ARTISAN COMPONENTS INC - 10-Q Quarterly Report

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such 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 Securities Exchange Act). Yes x No ¨

As of July 30, 2004, there were 23,439,610 shares of the Registrant’s Common Stock outstanding.

The accompanying notes are an integral part of these unaudited condensed consolidated financial statements.

Artisan Components, Inc. (“Artisan” or the “Company”) is a leading provider of physical intellectual property components for the design and manufacture of integrated circuits including those known as system-on-a-chip integrated circuits. The Company’s products include embedded memory, standard cell, communication, input/output components and analog and mixed-signal products which are designed to achieve the best combination of performance, density, power and yield for a given manufacturing process. The Company’s intellectual property components are pre-tested by producing them in silicon to ensure that they perform to specification. This enables designers to reduce the risk of design failure and gain valuable time to market. The Company licenses its products to customers for the design and manufacture of integrated circuits used in complex, high volume applications such as portable computing devices, cellular phones, consumer multimedia products, automotive electronics, personal computers and workstations.

The accompanying unaudited condensed consolidated financial statements include the accounts of Artisan and its wholly owned subsidiaries after elimination of all inter-company balances and transactions. The Company’s fiscal year ends September 30.

The accompanying unaudited condensed consolidated financial statements of Artisan have been prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”) for interim financial information and in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been condensed or omitted pursuant to such rules and regulations. Accordingly, they do not include all of the information and footnotes required by GAAP for complete financial statements.

In the opinion of management, all adjustments (consisting of normal recurring adjustments) considered necessary to present a fair statement of financial position as of June 30, 2004, and results of operations for the three and nine months ended June 30, 2004 and 2003, and cash flows for the nine months ended June 30, 2004 and 2003, as applicable, have been made. The September 30, 2003 balance sheet data was derived from audited financial statements, but does not include all disclosures required by GAAP. Operating results for the three and nine months ended June 30, 2004 are not necessarily indicative of the results that may be expected for the fiscal year ending September 30, 2004 or any other future period. The unaudited condensed consolidated interim financial statements contained herein should be read in conjunction with the audited financial statements and footnotes for the year ended September 30, 2003 included in the Company’s Annual Report on Form 10-K as filed with the SEC.

The preparation of financial statements requires the Company to make estimates and judgments that affect the reported amounts of assets, liabilities, revenue and expenses, and related disclosure of contingent assets and liabilities. On an on-going basis, the Company evaluates its estimates including those related to revenue recognition, allowance for doubtful accounts, goodwill and purchased intangible assets impairment, contingencies, restructuring costs and other special charges and taxes. The Company bases its estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ materially from these estimates.

Basic and diluted net income per share are computed in accordance with Statement of Financial Accounting Standards No. 128, “Earnings Per Share” (“EPS”). Basic EPS is computed by dividing net income available to common stockholders by the weighted average number of common shares outstanding for the period. Diluted EPS is computed giving effect to all potentially dilutive common shares that were outstanding during the period. Diluted EPS reflects the potential dilution that would occur if outstanding securities exercisable into or convertible to common stock were exercised or converted to common stock. Dilutive potential common shares are not included during periods in which the Company experienced a net loss, as the impact would be anti-dilutive.

A reconciliation of the numerator and denominator of basic and diluted EPS was as follows (in thousands, except per share amounts):

Employee stock options to purchase approximately 29,000 shares with a weighted average exercise price of $24.80 and approximately 210,000 shares with a weighted average exercise price of $22.52 for the three and nine months ended June 30, 2004, respectively, and approximately 26,000 shares with a weighted average exercise price of $22.04 and approximately 269,000 shares with a weighted average exercise price of $18.71 for the three and nine months ended June 30, 2003, respectively, were outstanding, but were not included in the computation of diluted earnings per share because their effect would have been anti-dilutive.

The Company accounts for stock-based awards to employees and directors using the intrinsic value method of accounting in accordance with Accounting Principles Board Opinion No. 25 (“APB 25”), “Accounting for Stock Issued to Employees.” Under the intrinsic value method, because the exercise price of the Company’s employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized in the Company’s Condensed Consolidated Statements of Operations for these grants.

In connection with the acquisition of NurLogic Design, Inc. (“NurLogic”) on February 19, 2003, the Company recorded a total of $696,000 in deferred compensation, representing the difference between the deemed fair value of its common stock at the date of option grant and the exercise price of such options. The stock-based compensation expenses consisted as follows (in thousands):

The following is a summary of the effect on net income and earnings per share if the Company had applied a fair value method prescribed by Statement of Financial Accounting Standards No. 123 to account for stock-based compensation for the periods indicated (in thousands, except per share data):

The fair value of each option grant is estimated on the date of grant using the Black-Scholes option pricing model, which was developed for use in estimating the value of traded options that have no vesting restrictions and are fully transferable. Because the Company’s employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the estimate, in management’s opinion, the existing valuation models do not necessarily provide a reliable measure of the fair value of the Company’s employee stock options.

Comprehensive income represents all changes in stockholders’ equity except those resulting from investments of contributions by stockholders. The unrealized gains and losses on marketable securities and foreign currency translation adjustments are comprehensive income items applicable to the Company. The following table summarizes the activity related to comprehensive income for the periods indicated:

In November 2002, the Emerging Issues Task Force reached a consensus on Issue No. 00-21 (“EITF 00-21”), “Revenue Arrangements with Multiple Deliverables.” EITF 00-21 provides guidance on how to account for arrangements that involve the delivery or performance of multiple products, services and/or rights to use assets. The provisions of EITF 00-21 apply to revenue arrangements entered into in fiscal periods beginning after June 15, 2003. The adoption of EITF 00-21 did not have a material impact on the Company’s financial position and results of operations.

In January 2003, the Financial Accounting Standards Board (“FASB”) issued FIN 46, “Consolidation of Variable Interest Entities”, an Interpretation of ARB 51, which subsequently has been revised by FIN 46-R. The primary objectives of FIN 46-R are to provide guidance on the identification of entities for which control is achieved through means other than through voting rights (variable interest entities or VIEs) and how to determine when and which business enterprise should consolidate the VIE (the primary beneficiary). This new model for consolidation applies to an entity in which either (1) the equity investors (if any) do not have a controlling financial interest or (2) the equity investment at risk is insufficient to finance that entity’s activities without receiving additional subordinated financial support from other parties. In addition, FIN 46-R requires that both the primary beneficiary and all other enterprises with a significant variable interest in a VIE make additional disclosures. FIN 46-R is effective for VIEs created after January 31, 2003 and is effective for all VIEs created before February 1, 2003 that are Special Purpose Entities (SPEs) in the first reporting period ending after December 15, 2003 and for all other VIEs created before February 1, 2003 in the first reporting period ending after March 15, 2004. The Company believes there are no entities qualifying as VIEs and the adoption of FIN 46-R to date has not had any effect on the Company’s financial position, cash flows or results of operations.

In May 2003, the FASB issued Statement of Financial Accounting Standards No. 150 (“SFAS 150”), “Accounting for Certain Financial Instruments with Characteristics of both Liabilities and Equity.” SFAS 150 establishes standards for how an issuer classifies and measures certain financial instruments with characteristics of both liabilities and equity and further requires that an issuer classify as a liability (or an asset in some circumstances) financial instruments that fall within its scope because that financial instrument embodies an obligation of the issuer. Many of such instruments were previously classified as equity. The statement is effective for financial instruments entered into or modified after May 31, 2003, and otherwise is effective at the beginning of the first interim period beginning after June 15, 2003, except for mandatory redeemable financial instruments of nonpublic entities. The adoption of SFAS 150 did not have a material impact on the Company’s financial position or results of operations.

On February 19, 2003, the Company acquired NurLogic, a private provider of integrated circuit intellectual property for approximately $30.8 million consisting of approximately $5.0 million in cash, 745,000 shares of common stock, valued at approximately $12.9 million, and assumed options to acquire 819,000 shares of common stock with a weighted average exercise price per share of $11.89 and a fair value of approximately $11.3 million. The Company also incurred an estimated $1.5 million in transaction fees, including legal, valuation and accounting fees.

During the first quarter of fiscal 2002, the Company adopted the provisions of Statement of Financial Accounting Standards No. 141 (“SFAS 141”), “Business Combinations” and Statement of Financial Accounting Standards No. 142 (“SFAS 142”), “Goodwill and Other Intangible Assets.”

SFAS 142 requires goodwill to be tested on an annual basis and between annual tests in certain circumstances, and written down when impaired, rather than being amortized as previous accounting standards required. Under this standard, goodwill is no longer amortized and, as such, the Company stopped amortizing its goodwill as of October 1, 2001. Furthermore, SFAS 142 requires purchased intangible assets other than goodwill to be amortized over their expected useful lives unless these lives are determined to be indefinite. Purchased intangible assets are carried at cost less accumulated amortization. Amortization is computed over the estimated useful lives of the respective assets, generally nine months to three years.

The following tables present details of the Company’s total purchased intangible assets (in thousands):

The estimated future amortization of purchased intangible assets as of June 30, 2004 is as follows (in thousands):

The results of operations of NurLogic are included in the Company’s Condensed Consolidated Statement of Operations from the date of the acquisition. If the Company had acquired NurLogic at the beginning of the periods presented, the Company’s unaudited pro forma revenue, net income and net income per share would have been as follows (in thousands, except per share data):

Marketable securities, classified as available-for-sale securities were comprised of the following (in thousands):

All short-term investments have maturities of less than one year from the respective balance sheet dates.

Included in accounts receivable at June 30, 2004 and September 30, 2003 were recoverable amounts under work in progress of $12.3 million and $10.8 million, respectively, that represent amounts earned under work in progress, but not billable at the respective balance sheet dates. These amounts become billable according to contract terms, typically based on delivery of specific products or completion of the project. The Company anticipates that substantially all of such unbilled amounts will be billed and collected over the next twelve months.

Depreciation and amortization expense was $818,000 and $2.4 million for the three and nine months ended June 30, 2004, respectively, and $698,000 and $1.5 million for the three and nine months ended June 30, 2003, respectively.

The following table represents the future minimum annual lease payments of the Company as of June 30, 2004 (in thousands):

The Company’s principal administrative and technical offices occupy 54,489 square feet in Sunnyvale, California. The Company holds this building pursuant to a lease that expires in 2008. In addition, the Company leases administrative, technical and field support offices in seven cities throughout the world. The administrative, technical and field offices range from small executive offices to a 35,290 square foot facility. Lease terms range from month-to-month on certain executive offices to three years on certain direct leases. The Company’s principal administrative, technical and field support facilities are in Sunnyvale, California; San Diego, California; Cary, North Carolina; Bangalore, India; Tokyo, Japan; Paris, France and Singapore. The Company periodically evaluates the adequacy of existing facilities and additional facilities in new cities and the Company believes that suitable additional space will be available in the future on commercially reasonable terms as needed.

The Company recognizes rent expense on a straight-line basis over the lease period and has accrued for rent expense incurred but not paid. Net rent expense was $910,000 and $2.5 million for the three and nine months ended June 30, 2004, respectively, and $665,000 and $1.9 million for the three and nine months ended June 30, 2003, respectively.

FIN 45 requires that upon issuance of a guarantee, the guarantor must disclose and recognize a liability for the fair value of the obligation it assumes under that guarantee. The requirements of FIN 45 are applicable to the Company’s product warranty liability and certain guarantees. The Company’s guarantees subject to the recognition and disclosure requirements of FIN 45 as of June 30, 2004 and September 30, 2003 were not material. As of June 30, 2004 and September 30, 2003, the Company’s product warranty liability recorded in other accrued liabilities was not material.

The Company accrues for warranty costs as part of its cost of revenue based on associated technical support labor costs. The products sold are generally covered by a warranty for a period of 90 days.

In the normal course of business to facilitate sales of its products, the Company indemnifies other parties, including customers and parties to other transactions with the Company, with respect to certain matters. The Company has agreed to hold the other party harmless against losses arising from a breach of representations or covenants, or out of intellectual property infringement or other claims made against certain parties. These agreements may limit the time within which an indemnification claim can be made and the amount of the claim. In addition, the Company has entered into indemnification agreements with its officers and directors, and the Company’s bylaws contain similar indemnification obligations to the Company’s agents.

It is not possible to determine the maximum potential amount under these indemnification agreements due to the limited history of prior indemnification claims and the unique facts and circumstances involved in each particular agreement. To date, payments made by the Company under these agreements have not had a material impact on the Company’s operating results or financial position.

We have been notified by Broadcom that it is requesting indemnification from NurLogic (the successor entity of NurLogic is now one of our wholly owned subsidiaries) because a complaint was filed against Broadcom by Agere Systems Inc. in August 2003 in the United States District Court for the Eastern District of Pennsylvania, alleging that some of Broadcom’s products infringe several patents owned by Agere. Agere is seeking both an injunction against Broadcom and monetary damages. Only one of the patents that Agere has asserted against Broadcom is arguably applicable to technology licensed by Nurlogic to Broadcom. We believe that the complaint brought by Agere is without merit. However, there can be no assurance that the court will find that the patent asserted by Agere is invalid or that the technology licensed by NurLogic does not infringe this patent.

Whether or not the asserted patents are valid and whether or not a court finds that Broadcom’s or NurLogic’s products infringe, the investigation and resolution of this indemnity claim and any related litigation could be expensive and could consume substantial amounts of management time and attention.

We were notified by Broadcom Corporation that it was requesting indemnification from NurLogic because a complaint was filed against Broadcom by STMicroelectronics, Inc. in November 2002 in the United States District Court for the Eastern District of Texas alleging that some of Broadcom’s products infringed several patents owned by STMicroelectronics. STMicroelectronics was seeking both an injunction against Broadcom and monetary damages. In April 2004, the litigation between STMicroelectronics and Broadcom was settled.

The Company has adopted SFAS No. 131, “Disclosure about Segments of an Enterprise and Related Information.” Although the Company offers various IP components and services to its customers, the Company does not manage its operations by these IP components and services, but instead views the Company as one operating segment when making business decisions. The Company does not manage its operations on a geographical basis. Revenue is attributed to countries based on the geographical location of the customer. The Company uses only one measurement of profitability for its business, which is operating income.

The distribution of revenue by geographic area for the periods presented was (in thousands):

The distribution of long-term assets by geographic region for the periods presented was (in thousands):

The long-term assets noted above are net of goodwill, purchased intangible assets and deferred tax assets at June 30, 2004 and September 30, 2003.

The Company has been dependent on a relatively small number of customers for a large portion of its total revenue, although the customers comprising this group have changed from time to time. Revenue from individual customers equal to 10% or more of the Company’s total revenue was as follows:

Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amount used for income tax purposes. The Company had net deferred tax assets of $21.8 million and $0 as of June 30, 2004 and September 30, 2003, respectively. These deferred tax assets are comprised of the following (in thousands):

Based on the recent history of profits and forecasted taxable income, management concluded that it is more likely than not the Company’s net deferred tax assets will be realizable. Accordingly, the Company reversed the valuation allowance as of June 30, 2004. Approximately $14.3 million of the valuation allowance that was reversed was attributable to certain carryforwards, resulting from the exercise of employee stock options, and was accounted for as a credit to additional paid-in-capital. In addition, $3.5 million of the valuation allowance that was reversed was attributable to federal and state loss carryforwards, research credits and other book tax differences from the acquisition of Nurlogic and was accounted for as a credit to goodwill.

On June 17, 2004, an employee of the Company exercised stock options to purchase approximately 22,000 shares of the Company’s common stock at exercise prices between $5.06 and $16.75 per share. As consideration for the exercise of the stock options, the employee transferred approximately 10,000 shares of common stock of the Company to the Company at the then current market price of $24.16. The Company recorded $249,000 as treasury stock related to this transaction.

On January 11, 2003, two officers of the Company exercised stock options to purchase 150,000 shares of the Company’s common stock at an exercise price of $7.70 per share. As consideration for the exercise of the stock options and the related taxes, the officers transferred approximately 77,000 shares of common stock of the Company to the Company at the then current market price of $18.28. The Company recorded $1.4 million as treasury stock related to this transaction.

ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following discussion should be read in conjunction with the Unaudited Condensed Consolidated Interim Financial Statements and the Notes thereto included elsewhere herein and the audited consolidated financial statements contained in our Annual Report on Form 10-K for the year ended September 30, 2003 as filed with the Securities and Exchange Commission. The following Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. The forward-looking statements contained herein are based on current expectations and entail various risks and uncertainties that could cause actual results to differ materially from those expressed in such forward-looking statements. Forward-looking statements can often be identified by the use of forward-looking words such as “may,” “will,” “could,” “should,” “expect,” “believe,” “anticipate,” “estimate,” “continue,” “plan,” “intend,” “project,” or other similar words. We undertake no obligation to revise or update any such forward-looking statements.

We are a leading provider of physical intellectual property components for the design and manufacture of integrated circuits, including those known as system-on-a-chip integrated circuits. Our products include embedded memory, standard cell, input/output components and analog and mixed-signal products, which are designed to achieve the best combination of performance, density, power and yield for a given manufacturing process. Our intellectual property components are pre-tested by producing them in silicon to ensure that they perform to specification. This enables designers to reduce the risk of design failure and gain valuable time to market. We license our products to customers for the design and manufacture of integrated circuits used in complex, high volume applications such as

portable computing devices, communication systems, cellular phones, consumer multimedia products, automotive electronics, personal computers and workstations.

We derive a substantial majority of our revenue from integrated circuit manufacturers who pay license fees and royalties to us to use our intellectual property components in the products they manufacture. These integrated circuit manufacturing customers work with integrated circuit designers who incorporate our intellectual property components in their designs. Our customers include the following: foundries, which are independent manufacturing facilities; integrated circuit companies that design and manufacture their own integrated circuit products; system manufacturers which are integrated circuit companies that design and manufacture integrated circuits for use in their electronic products; integrated circuit companies that manufacture products for their customers; and fabless integrated circuit companies, which do not have their own manufacturing facilities, but use our intellectual property components in their integrated circuit designs.

Integrated circuit designers use our intellectual property components to help ensure that integrated circuits will work to specification before they are manufactured. These integrated circuit designers are customers of our integrated circuit manufacturing customers. We serve as an interface layer between integrated circuit designers and manufacturers. This manufacturing process interface layer is important since every integrated circuit design must be mapped into a given manufacturing process to achieve specified performance and desired yield. The use of our intellectual property components by integrated circuit designers encourages integrated circuit manufacturers to license our intellectual property components. We believe that integrated circuit designers view intellectual property components as an important link between the design of an integrated circuit and the manufacturing process.

We have licensed our intellectual property components to over a thousand companies involved in integrated circuit design. We make the core set of our products available to licensed integrated circuit designers at no charge. We also provide customized intellectual property components and services to our licensed customers on a separate fee basis.

We license our intellectual property components on a nonexclusive, worldwide basis to major integrated circuit manufacturers and integrated circuit design teams that are customers of such manufacturers. We charge manufacturers a license fee that gives them the right to manufacture integrated circuits containing intellectual property components we have developed for their manufacturing process. With limited exceptions, manufacturers also agree to pay us royalties based on the selling prices of integrated circuits or wafers that contain our intellectual property components. Generally, we credit a portion of the royalty payments to the manufacturer’s account to be applied against license fees for any future orders placed with us within a certain time period, if any, payable by the manufacturer. The portion of the royalty payment that is credited to a manufacturer’s account to be applied against future license fees, if any, is based on negotiations at the time the license arrangement is signed.

The license of our intellectual property components to an integrated circuit manufacturer typically involves a sales cycle of three to nine months and often coincides with an integrated circuit manufacturing customer’s migration to a new manufacturing process. Our contracts with integrated circuit manufacturers generally require them to pay a license fee for each product delivered under a contract. Generally, our license contracts involve multiple products. Throughout the production cycle, integrated circuit manufacturers often request additional products or modifications to existing products that result in additional license revenue. Our contracts generally require payment of a portion of the license fees upon signing of the contract with the final payment due within 30 to 90 days after delivery, which generally takes three to nine months from the contract signing date.

The license of our intellectual property components typically involves a significant commitment of capital by the integrated circuit manufacturer and a purchase from us will often be timed to coincide with a manufacturer’s migration to a new manufacturing process geometry. Manufacturers migrating to a new process geometry often view our intellectual property components as a means of attracting integrated circuit designers that use our components. Within a given process geometry, manufacturers may also choose to license additional intellectual property components from us in response to their customer’s requirements. Once an order is received, we must commit significant time and resources to the customization of products for such manufacturer. Because we often recognize revenue from such orders on a percentage-of-completion basis, the customers representing a significant portion of our revenue in a given quarter will depend upon the timing of our receipt of new orders and our progress on the customization of projects actually performed by us during such quarter.

We derive a substantial majority of our total revenue from fees associated with the sale of licenses, including maintenance and support fees. Together, license, maintenance and support fees accounted for 64% of total revenue in the three months ended June 30, 2004 and 82% of total revenue in the three months ended June 30, 2003. License, maintenance and support fees accounted for 66% of total revenue in the nine months ended June 30, 2004 and 85% of total revenue in the nine months ended June 30, 2003. We expect that license revenue will continue to account for a substantial portion of our total revenue for the foreseeable future.

We calculate royalty revenue based on the selling price of integrated circuits or wafers containing our intellectual property components. License arrangements call for royalty reporting by each integrated circuit manufacturing customer on either a per-integrated circuit or per-wafer basis. Given that we provide our intellectual property components early in the customer’s integrated circuit design process, there is a delay of approximately one to four years between the time we deliver an intellectual property component and the time we receive royalty revenue, if at all, when the integrated circuits incorporating our intellectual property components are manufactured and sold. In recent periods, we have established uniform royalty rates, calculated on the basis of the wafer selling prices, applicable to all new licensees. Prior to that, royalty rates varied among integrated circuit manufacturers. In addition, our agreements with Taiwan Semiconductor Manufacturing Company, or TSMC, provide that royalty and credit rates decrease in accordance with a fixed schedule over the life of a given process geometry. Our success will depend, in part, on our ability to generate royalty revenue from a large number of designs and on many of these designs achieving substantial manufacturing volumes.

We have been dependent on a relatively small number of integrated circuit manufacturing customers for a substantial portion of our total revenue, although the integrated circuit manufacturers comprising this group have changed from time to time. For the three months ended June 30, 2004, TSMC accounted for 31% of total revenue, United Microelectronics Corporation, or UMC, accounted for 18% of total revenue, IBM accounted for 15% of total revenue and Chartered Semiconductor Manufacturing Ltd., or Chartered, accounted for 10% of total revenue. For the three months ended June 30, 2003, IBM accounted for 25% of total revenue and TSMC accounted for 17% of total revenue. For the nine months ended June 30, 2004, TSMC accounted for 29% of total revenue, UMC accounted for 17% of total revenue, IBM accounted for 11% of total revenue and Chartered accounted for 10% of total revenue. For the nine months ended June 30, 2003, IBM accounted for 21% of total revenue and TSMC accounted for 18% of total revenue. We anticipate that our total revenue will continue to depend on a limited number of major customers for the foreseeable future, although the companies considered to be major customers and the percentage of total revenue represented by each major customer may vary from period to period depending on the customers contributing to the addition of new contracts, the timing of work performed by us and the number of designs utilizing our products.

Historically, a large portion of our total revenue has been generated from outside of the United States. International revenue as a percentage of our total revenue was approximately 74% in the three months ended June 30, 2004 and 62% in the three months ended June 30, 2003. International revenue as a percentage of our total revenue was approximately 75% for the nine months ended June 30, 2004 and 67% for the nine months ended June 30, 2003. We anticipate that international revenue will remain a substantial portion of our total revenue for the foreseeable future. As all of our sales are currently denominated in US dollars, a strengthening of the US dollar could make our intellectual property components less competitive in foreign markets. We do not use derivative financial instruments for speculative or trading purposes. We have not engaged in any foreign currency hedging transactions.

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates, assumptions and judgments that affect the reported amounts of assets, liabilities, revenue and expenses and related disclosure of contingent assets and liabilities. On an on-going basis, we evaluate our estimates, assumptions and judgments including those related to revenue recognition, accounting for investments, allowance for doubtful accounts, goodwill impairments, contingencies, restructuring costs and other special charges and taxes. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances. The results of these estimates form the basis for our judgments about the carrying values of assets and liabilities and our recognition of revenue that is not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions. Some of our most critical accounting policies are described in the following paragraphs:

We follow specific and detailed guidelines in recognizing revenue in accordance with the provisions of AICPA Statement of Position 97-2, “Software Revenue Recognition,” as amended by Statement of Position 98-4 and Statement of Position 98-9, as well as Accounting Research Bulletin No. 45, “Long-Term Construction-Type Contracts,” and Statement of Position 81-1, “Accounting for Performance of Construction-Type and Certain Production Type Contracts.” However, our judgments may affect the application of our revenue recognition policy. Revenue in any given period is difficult to predict, and any shortfall in revenue or delay in recognizing revenue could cause our operating results to vary significantly from quarter to quarter and could result in future operating losses.

We recognize and report revenue in two separate categories: license revenue and net royalty revenue. License revenue is comprised of license, maintenance and support fees. License fees are derived from the purchase of a license for our products. Maintenance fees are derived from maintenance contracts with our integrated circuit manufacturing customers, which are generally purchased at the same time as a license for the product. Support fees are derived from arrangements with integrated circuit designers to support the use of our intellectual property components in their designs. Royalty revenue is derived from fees based on the selling prices of integrated circuits or wafers containing our intellectual property components.

License revenue. For all licenses, we use both a binding purchase order and a signed license agreement as evidence of an arrangement. We assess cash collectibility based on a number of factors, including past collection history with the customer and the credit worthiness of the customer. In cases where we believe a customer’s credit worthiness is uncertain, we require advance payment or a letter of credit as assurance of payment. If we determine that collection of a fee is not probable, we defer the revenue and recognize it at the time collection becomes probable.

For licensed products which do not require significant customization of intellectual property components, we generally recognize license revenue when a signed contract or other persuasive evidence of an arrangement exists, the software has been shipped or electronically delivered, the license fee is fixed or determinable and collection of the resulting receivable is probable.

For licensed products requiring significant customization of our intellectual property components, we generally recognize license revenue using the percentage-of-completion method of accounting over the period that services are performed. For all license and service agreements accounted for under the percentage-of-completion method, we determine progress to completion based on actual direct labor hours incurred to date as a percentage of the estimated total direct labor hours required to complete the project. We periodically evaluate the actual status of each project to ensure that the estimates to complete each contract remain accurate. A provision for estimated losses on contracts is made in the period in which the loss becomes probable and can be reasonably estimated. To date, these losses have not been significant. Costs incurred in advance of billings are recorded as costs in excess of related billings on uncompleted contracts. If the amount of revenue recognized exceeds the amounts billed to customers, the excess amount is recorded as unbilled accounts receivable. If the amount billed exceeds the amount of revenue recognized, the excess amount is recorded as deferred revenue. Revenue recognized in any period is dependent on our progress toward completion of projects in progress. Significant management judgment and discretion are used to estimate total direct labor hours. Any changes in or deviations from these estimates could have a material effect on the amount of revenue we recognize in any period.

For arrangements with multiple elements such as product licenses and maintenance services, we allocate revenue to each element of a transaction based upon its fair value as determined in reliance on vendor specific objective evidence. Vendor specific objective evidence of fair value for all elements of an arrangement is based upon the normal pricing and discounting practices for those licensed products and services when sold separately and for maintenance is additionally measured by the renewal rate. If we cannot objectively determine the fair value of any undelivered element included in license arrangements, we defer revenue until all elements are delivered, all services have been performed or fair value can objectively be determined. When the fair value of a license element has not been established, we use the residual method to record license revenue if the fair value of all undelivered elements is determinable. Under the residual method, the fair value of the undelivered elements is deferred and the remaining portion of the fee is allocated to the delivered elements and is recognized as revenue.

We derive maintenance fees from maintenance contracts which are generally purchased by integrated circuit manufacturers at the same time as a license for our intellectual property components. Maintenance includes telephone and email support and the right to receive unspecified upgrades on a when-and-if-available basis. Maintenance may generally be renewed on an annual basis. We recognize revenue for maintenance, based on vendor specific objective evidence of fair value, ratably over the term of the maintenance period. We generally determine vendor specific objective evidence of maintenance based on the stated fees for maintenance renewal set forth in the original license and first maintenance agreement.

We derive support fees from arrangements with integrated circuit designers to support the use of our intellectual property components in their designs. Support includes telephone and email support and the right to receive unspecified upgrades on a when-and-if-available basis. We recognize support fees ratably over the support period. Support arrangements generally have a term of twelve-months and may be renewed for additional twelve-month periods.

Royalty revenue. We recognize royalty revenue based on royalty reports received from integrated circuit manufacturers, generally on a one-quarter lag basis. We generally credit a portion of each royalty payment back to the integrated circuit manufacturer’s account to be applied against future license fees, if any, payable by the manufacturer. We report the remaining portion of the royalty as net royalty revenue. The amount of credits that can be earned by an integrated circuit manufacturer is generally limited to the cumulative amount of orders placed by that integrated circuit manufacturer for a given process technology. An integrated circuit manufacturer has a limited time to use the credits before they expire, generally twelve to eighteen months from the time credits are earned. As a result, we defer revenue associated with our credit program until the integrated circuit manufacturer licenses additional products or the credit expires, whichever is earlier. If the integrated circuit manufacturer does not use the credits within the stated period, we record the amount of the expired credits as net royalty revenue as we no longer have an obligation to provide any future products for the expired credits. Historically, integrated circuit manufacturing customers have utilized substantially all credits to purchase additional licensed products prior to expiration of the credits. When the integrated circuit manufacturing customers use credits, we recognize the credits as license revenue when our revenue recognition criteria have been met.

From time to time we may exercise our audit rights in accordance with our license contracts with our manufacturing customers. The outcome of such royalty audits could result in an increase, as a result of a licensee’s underpayment, or decrease, as a result of a licensee’s overpayment, to previously reported royalty revenues. Such adjustments are recorded in the period they are determined based on the results of such royalty audits.

We determine the appropriate classification of marketable securities at the time of purchase and evaluate such designation as of each balance sheet date. To date, all marketable securities have been classified as available-for-sale and are carried at fair value with unrealized gains and losses, if any, included as a component of accumulated other comprehensive income in stockholders equity. Marketable securities are presented as current or long-term assets based on their scheduled maturities. Realized gains and losses are recognized based on the specific identification method.

We review our investments on a regular basis to evaluate whether or not each security has experienced an other-than-temporary decline in fair value. If we believe that an other-than-temporary decline exists, we write down the investment to fair market value and record the related write-down as a loss on investments in our consolidated statements of operations.

We maintain an allowance for doubtful accounts for estimated losses resulting from the inability or unwillingness of customers to make required payments. The allowance for doubtful accounts is based on our assessment of the collectibility of specific customer accounts, the aging of the accounts receivable and our historical experience. If a major customer’s creditworthiness were to deteriorate, or actual defaults were higher than our historical experience, our allowance for doubtful accounts may be insufficient to cover the uncollectible receivables, which could have an adverse impact on our operating results in the period. The impact of any change in the allowance for doubtful accounts may be affected by our reliance on a relatively small number of integrated circuit manufacturers for a large portion of our total revenue.

We assess long-lived and other intangible assets for impairment whenever events or changes in circumstances indicate that the carrying value may not be recoverable through the estimated undiscounted future cash flows resulting from the use of the assets. If we determine that the carrying value of long-lived and other intangible assets may not be recoverable, we measure impairment by using the projected discounted cash flow method.

In accordance with Statement of Financial Accounting Standards No. 142 (“SFAS 142”), “Goodwill and Other Intangible Assets,” goodwill and intangible assets deemed to have indefinite lives are no longer amortized, but instead are subject to impairment tests on at least an annual basis and between annual tests whenever events or circumstances may indicate an impairment has occurred. We adopted SFAS 142 during the first quarter of fiscal 2002. Our acquired workforce does not qualify as a separately identifiable intangible asset and on adoption of SFAS 142 was reclassified as goodwill. The adoption of SFAS 142 did not have a material impact on our financial position and results of operations, other than the cessation of amortization of goodwill.

We are subject to the possibility of various loss contingencies arising in the ordinary course of business. We consider the likelihood of loss or impairment of an asset or the incurrence of a liability, as well as our ability to reasonably estimate the amount of loss in determining loss contingencies. We accrue an estimated loss contingency when it is probable that an asset has been impaired or a liability has been incurred and the amount of loss can be reasonably estimated. We regularly evaluate current information available to us to determine whether the accruals should be adjusted.

As part of the process of preparing our consolidated financial statements, we are required to estimate our income taxes in each of the jurisdictions in which we operate. This process involves estimating our current tax exposure and assessing temporary differences resulting from differing treatment of items, such as deferred revenues, for tax and accounting purposes. These differences result in deferred tax assets and liabilities. We then assess the likelihood that our deferred tax assets will be recovered from past and future taxable income.

We make significant judgments in determining our provision for income taxes, our deferred tax assets and any valuation allowance which may be recorded against our deferred tax asset. As of June 30, 2004, our gross deferred tax assets, consisting primarily of tax credit carryforwards, net operating loss carryforwards and nondeductible reserves and accruals, were valued at $21.8 million.

We have concluded that it is more likely than not that all of our deferred tax assets at June 30, 2004, will be realizable, based on available objective evidence and our recent history of net income before taxes. The calculation of our tax liabilities involves dealing with uncertainties in the application of complex tax regulations. We record liabilities for anticipated tax audit issues based on its estimate of whether, and the extent to which, additional taxes may be due. Actual tax liabilities may be different than the recorded estimates and could result in an additional charge or benefit to the tax provision in the period when the ultimate tax assessment is determined.

In February 2003, we acquired NurLogic Design, Inc. (“NurLogic”) for consideration consisting of approximately $5.0 million in cash, 745,000 shares of common stock valued at approximately $12.9 million, and assumed options to acquire 819,000 shares of common stock with a weighted average exercise price per share of $11.89 and a fair value of approximately $11.3 million. We accounted for the acquisition under the purchase method of accounting. NurLogic’s technology adds complementary analog, mixed-signal and communication components to our product portfolio. Our acquisition of NurLogic has resulted in a significant increase in our costs and expenses relating primarily to the increased headcount and amortization of purchased intangible assets. This increase in our costs and expenses has affected and will continue to affect the comparability of our financial statements in future periods.

The following table sets forth, for the periods indicated, selected statements of operations data as a percentage of our total revenue:

Total revenue increased by $3.1 million, or 16.1% to $22.0 million for the three months ended June 30, 2004, compared to $18.9 million for the three months ended June 30, 2003. The increase was primarily attributable to an increase in net royalty revenue of approximately $4.5 million, but was partially offset by a decrease in license revenue of approximately $1.4 million related to a decrease in the sale of our intellectual property components. Total revenue increased by $14.4 million, or 29.3% to $63.4 million for the nine months ended June 30, 2004, compared to $49.0 million for the nine months ended June 30, 2003. The increase was primarily attributable to an increase in net royalty revenue of approximately $14.1 million and an increase in license revenue of approximately $284,000 related to an increase in the sale of our intellectual property components.

Gross royalties are related to the manufacture and sale of royalty bearing integrated circuits or wafers, which are reported to us by our integrated circuit manufacturing customers. Gross royalties are calculated based on the selling price of integrated circuits or wafers

containing our intellectual property components. From these amounts, a percentage of the gross royalty payment is credited to our integrated circuit manufacturing customers’ accounts based on specific contract terms for use as payment of license fees for future orders to be placed with us, if any, which we record as deferred revenue on our consolidated balance sheets. The remaining portion of gross royalty revenue is reported as net royalty revenue on our consolidated statements of operations.

Gross royalty revenue increased by $4.7 million, or 104.8% to $9.2 million for the three months ended June 30, 2004, compared to $4.5 million for the three months ended June 30, 2003. From these amounts, $1.4 million was credited to integrated circuit manufacturing customers’ accounts for the three months ended June 30, 2004, compared to $1.2 million which was credited to integrated circuit manufacturing customers’ accounts for the three months ended June 30, 2003. The remaining portion of gross royalty revenue of $7.8 million was reported as net royalty revenue for the three months ended June 30, 2004, compared to $3.3 million which was reported as net royalty revenue for the three months ended June 30, 2003.

Gross royalty revenue increased by $14.5 million, or 141.7% to $24.7 million for the nine months ended June 30, 2004, compared to $10.2 million for the nine months ended June 30, 2003. From these amounts, $3.1 million was credited to integrated circuit manufacturing customers’ accounts for the nine months ended June 30, 2004, compared to $2.7 million which was credited to integrated circuit manufacturing customers’ accounts for the nine months ended June 30, 2003. The remaining portion of gross royalty revenue of $21.6 million was reported as net royalty revenue for the nine months ended June 30, 2004, compared to $7.5 million which was reported as net royalty revenue for the nine months ended June 30, 2003.

Engineering costs are allocated between cost of revenue and product development. We track specific customer projects and product development efforts based on unique project codes that are assigned at the inception of each project. Individual engineers devoted to these projects record time to these project codes as actual hours are incurred. Engineering efforts devoted to specific customer projects are recognized as cost of revenue in the same period that revenues are recognized. Engineering efforts devoted to the general development of our technology are charged to product development. Engineering costs related to product development are expensed as incurred.

Cost of revenue. Cost of revenue increased by $712,000, or 14.4% to $5.7 million for the three months ended June 30, 2004, compared to $4.9 million for the three months ended June 30, 2003. The increase in cost of revenue was primarily attributable to an increase in engineering hours allocated to revenue generating projects of $1.4 million, but was partially offset by a decrease in outside services of $491,000. Cost of revenue increased by $2.6 million, or 21.3% to $15.1 million for the nine months ended June 30, 2004, compared to $12.4 million for the nine months ended June 30, 2003. The increase in cost of revenue was primarily attributable to an increase in engineering hours allocated to revenue generating projects of $3.5 million, but was partially offset by a decrease in outside services of $640,000. We expect that cost of revenue will continue to increase in absolute dollars in future periods.

Product development expenses. Product development expense decreased $1.7 million, or 29.4% to $4.0 million for the three months ended June 30, 2004, compared to $5.7 million for the three months ended June 30, 2003. The decrease in product development expense was primarily attributable to an increase in engineering hours allocated to revenue-generating projects of $1.5 million, decreased use of outside services of $399,000 and decreased travel expenses of $280,000, but was partially offset by an increased facilities costs of $302,000, an increase in headcount and personnel related costs of $103,000 and increased software maintenance expenses of $102,000. Product development expense increased $512,000, or 3.8% to $13.9 million for the nine months ended June 30, 2004, compared to $13.4 million for the nine months ended June 30, 2003. The increase in product development expense was primarily attributable to an increase in headcount and personnel related costs of $3.1 million arising from our acquisition of NurLogic, development of our India operations and general growth, increased facilities costs of $1.2 million, increased software maintenance expenses of $665,000 and increased supplies and materials costs of $273,000, but was partially offset by an increase in engineering hours allocated to revenue-generating projects of $3.0 million, decreased use of outside services of $1.1 million and decreased travel expenses of $761,000. We expect product development expenses will continue to increase in absolute dollars in future periods.

Sales and marketing expenses. Sales and marketing expenses include salaries, commissions, travel expenses, costs associated with trade shows, advertising and other marketing efforts. Sales and marketing expenses decreased by $235,000, or 5.7% to $3.9 million for the three months ended June 30, 2004, compared to $4.1 million for the three months ended June 30, 2003. The absolute dollar decrease in sales and marketing expenses of $235,000 for the three months ended June 30, 2004, from the three months ended June 30, 2003 was primarily attributable to decreased headcount and personnel expenses of $263,000, decreased commission expense of $127,000 and decreased use of outside services of $91,000 but was partially offset by increased marketing expenses of $159,000, increased facilities expenses of $55,000 and increased travel expenses of $33,000. Sales and marketing expenses increased by $1.1 million, or 10.5% to $11.5 million for the nine months ended June 30, 2004, compared to $10.4 million for the nine months ended June 30, 2003. The absolute dollar increase in sales and marketing expenses of $1.1 million for the nine months ended June 30, 2004, from the nine months ended June 30, 2003 was primarily attributable to increased headcount and personnel expenses of $784,000, increased marketing expenses of $393,000 and increased facilities expenses of $321,000, but was partially offset by decreased commission expenses of $238,000 and decreased use of outside services of $84,000. We expect sales and marketing expenses will continue to increase in absolute dollars in future periods.

General and administrative expenses. The increase in general and administrative expenses of $308,000, or 19.4% to $1.9 million for the three months ended June 30, 2004, compared to $1.6 million for the three months ended June 30, 2003 was primarily attributable to an increase in headcount and personnel related costs of $176,000, an increased use of outside services of $132,000 and increased facilities expenses of $35,000. The increase in general and administrative expenses of $624,000, or 12.9% to $5.4 million for the nine months ended June 30, 2004, compared to $4.8 million for the nine months ended June 30, 2003 was primarily attributable to an increase in use of outside services of $294,000, an increase in headcount and personnel related costs of $253,000 and increased facilities expenses of $83,000. We expect general and administrative expenses will continue to increase in absolute dollars in future periods.

In-process research and development. In-process research and development expense of $520,000 for the nine months ended June 30, 2003 was attributable to our acquisition of NurLogic in February 2003.

Amortization of purchased intangible assets. The decrease in the amortization of purchased intangible assets of $615,000, or 40.7% to $896,000 for the three months ended June 30, 2004, compared to $1.5 million for the three months ended June 30, 2003 was attributable to a decrease of $445,000 in the amortization of the purchased intangible assets related to our acquisition of Synopsys’ physical library business in January 2001 which was fully amortized as of June 30, 2004 and a decrease of $170,000 in the amortization of purchased intangible assets related to our acquisition of NurLogic in February 2003. The increase in amortization of purchased intangible assets of $223,000, or 7.7% to $3.1 million for the nine months ended June 30, 2004, compared to $2.9 million for the nine months ended June 30, 2003 was primarily attributable to an increase of $1.2 million in the amortization of purchased assets related to our acquisition of NurLogic in February 2003, offset by a decrease of $936,000 in the amortization of the purchased intangible assets related to our acquisition of Synopsys’ physical library business in January 2001 which was fully amortized as of June 30, 2004.

Interest and other income, net decreased $169,000, or 27.5% to $445,000 for the three months ended June 30, 2004, compared to $614,000 for the three months ended June 30, 2003. The decrease of $169,000 in interest and other income is primarily attributable to lower interest rate on cash, cash equivalent and marketable securities balances. Interest and other income, net increased $135,000, or 13.6% to $1.1 million for the nine months ended June 30, 2004, compared to $992,000 for the nine months ended June 30, 2003. The increase of $135,000 is primarily attributable to interest income related to higher cash, cash equivalent and marketable securities.

The benefit from income taxes was $130,000 for the three months ended June 30, 2004 and the provision for income taxes was $274,000 for the three months ended June 30, 2003. The provision for income taxes was $741,000 for the nine months ended June 30, 2004 compared to $727,000 for the nine months ended June 30, 2003. The differences between the three and nine months ended June 30, 2004 and the three and nine months ended June 30, 2003 were primarily attributable to the reversal of our valuation allowance recorded against our net deferred tax asset.

Net cash provided by operating activities in the nine months ended June 30, 2004 of $16.9 million was primarily attributable to net income of $14.7 million, non-cash charges primarily consisting of depreciation and amortization of $5.6 million and tax benefit arising from disqualifying dispositions of stock options of $14.0 million, an increase in accrued liabilities of $2.2 million and an increase in deferred revenue of $1.6 million, but was partially offset by an increase in deferred tax assets of $15.5 million, an increase in accounts receivable of $3.3 million and an increase in prepaid expenses and other current assets of $2.3 million. Net cash provided by operating activities in the nine months ended June 30, 2003 of $5.6 million was primarily attributable to net income of $4.8 million, non-cash related charges of $5.1 million, an increase in deferred revenue of $1.5 million and a decrease in other assets of $634,000, but was partially offset by an increase in accounts receivable of $4.4 million, a decrease in other liabilities of $1.0 million and a decrease in accrued liabilities of $759,000. The changes in working capital were due to the timing of payments to suppliers in order to optimize discounts and payment periods. The increase in accounts receivable was attributable to the timing of receipts from customers and amounts earned under work in progress, but not billable at the respective balance sheet dates. Our revenue contracts generally require payment of a portion of the license fees upon signing of the contracts with the final payment due within 30 to 90 days after delivery, which generally takes three to nine months from the contract signing date. As such, fluctuations in revenue generally do not correlate directly with the fluctuations in accounts receivable. We expect that cash provided by operating activities may fluctuate in future periods as a result of a number of factors, including but not limited to fluctuations in our operating results, accounts receivable collections and the timing of tax and other payments.

Net cash used in investing activities in the nine months ended June 30, 2004 of $29.9 million was primarily attributable to a net increase in marketable securities of $29.1 million and purchases of property and equipment of $832,000. Net cash provided by investing activities of $2.3 million in the nine months ended June 30, 2003 was primarily attributable to a net decrease in marketable securities of $8.3 million, but was partially offset by purchases of property and equipment of $3.2 million and $2.8 million related to the acquisition of Nurlogic, net of cash acquired.

Net cash provided by financing activities in the nine months ended June 30, 2004 of $10.4 million consisted of proceeds from the issuance of common stock to employees upon the exercise of stock options and our employee stock purchase plan. Net cash provided by financing activities in the nine months ended June 30, 2003 of $61.5 million was primarily attributable to net proceeds of approximately $53.3 million from our May 2003 sale of 3.1 million shares of newly issued common stock, proceeds of $7.9 million from the issuance of common stock to employees upon the exercise of stock options and purchases under our employee stock purchase plan and proceeds of $240,000 from the repayment of a stockholders’ note receivable.

We intend to continue to invest heavily in the development of new products and enhancements to our existing intellectual property components. Our future liquidity and capital requirements will depend upon numerous factors, including the costs and timing of expansion of product development efforts and the success of these development efforts, the costs and timing of expansion of sales and marketing activities and our international operations, the extent to which our existing and new intellectual property components gain market acceptance, the costs, timing and integration of future acquisitions, if any, competing technological and market developments, the costs involved in maintaining, defending and enforcing patent claims and other intellectual property rights, the level and timing of license and royalty revenue and other factors. We do not currently have any borrowing facilities other than an unused equipment lease line of $296,000 as of June 30, 2004, which expires in December 2004. We believe that our current cash, cash equivalents and investment balances and any cash generated from operations, will be sufficient to meet our operating and capital requirements for at least the next 12 months. However, from time to time, we may be required to raise additional funds through public or private financing, strategic relationships or other arrangements. There can be no assurance that funding, if needed, will be available on terms attractive to us, or at all. Furthermore, any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. Strategic arrangements, if necessary to raise additional funds, may require us to relinquish our rights to certain of our technologies or intellectual property components. Our failure to raise capital when needed could have a material adverse effect on our business, operating results and financial condition.

We do not have any investments in special purpose entities, undisclosed borrowings or debt or off-balance sheet arrangements other than operating leases on our facilities. Additionally, we have not entered into any derivative contracts, nor do we have any synthetic leases. At June 30, 2004, we had no foreign currency contracts outstanding.

The following table represents our future minimum annual lease payments as of June 30, 2004 (in thousands):

Our principal administrative and technical offices occupy 54,489 square feet in Sunnyvale, California. We occupy this building pursuant to a lease that expires in 2008. In addition, we lease administrative, technical and field support offices in seven cities throughout the world. The administrative, technical and field offices range from small executive offices to a 35,290 square foot facility. Lease terms range from month-to-month on certain executive offices to three years on certain direct leases. Our principal administrative, technical and field support facilities are in Sunnyvale, California; San Diego, California; Cary, North Carolina; Bangalore, India; Tokyo, Japan; Paris, France and Singapore. We periodically evaluate the adequacy of existing facilities and additional facilities in new cities and we believe that suitable additional space will be available in the future on commercially reasonable terms as needed.

In January 2003, the Financial Accounting Standards Board (“FASB”) issued FIN 46, “Consolidation of Variable Interest Entities”, an Interpretation of ARB 51, which subsequently has been revised by FIN 46-R. The primary objectives of FIN 46-R are to provide guidance on the identification of entities for which control is achieved through means other than through voting rights (variable interest entities or VIEs) and how to determine when and which business enterprise should consolidate the VIE (the primary beneficiary). This new model for consolidation applies to an entity in which either (1) the equity investors (if any) do not have a controlling financial interest or (2) the equity investment at risk is insufficient to finance that entity’s activities without receiving additional subordinated financial support from other parties. In addition, FIN 46-R requires that both the primary beneficiary and all other enterprises with a significant variable interest in a VIE make additional disclosures. FIN 46-R is effective for VIEs created after January 31, 2003 and is effective for all VIEs created before February 1, 2003 that are Special Purpose Entities (SPEs) in the first reporting period ending after December 15, 2003 and for all other VIEs created before February 1, 2003 in the first reporting period ending after March 15, 2004. We believe there are no entities qualifying as VIEs and the adoption of FIN 46-R to date has not had any effect on the our financial position, cash flows or results of operations.

The following lists some, but not all, of the risks and uncertainties which may have a material and adverse effect on our business, financial condition or results of operations. The risks and uncertainties set out below are not the only risks and uncertainties we face. If any of the material risks or uncertainties we face were to occur, the trading price of our securities could decline.

Our quarterly operating results may fluctuate, which could cause our stock price to decline.

Our operating results have fluctuated in the past, and may fluctuate in the future, as a result of a number of factors including:

Our future revenue may fluctuate from quarter to quarter and on an annual basis as a result of these and other factors. Our expense levels are based in part on our expectations regarding future revenue. If revenue is below our expectations in any quarter and we are not able to adjust spending in a timely manner, the negative effect of such shortfall may increase. We intend to continue to invest in product development, product marketing, licensing and support programs in an effort to maximize the growth of future revenue and net income. Accordingly, it is likely that in some future quarters our expenses will represent a greater than expected percentage of our revenue, causing our operating results to fall below the expectations of public market analysts and investors, which could cause our stock price to decline, perhaps substantially.

Our sales cycle is unpredictable and may be more than 12 months, so we may fail to adjust our resources and expenses adequately to meet anticipated or actual demand.

The license of our intellectual property components typically involves a significant commitment of capital by the integrated circuit manufacturer and a purchase will often be timed to coincide with an integrated circuit manufacturer’s migration to a new manufacturing process or process variation. Potential customers generally commit significant resources to an evaluation of available intellectual property components and require that we expend substantial time, effort and resources to educate them about the value of our intellectual property components. Despite these efforts, potential customers may select an alternate product or delay or forego a license of our intellectual property components. As a result, the sales cycle for our intellectual property components is long, typically ranging from three to nine months, and may in some cases be more than 12 months. Our ability to forecast the timing and scope of specific sales is limited. If we were to experience a delay in our orders, it could harm our ability to meet our forecasts or investors expectations for a given quarter and ultimately result in a decrease in our stock price. For example, in recent months our customers have been slower than in the past at giving us the specifications we need to produce our libraries for their new processes. We believe the reason for the delay is diversion of resources to meet production requirements due to heavy volumes. Because we recognize license revenue on a percentage of completion basis, we recognized less license revenue than we expected.

Once we receive and accept an order for a customized product from an integrated circuit manufacturer, we must commit significant resources to customizing our products for the integrated circuit manufacturer’s manufacturing process. We generate a substantial majority of our license revenue from customized products. This customization is complex and time consuming and is subject to a number of risks over which we have little or no control. These risks include the integrated circuit manufacturer’s alterations of its manufacturing process and the timing of its migration to a new process. Typically, this customization, once started, takes from three to nine months to complete and any delays may cause us to defer revenue recognition or potentially lose orders. If we fail to adequately adjust our resources and expenses to meet actual demand and actual revenue, our business may suffer. If anticipated orders fail to materialize, we may be unable to reduce our resources and expenses in time and our operating results could suffer. In addition, where integrated circuit manufacturer orders exceed our anticipated demand, we may be unable to deliver customized products in time to meet the integrated circuit manufacturer’s requirements. Any delays in product customization and delivery, such as those caused by technical or operational difficulties, give rise to the risk of alteration or potential cancellation of orders or may harm our relationships with our customers.

Because we rely on a relatively small number of integrated circuit manufacturers for a large portion of our revenue, our revenue could decline if our integrated circuit manufacturing customers do not continue to purchase and use our intellectual property components.

We have been dependent on a relatively small number of integrated circuit manufacturing customers for a substantial portion of our revenue, although the integrated circuit manufacturers comprising this group have changed from time to time. For the three months ended June 30, 2004, TSMC accounted for 31% of total revenue, UMC accounted for 18% of total revenue, IBM accounted for 15% of total revenue and Chartered accounted for 10% of total revenue. For the three months ended June 30, 2003, IBM accounted for 25% of total revenue and TSMC accounted for 17% of total revenue. For the nine months ended June 30, 2004, TSMC accounted for 29% of total revenue, UMC accounted for 17% of total revenue, IBM accounted for 11% of total revenue and Chartered accounted for 10% of total revenue. For the nine months ended June 30, 2003, IBM accounted for 21% of total revenue and TSMC accounted for 18% of total revenue. We anticipate that our revenue will continue to depend on a limited number of major customers for the foreseeable future, although the companies considered to be major customers and the percentage of revenue represented by each major customer may vary from period to period depending on the addition of new contracts, the timing of work performed by us and the number of designs utilizing our products.

Our business is subject to many risks beyond our control that influence the success of these and other customers, including competition faced by these manufacturers, market acceptance of their products, and the engineering, sales and marketing capabilities of such customers. In addition, we believe that the licensing of our intellectual property components by integrated circuit manufacturers is driven in part by a desire on the part of such manufacturers to attract integrated circuit designers to their foundries. In the event that such manufacturers begin to operate at or near their manufacturing capacities, they may elect to reduce their marketing activities, including their purchase of our products for use by integrated circuit design teams.

We have incurred operating losses in the past periods and may be unable to maintain profitability.

Although we were profitable for the three and nine months ended June 30, 2004 and fiscal 2003, we incurred net operating losses in the first nine months of fiscal 2002, fiscal 2001 and fiscal 1999. If our revenue in future periods increases more slowly than we expect, or not at all, we may not maintain profitability. In addition, most of our operating expenses are fixed in the short term, so any shortfall in anticipated revenue in a given period could significantly reduce our operating results below expectations. We expect to continue to incur significant expenses in connection with product development, operational and administrative activities and expansion of our sales and marketing efforts. As a result, we will need to increase revenue relative to increases in costs to maintain profitability. For example, if we increase our headcount in expectation of processing a substantial increase in orders and we do not receive those orders or are unable to recognize the related revenue in the short-term, we may incur losses. We may be unable to sustain or increase profitability on a quarterly or annual basis. If we fail to maintain profitability, our business and financial condition would suffer, we could lose the benefit of tax credits and deferred tax assets and our stock price could decline.

TSMC, one of our largest customers, develops and distributes products that compete with ours.

TSMC, one of our largest integrated circuit manufacturing customers, has historically produced intellectual property components for use by third parties in designs to be manufactured at TSMC’s foundry. These components are designed to serve the same purpose as components produced by us. The intellectual property components developed by TSMC have competed and are expected to continue to compete with our products. We believe that TSMC is more aggressively developing and distributing these products to encourage its customers to use TSMC to manufacture their current and future designs. TSMC has substantially greater financial, manufacturing and other resources, name recognition and market presence than we do and the internal design group at TSMC has greater access to technical information about TSMC’s manufacturing processes. Distribution partners selected by TSMC include Cadence Design Systems, Inc., Magma Design Automation, Inc., Synopsys, Inc. and Virage Logic Corporation. Some of TSMC’s distribution partners, such as Cadence, may have greater resources, name recognition and distribution networks than we do. If TSMC is successful in supplying its own intellectual property components to third parties either directly or through distribution arrangements with other companies, our revenue from TSMC, our revenue from other customers and our operating results could be negatively affected.

Our customers are not obligated to purchase additional products from us or manufacture integrated circuits with our products, which may cause our operating results to suffer.

None of our customers has a written agreement with us that obligates them to license future generations of intellectual property components or additional intellectual property components from us, and we cannot be certain that any customer will license intellectual property components from us in the future. Our revenue from these customers may be comprised of license fees and royalties. In addition, we cannot be certain that any of the integrated circuit manufacturers will produce products incorporating our intellectual property components or that, if production occurs, they will generate significant royalty revenue for us. If one or more of our major integrated circuit manufacturing customers stops licensing our intellectual property components, reduces its orders, fails to pay license or royalty fees due or does not produce products containing our intellectual property components, our operating results could be materially and negatively affected.

We have relied and expect to continue to rely on royalties as a key component of our business model and if we fail to realize expected royalties our business will suffer.

Royalties are calculated based on the selling prices of integrated circuits or wafers containing our intellectual property components. We believe that our long-term success is substantially dependent on future royalties. We face risks inherent in a royalty-based business model, such as the rate of incorporation of our intellectual property components into integrated circuit designs, the rate of adoption of our intellectual property components by integrated circuit manufacturers and the demand for products incorporating these integrated circuits. Our royalty revenue is highly dependent upon the level of integrated circuit production and sales by our integrated circuit manufacturing customers. Fluctuations in orders placed with our integrated circuit manufacturing customers from their customers could significantly affect our royalty revenue and operating results. Additionally, our ability to forecast and realize royalty revenue is limited by factors that are beyond our control. These factors include the timing of the manufacture of royalty-bearing integrated circuits or wafers, the price charged by integrated circuit manufacturers to their customers for royalty-bearing integrated circuits or wafers, and the quantity of royalty-bearing integrated circuits or wafers ordered and actually manufactured. We believe that a significant portion of our royalty revenue in the three and nine months ended June 30, 2004 was derived from the manufacture and sale of integrated circuits for graphics applications. If the market for integrated circuits in graphics applications declines, our royalty revenue may be adversely affected. On a period-to-period basis, net royalty revenue may vary significantly. Net royalty revenue as a percentage of our total revenue was 36% in the three months ended June 30, 2004 and 18% the three months ended June 30, 2003. Net royalty revenue as a percentage of our total revenue was 34% in the nine months ended June 30, 2004 and 15% the nine months ended June 30, 2003.

There is significant delay and uncertainty between the delivery of our intellectual property components and the generation of royalty revenue. In addition to the factors described above, this delay and uncertainty is due to the delivery and application of our intellectual property components early in the integrated circuit design process and delays in the reporting of the production and sale of royalty bearing integrated circuits or wafers. The time between the delivery of our intellectual property components to a customer and the manufacture in volume of integrated circuits containing our intellectual property components may be three years or longer. Thus, we cannot anticipate the impact of royalty payments on our financial results when we negotiate royalty agreements. We recognize royalty revenue in the quarter in which we receive a royalty report from an integrated circuit manufacturer, provided that other conditions to revenue recognition have been satisfied. As a result, our recognition of royalty revenue typically lags behind the quarter in which the related integrated circuit is manufactured or sold by the integrated circuit manufacturing customer by at least one quarter. We cannot be certain that our business strategy will be successful in expanding the number of contracts with integrated circuit manufacturers, nor can we be certain that we will receive significant royalty revenue in the future.

TSMC accounted for 66% of our net royalty revenue in the three months ended June 30, 2004 and 79% in the three months ended June 30, 2003. TSMC accounted for 60% of our net royalty revenue in the nine months ended June 30, 2004 and 77% in the nine months ended June 30, 2003. Our agreements with TSMC provide that royalty rates decrease in accordance with a fixed schedule over the life of a given process. As a result, our net royalty revenue may decline if royalties from TSMC continue to represent a substantial portion of our net royalty revenue.

We also face risks relating to the accuracy and completeness of the royalty collection process. Our ability to generate royalty revenue depends, in part, on our ability to negotiate, structure, monitor and enforce agreements for the determination and payment of royalties. We have only limited experience and systems in place to conduct reviews of the accuracy of the royalty reports we receive from our licensees. We have the right to audit the records of integrated circuit manufacturers who license our intellectual property components to help ensure the integrity of their royalty reporting systems; however, these audits may only be conducted periodically and may be at our expense. We cannot be certain that the costs incurred by us in conducting these audits will not exceed the royalties that result from these efforts. Furthermore, the timing and findings of such royalty audits have resulted in and are expected to continue to result in significant fluctuations in the level and timing of our royalty revenue. Royalty audits may also trigger disagreements over contract terms with our licensees and such disagreements could impact customer relations, divert the efforts and attention of our management from normal operations and impact our business operations and financial condition.

If we fail to enhance our intellectual property components and develop and deliver intellectual property components on a timely basis, we may not be able to address the needs of our customers, our technology may become obsolete and our results of operations may be harmed.

Our customers compete in the integrated circuit industry, which is subject to rapid technological change, frequent introductions of new products, short product life cycles, changes in customer demands and requirements and evolving industry standards. The development of new manufacturing processes, the introduction of products embodying new technologies and the emergence of new industry standards can render existing products obsolete and unmarketable. Accordingly, our future success will depend on our ability to continue to enhance our existing intellectual property components and to develop and introduce new intellectual property components that satisfy increasingly sophisticated customer requirements and that keep pace with new product introductions, emerging manufacturing process technologies and other technological developments in the integrated circuit industry. We intend to continue to invest heavily in the development of new products and enhancements to our existing products. This investment of funds, time and other resources involves numerous risks, including risks of development obstacles and delays and risks of poor market reaction to such new products, which could cause our expenses to represent a greater than expected percentage of our revenue in any given quarter. If we fail to anticipate or adequately respond to changes in manufacturing processes or customer requirements, or if we experience significant delays in intellectual property component development, our business and operating results may be negatively affected. We cannot be certain that we will avoid difficulties that could delay or prevent the successful introduction, development and sale of new or enhanced intellectual property components or that the new or enhanced intellectual property components will achieve market acceptance. If we do not satisfy our delivery commitments, then we could also be exposed to litigation or claims from our customers. Any claim could have a material negative effect on our business, which could cause our stock price to decline.

From time to time, we have experienced delays in the progress of customization of new intellectual property components for a given customer, such as those caused by technical or operational difficulties, and we may continue to experience delays in the future. Any delay or failure to meet customers’ expectations could result in damage to customer relationships and our reputation, underutilization of engineering resources, delay in the market acceptance of our intellectual property components or a decline in revenue, any of which could negatively affect our business.

We face risks from sales to foreign customers and foreign operations, which could reduce our operating results and harm our financial condition.

Historically, a large portion of our total revenue has been derived from integrated circuit manufacturers located outside of the United States. International revenue as a percentage of our total revenue was approximately 74% in the three months ended June 30, 2004 and 62% in the three months ended June 30, 2003. International revenue as a percentage of our total revenue was approximately 75% in the nine months ended June 30, 2004 and 67% in the nine months ended June 30, 2003. Revenue derived from customers in Taiwan as a percentage of our total revenue was approximately 49% in the three months ended June 30, 2004 and 20% in the three months ended June 30, 2003. Revenue derived from customers in Taiwan as a percentage of our total revenue was approximately 46% in the nine months ended June 30, 2004 and 20% in the nine months ended June 30, 2003. We anticipate that international revenue will remain a substantial portion of our total revenue in the future. To date, all of our revenue from international customers has been denominated in US dollars. If our competitors denominate their sales in a currency that becomes relatively inexpensive in comparison to the US dollar, then we may experience fewer orders from international customers whose business is based primarily on the less expensive currency. In addition, future dislocations in international financial markets may materially affect our business.

We intend to expand our sales, marketing and design activities in Asia and Europe. We have established an engineering services and support facility in Bangalore, India and intend to increase our presence in China and Taiwan. International expansion will result in increased costs and may not be successful, which could harm our business. Our expansion of international activity and dependence on customers outside the United States involves a number of risks including:

If we are unable to sustain or increase revenue derived from international customers or minimize the foregoing risks, our business may be materially and adversely affected, which could cause our stock price to decline.

International political instability may increase our cost of doing business and disrupt our business.

Increased international political instability, evidenced by the threat or occurrence of terrorist attacks, enhanced national security measures, continuing military action in Afghanistan and Iraq, strained international relations with North Korea, tensions between Taiwan and China, tensions between India and Pakistan and other conflicts in the Middle East and Asia, may halt or hinder our ability to do business, may increase our costs and may adversely affect our stock price. This increased instability may, for example, negatively impact the reliability and cost of transportation, negatively affect the desire of our employees and customers to travel, lead to stricter export controls, adversely affect our ability to obtain adequate insurance at reasonable rates or require us to take extra security precautions for our domestic and international operations. In addition, this international political instability has had and may continue to have negative effects on financial markets, including significant price and volume fluctuations in securities markets. If this international political instability continues or escalates, our business and results of operations could be harmed and the market price of our common stock could decline.

If we lose any of our key personnel or are unable to attract, train and retain qualified personnel, our ability to manage our business and continue our growth would be negatively impacted.

Our success depends in large part on the continued contributions of our key management, engineering, sales and marketing personnel, many of whom are highly skilled and would be difficult to replace. None of our senior management, key technical personnel or key sales personnel is bound by a written employment contract to remain with us for a specified period. In addition, we do not currently maintain key man life insurance covering our key personnel. Our success also depends on our ability to attract, train and retain highly skilled managerial, engineering, sales, marketing and finance personnel and on the abilities of new personnel to function effectively, both individually and as a group. If we are unable to effectively integrate and utilize newly hired engineering, management or sales personnel, the execution of our business strategy and our ability to react to changing market conditions may be impeded and our business could suffer. Competition for personnel is intense, and we cannot be certain that we will be successful in attracting and retaining qualified personnel. If we lose the services of any key personnel, are unable to attract or retain qualified personnel in the future or experience delays in the integration of new personnel in the United States and abroad, our business and operations may suffer.

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

Our ability to license our intellectual property components and manage our business successfully in a rapidly evolving market requires an effective planning and management process. Our historical growth, international expansion, acquisitions, including our acquisition of NurLogic in February 2003, have placed, and are expected to continue to place, a significant strain on our managerial, operational and financial resources. We have established an engineering service and support facility in Bangalore, India and plan to increase our presence in China and Taiwan. Our international expansion has resulted and is expected to continue to result in increased costs.

Our customers rely heavily on our technological expertise in designing, testing and manufacturing products incorporating our intellectual property components. Relationships with new integrated circuit manufacturers generally require significant engineering support that may increase the strain on our personnel, particularly our engineers. We cannot be certain that our systems and resources will be adequate to support our operations or that our management will be able to achieve the rapid execution necessary to implement our business plan.

If we are not able to enhance and develop our analog and mixed signal business, our overall business may suffer.

We acquired NurLogic, a private provider of analog, mixed-signal and communication components, in February 2003. We have integrated the acquired workforce and operations and we are working towards the effective development of this business. We face various challenges and risks associated with our analog and mixed signal business, including, but not limited to:

We license our analog and mixed signal components to both semiconductor manufacturers and end users. Most providers of analog and mixed signal components license their products directly to end users who agreed to pay license fees directly to such providers. We cannot be sure that semiconductor manufacturers will be willing to license and pay for analog and mixed signal intellectual property components for the benefit of end users in the same way as such manufactures have historically licensed digital intellectual property components from us. To date, we have had only moderate success in expanding the customer base for these products beyond NurLogic’s historical customer base. Sales to end users typically involve lower dollar values, more frequent transactions and shorter

delivery times and tend to require more sales, support and legal resources to process, all of which may strain our existing resources. In addition, analog and mixed signal intellectual property components tend to require a greater degree of customization for a particular use than do many of our other products. We have invested and continue to invest substantial resources in the acquisition and development of our analog and mixed signal business. If we are not able to successfully develop this business, our revenue from this business may not grow at a rate sufficient to recover our investment, our overall business may be negatively affected, and our stock price could decline.

The addition of our analog and mixed signal business has made planning and predicting our future growth rates and operating results more difficult.

The acquisition, operation and development of our analog and mixed signal business may reduce our revenue growth rate and make prediction of our future revenue, costs and expenses and operating results more difficult. We have invested and expect to continue to invest substantial resources in adapting, utilizing and developing our analog and mixed signal business. Since the acquisition, our results of operations have reflected an expanded workforce and product development effort and changed customer base, which may not be comparable to our results of operations prior to the acquisition.

We may make future acquisitions or enter into strategic transactions or other arrangements that could cause our business to suffer.

We may continue to make investments in complementary companies, products or technologies or enter into strategic transactions or other arrangements. If we buy a company or a division of a company, we may experience difficulty integrating that company or division’s personnel and operations, which could negatively affect our operating results. In addition:

In connection with future acquisitions or strategic transactions or other arrangements, we may incur substantial expenses regardless of whether the transaction occurs. We may also incur noncash charges in connection with an acquisition, strategic transaction or other arrangements. In addition, we may be required to assume the liabilities of the companies we acquire. By assuming the liabilities, we may incur liabilities, including those related to intellectual property infringement or indemnification of customers of acquired businesses for similar claims that could materially and adversely affect our business. We may have to incur debt or issue equity securities to pay for any future acquisition, the issuance of which would involve restrictive covenants or be dilutive to our existing stockholders.

Our future capital needs may require that we seek debt financing or additional equity funding which, if not available, could cause our business to suffer.

We intend to continue to invest heavily in the development of new intellectual property components and enhancements to our existing intellectual property components. Our future liquidity and capital requirements will depend upon numerous factors, including:

We may raise additional funds through public or private financing, strategic relationships or other arrangements. We cannot be certain that the funding, if needed, will be available on attractive terms, or at all. Furthermore, any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants. Strategic arrangements, if necessary to raise additional funds, may require us to relinquish our rights to certain of our technologies or products. If we fail to raise capital when needed, our business will be negatively affected, which could cause our stock price to decline.

We continue to experience intense competition from other intellectual property component providers, integrated circuit manufacturers and electronic design automation companies, and this competition could negatively affect our business and our revenue.

Our strategy of targeting integrated circuit manufacturers and integrated circuit designers that participate in, or may enter, the system-on-a-chip market requires us to compete in intensely competitive markets. We face significant competition from third party intellectual property component providers, such as Barcelona Design, DOLPHIN Integration, SA, Faraday Technology Limited, Monolithic System Technology, Inc., Rambus, Inc., TriCN, Inc., VeriSilicon Microelectronics (Shanghai) Co. Ltd., Virage Logic and Virtual Silicon Technology, Inc. and from the internal design groups of integrated circuit manufacturers, such as TSMC and IBM. In addition, we face competition from small consulting firms and design companies that operate in the intellectual property component segment of the market and offer a limited selection of specialized intellectual property components.

We face significant competition from the internal design groups of integrated circuit manufacturers that have expanded their manufacturing capabilities and portfolio of intellectual property components to participate in the system-on-a-chip market. Integrated circuit manufacturers that license our intellectual property components have historically had their own internal intellectual property component design groups. These design groups continue to compete with us for access to the integrated circuit manufacturer’s intellectual property component requisitions and, in some cases, compete with us to supply intellectual property components to third parties. Intellectual property components developed by internal design groups are designed to utilize the qualities of their own manufacturing process, and may therefore benefit from capacity, informational, cost and technical advantages. If internal design groups expand their intellectual property component offerings to compete directly with our intellectual property components or actively seek to participate as vendors in the intellectual property component market, our revenue and operating results could be negatively affected.

We expect competition to increase in the future from existing competitors and from new market entrants with intellectual property components that may be less expensive than ours or that may provide better performance or additional features not currently provided by our intellectual property components. Many of our current and potential competitors have substantially greater financial, technical, manufacturing, marketing, distribution and other resources, greater name recognition and market presence, longer operating histories, lower cost structures and larger customer bases than we do. As a result, they may be able to adapt more quickly to new or emerging technologies and changes in customer requirements. In addition, some of our principal competitors maintain their own electronic design automation tools and intellectual property component libraries which allow them to offer a single vendor solution.

Our ability to compete successfully in the market for intellectual property components will depend upon numerous factors, many of which are beyond our control including, but not limited to:

Our business depends on continued demand for integrated circuits and the electronic equipment that incorporate them.

Our business is substantially dependent on the adoption of our technology by integrated circuit manufacturers and on an increasing demand for products requiring integrated circuits, such as portable computing devices, cellular phones, consumer multimedia products, automotive electronics, personal computers and workstations. Our business is subject to many risks beyond our control that influence the success of our customers including, among others, competition faced by each customer in its particular industry, market acceptance of the customers’ products that incorporate our technology, the engineering, sales and marketing capabilities of the customer and the financial and other resources of the customer. Demand for our intellectual property components may also be affected by consolidation in the integrated circuit and related industries, which may reduce the aggregate level of purchases of our intellectual property components and services by the combined companies.

The revenue we generate from licensing activities depends in large part on the rate at which integrated circuit manufacturers adopt new product generations, which, in turn, is affected by the level of demand for integrated circuits. With increasing complexity in each successive generation of integrated circuit products, we face the risk that the rate of adoption of smaller process geometries for integrated circuit manufacturing may slow. We also face the risk that our licensing revenue may suffer if our customers collaborate with each other regarding design standards for particular generations of integrated circuit products. Revenue generated from royalties depends on production and sale of integrated circuits or wafers that incorporate our technology. If the integrated circuit and electronics products industries experience a further downturn, our business could suffer.

The integrated circuit industry is cyclical in nature and a downturn may negatively affect the growth of our revenue.

The markets for integrated circuit products are cyclical. The integrated circuit industry suffered a sharp decline in orders and revenue in 2001 and 2002 and this weakness continued during much of 2003. Many integrated circuit manufacturers and vendors of products incorporating integrated circuits announced earnings shortfalls and employee layoffs during this period. The outlook for the integrated circuit industry is uncertain and it is very difficult to predict future economic events.

The primary customers for our intellectual property components are integrated circuit design and manufacturing companies. Any significant downturn in our customers’ markets, or domestic and global conditions is likely to adversely affect our royalty revenue. Such a downturn may also result in a decline in demand for our intellectual property components and services and could harm our business. Weakness in the integrated circuit and related industries, a reduced number of design starts, shifts in the types of integrated circuits manufactured, such as a shift to field programmable gate arrays, tightening of customers operating budgets or consolidation among our customers could cause our business to suffer.

If the market for third party intellectual property components does not expand, our business may suffer.

Our ability to achieve sustained revenue growth and profitability in the future will depend on the continued development of the market for third party intellectual property components and, to a large extent, on the demand for system-on-a-chip integrated circuits. System-on-a-chip integrated circuits are characterized by rapid technological change and competition from an increasing number of alternate design strategies such as combining multiple integrated circuits to create a system-on-a-package and shifts to the use of field programmable gate arrays. We cannot be certain that the market for third party intellectual property components and system-on-a-chip integrated circuits will continue to develop or grow at a rate sufficient to support our business. If either of these markets fails to grow or develops slower than expected, our business may suffer. A significant number of our existing and potential customers currently rely on components developed internally and/or by other vendors. Our future growth, if any, is dependent on the adoption of, and increased reliance on, third party intellectual property components by both existing and potential customers.

Integrated circuit manufacturing facilities are subject to risk of natural disasters, which, if they were to occur, could harm our revenue and profitability.

Integrated circuit manufacturing facilities have in the past experienced major reductions in foundry capacity due to earthquakes in Taiwan, Japan and California. For example, Taiwan, where several of our largest customers are located, experienced several earthquakes in 1999 that impacted foundries through power outages, physical damage and employee dislocation. The license component of our revenue depends on manufacturers transitioning to new process geometries. The royalty component of our revenue is directly related to the manufacture and sale of integrated circuits containing our intellectual property components. As a result, our business could suffer if a major integrated circuit manufacturer’s transition to a new process geometry or manufacturing capacity was adversely affected by a natural disaster such as an earthquake, fire, tornado or flood.

If we are not able to preserve and expand the value of the intellectual property included in our intellectual property components, our business will suffer.

We rely primarily on a combination of nondisclosure agreements and other contractual provisions and patent, trademark, trade secret and copyright law to protect our proprietary rights. If we fail to continue to expand our intellectual property and enforce and protect our patents, trademarks, copyrights and trade secrets, our business could suffer, which could cause our stock price to decline. We cannot be certain that our intellectual property rights can be successfully asserted in the future or will not be invalidated, circumvented or challenged.

In certain instances, we have elected to rely on trade secret law rather than patent law to protect our proprietary technology. However, trade secrets are difficult to protect. We protect our proprietary technology and processes, in part, through confidentiality agreements with our employees and customers. We cannot be certain that these contracts have not and will not be breached, that we will have adequate remedies for any breach or that our trade secrets will not otherwise become known or be independently discovered and possibly patented by competitors.

Effective intellectual property protection may be unavailable or limited in certain foreign jurisdictions, such as China, where we sell our intellectual property components. As a result, we may experience difficulty protecting our intellectual property from misuse or infringement by others in foreign countries. The risks associated with protection of our intellectual property rights in foreign countries are likely to increase as we expand our international operations.

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

Substantial litigation and threats of litigation regarding intellectual property rights exist in our industry and the integrated circuit industry. From time to time, third parties, including our competitors, may assert patent, copyright and other intellectual property rights to technologies that are important to our business. We cannot be certain that we would ultimately prevail in any dispute or be able to license any valid and infringed patents from third parties on commercially reasonable terms. Any infringement claim brought against us, regardless of the duration, outcome or size of damage award, could:

Any infringement claim or other litigation against or by us could have a material negative affect on our business, which could cause our stock price to decline.

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

From time to time, we may be subject to claims by our customers or customers of the companies we acquire that our intellectual property components or products of acquired companies that have been incorporated into electronic products infringe the intellectual property rights of others. Our future acquisitions, if any, may increase the risk that customers of these companies bring claims of intellectual property infringement or indemnification for intellectual property infringement against us.

We have been notified by one of NurLogic’s customers that it is requesting indemnification from NurLogic (now one of our wholly owned subsidiaries) because of a complaint filed against that customer alleging that some of that customer’s products infringe a third party’s patents. While we believe that the complaint is without merit with respect to technology licensed by NurLogic, there can be no assurance that the courts would not find that the technology licensed by NurLogic does infringe the third party’s patent. Whether or not the customer’s or NurLogic’s products infringe, the investigation and resolution of these indemnity claims and any related litigation can be expensive and can consume substantial amounts of management time and attention.

Defects in our proprietary technologies and intellectual property components could decrease our revenue and our competitive market share.

If the intellectual property components we provide to a customer contain defects that increase our customers’ cost of goods sold and time to market, the market acceptance of our intellectual property components would be harmed. Any actual or perceived defects in our intellectual property components may also hinder our ability to attract or retain industry partners or customers, leading to a decrease in our revenue. These defects are frequently found during the period following introduction of new proprietary technologies or enhancements to existing proprietary technologies. Our intellectual property components may contain errors or defects not discovered until after volume manufacture of integrated circuits containing our intellectual property components. If our intellectual property components contain errors or defects, we could be required to expend significant resources to alleviate these problems, which could result in the diversion of technical and other resources from our other development efforts. The defects or errors could also result in fewer wafers containing our intellectual property components reaching production, which would reduce our royalty revenue.

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

The trading price of our common stock has in the past been and could in the future be subject to significant fluctuations in response to:

For example, from January 1, 2003 to June 30, 2004, the trading price of our common stock on the Nasdaq National Market has ranged from a high of $27.10 to a low of $13.88. If our revenue and results of operations are below the expectations of public market securities analysts or investors, significant fluctuations in the market price of our common stock could occur. In addition, the securities markets have, from time to time, experienced significant price and volume fluctuations, which have particularly affected the market

prices for high technology companies and often are unrelated and disproportionate to the operating performance of particular companies. These broad market fluctuations, as well as general economic, political and market conditions, may negatively affect the market price of our common stock. In the past, following periods of volatility in the market price of a company’s stock, securities class action litigation has occurred against that company. The litigation could result in substantial costs and would at a minimum divert management’s attention and resources, which could have a material adverse effect on our business, which could further reduce our stock price. Any adverse decision in the litigation could also subject us to significant liabilities.

Changes in stock option accounting rules may adversely impact our reported operating results prepared in accordance with generally accepted accounting principles, our stock price and our competitiveness in the employee marketplace.

Technology companies in general and Artisan in particular have a history of depending upon and using broad based employee stock option programs to hire, incentivize and retain employees in a competitive marketplace. Any changes requiring that we record compensation expense in the statement of operations for employee stock options using the fair value method or changes in existing taxation rules related to stock options would have a significant negative effect on our reported results. Several agencies and entities are considering, and the Financial Accounting Standards Board has announced, proposals to change generally accepted accounting principles in the United States that, if implemented, would require us to record charges to earnings for employee stock option grants. Such a change would result in lower reported earnings per share which may negatively impact our future stock price. In addition, such a change could impact our ability to utilize broad based employee stock plans to reward employees and could result in a competitive disadvantage to us in the employee marketplace.

Our charter documents, Delaware law and our stockholder rights plan contain provisions that may inhibit potential acquisition bids, which may adversely affect the market price of our common stock, discourage merger offers or prevent changes in our management.

Our board of directors has the authority to issue up to 5,000,000 shares of preferred stock and to determine the rights, preferences, privileges and restrictions, including voting rights, of the shares without any further vote or action by our stockholders. If we issue any of these shares of preferred stock in the future, the rights of holders of our common stock may be negatively affected. If we issue preferred stock, a change of control of our company could be delayed, deferred or prevented. We have no current plans to issue shares of preferred stock.

Section 203 of the Delaware General Corporation Law restricts certain business combinations with any interested stockholder as defined by that statute. In addition, our certificate of incorporation and bylaws contain certain other provisions that may have the effect of delaying, deferring or preventing a change of control. These provisions include:

In December 2001, our board of directors adopted a stockholder rights plan. Under this plan, we issued a dividend of one right for each share of our common stock. Each right initially entitles stockholders to purchase a fractional share of our preferred stock for $115. However, the rights are not immediately exercisable. If a person or group acquires, or announces a tender or exchange offer that would result in the acquisition of, a certain percentage of our common stock, unless the rights are redeemed by us for $0.001 per right, the rights will become exercisable by all rights holders, except the acquiring person or group, for shares of our preferred stock or the stock of the third party acquirer having a value of twice the right’s then-current exercise price.

These provisions are designed to encourage potential acquirers to negotiate with our board of directors and give our board of directors an opportunity to consider various alternatives to increase stockholder value. These provisions are also intended to discourage certain tactics that may be used in proxy contests. However, the potential issuance of preferred stock, our charter and bylaw provisions, the restrictions in Section 203 of the Delaware General Corporation Law and our stockholder rights plan could discourage potential acquisition proposals and could delay or prevent a change in control, which may adversely affect the market price of our stock. These provisions and plans may also have the effect of preventing changes in our management.

We are exposed to the impact of interest rate changes and changes in the market values of our marketable securities. We have not used derivative financial instruments in our investment portfolio. We invest our excess cash in debt instruments of high-quality corporate issuers and the U.S. government or its agencies. Our investment policy limits the amount of credit exposure to any one issuer. We are averse to principal loss and seek to preserve our invested funds by limiting default risk, market risk and reinvestment risk. We mitigate default risk by investing in high credit quality securities and by positioning our portfolio to respond appropriately to a significant reduction in a credit rating of any investment issuer or guarantor. The portfolio includes only marketable securities with active secondary or resale markets to ensure portfolio liquidity.

Cash, cash equivalents and marketable securities in both fixed and floating rate interest-earning instruments carry a degree of interest rate risk. Fixed rate securities may have their fair market value adversely impacted due to rising interest rates, while floating rate securities may produce less income than expected if interest rates fall. Due in part to these factors, our future interest income may fall short of expectations due to changes in interest rates or we may suffer losses in principal if forced to sell securities that have declined in market value due to changes in interest rates.

The table below presents the carrying value and related weighted average interest rates for our cash, cash equivalents and marketable securities. The carrying values approximate fair values as of June 30, 2004 and September 30, 2003. As of June 30, 2004, marketable securities consisted of $20.9 million with a maturity date of less than one year and $23.2 million with a maturity date of greater than one year. As of September 30, 2003, marketable securities consisted of $9.9 million with a maturity date of less than one year and $5.5 million with a maturity date of greater than one year.

Historically, a large portion of our total revenue has been generated from outside of the United States. International revenue as a percentage of our total revenue was approximately 74% for the three months ended June 30, 2004 and 62% for the three months ended June 30, 2003. International revenue as a percentage of our total revenue was approximately 75% for the nine months ended June 30, 2004 and 67% for the nine months ended June 30, 2003. We anticipate that international revenue will remain a substantial portion of our total revenue in the future. As all of our sales are currently denominated in U.S. dollars, a strengthening of the U.S. dollar could make our intellectual property components less competitive in foreign markets. We do not use derivative financial instruments for speculative or trading purposes. We have not historically engaged in any foreign currency hedging transactions.

Evaluation of disclosure controls and procedures. Our management evaluated, with the participation of our Chief Executive Officer and our Chief Financial Officer, the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer have concluded that our disclosure controls and procedures are effective to ensure that information we are required to disclose in reports that we file or submit under the Securities Exchange Act of 1934 is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.

Changes in internal control over financial reporting. There was no change in our internal control over financial reporting that occurred during the period covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

We furnished a report on Form 8-K on April 28, 2004 in connection with our announcement of our earnings for the second quarter of fiscal 2004.

We filed a report on Form 8-K on April 28, 2004 in connection with the announcement of a stock repurchase program.

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.


ARTISAN COMPONENTS, INC. (Registrant)

By:		/s/ MARK R. TEMPLETON
		Mark R. Templeton President, Chief Executive Officer and Director (Principal Executive Officer)

By:		/s/ JOY E. LEO
		Joy E. Leo Vice President, Finance and Administration, Chief Financial Officer and Secretary (Principal Financial and Accounting Officer)



		Page

	PART I—Financial Information

Index		i

Item 1.	Financial Statements (Unaudited)

	Condensed Consolidated Balance Sheets as of June 30, 2004 and September 30, 2003	1

	Condensed Consolidated Statements of Operations for the Three and Nine Months Ended June 30, 2004 and 2003	2

	Condensed Consolidated Statements of Cash Flows for the Nine Months Ended June 30, 2004 and 2003	3

	Notes To Condensed Consolidated Financial Statements	4

Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	11

	Factors Affecting Future Operating Results	20

Item 3.	Quantitative and Qualitative Disclosures About Market Risk	32

Item 4.	Controls and Procedures	32

	PART II—Other Information

Item 1.	Legal Proceedings	33

Item 2.	Changes In Securities and Use of Proceeds	33

Item 3.	Defaults Upon Senior Securities	33

Item 4.	Submission of Matters to a Vote of Security Holders	33

Item 5.	Other Information	33

Item 6.	Exhibits and Reports on Form 8-K	33

	Signatures	34


	June 30, 2004			September 30, 2003
ASSETS
Current assets:
Cash and cash equivalents	$	96,325		$	98,841
Marketable securities		20,882			9,921
Accounts receivable, net		21,695			18,398
Prepaid expenses and other current assets		4,490			2,197
Deferred tax asset		2,092			—

Total current assets		145,484			129,357
Long-term marketable securities		23,242			5,504
Property and equipment, net		5,832			7,418
Purchased intangible assets, net		5,261			8,394
Goodwill		32,557			36,016
Deferred tax asset		19,747			—
Other assets		482			414

Total assets	$	232,605		$	187,103

LIABILITIES AND STOCKHOLDERS’ EQUITY
Current liabilities:
Accounts payable	$	1,628		$	1,486
Accrued liabilities		9,422			7,201
Deferred revenue		8,687			7,094

Total current liabilities		19,737			15,781
Deferred revenue		771			788
Income tax payable		3,941			—
Deferred tax liability		2,182			3,257
Other liabilities		856			1,146

Total liabilities		27,487			20,972

Commitments and contingencies (Note 8)

Stockholders’ equity:
Common stock, $0.001 par value:
Authorized: 50,000; Issued and outstanding: 23,265 and 22,157 shares at June 30, 2004 and September 30, 2003, respectively		23			22
Additional paid in capital		191,439			167,043
Deferred stock-based compensation		(143	)		(368	)
Accumulated other comprehensive (loss) income		(241	)		118
Retained earnings (accumulated deficit)		14,040			(684	)

Total stockholders’ equity		205,118			166,131

Total liabilities and stockholders’ equity	$	232,605		$	187,103


	Three months ended June 30,					Nine months ended June 30,
	2004			2003		2004		2003
Revenue:
License	$	14,162		$	15,606	$	41,804	$	41,520
Net royalty		7,811			3,313		21,599		7,505

Total revenue		21,973			18,919		63,403		49,025

Costs and expenses:
Cost of revenue *		5,653			4,941		15,070		12,428
Product development *		4,019			5,695		13,898		13,386
Sales and marketing *		3,857			4,092		11,521		10,422
General and administrative *		1,894			1,586		5,443		4,819
In-process research and development		—			—		—		520
Amortization of purchased intangible assets		896			1,511		3,133		2,910

Total costs and expenses		16,319			17,825		49,065		44,485

Operating income		5,654			1,094		14,338		4,540
Interest and other income, net		445			614		1,127		992

Income before income taxes		6,099			1,708		15,465		5,532
(Benefit from) provision for income taxes		(130	)		274		741		727

Net income	$	6,229		$	1,434	$	14,724	$	4,805

Net income per share:
Basic	$	0.27		$	0.07	$	0.65	$	0.26

Diluted	$	0.25		$	0.06	$	0.59	$	0.23

Shares used in computing net income per share:
Basic		23,113			20,359		22,722		18,447

Diluted		25,387			22,873		24,866		20,634

* Includes stock-based compensation expense of:		52			150		225		209


	Nine months ended June 30,
	2004			2003
Cash flows from operating activities:
Net income	$	14,724		$	4,805
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization		5,551			4,405
In-process research and development		—			520
Compensation expense related to options		225			209
Deferred income taxes		(15,514	)		—
Tax benefit arising from disqualifying dispositions of stock options		13,959			—
Changes in operating assets and liabilities:
Accounts receivable, net		(3,297	)		(4,385	)
Prepaid expenses and other current assets		(2,293	)		(134	)
Other assets		(68	)		634
Accounts payable		142			(173	)
Accrued liabilities		2,221			(759	)
Deferred revenue		1,576			1,540
Other liabilities		(290	)		(1,047	)

Net cash provided by operating activities		16,936			5,615

Cash flows from investing activities:
Purchases of property and equipment		(832	)		(3,192	)
Purchases of marketable securities		(51,104	)		(26,195	)
Proceeds from sale and maturities of marketable securities		22,046			34,463
Acquisition of NurLogic, net of cash acquired		—			(2,798	)

Net cash (used in) provided by investing activities		(29,890	)		2,278

Cash flows from financing activities:
Proceeds from issuance of common stock related to secondary offering		—			53,297
Proceeds from issuance of common stock related to exercise of employee stock options		10,438			7,919
Proceeds from repayment of stockholders’ note receivable		—			240

Net cash provided by financing activities		10,438			61,456

Net (decrease) increase in cash and cash equivalents		(2,516	)		69,349
Cash and cash equivalents, beginning of period		98,841			29,159

Cash and cash equivalents, end of period	$	96,325		$	98,508


	Three months ended June 30,				Nine months ended June 30,
	2004		2003		2004		2003
Net income	$	6,229	$	1,434	$	14,724	$	4,805

Weighted average shares—Basic		23,113		20,359		22,722		18,447
Effect of dilutive potential common shares		2,274		2,514		2,144		2,187

Weighted average shares—Diluted		25,387		22,873		24,866		20,634

Net income per share:
Basic	$	0.27	$	0.07	$	0.65	$	0.26

Diluted	$	0.25	$	0.06	$	0.59	$	0.23

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June 30, 2004	Gross		Accumulated Amortization		Net
Developed technology	$	14,578	$	9,740	$	4,838
Customer base		910		487		423
Non-compete agreements		376		376		—
Order backlog		340		340		—

Total	$	16,204	$	10,943	$	5,261


September 30, 2003	Gross		Accumulated Amortization		Net
Developed technology	$	14,578	$	6,875	$	7,703
Customer base		910		219		691
Non-compete agreements		376		376		—
Order backlog		340		340		—

Total	$	16,204	$	7,810	$	8,394


Remainder of fiscal 2004	$	897
Fiscal 2005		2,404
Fiscal 2006		1,451
Fiscal 2007		509

Total	$	5,261


	June 30, 2004							September 30, 2003
	Fair Market Value		Amortized Cost		Unrealized Gain/(Loss) on Marketable Securities			Fair Market Value		Amortized Cost		Unrealized Gain/(Loss) on Marketable Securities
Short-term corporate and government bonds and notes	$	20,882	$	20,910	$	(28	)	$	6,828	$	6,781	$	47
Commercial Paper		—		—		—			3,093		3,093		—

Short-term marketable securities		20,882		20,910		(28	)		9,921		9,874		47
Long-term corporate and government bonds and notes		23,242		23,455		(213	)		5,504		5,433		71

Marketable securities	$	44,124	$	44,365	$	(241	)	$	15,425	$	15,307	$	118


	June 30, 2004			September 30, 2003
Accounts receivable	$	9,653		$	7,888
Costs in excess of related billings on uncompleted contracts		12,257			10,811

Gross accounts receivable		21,910			18,699
Allowance for doubtful accounts		(215	)		(301	)

Accounts receivable, net	$	21,695		$	18,398


	June 30, 2004			September 30, 2003
Computer equipment and software	$	14,729		$	14,750
Office furniture		3,176			3,014
Leasehold improvements		3,477			3,440

Property and equipment, at cost		21,382			21,204
Accumulated depreciation		(15,550	)		(13,786	)

Property and equipment, net	$	5,832		$	7,418


	June 30, 2004		September 30, 2003
Accrued expenses	$	2,647	$	2,545
Income taxes payable		2,194		1,322
Accrued vacation		1,768		1,584
Accrued bonuses		1,496		1,183
Employee stock purchase plan payable		1,317		567

Accrued liabilities	$	9,422	$	7,201


Remainder of fiscal 2004	$	845
Fiscal 2005		2,882
Fiscal 2006		2,817
Fiscal 2007		2,093
Fiscal 2008		1,994

Total minimum annual lease payments	$	10,631


	June 30, 2004		September 30, 2003
Long-Term Assets, Net:
United States	$	27,886	$	11,721
Other		1,670		1,615

	$	29,556	$	13,336


	Three months ended June 30,				Nine months ended June 30,
	2004		2003		2004		2003
A	31	%	17	%	29	%	18	%
B	18		—		17		—
C	15		25		11		21
D	10		—		10		—


	June 30, 2004		September 30, 2003
Credit carryforwards	$	11,895	$	1,187
Loss carryforwards		4,474		—
Depreciation and amortization differences		3,379		4,054
Non deductible reserves and accruals		1,778		1,962
Deferred revenue		313		321

Total deferred tax assets		21,839		7,524
Valuation allowance		—		(7,524	)

Net deferred tax assets	$	21,839	$	—


	Three months ended June 30,				Nine months ended June 30,
	2004		2003		2004		2003
Revenue from Unaffiliated Customers:
Asia—Taiwan	$	10,752	$	3,700	$	29,202	$	10,044
Asia—Singapore		2,205		723		6,574		3,316
Asia—Japan		985		2,216		5,377		5,064
Asia—Malaysia		634		1,832		2,148		5,819
Asia—Other		247		2,563		2,048		4,486

Asia Total		14,823		11,034		45,349		28,729
United States and Canada		5,786		7,113		15,585		15,936
Europe		1,364		772		2,469		4,360

	$	21,973	$	18,919	$	63,403	$	49,025


Cash, cash equivalents and marketable securities	Carrying value at June 30, 2004		Average rate of return at June 30, 2004		Carrying value at Sept. 30, 2003		Average rate of return at Sept. 30, 2003
	(in thousands)		(annualized)		(in thousands)		(annualized)
Cash and cash equivalents—variable rate	$	47,032	0.7	%	$	71,093	0.8	%
Money market funds—variable rate		19,740	0.8			4,978	0.8
Cash and cash equivalents—fixed rate		29,553	1.0			22,770	1.1

Total cash and cash equivalents		96,325				98,841
Marketable securities—fixed rate		44,124	1.9	%		15,425	2.1	%

Total cash cash equivalents and marketable securities	$	140,449			$	114,266



10.20		Severance Agreement dated January 6, 2004 between the Registrant and Keith Hopkins.

31		Certifications of Chief Executive Officer and Chief Financial Officer Pursuant to Exchange Act Rules 13a-14(a) and 15d-14(a), as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32		Certifications of Chief Executive Officer and Chief Financial Officer Pursuant To 18 U.S.C. Section 1350, as Adopted Pursuant To Section 906 Of The Sarbanes-Oxley Act of 2002


Exhibit No.		Description

10.20		Severance Agreement dated January 6, 2004 between the Registrant and Keith Hopkins.

31		Certifications of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.

32		Certifications of Chief Executive Officer and Chief Financial Officer Pursuant To 18 U.S.C. Section 1350, as Adopted Pursuant To Section 906 Of The Sarbanes-Oxley Act of 2002.