Back to GetFilings.com
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JANUARY 31, 2003
OR
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NUMBER: 0-19807
----------------
SYNOPSYS, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 56-1546236
------------------------------ ---------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
700 EAST MIDDLEFIELD ROAD
MOUNTAIN VIEW, CA 94043
(Address of principal executive offices)
TELEPHONE: (650) 584-5000
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (l) 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 filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Exchange Act).
Yes [ ] No [X]
Indicate the number of shares outstanding of each of the issuer's classes of
common stock, as of the latest practicable date.
74,816,630 shares of Common Stock as of March 7, 2003
SYNOPSYS, INC.
QUARTERLY REPORT ON FORM 10-Q
January 31, 2003
TABLE OF CONTENTS
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS ...............................................3
CONDENSED CONSOLIDATED BALANCE SHEETS...............................3
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF INCOME...............4
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF
CASH FLOWS.................................... ...................5
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS .....6
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS....................... 19
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK..........40
ITEM 4. CONTROLS AND PROCEDURES ...........................................40
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS .................................................40
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K ................................40
SIGNATURES....................................................................41
CERTIFICATIONS................................................................42
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SYNOPSYS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except par value data)
JANUARY 31, OCTOBER 31,
2003 2002
---------------- -----------------
(unaudited)
ASSETS
Current assets:
Cash and cash equivalents $ 347,339 $ 312,580
Short-term investments 122,921 102,153
---------------- -----------------
Total cash and short-term investments 470,260 414,733
Accounts receivable, net of allowances of $11,325 and
$11,565, respectively 220,573 207,206
Deferred taxes 288,920 282,867
Prepaid expenses and other 27,795 24,509
---------------- -----------------
Total current assets 1,007,548 929,315
Property and equipment, net 182,454 185,040
Long-term investments 30,368 39,386
Goodwill, net 435,767 434,554
Intangible assets, net 327,652 355,334
Other assets 34,226 35,085
---------------- -----------------
Total assets $ 2,018,015 $ 1,978,714
================ =================
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities $ 194,641 $ 246,789
Current portion of long-term debt 78 1,423
Accrued income taxes 164,136 169,912
Deferred revenue 383,558 359,245
---------------- -----------------
Total current liabilities 742,413 777,369
Deferred compensation and other liabilities 45,153 36,387
Long-term deferred revenue 41,562 51,477
Stockholders' equity:
Preferred stock, $0.01 par value; 2,000 shares
authorized; no shares outstanding -- --
Common stock, $0.01 par value; 400,000 shares
authorized; 74,330 and 73,562 shares outstanding,
respectively 743 735
Additional paid-in capital 1,042,483 1,039,386
Retained earnings 225,842 198,863
Treasury stock, at cost (83,999) (116,499)
Deferred stock compensation (7,351) (8,858)
Accumulated other comprehensive income (loss) 11,169 (146)
---------------- -----------------
Total stockholders' equity 1,188,887 1,113,481
---------------- -----------------
Total liabilities and stockholders' equity $ 2,018,015 $ 1,978,714
================ =================
See accompanying notes to unaudited condensed consolidated financial statements.
3
SYNOPSYS, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
THREE MONTHS ENDED
JANUARY 31,
----------------------------------
2003 2002
---------------- -----------------
Revenue:
Product $ 54,520 $ 39,555
Service 72,387 69,093
Ratable license 141,229 66,897
---------------- -----------------
Total revenue 268,136 175,545
Cost of revenue:
Product 3,753 4,066
Service 22,020 20,684
Ratable license 12,786 10,440
Amortization of intangible assets and
deferred stock compensation 19,903 --
---------------- -----------------
Total cost of revenue 58,462 35,190
---------------- -----------------
Gross margin 209,674 140,355
Operating expenses:
Research and development 67,269 48,706
Sales and marketing 71,238 59,799
General and administrative 22,551 18,708
Amortization of goodwill, intangible
assets and deferred stock compensation 8,880 4,044
---------------- -----------------
Total operating expenses 169,938 131,257
---------------- -----------------
Operating income 39,736 9,098
Other income, net 9,210 11,081
---------------- -----------------
Income before provision for income taxes 48,946 20,179
Provision for income taxes 14,561 6,127
---------------- -----------------
Net income $ 34,385 $ 14,052
================ =================
Basic earnings per share:
Net income per share $ 0.46 $ 0.23
Weighted-average common shares 74,065 60,136
================ =================
Diluted earnings per share:
Net income per share $ 0.45 $ 0.22
Weighted-average common shares and dilutive
stock options outstanding 76,639 65,011
================ =================
See accompanying notes to unaudited condensed consolidated financial statements.
4
SYNOPSYS, INC.
UNAUDITED CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
THREE MONTHS ENDED
JANUARY 31,
---------------------------------
2003 2002
---------------- ---------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 34,385 $ 14,052
Adjustments to reconcile net income to
net cash provided by (used in)
operating activities:
Amortization and depreciation 43,902 16,674
Provision for doubtful accounts
and sales returns -- 1,231
Write-down of long-term investments 1,000 --
Gain on sale of long-term investments (8,142) (5,865)
Net change in unrecognized gains and
losses on foreign exchange contracts 18,710 4,110
Deferred taxes (4,650) (2,903)
Deferred rent 1,006 --
Tax benefit associated with stock options 3,226 8,061
Net changes in operating assets and
liabilities:
Accounts receivable (14,550) (1,268)
Prepaid expenses and other current assets 1,842 (11,530)
Other assets 88 (5,781)
Accounts payable and accrued liabilities (58,309) (29,407)
Accrued income taxes (5,776) (55,095)
Deferred revenue 14,398 (9,487)
Deferred compensation 4,332 5,250
---------------- ----------------
Net cash (used in) provided by
operating activities 31,462 (71,958)
---------------- ----------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Proceeds from sales and maturities of
short-term investments 76,559 346,627
Purchases of short-term investments (97,767) (349,996)
Proceeds from sale of long-term investments 12,466 11,057
Purchases of long-term investments (300) (2,733)
Purchases of property and equipment (11,564) (17,824)
Capitalization of software development costs (654) (398)
---------------- ----------------
Net cash used in investing activities (21,260) (13,267)
---------------- ----------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from sale of common stock 25,153 42,791
---------------- ----------------
Net cash provided by financing activities 25,153 42,791
Effect of exchange rate changes on cash (596) 2,707
---------------- ----------------
Net increase (decrease) in cash and
cash equivalents 34,759 (39,727)
Cash and cash equivalents, beginning of period 312,580 271,696
---------------- ----------------
Cash and cash equivalents, end of period $ 347,339 $ 231,969
================ =================
See accompanying notes to unaudited condensed consolidated financial statements.
5
SYNOPSYS, INC.
NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
1. DESCRIPTION OF COMPANY
Synopsys, Inc. (Synopsys or the Company) is a leading supplier of
electronic design automation (EDA) software to the global electronics industry.
The Company develops, markets, and supports a wide range of integrated circuit
(IC) design products that are used by designers of advanced ICs and the
electronic systems (such as computers, cell phones, and internet routers) that
use such ICs, to automate significant portions of their design process. ICs are
distinguished by the speed at which they run, their area, the amount of power
they consume and their cost of production. Synopsys' products offer its
customers the opportunity to design ICs that are optimized for speed, area,
power consumption and production cost, while reducing overall design time. The
Company also provides consulting services to help its customers improve their IC
design and, where requested, to assist them with their IC designs, as well as
training and support services.
2. BASIS OF PRESENTATION AND SIGNIFICANT ACCOUNTING POLICIES
Fiscal Period End. The Company has a fiscal year and first quarter that
ends on the Saturday nearest October 31 and January 31, respectively. Fiscal
year 2003 and fiscal year 2002 are both 52-week years. For presentation
purposes, the unaudited condensed consolidated financial statements and notes
refer to the calendar month end.
Principles of Consolidation. The unaudited condensed consolidated financial
statements include the accounts of the Company and all of its subsidiaries. All
significant intercompany accounts and transactions have been eliminated. In the
opinion of management, all adjustments (consisting only of normal recurring
adjustments) necessary for a fair presentation of the financial position,
results of operations and cash flows of the Company have been made. Operating
results for the interim periods are not necessarily indicative of the results
that may be expected for any future period or the full fiscal year. The
unaudited condensed consolidated financial statements and notes included herein
should be read in conjunction with the consolidated financial statements and
notes thereto for the fiscal year ended October 31, 2002, included in the
Company's 2002 Annual Report on Form 10-K, as amended.
Use of Estimates. The preparation of financial statements in conformity
with accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the amounts
recorded in the unaudited condensed consolidated financial statements and
accompanying notes. Actual amounts could differ from these estimates.
Revenue Recognition and Cost of Revenue. Revenue consists of fees for
perpetual and time-based licenses for the Company's software products,
post-contract customer support (PCS), customer training and consulting. The
Company classifies its revenues as product, service or ratable license. Product
revenue consists primarily of sales of perpetual licenses.
Service revenue consists of fees for consulting services, training, and PCS
associated with non-ratable time-based licenses or perpetual licenses. PCS sold
with perpetual licenses is generally renewable, after any bundled PCS period
expires, in one-year increments for a fixed percentage of the perpetual list
price or, for certain perpetual license arrangements in excess of $2 million, as
a percentage of the net license fee.
Ratable license revenue is all fees related to time-based licenses bundled
with PCS and sold as a single package (commonly referred to by the Company as a
Technology Subscription License or TSL), and time-based licenses in which the
Company did not bundle PCS but has granted extended payment terms or under which
the customer has a right to receive unspecified future products.
6
Cost of product revenue includes cost of production personnel, product
packaging, documentation, amortization of capitalized software development
costs, and costs of the Company's systems products. Cost of service revenue
includes personnel and the related costs associated with providing training,
consulting and PCS. Cost of ratable license revenue includes the cost of
products and services related to time-based licenses bundled with PCS and sold
as a single package and to time-based licenses that include extended payment
terms or unspecified future products. Cost of revenue also includes the
amortization of contract rights intangible, core technology and deferred stock
compensation. The contract rights intangible arose in connection with certain
acquisitions and represents amounts due after the date of acquisition on certain
signed ratable license agreements under which the acquired companies had
delivered the initial configuration of licensed technologies and were obligated
to meet reconfiguration obligations and to provide PCS over a one to three year
period. On these arrangements, the customer had been granted extended payment
terms and, therefore, the fees were not considered to be fixed and determinable
at the outset of the arrangement. As the amounts represented by the contract
rights intangible were due after the date of acquisition, there were no
receivables or deferred revenues representing these amounts recorded on the
historical financial statements of the acquired companies at the respective
closing dates. As deliveries are scheduled to occur over the terms of the
arrangements, these ratable licenses and PCS arrangements require future
performance by both parties and, as such, represent executory contracts.
The Company recognizes revenue in accordance with SOP 97-2, Software
Revenue Recognition, as amended by SOP 98-9 and SOP 98-4 and generally
recognizes revenue when all of the following criteria are met as set forth in
paragraph 8 of SOP 97-2:
o Persuasive evidence of an arrangement exists,
o Delivery has occurred,
o The vendor's fee is fixed or determinable, and
o Collectibility is probable.
The Company defines each of the four criteria above as follows:
Persuasive Evidence of an Arrangement Exists. It is the Company's customary
practice to have a written contract, which is signed by both the customer
and Synopsys, or a purchase order from those customers that have previously
negotiated a standard end-user license arrangement or volume purchase
agreement, prior to recognizing revenue on an arrangement.
Delivery Has Occurred. The Company's software may be either physically or
electronically delivered to its customers. For those products that are
delivered physically, the Company's standard transfer terms are FOB
shipping point. For an electronic delivery of software, delivery is
considered to have occurred when the customer has been provided with the
access codes that allow the customer to take immediate possession of the
software on its hardware.
If an arrangement includes undelivered products or services that are
essential to the functionality of the delivered product, delivery is not
considered to have occurred.
The Vendor's Fee is Fixed or Determinable. The fee the Company's customers
pay for its products is negotiated at the outset of an arrangement, and is
generally based on the specific volume of product to be delivered. The
Company's license fees are not a function of variable-pricing mechanisms
such as the number of units distributed or copied by the customer, or the
expected number of users in an arrangement. Therefore, except in cases
where the Company grants extended payment terms to a specific customer, the
Company's fees are considered to be fixed or determinable at the inception
of the arrangements.
7
The Company's typical payment terms are such that a minimum of 75% of the
arrangement revenue is due within one year or less. Arrangements with
payment terms extending beyond the typical payment terms are not considered
to be fixed or determinable. Revenue from such arrangements is recognized
at the lesser of the aggregate of amounts due and payable or the amount of
the arrangement fee that would have been recognized if the fees had been
fixed or determinable.
Collectibility is Probable. Collectibility is assessed on a
customer-by-customer basis. The Company typically sells to customers for
which there is a history of successful collection. New customers are
subjected to a credit review process that evaluates the customers'
financial positions and ultimately their ability to pay. New customers are
typically assigned a credit limit based on a formulated review of their
financial position. Such credit limits are only increased after a
successful collection history with the customer has been established. If it
is determined from the outset of an arrangement that collectibility is not
probable based upon the Company's credit review process, revenue is
recognized on a cash-collected basis.
Multiple Element Arrangements. The Company allocates revenue on software
arrangements involving multiple elements to each element based on the relative
fair values of the elements. The Company's determination of fair value of each
element in multiple element arrangements is based on vendor-specific objective
evidence (VSOE). The Company limits its assessment of VSOE for each element to
the price charged when the same element is sold separately.
The Company has analyzed all of the elements included in its
multiple-element arrangements and determined that it has sufficient VSOE to
allocate revenue to the PCS components of its perpetual license products and
consulting. Accordingly, assuming all other revenue recognition criteria are
met, revenue from perpetual licenses is recognized upon delivery using the
residual method in accordance with SOP 98-9 and revenue from PCS is recognized
ratably over the PCS term. The Company recognizes revenue from TSLs over the
term of the ratable license period, as the license and PCS portions of a TSL are
bundled and not sold separately and the Company has not established VSOE on
TSLs. Revenue from contracts with extended payment terms is recognized as the
lesser of amounts due and payable or the amount of the arrangement fee that
would have been recognized if the fee were fixed or determinable.
Certain of the Company's time-based licenses include the rights to
unspecified additional products. Revenue from contracts with the rights to
unspecified additional software products is recognized ratably over the contract
term. The Company recognizes revenue from time-based licenses that include both
unspecified additional software products and extended payment terms that are not
considered to be fixed or determinable in an amount that is the lesser of
amounts due and payable or the ratable portion of the entire fee.
Consulting Services. The Company provides design methodology assistance,
specialized services relating to telecommunication systems design and
generalized turnkey design services. The Company's consulting services generally
are not essential to the functionality of the software. The Company's software
products are fully functional upon delivery and implementation does not require
any significant modification or alteration. The Company's services to its
customers often include assistance with product adoption and integration and
specialized design methodology assistance. Customers typically purchase these
professional services to facilitate the adoption of the Company's technology and
dedicate personnel to participate in the services being performed, but they may
also decide to use their own resources or appoint other professional service
organizations to provide these services. Software products are generally billed
separately and independently from consulting services, which are mostly billed
on a time-and-materials or milestone-achieved basis. The Company generally
recognizes revenue from consulting services as the services are performed.
8
Exceptions to the general rule above involve arrangements where the Company
has committed to significantly alter the features and functionality of its
software or build complex interfaces necessary for the Company's software to
function in the customer's environment. These types of services are considered
to be essential to the functionality of the software. Accordingly, contract
accounting is applied to both the software and service elements included in
these arrangements.
Accounting For Stock-Based Compensation. In accordance with Accounting
Principles Board Opinion No. 25 (APB 25), Accounting for Stock Issued to
Employees, the Company applies the intrinsic value method in accounting for
employee stock options. Accordingly, the Company generally recognizes no
compensation expense with respect to stock-based awards to employees. The
Company has determined unaudited pro forma information regarding net income and
earnings per share as if the Company had accounted for employee stock options
under the fair value method as required by Statement of Financial Accounting
Standards No. 123 (SFAS 123), Accounting for Stock-Based Compensation, and
Statement of Financial Accounting Standards No. 148 (SFAS 148), Accounting for
Stock-Based Compensation Transition and Disclosure. The fair value of these
stock-based awards to employees was estimated using the Black-Scholes option
pricing model, assuming no expected dividends and using the following
weighted-average assumptions:
THREE MONTHS ENDED
JANUARY 31,
2003 2002
-------------- ------------
Stock Option Plans
Expected life (in years) 5.1 4.9
Risk-free interest rate 3.0% 4.0%
Volatility 59.1% 59.0%
ESPP
Expected life (in years) 1.25 1.25
Risk-free interest rate 1.4% 2.1%
Volatility 59.1% 59.0%
9
For unaudited pro forma purposes, the estimated fair value of the Company's
stock-based awards to employees is amortized over the options' vesting period
(generally over four years) and the ESPP's look-back period (six-months to two
years). The weighted-average estimated fair value of stock options issued for
the three months ended January 31, 2003 and 2002 was $23.39 and $29.17 per
share, respectively. The weighted-average estimated fair value of share purchase
rights under the ESPP for the three months ended January 31, 2003 and 2002 was
$16.51 and $16.84 per share, respectively. The Company's unaudited pro forma net
income and earnings per share data under SFAS No. 123 is as follows:
THREE MONTHS ENDED JANUARY 31,
---------------------------------
2003 2002
----------------- ---------------
(in thousands, except per share
amounts)
Net income, as reported $ 34,385 $ 14,052
Add: Stock-based employee
compensation included in net income 1,327 --
Deduct: Stock-based employee
compensation expense determined
under the fair value based method
for all awards, net of related tax
effects 38,940 33,668
Pro forma net (loss) under SFAS 123 $ (3,228) $ (19,616)
Earnings (loss) per share-- basic
As reported under APB 25 $ 0.46 $ 0.23
Pro forma under SFAS 123 $ (0.04) $ (0.33)
Earnings (loss) per share-- diluted
As reported under APB 25 $ 0.45 $ 0.22
Pro forma under SFAS 123 $ (0.04) $ (0.33)
NEW ACCOUNTING PRONOUNCEMENTS
In July 2001, the Financial Accounting Standards Board (FASB) issued
Statements of Financial Accounting Standards No. 141 (SFAS 141), Business
Combinations, and Financial Accounting Standards No. 142 (SFAS 142), Goodwill
and Other Intangible Assets. SFAS 141 requires that the purchase method of
accounting be used for all business combinations initiated after June 30, 2001
and specifies criteria intangible assets acquired in a purchase method business
combination must meet to be recognized apart from goodwill. SFAS 141 is
effective for all business combinations completed after June 30, 2001.
The Company adopted SFAS 142 on November 1, 2002. Upon adoption of SFAS
142, amortization of goodwill recorded for business combinations consummated
prior to July 1, 2001 ceased. Intangible assets acquired prior to July 1, 2001
that do not meet the criteria for recognition under SFAS 141 are required to be
reclassified to goodwill; no such reclassifications to goodwill were required.
In addition, upon adoption of SFAS 142, the Company assessed useful lives and
residual values of all intangible assets acquired. The Company also tested
goodwill for impairment in accordance with the provisions of SFAS 142. In
completing its impairment analysis, the Company determined that it has one
reporting unit. In conjunction with the implementation of SFAS No. 142, the
Company has completed a goodwill impairment review as of the beginning of fiscal
2003 and found no indicators of impairment. This impairment review was based on
the fair value of the Company as determined by its market capitalization on the
date of adoption. As of January 31, 2003, unamortized goodwill was $435.8
million, which will no longer be amortized in accordance with SFAS 142.
In July 2001, the FASB issued Statement of Financial Accounting Standards
No. 143 (SFAS 143), Accounting for Asset Retirement Obligations. SFAS 143
requires that asset retirement obligations that are identifiable upon
acquisition, construction or development and during the operating life of a
long-lived asset be recorded as a liability using the present value of the
10
estimated cash flows. A corresponding amount would be capitalized as part of the
asset's carrying amount and amortized to expense over the asset's useful life.
The Company adopted the provisions of SFAS 143 effective November 1, 2002. The
adoption of SFAS 143 did not have a significant impact on the Company's
financial position and results of operations for the three months ended January
31, 2003.
In August 2001, the FASB issued Statement of Financial Accounting Standards
No. 144 (SFAS 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 and supersedes SFAS No. 121, Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of, and
the accounting and reporting provisions of Accounting Principles Board Opinion
No. 30, Reporting the Results of Operations for a Disposal of a Segment of a
Business. The Company adopted the provisions of SFAS 144 effective November 1,
2002. The adoption of SFAS 144 did not have a significant impact on the
Company's financial position and results of operations for the three months
ended January 31, 2003.
In July 2002, the FASB issued Statement of Financial Accounting Standards
No. 146 (SFAS 146), Accounting for Exit or Disposal Activities. SFAS 146
addresses the recognition, measurement, and reporting of costs that are
associated with exit and disposal activities, including costs related to
terminating a contract that is not a capital lease and termination benefits that
employees who are involuntarily terminated receive under the terms of a one-time
benefit arrangement that is not an ongoing benefit arrangement or an individual
deferred-compensation contract. SFAS 146 supersedes Emerging Issues Task Force
Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring) and requires liabilities associated with exit and disposal
activities to be expensed as incurred. SFAS 146 is effective for exit or
disposal activities of the Company that are initiated after December 31, 2002.
The adoption of SFAS 146 did not have a significant impact on the Company's
financial position and results of operations for the three months ended January
31, 2003.
In December 2002, the FASB issued Statement of Financial Accounting
Standards No. 148 (SFAS 148), Accounting for Stock-Based Compensation -
Transition and Disclosure. SFAS 148 amends FASB Statement No. 123 (SFAS 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 148 amends the
disclosure requirements of SFAS 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. The transition guidance and annual disclosure provisions of SFAS 148
are effective for fiscal years ending after December 15, 2002. The interim
disclosure provisions are effective for financial reports containing financial
statements for interim periods beginning after December 15, 2002. The Company
adopted the disclosure provisions of SFAS 148 beginning in the first quarter of
fiscal 2003.
In November 2002, the FASB issued FASB Interpretation No. 45 (FIN 45),
Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others, which clarifies disclosure and
recognition/measurement requirements related to certain guarantees. The
disclosure requirements are effective for financial statements issued after
December 15, 2002 and the recognition/measurement requirements are effective on
a prospective basis for guarantees issued or modified after December 31, 2002.
We typically warrant our products to be free from defects in media and to
substantially conform to material specifications for a period of 90 days. We
also indemnify our customers from third party claims of intellectual property
infringement relating to the use of our products. Historically, costs related to
these guarantees have not been significant and we are unable estimate the
potential impact of these guarantees on our future results of operations.
11
3. BUSINESS COMBINATIONS
Acquisition of Avant! Corporation. On June 6, 2002, the Company completed
its merger with Avant! Corporation (Avant!). Avant! was a leader in the
development of software used in the physical design and physical verification
phases of chip design. As a result of the merger, the Company is now able to
offer a comprehensive array of products for the design and verification of
chips. Under the terms of the merger agreement between Synopsys and Avant!,
Avant! merged with and into a wholly-owned subsidiary of Synopsys. The aggregate
merger consideration, including the fair value of stock issued, was
approximately $1.0 billion, and was determined primarily as a result of
competitive bidding with other potential acquirers. As a result of the merger,
the Company recorded goodwill of $370.5 million which includes an increase to
the value of goodwill as a result of an increase in the value of the contract
termination liabilities of $1.0 million since October 31, 2002. The results of
operations of Avant! are included in the accompanying unaudited condensed
consolidated statement of income for the period from November 1, 2002 through
January 31, 2003.
The following table presents the components of acquisition-related costs
recorded, along with amounts paid through the period ended January 31, 2003.
Balance at Balance at
October 31, January 31,
(in thousands) 2002 Payments 2003
-------------- --------------- --------------
Acquisition related costs $ 3,840 $ 466 $ 3,374
Facilities closure costs 57,261 8,454 48,807
Employee severance costs 290 155 135
-------------- --------------- --------------
Total $ 61,391 $ 9,075 $ 52,316
============== =============== ==============
The remaining acquisition related costs of $3.4 million consist primarily
of legal and accounting fees.
Facilities closure costs at January 31, 2003 include $46.8 million related
to Avant!'s corporate headquarters. After the merger, the functions performed in
the buildings were consolidated into Synopsys' corporate facilities. The lessors
have brought a claim against Avant! for the future amounts payable under the
lease agreements. Synopsys settled certain of the claims of the landlord of two
of these buildings for $7.4 million during the three months ended January 31,
2003. The amount accrued at January 31, 2003 includes an amount equal to the
future amounts payable under the related lease agreements, without taking into
consideration in the accrual any defenses the Company may have to the claim.
Resolution of this contingency at an amount different from that accrued will
result in an increase or decrease in the purchase consideration and the amount
will be allocated to goodwill. The remaining facilities closure costs at the
closing date totaling $2.0 million represents the present value of the future
obligations under certain of Avant!'s lease agreements which the Company has or
intends to terminate under an approved facilities exit plan plus additional
costs expected to be incurred directly related to vacating such facilities.
Acquisition of Co-Design. On September 6, 2002, the Company completed its
acquisition of Co-Design Automation, Inc. (Co-Design), a private company which
was developing simulation software used in the high level verification stage of
the chip design process, and a new design language that permits designers to
describe the behavior of their chips more efficiently than current standard
languages. The aggregate purchase price for Co-Design was $34.3 million, which
was determined principally by competitive bidding with another potential
acquirer. As a result of the merger the Company recorded goodwill of $27.7
million. The results of operations of Co-Design are included in the accompanying
unaudited condensed consolidated statement of income for the period from
November 1, 2002 through January 31, 2003.
Acquisition of inSilicon. On September 20, 2002, the Company completed its
acquisition of inSilicon Corporation (inSilicon), a company that developed,
marketed and licensed an extensive portfolio of complex "intellectual property
blocks", or pre-designed, pre-verified subportions of a chip that can be used as
building blocks for complex systems-on-a-chip, and therefore accelerate the
12
development of such chips. The aggregate purchase price for inSilicon was $74.6
million. As a result of the merger, the Company recorded goodwill of $22.2
million. The results of operations of inSilicon are included in the accompanying
unaudited condensed consolidated statement of income for the period from the
November 1, 2002 through January 31, 2003.
In connection with the acquisition of inSilicon, the Company incurred
acquisition related costs of $6.2 million, consisting primarily of legal and
accounting fees of $1.8 million, and other directly related charges including
contract termination costs of $3.3 million, and restructuring costs of
approximately $0.8 million. As of January 31, 2003, remaining accrued and unpaid
acquisition related costs of $1.2 million consist primarily of outstanding
contract termination costs.
Unaudited Pro Forma Results of Operations. The following table presents
unaudited pro forma results of operations and gives effect to the Avant! and
inSilicon mergers as if the mergers were consummated on November 1, 2001.
Amounts shown for the three-month period ended January 31, 2003 are the combined
Company's actual results of operations. The 2002 unaudited pro forma results of
operations do not include the effect of the Co-Design merger as such effect is
not material. The unaudited pro forma results of operations are not necessarily
indicative of the results of operations had the Avant! and inSilicon mergers
actually occurred at the beginning of fiscal 2002, nor is it necessarily
indicative of future operating results:
THREE MONTHS ENDED
JANUARY 31,
-------------------------------------
2003 2002
----------------- -------------------
(in thousands, except per share
amounts)
Revenue $ 268,136 $ 288,508
Net income $ 34,385 $ 28,056
Basic earnings per share $ 0.46 $ 0.38
Weighted average common shares
outstanding 74,065 74,666
Diluted earnings per share $ 0.45 $ 0.35
Weighted average common shares
and dilutive stock options
outstanding 76,639 79,376
The unaudited pro forma results of operations for each of the periods
presented exclude non-recurring merger costs of $21.0 million for Avant!'s
pre-merger litigation settlement and other related costs incurred by Avant! for
the three months ended January 31, 2002. These expenses are included in the
historical unaudited condensed consolidated statement of income. In addition,
the unaudited pro forma results of operations for 2002, do not reflect the
reduction in Avant!'s reported deferred revenue as required under the purchase
method of accounting. This reduction results in lower revenue in periods
subsequent to the merger than would have been achieved if the two companies had
not been combined.
13
4. GOODWILL AND OTHER INTANGIBLE ASSETS, NET
The following table presents a rollforward of the carrying value of
goodwill and other intangibles, net from October 31, 2002 to January 31, 2003:
Amortization Balance at Balance at
Period October 31, January 31,
(in thousands) (Years) 2002 Additions(1) Amortization 2003
------------- --------------- --------------- -------------- --------------
Goodwill $ 434,554 $ 1,213 $ -- $ 435,767
Intangibles:
Contract rights intangible 3 $ 44,519 $ -- $ 4,308 $ 40,211
Core/developed technology 3-10 186,766 -- 17,226 169,540
Covenant not-to-compete 4 8,152 -- 569 7,583
Customer backlog 3 3,267 -- 158 3,109
Customer relationship 6 95,782 -- 4,276 91,506
Trademark and tradename 3 15,242 -- 1,475 13,767
Capitalized research and
development costs 2 1,606 654 324 1,936
--------------- --------------- -------------- --------------
Total intangible assets $ 355,334 $ 654 $ 28,336 $ 327,652
=============== =============== ============== ==============
(1) - Additions include amounts related to foreign currency fluctuations
for goodwill which is not denominated in US dollars and $1.0 million of
contract termination costs.
Total amortization expense related to goodwill and other intangible assets
is set forth in the table below:
THREE MONTHS ENDED
JANUARY 31,
------------------------------
2003 2002
------------------------------
(in thousands)
Goodwill $ -- $ 3,892
Intangibles:
Contract rights intangible $ 4,308 $ --
Core/developed technology 17,226 152
Covenant not-to-compete 569 --
Customer backlog 158 --
Customer relationship 4,276 --
Trademark and tradename 1,475 --
Capitalized research and
development costs 324 305
-------------- ---------------
Total intangible assets $ 28,336 $ 457
============== ===============
The following table presents the estimated future amortization of the other
intangibles (in thousands):
Fiscal Year
2003 - remainder of fiscal year $ 87,274
2004 112,874
2005 77,122
2006 19,727
2007 and thereafter 30,655
--------------
Total estimated future amortization of
other intangibles $ 327,652
===============
14
The adjusted net loss per share excluding amortization of goodwill, as if
SFAS 142 was adopted as of July 1, 2001, is included in the table below. Amounts
shown for the three month period ended January 31, 2003 are the Company's actual
results of operations.
THREE MONTHS ENDED
JANUARY 31,
-------------------------------------
2003 2002
----------------- -------------------
(in thousands, except per share
amounts)
Net income $ 34,385 $ 14,052
Add: Amortization of goodwill -- 3,892
----------------- -------------------
Adjusted net income $ 34,385 $ 17,944
================= ==================
Basic earnings per share $ 0.46 $ 0.30
Weighted average common shares outstanding 74,065 60,136
Diluted earnings per share $ 0.45 $ 0.28
Weighted average common shares and dilutive stock
options outstanding 76,639 65,011
5. STOCK REPURCHASE PROGRAM
In December 2002, the Company's Board of Directors renewed its stock
repurchase program originally approved in July 2001. Under the renewed program,
Synopsys common stock with a market value up to $500 million may be acquired in
the open market. This renewed stock repurchase program replaced all prior
repurchase programs authorized by the Board. Common shares repurchased are
intended to be used for ongoing stock issuances such as existing employee stock
option and stock purchase plans and acquisitions. During the three months ended
January 31, 2003 and 2002, the Company did not repurchase any common shares.
6. COMPREHENSIVE INCOME
The following table sets forth the components of comprehensive income, net
of income tax expense:
THREE MONTHS ENDED
JANUARY 31,
-----------------------------
2003 2002
-------------- --------------
(in thousands)
Net income $ 34,385 $ 14,052
Foreign currency translation
adjustment (778) 2,595
Unrealized gain on foreign
exchange contracts 13,786 --
Unrealized (loss) gain on
investments (3,991) 5,644
Reclassification adjustment
for realized gains (losses) on
investments 2,298 (2,969)
-------------- --------------
Total comprehensive income $ 45,700 $ 19,322
============== ==============
15
7. EARNINGS PER SHARE
Basic earnings per share is computed using the weighted-average number of
common shares outstanding during the period. Diluted earnings per share is
computed using the weighted-average number of common shares and dilutive stock
options outstanding during the period. The weighted-average dilutive stock
options outstanding is computed using the treasury stock method.
The following is a reconciliation of the weighted-average common shares
used to calculate basic net income per share to the weighted-average common
shares used to calculate diluted net income per share:
THREE MONTHS ENDED
JANUARY 31,
-------------------------------
2003 2002
--------------- ---------------
(in thousands)
Weighted-average common shares for basic
net income per share 74,065 60,136
Weighted-average dilutive stock options
outstanding under the treasury stock
method 2,574 4,875
--------------- ---------------
Weighted-average common shares for
diluted net income per share 76,639 65,011
=============== ===============
The effect of dilutive stock options outstanding excludes approximately 9.9
million and 3.3 million stock options for the three months ended January 31,
2003 and 2002, respectively, which were anti-dilutive for net income per share
calculations.
8. SEGMENT DISCLOSURE
Statement of Financial Accounting Standards No. 131 (SFAS 131), Disclosures
about Segments of an Enterprise and Related Information, requires disclosures of
certain information regarding operating segments, products and services,
geographic areas of operation and major customers. The method for determining
what information to report under SFAS 131 is based upon the "management
approach," or the way that management organizes the operating segments within a
Company for which separate financial information is available that is evaluated
regularly by the Chief Operating Decision Maker (CODM) in deciding how to
allocate resources and in assessing performance. Synopsys' CODM is the Chief
Executive Officer and Chief Operating Officer.
The Company provides comprehensive design software products and consulting
services in the electronic design automation software industry. The CODM
evaluates the performance of the Company based on profit or loss from operations
before income taxes not including merger-related costs, in-process research and
development and amortization of intangible assets. For the purpose of making
operating decisions, the CODM primarily considers financial information
presented on a consolidated basis accompanied by disaggregated information about
revenues by geographic region. Revenue is defined as revenues from external
customers.
16
Revenue and long-lived assets related to operations in the United States
and other geographic areas are as follows:
THREE MONTHS ENDED
JANUARY 31,
---------------------------------
2003 2002
---------------- ----------------
(in thousands)
Revenue:
United States $ 166,122 $ 108,709
Europe 42,289 34,068
Japan 32,896 17,018
Other 26,829 15,750
---------------- ----------------
Consolidated $ 268,136 $ 175,545
================ ================
JANUARY 31, OCTOBER 31,
2003 2002
---------------- -----------------
(in thousands)
Long-lived assets:
United States $ 158,820 $ 162,360
Other 23,634 22,680
---------------- -----------------
Consolidated $ 182,454 $ 185,040
================ =================
Geographic revenue data for multi-region, multi-product transactions
reflect internal allocations and is therefore subject to certain assumptions and
to the Company's methodology. Beginning in fiscal 2003, geographic revenue
reflects reconfiguration. The Company had one customer, Intel Corporation, that
accounted for more than ten percent of the Company's total revenue for the three
months ended January 31, 2003. Intel's Chief Financial and Enterprise Services
Officer serves on the Synopsys Board of Directors. Company management believes
the transactions between the two parties were carried out under the Company's
normal terms and conditions. No one customer accounted for more than ten percent
of the Company's total revenue for the same period in the prior year.
The Company segregates revenue into five categories for purposes of
internal management reporting: Design Implementation, Verification and Test,
Design Analysis, Intellectual Property (IP) and Professional Services. The
following table summarizes the revenue attributable to each of the various
categories. Revenue attributable to products acquired from Avant!, inSilicon and
Co-Design that was recognized by the acquired companies prior to the respective
acquisition date is not reflected in the three months ended January 31, 2002.
Revenue attributable to such acquired products is included in the three months
ended January 31, 2003. Due to a business unit reorganization in the first
quarter of fiscal 2003, products were realigned with the majority of the shift
occurring between IP and Verification and Test. Prior period amounts have been
reclassified to conform to the new presentation.
THREE MONTHS ENDED
JANUARY 31,
---------------------------------
2003 2002
----------------- ---------------
(in thousands)
Revenue:
Design Implementation $ 116,385 $ 70,523
Verification and Test 70,680 65,765
Design Analysis 53,664 10,618
IP 15,772 14,797
Professional Services 11,635 13,842
----------------- ---------------
Consolidated $ 268,136 $ 175,545
================= ===============
Beginning in fiscal 2003, product revenue reflects reconfiguration.
17
9. DEFERRED STOCK COMPENSATION
In connection with the mergers which occurred in fiscal 2002, the Company
also assumed unvested stock options held by Avant!, inSilicon and Co-Design
employees. The Company recorded deferred stock compensation totaling $8.1
million, $1.7 million and $0.7 million based on the intrinsic value of these
assumed unvested stock options for Avant!, inSilicon and Co-Design,
respectively. The deferred stock compensation is amortized over the options'
remaining vesting period of one to three years. During the three months ended
January 31, 2003, the Company recorded amortization of deferred stock
compensation of $1.3 million. Had the Company allocated the amortization, such
allocation would have been recorded in the following expense classifications:
(in thousands)
Cost of revenue $ 136
Research and development 847
Sales and marketing 283
General and administrative 61
-------------
Subtotal 1,191
Total $ 1,327
=============
There was no deferred stock compensation recorded during the three months
ended January 31, 2002.
10. ACQUISITION OF NUMERICAL TECHNOLOGIES, INC.
On January 13, 2003, the Company entered into an Agreement and Plan of
Merger with Numerical Technologies, Inc. (Numerical) under which the Company
commenced a cash tender offer to acquire all of the outstanding shares of
Numerical common stock at $7.00 per share, followed by a second-step merger in
which the Company would acquire any untendered Numerical shares at the same
price per share. Following the consummation of the cash tender offer on February
28, 2003, Numerical merged with and into a wholly owned subsidiary of Synopsys,
effective March 1, 2003. The cash consideration value is approximately $240
million. The Company acquired Numerical in order to expand its offerings of
design for manufacturing products.
18
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion contains forward-looking statements within the
meaning of Section 21E of the Securities Exchange Act of 1934. For example,
statements including terms such as "projects," "expects," "believes,"
"anticipates" or "targets" are forward-looking statements. Actual results could
differ materially from those anticipated in such forward-looking statements as a
result of certain factors, including those set forth under "Factors That May
Affect Future Results."
CRITICAL ACCOUNTING POLICIES
The discussion and analysis of our financial condition and results of
operations is based upon our unaudited condensed consolidated financial
statements, which have been prepared in accordance with accounting principles
generally accepted in the United States of America. The preparation of these
financial statements requires management to make estimates and judgments that
affect the reported amounts of assets, liabilities, revenues and expenses and
related disclosure of contingent assets and liabilities. On an on-going basis,
we evaluate our estimates, including those related to revenue recognition, bad
debts, investments, intangible assets and income taxes. Our estimates are based
on historical experience and on various other assumptions we believe are
reasonable under the circumstances. Actual results may differ from these
estimates.
The accounting policies described below are those that most frequently
require us to make estimates and judgments, and are therefore critical to
understanding our results of operations.
Revenue Recognition. Our revenue recognition policy is detailed in Note 2
of the Notes to Unaudited Condensed Consolidated Financial Statements.
Management has made significant judgments related to revenue recognition;
specifically, in connection with each transaction involving our products
(referred to as an "arrangement" in the accounting literature), we must evaluate
whether our fee is "fixed or determinable" and we must assess whether
"collectibility is probable". These judgments are discussed below.
The Fee is Fixed or Determinable. With respect to each arrangement, we must
make a judgment as to whether the arrangement fee is fixed or determinable. If
the fee is fixed or determinable, then revenue is recognized upon delivery of
software (assuming other revenue recognition criteria are met). If the fee is
not fixed or determinable, then the revenue recognized in each quarter (subject
to application of other revenue recognition criteria) will be the lesser of the
aggregate of amounts due and payable or the amount of the arrangement fee that
would have been recognized if the fees had been fixed or determinable.
Except in cases where we grant extended payment terms to a specific
customer, we have determined that our fees are fixed or determinable at the
inception of our arrangements based on the following:
o The fee our customers pay for our products is negotiated at the outset
of an arrangement and is generally based on the specific volume of
products to be delivered.
o Our license fees are not a function of variable-pricing mechanisms
such as the number of units distributed or copied by the customer or
the expected number of users of the product delivered.
A determination that an arrangement fee is fixed or determinable also
depends upon the payment terms relating to such an arrangement. Our customary
payment terms - supported by historical practice - require that a minimum of 75%
of the arrangement fee is due within one year or less. Arrangements with payment
terms extending beyond the customary payment terms are considered not to be
fixed or determinable. A determination of whether the arrangement fee is fixed
or determinable is particularly relevant to revenue recognition on perpetual
licenses.
Collectibility is Probable. In order to recognize revenue, we must make a
judgment of the collectibility of the arrangement fee. Our judgment of the
collectibility is applied on a customer-by-customer basis pursuant to our credit
review policy. We typically sell to customers for which there is a history of
19
successful collection. New customers are subjected to a credit review process,
which evaluates the customers' financial positions and ability to pay. New
customers are typically assigned a credit limit based on a formulated review of
their financial position. Such credit limits are only increased after a
successful collection history with the customer has been established. If it is
determined from the outset of an arrangement that collectibility is not probable
based upon our credit review process, revenue is recognized on a cash-collected
basis.
Valuation of Strategic Investments. As of January 31, 2003, the adjusted
cost of our strategic investments, excluding $10.3 million of net unrealized
gains and amortization of equity forwards, totaled $20.1 million. We review our
investments in non-public companies on a quarterly basis and estimate the amount
of any impairment incurred during the current period based on specific analysis
of each investment, considering the activities of and events occurring at each
of the underlying portfolio companies during the quarter. Our portfolio
companies operate in industries that are rapidly evolving and extremely
competitive. For equity investments in non-public companies where there is not a
market in which their value is readily determinable, we assess each investment
for indicators of impairment at each quarter end based primarily on achievement
of business plan objectives and current market conditions, among other factors,
and information available to us at the time of this quarterly assessment. The
primary business plan objectives we consider include achievement of planned
financial results, completion of capital raising activities, the launching of
technology, the hiring of key employees and overall progress on the portfolio
company's business plan. If it is determined that an impairment has occurred
with respect to an investment in a portfolio company, in the absence of
quantitative valuation metrics, management estimates the impairment and/or the
net realizable value of the portfolio investment based on public- and
private-company market comparable information and valuations completed for
companies similar to our portfolio companies. Based on these measurements,
impairment losses aggregating $1.0 million were recorded during the three months
ended January 31, 2003. No impairment losses were recorded during the same
period in the prior fiscal year. Future adverse changes in market conditions,
poor operating results of underlying investments and other information obtained
after our quarterly assessment could result in additional losses or an inability
to recover the current carrying value of the investments thereby requiring a
further impairment charge in the future.
Valuation of Intangible Assets. Intangible assets, net of accumulated
amortization, totaled $327.7 million as of January 31, 2003. We periodically
evaluate our intangible assets for indications of impairment whenever events or
changes in circumstances indicate that the carrying value may not be
recoverable. Intangible assets consist of purchased technology, contract rights
intangible (as defined under Note 2 of the Notes to Unaudited Condensed
Consolidated Financial Statements), customer installed base/relationship,
trademarks and tradenames, covenants not to compete, customer backlog and
capitalized software. Factors we consider important which could trigger an
impairment review include significant under-performance relative to expected
historical or projected future operating results, significant changes in the
manner of our use of the acquired assets or the strategy for our overall
business or significant negative industry or economic trends. If this evaluation
indicates that the value of the intangible asset may be impaired, an assessment
of the recoverability of the net carrying value of the asset over its remaining
useful life is made. If this assessment indicates that the intangible asset is
not recoverable, based on the estimated undiscounted future cash flows of the
acquired entity or technology over the remaining amortization period, the net
carrying value of the related intangible asset will be reduced to fair value and
the remaining amortization period may be adjusted. Any such impairment charge
could be significant and could have a material adverse effect on our reported
financial statements. Based on these measurements, no impairment losses were
recorded during the three months ended January 31, 2003 and 2002.
Allowance For Doubtful Accounts. As of January 31, 2003, our allowance for
doubtful accounts totaled $11.3 million. Management estimates the collectibility
of our accounts receivable on an account-by-account basis. In addition, we
provide for a general reserve on all accounts receivable, using a specified
percentage of the outstanding balance in each aged group. Management
specifically analyzes accounts receivable and historical bad debt experience,
customer creditworthiness, current economic trends, international exposures
(such as currency devaluation), and changes in our customer payment terms when
20
evaluating the adequacy of the allowance for doubtful accounts. 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. During
each of the three month periods ended January 31, 2003 and 2002, write-offs (net
of recoveries) totaled $0.5 million.
Income Taxes. Our effective tax rate is directly affected by the relative
proportions of our domestic and foreign revenue and income. We are also subject
to changing tax laws in the multiple jurisdictions in which we operate. As of
January 31, 2003, current net deferred tax assets and long-term liabilities
totaled $288.9 million and $10.7 million, respectively. We believe that it is
more likely than not that the results of future operations will generate
sufficient taxable income to utilize these net deferred tax assets. While we
have considered future taxable income and ongoing prudent and feasible tax
planning strategies in assessing the need for any valuation allowance, should we
determine that we would not be able to realize all or part of our net deferred
tax assets in the future, an adjustment to the deferred tax assets would be
charged to income in the period such determination was made. A change in the
deferred tax liabilities may result in an adjustment to goodwill in the period
such determination is made.
RESULTS OF OPERATIONS
Mergers and Acquisitions. On June 6, 2002, we completed our merger with
Avant!, a leader in the development of software used in the physical design and
physical verification phases of chip design. As a result of the merger, we are
now able to offer a comprehensive array of products for the design and
verification of chips. The aggregate merger consideration, including the fair
value of stock issued, was approximately $1.0 billion, and was determined
primarily as a result of competitive bidding with other potential acquirers. As
a result of the merger, we recorded goodwill of $370.5 million. The results of
operations of Avant! are included in the accompanying unaudited condensed
consolidated statement of income for the period from November 1, 2002 through
January 31, 2003.
On September 6, 2002, we completed our acquisition of Co-Design, a private
company which was developing simulation software used in the high level
verification stage of the chip design process, and a new design language that
permits designers to describe the behavior of their chips more efficiently than
current standard languages. The aggregate purchase price for Co-Design was $34.3
million, which was determined principally by competitive bidding with another
potential acquirer. As a result of the merger we recorded goodwill of $27.7
million. The results of operations of Co-Design are included in the accompanying
unaudited condensed consolidated statement of income for the period from
November 1, 2002 through January 31, 2003.
On September 20, 2002, we completed our acquisition of inSilicon, a company
that developed, marketed and licensed an extensive portfolio of complex
"intellectual property blocks", or pre-designed, pre-verified subportions of a
chip that can be used as building blocks for complex systems-on-a-chip, and
therefore accelerate the development of such chips. The aggregate purchase price
for inSilicon was $74.6 million. As a result of the merger, we recorded goodwill
of $22.2 million. The results of operations of inSilicon are included in the
accompanying unaudited condensed consolidated statement of income for the period
from the November 1, 2002 through January 31, 2003.
Revenue. Revenue consists of fees for perpetual and ratable licenses of our
software products, post-contract customer support (PCS), customer training and
consulting. We classify revenues as product, service or ratable license. Product
revenue consists primarily of perpetual software licenses. Service revenue
consists of PCS under perpetual licenses and fees for consulting services and
training. Ratable license revenue consists of all revenue from our TSLs and from
time-based licenses sold prior to the adoption of TSLs in August 2000 that
include extended payment terms or unspecified additional products.
Adoption of Subscription Licenses; Impact on Revenue. In the fourth quarter
of fiscal 2000 we introduced a new type of license called a technology
subscription license. A TSL is a license to use one or more of our software
products, and to receive support services (such as hotline support and updates)
for a limited period of time. Since TSLs include bundled products and services,
both product and service revenue is generally recognized ratably over the term
of the license, or, if later, as payments become due. The terms of TSLs, and the
payments due thereon, may be structured flexibly to meet the needs of the
customer.
21
In certain situations, customers have limited rights to new technology through
reconfiguration clauses under their agreements.
Prior to the adoption of TSLs, we sold perpetual licenses and "term"
licenses (a type of time-based license). Under these types of licenses, software
support is purchased separately. Revenue from the license sale is generally
recognized in the quarter that the product is shipped (or "upfront") and revenue
from software support is recognized ratably over the support period. Term
licenses were discontinued when TSLs were introduced.
Due to the different treatment of TSLs and perpetual/term licenses under
applicable accounting rules, each type of license has a different impact on our
financial statements. When a customer buys a TSL, relatively little revenue is
recognized during the quarter the product is initially delivered. The remaining
amount not recognized will either be recorded as deferred revenue on our balance
sheet or considered operational or financial backlog by us and not recorded on
the balance sheet. The amount recorded as deferred revenue is equal to the
portion of the license fee that has been invoiced or paid but not recognized.
The amount considered backlog moves out of backlog and is recorded as deferred
revenue or recognized as invoiced or as additional payments are made. Deferred
revenue is reduced as revenue is recognized. Under perpetual licenses (and term
licenses), a high proportion of all license revenue is recognized in the quarter
that the product is delivered, with relatively little recorded as deferred
revenue or as backlog. Therefore, an order for a TSL will result in
significantly lower current-period revenue than an equal-sized order under the
prior form of time-based licenses. Conversely, an order for a TSL will result in
higher revenues recognized in future periods than an equal-sized order for a
perpetual or term license. For example, a $120,000 order for a perpetual license
will result in $120,000 of revenue recognized in the quarter the product is
shipped and no revenue in future quarters. The same order for a 3-year TSL
shipped at the beginning of the quarter will result in $10,000 of revenue
recognized in the quarter the product is shipped and in each of the 11
succeeding quarters.
On an aggregate basis, the introduction of TSLs has had, and will continue
to have, a significant impact on our reported revenue and on our balance sheet.
In the quarter immediately following the adoption of TSLs, reported revenue
dropped significantly. In each quarter since adoption, ratable revenue has
grown, as TSL orders received in each quarter contribute revenue that is
"layered" over the revenue recognized from TSL orders received in prior
quarters. This effect will repeat itself each quarter in varying degrees until
the TSL model is fully phased in; during this transition period ratable revenue
will continue to grow even if the overall level of TSL orders does not grow, and
could grow even if the overall level of TSL orders declines. The phase in period
of the TSL model is difficult to predict. Since our introduction of TSLs, the
average TSL duration has been approximately 13 quarters. Therefore, absent any
acquisitions, the model would be substantially phased in approximately 3.25
years following the adoption of the model. The phase in period has been extended
by the acquisition of Avant! and will be extended to some extent by any future
acquisitions we make of companies whose license mix is more heavily weighted
toward perpetual licenses than ours. Over the long term, as the TSL model
becomes more fully phased in, average revenue growth will closely track average
orders growth.
Synopsys' license revenue in any given quarter is dependent upon the volume
of perpetual orders shipped during the quarter, the amount of TSL revenue
amortized from deferred revenue, or recognized out of backlog from TSL licenses
shipped during a prior quarter and, to a small degree, the amount of revenue
recognized on TSL orders received during the quarter. We set our revenue targets
for any given period based, in part, upon an assumption that we will achieve a
certain level of orders and a certain license mix of perpetual licenses and
TSLs. The precise mix of orders is subject to substantial fluctuation in any
given quarter or multiple quarter periods, and the actual mix of licenses sold
affects the revenue we recognize in the period. If we achieve the target level
of total orders but are unable to achieve our target license mix, we may not
meet our revenue targets (if we deliver more than expected TSLs) or may exceed
them (if we deliver more than expected perpetuals). If we achieve the target
license mix but the overall level of orders is below the target level, then we
will not meet our revenue targets.
The precise mix of orders is subject to substantial fluctuation in any
given quarter or multiple quarter periods. Our historical license order mix from
August 2000 to the present (i.e., since our adoption of TSLs), has been 22%
22
perpetual licenses and 78% ratable licenses. In the first quarter of fiscal
2003, the license mix was approximately 13% perpetual licenses and 87% TSLs, in
comparison to 28% perpetual licenses and 72% TSLs in the first quarter of fiscal
2002. Our target license mix for new software orders for the second quarter of
fiscal year 2003 is 22% to 27% perpetual licenses and 73% to 78% ratable
licenses. Our target license mix for new software orders for fiscal year 2003 is
20% to 25% perpetual licenses and 75% to 80% ratable licenses.
Revenue. Total revenue for the three months ended January 31, 2003
increased 53% to $268.1 million as compared to $175.5 million for the same
period in the prior fiscal year. The increase in total revenue is primarily due
to the Avant! acquisition in June 2002 and to the additional quarters that the
TSL license model has been in effect.
Product revenue for the three months ended January 31, 2003 increased 38%
to $54.5 million as compared to $39.6 million for the same period in the prior
fiscal year. The increase in product revenue is primarily due to an increase in
perpetual licenses delivered during the period as compared to the same period
last year reflecting the increased volume of perpetual licenses resulting from
the Avant! merger. During the second quarter of 2002, we began offering variable
maintenance arrangements to certain customers that entered into perpetual
license technology arrangements in excess of $2.0 million. Under these
arrangements, the annual fee for post-contract customer support (PCS) is
calculated as a percentage of the net license fee rather than a fixed percentage
of the list price, which results in a lower cost for PCS for our customers.
Service revenue for the three months ended January 31, 2003 increased 5% to
$72.4 million as compared to $69.1 million for the same period in the prior
fiscal year. The increase in service revenue is primarily due to the recognition
of PCS revenue acquired in the merger with Avant! in June 2002. Notwithstanding
the positive impact of the Avant! PCS contracts on the first quarter, service
revenue has been and will continue to be negatively affected by a number of
factors which the Company believes will lead to a decline in service revenue in
fiscal 2003 as compared to fiscal 2002. First, our new licenses are
predominately TSLs rather than perpetual licenses. Time-based licenses formerly
sold by the Company are expiring and being renewed as TSLs, and in some cases,
customers with existing perpetual licenses are entering into new TSLs rather
than renewing the PCS on the existing perpetual licenses. In each case, revenue
attributable to PCS that otherwise would have been reflected in service revenue
is now reflected in ratable license revenue. Third, the rate charged for PCS on
perpetual licenses with technology commitments in excess of $2.0 million is
lower than the rate charged for PCS under a perpetual license with fixed
maintenance rates resulting in relatively less PCS revenue on an order for a
perpetual with a variable maintenance charge. Service revenue has also been and
will continue to be negatively affected by economic conditions. Some customers
have sought to reduce their costs by curtailing their use of outside consultants
or by discontinuing maintenance on their perpetual licenses. As a result, we
have received a lower volume of new consulting orders and maintenance renewal
orders than expected. Customer expenditures on training have also been reduced,
which has accordingly reduced revenue from training. These conditions are
expected to continue at least until research and development spending by the
semiconductor industry returns to historic levels of growth.
Ratable license revenue for the three months ended January 31, 2003
increased 111% to $141.2 million as compared to $66.9 million for the same
period in the prior fiscal year. The increase in ratable license revenue is due
to the additional quarters that the TSL license model has been used and the
increased volume of ratable licenses resulting from the Avant! merger.
Revenue Seasonality. Our revenue is seasonal. In general, revenue in the
first quarter of our fiscal year is the lowest of any quarter, and revenue in
the fourth quarter is the largest of any quarter, with revenue in the second and
third quarters roughly in the middle of the first and fourth quarters. This
seasonal pattern may be attributed to a variety of factors, including customer
buying patterns, the timing of major contract renewals and sales compensation
incentives.
Revenue - Product Groups. For management reporting purposes, our products
have been organized into four distinct product groups - Design Implementation,
Verification and Test, Design Analysis, Intellectual Property (IP) - and a
services group - Professional Services. The following table summarizes the
23
revenue attributable to the various groups as a percentage of total Company
revenue for the last eight quarters. Revenue attributable to products acquired
from Avant! that was recognized by Avant! prior to June 6, 2002 is not reflected
in the following tables. Revenue attributable to such products on or after June
6, 2002 is included in the table. As a result of the Avant! merger, we redefined
our product groups, effective in the third quarter of fiscal 2002. Prior period
amounts have been reclassified to conform to the new presentation.
Q1-2003 Q4-2002 Q3-2002 Q2-2002 Q1-2002 Q4-2001 Q3-2001 Q2-2001
---------- --------- ---------- --------- ---------- ---------- --------- ----------
Revenue
Design Implementation 44% 46% 44% 42% 40% 42% 39% 39%
Verification and Test 26 26 27 34 38 34 34 32
Design Analysis 20 19 17 6 6 6 6 5
IP 6 5 5 9 8 9 10 9
Professional Services 4 4 7 9 8 9 11 15
---------- --------- ---------- --------- ---------- ---------- --------- ----------
Total Company 100% 100% 100% 100% 100% 100% 100% 100%
========== ========= ========== ========= ========== ========== ========= ==========
Design Implementation. Design Implementation includes products used to
design a chip from a high level functional description to a complete description
of the transistors and connections that implement such functions that can be
delivered to a semiconductor company for manufacturing. Design Implementation
technologies include logic synthesis, physical synthesis, floor planning and
place-and-route products and technologies. The principal products in this
category at January 31, 2003 are Design Compiler, Physical Compiler, Chip
Architect, Floorplan Compiler, Jupiter, Apollo and Astro. As a percentage of
total revenue, Design Implementation fluctuated between 39% and 46% in the
period from the second quarter of fiscal 2001 through the first quarter of
fiscal 2003, and exhibited a generally increasing trend from the first quarter
of fiscal 2001 through the fourth quarter of fiscal 2002. This trend reflects
the Company's growing portfolio of Design Implementation products during the
period, most notably the introduction of Physical Compiler and, with the Avant!
merger, the addition of Apollo and Astro. We believe that the decrease in
contribution between the fourth quarter of fiscal 2002 and the first quarter of
fiscal 2003 represents a normal fluctuation based on the configuration of
perpetual orders received during the quarter.
Verification and Test. Verification and Test includes products used for
verification and analysis performed at the system level, register transfer level
and gate level of design, including simulation, system level design and
verification, timing analysis, formal verification, test and related products.
The principal products in this category are VCS, Polaris, Vera, PathMill,
CoCentric System Studio, PrimeTime, Formality, Design Verifyer, DFT Compiler and
TetraMax, which are used in several different phases of chip design. As a
percentage of total revenue, revenue from this product family fluctuated between
32% and 38% in the period from the second quarter of fiscal 2001 through the
second quarter of fiscal 2002, principally attributable to the mix of perpetual
versus TSL orders received for Verification and Test products during any given
quarter. Beginning in the third quarter of fiscal 2002, Verification and Test
revenues as a percent of total Company revenue were lower, principally because
the Verification and Test product group does not include many products acquired
from Avant!.
Design Analysis. Design Analysis includes products used for verification
and analysis performed principally during the physical verification phase of
chip design, including analog and mixed signal circuit simulation, design rule
checking, power analysis, customer design, semiconductor process modeling and
reliability analysis. The principal products in this category are NanoSim,
StarSim, HSPICE, StarRC, Arcadia, TCAD, Hercules, Venus, Proteus, Optical
Proximity Correction, PrimePower and Cosmos. During the third quarter of fiscal
2002, revenue from this product group as a percentage of total revenue increased
from a steady level of 6% to 17% primarily due to the Avant! acquisition, as the
second largest portion of Avant!'s revenue was derived from products that were
added to the Design Analysis category. The continued increase in contribution
from these products since that quarter reflects the growing importance of design
analysis technologies in addressing customers' design challenges and the
emphasis of additional sales of these products by Synopsys after the merger with
Avant!
24
Intellectual Property. Our IP products include the DesignWare library of
design components and verification models and the products acquired in the
merger with inSilicon in September 2002. As a percentage of total revenue,
revenue from this product group was relatively stable from the second quarter of
fiscal 2001 through the second quarter of fiscal 2002 reflecting growth
consistent with our average. Beginning in the third quarter of fiscal 2002, IP
revenue as a percentage of total revenue decreased principally because the IP
product group does not include many products acquired from Avant!
Professional Services. The Professional Services group includes consulting
and training activities. This group provides consulting services, including
design methodology assistance, specialized telecommunications systems design
services and turnkey design. As a percentage of total revenue, revenue from this
product group has declined from 15% in the second quarter of fiscal 2001 to 4%
in the first quarter of fiscal 2003, reflecting the fact that Avant! did not
have a significant professional services business and, as described above under
"Revenue", the impact of the economic environment.
Cost of Revenue. Cost of revenue consists of the cost of product revenue,
cost of service revenue, cost of ratable license revenue and amortization of
intangible assets and deferred stock compensation. Cost of product revenue
includes personnel and related costs, production costs, product packaging,
documentation, and amortization of capitalized software development costs and
purchased technology. The cost of internally developed capitalized software is
amortized on a straight-line basis over the software's estimated economic life
of approximately two years. Cost of service revenue includes consulting
services, personnel and related costs associated with providing training and PCS
on perpetual licenses. Cost of ratable license revenue includes the costs of
product and services related to our TSLs (TSLs include bundled product and
services). Cost of product revenue, cost of service revenue and cost of ratable
license revenue during any period are heavily dependent on the mix of software
orders received during such period.
Cost of revenue amortization of intangible assets and deferred stock
compensation includes the amortization of the contract rights intangible
associated with certain executory contracts related to the acquisitions of
Avant! Corporation and inSilicon Corporation, and the amortization of
core/developed technology acquired in the Avant!, inSilicon and Co-Design
mergers. Total amortization of intangible assets included in cost of revenues
for the first quarter of fiscal 2003 was $19.9 million which includes $15.5
million and $4.4 million for core developed technology and contract rights
intangible, respectively.
Total cost of revenue as a percentage of total revenue for the three months
ended January 31, 2003 was 22% as compared to 20% for the same period in fiscal
2002. Excluding amortization of intangible assets and deferred stock
compensation, cost of revenue as a percentage of total revenue decreased due to
the increase in quarterly amortization of deferred revenue and backlog, which is
an inherent result of the use of the ratable license model and due to the fact
that other cost of goods sold components remained relatively stable. Our total
product costs are relatively fixed and do not fluctuate significantly with
changes in revenue or changes in revenue recognition methods. The dollar
increase in total cost of revenue to $58.5 million for the three months ended
January 31, 2003 as compared to $35.2 million for the same period in the prior
fiscal year is due to increases of $19.9 million in amortization of contract
rights intangible and core/developed technology recorded as a result of the
mergers occurring in fiscal 2002, $1.5 million in additional royalties and $1.2
million in other special termination benefits, as discussed below.
25
Work Force Reduction. In the first quarter of fiscal 2003, the Company
implemented a workforce reduction. The purpose was to reduce expenses by
decreasing the number of employees in all departments in domestic and foreign
locations. As a result, our workforce was decreased by approximately 200
employees and a charge of approximately $4.4 million is included in operating
expenses for the three months ended January 31, 2003. The charge consists of
severance and other special termination benefits and is reflected in the
unaudited condensed consolidated statement of income as follows:
(in thousands)
Cost of revenue $ 1,167
Research and development 1,388
Sales and marketing 1,239
General and administrative 630
--------------
Total $ 4,424
==============
Research and Development. Research and development expenses for the three
months ended January 31, 2003 increased 38% to $67.3 million as compared to
$48.7 million for the same period in the prior fiscal year. The increase in
expenses is due to increases of $9.1 million in personnel and related costs as a
result of an increase in research and development headcount due to the Avant!
acquisition in June 2002, $7.5 million in human resources, technology and
facilities costs as a result of increased research and development staffing and
$1.4 million in restructuring costs as a result of the workforce reduction in
January 2003.
Sales and Marketing. Sales and marketing expenses for the three months
ended January 31, 2003 increased 19% to $71.2 million as compared to $59.8
million for the same period in the prior fiscal year. The increase in expenses
is due to increases of $11.1 million in personnel and related costs as a result
of an increase in sales and marketing headcount due to the Avant! acquisition in
June 2002 and $1.2 million in restructuring costs as a result of the workforce
reduction in January 2003. These increases were offset by decreases of $1.3
million in human resources, technology and facilities costs as a result of a
decrease in sales and marketing headcount as a percentage of total headcount
General and Administrative. General and administrative expenses for the
three months ended January 31, 2003 increased 21% to $22.6 million as compared
to $18.7 million for the same period in the prior fiscal year. The increase in
expenses is due to increases of $2.3 million in personnel and related costs as a
result of an increase in general and administrative headcount due to the Avant!
acquisition in June 2002, $2.2 million in depreciation as a result of the
upgrade to our information technology infrastructure, $1.2 million in
maintenance agreements covering more software and equipment due to the mergers
occurring in fiscal 2002 and an increase in litigation expenses relating to
certain legal actions. These increases were offset by decreases of $4.4 million
in human resources, technology and facilities costs as a result of a decrease in
general and administrative headcount as a percentage of total headcount.
Amortization of Goodwill, Intangible Assets and Deferred Stock
Compensation. Goodwill represents the excess of the aggregate purchase price
over the fair value of the tangible and identifiable intangible assets we have
acquired. On November 1, 2002, we adopted SFAS 142 which requires that goodwill
and intangible assets with indefinite useful lives no longer be amortized, but
instead be tested for impairment at least annually. As of January 31, 2003,
unamortized goodwill was $435.8 million, which will no longer be amortized in
accordance with SFAS 142. During the three months ended January 31, 2002,
goodwill for our pre-fiscal 2002 acquisitions and intangible assets were
amortized over their estimated useful lives of three to ten years. Total
amortization of goodwill and intangible assets was $4.0 million for the three
months ended January 31, 2002.
26
Amortization of intangible assets and deferred stock compensation includes
the amortization of trademarks, trade names, customer relationships and
covenants not-to-compete. Total amortization of intangible assets included in
operating expenses for the first quarter of fiscal 2003 was $8.9 million
including $1.2 million for deferred stock compensation.
In connection with the mergers occurring in fiscal 2002, we also assumed
unvested stock options held by Avant!, inSilicon and Co-Design employees. We
have recorded deferred stock compensation totaling $8.1 million, $1.7 million
and $0.7 million based on the intrinsic value of these assumed unvested stock
options for Avant!, inSilicon and Co-Design, respectively. The deferred stock
compensation is amortized over the options' remaining vesting period of one to
three years. During the three months ended January 31, 2003, we recorded
amortization of deferred stock compensation of $1.3 million. Had we allocated
the amortization, such allocation would have been recorded in the following
expense classifications:
(in thousands)
Cost of revenue $ 136
Research and development 847
Sales and marketing 283
General and administrative 61
-------------
Subtotal 1,191
Total $ 1,327
=============
No deferred stock compensation was recorded during the three months ended
January 31, 2002.
Other Income, Net. Other income, net for the three months ended January 31,
2003 was $9.2 million. The balance consists primarily of the following: (i)
realized gain on investments of $7.6 million, (ii) rental income of $2.6
million, (iii) interest income of $1.2 million, (iv) amortization of premium
forwards and foreign currency forwards of $1.1 million, (v) impairment charges
related to certain assets in our venture portfolio of $1.0 million and (vi)
other miscellaneous expenses including foreign exchange gains and losses
recognized during the quarter of $2.3 million.
Other income, net for the three months ended January 31, 2002 was $11.1
million. The balance consists primarily of the following: (i) realized gain on
investments of $6.6 million, (ii) rental income of $2.4 million, (iii) interest
income of $2.2 million, (iv) amortization of premium forwards and foreign
currency forwards of $0.4 million and (v) other miscellaneous expenses including
foreign exchange gains and losses recognized during the quarter of $0.5 million.
27
Unaudited Pro Forma Results of Operations. The following table presents
unaudited pro forma results of operations and gives effect to the Avant! and
inSilicon mergers as if the mergers were consummated on November 1, 2001.
Amounts shown for the three-month period ended January 31, 2003 are the combined
Company's actual results of operations. The 2002 unaudited pro forma results of
operations do not include the effect of the Co-Design merger as such effect is
not material. The unaudited pro forma results of operations are not necessarily
indicative of the results of operations had the Avant! and inSilicon mergers
actually occurred at the beginning of fiscal 2002, nor is it necessarily
indicative of future operating results:
THREE MONTHS ENDED
JANUARY 31,
-------------------------------------
2003 2002
----------------- -------------------
(in thousands, except per share
amounts)
Revenue $ 268,136 $ 288,508
Net income $ 34,385 $ 28,056
Basic earnings per share $ 0.46 $ 0.38
Weighted average common shares outstanding 74,065 74,666
Diluted earnings per share $ 0.45 $ 0.35
Weighted average common shares and dilutive stock
options outstanding 76,639 79,376
The unaudited pro forma results of operations for each of the periods
presented exclude non-recurring merger costs of $21.0 million for Avant!'s
pre-merger litigation settlement and other related costs incurred by Avant! for
the three months ended January 31, 2002. These expenses are included in the
historical unaudited condensed consolidated statement of income. In addition,
the unaudited pro forma results of operations for 2002, do not reflect the
reduction in Avant!'s reported deferred revenue as required under the purchase
method of accounting. This reduction results in lower revenue in periods
subsequent to the merger than would have been achieved if the two companies had
not been combined.
Interest Rate Risk. Our exposure to market risk for changes in interest
rates relates primarily to our short-term investment portfolio. We place our
investments in a mix of 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 and type of instrument.
We do not anticipate any material losses due to this risk with respect to our
investment portfolio.
The following table presents the carrying value and related
weighted-average total return for our investment portfolio. The carrying value
approximates fair value at January 31, 2003. In accordance with our investment
policy, the weighted-average maturities of our total invested funds does not
exceed one year.
Weighted-Average
Carrying After Tax
Amount Return
-------------- ---------------
(in thousands)
Short-term investments--fixed rate $ 122,921 4.12%
Cash-equivalent investments (restricted)--
variable rate 5,275 0.91%
Money market funds-- variable rate 224,030 0.76%
--------------
Total interest bearing instruments $ 352,226 1.94%
==============
Foreign Currency Risk. At the present time, we hedge only (i) those
currency exposures associated with certain assets and liabilities denominated in
non-functional currencies and (ii) forecasted accounts receivable and accounts
payable denominated in non-functional currencies. Our hedging activities are
intended to offset the impact of currency fluctuations on the value, as measured
28
in the relevant non-functional currency, of these balances. We do not hedge
anticipated expenses in non-functional currencies. The success of our hedging
activity depends upon the accuracy of our estimates of balances denominated in
various currencies. Our greatest exposure to a foreign currency is to the Euro,
which is the currency in which we hold the bulk of our accounts receivable
relating to products sold outside of North America. We also have exposures, in
varying degrees, to the Japanese yen, Taiwan dollar, British pound sterling,
Canadian dollar, Singapore dollar, Korean won and Israeli shekel. If a
non-functional currency increases in value relative to the dollar, then expenses
denominated in that currency, assets, liabilities and forecasted accounts
receivable increase. If a non-functional currency declines in value relative to
the dollar, then expenses denominated in that currency, assets, liabilities and
forecasted accounts receivable decrease. Looking forward, we do not anticipate
any material adverse effect on our consolidated financial position or results of
operations resulting from the use of hedging instruments. There can be no
assurance that our hedging transactions will be effective in the future,
however.
These foreign currency contracts contain credit risk in that the
counterparty may be unable to meet the terms of the agreements. We have limited
these agreements to major financial institutions to reduce such credit risk.
Furthermore, we monitor the potential risk of loss with any one financial
institution. We do not enter into forward contracts for speculative purposes.
The following table provides information about our foreign currency
contracts at January 31, 2003. Due to the short-term nature of these contracts,
the contract rates approximate the weighted-average currency exchange rates at
January 31, 2003. These forward contracts mature in approximately thirty days
and contracts are rolled-forward on a monthly basis to match firmly committed
transactions.
USD Amount Contract Rate
----------------- -----------------
(in thousands)
Forward Net Contract Values:
Euro $ 313,495 0.9245
Japanese yen 44,330 118.2119
Canadian dollar 5,512 1.5362
British pound sterling 3,079 0.6118
Israeli shekel 2,180 4.9000
Korean won 3,344 1176.0000
Singapore dollar 3,039 1.7319
Taiwan dollar 4,641 34.7100
-----------------
$ 379,620
=================
Net unrealized gains of approximately $20.3 million, net of tax on the
outstanding forward contracts as of January 31, 2003 are included in other
comprehensive income on the unaudited condensed consolidated balance sheet as of
January 31, 2003. Net cash inflows on maturing forward contracts during the
quarter were $25.9 million.
Acquisition of Numerical Technologies, Inc. On January 13, 2003, we entered
into an Agreement and Plan of Merger with Numerical Technologies, Inc.
(Numerical) under which we commenced a cash tender offer to acquire all of the
outstanding shares of Numerical common stock at $7.00 per share, followed by a
second-step merger in which we would acquire any untendered Numerical shares at
the same price per share. Following the consummation of the cash tender offer on
February 28, 2003, Numerical merged with and into a wholly owned subsidiary of
Synopsys, effective March 1, 2003. The total cash consideration is expected to
be approximately $240 million. The Company acquired Numerical in order to expand
its offerings of design for manufacturing products.
Effect of New Accounting Standards. In July 2001, the Financial Accounting
Standards Board (FASB) issued Statements of Financial Accounting Standards No.
141 (SFAS 141), Business Combinations, and Financial Accounting Standards No.
142 (SFAS 142), Goodwill and Other Intangible Assets. SFAS 141 requires that the
purchase method of accounting be used for all business combinations initiated
after June 30, 2001 and specifies criteria intangible assets acquired in a
29
purchase method business combination must meet to be recognized apart from
goodwill. SFAS 141 is effective for all business combinations completed after
June 30, 2001.
We adopted SFAS 142 on November 1, 2002. Upon adoption of SFAS 142,
amortization of goodwill recorded for business combinations consummated prior to
July 1, 2001 ceased. Intangible assets acquired prior to July 1, 2001 that do
not meet the criteria for recognition under SFAS 141 are required to be
reclassified to goodwill; no such reclassifications to goodwill were required.
In addition, upon adoption of SFAS 142, we assessed useful lives and residual
values of all intangible assets acquired. We also tested goodwill for impairment
in accordance with the provisions of SFAS 142. In completing our impairment
analysis, we determined that we have one reporting unit. In conjunction with the
implementation of SFAS No. 142, we completed a goodwill impairment review as of
the beginning of fiscal 2003 and found no indicators of impairment. This
impairment review was based on the fair value of the Company as determined by
its market capitalization. As of January 31, 2003, unamortized goodwill was
$435.8 million, which will no longer be amortized in accordance with SFAS 142.
In July 2001, the FASB issued Statement of Financial Accounting Standards
No. 143 (SFAS 143), Accounting for Asset Retirement Obligations. SFAS 143
requires that asset retirement obligations that are identifiable upon
acquisition, construction or development and during the operating life of a
long-lived asset be recorded as a liability using the present value of the
estimated cash flows. A corresponding amount would be capitalized as part of the
asset's carrying amount and amortized to expense over the asset's useful life.
We adopted the provisions of SFAS 143 effective November 1, 2002. The adoption
of SFAS 143 did not have a significant impact on our financial position and
results of operations for the three months ended January 31, 2003.
In August 2001, the FASB issued Statement of Financial Accounting Standards
No. 144 (SFAS 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 and supersedes SFAS No. 121, Accounting for the
Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of, and
the accounting and reporting provisions of Accounting Principles Board Opinion
No. 30, Reporting the Results of Operations for a Disposal of a Segment of a
Business. We adopted the provisions of SFAS 144 effective November 1, 2002. The
adoption of SFAS 144 did not have a significant impact on our financial position
and results of operations for the three months ended January 31, 2003.
In July 2002, the FASB issued Statement of Financial Accounting Standards
No. 146 (SFAS 146), Accounting for Exit or Disposal Activities. SFAS 146
addresses the recognition, measurement, and reporting of costs that are
associated with exit and disposal activities, including costs related to
terminating a contract that is not a capital lease and termination benefits that
employees who are involuntarily terminated receive under the terms of a one-time
benefit arrangement that is not an ongoing benefit arrangement or an individual
deferred-compensation contract. SFAS 146 supersedes Emerging Issues Task Force
Issue No. 94-3, Liability Recognition for Certain Employee Termination Benefits
and Other Costs to Exit an Activity (including Certain Costs Incurred in a
Restructuring) and requires liabilities associated with exit and disposal
activities to be expensed as incurred. SFAS 146 is effective for exit or
disposal activities of the Company that are initiated after December 31, 2002.
The adoption of SFAS 146 did not have a significant impact on our financial
position and results of operations for the three months ended January 31, 2003.
In December 2002, the FASB issued Statement of Financial Accounting
Standards No. 148 (SFAS 148), Accounting for Stock-Based Compensation -
Transition and Disclosure. SFAS 148 amends FASB Statement No. 123 (SFAS 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 148 amends the
disclosure requirements of SFAS 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. The transition guidance and annual disclosure provisions of SFAS 148
30
are effective for fiscal years ending after December 15, 2002. The interim
disclosure provisions are effective for financial reports containing financial
statements for interim periods beginning after December 15, 2002. We have
adopted the disclosure provisions of SFAS 148 beginning in the first quarter of
fiscal 2003.
In November 2002, the FASB issued FASB Interpretation No. 45 (FIN 45),
Guarantor's Accounting and Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others, which clarifies disclosure and
recognition/measurement requirements related to certain guarantees. The
disclosure requirements are effective for financial statements issued after
December 15, 2002 and the recognition/measurement requirements are effective on
a prospective basis for guarantees issued or modified after December 31, 2002.
We typically warrant our products to be free from defects in media and to
substantially conform to material specifications for a period of 90 days. We
also indemnify our customers from third party claims of intellectual property
infringement relating to the use of our products. Historically, costs related to
these guarantees have not been significant and we are unable estimate the
potential impact of these guarantees on our future results of operations.
LIQUIDITY AND CAPITAL RESOURCES
Cash, cash equivalents and short-term investments increased $55.5 million,
or 13%, to $470.3 million at January 31, 2003 from $414.7 million at October 31,
2002. For the first three months of fiscal 2003, cash provided by operations was
$31.5 million. Cash was provided by net income adjusted for non-cash related
items and for cash flows related to hedging activities, partially offset by cash
used for changes in working capital balances, including increases in receivables
and deferred revenue and decreases in accounts payables and accrued liabilities.
Accounts receivable and deferred revenue increased due to the timing of
installment billings to customers on long-term arrangements. Accounts payable
and accrued liabilities decreased as a result of payments of merger-related
accruals, commissions and year-end bonuses, partially offset by year-to-date
accruals.
Cash used in investing activities was $21.3 million for the three months
ended January 31, 2003 as compared to cash used in investing activities of $13.3
million for the same period in the prior fiscal year. The increase of $8.0
million in cash used in investing activities is primarily due to net purchases
of short- and long-term investments of $9.0 million for the three months ended
January 31, 2003 as compared to net proceeds from sales of short- and long-term
investments of $5.0 million for the same period in the prior fiscal year.
Capital expenditures totaled $11.6 million during the three months ended January
31, 2003 as compared to $17.8 million for the same period in the prior fiscal
year. The decrease in capital expenditures is primarily due to the completion of
construction of our Oregon facilities and investment in computing equipment to
upgrade our infrastructure systems that was in progress during the three months
ended January 31, 2002.
Cash provided by financing activities was $25.2 million for the three
months ended January 31, 2003 as compared to cash provided by financing
activities of $42.8 million for the same period in the prior fiscal year. The
decrease of $17.6 million in cash provided by financing activities is primarily
due to a decrease in proceeds from the sale of shares pursuant to our employee
stock option plans. We did not repurchase any treasury stock during the three
months ended January 31, 2003 or for the same period in the prior year.
Accounts receivable, net of allowances, increased $13.4 million, or 6%, to
$220.6 million at January 31, 2003 from $207.2 million at October 31, 2002. Days
sales outstanding, which is calculated based on revenues for the most recent
quarter and accounts receivable at the balance sheet date increased to 75 days
at January 31, 2003 from 61 days at October 31, 2002. The increase in days sales
outstanding is due to a decrease in total revenue for the three months ended
January 31, 2003 as compared to the three months ended October 31, 2002 and an
increase in accounts receivable due to the timing of installment billings to
customers on long-term arrangements.
Subsequent to the end of the fiscal quarter, Synopsys completed its
acquisition of Numerical Technologies, Inc. The total consideration is expected
to be approximately $240 million and is being paid out of the Company's cash,
cash equivalents and short-term investments. As a result, the Company's cash,
cash equivalents and short-term investments will likely be substantially less
than the amount on hand at January 31, 2003.
We believe that our current cash, cash equivalents, short-term investments
and cash generated from operations will satisfy our business requirements for at
least the next twelve months.
31
STOCK OPTION PLANS
Under our 1992 Stock Option Plan (the 1992 Plan), 19,475,508 shares of
common stock have been authorized for issuance. Pursuant to the 1992 Plan, the
Board of Directors may grant either incentive or non-qualified stock options to
purchase shares of common stock to eligible individuals at not less than 100% of
the fair market value of those shares on the grant date. Stock options generally
vest over a period of four years and expire ten years from the date of grant. At
January 31, 2003, 5,772,802 stock options remain outstanding and 3,662,605
shares of common stock are reserved for future grants under this plan.
Under our Non-Statutory Stock Option Plan (the 1998 Plan), 26,623,534
shares of common stock have been authorized for issuance. Pursuant to the 1998
Plan, the Board of Directors may grant non-qualified stock options to employees,
excluding executive officers. Exercisability, option price and other terms are
determined by the Board of Directors, but the option price shall not be less
than 100% of the fair market value of those shares on the grant date. Stock
options generally vest over a period of four years and expire ten years from the
date of grant. At January 31, 2003, 18,366,441 stock options remain outstanding
and 4,872,433 shares of common stock were reserved for future grants under this
plan.
Under our 1994 Non-Employee Directors Stock Option Plan (the Directors
Plan), 900,000 shares have been authorized for issuance. The Directors Plan
provides for automatic grants to each non-employee member of the Board of
Directors upon initial appointment or election to the Board, reelection and for
annual service on Board committees. The option price shall not be less than 100%
of the fair market value of those shares on the grant date. Under the Directors
Plan, new directors receive an option for 20,000 shares, vesting in equal
installments over four years. In addition, each continuing director who is
elected at an annual meeting of stockholders receives an option for 10,000
shares and an additional option for 5,000 shares for each Board committee
membership. The annual option grants vest in full on the date immediately prior
to the date of the annual meeting following their grant. In the case of
directors appointed to the board between annual meetings, the annual and any
committee grants are prorated based upon the amount of time since the last
annual meeting. At January 31, 2003, 515,580 stock options remain outstanding
and 221,839 shares of common stock were reserved for future grants under this
plan.
We have assumed certain option plans in connection with business
combinations. Generally, these options were granted under terms similar to the
terms of our option plans at prices adjusted to reflect the relative exchange
ratios. All assumed plans were terminated as to future grants upon completion of
each of the business combinations.
We monitor dilution related to our option program by comparing net option
grants in a given year to the number of shares outstanding. The dilution
percentage is calculated as the new option grants for the year, net of options
forfeited by employees leaving the Company, divided by the total outstanding
shares at the end of the year. The option dilution percentages were (0.30)% and
3.4% for the three months ended January 31, 2003 and fiscal 2002, respectively.
We also have a share repurchase program where we regularly repurchase shares
from the open market to offset dilution related to our option program.
32
A summary of the distribution and dilutive effect of options granted is as
follows:
THREE MONTHS ENDED YEAR ENDED
JANUARY 31, 2003 OCTOBER 31,
2002
------------------- -------------
Net grants during the period as percentage
of outstanding shares (0.30)% 3.4%
Grants to Named Executive Officers during the
period as percentage of total options granted 20.5% 9.3%
Grants to Named Executive Officers during the
period as percentage of outstanding shares 0.1% 0.5%
Total outstanding options held by Named Executive
Officers as percentage of total options outstanding 13.4% 13.7%
A summary of our option activity and related weighted-average exercise
prices for fiscal 2002 through the three months ended January 31, 2003 is as
follows:
Options Outstanding
----------------------------
Weighted-
Shares Average
Available for Number Exercise
Options of Shares Price
------------------ -------------- -------------
(in thousands, except per share amounts)
Balance at October 31, 2001 8,209 25,920 $ 40.10
Grants (4,081) 4,081 $ 47.88
Options assumed in acquisitions -- 2,511 $ 37.16
Exercises -- (2,851) $ 34.43
Cancellations 1,585 (1,681) $ 42.93
Additional shares reserved 2,700 -- --
------------------ --------------
Balance at October 31, 2002 8,413 27,980 $ 41.40
Grants (531) 531 $ 44.06
Exercises -- (767) $ 32.82
Cancellations 725 (755) $ 44.13
Additional shares reserved 150 -- --
------------------ --------------
Balance at January 31, 2003 8,757 26,989 $ 41.61
================== ==============
At January 31, 2003, a total of 19.5 million, 26.6 million and 900,000
shares were reserved for issuance under our 1992, 1998 and Directors Plans,
respectively, of which 8.8 million shares were available for future grants. For
additional information regarding our stock option activity during fiscal 2002
and 2001, please see Note 6 of Notes to Consolidated Financial Statements in our
2002 Annual Report on Form 10-K, as amended.
A summary of outstanding in-the-money and out-of-the-money options and
related weighted-average exercise prices at January 31, 2003 is as follows:
Exercisable Unexercisable Total
----------------------- ---------------------- ---------------------
Weighted- Weighted- Weighted-
Average Average Average
Exercise Exercise Exercise
Shares Price Shares Price Shares Price
----------- ----------- ----------- ---------- ---------- ----------
(in thousands, except per share amounts)
In-the-Money 7,486 $ 32.34 4,175 $ 32.43 11,661 $ 32.37
Out-of-the-Money (1) 8,358 $ 48.85 6,970 $ 48.40 15,328 $ 48.64
----------- ----------- ----------
Total Options Outstanding 15,844 $ 41.05 11,145 $ 42.42 26,989 $ 41.61
=========== =========== ==========
(1)Out-of-the-money options are those options with an exercise price equal
to or above the closing price of $38.67 on January 31, 2003, the last
trading day for the three months ended January 31, 2003.
33
The following table sets forth further information regarding individual
grants of options at January 31, 2003 for each of the Named Executive Officers.
Potential Realizable Value
at Assumed Annual Rates of
Stock Price Appreciation
Individual Grants for Option Term ($)
-------------------------------- ----------------------------
Number of Percent of
Securities Total Range of
Under-lying Options Exercise
Name Options Granted to Prices Expiration Date 5% 10%
Granted (1) Employees (2) ($/Share)
- --------------------- ----------------- -------------- --------------- ----------------- -------------- -------------
Aart J. de Geus 30,000 5.65% $43.45 12/09/12 $ 819,764 $2,077,443
Chi-Foon Chan 30,000 5.65% $43.45 12/09/12 $ 819,764 $2,077,443
Vicki L. Andrews 13,600 2.56% $43.45 12/09/12 $ 371,626 $ 941,774
Robert B. Henske (3) 20,200 3.81% $43.45 12/09/12 $ 551,975 $1,398,812
Steven K. Shevick 15,000 2.83% $43.45 12/09/12 $ 409,882 $1,038,722
(1) Sum of all option grants made during the three months ended January 31,
2003 to such person. Options become exercisable ratably in a series of
monthly installments over a four-year period from the grant date, assuming
continued service to Synopsys, subject to acceleration under certain
circumstances involving a change in control of Synopsys. Each option has a
maximum term of ten years, subject to earlier termination upon the
optionee's cessation of service.
(2) Based on a total of 530,509 shares subject to options granted to employees
under Synopsys' option plans for the three months ended January 31, 2003.
(3) Mr. Henske left Synopsys in January 2003.
The following table provides the specified information concerning exercises
of options to purchase our common stock and the value of unexercised options
held by our Named Executive Officers at January 31, 2003:
Number of Securities Value of In-the-Money
Shares Underlying Unexercised Options at
Acquired On Value Options at January 31, 2003 January 31, 2003 (2)
Name Exercise Realized (1) Exercisable/Unexercisable Exercisable/Unexercisable
- ----------------------- --------------- ------------- ---------------------------- -----------------------------
Aart J. de Geus -- -- 1,343,032 415,668 $ 4,054,437 $ 965,677
Chi-Foon Chan -- -- 863,163 354,737 $ 1,628,704 $ 736,965
Vicki L. Andrews -- -- 111,504 168,662 $ 149,623 $ 304,950
Robert B. Henske(3) 87,783 $ 777,486 169,007 -- -- --
Steven K. Shevick -- -- 118,423 78,877 $ 313,500 $ 127,065
(1) Market value at exercise less exercise price.
(2) Market value of underlying securities at January 31, 2003 ($38.67) minus
the exercise price.
(3) Mr. Henske left Synopsys in January 2003.
34
The following table provides information regarding equity compensation
plans approved and not approved by security holders at January 31, 2003 (in
thousands, except price per share amounts):
Number of Number of Securities
Securities to be Weighted-Average Remaining Available
Issued Upon Exercise Price of for Future Issuance
Exercise of Outstanding Under Equity
Outstanding Options, Compensation Plans
Options, Warrants, Warrants, and (Excluding Securities
and Rights Rights Reflected in Column (a))
Plan Category (a) (b) (c)
- ------------------------------------------ --------------------- ------------------- ------------------------
Employee Equity Compensation Plans
Approved by Stockholders (1992 Stock
Option Plan) 5,772,802 $ 39.96 3,662,605
Employee Equity Compensation Plans Not
Approved by Stockholders (1998
Non-Statutory Stock Option Plan) 18,366,441 $ 42.77 4,872,433
--------------------- ------------------------
Total 24,139,243 (1)(2) $ 42.10 8,535,038 (2)
===================== ========================
(1) Does not include information for options assumed in connection with mergers
and acquisitions. At January 31, 2003, a total of 2,334,611 shares of our
common stock were issuable upon exercise of such outstanding options.
(2) Does not include information for options under the Directors Plan. At
January 31, 2003, a total of 515,580 shares of our common stock were
issuable upon exercise of such outstanding options and 221,839 were
available for future issuance.
FACTORS THAT MAY AFFECT FUTURE RESULTS
Weakness in the semiconductor and electronics businesses may negatively
impact Synopsys' business. Synopsys' business depends on the semiconductor and
electronics industries. During 2001 and 2002, these industries experienced steep
declines in orders and revenue, with modest recovery in late 2002. Customers
report a significant lack of visibility in their businesses, which has affected
their buying behavior. Customers are scrutinizing their purchases of EDA
software very carefully. In addition, they are increasingly demanding, and we
have granted, extended payment terms on their purchases, which has affected our
cash flow. Based on our interactions with customers, Synopsys does not expect a
material recovery in the semiconductor and electronics industries in 2003; if
recovery continues we believe that it will be very gradual, at best.
Consequently, Synopsys is not expecting material growth in the EDA industry
during the remainder of 2003. In addition, continued international political
tension, an outbreak of hostilities or additional acts of terrorism would be
likely to reverse any recovery and could lead to a global economic slowdown with
negative consequences for the semiconductor and electronics industries.
Demand for electronic design automation products is largely dependent upon
the commencement of new design projects by semiconductor manufacturers and their
customers, the increasing complexity of designs and the number of design
engineers. During 2001 and 2002 many semiconductor and electronic companies
cancelled or deferred design projects and reduced their design engineering
staffs; the formation of new companies engaged in semiconductor design,
traditionally an important source of new business for the Company, slowed
significantly; and a small number of existing customers went out of business.
Each of these developments negatively impacted our orders and revenue. Demand
for our products and services may also be affected by partnerships and/or
mergers in the semiconductor and systems industries. Given current market
conditions, the rate of mergers and acquisitions may increase during the
remainder of 2003. Such combinations may reduce the aggregate level of purchases
of our products and services by the companies involved.
Continuation or worsening of the current conditions in the semiconductor
and electronics industries, continued international political tensions,
additional acts of terrorism or the outbreak of hostilities, and continued
consolidation among our customers, all could have a material adverse effect on
our business, financial condition and results of operations.
Synopsys' revenue and earnings may fluctuate. Many factors affect our
revenue and earnings, which makes it difficult to predict revenue and earnings
for any given fiscal period. Among these factors are customer product and
35
service demand, product license terms, and the timing of revenue recognition on
products and services sold. The following are some of the specific factors that
could affect our revenue and earnings in a particular quarter or over several
quarterly or annual periods:
o Our products are complex, and before buying them customers spend a great
deal of time reviewing and testing them. Our customers' evaluation and
purchase cycles do not necessarily match our quarterly periods. Sales of
the Company's products and services may be delayed if customers delay
approval or commencement of projects because of budgetary constraints,
internal review procedures (including review of the Company's products
against competitors' products) and timing of customer budget cycles. In
addition, we receive a disproportionate volume of orders in the last week
of a quarter. As a result, if any order, and especially a large order, is
delayed beyond the end of a fiscal period, our orders for that period could
be below our plan and our revenue for that period or future periods could
be below our plan and any targets we may have published.
o Our business is seasonal. Orders and revenue are typically lowest in our
first fiscal quarter and highest in our fourth fiscal quarter, with a
material decline between the fourth quarter of one fiscal year and the
first quarter of the next fiscal year. The difference in revenue is driven
largely by the volume of perpetual licenses shipped during the quarter,
which, following the seasonal pattern of overall orders, typically declines
from the fourth quarter to the first quarter.
o Our revenue and earnings targets for any fiscal period are based, in part,
upon an assumption that we will achieve a certain volume of overall orders,
and a mix of perpetual licenses (on which revenue is recognized in the
quarter shipped) and TSLs (on which revenue is recognized over the term of
license) within a specified range, which is adjusted from time to time. If
we receive the targeted volume of overall orders but a lower-than expected
proportion of perpetual orders, then our revenue for the quarter will be
below our target for the quarter (though the shortfall will be recognized
in future quarters). Conversely, if we receive a lower-than-expected volume
of overall orders but the expected volume of perpetual orders, then our
revenue for the period may be on target, though revenue in future periods
will be lower than expected.
o Accounting rules determine when revenue is recognized on our orders, and
therefore impact how much revenue we will report in any given fiscal
period. In general, revenue is recognized on TSLs ratably over the term of
the license and on perpetual licenses upon delivery of the license. For any
given order, however, the specific terms agreed to with a customer may have
the effect under the accounting rules of requiring revenue treatment
different from the treatment we intended and, in developing our financial
plans, expected. As a result, revenue for the fiscal period may be higher
or lower than it otherwise would have been, and different than our plan or
any announced targets for such period.
Competition may have a material adverse effect on Synopsys' results of
operations. The EDA industry is highly competitive. We compete against other EDA
vendors, and with customers' internally developed design tools and internal
design capabilities for a share of the overall EDA budgets of our potential
customers. In general, competition is based on product quality and features,
post-sale support, interoperability with other vendors' products, price, payment
terms and, as discussed below, the ability to offer a complete design flow. Our
competitors include companies that offer a broad range of products and services,
such as Cadence Design Systems, Inc. and Mentor Graphics Corporation, as well as
companies that offer products focused on a discrete phase of the integrated
circuit design process. In the current economic environment price and payment
terms have increased in importance as a basis for competition. Since early in
fiscal 2002 we have regularly agreed to extended payment terms on our TSLs,
which has had a negative effect on cash flow from operations. In addition, in
certain situations our competitors are offering aggressive discounts on their
products. As a result, average prices may fall.
36
If we are unable to develop an integrated design flow product and other new
products we may be unable to compete effectively. Increasingly, EDA companies
compete on the basis of design flows involving integrated logic and physical
design products rather than on the basis of individual point tools performing a
discrete phase of the design process. The need to offer an integrated design
flow will become increasingly important as ICs grow more complex. Our products
compete principally with design flow products from Cadence and Magma Design
Automation, which in some respects may be more integrated than our products. As
a result of the acquisition of Avant!, we now offer all of the point tools
required to design an IC, some of which integrate logic and physical design
capabilities, and in January 2003 we introduced our Galaxy! platform, which
integrates a full suite of Synopsys' design implementation tools. Our future
success depends on our ability to further integrate Synopsys' logic design and
physical synthesis products with the physical design products acquired from
Avant!, which will continue to require significant engineering and development
work. Success in this project is especially important as the Company believes
that its orders and revenue from Design Compiler, which has accounted for 29%
and 18% of Synopsys orders in 2001 and 2002, respectively, peaked in fiscal year
2001, as predicted, and are likely to continue to decline over time. There can
be no guarantee that we will be able to offer a competitive complete design flow
to customers. If we are unsuccessful in developing integrated design flow
products on a timely basis or if we are unsuccessful in developing or convincing
customers to adopt such products, our competitive position could be
significantly weakened.
In order to sustain revenue growth over the long term, we will have to
enhance our existing products, introduce new products that are accepted by a
broad range of customers and generate growth in our consulting services
business. In addition to the development of integrated logic and physical design
products, Synopsys is attempting to integrate its verification products into a
comprehensive functional verification platform, and is expanding its offerings
of intellectual property design components. Product success is difficult to
predict. In addition, with the acquisition of Numerical Technologies, the
Company will attempt to bolster its suite of design-for-manufacturing products.
The introduction of new products and growth of a market for such products cannot
be assured. In the past we, like all companies, have introduced new products
that have failed to meet our revenue expectations. There can be no assurance
that we will be successful in expanding revenue from existing or new products at
the desired rate, and the failure to do so would have a material adverse effect
on our business, financial condition and results of operations.
Businesses that Synopsys has acquired or that Synopsys may acquire in the
future may not perform as projected. We have acquired or merged with a number of
companies in recent years, and as part of our efforts to increase revenue and
expand our product and services offerings we may acquire additional companies.
During 2002, we acquired Avant!, inSilicon Corporation and Co-Design Automation,
Inc. and during the second quarter of fiscal 2003, we acquired Numerical
Technologies, Inc. In addition to direct costs, acquisitions pose a number of
risks, including potential dilution of earnings per share, problems in
integrating the acquired products and employees into our business, the failure
to realize expected synergies or cost savings, the failure of acquired products
to achieve projected sales, the drain on management time for acquisition-related
activities, adverse effects on customer buying patterns and assumption of
unknown liabilities. While we attempt to review proposed acquisitions carefully
and negotiate terms that are favorable to us, there is no assurance that any
acquisition will have a positive effect on our performance.
Customer payment defaults could have a material adverse effect on the
Company's financial condition and results of operations. The Company's backlog
consists principally of customer payment obligations that have not yet become
due that are attributable to software that has already been delivered to the
customer. These customer obligations are non-cancellable, but they may fail to
yield the expected revenue in the event that the customer defaults and fails to
pay amounts owed. In such cases, the Company will generally institute legal
proceedings to recover amounts owed. To date, the Company has not experienced a
material level of defaults, though in the current economic environment it is
possible that the level of defaults will increase. Moreover, existing customers
may seek to renegotiate pre-existing contractual commitments due to adverse
changes in their own businesses. Any material payment default by the Company's
customers could have a material adverse effect on the Company's financial
condition and results of operations.
Stagnation of foreign economies or foreign exchange rate fluctuations could
adversely affect our performance. During fiscal 2002, 35% of our revenue was
derived from outside North America, as compared to 37% during fiscal 2001.
Foreign sales are vulnerable to regional or worldwide economic or political
conditions, including the effects of international political conflict or
hostilities. The global electronics industry has experienced steep declines in
37
2001 and 2002, and the Company does not expect material recovery in 2003. In
particular, a number of our largest European customers are in the
telecommunications equipment business, which has been disproportionately
affected during this period. The Japanese economy has been stagnant for several
years, and there is no expectation of improvement in the near future. If the
Japanese economy remains weak, revenue and orders from Japan, and perhaps the
rest of Asia, could be adversely affected. Although the Asia Pacific region is
growing it is relatively small as a percentage of our business and it could be
difficult to sustain growth in the region if growth in the rest of the world's
economies does not accelerate.
Fluctuations in the rate of exchange between the U.S. dollar and currencies
of other countries in which Synopsys conducts business, principally the Euro and
the Japanese yen, could materially adversely affect Synopsys' business,
operating results and financial condition. Fluctuations in foreign currency
exchange rates may make the Company's products more expensive to foreign
customers, increase the dollar cost of expenses denominated in non-dollar
currencies or reduce the revenue realized from overseas sales. The Company
attempts to hedge its risks related to certain forecasted accounts receivable
and accounts payable, but not expenses denominated in foreign currencies. If a
foreign currency increases in value relative to the dollar, then the dollar
value of expenses denominated in that currency and forecasted accounts
receivable increase. If a foreign currency decreases in value relative to the
dollar, then the dollar value of expenses denominated in that currency and
forecasted accounts receivable decrease. Changes in the dollar value of of
forecasted accounts receivable denominated in a foreign currency impact the
revenue recognized from such receivables. In addition, as a result of our
hedging strategy, changes in currency exchange rates could impact reported
quarterly cash flows. In recent months, the Euro and the yen have increased in
value relative to the dollar; exchange rates are subject to significant and
rapid fluctuations, however, and therefore the prospective impact of exchange
rate fluctuations on our business, operating results and financial condition
cannot be predicted.
Terrorist acts and acts of war may seriously harm our financial condition
and results of operations. Terrorist acts or acts of war (wherever located
around the world) may cause damage or disruption to Synopsys, our employees,
facilities, partners, suppliers, or customers, or unpredictable swings in
foreign currency exchange rates, all of which could significantly impact our
results of operations and expenses and financial condition. The potential for
future terrorist attacks, the national and international responses to terrorist
attacks or perceived threats to national secuirty, and other acts of war or
hostility have created many economic and political uncertainties that could
adversely affect our business and results of operations in ways that cannot
presently be predicted. We are predominantly uninsured for losses and
interruptions caused by acts of war.
A failure to recruit and retain key employees would have a material adverse
effect on our ability to compete. Our success is dependent on our ability to
attract and retain key technical, sales and managerial employees, including
those who join Synopsys in connection with acquisitions. Despite recent economic
conditions, skilled technical, sales and management employees are in high
demand. There are a limited number of qualified EDA and IC design engineers, and
the competition for such individuals is intense. Experience at Synopsys is
highly valued in the EDA industry and the general electronics industry, and our
employees, including employees that have joined Synopsys in connection with
acquisitions, are recruited aggressively. In the past, we have experienced a
high rate of employee turnover, which may recur in the future. There can be no
assurance that we can continue to recruit and retain the technical and
managerial personnel we need to run our business successfully. Failure to do so
could have a material adverse effect on our business, financial condition and
results of operations.
In addition, new regulations proposed by The Nasdaq National Market
requiring shareholder approval for all stock option plans as well as new
regulations proposed by the New York Stock Exchange prohibiting NYSE member
organizations from giving a proxy to vote on equity-compensation plans unless
the beneficial owner of the shares has given voting instructions could make it
more difficult for us to grant options to employees in the future. To the extent
that new regulations make it more difficult or expensive to grant options to
employees, we may incur increased cash compensation costs or find it difficult
to attract, retain and motivate employees, either of which could materially and
adversely affect our business.
A failure to protect our proprietary technology would have a material
adverse effect on Synopsys' financial condition and results of operations. Our
success is dependent, in part, upon our proprietary technology and other
intellectual property rights. We rely on agreements with customers, employees
and others, and intellectual property laws, to protect our proprietary
technology. There can be no assurance that these agreements will not be
breached, that we would have adequate remedies for any breach or that our trade
secrets will not otherwise become known or be independently developed by
competitors. Moreover, effective intellectual property protection may be
unavailable or limited in certain foreign countries. Failure to obtain or
maintain appropriate patent, copyright or trade secret protection, for any
reason, could have a material adverse effect on our business, financial
condition and results of operations. In addition, there can be no assurance that
38
infringement claims will not be asserted against us and any such claims could
require us to enter into royalty arrangements or result in costly and
time-consuming litigation or could subject us to damages or injunctions
restricting our sale of products or could require us to redesign products.
Our operating expenses do not fluctuate proportionately with fluctuations
in revenues, which could materially adversely affect our results of operations
in the event of a shortfall in revenue. Our operating expenses are based in part
on our expectations of future revenue, and expense levels are generally
committed in advance of revenue. Since only a small portion of our expenses
varies with revenue, a shortfall in revenue translates directly into a reduction
in net income. If we are unsuccessful in generating anticipated revenue or
maintaining expenses within the expected range, however, our business, financial
condition and results of operations could be materially adversely affected.
Synopsys has adopted anti-takeover provisions, which may have the effect of
delaying or preventing changes of control or management. We have adopted a
number of provisions that could have anti-takeover effects. Our Board of
Directors has adopted a Preferred Shares Rights Plan, commonly referred to as a
poison pill. In addition, our Board of Directors has the authority, without
further action by its stockholders, to issue additional shares of Common Stock
and to fix the rights and preferences of, and to issue authorized but
undesignated shares of Preferred Stock. These and other provisions of Synopsys'
Restated Certificate of Incorporation and Bylaws and the Delaware General
Corporation Law may have the effect of deterring hostile takeovers or delaying
or preventing changes in control or management of Synopsys, including
transactions in which the stockholders of Synopsys might otherwise receive a
premium for their shares over then current market prices.
Synopsys is subject to changes in financial accounting standards, which may
affect our reported revenue, or the way we conduct business. We prepare our
financial statements in conformity with accounting principles generally accepted
in the United States of America (GAAP). GAAP are subject to interpretation by
the Financial Accounting Standards Board, the American Institute of Certified
Public Accountants (AICPA), the SEC and various bodies appointed by these
organizations to interpret existing rules and create new accounting policies.
Accounting policies affecting software revenue recognition, in particular, have
been the subject of frequent interpretations, which have had a profound affect
on the way we license our products. As a result of the recent enactment of the
Sarbanes-Oxley Act and the related scrutiny of accounting policies by the SEC
and the various national and international accounting industry bodies, we expect
the frequency of accounting policy changes to accelerate. Future changes in
financial accounting standards, including pronouncements relating to revenue
recognition, may have a significant effect on our reported results and may even
affect our reporting of transactions completed before the change is effective.
The FASB and other accounting bodies are currently considering a change to
US GAAP that, if implemented, would require us to account for options as a
compensation expense in the period in which they are granted. Synopsys currently
accounts for stock options under Statement of Financial Accounting Standards No.
123 (SFAS 123), Accounting for Stock-Based Compensation . As permitted by SFAS
123, the Company has elected to use the intrinsic value method prescribed by
Accounting Principles Board Opinion No. 25 (APB 25), Accounting for Stock Issued
to Employees , to measure compensation expense for stock-based awards to
employees, under which the granting of a stock option is not considered
compensation, although the impact of "expensing" stock options is disclosed in
Note 2 of the Notes to the Unaudited Condensed Consolidated Financial
Statements. We cannot predict whether such a requirement will be adopted, but if
it is there would be a significant negative effect on our reported results of
operations.
39
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
Information relating to quantitative and qualitative disclosure about
market risk is set forth under the captions "Interest Rate Risk" and "Foreign
Currency Risk" in Item 2, Management's Discussion and Analysis of Financial
Condition and Results of Operations. Such information is incorporated herein by
reference.
ITEM 4. CONTROLS AND PROCEDURES
(a) Evaluation of Disclosure Controls and Procedures. As of a date within
the 90 days prior to the date of this report (the 'Evaluation Date'), the
Company carried out an evaluation under the supervision and with the
participation of the Company's management, including the Chief Executive Officer
and Chief Financial Officer, of the effectiveness of the design and operation of
the Company's disclosure controls and procedures (as such term is defined in
Rules 13a-14(c) and 14d-14(c) under the Securities Exchange Act of 1934, as
amended (the 'Exchange Act')). There are inherent limitations to the
effectiveness of any system of disclosure controls and procedures, including the
possibility of human error and the circumvention or overriding of the controls
and procedures. Accordingly, even effective disclosure controls and procedures
can only provide reasonable assurance of achieving their control objectives.
Notwithstanding these limitations, based upon and as of the date of the
Company's evaluation, the Chief Executive Officer and Chief Financial Officer
concluded that the disclosure controls and procedures are effective in all
material respects to ensure that information required to be disclosed in the
reports the Company files and submits under the Exchange Act is recorded,
processed, summarized and reported as and when required.
(b) Changes in Internal Controls. Since the Evaluation Date, there have not
been any significant changes in the Company's internal controls or in other
factors that could significantly affect such controls.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Between July and October 2001, three derivative actions were filed against
Avant! Corporation and certain of its officers and directors: Scott v. Muraki,
et al., No. 01-017548 (Cal. Superior Ct.); Louisiana School Employees'
Retirement System v. Muraki, et al., C.A. No. 19091 (Del. Chancery Ct.); and
Peterson v. Hsu et al., C.A. No. 19178 (Del. Chancery Ct.). The actions allege,
in substance, that certain present and former Avant! officers and directors
caused damage to Avant! by mispappropriating trade secrets from competitors,
making false representations to investors and the public, and causing Avant! to
award lucrative employment contracts, bonuses, stock option grants, and valuable
consulting contracts and ownership interests in companies affiliated with
Avant!. The Louisiana School Employees' Retirement System case was dismissed in
August 2002. The remaining two cases were dismissed in February 2003.
In addition, the information contained in the Report on Form 8-K filed by
the Registrant with the SEC on November 19, 2002, is incorporated by reference
herein.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a.) Exhibits
None.
(b.) Reports on Form 8-K
The Registrant filed a Report on Form 8-K with the SEC on November 19, 2002
reporting the settlement of litigation with Cadence Design Systems, Inc.
40
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
SYNOPSYS, INC.
By: /s/ STEVEN K. SHEVICK
----------------------
Steven K. Shevick
Senior Vice President, Finance
and Operations, and Chief Financial Officer
(Principal Financial Officer)
Date: March 17, 2003
41
CERTIFICATIONS
I, Aart J. de Geus, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Synopsys, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report; and
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: March 17, 2003
/s/ AART J. DE GEUS
----------------------
Aart J. de Geus
Chief Executive Officer
(Principal Executive Officer)
42
I, Steven K. Shevick, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Synopsys, Inc.;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
the statements made, in light of the circumstances under which such statements
were made, not misleading with respect to the period covered by this quarterly
report; and
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this quarterly report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) designed such disclosure controls and procedures to ensure that
material information relating to the registrant, including its consolidated
subsidiaries, is made known to us by others within those entities,
particularly during the period in which this quarterly report is being
prepared;
b) evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of this
quarterly report (the "Evaluation Date"); and
c) presented in this quarterly report our conclusions about the
effectiveness of the disclosure controls and procedures based on our
evaluation as of the Evaluation Date;
5. The registrant's other certifying officer and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit committee
of registrant's board of directors (or persons performing the equivalent
function):
a) all significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to record,
process, summarize and report financial data and have identified for the
registrant's auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in this
quarterly report whether or not there were significant changes in internal
controls or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any corrective
actions with regard to significant deficiencies and material weaknesses.
Date: March 17, 2003
/s/ STEVEN K. SHEVICK
----------------------------
Steven K. Shevick
Chief Financial Officer
(Principal Financial Officer)
43