the FASB issued SFAS No. 150, Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity, which requires that certain financial instruments be presented as liabilities that were previously presented as equity or as temporary equity. Such instruments include mandatory redeemable preferred and common stock, and certain options and warrants. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003 and is generally effective at the beginning of the first interim period beginning after June 15, 2003. The adoption of SFAS No. 150 had no impact on our financial position or results of operations.

Results of Operations

        The following table sets forth the results of our operations expressed as a percent of total revenue. Our historical operating results are not necessarily indicative of the results for any future period.

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Fiscal Years Ended September 30, 2002 and 2003

Revenue

        Total Revenue.    Total revenue consists of product, subscription and maintenance revenue. Total revenue increased by 3.4%, or $1.2 million, from $33.9 million in fiscal 2002 to $35.1 million in fiscal 2003. The increase was primarily attributable to an increase in our end user base resulting in substantial growth in subscription and maintenance revenue, partially offset by decreases in perpetual license sales.

        Revenue from sales outside of North America accounted for 42.0% and 39.6% of total revenue for fiscal 2002 and 2003, respectively. The percent of total revenue from outside of North America decreased due to domestic revenue growing at a faster rate than revenue from outside of North America. Revenue from Japan was 19.4% and 15.5% of our total revenue in fiscal 2002 and 2003, respectively. No other country outside North America accounted for more than 10% of our total revenue in either period. We expect that revenue from sales outside of North America will continue to account for a significant portion of our total revenue in the future.

        Marubeni Solutions, our exclusive distributor for Japan, accounted for approximately 19.4% and 15.5% of our total revenue for fiscal 2002 and 2003, respectively. Broadcom Corporation accounted for approximately 10.5% of our total revenue for fiscal 2003. No other customer or distributor accounted for more than 10% of our total revenue during either period.

        Deferred revenue includes perpetual license fees for which all of the revenue recognition criteria has not been met, time-based license fees that have been invoiced and are due or collected for which we recognize revenue ratably over the term of the license period, and maintenance fees on perpetual licenses for which we also recognize revenue ratably over the term of the maintenance period. Our total deferred revenue increased from $6.1 million as of September 30, 2002 to $9.8 million as of September 30, 2003. The increase in deferred revenue was primarily due to increases in both deferred time-based license revenue and deferred maintenance revenue from new purchases and renewals of time-based licenses and maintenance for perpetual licenses. We expect deferred revenue to fluctuate from quarter to quarter depending on the number of additional time-based license purchases, the timing of renewals of time-based licenses and maintenance and their respective payment terms. Additionally, deferred revenue may not increase if more customers prefer quarterly payments for time-based licenses and maintenance.

        Product Revenue.    Product revenue decreased by 38.2%, or $7.3 million, from $19.1 million for fiscal 2002 to $11.8 million for fiscal 2003. The decrease was primarily due to more customers, particularly major accounts, purchasing time-based licenses as compared to perpetual licenses and lower customer demand due to tighter budgets in a prolonged economic downturn. As a percent of total revenue, product revenue decreased from 56.3% for fiscal 2002 to 33.6% for fiscal 2003.

        Subscription Revenue.    Subscription revenue increased by 52.3%, or $5.0 million, from $9.6 million for fiscal 2002 to $14.6 million for fiscal 2003. The increase was primarily due to new customers purchasing time-based licenses, as well as existing customers purchasing additional time-based licenses and renewing their expired time-based licenses. As a percent of total revenue, subscription revenue rose from 28.3% for fiscal 2002 to 41.7% for fiscal 2003. We expect time-based licenses to account for an increasing percent of total revenue in the future.

        Maintenance Revenue.    Maintenance revenue increased by 65.9%, or $3.5 million, from $5.2 million for fiscal 2002 to $8.7 million for fiscal 2003. The increase in maintenance revenue was due to the increase in the number of perpetual licenses in our installed base. As a percent of total revenue, maintenance revenue increased from 15.4% for fiscal 2002 to 24.7% for fiscal 2003. We expect maintenance revenue to vary as a percent of total revenue based on the growth rate of product revenue relative to subscription revenue and the number of customers renewing annual maintenance. If maintenance revenue increases as

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a percent of total revenue, our gross profit as a percent of total revenue, or gross margin, may decrease because of lower margins on maintenance revenue due to incremental maintenance support costs.

Cost of Revenue

        Cost of Product Revenue.    Cost of product revenue consists primarily of royalties due from us to third-parties under original equipment manufacturer arrangements. We incur only minimal costs to deliver our software as the product and documentation are primarily sent electronically. Our cost of product revenue decreased by 6.9%, or $18,000, from $259,000 for fiscal 2002 to $241,000 for fiscal 2003 due to a decrease in the sublicensing of third-party products. As a percent of total revenue, the cost of product revenue decreased from 0.8% for fiscal 2002 to 0.7% for fiscal 2003. We expect the cost of product revenue as a percent of total revenue to vary in the future based on the level of sales of third-party products.

        Cost of Subscription Revenue.    Cost of subscription revenue consists primarily of personnel and allocated overhead expenses for support of time-based licenses. Our cost of subscription revenue increased by 24.3%, or $67,000, from $276,000 for fiscal 2002 to $343,000 for fiscal 2003. The increase in cost of subscription revenue was primarily due to the increase in personnel and other costs associated with the support of a larger number of time-based licenses. As a percent of total revenue, the cost of subscription revenue increased from 0.8% in fiscal 2002 to 1.0% for fiscal 2003. We expect the absolute dollar amount of the cost of subscription revenue to increase over the next 12 months as we continue to increase our support organization to accommodate an increasing installed base of time-based licenses.

        Cost of Maintenance Revenue.    Cost of maintenance revenue consists primarily of personnel and other expenses related to providing maintenance support to our customers who purchase perpetual licenses. Our cost of maintenance revenue increased by 17.1%, or $117,000, from $685,000 for fiscal 2002 to $802,000 for fiscal 2003. The increase in cost of maintenance revenue was primarily due to increased hiring of dedicated support personnel to provide support to a growing installed user base. As a percent of total revenue, the cost of maintenance revenue increased from 2.0% for fiscal 2002 to 2.3% for fiscal 2003. We expect that the absolute dollar amount of cost of maintenance revenue will grow in the next 12 months as we continue to increase support for our growing base of domestic and international customers.

Operating Expenses

        We anticipate that our operating expenses will continue to increase in the future as we fund more research and development projects, increase our sales and marketing operations both domestically and internationally, develop new sales channels, broaden our technical support and improve our operational and financial systems. Our increased operating expenses will result primarily from higher headcount in all areas, and we expect our headcount to double over the next 18 to 24 months. In fiscal 2002 and fiscal 2003, legal fees and other expenses related to our litigation with Synopsys were $5.6 million and $7.8 million, respectively. We also expect the cost of the Synopsys litigation to increase as we continue to defend ourselves vigorously and the lawsuits move toward trial. Additionally, we also expect costs related to being a public company, such as directors' and officers' liabilities insurance, professional fees and various filing fees to increase our general and administrative expenses. We believe that our operating expenses will continue to grow in absolute dollars in future periods although the rate of growth in expenses from period to period may vary. We expect, however, that as a percent of revenue, operating expenses will not decline significantly, if at all. We will need to generate significant revenue in the future to maintain profitability.

        To increase market share in international locations and better serve our customers, we plan to further expand our international operations. As a result of these investments in our international operations, we may experience an increase in cost of sales and other operating expenses disproportionate to revenue from those operations. For example, during fiscal 2003, we opened a support office in Bangalore, India.

        In fiscal 2003, we accrued bonuses of an aggregate of $900,000 earned by our employees for their services in fiscal 2003. These bonuses will be paid in December 2003. In fiscal 2002, we accrued bonuses of

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an aggregate of $760,000 earned by our employees for their services in fiscal 2002 to be paid on specified schedules. In addition, our executive officers orally agreed that they would not receive their base salaries in fiscal 2002 and fiscal 2003. In October 2003, our compensation committee of our board of directors reinstated the salaries of our executive officers and we expect to pay base salaries of approximately $691,000 to these officers in fiscal 2004. As a result of our significant bonus accruals and the foregone salaries in fiscal 2002 and fiscal 2003, our compensation expense in fiscal 2004 may not be consistent with compensation expense in fiscal 2002 or fiscal 2003 or indicative of future periods.

        Research and Development.    Research and development expenses consist of engineering costs to develop new products, such as LEXSIM, CRITIC and HANEX, enhance existing products, such as the release of HSIM 3.0 in April 2003, and perform quality assurance activities. Our research and development expenses increased by 30.4%, or $1.6 million, from $5.5 million for fiscal 2002 to $7.1 million for fiscal 2003. The increase in research and development expenses was primarily due to the hiring of additional research and development personnel and increases in bonuses. Research and development headcount increased from 30 at September 30, 2001 to 39 at September 30, 2002 and to 42 at September 30, 2003. As a percent of total revenue, research and development expenses increased from 16.2% in fiscal 2002 to 20.4% in fiscal 2003. To maintain our competitive position and continue to deliver new technologies that solve our customers' nanometer design challenges, we anticipate that research and development expenses will continue to increase in absolute dollars as we invest in additional resources in existing and future products.

        Sales and Marketing.    Sales and marketing expenses consist primarily of salaries, commissions, travel, promotional and advertising costs. Our sales and marketing expenses increased by 14.8%, or $1.4 million, from $9.4 million for fiscal 2002 to $10.8 million for fiscal 2003. The absolute dollar increases in sales and marketing expenses were primarily due to the hiring of additional sales, application engineering and marketing personnel, the total number of whom increased from 27 at September 30, 2001 to 46 at September 30, 2002 and to 47 at September 30, 2003. As a percent of total revenue, sales and marketing expenses increased from 27.7% in fiscal 2002 to 30.7% in fiscal 2003. We expect that sales and marketing expenses will continue to increase in absolute dollars in future periods as we further expand our global sales and support organization.

        General and Administrative.    General and administrative expenses represent corporate, finance, human resource, administrative, legal and consulting expenses. Our general and administrative expenses increased by 37.1%, or $2.9 million, from $7.8 million for fiscal 2002 to $10.7 million for fiscal 2003. As a percent of total revenue, general and administrative expenses increased from 22.9% for fiscal 2002 to 30.4% for fiscal 2003. The increase in general and administrative expenses was primarily due to legal fees and costs related to being a public company. As a percent of total revenue, legal fees increased from 17.0% for fiscal 2002 to 23.4% for fiscal 2003 primarily due to increased litigation related costs as we continued to defend ourselves vigorously against the lawsuits brought against us by Synopsys. General and administrative headcount increased from 10 at September 30, 2002 to 11 at September 30, 2003. We expect that general and administrative expenses will continue to increase in absolute dollars to support the growth of our future operations, as well as from increased legal fees, directors and officers liability insurance and the costs of public company compliance reporting.

        Stock-Based Compensation.    We did not record any deferred stock-based compensation in fiscal 2002 or fiscal 2003. We have been amortizing stock-based compensation recorded previously over the vesting period of the related options, which is generally four years. We amortized $1.0 million and $955,000 of stock-based compensation in fiscal 2002 and fiscal 2003, respectively. We expect aggregate stock-based compensation expense of approximately $842,000 during fiscal 2004 and approximately $275,000 during fiscal 2005.

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        Stock-based compensation expense decreased by 5.0%, or $50,000, from $1.0 million for fiscal 2002 to $955,000 for fiscal 2003. As a percent of total revenue, stock-based compensation expense decreased slightly from 3.0% for fiscal 2002 to 2.7% for fiscal 2003.

Interest Income

        Interest income increased by 3.9%, or $37,000, from $949,000 for fiscal 2002 to $986,000 for fiscal 2003. Due to profitability and positive cash flow, our cash and investment balances increased in fiscal 2003, which resulted in increased interest income despite lower interest rates. As a percent of total revenue, interest income stayed flat at 2.8% of total revenue for fiscal 2002 and fiscal 2003.

Other Income (Expense), Net

        Our other income (expense), net remained relatively unchanged and was insignificant for fiscal 2002 and fiscal 2003.

Income Taxes

        The provision for income taxes as a percent of income before taxes was 35.9% and 30.0% for fiscal 2002 and fiscal 2003, respectively. The decrease in the effective tax rate from the prior year was primarily due to the reduction of state income taxes as a result of increases in tax credits.

Fiscal Years Ended September 30, 2001 and 2002

Revenue

        Total Revenue.    Total revenue increased $12.0 million, from $21.9 million for fiscal 2001 to $33.9 million for fiscal 2002. This increase was attributable to an increase in our end user base resulting in substantial growth in product, subscription and maintenance revenue, as well as additional sales to our existing end users.

        Revenue from sales outside of North America accounted for 51.0% and 42.0% of total revenue for fiscal 2001 and fiscal 2002, respectively. The percent of total revenue from outside of North America decreased due to domestic revenue growing at a faster rate than revenue from outside of North America primarily because of increased sales to more domestic major customers. Revenue from Japan was 24.1% and 19.4% of total revenue in fiscal 2001 and fiscal 2002, respectively. No other country outside North America accounted for more than 10% of our total revenue in either period.

        Marubeni Solutions accounted for approximately 24.1% and 19.4% of our total revenue for fiscal 2001 and 2002, respectively. No other customer or distributor accounted for more than 10% of our total revenue during either period.

        Deferred revenue increased from $4.5 million as of September 30, 2001 to $6.1 million as of September 30, 2002. This increase in deferred revenue was attributable to an increase in deferred time-based license revenue and deferred maintenance revenue from new purchases and renewals of maintenance for perpetual licenses.

        Product Revenue.    Product revenue increased by $3.9 million, from $15.2 million for fiscal 2001 to $19.1 million for fiscal 2002. As a percent of total revenue, product revenue decreased from 69.0% for fiscal 2001 to 56.3% for fiscal 2002, as the growth rate in sales of perpetual licenses was outpaced by growth in time-based licenses.

        Subscription Revenue.    Subscription revenue increased by $5.6 million, from $4.0 million for fiscal 2001 to $9.6 million for fiscal 2002. This increase was primarily due to new customers purchasing time-based licenses, as well as existing customers purchasing additional time-based licenses. As a percent of total revenue, subscription revenue rose from 18.3% for fiscal 2001 to 28.3% for fiscal 2002.

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        Maintenance Revenue.    Maintenance revenue increased by $2.4 million, from $2.8 million for fiscal 2001 to $5.2 million for fiscal 2002. The increase in maintenance revenue was due to the increase in the number of perpetual licenses in our installed base. As a percent of total revenue, maintenance revenue increased from 12.7% for fiscal 2001 to 15.4% for fiscal 2002.

Cost of Revenue

        Cost of Product Revenue.    Cost of product revenue decreased by $49,000, from $308,000 for fiscal 2001 to $259,000 for fiscal 2002. As a percent of total revenue, the cost of product revenue decreased from 1.4% for fiscal 2001 to 0.8% for fiscal 2002. The decrease in the cost of product revenue was primarily due to a decrease in third-parties royalties from lower sales of third-party products.

        Cost of Subscription Revenue.    Cost of subscription revenue increased by $155,000, from $121,000 for fiscal 2001 to $276,000 for fiscal 2002. The increase in cost of subscription revenue was primarily due to increased personnel and other costs associated with the support of a larger number of time-based licenses. As a percent of total revenue, the cost of subscription revenue increased from 0.5% for fiscal 2001 to 0.8% for fiscal 2002.

        Cost of Maintenance Revenue.    Cost of maintenance revenue increased by $273,000, from $412,000 for fiscal 2001 to $685,000 for fiscal 2002. The increase in cost of maintenance revenue was primarily due to the increased hiring of dedicated support personnel to provide support to a growing installed user base. As a percent of total revenue, the cost of maintenance revenue increased slightly from 1.9% for fiscal 2001 to 2.0% for fiscal 2002.

Operating Expenses

        Research and Development.    Research and development expenses increased by $371,000, from $5.1 million for fiscal 2001 to $5.5 million for fiscal 2002. The increase in research and development expenses in absolute dollars was primarily due to the hiring of additional research and development personnel, partially offset by the decrease in bonuses. As a percent of total revenue, research and development expenses decreased from 23.3% in fiscal 2001 to 16.2% in fiscal 2002.

        Sales and Marketing.    Sales and marketing expenses increased by $2.3 million, from $7.1 million for fiscal 2001 to $9.4 million for fiscal 2002. The absolute dollar increase in sales and marketing expenses was primarily due to the hiring of additional sales, support and marketing personnel and, to a lesser extent, increased trade show and other marketing activities and the expansion of our sales offices. As a percent of total revenue, sales and marketing expenses decreased from 32.5% in fiscal 2001 to 27.7% in fiscal 2002.

        General and Administrative.    General and administrative expenses increased by $4.4 million, from $3.4 million for fiscal 2001 to $7.8 million for fiscal 2002. As a percent of total revenue, general and administrative expenses increased from 15.3% for fiscal 2001 to 22.9% for fiscal 2002. The increase in general and administrative expenses was primarily due to legal fees, the hiring of additional finance and operations personnel and costs related to being a public company. As a percent of total revenue, legal fees increased from 4.9% during fiscal 2001 to 17.0% during fiscal 2002 primarily due to increased litigation related costs.

        Stock-Based Compensation.    We recorded deferred stock-based compensation of $2.5 million in connection with stock option grants in fiscal 2001. We amortized $2.4 million and $1.0 million of stock-based compensation in fiscal 2001 and fiscal 2002, respectively. As a percent of total revenue, stock-based compensation expense decreased from 10.8% for fiscal 2001 to 3.0% for fiscal 2002. Stock-based compensation expense decreased due to the one-time charge resulting from the acceleration of certain non-qualified stock options in fiscal 2001.

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Interest Income

        Interest income increased by $534,000, from $415,000 for fiscal 2001 to $949,000 for fiscal 2002. Due to net proceeds from our initial public offering and increasing profitability and cash flow, cash and investment balances increased in fiscal 2002, which resulted in increased interest income despite lower interest rates. As a percent of total revenue, interest income increased from 1.9% for fiscal 2001 to 2.8% for fiscal 2002.

Other Income (Expense), Net

        Our other income (expense), net remained relatively unchanged and was immaterial for fiscal 2001 and fiscal 2002.

Income Taxes

        The provision for income taxes as a percent of income before taxes was 41.0% for fiscal 2001 and 35.9% for fiscal 2002. The decrease in the effective tax rate from the prior year was primarily due to the reduction of amortization of stock-based compensation as a percent of income before taxes.

Liquidity and Capital Resources

        From inception through fiscal 2003, we have financed our operations primarily through public offerings of our common stock, the sale of common stock to employees and cash from net income. Total net proceeds of our December 2001 initial public offering after deducting underwriting discounts and offering expenses, including the exercise of the over-allotment option, were approximately $57.2 million.

        As of September 30, 2003, we had cash, cash equivalents and short-term investments of $92.2 million, an increase of $13.7 million from $78.5 million as of September 30, 2002, and working capital of $80.7 million, an increase of $9.1 million from $71.6 million as of September 30, 2002.

        Average days sales outstanding increased from 24 days as of September 30, 2001 to 38 days as of September 30, 2002 and decreased to 20 days as of September 30, 2003. The increase in average days sales outstanding in fiscal 2002 was due to increased sales and revenue being invoiced more unevenly during the fourth quarter. The decrease in days sales outstanding in fiscal 2003 was due to a majority of our total revenue in the fourth quarter of fiscal 2003 being either derived from deferred revenue or backlog that was invoiced early in the quarter, which left little uncollected as of September 30, 2003.

        Net cash provided by operating activities was $8.4 million, $9.0 million and $11.8 million for fiscal 2001, fiscal 2002 and fiscal 2003, respectively. Net cash provided by operating activities for fiscal 2001, fiscal 2002 and fiscal 2003 resulted primarily from net income and increases in accrued liabilities and deferred revenue. In addition, in fiscal 2002, an increase in accounts receivable and a decrease in long-term liabilities partially offset the increase in net cash provided by operating activities. In fiscal 2003, a decrease in accounts receivable also resulted in additional increase in net cash provided by operating activities.

        Net cash used in investing activities was $7.4 million, $29.1 million and $4.2 million for fiscal 2001, fiscal 2002 and fiscal 2003, respectively. In these periods, the net cash used primarily related to the purchase of investment securities with maturities of 91 days to one year and purchases of property and equipment.

        Capital expenditures were approximately $904,000, $331,000 and $482,000 for fiscal 2001, fiscal 2002 and fiscal 2003, respectively. Our capital expenditures consisted of purchases of computer equipment, software and office furniture and fixtures.

        Net cash provided by financing activities was $221,000, $57.5 million and $2.4 million for fiscal 2001, fiscal 2002 and fiscal 2003, respectively. For fiscal 2001, net cash provided by financing activities was primarily from proceeds from the exercise of employee stock options. For fiscal 2002, net cash provided by

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financing activities was primarily due to the net proceeds from the sale of 5.75 million shares of common stock in our initial public offering. For fiscal 2003, net cash provided by financing activities was primarily due to the net proceeds from stock option exercises and employee stock plan purchases.

        As of September 30, 2003, we had no borrowings, lines of credit, outstanding equipment leases or lease lines.

        We intend to continue to invest heavily in the development of new products and enhancements to existing products. We also intend to increase our sales and marketing operations. Our future liquidity and capital requirements will depend on numerous factors, including:

•

the amount and timing of orders and their respective payment terms;



•

the extent to which our existing and new products gain market acceptance;



•

the extent to which customers continue to renew annual time-based licenses and maintenance;



•

the cost and timing of expansion of product research and development efforts, including such efforts outside North America, and the success of these development efforts;



•

the cost and timing of expansion of sales and marketing activities, including such activities outside North America;



•

the cost of litigation and damages when and if awarded; and



•

available borrowings under future credit arrangements, if any.

        We believe that our current cash and investment balances and any cash generated from operations, will be sufficient to meet our operating and capital requirements for at least the next 12 months. However, it is possible that we may require additional financing within this period. We have no current plans, and we are not currently negotiating to obtain additional financing. The factors described above will affect our future capital requirements and the adequacy of our available funds. In addition, even if we raise sufficient funds to meet our anticipated cash needs during the next 12 months, we may need to raise additional funds beyond this time. We may be required to raise those funds through public or private financings, strategic relationships or other arrangements. We cannot assure you that such funding, if needed, will be available on terms attractive to us, or at all. Furthermore, any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. If we fail to raise capital as and when needed, our failure could have a negative impact on our ability to pursue our business strategy and maintain profitability.

Stock Repurchase Program

        In October 2002, our Board of Directors authorized a stock repurchase program of up to $5.0 million of our common stock over a 12 month period, which our Board extended for another 12 month period in October 2003. Shares will be repurchased in the open market at times and prices we consider appropriate. The timing of purchases and the exact number of shares to be purchased will depend on market conditions. Common shares reacquired are intended to be used for general corporate purposes. As of the date we filed this Annual Report on Form 10-K with the SEC, we had not repurchased any shares under this program.

Contractual Obligations

        We lease our facilities under various noncancelable operating leases. In December 2002, we entered into a three-year operating lease for our headquarters located in Santa Clara, California, which began in February 2003. These noncancelable operating leases began expiring in October 2003. Rent expense was

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$365,000 in fiscal 2001, $600,000 in fiscal 2002 and $784,000 in fiscal 2003. As of September 30, 2003, the aggregate future noncancelable minimum rentals or operating leases are as follows (in thousands):

Factors Affecting Future Results

We have relied and expect to continue to rely on HSIM for a substantial majority of our revenue, and a decline in sales of licenses for HSIM could cause our revenue to decline.

        Historically, we have derived substantially all of our revenue from HSIM. We believe HSIM is the first hierarchical simulator that meets the circuit verification challenges of complex nanometer semiconductors. We expect that the revenue from this product will continue to account for substantially all of our revenue for at least the next six months. The electronic design automation software market, including the market for hierarchical simulator software, is characterized by rapid technological change, frequent new product introductions, uncertain product life cycles and evolving industry standards. If our competitors introduce new products and/or offer aggressive pricing that compete with HSIM, our revenue could decline materially and our results of operations could be harmed. For instance, in fiscal 2003, certain competitors were offering extremely competitive prices either by substantial discounting or bundling their products which resulted in a longer sales cycle for HSIM or delays by prospective customers in making their purchasing decisions. Since we expect HSIM to continue to account for substantially all of our revenue until at least the second half of fiscal 2004, any factors adversely affecting the pricing of our licenses of or demand for HSIM, including competition or technological change, could cause our revenue to decline materially and our business to suffer.

Our revenue would decline substantially if our existing customers do not purchase additional licenses or renew existing time-based licenses and maintenance from us.

        We rely on additional perpetual and time-based license revenue from our existing customers, as well as annual maintenance renewals for our perpetual licenses and renewals of our time-based licenses when they expire. Even if we are successful in generating revenue from our software to new customers, if our existing customers do not purchase additional licenses of our software or renew their expired time-based licenses or annual maintenance for perpetual licenses, we would experience a decline in revenue. In fiscal 2003, our revenue from perpetual licenses decreased as a result of more customers' preference to purchase time-based licenses and lower demand due to much tighter budgets. Revenue from time-based licenses and maintenance has increased steadily over the last 12 months and we expect it to continue to increase. For instance, in fiscal 2003, 66.4% of our total revenue was derived from time-based licenses and maintenance as compared to 43.7% for fiscal 2002. As more of our revenue is attributable to time-based licenses, our revenue could decline materially if our customers do not renew their existing time-based licenses or purchase additional time-based licenses.

If semiconductor design and manufacturing companies continue to experience recession or other conditions which impact their operating budgets, they may delay or cancel purchases of our software, which would reduce our revenues and cause our business to suffer.

        The primary customers for our software are semiconductor design and manufacturing companies. Any significant downturn in our customers' markets, or domestic and global conditions, which result in the reduction of research and development budgets or the delay of software purchases, would likely result in a decline in demand for our software and services and could harm our business. Since early 2000, the

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semiconductor industry has experienced a substantial decline in order volume and revenue and that downturn has continued. This could result in our customers delaying or canceling the purchase of our software. Any of these occurrences could have a significant impact on our operating results, revenues and costs and may cause the market price of our common stock to decline or become more volatile. For example, we experienced a substantial change in customers' purchasing behavior during the three months ended March 31, 2003 due to the prolonged economic downturn and concerns for their own financial stability. Consequently, as a cost-cutting measure, customers either suspended or reduced their capital budgets dramatically, which adversely affected our revenue. In addition, we were unable to meet revenue and earnings expectations for the quarter ended March 31, 2003 and had to lower our revenue and earnings guidance for the quarter ended June 30, 2003 and fiscal 2003. As a result, the market price of our common stock was negatively impacted.

        In addition, the markets for semiconductor products are cyclical. For example, in recent years certain Asian countries have experienced significant economic difficulties, including currency devaluation and instability, business failures and a depressed business environment. More recently, certain Asian countries have also experience difficulties from concerns about and the impact of closures due to SARS. These difficulties have triggered a significant downturn in the semiconductor market, resulting in reduced budgets for semiconductor design tools which, in turn, has negatively impacted us. We cannot predict what impact the recent prolonged economic slowdown and in particular, the semiconductor industry, will have on our business, but it may result in fewer purchases of licenses of our software, substitution to our lower priced configurations by customers who previously licensed our higher priced configurations or nonrenewal of time-based licenses or maintenance. If the current economic slowdown continues, we may not meet our revenue expectations for upcoming quarters and fiscal 2004.

We are currently a defendant in three lawsuits brought by Synopsys. The prosecution of these lawsuits could have a substantial negative impact on our business. Should Synopsys prevail, we may be required to pay substantial monetary damages or be prevented from selling our software.

        Synopsys has filed claims against us in state and federal court. These claims are based on the alleged facts and circumstances relating to the departure of our five founders from their employment at Synopsys, the founding of our company and the development and sale of HSIM and our other products. Each of our founders and Dr. Sang S. Wang, our Chief Executive Officer, became an employee of Synopsys when Synopsys acquired EPIC Design Technology in February 1997. Dr. Wang resigned from Synopsys in March 1998 and served as a consultant to Synopsys until June 1998. Dr. An-Chang Deng, our President, and our four other founders resigned from Synopsys at approximately the same time in August 1998 and became employees of our company immediately thereafter. Dr. Wang became an employee of our company in April 1999. None of Drs. Wang or Deng or our four other founders was subject to a noncompetition agreement with Synopsys at any time.

        In February 2000, Synopsys filed a complaint in the Superior Court of the State of California in the County of Santa Clara (Case No. CV787950) against us and Dr. Deng, our President. The complaint alleged breach of contract, breach of fiduciary trust, diversion of corporate opportunity and constructive trust. In September 2001, Synopsys filed its second amended complaint, which added claims of inducing/aiding and abetting breach of fiduciary duty, including/aiding and abetting diversion of corporate opportunity, misappropriation of trade secrets, civil conspiracy, breach of confidence and unfair competition, and added as individual defendants Dr. Wang and our four other founders. In September 2002, Synopsys filed a supplemental second amended complaint that contained supplemental allegations but added no new claims or parties. In January 2003, the discovery referee issued orders creating rebuttable presumptions in favor of Synopsys on certain evidentiary issues to sanction us for erasure of certain computer files requested in discovery by Synopsys. These rulings mean that we must prove at trial that we did not take or use Synopsys' source code or other confidential information, rather than the usual requirement that Synopsys provide such proof in the first instance. However, none of these rulings resolves any of the claims made by Synopsys in the case and the trial judge or jury can reach their

35

own conclusions based upon the evidence presented at trial. We filed a motion for reconsideration of this order and in March 2003, the court denied our motion, concluding that it was barred on procedural grounds. In January 2003, Synopsys filed a third amended complaint, which contained supplemental allegations but added no new claims or parties. We have filed an answer denying Synopsys' allegations. In August 2003, Synopsys filed several motions for terminating sanctions against us which are scheduled for hearing in January 2004. We oppose each of these motions and intend to file oppositions within the time permitted by law. Synopsys has requested unspecified damages of at least $25 million, an injunction, a constructive trust on unspecified intellectual property belonging to us and other relief. Further, in September 2003, Synopsys notified us that it reserves the right to seek up to $80 million in punitive damages with respect to claims for which punitive damages are allowed under California Civil Code Section 3294, and up to $50 million in punitive damages with respect to the trade secret claims under California Civil Code Section 3426.3(c). This action is currently in discovery. A trial date has not yet been set.

        We believe that we have meritorious defenses to Synopsys' allegations and claims and we intend to continue to defend ourselves vigorously. However, because of the inherent uncertainty of litigation in general, and the fact that the discovery related to this litigation is ongoing, we cannot assure you that we will ultimately prevail. Should Synopsys ultimately succeed in the prosecution of its claims, we could be permanently enjoined from selling our software and deriving related maintenance revenue. In addition, we could be required to pay substantial monetary damages to Synopsys. Further, we could be enjoined preliminarily from selling our software during the course of the litigation. Litigation such as the suit Synopsys has brought against us can take years to resolve and can be expensive to defend. Although the final outcome of the litigation may not occur for some time, the parties periodically conduct evidence gathering, meet to discuss the status of the litigation and file motions and other requests for the court to act. The results of these periodic activities, particularly the court's decisions on current pending and future motions, could have the effect of determining the ultimate outcome of the litigation, either for or against us, prior to a trial on the merits, or strengthen or weaken our ability to assert claims and defenses. For example, in November 2001, the court denied a motion brought by Synopsys for injunctive relief that, if granted, could have prevented us from selling our products. If any of Synopsys' motions ultimately prevail, our ability to defend ourselves against the claims brought against us in this litigation could be severely limited. It is possible that our relationships with our customers will be seriously harmed in the future as a result of the Synopsys litigation. Accordingly, an adverse judgment, if entered in favor of any Synopsys claim, could seriously harm our business, financial position and results of operations and cause our stock price to decline substantially. In addition, the Synopsys allegations and claims, even if ultimately determined to be without merit, could be time consuming to defend, result in costly litigation, divert our management's attention and resources, cause product shipment delays or require us to enter into royalty or license agreements. These royalty or license agreements may not be available on terms acceptable to us, if at all, and the prosecution of the Synopsys allegations and claims could significantly harm our business, financial position and results of operations and cause our stock price to decline substantially.

        In May 2001, Synopsys filed a complaint in the United States District Court, Northern District of California, San Jose division (Case No. CO1-20423 PVT) against us, alleging that our HSIM software infringes U.S. Patent No. 5,878,053 entitled "Hierarchical Power Network Simulation and Analysis tool for reliability testing of Deep Submicron IC Designs" (the "053 patent"), which is purportedly assigned to Synopsys. Since the case began, Synopsys has also alleged that our subsequently released HSIM 2.0 and LEXSIM products, infringe the 053 patent. Synopsys has requested relief including damages from $4.1 million to $13.7 million and an injunction. Synopsys has also requested that any damage award be trebled for alleged willful infringement. In June 2001, we filed an answer to the complaint denying infringement of a valid, enforceable patent and asserting counterclaims. We have since amended our counterclaims. Our current counterclaims allege that, among other things, the 053 patent is invalid, unenforceable and not infringed and that Synopsys has violated federal antitrust and state unfair competition laws.

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        From time to time, the court has ruled on summary judgment motions in the case. In May 2002, the court granted summary judgment in favor of Synopsys on our invalidity defenses and counterclaims, concluding that they were barred by the doctrine of assignor estoppel. The court denied Synopsys' motion with respect to our unenforceability defense and counterclaim. In November 2002, the court issued an order granting summary judgment in favor of Synopsys on certain antitrust counterclaims based on the doctrine of assignor estoppel. However, the court declined to rule on Synopsys' motion with respect to our other antitrust and unfair competition counterclaims. In addition, the court issued a ruling construing the claims of the 053 patent in August 2002.

        In September 2002, the U.S. Patent and Trademark Office granted our request for ex parte reexamination of the 053 patent based on prior art not previously considered by the Patent Office. We have moved to stay the federal litigation pending the outcome of the reexamination and the court granted our motion in December 2002. During the reexamination of the 053 patent, the Patent Office may determine that the subject matter in the patent is patentable as originally claimed, that the subject matter is patentable if the claims are modified or that the subject matter is not patentable. We cannot predict what the result of the reexamination procedure will be or how long it will take to complete.

        Activity on several other summary judgment motions has been suspended because the court stayed the federal litigation. In November 2002, Synopsys filed three motions for summary judgment. The first motion asked the court to enter judgment before trial that Nassda's products infringe the 053 patent. The second motion asked the court to rule before trial against us on our defense that the 053 patent is unenforceable because Synopsys committed inequitable conduct in obtaining the patent. We submitted oppositions to both of these motions. Synopsys' third motion asked the court to rule before trial against us on our remaining antitrust counterclaims. Because of the court's prior rulings against us on our other antitrust counterclaims, we did not oppose this motion. In November 2002, we also filed a summary judgment motion, which asked the court to enter judgment before trial that our products do not infringe the 053 patent. Synopsys opposed this motion. The court issued its order staying the federal litigation before the parties' reply briefs were due.

        In June 2003, Synopsys filed a second complaint in the United States District Court, Northern District of California, San Francisco Division (Case No. C03-2664 RS) against us, alleging that the our products, including but not limited to HSIM and HANEX software products, infringe Synopsys U.S. Patent No. 6,249,898 entitled "Methods and Systems for Reliability Analysis of CMOS VLSI Circuits Based on Stage Partitioning and Node Activities" (the "898 Patent"). In July 2003, we filed an answer denying that we infringe the 898 Patent and asserting as defenses that the 898 Patent is invalid and unenforceable. We also brought a declaratory judgment counterclaim seeking judgment that the 898 Patent is not infringed by us and that the 898 Patent is invalid and unenforceable. In August 2003, Synopsys filed a motion to dismiss these defenses and counterclaims on the ground that we are barred from contesting the validity and enforceability of the 898 Patent based on the doctrine of assignor estoppel. Synopsys' motion also sought to strike our defenses of laches, patent misuse and unclean hands on the ground that we had not pleaded them with sufficient particularity. We opposed Synopsys' motions. In October 2003, the court denied Synopsys' motion to dismiss and strike the invalidity and unenforceability defenses and counterclaims and granted Synopsys' motion to strike the laches, patent misuse and unclean hands defenses with leave to amend the pleadings. The court has scheduled a case management conference for December 2003.

        We believe we have meritorious defenses to Synopsys' claims and intend to defend ourselves vigorously. However, because of the high degree of complexity of the intellectual property at issue, the inherent uncertainties of litigation in general and the preliminary nature of this litigation, we cannot assure you that we will ultimately prevail. Should Synopsys ultimately succeed in the prosecution of its claims, we could be permanently enjoined from selling our software and deriving related maintenance revenue. In addition, we may be required to pay substantial monetary damages to Synopsys. Further, we could be enjoined preliminarily from selling our software during the course of the litigation. Litigation such as the suit Synopsys has brought against us can take years to resolve and can be expensive to defend. The court's

37

decisions on current pending and future motions could have the effect of determining the ultimate outcome of the litigation prior to a trial on the merits, or strengthen or weaken our ability to assert claims and defenses. It is possible that our relationships with our customers will be seriously harmed in the future as a result of the Synopsys litigation. Accordingly, an adverse judgment, if entered on any Synopsys claim, could seriously harm our business, financial position and results of operations and cause our stock price to decline substantially. In addition, the Synopsys allegations and claims, even if ultimately determined to be without merit, could be time consuming to defend, result in costly litigation, divert our management's attention and resources, cause product shipment delays or require us to enter into royalty or license agreements. These royalty or license agreements may not be available on terms acceptable to us, if at all, and the prosecution of the Synopsys allegations and claims could significantly harm our business, financial position and results of operations and cause our stock price to decline substantially.

        On July 1, 2003, a purported derivative complaint was filed against us and our directors in the United States District Court for the Northern District of California. This complaint alleged violations of California Corporations Code Section 25402, breach of fiduciary duty, waste of corporate assets and unjust enrichment based generally on the facts and circumstances alleged in the Synopsys litigations. The complaint seeks equitable relief and an unspecified amount of damages on behalf of Nassda. The case is still in the preliminary stages, and it is not possible for us to quantify the impact, if any, on Nassda. An unfavorable outcome in this case could have a material adverse effect on our business, financial condition, results of operations and cash flow. In addition, the expense of defending any litigation may be costly and divert management's attention from the day-to-day operations of our business.

Because many of our current competitors have greater resources than we do and pre-existing relationships with our potential customers, we might not be able to achieve sufficient market penetration to sustain profitability or gain additional market share.

        We face significant competition from larger companies that market suites of electronic design automation products that address all or almost all steps in the semiconductor design process. Many of these competitors have substantially greater financial, customer support, technical and marketing resources, larger customer bases, longer operating histories, greater name recognition and more established relationships in the industry than we do. We cannot be sure that we will have the resources or expertise to compete successfully in the future. If we are unable to gain additional market share due to their pre-existing relationships with our potential customers, our operating results could be harmed.

        Our software is used to simulate and analyze complex nanometer-scale semiconductor designs. Our competitors in the electronics design automation industry who offer products that are used for other segments of the semiconductor design process often bundle their products together to offer discounts on products competitive with those we offer, making those products extremely attractive for our customers or potential customers to use. In addition, these competitors may not support our effort to integrate our software into their existing software. These competitors include such companies as Cadence, Synopsys and Mentor Graphics. Since these competitors offer a more comprehensive range of products than we do, they are often able to respond more quickly or price more effectively to take advantage of new or changing opportunities and respond to new technologies and customer requirements. We cannot assure you that we will be able to compete successfully in such environments. If we lose such opportunities to our competitors, our results of operations could be harmed significantly.

Our business depends on continued demand for complex nanometer-scale semiconductors and the electronic equipment that incorporate them.

        Our software is used to design complex nanometer-scale semiconductors that are an integral part of portable consumer electronics, networking equipment, wireless communications equipment, multimedia devices and personal computers. As a result, if the demand for these devices and businesses of the manufacturers of these products do not continue to grow, our revenue and business will suffer. Demand for portable consumer electronics may decrease if mobile phone, electronic mail or Internet use declines,

38

the cost of those services increases or consumers fail to adopt latest generation portable electronics. Potential consumers of portable consumer electronics may use or modify existing equipment and never adopt next generation portable consumer electronics. Demand for other complex electronic equipment, such as networking equipment, may decrease if service providers do not experience subscriber growth or defer network build outs or other capital spending.

        Purchases of licenses of our software are largely dependent upon the commencement of new design projects by semiconductor manufacturers and their customers, the number of design engineers and the increasing complexity of designs. Since late 2000, the semiconductor industry has experienced a sharp decline in orders and revenue and many companies have reduced the number of design engineers and/or design projects. The outlook for the electronics industry is uncertain and we cannot predict how long the current downturn will last. Many semiconductor manufacturers and vendors of products incorporating semiconductors have announced earnings shortfalls and employee layoffs.

        Budget cuts have impacted the number of orders we receive from our customers and our customers in general have been seeking larger discounts and extended payment terms or purchasing time-based licenses in lieu of more costly perpetual licenses. We believe our customers' and potential customers' internal budgets have been and will continue to be subject to heightened scrutiny and the time required to receive budgetary approvals has lengthened. We cannot predict whether purchases of licenses of our software will be further deferred due to budget constraints or whether the number of complex nanometer-scale semiconductor design starts by our customers will be slower or decline even further.

If we lose any of our key personnel, our ability to manage our business and continue our growth would be negatively impacted.

        Our future success depends in part on our ability to enhance our existing products and achieve market acceptance of new, innovative products and technologies. Our software and technologies are complex and to successfully implement our business strategy and manage our business, an in depth understanding of circuit design and the physical behavior of complex nanometer-scale semiconductors is required. We depend substantially on the expertise of Sang S. Wang, our Chairman and Chief Executive Officer, and our existing engineering personnel, especially An-Chang Deng, our President, and our other founders. We do not have long-term employment agreements with our founders and the loss of the services of any of our key employees could adversely affect our business and slow our product development process. We do not maintain key person life insurance on any of our employees.

If we do not continue to expand our sales force and customer service and support organization, our revenue may not grow.

        Approximately 61.2%, 72.1% and 75.3% of our total revenue for fiscal 2001, fiscal 2002 and fiscal 2003, respectively, were from our direct sales efforts. Our software requires sophisticated sales efforts by experienced and knowledgeable personnel. Competition for these individuals is intense due to the limited number of people available with the necessary sales experience and technical understanding of electronic design automation products. Hiring customer service and support personnel is also very competitive in our industry due to the limited number of people available with the necessary technical skills. Our sales and support staff consisted of 45 persons as of September 30, 2003. If we are unable to successfully train and integrate sales and support personnel and continue to identify, hire, train and retain new qualified individuals, our revenue may not grow.

If we are unable to attract and retain qualified research and development personnel, our business will suffer.

        There are a limited number of qualified software engineer and research and development personnel with the necessary experience and understanding of complex nanometer-scale semiconductor design products in the San Francisco Bay Area, where our primary facility is located. The scarcity of qualified persons may cause us to incur higher salary costs or require us to provide larger stock option grants. We

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have a small research and development facility in Taiwan, out of which four of our engineers currently operate, to broaden the pool of software engineers from which we can recruit. We cannot assure you that this strategy will help us satisfy our need for qualified personnel. Further, we may encounter other difficulties with managing geographically separate research and development activities. If we fail to attract, motivate and retain engineers and research and development personnel, we may be unable to develop or enhance our software, meet the demands of our customers in a timely manner or remain competitive and our business would suffer.

Because we rely on distributors for a large portion of our revenue, our revenue could decline if our existing distributors do not continue to purchase software licenses from us or represent us in those markets.

        A majority of our sales outside North America and Europe are conducted through distributors. Sales by our distributors accounted for approximately 38.8%, 27.9% and 24.7% of our total revenue in fiscal 2001, fiscal 2002 and fiscal 2003, respectively. We rely on Marubeni Solutions as the exclusive distributor of our software in Japan. Sales to Marubeni Solutions accounted for 24.1%, 19.4% and 15.5% of our total revenue in fiscal 2001, fiscal 2002 and fiscal 2003, respectively. We cannot be certain that we will be able to attract distributors that market our software effectively or provide timely and cost effective user support and service. Further, our agreements with our distributors provide exclusive distribution rights, but do not obligate the distributor to purchase any amount of licenses of our software or sell licenses of our software. Consequently, one or more of our distributors may not continue to represent our software or devote a sufficient amount of effort and resources to selling our licenses of software in their territories. We may from time to time be forced to terminate relationships with distributors who do not maintain an appropriate level of sales. We may also decide to sell our software in a particular territory directly and terminate relationships with a particular distributor. As a result, our sales in a given territory may decrease substantially or cease until a suitable replacement distributor can be found or we are able to establish or provide adequate sales and support efforts for that territory. Even if we are successful in selling licenses of our software through new distributors, the rate of growth of our total revenue could be harmed if our existing distributors do not continue to sell licenses of our software.

If we fail to adequately match our expenses to anticipated revenue in any given quarter, our operating results could fall below market expectations and cause the price of our stock to decline.

        Because of the prolonged economic downturn, extended sales cycle, seasonal fluctuations in our business, cyclicality of the semiconductor industry and the rapidly evolving market for complex nanometer-scale semiconductors, our ability to accurately forecast our quarterly revenue is limited. As a result, it is difficult to predict the revenue we will recognize in any given quarter.

        We expect to experience seasonal fluctuations in our revenue due to:

•

financial stability and outlook of our customers;



•

capital budgeting and purchasing cycles of our customers;



•

economic incentives for our sales force;



•

lengthening of the sales cycle due to limited resources as a result of layoffs by our customers, longer approval process, summer holidays, particularly in Europe and Japan; and



•

the number of orders received for perpetual licenses versus time-based licenses.

        Commissions represent a significant portion of our sales force compensation, which is structured to encourage sales closures prior to fiscal year end. As a result, we expect that sales efforts will intensify in the fourth fiscal quarter which could result in our revenue being flat or slightly lower in the first and second quarters of the subsequent fiscal year.

        It is difficult for us to evaluate the degree to which these factors may reduce our sales because our revenue growth historically had masked the impact of these factors. In addition, most of our costs are

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relatively fixed in the short term and our business may not grow rapidly enough to absorb the costs of our personnel and facilities. As a result, we may be unable to reduce our expenses to avoid or minimize the negative impact on our quarterly operating results if anticipated revenue is not realized. For example, for the three months ended March 31, 2003, our revenue and earnings fell short of our previous guidance and market expectation and we revised our guidance for the quarter ended June 30, 2003 and fiscal 2003 to project much lower revenue and earnings than previously given, which negatively impacted the trading price of our common stock. Although we were able to achieve revenue and earnings results that met the revised guidance for the three months ended June 30, 2003 and September 30, 2003, we did not see any meaningful improvements in our customers' spending pattern and our outlook continues to be cautious. These trends could materially affect our quarter to quarter operating results, which could negatively impact our stock price.

We may not succeed in creating market acceptance for LEXSIM, CRITIC and HANEX, and our operating results may decline as a result.

        We released our second major product, LEXSIM, in May 2002, our third product, CRITIC, in December 2002 and our fourth product, HANEX, in May 2003. To date, LEXSIM, CRITIC and HANEX have accounted for only an immaterial portion of our revenues. Even though we do not expect LEXSIM, CRITIC or HANEX to account for a meaningful percentage of our total revenue until the second half of fiscal 2004, our future growth and profitability could be affected by our ability to increase sales of these new products. Furthermore, marketing new products requires significant additional expenses and resources. If we fail to market them successfully, our profitability may decline.

If we fail to enhance our circuit simulation and analysis software and develop and introduce new circuit simulation and analysis software on a timely basis, we may not be able to address the needs of our customers, our technology may become obsolete and our results of operations may be harmed.

        The electronic design automation software market is characterized by rapid technological change, frequent new product introductions and enhancements, uncertain product life cycles, changes in user demands and evolving industry standards. The introduction of software embodying new technologies and the emergence of new industry standards can render existing software in the semiconductor design industry obsolete and unmarketable. For instance, if customers widely adopt new engineering languages to describe their semiconductor designs and our software fails to support those languages adequately, demand for our software will suffer. To be successful, we must devote a substantial amount of our resources to enhance our software, keep pace with changes within our industry and develop and market new technologies. If our enhanced products or our future products and technologies do not achieve market acceptance, we may not be able to maintain our market share or recoup our development costs. As a result, our operating results would be harmed.

Our sales cycle is unpredictable and may be more than six months, so we may fail to adequately match our expenses to anticipated revenue in any given period or meet market expectations.

        Our sales cycle, or the period between our initial contact with a potential customer and the customer's purchase of a license of our software, generally ranges from three to six months but may be longer, particularly in the current economic downturn. We cannot predict the exact length of our sales cycle, which at times has exceeded six months. The unpredictability of our sales cycle makes it difficult to plan our expenses and forecast our results of operations for any given period. If we do not correctly predict the timing of our customers' purchases, the amount of revenue we recognize in a given quarter could be negatively impacted, which could harm our operating results. Our sales cycle may lengthen because of several factors, including:

•

long technical evaluation periods and validation periods for the integration of our software with our potential customers' existing semiconductor design flow;

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•

the significant investment of resources required by customers to purchase and integrate our software into their design flow, particularly customers with large semiconductor design organizations;



•

competition from other electronic design automation software vendors;



•

limited and decreased capital spending due to weakness in the semiconductor industry and customers' uncertainty about economic recovery;



•

limited access to key decision makers of potential customers to authorize the adoption of our software;



•

budget cycles of our customers which affect the timing of purchases; and



•

delay of purchases due to product combination announcements or planned introductions of new products by our competitors or us.

        If we were to experience a delay in our orders, it could harm our ability to meet our forecasts or investors' expectations for a given quarter and ultimately result in the decrease of our stock price. Further, if our sales cycle unexpectedly lengthens in general, it would adversely affect the timing of our revenue recognition, which could cause us not to meet market expectations and cause our stock price to suffer. For instance, for the three months ended June 30, 2003 and March 31, 2003, our revenue decreased as compared to the previous quarters because we experienced longer sales cycles, which negatively impacted our ability to receive orders and recognize revenue.

Our expansion into international markets will result in higher personnel costs or distributor commissions and could reduce our operating margins.

        In order to penetrate international markets further, we must either expand the number of distributors who sell licenses of our software or increase our direct international sales presence. As we increase our direct international sales presence, our sales efforts may be delayed as we begin our local sales activities and we may incur higher personnel costs that may not result in additional revenue. These costs and the time to establish a local sales presence could harm our operating results. We may not realize corresponding growth in operating margins from growth in international sales due to the higher costs of these sales. We have increased our sales and support resources in Europe over the last two years and have established offices in England, France, Germany, India, Israel and Singapore. However, the expected returns on those investments have not been realized, primarily due to the economic slowdown. To date, we have relied primarily on international distributors in Asia and have only recently begun to employ direct sales personnel in Singapore and India. Even if we expand our direct and indirect international selling efforts, our efforts may not create or increase international market demand for our software or generate revenue sufficient to recoup the cost of this expansion.

If we experience losses in the future, the market price of our common stock could decline.

        Although we had net income for the past four fiscal years, we may incur losses in the future. In order to fund our growth and implement our strategies, we must continue to increase our investment in research and development, sales and marketing and other operations. As a result, we will need to generate significant revenue to maintain profitability. If we do not maintain profitability, the market price of our common stock may decline, perhaps substantially.

        We anticipate that our expenses will increase substantially in the next 12 months as we:

•

increase our sales and marketing activities, particularly by expanding our direct sales force;



•

continue to increase the size and number of locations of our support organization;



•

continue to invest in research and development to enhance our existing products and technologies and develop new circuit simulation and analysis products; and

42

•

implement additional internal systems, develop additional infrastructure and hire additional management to keep pace with our growth.



•

continue to defend ourselves vigorously against the three lawsuits brought by Synopsys.

        Any failure to significantly increase our revenue as we implement our strategies would also harm our ability to maintain profitability and could negatively impact the market price of our common stock.

If we are not able to preserve the value of our software's intellectual property, our business will suffer.

        Our software is differentiated from that of our competitors by our internally developed technology. If we fail to protect our intellectual property, other vendors could sell circuit simulation and analysis software with capabilities similar to ours, and this could reduce demand for our software. We protect our intellectual property through a combination of copyright, patent, trade secret and trademark laws. We have a patent program and to date have filed two patent applications, one of which was issued by the U.S. Patent and Trademark Office in June 2003. We generally enter into confidentiality or license agreements with our employees, consultants and corporate partners, and generally seek to control access to our intellectual property and the distribution of our software, documentation and other proprietary information. However, we believe that these measures afford only limited protection. Others may develop technologies that are similar or superior to our technology or design around the copyrights and trade secrets we own. Unauthorized parties may attempt to copy or otherwise obtain and use our software or technology. Policing unauthorized use of our software is difficult and expensive, and we cannot be certain that the steps we have taken will prevent misappropriation of our technology, particularly in foreign countries where the laws may not protect our proprietary rights as fully as those in the United States. If our means of protecting our proprietary rights is inadequate or ineffective, our business may be severely harmed.

A protracted infringement claim or a significant damage award would adversely impact our operating results.

        Substantial litigation and threats of litigation regarding intellectual property rights exist in our industry. We expect that circuit simulation and analysis design software may be increasingly subject to third-party infringement claims as the number of competitors in our industry segment grows and the functionality of products in different industry segments overlaps. We are not aware of any valid proprietary rights of third parties that our software infringes. We are currently a defendant in three lawsuits brought by Synopsys. Additional third parties other than Synopsys may claim that we infringe their intellectual property rights. Any claims, with or without merit, could:

•

be time consuming to defend;



•

result in costly litigation and/or damage awards;



•

divert our management's attention and resources;



•

cause customers to cancel or delay orders;



•

cause product shipment delays; or



•

require us to seek to enter into royalty or licensing agreements.

        These royalty or licensing agreements may not be available on terms acceptable to us, if at all. A successful claim of product infringement against us or our failure to license the infringed or similar technology could adversely affect our business. We would not be able to sell licenses of the impacted software without exposing ourselves to litigation risk and damages or we may be required to redevelop the software and incur significant additional expense. Because we expect to derive substantially all of our revenue from HSIM in fiscal 2004, anything that would limit our ability to license HSIM would harm our business.

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Any potential dispute involving our intellectual property could include our customers and strategic partners, which could trigger our indemnification obligations with them and result in substantial expense.

        In any potential dispute involving our intellectual property, our customers and strategic partners could also become the target of litigation. This could trigger our technical support and indemnification obligations in our license agreements which could result in substantial expense to us. In addition to the time and expense required for us to supply such support or indemnification to our customers and strategic partners, any such litigation could severely disrupt or shut down the business of our customers and strategic partners, which in turn could hurt our relations with our customers and strategic partners and cause licenses for our software to decrease.

Significant errors in our software, our inability to correct errors or the failure of our software to conform to specifications could result in our customers demanding refunds from us or asserting claims for damages against us.

        Because our circuit simulation and analysis software is complex, our software could fail to perform as anticipated. Further, significant errors in our software may be found in the future or errors may not be corrected satisfactorily for our customers. The detection of any significant errors may result in:

•

product liability claims or damage awards;



•

the loss of or delay in market acceptance and sales of our software;



•

injury to our reputation and hindered market acceptance of our software;



•

diversion of development resources from new software to fix errors in existing software;



•

costs of corrective actions or returns of defective software;



•

reduction in maintenance or time-based license renewal rates; or



•

delays in shipping dates for our software.

        We have warranted that our software will operate in accordance with our user documentation. If our software fails to conform to these specifications, customers could demand a refund for the purchase price or assert and collect on claims for damages.

        Moreover, because our software is used in connection with other vendors' products that are used to design complex nanometer-scale semiconductors, significant liability claims may be asserted against us if our software does not work properly individually or with other vendors' products. Our agreements with customers typically contain provisions intended to limit our exposure to liability claims. However, these limitations may not preclude all potential claims and we have only minimal insurance against such liabilities. Regardless of their merit, liability claims could require us to spend significant time and expense in litigation and divert management's attention from other business pursuits. If successful, a product liability claim could require us to pay significant damages. Any claims, whether or not successful, could seriously damage our reputation and our business.

Because our strategy to expand our international operations is subject to uncertainties, we may not be able to enter new markets outside North America or generate a significant level of revenue or profit margins from those markets.

        Customers outside North America accounted for 51.0%, 42.0% and 39.6% of our total revenue in fiscal 2001, fiscal 2002 and fiscal 2003, respectively. We plan to increase our international sales activities, but we have limited experience marketing and directly licensing our software internationally.

        We have direct sales offices in England, France, Germany, India, Israel, Singapore and Taiwan, and rely primarily on indirect sales in Asia. Although our sales contracts provide for payment for our software licenses in United States dollars, our expenses incurred in foreign locations are generally denominated in

44

the applicable local currency. To date we have not undertaken any foreign currency hedging transactions, and as a result, our future expense levels from international operations may be unpredictable due to exchange rate fluctuations. Our international operations are subject to other risks, including:

•

the impact of recessions in economies outside North America;



•

difficulties and costs of staffing and managing foreign operations;



•

foreign currency fluctuations;



•

reduced protection for intellectual property rights in some countries;



•

changes in import or export duties, quotas or controls, which could prevent us from shipping our software into markets outside North America;



•

greater difficulty in accounts receivable collection and longer collection periods;



•

unexpected changes in regulatory requirements;



•

proper maintenance of corporate formalities by our foreign subsidiaries;



•

potentially adverse tax consequences, including the impact of expiry of tax holidays; and



•

political and economic instability.

We intend to pursue strategic relationships but these efforts could substantially divert management attention and resources.

        In order to establish strategic relationships with semiconductor technology leaders and leading electronic design automation tool providers, we may need to expend significant resources and will need to commit a significant amount of management time and attention, with no guarantee of success. We may be unable to establish key industry strategic relationships if any of the following occur:

•

potential industry partners become concerned about our ability to protect their intellectual property;



•

potential industry partners develop their own solutions to address circuit simulation and analysis of complex nanometer-scale semiconductors;



•

our competitors establish relationships with industry partners with which we seek to establish a relationship; or



•

potential industry partners attempt to restrict our ability to enter into relationships with their competitors.

        We have only recently entered into our current strategic relationships. These relationships may not continue or be successful. We also may be unable to find additional industry partners that are suitable.

We may not be able to expand our proprietary technologies if we do not make acquisitions or investments or fail to successfully integrate the acquired companies with our business.

        To expand our proprietary technologies, we may acquire or make investments in complementary businesses, technologies or products if appropriate opportunities arise. We may be unable to identify suitable acquisition or investment candidates at reasonable prices or on reasonable terms, or complete future acquisitions or investments, any of which could slow our growth strategy. We may have difficulty integrating the products, personnel, culture, ideologies or technologies of any acquisitions we might make. These difficulties could disrupt our ongoing business, distract our management and employees and increase our expenses. In addition, the key personnel of the acquired company may decide not to work for us and if our customers are uncertain about our ability to operate on a combined basis, they could delay or cancel orders for our software. Furthermore, we may have to incur debt or issue equity securities to pay for

45

any future acquisition, the issuance of which would be dilutive to our existing stockholders. We also could have difficulty in assimilating the acquired company's or division's personnel and operations, which could negatively affect our operating results.

The markets for complex nanometer-scale semiconductors are evolving rapidly and if these markets do not develop and expand as we anticipate, the demand for our software and our revenue would decline.

        We expect that a substantial majority of our revenue will continue to come from sales of HSIM in fiscal 2004. We depend on the growing use of circuit simulation and analysis software to design complex nanometer-scale semiconductors for use in portable consumer electronics, networking equipment and other applications. The market for complex nanometer-scale semiconductors may not grow if customers choose to use other types of semiconductors that might be more affordable or available with shorter time-to-market schedules. This could cause electronic equipment manufacturers to limit the number of new complex nanometer-scale semiconductors they design and would reduce their need for our software. If demand for our software were to decline, we may choose to lower the prices of our software or we may sell fewer licenses and have lower maintenance renewal rates. In addition, if equipment manufacturers do not widely adopt the use of complex nanometer-scale semiconductors or if there is a wide acceptance of alternative semiconductors that provide enhanced capabilities, the market price of our stock could decline due to our lower operating results or investors' assessment that the growth potential for licenses of our software is limited.

        The markets for complex nanometer-scale semiconductors are evolving rapidly and we cannot predict their potential sizes or future growth rates. Our success in generating revenue in these evolving markets will depend on, among other things, our ability to:

•

educate potential customers about the benefits of complex nanometer-scale semiconductors and the use of our software to design them;



•

establish and maintain relationships with leading semiconductor manufacturers, electronic equipment designers, portable consumer electronic manufacturers, networking equipment and other electronics companies;



•

utilize our research and development efforts to anticipate and adapt to evolving markets; and



•

predict and base our software on technology that ultimately becomes industry standard.

We face competition from internally developed semiconductor design software and if our customers elect to continue to use internally designed tools, our business may suffer.

        We face significant competition from internal design software groups of semiconductor manufacturers. These internal groups compete with us for access to potential customers' circuit simulation and analysis software budgets and may eventually compete with us to supply circuit simulation and analysis software to other semiconductor manufacturers. We cannot assure you that internal groups will not expand their internally designed tools to compete directly with ours or actively sell their internally designed tools to other semiconductor manufacturers or, if they do, that we will be able to compete against them successfully.

Our revenue could be reduced if large electronic design automation companies make acquisitions in order to utilize their extensive distribution capabilities with our competitors' products.

        Large electronic design automation vendors, such as Cadence Design, Mentor Graphics or Synopsys, may acquire or establish cooperative relationships with our other current competitors, including private companies. For example, Synopsys acquired Numerical Technologies, Inc., a provider of sub-wavelength lithography-enabling technology, in February 2003, and InnoLogic Systems, Inc., a provider of memory and full-custom equivalence checking technology, in June 2003. Because large electronic design automation vendors have significant financial and organizational resources, they may be able to further penetrate our

46

markets by leveraging the technology and expertise of smaller companies and utilizing their own extensive distribution channels. We expect that the electronic design automation product industry will continue to consolidate. For example, Cadence completed its acquisition of Celestry Design Technologies, Inc., a provider of silicon modeling and circuit simulation tools, in January 2003, Get2Chip, Inc., a provider of advanced nanometer-scale synthesis technology, in April 2003 and Verplex Systems, Inc., a provider of formal verification electronic design software, in August 2003. It is possible that new competitors or alliances among competitors may emerge and rapidly acquire significant market share, which would harm our business and financial prospects.

We may not be able to compete effectively if our software is delayed or does not incorporate new required features.

        Our future success depends on our ability to enhance existing software, develop and introduce new products, satisfy user requirements, meet industry standards and achieve market acceptance. We may not successfully identify new product opportunities or develop and bring new products to market in a timely and cost effective manner. Significant delays in our new software releases or significant problems or delays in enhancing existing products to keep pace with new design techniques for complex nanometer-scale semiconductors could seriously damage our business. We have, from time to time, experienced delays in the scheduled introduction of new and enhanced software and we may experience similar delays in the future. For example, in early 2001 we experienced delays in the development of a new product which caused us to revise our expected release date for this product by several months. More recently, we have also delayed the release of another product in order to allow for an extended beta testing period. We cannot assure you that we will not experience additional difficulties that could delay or prevent the successful development, introduction and marketing of this software or that our new software and product enhancements will achieve market acceptance. If we are unable to develop, introduce and successfully market new or enhanced software in a timely manner in response to changing market conditions or customer requirements, our business, operating results and financial condition may be harmed.

We may sell fewer licenses of our products if other vendors' products are no longer compatible with ours.

        Our ability to sell licenses of our software depends in part on the compatibility of our software with other vendors' software and hardware products. These vendors may change their products so that they will no longer be compatible with our software. If that were to happen, our business and future operating results would suffer if we were no longer able to offer commercially viable or competitive products.

We do not have a consulting staff, and our revenue may suffer if customers demand extensive consulting or other support services.

        Our software is designed to be deployed quickly and easily by our customers and to require limited support from us. Many of our competitors offer extensive consulting services in addition to circuit simulation and analysis products. If we introduce software that requires extensive consulting services for specific designs, or if our customers wish to purchase a broad spectrum of software and services that includes extensive consulting services from a single vendor, we would be required to change our business model and cost structure to provide consulting services. Specifically, we would be required to hire and train consultants or outsource the required consulting services. If these events were to occur, our future gross margin would likely suffer because of the added expense of hiring and retaining consulting personnel.

Our common stock is subject to substantial price and volume fluctuations due to a number of factors, many of which are beyond our control, and those fluctuations may prevent our stockholders from reselling our common stock at a profit.

        The securities markets have experienced extreme price and volume fluctuations recently and the market prices of the securities of technology companies have been especially volatile. This market volatility, as well as general economic or political conditions, could reduce the market price of our common stock regardless of our operating performance. In addition, our operating results could be below the

47

expectations of investment analysts and investors and, in response, the market price of our common stock may decrease significantly and prevent investors from reselling their shares of our common stock at or above the price at which they purchased the shares. For example, in April 2003 we reported our financial results for the three months ended March 31, 2003, which were below previous guidance and market expectations. As a result, the stock price of our common stock was adversely impacted.

Our growth could place a significant strain on our management systems and resources and we may be unable to effectively control our costs and implement our business strategies as a result.

        Our total number of employees was 100 as of September 30, 2003, and we expect our headcount to double over the next 18 to 24 months. Our productivity and the quality of our software may be adversely affected if we do not integrate, train and motivate our new employees quickly and effectively and manage our resources efficiently. We also cannot be sure that our revenue will continue to grow at a sufficient rate to absorb the costs associated with the increased personnel.

        We expect that any future growth we experience will continue to place a significant strain on our management, systems and resources. To manage the anticipated growth of our operations, we will be required to:

•

hire, train, manage and retain additional qualified personnel, especially software engineers and sales staff;



•

improve existing and implement new operational, financial and management information controls, reporting systems and procedures;



•

maintain a high level of customer service and support; and



•

establish relationships with additional corporate partners and maintain our existing relationships.

ITEM 7A.    Quantitative and Qualitative Disclosures About Market Risk

        We develop products primarily in the United States and sell those products primarily in North America, Europe and Japan. Our revenue for sales outside of North America was approximately 51.0%, 42.0% and 39.6% of total revenue for fiscal 2001, fiscal 2002 and fiscal 2003, respectively. As a result, our financial results could be affected by factors such as changes in foreign currency exchange rates or weak economic conditions in foreign markets. As all of our sales are currently made in United States dollars, a strengthening of the United States dollar could make our software less competitive in foreign markets.

        Our interest income is sensitive to changes in the general level of United States interest rates, particularly since the majority of our investments are in short-term instruments. We expect that our interest income will continue to be negatively affected by recent declines in short-term interest rates. A sensitivity analysis assuming a hypothetical 10% movement in interest rates applied to our cash equivalent and short-term investments balances at September 30, 2003 would change interest income by approximately $75,000 on an annual basis. However, due to the nature of our short-term investments, we have concluded that we do not have material market risk exposure.

        We invest funds in excess of current operating requirements in short-term tax exempt and taxable instruments that meet high credit quality standards, as specified in our investment policy. The policy also limits the amount of credit exposure to any one issue, issuer or type of instrument. As of September 30, 2003, our cash, cash equivalents and short-term investments primarily consisted of the following instruments:

•

obligations of the United States government and its agencies;



•

investment grade state and local government obligations;



•

securities of United States corporations rated A1 or P1 by Standard & Poor's or Moody's equivalents; and/or



•

money market funds, deposits or notes issued or guaranteed by United States and non-United States commercial banks meeting certain credit rating and net worth requirements with maturities of less than one year.

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ITEM 8.    Financial Statements and Supplementary Data

Quarterly Results of Operations

        The following table presents our operating results for each of the eight quarters in the period ended September 30, 2003. The information for each of these quarters is unaudited and has been prepared on the same basis as our audited financial statements appearing elsewhere in this report. In the opinion of our management, all necessary adjustments, consisting only of normal recurring adjustments, have been included to present fairly the unaudited quarterly results when read in conjunction with our audited consolidated financial statements and the related notes appearing elsewhere in this report. These operating results are not necessarily indicative of the results of any future period.

Quarterly Fluctuations

        We believe seasonal factors in our business may cause both the total revenue and each of its components to fluctuate from quarter to quarter. These seasonal factors include patterns in the capital budgeting, purchasing cycles of our current and prospective customers, the mix between perpetual and

49

time-based licenses, timing of the renewals of time-based licenses and maintenance, and payment terms which may impact the timing of revenue recognition. During the three months ended March 31, 2003, we experienced a substantial change in customers' purchasing behavior due to the prolonged economic downturn and concerns about their own financial stability. Therefore, as a cost-cutting measure, customers either suspended or reduced their capital budgets dramatically, which adversely affected our revenue. Consequently, total revenue and earnings were lower than expected for the quarter ended March 31, 2003. In addition, more customers preferred to purchase time-based licenses due to their flexible licensing structure and payment terms. As a result, we also experienced decreases in perpetual license purchases in the three months ended March 31, 2003 and June 30, 2003. Further, commissions represent a significant portion of our sales force compensation, which is structured to encourage sales booking closures prior to fiscal year end. As a result, we expect that sales efforts will intensify in the fourth fiscal quarter, which could result in our revenue being flat or slightly lower in the second and third quarters of the subsequent fiscal year. General and administrative expenses increased by approximately $861,000 in the three months ended September 30, 2003 relative to the three months ended June 30, 2003 primarily due to the increases in litigation and related costs.

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NASSDA CORPORATION

INDEX TO CONSOLIDATED FINANCIAL STATEMENTS

51

INDEPENDENT AUDITORS' REPORT

To the Board of Directors and Stockholders of
Nassda Corporation:

        We have audited the accompanying consolidated balance sheets of Nassda Corporation and subsidiaries (the "Company") as of September 30, 2002 and 2003, and the related consolidated statements of income, stockholders' equity and comprehensive income and cash flows for each of the three years in the period ended September 30, 2003. Our audits also included the consolidated financial statement schedule listed in Item 15(a)(2). These consolidated financial statements and consolidated financial statement schedule are the responsibility of the Company's management. Our responsibility is to express an opinion on the consolidated financial statements and consolidated financial statement schedule based on our audits.

        We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated 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, such consolidated financial statements present fairly, in all material respects, the financial position of the Company as of September 30, 2002 and 2003 and the results of its operations and its cash flows for each of the three years in the period ended September 30, 2003 in conformity with accounting principles generally accepted in the United States of America. Also, in our opinion, such consolidated financial statement schedule listed in Item 15(a)(2), when considered in relation to the basic consolidated financial statements as a whole, presents fairly, in all material respects, the information set forth therein.

/s/  DELOITTE & TOUCHE LLP      

San Jose, California
October 28, 2003

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NASSDA CORPORATION

CONSOLIDATED BALANCE SHEETS
(in thousands, except share and per share amounts)