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Edited Transcript of CDNS earnings conference call or presentation 22-Apr-19 9:00pm GMT

Q1 2019 Cadence Design Systems Inc Earnings Call

SAN JOSE Apr 23, 2019 (Thomson StreetEvents) -- Edited Transcript of Cadence Design Systems Inc earnings conference call or presentation Monday, April 22, 2019 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Alan H. Lindstrom

Cadence Design Systems, Inc. - Senior Group Director of IR

* John M. Wall

Cadence Design Systems, Inc. - Senior VP & CFO

* Lip-Bu Tan

Cadence Design Systems, Inc. - CEO & Director

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Conference Call Participants

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* Gal Munda

Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst

* Jackson Edmund Ader

JP Morgan Chase & Co, Research Division - Analyst

* Jason Vincent Celino

KeyBanc Capital Markets Inc., Research Division - Associate

* Jay Vleeschhouwer

Griffin Securities, Inc., Research Division - MD of Software Research

* John William Pitzer

Crédit Suisse AG, Research Division - MD, Global Technology Strategist and Global Technology Sector Head

* Mitchell Toshiro Steves

RBC Capital Markets, LLC, Research Division - Analyst

* Richard Frank Valera

Needham & Company, LLC, Research Division - Senior Analyst

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Presentation

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Operator [1]

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Good afternoon. My name is Cheryl, and I will be your conference operator today. At this time, I would like to welcome everyone to the Cadence First Quarter 2019 Earnings Conference Call. (Operator Instructions)

Thank you. I will now turn the call over to Alan Lindstrom, Senior Group Director of Investor Relations for Cadence. Please go ahead.

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Alan H. Lindstrom, Cadence Design Systems, Inc. - Senior Group Director of IR [2]

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Thank yo, Cheryl, and I would like to welcome everyone to our first quarter 2019 earnings conference call. I am joined by Lip-Bu Tan, CEO; and John Wall, Senior VP and CFO. The webcast of this call is available through our website, cadence.com, and will be archived through June 14, 2019. A copy of today's prepared remarks will also be made available on our website at the conclusion of today's call.

Please note that today's discussion will contain forward-looking statements and that actual results may differ materially from those expectations. For information on the factors that could cause a difference in our results, please refer to our filings with the Securities and Exchange Commission. These include Cadence's most recent reports on Form 10-K and Form 10-Q, including the company's future filings and the cautionary comments regarding forward-looking statements in the earnings press release we issued today.

And by the way, we just filed our first quarter Q a few minutes ago, so it's now available. In addition to financial results prepared in accordance with generally accepted accounting principles, or GAAP, we will also present certain non-GAAP financial measures today. Cadence management believes in addition to using GAAP results in evaluating our business, it can also be useful to review results using certain non-GAAP financial measures. Investors and potential investors are encouraged to review the reconciliation of non-GAAP financial measures with their most direct comparable GAAP financial results. The reconciliations are available at the Investor Relations section of cadence.com.

Copies of today's press release dated April 22, 2019, for the quarter ended March 30, 2019, related financial tables and the CFO commentary are also available on our website.

And now I'll turn the call over to Lip-Bu.

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [3]

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Good afternoon, everyone, and thank you for joining us today.

Cadence achieved excellent operating results for the first quarter of 2019, delivering 11% year-over-year revenue growth and 32% non-GAAP operating margin with broad-based strength across our product lines.

As a result, we are increasing our outlook for the year, and John will provide more details shortly. While there's some uncertainty in the overall macro environment, we are confident about the multiple trends that have continued to drive strong design activity. In addition to technology trends, like AI and 5G, design activity is being fueled by workload-specific computing, system companies building custom silicon, new silicon startups and digital transformation of industries such as automotive, aerospace, medical and other industry -- industrial applications.

Our business is mission-critical to silicon development which is cornerstone of all design activity. As we have stated, our System Design Enablement, or SDE strategy, drives growth in our core EDA and IP business; broadens our reach in system companies and targeted verticals; and guides our expansion into newer, adjacent areas.

We executed well on this strategy. And today, I want to highlight its next phase which we're calling intelligent system design. The foundation of this strategy continues to be delivering design excellence via our core EDA and IP business. In addition, we are building upon our core competency in computational software to expand into 2 new areas: system innovation, where we are expanding into new system domains; and pervasive intelligence, where we will apply AI and our algorithm know-how to our core business and specific verticals.

Our intelligent system design strategy will enable us to provide more capabilities and value to our customers while also expanding our current total addressable market from about $10 billion to estimated $30 billion over the next 5 years. To highlight some of this -- some of our recent activities in the system innovation space, in Q1, we announced a strategic partnership with Green Hills Software which opens new opportunities in the estimated more than $3 billion embedded system, safety and security space. And earlier this month, we entered the system analysis market, an estimated $4.5 billion total addressable market opportunity, by introducing our first product, Clarity 3D Solver, a next-generation solution for electromagnetic field simulation. Clarity is a true 3D solver which delivers up to 10x faster simulation performance while virtually unlimited capacity without compromising accuracy.

Clarity used state of art, distributed, multiprocessing technology, making it uniquely optimized for the cloud and on-premise distributed computing and has been endorsed by Teradyne and HiSilicon.

Turning to our core business. Our digital and signoff business achieved 12% year-over-year revenue growth, driven by strong adoption by new customers and proliferation of -- by existing customers at advanced nodes. Today, more than 100 7-nanometer designs have taped out using our digital solution, and multiple 5-nanometer designs are underway using our solution as well.

Our hardware-assisted verification products, an important part of our Verification Suite, had another good quarter. Palladium Z1, our flagship emulation platform, added 2 new customers that are doing machine learning designs including SambaNova Systems.

We also have 13 repeat orders including 3 significant expansions, one of which was at Annapurna Labs, an Amazon company. Our Protium S1 prototyping platform, which enables early software development also added 2 new customers and received 7 repeat orders. Palladium cloud continued its steady momentum and now has more than 10 customers, several of which have made repeat orders.

Our IP business also showed double-digit growth year-over-year. Tensilica continue to win sockets for machine learning, vision and audio applications in the automotive, consumer and surveillance segments, adding 8 new customers in the quarter.

In the Design IP space, our new 112-gig long-reach SerDes IP was adopted by a marquee semiconductor company, and we launched the industry first complete silicon-proven LPDDR5 silicon. As I had said earlier, our strategy broaden our reach in system companies and targeted verticals. One of our most successful targeted verticals is aerospace and defense where we recently announced that we are working with Northrop Grumman, where our EDA IP solutions has supported a shortened product development cycle and advanced nodes tapeouts.

Lastly, I want to highlight the new Cadence CloudBurst platform, the latest addition to our cloud portfolio which extends our cloud leadership in EDA and provides customer with very compelling productivity, flexibility and scalability benefits. CloudBurst enables hybrid cloud environment and is ideal for serving peak demand. It provides fast and easy access to preinstall Cadence Design tools in either AWS or Azure cloud environment. It was used by Barefoot Networks to achieve a 10x productivity improvement running Cadence Tempus Timing Signoff Solution on their 7-nanometer networking chips.

With that, I want to turn over the call over to John to review the financial results and provide our updated outlook.

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John M. Wall, Cadence Design Systems, Inc. - Senior VP & CFO [4]

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Thanks, Lip-Bu, and good afternoon, everyone.

Cadence achieved broad-based growth across all lines of our business during Q1, with demand for hardware and IP exceeding our original expectations. Revenue, operating margin and cash from operations were all strong in Q1, and as hardware and IP have become a larger part of our overall business, our recurring revenue mix percentage is now in the high 80s.

Now let's go through the key results for the first quarter, starting with the P&L. Total revenue was $577 million. Non-GAAP operating margin was 32%; GAAP EPS was $0.43, and non-GAAP EPS was $0.54.

Turning to the balance sheet and cash flow. At quarter end, cash totaled $539 million while the principal value of debt outstanding was $400 million. Operating cash flow for Q1 was $185 million. DSOs were 42 days. And during Q1, we repurchased $81 million of Cadence shares.

Now we will provide our updated guidance. For Q2, we expect the following results: revenue in the range of $575 million to $585 million; non-GAAP operating margin in the range of 31% to 32%; GAAP EPS in the range of $0.34 to $0.36; and non-GAAP EPS in the range of $0.52 to $0.54. Our updated guidance for fiscal 2019 is as follows: revenue in the range of $2.305 billion to $2.335 billion; non-GAAP operating margin of approximately 31%; GAAP EPS in the range of $1.39 to $1.47; non-GAAP EPS in the range of $2.04 to $2.12; operating cash flow in the range of $665 million to $705 million; and for the year, we expect to use approximately 50% of free cash flow to repurchase Cadence stock. You will find guidance for additional items as well as further analysis in the CFO commentary available on our website.

In summary, I'm pleased with our performance in Q1. We achieved strong operating results highlighted by 11% year-over-year revenue growth; 32% operating margin on a non-GAAP basis; and the generation of $185 million of operating cash in the quarter.

And looking at our revised outlook for the year, I'm pleased to see improvements in operating income consistently flowing through to cash as illustrated by the increase in our operating cash flow guidance for the year. We'd like to thank our customers, partners and of course, our employees for a solid start to 2019, and we look forward to updating you on our progress throughout the year.

And with that, operator, we'll now take questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from Rich Valera of Needham & Company.

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Richard Frank Valera, Needham & Company, LLC, Research Division - Senior Analyst [2]

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Interesting comments on your foray into the system analysis market, and obviously, you started there with an electromagnetic-based solver. But there are obviously many solvers that you could potentially roll out there to have a complete portfolio for that market. So just wondering how aggressively you plan to go after that market. Will you go after the mechanical static side of it as well as sort of the more electronic-centric solvers? Just any sort of sense of your real aspirations in that market?

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [3]

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Rich, Lip-Bu here. And we did not hear the first portion of your question, but I guess it's about the 3D solver that we announced. And we are delighted, and this first product, Clarify, is truly a 3D solver, and it's a next-generation solution that is for the electromagnetic field simulations, and this is our first entry to the system analysis. And clearly we have other products we're now working on, on development. We're excited because of a couple of things. One, clearly we look at our core competence, the core competency that we have in the computational software, and that's what our EDA background is from and then also our 3D, some of our packaging technology that we have. That combination, that gave us a very unique opportunity to really drive next-generation disruptive, that's why we can claim up to 10x the performance, and then this is very cloud enabled and then -- so that we can really provide a truly next-generation, uniquely optimized for cloud and on-premise distributed computing and so that we have something unique to offer. And stay tuned. We're going to have more product coming up. This is our first entry into the system analysis market.

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Richard Frank Valera, Needham & Company, LLC, Research Division - Senior Analyst [4]

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Great. And if I could just circle back to your last earnings call, you referenced a major win with a marquee semiconductor customer. You mentioned that you were pretty aggressively ramping up your AE hiring to support this customer. So given that you've kind of given us some hint on the expense side for that customer, is there anything you're willing to say about your revenue expectations like when you might expect to generate incremental revenue from this customer, whether it be this year, next year? Or any color at all you could give on that.

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [5]

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Yes. I think we are excited about this marquee U.S. semiconductor company. As I mentioned in the last earnings call, it's a breakthrough and wide-ranging win. And we are very excited. It's the early days of partnering with this customer to expand the breadth of our engagement. It's across all our different tools, and we are excited about it. And clearly, everything we know is already built into our guidance for the year. But overall, clearly, to support a very important customer, we are to build out our AE and R&D support and to really proliferate across that in our requirements.

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Operator [6]

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Your next question comes from John Pitzer of Crédit Suisse.

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John William Pitzer, Crédit Suisse AG, Research Division - MD, Global Technology Strategist and Global Technology Sector Head [7]

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Lip-Bu, maybe first to you. In your prepared comments, you did talk about some pockets of uncertainty out there in the environment which makes sense given what some of your traditional semi-customers are putting up. I'm just kind of curious, to the extent that you guys continue to do better than expected and beat and raise, what do you think it is about your business that's allowing you to buck this trend? Is this just your ability to address nontraditional customers? Is it the new large win that's offsetting this? Maybe you can just help us give us a sense as to why you seem to be bucking some of the uncertainty trends out there.

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [8]

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Yes, John, it's a very good question. So let me just talk about this uncertainty. I think we all know from the marketplace, geopolitical and also some of the slowdown in some segment of the industry, like automotive and others, but we're excited on a couple of drivers, and especially, AI and then the 5G and autonomous driving and then also the industrial edge. They're something that I'm very passionate about. And -- because we are moving into, I call it, big data environment. It's all about data and data analytics. So in a way, driving a lot of new requirements for the semiconductor. So one, I mentioned, about the workload-specific or you call it domain-specific process computing. General-purpose CPU, GPU, there's a good place for them. But right now the workload have changed so we call it the workload-specific, more application-related. And that's also driving not just the computing and also the, clearly, a lot of more exciting about the memory. There's some new innovation on memory. There's some new innovation on storage. And some of you have heard about the NVMe controller, disaggregation of the storage because of the massive, massive data that you need to be -- disaggregate the storage and network. And also the other parties, their high-speed connectivity, they're able to scale the connectivity speed that's required in the hyperscale. So all this are going to be driving a very strong design activity, and we are in the middle of it. We are well positioned to capture that. And that's why I think the -- from our point of view, the design activity is increased substantially. We are excited about supporting some of our customers to really embark on some of these opportunities.

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John William Pitzer, Crédit Suisse AG, Research Division - MD, Global Technology Strategist and Global Technology Sector Head [9]

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That's helpful. And then John, just maybe as a follow-up on the op margin guidance both for the fiscal second quarter and the full fiscal year. It's a slight downtick from what you just put up in the fiscal first quarter. Is that nothing more than the expense of on-boarding the new large North American customer? Can you talk about some of the other puts and takes that might have op margins going down throughout the fiscal year on what's going to be rising revenue?

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John M. Wall, Cadence Design Systems, Inc. - Senior VP & CFO [10]

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Sure, John. Great question. That's -- I mean, for the year, looking at the year, our annual merit increase is going to effect in July so that impacts the second half of the year. And of course, over the course of the year, we're investing in R&D and field resources to support proliferation of our solutions with market-shaping customers, and I say customers, plural, it's not all for one customer.

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Operator [11]

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Your next question comes from Mitch Steves of RBC Capital Markets.

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Mitchell Toshiro Steves, RBC Capital Markets, LLC, Research Division - Analyst [12]

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I have 2. So the first one is kind of the operating margin long-term target. I know you guys historically talked to 30%, but you guys are above that for 3 quarters in a row. And I'm wondering if you guys may provide some sort of high-level commentary on where you think that could go in 3 to 5 years. And then secondly, I noticed in your prepared commentary, you guys are now breaking out China as a separate geography. And it seems like the numbers there had a lot more volatility, meaning that it used to be kind of 8% of revenue, but then it was 13% in December and now it's back down to 10%. So maybe you could talk a little bit why you guys are disclosing China now as a separate geography.

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John M. Wall, Cadence Design Systems, Inc. - Senior VP & CFO [13]

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Mitch, I'll take the second part of that question first, if you don't mind. I mean, in terms of calling out China separately, yes, you'll see that in our revenue by geography table, in the CFO commentary and in our 10-Q. Generally, any lumpiness in the percentage of revenue was probably caused by our IP and hardware businesses. But that will -- our IP and hardware revenue is generally more lumpy than the rest of our business. But -- and then in relation to your first question, we're not really ready to put out a long-term target right now. We're always looking at how to improve operating performance. And you mentioned like over the next 3 years, while we're not giving guidance over the next 3 years, if you take a look over a longer time period and compare our current guidance for 2019 with, say, our 2016 results, you'll get a perspective in how we've been able to scale the business in recent years.

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [14]

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Yes. Just to add to what John's talking about on the China side. If you look at historical 2016, about 8%, and then 2017, about 9%. And then last year, it's about under 10%, and this year, it's 10%. So overall, we have done well in China. And clearly, China is very committed to build a domestic semiconductor industry, and they are making great progress. And we are very well positioned to support not just China, I mean globally in Asia, in other places, and we want to be the trusted partner for them.

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Operator [15]

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Your next question comes from the line of Jay Vleeschhouwer of Griffin Securities.

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Jay Vleeschhouwer, Griffin Securities, Inc., Research Division - MD of Software Research [16]

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Lip-Bu, a technology question first for you regarding what you call now your intelligent system design strategy. And the question is, over the last number of years, perhaps the most important thing you've done, particularly, in digital, is to pursue your parallel architecture with a common data model across the portfolio. And that's obviously helped you on the digital tools side. The question is with respect to the new intelligent system design target, how extensible or leverageable is that platform or architecture of the last number of years for that new strategy? Or is there some additional rework or new technology you have to insert into the portfolio to pursue that? And in any case, in the meantime, what additional opportunity do you have to further integrate the tools? For example, we've read some work you're doing to better integrate Innovus with Genus. Is that something you could comment on as well?

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [17]

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Yes. Good question, Jay. Let me try to answer your question. So I think that intelligent system design, it breaks down into 3 pieces. One is design excellence, and that is our core EDA and IP. So we are very laser focused, make sure that our foundations are solid. We are the best of 2 in every category, and that's how -- what we inspire (sic) [aspire] to do. And so that -- we are delighted on the digital and signoff sector, we grew in the last quarter 12%. Clearly we have continued to succeed in the new customers, and then right now, in the some of the big -- the proliferation on some of our current customers in the most advanced nodes, in the 7 to 5. We are moving on 3-nanometer. And so I think we're excited about continuing to drive that. And then we move on to the system innovation. That is moving to the system domains. And as I mentioned earlier, really using our -- and we've been to a soul searching, we found that our core competency, in the computational software and then the -- and the digital implementation that we have, and it can be scaled into the system level. And that's why we are excited I think to embark on that into this, I call it, the first mover is -- basically is the embedded system. Safety and security space, we've been here. We are very delighted in that strategic partnership with that so that we're starting to move into that space. And that's about $3 billion market that we are excited about. The next thing that we're looking at is the whole, we call it, the system analysis space, and that's about $4.5 billion. And then it's about time to have some innovation solution, able to provide an account, enabled and scalable, and then using our strength to apply because as you'll recall, we also have the PCB business and also the 3D technology so that we can really apply that into this 3D solver, and that is just the beginning on the EM, electromagnetics field simulation area. And then stay tuned. We have continued the development and investing in this space. And it's a big market, $4.5 billion. And customers love it. And so far, the initial feedback from our potential customers, and we highlight, too, that I endorse our approach, and then they see the benefit of the performance, and we're excited about it. And then finally, we're going to use that through the pervasive intelligence, using the AI and machine learning, and basically we're going to apply into, we call it, the inside and outside. Inside basically using AI/machine learning to drive performance improvement, productivity and performance improvement across all our product lines in term of EDA tools. And we already see significant improvement on that. And then finally, we're also working with our leading customer using AI to optimize their flow and methodology so that the customer can really drive the performance like machine learning, deep learning and other applications. And that is kind of our approach.

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Jay Vleeschhouwer, Griffin Securities, Inc., Research Division - MD of Software Research [18]

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Lastly, geographically, there's been some interesting trends in Japan which, for years, as you know, was quite weak and lost share in terms of total EDA. But for you, you've now seen a few quarters in a row of sequential improvement in Japan and year-over-year improvement in Japan on both the quarterly and trailing 12 basis. The question therefore is are you beginning to redirect or grow your investments in Japan to sustain that growth either with sales or AE or anything else?

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [19]

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Yes. Good question. I think Japan is important market for us. There are a couple of areas Japan is very strong, and I'll just name a few. Automotive, they're very, very strong. And also I mentioned earlier the edge, industrial IoT, the microcontroller, and there's a lot of controller collecting data. And then a couple of key players in Japan that we are really excited to team up with them. And then also the whole video, surveillance consumer-related area, and AI/machine learning can really play a role in it. And so I think it's a very important market, and then they are recovering very nicely. And then right now, we're engaging heavily with a couple of key customers that we want to be their trusted partner going forward.

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Operator [20]

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Your next question comes from Sterling Auty of JPMorgan.

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Jackson Edmund Ader, JP Morgan Chase & Co, Research Division - Analyst [21]

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This is Jackson Ader on for Sterling. Can I -- a couple of questions from our side. The first would be so looking at the outperformance here in the quarter, it seems like it's coming from the 2 areas that you called out were IP and hardware, which are typically the 2 more volatile areas for revenue. So what is giving you the confidence then to raise the full year guide above just this quarter's upside? Is there something in time-based licenses that came in ahead of what you thought? Or is the pipeline building better than what you thought?

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [22]

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Yes. I think, Jason (sic) [Jackson], let me start first, and then John will fill in. First of all, I kind of highlight that it's very broad based, the strength across our product lines. And even though we highlight the hardware, we highlight the IP, we also highlight the digital growth, 12%. And then the other part which is also very exciting for us is the custom analog system connect area and also, it's nice growth, about 8%, and then we are excited about -- that's why we are investing in this whole system analysis, it's part of this analog custom interconnect system level. And that area had been doing well. And so I think overall, I'd have to say that it's across the board and then also some of the new -- newly developed products that we already built into our guidance for the year.

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John M. Wall, Cadence Design Systems, Inc. - Senior VP & CFO [23]

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Jackson, this is John. Yes, we had a very pleasing Q1 performance for IP, but of course, IP is lumpy and probably benefits against the -- a better compare against Q1 2018. On the hardware side, if you recall, our functional verification revenue grew in the high-teens in 2018. And the last time we spoke to you, we were expecting functional verification revenue in 2019 to be approximately flat year-over-year. With Q1 now behind us and with better visibility into the hardware pipeline, we're now expecting modest growth in our functional verification segment despite the difficult compare. We saw a pickup in demand in Q1 for our hardware products, and we expect that to continue into Q2.

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Jackson Edmund Ader, JP Morgan Chase & Co, Research Division - Analyst [24]

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Okay. Great. That's helpful. Follow-up question is kind of a two-parter. So the first being, you mentioned, Lip-Bu, the $30 billion TAM over the next few years, right? An expansion from the $10 billion that you've seen kind of in the past. What would you say you currently I guess address of the incremental $20 billion? And then secondly, obviously, a part of this is going to be the Clarity 3D Solver that was announced a couple of weeks ago. What do you see as the main -- or who, I guess, you see as the main competitors for this Clarity 3D Solver?

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [25]

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Yes. Good question. And we're excited about this TAM expansion. That's one of the very important focus for Cadence. And so that's why we have this strategy on the -- we call it the intelligent system design. And first of all, I think clearly, our foundation continues to grow in terms of design excellence. All our EDA tools are continuing to drive the growth with the semiconductor company and also system company to drive differentiation. And then second part we're starting to address -- begin to address is that system innovation. And so clearly, the opportunity in front of us is this whole embedded system, safety and security. Our partnership with Green Hills is a very important part of our strategy. And then now we're starting to move into the system analysis space. So embedded space, about $3 billion. And then the market analysis is about -- clearly, system analysis is about $4.5 billion. And then so I think overall, we'll continue to -- marching forward, stay tuned, and then we're going to be -- over time, we're going to be -- highlight to you some of the success we have. And then clearly, on the competition side, on the system analysis, there are a couple of them I think you quite know -- well known. They have some more legacy solutions. And then -- but the customers, over time, require increase on the system complexity and also shift less approach, doing more simulation and then larger design, and that will require solutions that need more capacity and also higher performance. And that really plays into our strength in terms of algorithm expertise and massive distributing, multiprocessing capability. And so I think those are the things that really we find a unique opportunity, a unique qualification we have to play in this market.

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Operator [26]

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(Operator Instructions) The next question comes from Jason Celino of KeyBanc.

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Jason Vincent Celino, KeyBanc Capital Markets Inc., Research Division - Associate [27]

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Can you hear me all right?

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [28]

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Yes.

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John M. Wall, Cadence Design Systems, Inc. - Senior VP & CFO [29]

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Yes.

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Jason Vincent Celino, KeyBanc Capital Markets Inc., Research Division - Associate [30]

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Yes. So good race to the full year. First half of 2019 guidance assumes kind of 11.7% growth and then decelerates kind of to the 6.7% for the second half. I appreciate your comments on kind of the updated hardware outlook. How conservative is your guidance still for 2019?

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John M. Wall, Cadence Design Systems, Inc. - Senior VP & CFO [31]

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Jason, this is John. Everything we know is in our guidance. You're right that the first half does look kind of flat compared to the second half. That's mainly because of functional verification, which includes both software and hardware products. But that's quite lumpy, and our visibility into demand for Q2 looks good. Q4 is a very tough compare though.

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Jason Vincent Celino, KeyBanc Capital Markets Inc., Research Division - Associate [32]

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Okay, okay. And then as far as IP revenue for the quarter, I mean you guys did post strong quarters. I mean how should we think about IP as a whole growth-wise for the full year?

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John M. Wall, Cadence Design Systems, Inc. - Senior VP & CFO [33]

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We're very pleased with our IP results in Q1. What -- IP in Q1 benefits from a relatively easy compare versus Q1 2018. The -- we're not guiding the individual product groups, but we're very pleased with our IP results for the first quarter.

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [34]

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Yes. A couple of things we're kind of positive about is the Tensilica, the proliferation adoption for the machine learning, vision, audio and also automotive, consumer, surveillance. We add new -- 8 new customers. On the Design IP side, clearly, we have the 112-gig long-reach SerDes IP, and this is a must-have for the hyperscale infrastructure. And we are just at the beginning of it, and we are delighted. Marquee semiconductor companies adopt it. And more to come, and then stay tuned, and we'll have more updates for you.

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Operator [35]

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Your last question comes from Gal Munda of Berenberg.

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Gal Munda, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [36]

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The first one is just, John, maybe to clarify, in terms of the guidance, one thing that has kind of changed is the recognized revenue that's kind of estimated to come over time, the ratable revenue. You're saying that the new guidance is 85% to 90% versus previous around 90%. Is the main delta there in the hardware products, the way that you've seen Q2 demand kind of turned out, is that the reason for it?

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John M. Wall, Cadence Design Systems, Inc. - Senior VP & CFO [37]

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Yes, Gal. Our revenue comes predominantly from 2 main sources, IP and the hardware part of our functional verification group. The expectation for better functional verification growth leads directly to that revision of our outlook for the recurring revenue mix. We're now expecting high 80s for 2019.

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Gal Munda, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [38]

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Okay. And then the second question is just linked to your cloud offering. In the past, your customers kind of like to mix and match different parts of the product/system. When you moved to the cloud, especially when you started doing design in the cloud, my question is can tools still be matched as easily as previously promised. And if not, does that mean that potentially tools can be more sticky? Or do you not expect any change in the workflow, the way they're being managed in terms of managers' side?

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John M. Wall, Cadence Design Systems, Inc. - Senior VP & CFO [39]

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Cadence Cloud does not change our business model. It just offers our customers another way to optimize their investment in Cadence tools. We're not really expecting any difference in how our customers use our tools.

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [40]

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And in some way, we try to drive the performance and productivity for our customers by moving to the cloud so that you can address the peak load and also you can parallel the distributor to the unlimited server that the cloud infrastructure provides, and that is of tremendous value to our customers.

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Gal Munda, Joh. Berenberg, Gossler & Co. KG, Research Division - Analyst [41]

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Perfect. And just as a follow-up on that, would you say that when you're seeing the adoption of the cloud in the future, would you expect majority of it coming from -- with adverse capacity like you mentioned from existing customers that potentially will invest less in their own infrastructure? Or do you think that the new customer, the systems companies or even the startups, will account for a larger portion of that adoption in the future?

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [42]

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It really depends on the customers. And then the -- they can use a hybrid using their on-premise. And then when they address a peak load with the cloud or they went through from scratch in some of the startups, they want to be all cloud, we're also open to that. So I think there's a lot of different models. And then we basically want to make it available to our customers whatever they choose and make sure that it's secure and then make sure that it can drive performance and productivity for them. That is our main driver for using the cloud. And then basically we are supporting them. And they have the option, either customer-managed or using the Cadence-managed or the Palladium Cloud.

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Operator [43]

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We will now turn the call over to Lip-Bu Tan for closing remarks.

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Lip-Bu Tan, Cadence Design Systems, Inc. - CEO & Director [44]

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Thank you all for joining us this afternoon. In summary, our business is mission-critical to silicon development, which is the cornerstone of all design activity. Through our strategy, we are capitalizing on multiple technology ways and further proliferating our solution with a broader base of customers. Next phase of our strategy, intelligent system design, brings new opportunities in the design excellence, system innovation and pervasive intelligence and an expanded total addressable market.

In closing, I would like to thank all our shareholders, customers and partners, Board of Directors and our hard-working employees for their continued support.

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Operator [45]

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Thank you for participating in today's Cadence First Quarter 2019 Earnings Conference Call. This concludes today's call, you may now disconnect.