Alan Lindstrom - Investor Relations Lip-Bu Tan - President and CEO Geoff Ribar - SVP and CFO.

Monica Garg - Pacific Crest Securities Tom Diffely - D.A. Davidson Sterling Auty - JPMorgan Mahesh Sanganeria - RBC Capital Markets Krish Sankar - Bank of America Merrill Lynch Ruben Roy - Piper Jaffray Jay Vleeschhouwer - Griffin Securities Gus Richard - Northland Capital.

Good afternoon. My name is Courtney and I will be your conference operator today. At this time, I would like to welcome everyone to the Cadence Design Systems' third quarter 2014 earnings conference call. (Operator Instructions) Thank you.

Alan Lindstrom, Senior Group Director of Investor Relations for Cadence Design Systems, you may begin your conference. .

Thank you, Courtney, and welcome to our earnings conference call for the third quarter of fiscal 2014. The webcast of this call can be accessed through our website, cadence.com, and will be archived through December 19, 2014. A copy of today's prepared remarks will also be available on our website at the conclusion of today's call.

With us today are Lip-Bu Tan, President and CEO; and Geoff Ribar, Senior Vice President and CFO. Please note that today's discussion will contain forward-looking statements and that our 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 release issued today. Note that we also filed the third quarter 10-Q this afternoon.

In addition to the 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 that in addition to using GAAP results in evaluating our business, it can also be useful to measure 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, which can be found in the quarterly earnings section of the Investor Relations portion of our website.

A copy of today's press release, dated October 20, 2014, for the quarter ended September 27, 2014 and related financial tables can also be found in the Investor Relations portion of our website. Now, I'll turn the call over to Lip-Bu..

Total revenue was $400 million. Non-GAAP operating margin was 27% and operating cash flow was $88 million. Before talking about our Q3 highlights, I want to say a few words about the environment and update you on the progress of our system design enablement strategy.

While environment in the semiconductor industry remains mixed, there is a strong design activity underway, particularly at advanced nodes. System companies are doing well and we expand our business with several of them over the past quarter.

As you have heard me say before, we are executing our system design enablement strategy to deliver the technologies necessary for the integrated system and SoC design with the end product in mind. At the heart of the strategy is our growing core EDA business.

We’re excited about the opportunities to also expand our business in IP, system interconnect, analysis and system level design and hardware and software development. Our core EDA business continued to grow strongly. I'm pleased to report that this quarter Cadence booked the largest contract since I became CEO.

Our talented engineering team continues to generate innovative technology. We have announced 10 new products in the last 18 months, including two in the last quarter. Outside core EDA, we are succeeding at the system-level. We grew our footprint in PCB and system interconnect analysis tools at a large systems company in the growing medical segment.

In the critical hardware/software convergence space, we won new Palladium business at a mil/aero systems company. Our Tensilica baseband and audio processors were designed into NXP’s RoadLINK chipset to deliver vehicle-to-vehicle communications for improved road safety in secure connected cars.

A major example of the success of our System Design Enablement strategy was demonstrated at HiSilicon. Cadence implementation, verification, 3D-IC packaging tools and DDR4 IP were used in the development of HiSilicon 32 core ARM network processor, which is the first TSMC 16 nanometer FinFET SoC in production.

Also, I am very delighted that Cadence won two TSMC Partner-of-the-Year awards during the recent Open Innovation Platform Ecosystem Forum, for soft IP and for the joint development of 16 nanometer FinFET Plus design infrastructure.

The consistent performance of our company and the strength of our business model enabled us to issue $350 million in investment-grade bonds which is a significant milestone for any company our size. Geoff will give more details on the bond offering in a few minutes.

Our innovative solutions along with strong ecosystem partners, are resulting in us winning new business with top customers. To ensure that we can deliver on these commitments and maximize future opportunities, we need to increase our investment in technology development and support. Now let’s review our Q3 highlights.

In the digital signoff space, strong adoptions of our next generation implementation solutions continued, with several wins in the full RTL-to-signoff flow for high performance FinFET designs at top customers. The need for advanced nodes is growing across multiple verticals, including mobile, network infrastructure and automotive.

Our digital portfolio strength was instrumental in significantly expanding the use of our tools and IP at a marquee global company. Our silicon sign-off tools continue to gain strong momentum. Tempus, our timing analysis solution, had a record booking quarter and now has 45 customers.

Voltus, our gate-level power integrity analysis solution, has now been adopted by 35 customers. In Q3, we launched Voltus-FI for highly-accurate transistor-level power integrity analysis on FinFET designs.

We also launched our new massively parallel RC extraction product, Quantus QRC, which delivers best in class performance and accuracy, and already has over 20 customers. I would like to highlight the strong collaboration work we are doing with our partners ARM and TSMC in the digital and signoff space.

We expanded our collaboration with ARM through a multiyear technology access agreement. This continued early access to ARM IP enables Cadence to provide optimized tools and flows to accelerate success for our mutual customers.

We achieved digital and custom/analog tool certification, and unveiled a broad portfolio of our IP for TSMC’s new 16-nanomter FinFET Plus process. ARM and Cadence announced a collaboration for IoT and wearable device applications targeting TSMC’s new Ultra Low Power processes.

And we are deeply engaged with multiple foundry partners at the 10 nanometer node, including announcing our readiness for early customer digital design starts with TSMC, and have begun early tool enablement at 7 nanometers. Now let’s turn to System Design and Verification.

Our System Development Suite continues to grow in double digits, with momentum at system and semiconductor customers across mobile, consumer, networking and storage segments. Advanced Verification Solutions achieved excellent growth, with Incisive simulation revenue reaching the highest level in years.

Adoption of Palladium XP was strong for the simulation-acceleration use model as well as the hybrid emulation use model. We announced success at ARM, where Palladium Hybrid technology, coupled with ARM Fast Models, achieved a 50X faster OS boot-up during the development of their latest Mali GPU. Lastly, Jasper product integration is ahead of schedule.

We are very excited about this business and it is contributing strongly to our verification success with key customers. Our IP business had a record revenue for the quarter, demonstrating strength across the breadth of our portfolio. Additionally, VIP achieved its strongest bookings quarter ever, through some large orders from top customers.

The integration of last year’s acquisitions is proceeding well and there is a strong organic development underway at the most advanced nodes. In summary, Cadence continues to drive growth and positive momentum, winning ground in systems companies with our System Design Enablement strategy.

Our digital and new sign-off tools continue to gain traction with significant wins at top customers. We are increasingly driving growth through innovative internal development. We’re focused on delighting our customers and will invest for mutual success. I am pleased with our current results and excited about the opportunities ahead.

Now, I will turn the call over to Geoff to review the financial results and provide our outlook. .

23% for functional verification, 29% for digital IC design and signoff, 27% for custom IC design, 11% for IP, and 10% for system interconnect and analysis. Total costs and expenses on a non-GAAP basis were $291 million, compared to $290 million for Q2, and $278 million for the year ago quarter.

In Q3 we incurred an $11 million GAAP charge for restructuring, as we continued to focus on operational efficiencies. Q3 headcount was 6082, up 38 from Q2. Non-GAAP operating margin was 27%, compared to 23% for Q2, and 24% for the year ago quarter. GAAP net income per share was $0.12.

Non-GAAP net income per share was $0.26, compared to $0.21 for Q2, and $0.21 for the year ago quarter. Operating cash flow was $88 million, compared to $69 million for Q2, and $98 million for the year ago quarter. Total DSOs were 25 days, compared to 26 for both Q2 and the year ago quarter. Capital expenditures were $10 million.

Cash and short-term investments were $595 million at quarter-end, compared to $655 million for the prior quarter. We repurchased 2.2 million shares for approximately $38 million. We paid down $100 million on our revolving credit facility, which is now undrawn with $250 million available.

$190 million of our cash and short-term investments were in the U.S. at quarter-end. Note that our quarter-end cash positions do not include the impact of our new senior unsecured notes which were issued in Q4. Weighted average contract life was approximately 2.6 years. This was in line with our expected range of 2.4 to 2.6 for the year.

Now let’s address our outlook for the fourth quarter of 2014. Overall we are leaving our revenue and bookings outlook for the second half of the year unchanged. As I said last quarter, we expect stronger software revenue but weaker hardware revenue compared to our initial guidance for 2014. The hardware business remains competitive.

For our Q4 outlook, we expect revenue to be in the range of $417 million to $427 million. Non-GAAP operating margin is expected to be between 27% and 28%. GAAP EPS is expected to be in the range of $0.16 to $0.18, and non-GAAP EPS is expected to be in the range of $0.26 to $0.28. Now for our fiscal 2014 outlook.

Bookings are projected to be in the range of $1.75 billion to $1.8 billion. We expect weighted average contract life in the range of 2.4 to 2.6 years, and we expect at least 90% of revenue for the year to be recurring in nature. Revenue is expected to be in the range of $1.575 billion to $1.585 billion.

Non-GAAP operating margin is expected to be 25% to 26% on an annual basis. This is unchanged from our previous guidance. Non-GAAP other income and expense is expected to be in the range of negative $16 million to negative $12 million.

This is higher than our previous expectation of negative $15 million to negative $9 million, due to the increased interest expense for our new senior notes issued October 9, 2014. We are assuming a non-GAAP tax rate of 26% and weighted average shares outstanding of 305 million to 309 million shares for the year.

GAAP EPS is expected to be in the range of $0.46 to $0.48. This is lower than our previous guidance of $0.48 to $0.56 due to the restructuring, and interest expense from our new bond issue. GAAP EPS is expected to be in the range of $0.92 to $0.94. This is changed from our previous range of $0.90 to $0.98 due to interest expense for our new bond issue.

We expect operating cash flow in the range of $290 million to $320 million. This is down slightly from our previous range of $305 million to $335 million primarily due to restructuring payments. Our DSO forecast is approximately 30 days. Capital expenditures are expected to be approximately $40 million.

Two weeks ago, we issued $350 million of senior unsecured notes at a coupon rate of 4.375%. The term of these notes is 10 years. These notes were rated investment grade by Moody’s, Standard & Poor’s and Fitch. As Lip-Bu mentioned, we are very proud to receive investment grade ratings, since it is unique for a company of our size.

This symbolizes our financial growth, strong execution, and investment in our new products and customers over the past five years. The proceeds from our notes offering will be used for general corporate purposes, including the retirement our $350 million convertible notes due June 1, 2015. So with that, operator, we’ll take questions. .

(Operator Instructions) Your first question comes from the line of Monica Garg with Pacific Crest Securities..

Hi, thanks for taking my question. My first question is, you talked about a large contract in the quarter – largest over the last four, five years.

Now I wondered if you could delve little bit deeper, is it to do like some ASP increases, more licenses, more IP or emulation business, if you could kind of provide more detail?.

Yes, this is Lip-Bu. Let me start first. I think this large contract we referred to is a marquee global company. We cannot say more than that. But clearly it’s a very big contract for us and clearly across product line and you know, clearly, digital is a very good portion of that and then also our verification, our IP business.

So overall we are very excited about it and we clearly want to do everything we can to support and then proliferate that business across, and I think that we also have multiple account, we are engaging heavily and we are excited with the encouragement from our customer. Overall I think across our product line we’re very excited about it..

Okay, thanks. I had a question on the analog market -- demand environment. You saw Microchip kind of pre-announce negatively a couple of weeks back; Linear Tech kind of guided down next quarter. All of them talked about a slight weakness in the analog end market.

Given your high share in the analog market, could you maybe talk about the demand or environment you are seeing in that side of the semi industry?.

Right. I think let me try to answer that.

Clearly we are very excited about analog and custom offering and then clearly in the advance node, we are very active with our Virtual also and then also moving to the most advanced node like 10 nanometer and beyond, and a lot of SoC system-on-chip kind of a mixed-signal and then a big portion of that is digital and analog.

And so it’s also proliferating well. We don’t comment any specific customer situations but overall we don't see any slowdown. Our custom analog continues to be a good business for us..

I think, Monica, we’ll go back to our business model, right? Our business model is heavily dependent on a number of engineers that our customers have, not necessarily the ups and downs in their revenue cycle. So we continue to see them keeping a number of engineers and focusing on getting new designs out the door which helps us. .

Sure. Thanks. This is the last one from me on the emulation side. You again, talked about competitive pressure in the segment. The tool is in the fifth year cycle.

Maybe could you talk about when do you expect growth in that segment, and where do you think the margins could be when you have the new platform?.

Okay. I don’t hear too well at the end of it. But anyway I think I get a good grab of your question, so I think related to emulation hardware business. Customer demand for the emulation product remains very strong, clearly for mobile FinFET and our 64 bit and our Palladium XP as I mentioned are doing well.

Simulation acceleration, use model hybrid and then clearly with ARM, we indicated the performance 50x faster OS boot-up. And then we also -- besides the mobile side, beside the international ASIC [ph] business are growing very nicely.

We also find new user and like for example, I mentioned about the mil/aero system company, very excited about Palladium new customer. Just answer your question about the next-generation emulation, development on the platform is well underway. But we’re not going to comment anything specifically about the dates.

Clearly we’re going to sell we have, and in the meanwhile I think the Palladium XP tools are shipping in large volume and we’re happy with that, is a clear significant performance and productivity. All I can tell about the next-generation, we are way on our way and is on track.

We have a very talented team we put together and then it’s a very big supercomputer and we’re excited about their progress, stay tuned. When the time is ready, we will announce it..

And I think one more point -- year-over-year we are up in volume, all through pricing has clearly been impacted. So we expect revenue to be down for the year but the volumes are up year-over-year. .

Your next question comes from the line of Tom Diffely with D.A. Davidson..

Good afternoon. Maybe one more question on emulation, since we're talking about it.

What is your view for the size of the emulation market right now? And when you look at the emulation market itself, how much of your business is a competitive win versus just customers refreshing or adding capacity?.

Yes, good questions. So first of all, I can you can look at EDAG [ph] or whatever places you can find for the data for the market. But overall it’s a good business for us.

It’s very important for our work, you know, I call it the Verification Development Suite and now we have a whole suite, hardware VIP insight system doing well and then we have just acquired Jasper and also higher-level of abstraction like C-to-Silicon and Forte.

So we have an entire suite provide to our customer, and then this whole hardware software convergence is happening now and we are very well-positioned for doing that. So I think all in all, we are excited about it and then we continue to be the best leading emulations tool in the marketplace.

Clearly of the top 20 semiconductor companies, 15 are using us and then of the application processor, top 10, 9 is using us. So we don't see any major shift at all and then clearly the demand is very strong and we continue to support and supply them.

In terms of the usage, there are -- some are new, like I mentioned earlier, like the mil/aero and some of the vertical new customer for us. In the meanwhile there are some, you know, very fast growing in Asia, in China, they are using us and then they increase rapidly.

And then the other part is, there is a lot of existing customers, tier 1 customers, they are expanding their capacity because they need more, and they keep coming back to us to get more, increase their capacity.

So overall in terms of new usage, in terms of new customer from the system guy and also from the silicon guy, and they are increasing the capacity. So overall it’s a good business and then we continue to invest and drive the best product in the marketplace. And we are well on our way in the development. .

And I think it's a good business for us, it’s a good business for our competitors. It’s a secular market that we believe is growing. And to answer one more question, we haven't seen any significant shifts in market share..

So if the market was to, say, double over the next 3 to 5 years, would most of that come from open activity, or would it be more of your customers as having to add more and more capacity and maybe the share shifting not being there, just the whole market growing?.

I think overall it’s a good market. Clearly ourselves, our competitor enjoy that. And in the meanwhile there's a lot of increasing capacities, [almost a must have], when you do the advanced complex, advanced chip.

And this is a very quick and most accurate way to verify what you design the complexity is increasing, the need for the hardware emulation and clearly not just the emulation, also in the simulation acceleration that we’re focusing on and we’re continuing to grow that.

And also all the way into the prototyping, we announced our Protium products and they are now handling all the prototyping requirement. So actually we have a whole suite of hardware coming up, plus our whole verification development suite, and they tie in all the software tool, the IP together. So it’s a very compelling for customer then to use that. .

And I guess, Geoff, when you look at the restructuring you referred to, is there any way you can dig in a little more deeply, tell me kind of what you’ve done there? And it sounds like the headcount has gone up and I assume that there will be a positive impact on the [mow] going forward from the restructuring?.

Yes, we always look at the efficiency and effectiveness of our spending. And so I think we took a look and decided to make some changes that will allow us to invest in some other areas that are important to us and focus the resources where we want to focus on. Beyond that, we are not giving any details. .

Okay. It seemed like, Lip – Lip, you also referred to an increase in R&D spending and an increase in support going forward.

Any more you can say on that?.

Yes, I think it’s a very exciting time when the top tier customers are reaching out to us, and clearly our product is coming up strong.

And then secondly, they see us as a very viable future technology they need and we always want to strive for the best product, best tool, the best IP to provide to our customer for their design, and along the way when we have to make investment into some of this area, are to drive leadership and drive customer success.

Some of the area we may need to – the restructuring and make sure that we can really refocus on the investment in that area that really drive the maximum return to our shareholders. .

Okay, but on a kind of big picture basis, the business model that you've created over the last couple of years is still intact over the next year?.

Yes, our business model is still intact. We love our business, we move the business model. We love the recurring revenue nature of the business. And we think we’re operating it pretty well, based on our financial results we had in Q3. .

Your question comes from the line of Sterling Auty with JPMorgan..

Thanks. Hi guys, I apologize if this has been asked, I got dropped out of the call for a couple of minutes. But actually I want to start with a follow-up on that last question. I want to be very direct.

On that comment, Lip-Bu, that you made about the increased investment, a number of shareholders have really looked at the stock and the increasing operating margin as a key part of the thesis.

So how do you increase the investments, it sounds like this is an incremental investment while still expanding margins, then how should we think about that margin expansion going forward, or would margins temporarily flat line or even compress?.

Yes. So let me start first and then Geoff can chip in. So clearly I mentioned in my remarks, we have a very marquee global company increasing substantially in the most advanced node with us.

And clearly we need -- want to make sure that we are able to support and deliver and also proliferate across the product line, and then I think that we also have a tremendous opportunity across all functions.

So digital, we have a lot of new suite of products coming up and then clearly our Incisive is doing very well; VIP is doing well in the most challenging, most advanced node and most complex design.

So with that, we clearly want to take this opportunity to support that and then make sure that we put the right people, the right technology development to serve that. So I think overall it is a very exciting opportunity for us. I think that we continue to drive efficiency, drive the productivity that Geoff referred to.

So I think overall, I think, we’re going to continue doing that in a very optimized way and meanwhile delivering the metrics that we have been consistently delivering. And so I think we’re not going to give any guidance on the 2015 but overall I think we like what we have. We continue to invest and support the technology and customer needs. .

And I think, you know, the primary factors that are going to drive our business going forward certainly are revenue growth, our success in managing the business efficiently and effectively, including improving quality and some of the restructurings and those types of things we do, and our success in [growing] new business with major customers which may increase support costs for those customers.

So beyond that, as Lip-Bu said we’re not guiding beyond the current year. .

Okay, that makes sense. In terms of – in the quarter, the sales and marketing expenses were a little lower than I would have anticipated given the guide.

Anything in particular that would have hit the expenses, either from a variable or fixed compensation standpoint?.

No, mostly it's the increased vacations and those types of things that happened in the summer. Generally our expenses were relatively flat across-the-board from Q2 to Q3, that applies to sales and marketing also..

And the very large contract you signed in the quarter, I didn’t quite catch it.

Is that an existing customer or a new customer?.

Yes, we just mentioned that is a marquee global company, and I would not say more than that. And we are delighted and then continue to stay tuned. In our Q1, we mentioned one big consumer company success.

We’re going to continue making great progress and in terms of wins and expand our customers, and we have multiple opportunities in front of us and in various stages of our engagement and we are excited about what we are seeing. I think clearly our customers realize that we have a roadmap.

Clearly we execute well and then clearly we have a technology they need, and we continue to drive innovation.

In the last 18 months we announced 10 new products, 2 in the last quarter, and then stay tuned, we have coming up, and then we are excited with the innovating culture we have and continue to drive the best tool in IP so that our customer can count on us to developing the most challenging product they want to announce. .

All right. Last question if I can squeeze in, because I am getting hit an email with it.

The timing of that large contract, was that anticipated for this quarter and maybe the magnitude of it, because people are trying to figure out the guidance here for the fourth quarter and whether the jump back up to 2.6 years stretching things out, is that a big impact to the revenue guide for the fourth quarter, which I think the Street might have been a little bit light, or something else is going on?.

So this number was included in our guidance when we guided Q3 and Q4 the second half of the year. I do want to point out the sequential growth from Q2 to Q3 and from Q3 to Q4 in revenue. I think the revenue growth is something we’re pretty proud of, and I think it reflects the business that we've been getting so.

And yes, so we expected -- as you could tell, we expected to win this business..

Your next question comes from line of Mahesh Sanganeria with RBC Capital Markets..

Thank you very much. Lip-Bu, as we look beyond the current quarter into the next year, I am not looking for guidance.

But can you talk a little bit about segments? Where do you see the headwinds and where do you see the tailwinds, as we model out next year, what should we be looking for?.

So let me talk in general, and overall I think we are excited across our product line. The last five years, six years we invest in, now we are starting to see the fruits of that. Clearly digital signoff is a great opportunity, as I mentioned about Tempus, Voltus in terms of customer adoption.

And then secondly, clearly verification becomes very important, it’s a double-digit growth for us. And then clearly we have a whole suite of product from hardware to VIP to -- Incisive is doing really well, and the advanced verification is doing really well for us.

And then the other part is the PCB is also doing really well because of – you know, more and more customer they really need not just tool, not just IP, and also the whole PC board, the whole system, the whole system analysis that we bought in Sigrity and integrate with Allegro, that turned out to be a very helpful for them.

So overall I think this whole pieces that we have been investing the last 5, 6 years and now we’re going to continue, are driving even more success and then some of these customer we have been engaging for the last couple of years.

And now they feel comfortable to adopting and then become the really – and now the critical piece of their design and they can count on us. And then clearly our investment into the advanced node, 14, 16, and now 10, we are also in the engagement in terms of 7 nanometer.

So all in all, we have a roadmap that customers feel comfortable, they can trust us and they can count on us..

So I want to dive a little a bit deeper into the IP business. You had a strong growth in that business and I think overall for the year also it’s tracking much better than your expectation of 20% growth.

What do you think you can grow that business, or this quarter was a one-time kind of a -- that you got such a significant growth?.

I think IP business has been good for us. We have a record revenue for the quarter and then clearly demonstrating the breadth of our portfolio. We have the whole portfolio IP that the customer can count on. Clearly the VIP achieved the strongest booking for us.

Clearly the Tensilica, the acquisition we make, are making great progress, customers love it and the programmability with low power and this is a very exciting for a lot of application Internet of Things and also the whole embedded processing market opportunity.

So I think all in all we have all the key ingredient of the memory IP, DDR3, DDR4 that we highlight. And then we also have -- clearly have all the high-speed connectivity, so the PCIe, USB product that customers in the most advanced node are starting to supporting us.

So it’s a good growing area for us and then really tie into our whole system design enablement strategy and IP and our growing core EDA and then now with the PCB side, all tie in together, this is very exciting for our customers. .

One last question for Geoff. In terms of expenses, in the past you have told us that organically your expense growth is typically 3% year-over-year and if the revenue grows beyond 3%, then that drops significantly to the bottom line.

I know that you have some acquisitions so that’s adding to the expenses but on an organic basis, should we still think about a 3% year-over-year growth in terms of expenses?.

Yeah, I don't think I’ve ever said the 3% is the number. I think generally it's – we’re clearly not guiding 2015 but generally I think the factors that drive our business model is again revenue growth, effectiveness and efficiency of our spending and -- as we capture new business from our customers the investment required to sustain that business.

So that's where we are willing to go..

Your next question comes from the line of Krish Sankar with Bank of America Merrill Lynch..

Hi, thanks for taking my questions. I have two of them. First one, for Lip-Bu, just wanted to find out, looks like there has been a lot of talk about China investing over $100 billion in the semi industry.

Wanted to find out your take on that, and also what it means for EDA specifically for Cadence? Then a follow-up for Geoff is – what do you think about effects – what is the impact you expect on future contracts and the current FX situation?.

Sure, Krish, I think clearly you followed on the announcement China view semiconductor as strategic important to them, they aim for more semiconductor than oil. And so – and also I think the overall 300 billion business, more than 50% is consumed in China.

And so with that, they have been paying a lot of attention, they announced a big fund, to investing into the semiconductor sector and not just for manufacturing and also for the design, large scale design. Those are very significant movement. Clearly from Cadence point of view, we pay a lot of attention.

This is a very important game-changer, we call it the China factor. And so clearly in all the key companies, there also have been a couple of acquisition, Spectrum, RDA, Montage and Omnivision, they are in the process of acquiring that.

And so I think with those, clearly we want to make sure that our tool and IP are in all those companies and so that we can proliferate and then working with the government in terms of driving some of these, the best tool and design capability. And then some of them are really world-class companies.

I mentioned one, HiSilicon in my remarks, 16 nanometer in real production FinFET and that is a very advanced. Same thing, you will hear, Spectrum in terms of a lot of development they have, in the most advanced stage.

And we just want to make sure that they are using the best tool and IP that they can find to their design so that this is kind of a global, rather than just China, is a more global development and we just have to make sure that the global leading companies, make sure that they all are using our tool and IP and that is our objective. .

And Krish, on FX, Japan is our one business that we don’t do revenue in US currency. We obviously do it in yen. It’s 11% or so of our business. The impact in FX, hasn’t been material for us this year thus far. Also offsetting any impact on the yen, of course, we do have expenses in many currencies and typically to some extent those offset.

So we haven’t had any material impact on FX so far this year..

Your next question comes from the line of Rich Valera with Needham & Company..

Thank you. Lip-Bu, wanted to make sure I understood how you're looking at the overall environment. I think in your prepared remarks you said that the semi industry remained kind of mixed, but that you were seeing good design activity at advanced nodes.

Would you view that as an unchanged outlook versus a quarter ago, or has there been any changes? As some previous questioners mentioned, there has been some fairly mixed data points, including some fairly negative ones in semi land. I just wanted to know if they were affecting you at all..

Good question, Rich. Let me touch on that. So first of all, I think clearly we are all aware about the macro level risks, slowing down growth in China and then a possible recession in Europe, following the commodity prices and the political unrest in couple of areas. So I think clearly we keep that in mind.

I think that clearly when we’re pursuing the system design enablement synergy, we’re addressing system and semiconductor companies. And then clearly the system companies are doing really well and we’re expanding our business, with several of them over the past quarter. And then on the semiconductor side, clearly it’s mixed.

And you saw some of the report are good, some of the report is not as good. But overall from, on the ground level what I see from the customer side, as you know I'm very involved with all our customers, very strong design activity underway, especially in advanced node.

So I think clearly from the last quarter, a little bit more caution about the short-term, clearly because of the environment. And also I mean you look at the recent data in terms of company guidance and also the sentiments of ACE that participate in JPMorgan GSA, it’s a little bit mixed and just had to be a little bit cautioned on that.

But seeing that we see tremendous opportunity in the system side, system companies. We see tremendous opportunity in the advanced nodes, actually the leading winning customer platform, we are very, very busy engaging and supporting and helping them. So I think all in all, I think it's I would say optimistic but a little bit caution in the short term..

And again I always like to remind you, Rich, that – again, our recurring revenue model and the fact that their revenue cycles don't necessarily impact our revenue cycles. .

And Geoff, I'd like to try to address the investment comment you made in the prepared remarks, and the restructuring plan. And it seems like you've been a little reluctant to tie the two together, but I guess I'll ask it again.

It sounds like you've made some fairly aggressive restructuring between the voluntary layoffs last quarter, and then this restructuring this quarter. And it sounds like you're paring away from areas where you want to effectively shift investment out of, but you don't necessarily look to net reduce. You want to reinvest in higher growth areas.

So trying to understand if this is your way of getting ahead of this increased investment you talked about to develop new technology, and offsetting cut in front of that? Or if there's any color you can add, I'd appreciate it. .

Sure, we always look at our business and make a determination where we are spending money and where we should be spending money. Clearly as Lip-Bu talked about, we’ve had a material win in the last quarter with a global company. We expect more coming and those do require investments, I think, as we mentioned clearly.

The restructuring helps us afford those investments and make sense for us to be doing it, where we are shifting resources from areas where they are less productive and less important perhaps to these areas. .

And then Rich, just to add on a little bit of what Geoff is talking about. And clearly if you look at the – besides our organic development, we are always looking at any M&A opportunity in a very disciplined approach. But overall if you look out in the M&A landscape in the IP and EDA, there is not much to buy.

And so I think the customer is counting on us to innovate for the next generation future technology and we basically like to be in that position, the last five years we have been investing.

And so we have a culture of innovating new products and going forward, there is a lot of innovation needed and we want to be the innovating company that continues driving new products coming up that our customers can count on us to design the most complex chip in a timely fashion that they need and then also can verify accurately for them to time to market.

So overall I think we’ve felt that this is the right thing for us to do, when the customer is responding to us, we want to make sure that we support and then make them successful and in the meanwhile also can proliferate and then besides that, we are also looking forward how to – really help their life better in terms of designing much better products and addressing the power, addressing the performance, the PAA and then time to market, so those are the things that we are investing going forward, and so that the company can be sustainable in our business.

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One more, if I could. Geoff, you've trimmed your cash flow from ops guidance in each of the last two quarters from things that you could call one-offs, although restructuring seemed to be somewhat routine on an annual basis.

I'm just wondering if you'd be willing to give any color how we should think about a normalized number? If there should be some snapback in that number last year from things that aren't normal course of business on an ongoing basis?.

Yes. So the reasons we have lowered cash during the year again was the voluntary retirement plan that impacted the Jasper acquisition on cash flow, the lower margin in hardware and then this restructuring.

We’re obviously not guiding 2015 as I am sure you are aware, some of those things won’t be repeated right in the future, obviously and some may be repeated in the future. So right now that’s kind of the best we can do..

Your next question comes from the line of Ruben Roy with Piper Jaffray..

First question, Geoff, I wanted to just go back on the point of the investment related to some of the global customers. It sounds like, at least the way I'm hearing what you are talking about is that some of the stuff is customer specific.

So services and maybe increased IP investments, is that the right way to think about -- the feedback you're getting from your customers?.

Yes. I think as you win business with these customers, these are the customers you want us to be winning with, right? And they are doing the most advanced designs.

We want to maintain both the technology and the customer support for these, and by the way winning doesn’t mean we are done with the incremental business of these guys, we believe we can focus and expand these opportunities going forward. So I think all those things are important to us and as we look at the business from the long term. .

And then the IP question that came up in terms of big quarter, and congratulations on that, are there royalty opportunities that we could potentially see down the line as you are starting to see the IP line tick up?.

Yes. Obviously royalties are the important part of our revenue in IP business and have been since we acquired Tensilica over a year ago, and that continues. .

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

Good evening. Geoff, for you first. When we look at the results in the quarter by geo, we see that Europe, Japan, and Asia were about flat or slightly up sequentially in each case. But you had an unusually large increase from the second quarter in the Americas.

Was that largely tied to the performance in functional verification, possibly including emulation as well, and/or the sequential momentum in IP?.

Yeah, we don’t – we obviously break down the business by the business. And IP and functional verification were very strong, even on an absolute basis almost everybody was up quarter over quarter for us but some guys grew faster. As far as the geo splits between where it grow faster or not, we don't break them down..

A follow-up on the comment about emulation. You mentioned that the volumes were up, or Lip-Bu, I think, used the word strong. But according to the 10-Q you filed this afternoon, your cost of revenues in that business was -- were up only $2 million year-over-year, the smallest increase of the year-to-date.

So even with that small increase in costs against the volume increase, you're still seeing margin degradation in the emulation business?.

Yes, I think what we’ve said is year-over-year revenue -- not revenue is up, but volume is up year-over-year. Obviously the revenue has been impacted by the margin business. And you can draw your own conclusions from the cost of goods. .

Right. Lip-Bu, in your remarks earlier, you commented on system design enablement as a growth driver for you, and you commented as well about that during the Q&A of the last conference call.

And my question there is could you talk about the proportion of your business today coming from what you would call systems customers and how that might evolve over time? And what, if any, are the margin implications of a material shift in the customer base more towards systems, and perhaps away from more traditional semi customers?.

So good question, so clearly our system design enablement strategy is working. We have executed to that plan and as I mentioned in my remarks, a couple of successful wins in the system side, in the medical, in the mil/aero and automotive.

And so we continue to drive success with that, and then clearly the system company, they need a whole suite of requirement, not just tool, not just IP, not just the PCB board, system analysis and also the hardware software co-design, co-verification in a very expanded way.

We are in a unique position to provide that to our customer, and that’s why I system companies like our offerings and we will continue to drive some of the success and some of these verticals are very good and as you know their margin, their system and the service providing, they are much broader and much profitable.

And clearly the margin over time it should be better than semiconductor. And then overall I think going to help the industry in terms of growing.

So this is a very good excitement for the EDA and the player because this has opened up a new opportunity for the whole system company, and they decided to go vertically integrated and then they provide optimization in every level and so that anything we can provide them to optimize their offering and also time to market is more critical for them.

And so this is a very exciting opportunity for all of us. .

And lastly for you, for Lip-Bu. When we follow EDA and when EDA managements talk about the industry, there's often a tendency to fixate on the most advanced nodes, 14-nanometer, you even mentioned 7 nanometer in your remarks.

But could you comment on the ongoing consumption or trends of consumption for EDA tools at older, more established, and presumably more cost effective nodes, 28-nanometer and above, for instance, and particularly the role that some of those older nodes may play in enabling high volume new markets, such as Internet of Things, wearables and the like? Should we assume that it won't be the most advanced nodes that will be behind those new types of wearables and other sorts of products? But instead, more of the older type nodes and how you're positioned there?.

Jay, this is a very good question, and so besides we mentioned quite a lot about the advanced nodes. And clearly a big chunk of our business is in the older nodes and clearly a lot of analog, pure analog and the mixed signal play, they don’t need to push the envelope on the advanced node.

And then some of the older nodes, they have new and application, they need to meet and so they have a lot of different requirement, either high-voltage or some of the more special requirement. We continue to work with them, continue to make sure that those are optimized.

And so it’s a very important portion of our business in the analog, we call it the [jewel of caw], that is many many of those customers and we want to make sure that we also – some of the thing that we learn in the advanced node, we can also contribute into the older notes and make them more optimized and then more efficient.

And so I think clearly our announcement with ARM on the collaboration on Internet of Things and wearables are targeting the TSMC ultra low power processors are another example.

And clearly the Internet of Things, everybody's excited about that 50 billion units and then – but they have some different requirements, power becomes very important, programmability has become very important but they may not be pushing the most advanced node but some of those nodes they are going to pick and have to be the important and drive some of the optimization for that specific application, we look at the customer, so even though we did not mention it, we also pay a lot of attention to support the customer need on some of these older nodes.

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Your question comes from the line of Gus Richard with Northland Capital..

Thank you for squeezing me in. Just a couple of quick ones. Can you talk -- you talked a little about the pricing environment and emulation.

But could you talk about it a little more broadly, and how the environment is these days?.

So Gus, your question is more of the emulation environment?.

No, no, everything but..

Oh, the others, okay. So I think overall I think the environment is healthy and the pricing is quite stable. There is a lot of room for growth, as we kind of mentioned that across the board. Digital signoff is a great opportunity, it’s a big [TAM], we are laser focused on that.

And clearly our custom analog mixed signal is a great driving growth for us, and they move into the most advanced node, and more applications.

Clearly the PCB board, the system analysis has become a very important critical part of their design, and then the verification, a lot of time becomes the bottleneck, and then we have an entire suite from hardware, VIP, all the way to Incisive to higher-level abstraction and also the former verifications that we bought from Jasper is very good tool for a lot of processor and compact SoC.

So all in all we see strength across the board and – but more important I think clearly we and our competitors are essentially – very essential to the electronic and the electronic system and so we basically, all of us try to provide the best tool, the best IP, because time to market is way important, the cost of respin is very expensive when you move down the geometry, and so in a way or form we can help them to make their design quicker and faster and more elegant and they find a box earlier in the verification, the hardware emulation, will play a music to the ear and we want to be the partners of choice for them really – optimally our goal is basically help them to design the best product in the best timing fashions, and that’s our job..

Let me just ask one other quick one. This morning, GLOBALFOUNDRIES is going to acquire IBM Microelectronics.

Does that have any impact on your business? Is it positive? Negative? What do you expect to shake out from that?.

I think it just came out this morning, it’s too early to tell. Clearly we have a very wide diversified customer base, no customer are more than 5% of our revenue, clearly we are engaging and – both IBM and GLOBALFOUNDRIES I think is a win-win for both company.

We cannot comment on that but overall I think we pay a lot of attention, we reach out to them and we will learn more about it. But overall we have no customer more than 5% of our revenue, so the impact is not a lot. But meanwhile it’s a new development, clearly it’s good for GLOBALFOUNDRIES in their advanced nodes, and then some of the RF capability.

And clearly IBM is a very important customer for us. We continue to support in the transition – we always do that. So I think overall we just have to learn along the way, it’s too early to tell..

I will now turn the call over to Cadence’s President and CEO Lip-Bu Tan for closing remarks..

Thank you. In closing, I would like to recognize our hardworking employees for the results we have achieved, and thank all of our shareholders, customers, and partners for everyone’s continued support and help. Thank you all of you for joining us this afternoon..

This concludes today’s conference call. You may now disconnect.