Mentor Graphics' (MENT) CEO Walden Rhines on Q2 2015 Results - Earnings Call Transcript

Aug.21.14 | About: Mentor Graphics (MENT)

Mentor Graphics Corp (NASDAQ:MENT)

Q2 2015 Earnings Conference Call

August 21, 2014 05:00 pm ET

Executives

Joe Reinhart - Vice President, Corporate Development and Investor Relations

Walden Rhines - Chairman of the Board, Chief Executive Officer

Greg Hinckley - President, Chief Financial Officer, Director

Analysts

Rich Valera - Needham & Company

Jay Vleesshchouwer - Griffin Securities

Tom Diffely - D.A. Davidson

Monika Garg - Pac Crest

Krish Sankar - Bank of America

Operator

Ladies and gentlemen, thank you for standing by. Welcome to the Second Quarter Financial Release Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session. Instructions will be given at that time. (Operator Instructions) As a reminder, this conference is being recorded.

I would now like to turn the conference over to our host, Mr. Joe Reinhart. Please go ahead, sir.

Joe Reinhart

Thank you very much, Greg. Good afternoon, everyone. Welcome to Mentor Graphics' Fiscal Second Quarter 2015 Conference Call. As Greg said, I am Joe Reinhart, Vice President of Investor Relations and Corporate Development.

This afternoon, Walden Rhines, CEO and Chairman, will open with a discussion of key trends in our business. Greg Hinckley, our President, will then provide operational and financial highlights along with guidance. Wally and Greg will then take your questions.

As a reminder, this conference call contains forward-looking statements. While these statements reflect our best current judgment, they are subject to risks and uncertainties that could cause actual results to vary. In addition to the factors noted later, these risk factors can be found in our most recent 10-K, 10-Qs and annual report.

For reconciliation from GAAP to non-GAAP measures used in this presentation, please refer to today's financial release. This information is available online at the Mentor website. Wally?

Walden Rhines

Thanks, Joe. Once again results for Mentor Graphics in the quarter exceeded our guidance. Revenue of $260.2 million and non-GAAP earnings per share of $0.23, were ahead of our guidance of $250 million and $0.15 earnings per share. Strength in bookings for the quarter was almost all system design-related, particularly automotive customers.

Bookings from automotive customers set an all-time record for Mentor Graphics this quarter and were 3x our bookings in the same quarter last year. Total contract values for automotive customer, orders during the first half of the year are the same as they were for the entire year in fiscal 2014.

Bookings for major product lines targeted specifically at automotive applications grew even more, reflecting particularly strong adoption of electronic design automation for automotive wiring, embedded software and the new AUTOSAR standard for design and verification of automotive electronics.

As we indicated last quarter, the decline in semiconductor-related activity in Japan is increasingly being offset by rapid growth in the automotive sector, with 90% of Japan-based bookings coming from automotive OEMs and Tier-1 automotive suppliers.

Two of our top 10 overall bookings for the quarter were Japanese Tier-1 automotive suppliers, one of whom had never before done any meaningful business with Mentor.

Automotive customer demand also carried over to products not specifically targeted to the automotive industry. More than 20% of our bookings in printed circuit board design, thermal analysis and (inaudible) design for manufacturing came from automotive customers. While it's been a long time coming, it's not so surprising to see strong EDA growth in the automotive sector.

The automotive industry is in transition from mechanical to electronic differentiation and the rate of change has accelerated. In vehicle infotainment and instrumentation has become a major selling point for new cars. ISO 26262 has provided new safety requirements that must be implemented in electronic design and the embedded software.

Advanced driver assistance systems or ADAS, include complex electronics like radar for lane change and vehicle proximity warnings and standards for fuel efficiency and environmental emissions have created new electronic design challenges. All of this adds up to an electronic content in vehicles today is near 40% of the total cost of a car.

Mentor serves this market in many areas, but of the automotive-specific products there are three that constitute most of the revenue. First, capital family of wire harness product provides a complete enterprise solution from concept through design, manufacturing, costing and after sales service. This family has evolved over the years and now serves more than 35 automotive OEMs, 75 Tier-1 suppliers and nearly 30 heavy equipment suppliers.

In addition capital is used by several dozen aerospace and electronic systems companies, including more than half of the leading commercial, regional and military aircraft OEMs. Fiscal Q2 was an all-time record for the Capital family of products.

Second, Mentor's embedded software products and services for the automotive industry have grown rapidly in the last two years and set a record for second quarter. This family includes a complete Linux-embedded software development environment for automotive applications, which in some cases may exceed 100 million lines of codes.

Third and most recently has been the explosion in demand for autos AUTOSAR software development tools, reflecting the broad adoption of this new methodology by the automotive industry. 10 OEMs and 32 Tier-1 suppliers have deployed Mentor's AUTOSAR solutions in 119 production car models and Mentor was the first company to offer a full AUTOSAR development suite.

One of the top-10 bookings of the quarter was all driven by AUTOSAR completely. This product line also experienced all-time record bookings this quarter and we expect the industry overall to source hundreds of electronic-controlled unit with AUTOSAR this year.

Moving forward with momentum of the automotive industry transition to electronic design, we announced this quarter the acquisition of XS Embedded or XSe, a leading provider of products and services for the infotainment, instrumentation and ADAS features of cars.

XSe is widely known for its industry-leading solutions for automotive audio, video and graphics. Their business models include royalties, services and even hardware. In the automotive industry, their proprietary solutions for active noise cancellation, smart mirrors and audio management are widely acknowledged as best-in-class and their active customer base consists of the (Inaudible) of automotive OEMs and Tier 1 suppliers.

Customers of XSe as well as Mentor have applauded the merger and we expect the combined capability to significantly expand our automotive opportunities. Automotive stands out in the bookings this quarter, the outlook for growth in the second half of the year the year is integrated circuit design-driven.

In addition to large contract renewals, the functional verification space, particularly emulation is experiencing record numbers of new evaluation. Our first shipments of the OS3 operating system were made in the quarter and provided a new level of capability for integrated simulation and emulation.

I have met with more than 20 present and prospective emulation customers this quarter, one-third of which were systems companies and all of them are experiencing or evaluating the impact of the new approach to emulation that is enabled by OS3. The fact that the latest generation of emulators can be located remotely from the user anywhere around the world, now makes this is business similar to any other server installation.

What is most exciting is the number of users who moved their embedded software development and debug to emulators. This becomes possible because of the five order of magnitude increase in performance compared to simulation. This makes the developers feel like they are debugging embedded software on the actual silicon product and it's driving much of the growth in the emulation market.

OS3 is a major step forward in the world of verification and we expect to reap the benefits for years to come. Greg?

Greg Hinckley

Thank you, Wally. Strength in automotive accounts drove second-quarter revenue and non-GAAP earnings per share to levels ahead of guidance. Record Q2 revenues of $260.2 million were $10.2 million over guidance and 3% over last year.

With continued attention to expenses, all of incremental revenue fell through to earnings driving non-GAAP EPS as Wally said to $0.23, $0.08 ahead of guidance. This is the 22nd consecutive quarter we have exceeded our earnings guidance.

During the quarter, we paid a $6 million and repurchased approximately 1.2 million shares of stock at an average price of $21.57, totaling $25 million. With that purchase, our fully diluted share count year-to-year is essentially flat.

During the quarter, we also acquired XS Embedded, a leader in embedded solutions for automotive driver information, infotainment and advanced driver assistance systems and Nimbic, Inc., a 3D full-wave electromagnetic simulation solution provider.

Cost for the two acquisitions was $37 million, which was approximately 2.3 times trailing revenues. Bookings were down 20% from last year, but that said were the second highest second-quarter bookings in Mentor's history, they were also 20% higher than our third highest second-quarter and we are 15% ahead of guidance.

Book-to-bill was well ahead of 1.0. Pace in the quarter as Wally said was anything related to the automotive industry, Japan bookings were up 100% and Europe was up 30%, both due largely to strengthened automotive business.

New and emerging more than doubled its bookings on more than a tripling of automotive business. Integrated system design was up 85%, with about a third of that growth automotive-related.

Now for more financial details, bookings as said were down 20%, but that was in comparison to quarter last year, when we had exceptional opportunities in emulation and semiconductor foundry. Designed silicon was down 50% and scalable verification was down 55% of both were well down, or at normal levels when compared to recent history.

Q1 strength in integrated system design and new and emerging increased in the second quarter as bookings grew 85% and 155%, respectively. Services, again due to strength in automotive was up 130%.

By geography, bookings were down 45% in the Americas, and 10% Pac-Rim, but were up 30% in Europe and 100% in Japan. We are now very optimistic regarding the automotive opportunities in Japan.

Product bookings were present term 70% through, 20% perpetual and 10% subscription compared to 45%, 50% and 5% last year, evidencing a much higher mix of software this year than last.

Top-10 customers were 50% of bookings versus 80% last year; average deal length was three years compared to 3.4 years last year.

Leading indicators were generally favorable, healthy or better in all categories other than deal growth. Customer support grew 7%, which is the highest rate seen in several years. Reinstatements were up 60% and the clients down 15%. New customers were up about 10% in number and 15% in average transaction value, with growth in all regions except Europe, which was only slightly down.

Emulation declined in booking value, but remained lively in terms of numbers of customers and members of machines booked and product being evaluated. As said, average gross in the annual run rate of renewals in the top 10 was up only 5%.

Revenue by geography was 45% North America, 20% Europe, 25% Pac Rim and 10% Japan. Services and support revenue were strong, with 7.5% growth. Foreign exchange had a slightly negative impact to revenues this quarter.

Non-GAAP gross margin of 82% was down one point from 83% last year on slightly higher emulation shipments. Non-GAAP OpEx was up 6%, due to investments in R&D and technical selling headcount.

Foreign exchange was unfavorable to expense by about $1.7 million with impacts coming from the Euro, the Pound and the Israeli Sheqel.

Headcount increased about 7% year-to-year all engineering and technical sales related, with about 45% of that due to acquisitions. Special charges were $5.1 million, which were split about 80% coming from litigation and 20% restructuring. Our non-GAAP tax provision remains at 17%.

Now, the balance sheet, cash, cash equivalents and short-term investments decreased $2 million sequentially to $174 million at quarter end. Approximately 10% of our cash is carried in North America the remainder off-shore.

Operating cash flow for the quarter was a $50 million inflow compared to a $23 million inflow last year. Trade accounts receivable were $113 million, down $34 million, sequentially.

Short-term unbilled receivables were $311 million, up $37 million, sequentially. Trade day sales outstanding or DSOs were 39 days, a decrease of 13 days last quarter and an increase of five days last year.

Total DSOs were 147 days, a decrease of three days from last quarter and an increase of 17 days from last year. The quality of receivables remains excellent with no receivables net of reserves greater than 60 days past due.

Factored receivables were $1 million in the quarter compared to $10 million last quarter and $1 million last year. Capital expenditures were $7 million for the quarter compared with $6 million last quarter and $9 million last year. Depreciation of property, plant and equipment was $9 million for the quarter equal to last quarter and up $1 million last year. Share count after purchasing 1.2 million shares in the quarter is essentially flat to last year.

Now, the third quarter and full fiscal year 2015 guidance, for the third quarter, we are forecasting revenue of approximately $275 million and non-GAAP and GAAP earnings per share of about $0.21 and $0.07 respectively.

For the full-year, we are maintaining our revenue guidance of approximately $1.237 billion and non-GAAP EPS of about $1.75. GAAP earnings per share is expected to be approximately $1.37. At the beginning of the fiscal year, we guided this year's revenue to be split 40% in the first half and 60% in the second half driven in part by strong design to silicon bookings.

At the end of the second quarter, we were over $15 million ahead of the 40% first half-guided revenue split. We continue to expect strong second-half design-to-silicon booking. Wally?

Walden Rhines

Thanks, Greg. Well, to summarize results that exceed guidance were driven primarily by system design, particularly in the automotive market. Our investment in tools, embedded software and services for automotive design has been made over many years and we are pleased with the accelerated movement in this industry to electronic design automation. That said, we are expecting the semiconductor side of our business to come roaring back in the second half of the year.

Today, we are also announcing a quarterly dividend of $0.05 per share. This dividend is payable on September 30, 2014 to shareholders of record as of the close of business on September 10, 2014.

Now, let's take some questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Sterling Auty with JPMorgan. Please go ahead. Your line is open.

Unidentified Analyst

Hi, guys. This is Jack (Inaudible) on for Sterling. If we look at the next quarter and the revenue and margin profiles, are you guys expecting maybe a bigger hardware quarter sequentially in 3Q?

Walden Rhines

Yes. Jack, we don't break out the emulation separately. As Greg said, we had about 25% growth versus last year in revenue and year-to-date we already have more than half of our year's plan revenued, so I don't have a specific forecast, but I do expect that we will see increase in bookings and the diversity of those looking in the second half.

Unidentified Analyst

Okay. Great. That was all for me. Thank you.

Operator

Next, we turn to the line of Rich Valera with Needham & Company. Please go ahead.

Rich Valera - Needham & Company

Thank you. It sounds like you had some great auto strength in the quarter. I am wondering if you could give us a breakdown of auto as a percentage of your total revenue either in the first half of this year or the quarter. Where do you think that goes kind of medium to longer term as a percentage of the total?

Greg Hinckley

Yes. It's 20% in the second quarter and total revenue for our sales automotive customers and it has been in the 15% to 20% range for some time. This is probably the highest it has been in a while. For the future, we would expect it to increase as a percent of our total revenue.

Rich Valera - Needham & Company

Great, that's helpful. Then I think your renewal run rate increase was 5%, which is certainly on the low end of your historical range. Can you give us any sense of what you are expecting going forward? I don't know. I know you have gone back quarter, but should we expect that number to move back into the historical range that was certainly solidly in double digits if not you know north of 20% in many quarters.

Greg Hinckley

Rich?

Rich Valera - Needham & Company

Yes.

Greg Hinckley

The phenomena that affected this in the second quarter was that our largest renewal by far was a very large telecom customer who has faced some challenges as several have within that particular industry and had reduced its headcount over the last three years by 20%, so we had a big renewal from a company that has substantially shrunk in size and that affected the renewal growth in the second quarter. We would expect our renewals going forward to be in our traditional range of 20% to 25%.

Rich Valera - Needham & Company

Okay. That's very helpful color. Then just want to get a feel for emulation, so scalable was down pretty significantly year-over-year off of an admittedly tough comp, but just wanted to get a sense for how you are seeing the year in terms of the emulation business either on a bookings or revenue perspective. I mean, do you see this as a meaningful growth year again for your emulation business?

Walden Rhines

Yes. Absolutely, we do. We expect that we will grow substantially this year in the emulation business.

Rich Valera - Needham & Company

Would you be willing to put a finer point on substantially or is that we are going to have to leave at that.

Greg Hinckley

I think, it's somewhere in the range of 20% to 25% this year, Rich.

Rich Valera - Needham & Company

Okay. That's a much finer point. Thanks very much Greg.

Operator

Next, we turn to line of Jay Vleesshchouwer with Griffin Securities. Please go ahead.

Jay Vleesshchouwer - Griffin Securities

Thanks. Good afternoon. Wally, Greg, would it be fair to say that fiscal '15 will resemble fiscal '12 in number of respects. We saw this already with Q2 where you had strengthen in Japan, particularly in automotive as you did three years ago and strengthen in PBC as you saw three years ago.

Now, would it be fair to assume that in the second half that you will see particularly good strength out of Asia and that would be connected to your expectation of strength in design to silicon?

Walden Rhines

That's correct, Jay.

Jay Vleesshchouwer - Griffin Securities

Okay. Would you expect to be able to leave the year with substantial backlog as you did two years ago, driven by strength in design to silicon and as well in emulation?

Walden Rhines

As I have said every other quarter, Jay, we won't be providing either bookings guidance or book-to-bill guidance.

Jay Vleesshchouwer - Griffin Securities

Last earnings call, Synopsys mentioned that they had held back on some hiring which had helped their margins in the quarter though they anticipated perhaps doing a bit more hiring in the upcoming quarter. We have noticed that that will be solely your number of open positions had shrunk below the average of opened positions compared to the last couple of years. Could you talk about your thoughts on recent hiring and/or future hiring in terms of how you are trying to manage that part of your expenses?

Walden Rhines

Well, we actually said, we spend a lot of time focused on expenses. That's been a continuing effort. We had headcount as I recall grew at above 7%, but almost half of that was acquisition-related. We've been very active this year in acquisitions, probably the most active that we have been since 2009, so we have made the acquisition of Berkeley Design Automation, Nimbic and XS Embedded and that has been what has contributed to the bulk of our headcount increases.

To the extent that we have fewer openings than we have had in the past, we can only attribute that to we must be a more attractive employer and we are having more success at in targeting people.

Jay Vleesshchouwer - Griffin Securities

All right, two months ago there was an interesting technical session in the Mentor booth, in which you were showing what you are doing to integrate your Oasis acquisition with Olympus. The question is, could you talk about your plans or strategy for the implementation side of the market, where you are admittedly quite a bit smaller than Cadence or Synopsys. With that integration of the upfront tool, do you think that your growth or account retention and implementation might be better over the next couple of years?

Walden Rhines

Well, there is nothing wrong with our account retention as it is, but you are right. It is a differentiator and we do have key customers, very focused where they are using the integrated flow and we are working with them to show the differentiation it can provide. It is a superior approach to synthesis. As you say, we are relatively small in that part of the business, but it's just one more hook that helps our physical design to achieve interest at the leading edge customers.

Greg Hinckley

Jay, one other thing, when we acquired Sierra which had the Olympus tool, I think it was approximately five years ago. At that time, the tool was really an optimizer as opposed to seven years ago. Thanks Wally. It was an optimizer as opposed to a full-blown floor planning placement route product.

We had decidedly focused on a limited number of customers as we have tried to bring full flow capability and they have succeeded in full flow capability with a leading floor planner, a competitive laser and routing engines and now we have the final piece to a rock solid and very industry competitive silicon implementation product.

Jay Vleesshchouwer - Griffin Securities

Lastly, I would like to ask about automotive and to think about how you are positioned for that. When we consider your counterparts in technical software more on the mechanical side, particularly companies like Dasso and Siemens, there is a lot of work that they are doing with respect to systems engineering, particularly automotive and we see in the company likely Chrysler, shutting up shop in Nabali for engineering.

My question is, do you foresee any value in working with those counterparts on the technical software side for the work they are doing in systems engineering related to automotive or do you think you can get in the door at some of these automotive companies that are in fact you doing more of their electronics and systems work in Nabali.

Walden Rhines

Jay, as you know, our solutions for automotive are in fact enterprise solutions, so it almost always requires us to work with a PLM provider, either Dasso, Siemens or PTC, so we do integrate with those systems and work with them to that extent.

The nice thing is that wiring and other specific functions like that are quite specialized, require a lot of design expertise, so we can work with those people without directly competing with them. I would view the way that industry will evolve and we both do systems engineering, we just do it at a little different level and I think that will continue as well.

Jay Vleesshchouwer - Griffin Securities

Thank you.

Operator

Next, we turn to the line of Tom Diffely with D.A. Davidson. Please go ahead.

Tom Diffely - D.A. Davidson

Yes. Good afternoon. I guess I have a number of questions on the automotive side. Is there anything different about automotive versus the rest of the semiconductor business in terms of the potential lag between orders and revenue or the types of orders you get in automotive.

Walden Rhines

Yes. There are some very fundamental differences and that's one reason why we don't anticipate much competition in the near future, because we got serious about the business in 1992 and really accelerated the effort in the year 2000, but it requires a different kind of sales approaching, it requires a very special contracts with the customer, there are much longer lead times between engagement and actual sales and there are much longer lead times between sale and broad fan-out, so we are in the early stages of the fan-out of most of our products despite the fact that they have been production-ready and solid for decades.

Tom Diffely - D.A. Davidson

Okay, so it's really just a matter of the old line old tool getting replaced when the automotive companies came to refresh their whole design cycle?

Walden Rhines

There is a general rule in EDA that also applies to automotive, which is if you can design the next model with the methodology you used before, then you will do so no matter how bad the tools may be and no matter how difficult that is, because tool you know is easy to use by definition, because you already know how to use it.

What finally happens is you find, you just can't do the next model, the wiring becomes so complex that semi-automated techniques don't work anymore, you have a failure and you switch and that's what has been happening over the last five years and now the pace of failure has picked up.

Greg Hinckley

One other of the things, Tom, that is different between this and the traditional EDA is that about half of our business with XS Embedded will be embedded software, so that while there is design software that goes with it, what we also have is our product is actually inserted in the automobile, in the ECUs, so it is more of the characteristic of an embedded software business in an EDA company.

Tom Diffely - D.A. Davidson

Okay. With those points in mind, do you think the larger growth over the next two years comes from kind of the younger automotive companies in Asia, or is it the retooling of the more senior automotive companies here?

Walden Rhines

Well, there a lot of exciting dynamics going on. Right now, there is sort of a contest between the OEMs of the Tier-1s, as well as a variety of semiconductor companies, semiconductor companies who want to actually build ECUs and sell them direct to the OEMs or to the Tier-1 OEMs, who may in some cases want to bypass the Tier-1. Then Tier-1s, who are looking to solidify their strong positions in what has been a very profitable business. We work with all of them and we have to work with all of them, but the great news is that they are revolutionizing the way design is done.

Tom Diffely - D.A. Davidson

Yes. Okay.

Greg Hinckley

I think I can also say, one of the differences, Tom, really recently has been that for a while the strongest portion of our market was in Asia, which is why we have - one of the two reasons why we have done disproportionately well. Asia, I am talking about Pac-Rim within the EDA industry. What we have seen recently is a lot of activity of Japan. As Wally mentioned, 90% of our bookings in the second quarter, in Japan, were automotive-related.

Walden Rhines

…companies you probably noticed that the use Tesla used Mentor Graphic cabling software, so the companies as well.

Tom Diffely - D.A. Davidson

Yes. Okay. Great: Then, Wally, when you look at the emulation, we have heard from a few that there was bit of a pricing issue with emulation. Are you seeing that with your product line right now?

Walden Rhines

Yes. It's a big issue. Pricing has continued to improve and it get better, so it's been a substantial help to us as we have gone through the year. I think, one of the reasons is, the kind of emulation we provide is truly different from traditional emulation. It's based on virtual stimulus and it's sold also to help with software development and that's really not what in-circuit emulation was all about. We can support in-circuit emulation and that's a very competitive market, but really the exciting part is the growth of the new type of emulation that's enabled by OS3 and their pricing has steadily improved and our gross margins have steadily improved as a result.

Tom Diffely - D.A. Davidson

Okay. What is your view of the size of the market today and do you still believe this could be a $1 billion market, three, five years down the road?

Walden Rhines

Yes, absolutely. If you take get the growth rate the last few years and continue it, you would be well past $1 billion before - in less than five years, but even it could slow some five-year kind of range is about right to get to $1 billion from today's is $350 million range.

Tom Diffely - D.A. Davidson

Great. Greg, this question was kind of asked earlier, but when you look at the guidance for the third quarter and the margins by entrants were coming down, what's the driver of that? Is it the hardware component or is it the increase in OpEx are just COGs.

Greg Hinckley

It's increase in OpEx. What we have is, we have three acquisitions this year BDA Berkeley Design Automation, Nimbics and XS Embedded, which we are going through the transition acquisition effects which reduce short-term revenue and carry forward operating expense and on top of that, Tom, we typically do the general raises in the company midway through the second quarter.

Tom Diffely - D.A. Davidson

Is there any way to handicap the implied dilution from the three acquisitions on a dilution basis?

Walden Rhines

Well, the dilution, there will be over the course of the year. We expect them to be breakeven to modestly accretive.

Tom Diffely - D.A. Davidson

Finally, Greg, we can look at kind of the full year rollout of revenues. Obviously, the fourth quarter is very back-end loaded more so than normal. Is that as a surprise to you or is this just the way the contracts are come out this year and you have expected this type of hockey stick in the fourth quarter for some time?

Greg Hinckley

Well, this is similar to last year, so we get approximately the same kind of hockey stick last year as we are expecting this year. We said that the split in revenue would be 40-60 .It will be 40-60. We also typically, Tom, we forecast a booking and revenue in the quarter of a contracts' expiry and expiration. Many of our customers will enter into negotiations and close the contract full quarter in advance, so it could very well be that that pattern we see continuing on through the remainder of this year, but no promises.

Tom Diffely - D.A. Davidson

Okay. You noticed that the revenues similar patterns, but it seem like the earnings are even more pronounced this year than in years past $1.25…

Greg Hinckley

Yes. I mean, once operating expenses grew what was it 6% year-over-year, but for the cost of goods sold in emulation $1 of revenue is a $1 pre-tax once you break through your operating expenses, so you know that hockey stick is that we are predicting for the fourth quarter. I agree it's dramatic. This is the nature of a software business.

Tom Diffely - D.A. Davidson

Okay. Thank you.

Operator

Our next question comes from the line of Monika Garg with Pac Crest. Please go ahead.

Monika Garg - Pac Crest

Hi. Thanks for taking my question. Wally, I have a question on emulation. Are all the emulation customer still the semis and systems like Microsoft, Google, Apple, et cetera or you think even auto customers are aeronautic if you are seeing those people also trying to use emulation to bring up software and hardware solutions.

Walden Rhines

Yes. We are seeing an increased percentage of our engagements are with systems companies, but still more than half are semiconductor companies. What is particularly significant are semiconductor companies that are closely aligned with equipment companies and typically they are doing very big digital and typically they require a lot of embedded software.

Historically, that embedded software has been developed after that the chips are received in prototype form or at least maybe when you go into FPGA board verification. Now you can do that embedded software, you can boot the operating system, you can do a lot of that on the emulator and so systems companies are paying a lot more attention and they’re also attracted, because they can do a lot more system test with the virtual stimulus on the design.

Monika Garg - Pac Crest

Is it possible to share like how much emulation revenue comes from your auto, aerospace kind of customers?

Walden Rhines

Well, we do have aerospace companies. I am not aware of an automotive emulator we sold yet. In general, automotive companies' suppliers, the Tier-1 suppliers are the ones who do those complex chips.

Monika Garg - Pac Crest

Then given the strong growth, you talked about in the emulation for this year, do you think you could exit the year with the higher share in this market this year?

Walden Rhines

Higher share in the automotive market?

Monika Garg - Pac Crest

No. Highest share in…

Walden Rhines

In emulation, absolutely, the numbers are out for first quarter and we already know that we had more than 50% of the revenue in first quarter, so that almost guarantees that we are number one. It does guarantee we are number one that's a -

Monika Garg - Pac Crest

Okay, then where is this perception in the market that since your new emulation platform came out, it has impacted the growth of Cadence, Palladian platform, so it's expected sometime over the next six to nine months like Cadence has a new platform and it could then negatively impact the growth of emulation of Mentor's platform. Could you share your thoughts on that?

Walden Rhines

Well, I think, I indicated earlier that there are really two kinds of emulation. There is traditionally in-circuit emulation and then there's a whole new generation of virtual emulation. We have been in the virtual emulation business for quite some time over a decade and it's really only recently that it's taken off.

In general, it has not been people who were using in-circuit emulation, it's been a whole new set of people. Now, I expect our competitors will ultimately offer many of the kinds of features that Mentor has with virtual stimulus and accelerate testbenches and that the ability to do software development. At sometime in the future when they do, I think, we'll see them more often with competitors, but today we are not number one in in-circuit emulation. We are clearly number one in virtual emulation and over time I think it will take a long time for people to develop the capability that we have honed over the last 12 years to bring us to where we are in the virtual emulation side.

Monika Garg - Pac Crest

Okay. Then, the core EDA market, we all know is a low single-digit kind of a growth market, you are seeing strong strength in orders which is 15% to 20% of the business. What is the right kind growth rate to think about this business over the next some years?

Walden Rhines

Of course, it varies quite a bit. If you look back at EDA, in 2011, the EDA market was going 13% to 17%. In the last year or so, we have been growing at a moving average of about 5.5%. For Mentor, over the last decade or so, we typically look in the traditional part of our business at 5% to 7% growth rate and we expect that new areas like automotive where people are buying tools for the first time to grow at about twice that rate.

Monika Garg - Pac Crest

Thank you so much. That's all for me.

Operator

Ladies and gentlemen, due to time limitations for our host, this will be our final question. It comes from the line of Krish Sankar with Bank of America. Please go ahead.

Krish Sankar - Bank of America

Hi. Thanks for taking my question. I had a couple of them. Number one, what was the systems' as a percentage of revenue in the July quarter?

Greg Hinckley

It typically run, Krish, I don't know about the second quarter. Wally is looking through some data right now, but it typically runs 50% of our revenues. In fact, systems businesses and 50% is IC. I would think it would be more systems this last quarter, because automotive was so strong and our printed circuit board products were up and I was just informed that we were up 60% of total revenues were systems related and therefore the remainder IC.

Krish Sankar - Bank of America

Got it. Then on the auto side, I think it's very interesting your comments on the automotive sector in Japan. In the past, when you spoke about, you always spoke about China being the biggest market for you guys. Just kind of curious can you talk about what's happening in China right now and is Japan going to be the growth area for auto?

Walden Rhines

Well, I think, when we talk in the past about China it's been - because it's emerging from nothing in our automotive revenue to becoming significant. We have $1 million customers in China who are growing very, very rapidly, but the big dollars in automotive today are still Japan, Korea, U.S. and Europe.

Krish Sankar - Bank of America

Got it. Then final question you guys had $200 million buyback announcement a couple of months ago, so how much is left in the buyback right now?

Greg Hinckley

$175 million.

Krish Sankar - Bank of America

Is there any timeline for that?

Greg Hinckley

Three years.

Krish Sankar - Bank of America

Okay. Got it. Thank you very much.

Walden Rhines

Ladies and gentlemen, thank you very much for joining us this afternoon. For follow-up calls Greg and I will be available. The best way to reach us is by contacting Monte Koller at 503-685-1462, and Monte will make sure that either Greg or myself will get back to you in a timely fashion.

Operator, if you could please provide the replay telephone number for listeners. Thank you very much and have a good afternoon.

Operator

Thank you, sir. Ladies and gentlemen, this conference will be available for replay after 4 pm today until August 28, 2014 at midnight. You may access the AT&T Executive Playback Service at any time by dialing 1-800-475-6701 and entering the access code of 333999. International participants may dial 1-320-365-3844. Again, those numbers are 1-800-475-6701 and entering the access code 333999. International participants may dial 1-320-365-3844 and there the same access code of 333999.

That does conclude our conference for today. Thank you for your participation and for using AT&T Executive TeleConference Service. You may now disconnect.

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Mentor Graphics (NASDAQ:MENT): Q2 EPS of $0.23 beats by $0.08. Revenue of $260.23M (+2.8% Y/Y) beats by $6.68M. Shares -0.93% AH.