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Executives

Alan Lindstrom – Director of IR

Lip-Bu Tan – President and CEO

Geoff Ribar – SVP, CFO

Analysts

Raj Seth – Cowan & Company

Rich Valera – Needham and Company

Sterling Auty - JP Morgan

Jay Vleeschhouwer – Griffin Securities

Krish Sankar - Bank of America Merrill Lynch

Mahesh Sanganeria - RBC Capital Markets

Tom Diffely - D.A. Davidson

Cadence Design Systems (CDNS) Q4 2012 Earnings Call February 1, 2012 5:00 PM ET

Operator

At this time, I would like to welcome everyone to the Cadence Design Systems fourth quarter 2011 earnings conference call. [Operator instructions.] I will now turn the call over Alan Lindstrom, director of investor relations for Cadence Design Systems. Please go ahead.

Alan Lindstrom

Thank you operator, and welcome to our conference call for the fourth quarter of fiscal 2011. The webcast of this call can be accessed through our website, cadence.com and will be archived for two weeks.

With us today are Lip-Bu Tan, president and CEO of Cadence, 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 the 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 statements regarding forward-looking statements, and the earnings press release issued today.

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 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 the 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 February 1, 2012, for the quarter ended December 31, 2011 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.

Lip-Bu Tan

Good afternoon everyone and thank you for joining us. I’m pleased to report that Cadence finished a successful 2011 with a very strong Q4. For Q4, revenue totaled $308 million. Non-GAAP operating margin was 21%, and we generated $62 million of operating cash flow.

For the year 2011, revenue grew 23% to $1.15 billion. Non-GAAP operating margin doubled to 18%, and operating cash flow totaled $240 million. For 2012, we are forecasting revenue growth of approximately 8% to 11%. Geoff will present our full outlook in a few minutes.

Now I will recap our successes in 2011 and then provide some of our Q4 highlights. In 2011, Cadence demonstrated the readiness of our digital custom analog and [unintelligible] solutions for 20 nanometer design. We completed seven 20 nanometer test chips with companies including ARM, Samsung, TSMC, and other foundries and customers. Many more are in progress for 2012.

We established our product capabilities for designing SOC using advanced multicore processors including the first ARM Cortex A15 test chip designed for the 20 nanometer TSMC silicon. 2011 was a stellar year for the Palladium XP Verification Computing Platform and increasing numbers of customers, both semiconductor and system companies now use Palladium to develop complex SOC and for hardware, software co-design.

Growing adoption of our Encounter digital solution was highlighted in 2011 by key displacements at two major semiconductor companies and significant business wins at many other customers.

In 2011 our Virtuoso 6.1 strengthened its position as the platform of choice for doing custom and analog design. Virtuoso, based on the industry standard open access database is enabling a paradigm shift from traditional connectivity-driven to a more automated constraint-driven methodology that is delivering a 2x productivity improvement.

To address the challenge of integrating hardware and software for complex systems, in 2011 we launched a system development suite. The suite includes two new products, the virtual system platform and rapid prototyping platform, both of which are already in production use at several customers.

In 2011 we made two important acquisitions, Altos and Azuro. The Azuro technology is now offered with the Encounter digital IC design platform and has been a critical factor in winning several design benchmarks. The products we acquired with Altos are recognized as the leading solutions for IP library characterization, helping customers produce higher quality designs at advanced technology nodes.

Now let us look at a few of the highlights for Q4. Business was strong across our silicon realization product line. In particular, I want to highlight our verification, mixed signal, and system silicon package [unintelligible] businesses. Today every company doing advanced, complex SOC, especially communication devices and embedded processor design needs more verification capability.

Our incisive verification platform is winning business and gaining share in advanced verification because our technology and methodology advantages, incisive, matrix-driven approach, multilanguage support, mixed signal and low power features, and tight connections with Palladium XP and verification IP and crisp performance and productivity. Our verification business in Q4 was highlighted by our competitive displacement at one major semiconductor company and significant growth of our installed base with another.

Now turning to mixed signal, in Q4 yet another company using Virtuoso for analog design adopted the Encounter digital IC design platform for their low power and mixed signal flow. This demonstrates the advantage of our end-to-end flow for low power and mixed signal design, which addresses the increasing complexity of digital content in mixed signal design as well as the need for greater energy efficiency.

Our silicon packaged boards business served a wide spectrum of customers, large to small, in a variety of vertical market segments including [unintelligible], networking infrastructures, medical, automotive, and consumer electronics. The solution in our Allegro platform are compelling to customers because our [unintelligible] enabled design team productivity has the technical capabilities to design the most complex boards and have links to leading mechanical CAD products. Our silicon package board business in Q4 included sales to several of the largest networking companies in the world.

Next let us look at the SOC realization. Our primary focus for IP continues to be on memory, storage, and high-speed interfaces. The keys to our success are we offer highly differentiated products, a focus on supporting the leading industry protocols and standards, and providing the highest-performance products.

Cadence has the leading DDRIP and we saw further adoption of these products in Q4. We also announced the availability of the first combined controller and [unintelligible] IP solution that supports the open NAND Flash interface 3.0 specification.

Q4 was a very strong quarter for verification IP. In addition to facilitating SOC verification, verification IP is increasingly used to verify end device system connections between multiple chips and peripherals such as memory, camera, and display. New protocols and increased time to market pressure for delivering end products are fueling the demand for our verification IP by system and semiconductor companies.

Following the integration of Denali and Cadence VIP offerings including providing support across all simulators, our VIP business grew over 40% in 2011. In system realization, the Cadence virtual system platform, part of the system development suite, is gaining traction for earlier software development.

We are collaborating with [Zylin] to develop the first virtual platform for the [Zylin Zin] 7000 expandable processing platform. The [Zin] 7000 family of products combines and ARM dual core Cortex A9 with [Zylin] 28 nanometer FPGA. The virtual platform for developing [Zin] software applications is built on the Cadence virtual system platform.

Let me conclude my remarks by pointing to what to expect in 2012 from Cadence. First, continued growth in our digital business as we build on our capabilities and success at 20 nanometer and with multicore embedded processors. 20 nanometer will also drive growth in our custom, analog, and [unintelligible] platforms.

Second, the strength of our integrated mixed signal solution will attract more customers to choose Cadence’s [flows]. Third, increased use of Cadence IP for memory, storage, and high-speed interfaces and continued expansion of EIP business. And finally, further adoptions of our system realization solution building on the continued demand for Palladium XP.

With that, I will turn it over to Geoff, who will review the financial results and provide our outlook.

Geoff Ribar

Thanks Lip-Bu, and good afternoon everyone. As you saw in our press release and heard in Lip-Bu’s remarks, Cadence finished 2011 with a very strong Q4. I will review the Q4 and 2011 results in more detail and then present our outlook for Q1 and 2012.

Bookings for 2011 totaled $1.158 billion compared to $956 million for 2010, up 21%. The high quality of these bookings is obvious when you consider the weighted average contract life for 2011 was about 2.5 years, down from 2.9 years for 2010. So adjusting for average contract life, analyzed bookings were up over 30%.

The book to bill was greater than one, resulting in a year-end backlog of $1.7 billion. Our total backlog did not significantly increase from 2010, but quality of the backlog improved with shorter contract life.

Total revenue for the fourth quarter was $308 million, compared to $249 million for Q4 of 2010. Revenue exceeded our guidance range due to strong demand across our product lines. Revenue for the year was $1.15 billion, compared to $936 million for 2010, an increase of 23%.

For Q4, product revenue was $177 million, maintenance revenue was $101 million, and services revenue was $30 million. The revenue mix for the geographies in Q4 was 44% for the Americas, 20% for EMEA, 19% for Asia, and 17% for Japan.

Total cost and expenses on a non-GAAP basis for Q4 were $244 million, compared to $240 million for Q3 of 2011. Higher variable compensation contributed to the sequential increase. Quarter end headcount was approximately 4,700, unchanged from Q3.

Non-GAAP operating margin for Q4 was 21%, compared to 11% for Q4 2010. For the year 2011, non-GAAP operating margin was 18%, compared to 9% for 2010. For Q4 we reported GAAP net income per share of $0.04 compared to a net loss of $0.14 per share for Q4 of 2010.

For 2011, GAAP net income per share was $0.27 compared to $0.48 for 2010, but remember that GAAP net income per share for 2010 included $0.56 for an income tax benefit related to the IR settlement for the tax years 2000 to 2002 and $0.25 in acquisition related tax benefit.

For Q4, non-GAAP net income per share was $0.17, compared to $0.07 for the same period last year. For 2011, non-GAAP net income per share was $0.51, compared to $0.20 for 2010.

Operating cash flow for Q4 was $62 million. For 2011, operating cash flow was $240 million, compared to $199 million for 2010, an increase of 21%. DSO for Q4 was 43 days, down from 50 days from Q3 and down from 78 days at the end of 2010. Our DSO target is approximately 45 days.

Capital expenditure for the fourth quarter was $14 million, and $31 million for the year. Cash and cash equivalents were $602 million at year end, an increase of $44 million over 2010. In December we used $150 million to retire the 2011 convertible notes and we spent $44 million in acquisitions over the course of the year. Approximately 50% of our cash was in the US.

For Q4, in the year, over 90% of our orders booked were ratable, including product maintenance and services. Weighted average contract life for Q4 was approximately 2.3 years. For the year, weighted average contract life was about 2.5 years. On a weighted average basis, run rates on Q4 contract renewals increased.

Now let’s address our outlook for the first quarter of 2012 and for fiscal 2012. For Q1 fiscal 2012 we expect revenue to be in the range of $305 million to $315 million. We expect over 90% of our first quarter revenue to come from beginning backlog.

In Q1 non-GAAP operating margin is expected to be in the range of 19% to 21%. Total non-GAAP costs and expenses should be up sequentially from Q4, primarily due to seasonal factors such as payroll taxes and the restoration of compensation and benefits that were reduced during the downturn.

GAAP EPS for the first quarter is expected to be in the range of $0.08 to $0.10. Non-GAAP earnings per share for Q1 is expected to be in the range of $0.14 to $0.16.

Now for fiscal 2012 outlook. Bookings are projected to be in the range of $1.265 billion to $1.315 billion. We expect weighted average contract life in the range of 2.4 to 2.6 years for the year. Weighted average contract life for the first quarter will be higher, at approximately 3 years due to a large, multiyear contract already booked this quarter. We expect to book at least 90% of our orders for the year under ratable arrangements.

For 2012, we expect revenue to be in the range of $1.24 billion to $1.28 billion, with approximately 80% of the 2012 revenue expected to come from beginning backlog. Non-GAAP operating margin is expected to be in the range of 19% to 21% on an annual basis for 2012.

I want to take a moment to comment on the progression of our operating margin in 2012. During the downturn we took a number of temporary actions to reduce expenses, including company-wide shutdowns and reduced compensation.

We will complete the phasing out of these temporary actions during 2012, leading to a higher rate of organic expense growth for 2012 than we would expect to see in the future. After the transition, I would expect to see at least 50% of our incremental revenue to drop through to operating income, although this will vary from quarter to quarter.

Non-GAAP other income and expense for 2012 is expected to be in the range of negative $12 million to negative $6 million. We’re assuming a non-GAAP tax rate of 26% and a weighted average shares outstanding of 274 million to 280 million shares for the year.

GAAP EPS for 2012 is expected to be in the range of $0.39 to $0.40. Non-GAAP earnings per share is expected to be in the range of $0.60 to $0.70, and we expect operating cash flow in the range of $255 million to $295 million. DSOs are expected to be approximately 45 days at year end, and capital expenditures for 2012 are expected to be in the range of $30 million to $35 million.

I want to conclude today with a couple comments on what we expect to see beyond 2012. First, the others in the industry have projected long term growth rates for core EDA in the low to mid single digits. We believe we will be able to grow our core business at a faster rate. Second, we are targeting 2013 to achieve our goal of a non-GAAP operating margin of the mid-20s for that year.

Operator, we’ll now take questions.

Question-and-Answer Session

Operator

[Operator instructions.] Your final question comes from Raj Seth with Cowan & Company.

Raj Seth – Cowan & Company

Geoff, can you talk a little bit more perhaps about how to think of the model as it rolls through 2012, which I think you detailed, into 2013. I guess one of the questions is should we expect to see bookings growth in 2013? Do bookings come down? Do we have any echo from the trough that you saw some years before? And you talked about your ambition for operating margins and reaching those in 2013. How should we think about normalized business levels, either revenue or cash flow, as I assume we normalize in 2013. Anything you can discuss there would be helpful. Thanks.

Geoff Ribar

Obviously you’re right. We’re very excited to actually tell you that the mid-20s are happening in 2013. We’re very proud of the progress we made in 2011 that we’re going to continue to make in 2012. I think that’s kind of where we want to stick, though, Raj, on what we’re actually guiding to beyond 2012. I think it’s important to recognize that we expect to grow faster than some of the others in the industry I’ve talked about in our core business, and that we’re going to get to the mid-20s in 2013.

Raj Seth – Cowan & Company

Lip-Bu, can you talk a little bit - you talked about leadership at 20, progress in digital, and involvement in multicore design. I’m wondering if on the digital side, especially as it relates to multicore, if you can expand a little bit on that, and perhaps comment on the consolidation that we’ve just seen in the industry an your view of potential industry implications of that.

Lip-Bu Tan

First of all, Cadence decided to commit to the leadership on the 20 nanometer, and clearly we have had success in the digital and counter side because of our leadership. And we mentioned about a couple of big displacements that we won. And then secondly, I think clearly the multicore, that is a commitment. We want to be the leaders in that, and our announcement with ARM, that is very significant, and opened up tremendous opportunities for us. As you know, ARM is very strong in the smartphone, tablet, and even in cloud.

And then the other part is, you know, clearly, as I mentioned also in my script, on the mixed signal side, because of our Virtuoso success and a couple of big displacements coming up, and we won, and as this mixed signal and digital content becomes more and more critical, that we’re able to provide an end-to-end flow on the design and also drive a lot of efficiency in the power.

Raj Seth – Cowan & Company

And so can you talk a little bit about industry consolidation. There’s consolidation happening on both sides. Synopsys obviously buys Magma, who was, I think, perceived as one of the leaders in digital and certainly behind some of the multicore designs we see in the app processors on the market today. What’s the implication of that deal. It’s clear from the filings that you guys didn’t have a lot of interest there. But what do you think the implication is on the industry? And just the flipside of that is the semiconductor industry itself is consolidating. How do you think of that as impacting the overall market opportunity for the industry, Atheros, Qualcomm, and all of the kind of deals we’re starting to see, which I expect will continue?

Lip-Bu Tan

I think it’s a very profound question, and clearly I will try to answer some of your questions. So first of all, I think the industry consolidations you mentioned, about TI, National, Qualcomm, Atheros, that will be the trend that will continue. And so I think clearly, as I call it, the winning platform becomes critical for the [unintelligible]. That’s why we have a laser focus to winning some of these big displacements. The platform we want to win, and so we’re going to continue doing that.

And in terms of our own industry consolidations, you know Raj, you know me, I’m a basketball player. I always like to see the game come to me rather than forcing it. We like our strategy. We like our growth map. We stick to our focus in terms of driving our product portfolio. I take the leadership in that. And then meanwhile, we’re actively pursuing acquisitions to add technology that can really provide the best solution for our customer.

Clearly our EDA360, and our silicon realization, the end-to-end flow in the mixed signal, and SOC in our IP, and then clearly in our system side, I think it will be tremendous. Just related to, I think you mentioned about the Synopsys and Magma merger, and first of all, clearly it didn’t change any of our technology momentum and no change to our market positions and clearly we are committed to our roadmap. And in fact, it creates a lot of opportunity for us, because our end of life and overlapping digital flow, between the two companies. And then by the way, Magma is only less than 10% of Synopsys. So clearly they provide not a lot of opportunity for us while heavily engaging with the customer. They’re all looking for this solution that we provide, excited about what we have.

Operator

Your next question comes from Rich Valera with Needham.

Rich Valera – Needham and Company

You know, you were talking about the digital and your progress there, and I think you announced a notable kind of first last quarter where you had the first test chip at 20 nanometers, with TSMC and ARM for their new Cortex core. Can you talk about any follow through you may have received from that, or any broader implications of being kind of first to market with a 20 nanometer flow with TSMC and ARM?

Lip-Bu Tan

Clearly we had a lot of success in the digital side in the prepared script, and clearly the leadership in the 20 nanometer and with the foundry partners. I think clearly it’s a very strong position for us. And then we also mentioned about and announced the ARM A15 core development and we have a lot of success engaging with ARM’s customers that are using ARM license, and we won a few, and we also have quite a heavy engagement with the the others in 2012. What I said about the opportunity in front of us, clearly we want to take the leadership there.

Rich Valera – Needham and Company

And then on emulation, you guys obviously had a very strong year in emulation in 2011, as did really the whole industry. I was wondering how you’re thinking about that business heading into 2012. There will be some tough comparisons, I guess, but it sounds like by the same token you have some sort of secular growth there as you move to sort of sub-40 nanometer geometries. So just wondering how you’re thinking about emulation for 2012.

Lip-Bu Tan

I will start first, and then Geoff can chip in. So first of all, I think this [unintelligible] emulation, as I mentioned, has become a very critical phase of design, because more complex chips and the whole verification, the earlier you find a [box] it’s very good, important for your time to market. And so any complex SOC, or any 40 nanometer chip design it’s almost like a must-have. And then we have the best of class, and so we’re going to continue seeing significant growth in this area, and customers that we talk to, they continue to love our products and buying from us. And so we’re going to continue doing that, and in fact, we’re going to expand that into our virtual system platform and also the rapid prototyping platform and a couple of customers are already engaging in expanding to that whole suite of products that we are offering. And the time to market is so critical for them. And so we had a very good 2011 and we’re going to continue to see growth in 2012.

Geoff Ribar

I think a couple of additional points. Our customer base has expanded here from our traditional chip companies, but also to system companies. We’re seeing that in the Palladium XP, but also in every other of our businesses, that we’re becoming more important to the group of system companies. We did have extremely strong growth in the Palladium XP in 2011. We do think it’s a secular trend, that there’s going to be continued use. We do expect that growth rate, though, not to be the same in the Palladium XP, from ’11 to ’12, as it was from ’10 to ’11.

Rich Valera – Needham and Company

And then just following up on the mid-20s op margin in 2013. Geoff, in the past you’ve talked about kind of achieving that at some point, somewhat independent of revenue level, i.e. you would cut expenses if you needed to to get there. Just wondering if you could give us any other color in terms of how you intend to sort of glide into that mid-20s op margin. It sounds like you’re expecting revenue growth somewhere north of, I guess, the mid- to low-single-digits, but can you give us any more calibration there on how you look to get to that?

Geoff Ribar

Sure, we kind of guided this year’s growth at approximately 10%, 2012 from 2011. Obviously we’re not expecting to cut expenses to get there. We are expecting growth to continue. So we expect to see growth continue, as I think we said. We expect to grow faster than some of our competitors have committed to. And we think that will get us there. We obviously have to continue to execute to get there. It’s not a slam dunk, but I think you’ve seen our execution be materially good in the past year, and we need to continue that and continue to improve on that.

Operator

Your next question comes from Sterling Auty with JP Morgan.

Sterling Auty - JP Morgan

First, on the term length of the 2.3 years in the fourth quarter, definitely at a very low end, even for what you’ve seen the last couple years. Can you give maybe a little bit more color as to what the discussions were going on in those contract terms, how much of it may have been some of the uncertainty in the semiconductor market during the quarter?

Lip-Bu Tan

Let me start first, and then Geoff will chip in. So this is very significant for us, because when I came on board three years ago I was driving the team to really focus on the quality of the terms, and the way we engage with our customer. After three years, I think our relationship with our customer is tremendously improved. And then secondly, I’m very proud of my team that are very disciplined in terms of providing the right terms and the right products, technology to the customer to enable them to be successful on that. And that is something very significant. That’s why you noticed that even though, in our revenue and our bookings guidance for you, if you look at the duration and the quality it’s tremendously improved.

Geoff Ribar

And I think sales quality has been a focus since Lip-Bu took over, right? And I think we’ve made a lot of success there. We don’t want to trade sales quality off for deal term. I think the other thing is the shorter term provides some benefits to us to get back to Raj’s earlier question. It means it’s much less likely that we’re going to be concerned about any holes in bookings or revenue going forward, because the shorter deal term means those deals are coming up for renewal more often, because there’s more chance to sell, more chances to be successful. And then also it doesn’t leave for a giant hole up there. So that’s very important also.

Sterling Auty - JP Morgan

Absolutely. And we’re bouncing around between calls, so I apologize if you mentioned this already, but when you look at the outlook for the first quarter, it seems extremely strong. I’m trying to put it into context. Maybe with the new Palladium release, is there some Palladium orders that maybe you got in the fourth quarter shipping the first like we did last year? Or how should we think about the context of the first quarter outlook?

Geoff Ribar

You know, our business has changed with the ratable business model over time. I think you’re not going to see the traditional quarterly pattern that you’ve seen. You’ll see more sequential growth as you go forward. And I think that’s how you should look at our business going forward.

Lip-Bu Tan

And also, I think, Sterling, across the board, all the product line has been very strong in Q4, and it will carry on forward.

Sterling Auty - JP Morgan

Okay. And then last question, Lip-Bu, kind of back to what I touched on in the first question, which is if we look at throughout 2011 there was an awful lot of semiconductor uncertainty, whether we were still inventory correction or what was happening in the demand environment. It felt like things got better here in the fourth quarter, but it was still mixed. Do you feel comfortable enough with the conversations you’re hearing from customers that they’ve got enough insight into their business that they feel good about R&D budgets where they won’t have to make any cuts or put any spending at risk as you move into 2012?

Lip-Bu Tan

Yeah, I think it’s a good question and we watch that very carefully and we are heavily engaging with our customers. And so clearly there are some customers, the top, leading customers, and they are increasing their R&D, and they are hiring people. Of course, there are a few that are laying off people, or cutting back their R&D, but so far, from my visibility, the R&D engagement and the design have been increasing and they are very steady. We are very optimistic and are cautiously optimistic about the use of our tool. We like our product portfolio, our leading position, and we don’t see any slowdown in terms of design engagement with us.

Operator

Your next question comes from Jay Vleeschhouwer with Griffin Securities.

Jay Vleeschhouwer – Griffin Securities

I’d like to ask first about your customer base, or customer concentration. That is, if you look at the top ten or so customers in 2011 was there an appreciable difference in terms of the names on that list, or the concentration of revenues from that list, in 2011 versus, let’s say 2009 or 2010. And looking forward, would you expect there to be any appreciable changes in your customer concentration, or top list of names, for 2012 or 2013?

Lip-Bu Tan

Good question. Clearly we have a very broad and diversified customer base. We don’t have any single customer more than 10% of our revenue, and we are very engaging with our top ten customers. Is there much changes? Not much. I think it’s a winning company that we are engaged more. They are increasing, and we like that, and we’re going to continue that.

Jay Vleeschhouwer – Griffin Securities

Okay. Following up on some of your earlier questions about emulation, or the hardware-based business, doing some rough math, it looks like the hardware business accounted for something like 40% of the total increase in your product revenue in 2011 versus 2010. As you pointed out, it was a strong business. In dollar terms, how do you think 2012 might look versus 2011 in terms of the possible increase in emulation? Or put another way, are there any other product lines that could account for considerably large increases in product revenue in 2012 versus 2011 besides the emulation business?

Geoff Ribar

So emulation business was a very strong business for us last year. We won’t comment on the exact numbers, but it was a very strong business for us. I think we grew at well over 20% in revenue from year over year, and I think again a portion of that was emulation, but a portion of that was also our core business. That core business growth we anticipate going forward. We expect emulation growth to slow down.

Jay Vleeschhouwer – Griffin Securities

Okay. And maybe one or two last ones. I’d like to tie in your comments about IT and your strengths there to geography. That is to say you had good growth in the second half of the year, and for the year as a whole, in Japan and Asia-Pac, and what makes Asia-Pac interesting is that it’s quite a large market for IT, the second largest market overall, for the consumption of IT. It’s bigger than Japan and China and Taiwan look like one-fourth of the spending over there, for example, just in IT versus tools. And the question really is how are you positioned for that very large market in IT? And what kind of growth rate do you expect to see in that part of the world for that part of your business?

Lip-Bu Tan

Jay, let me try to answer that. First of all, clearly our growth engine I mentioned earlier, in our IP, SOC, and also in the system side, we continue to make good progress on that. On the IT side, if you recall, we bought the Denali. That gave us tremendous leadership in the memory IP. We’re going to continue doing that, and right now we are moving into the storage and also in the high speed connectivity side. So very differentiating value IP that provide to a customer. You correctly point out there’s a lot of important customers in Asia-Pacific that like to have IP growth, who we are heavily engaging and we are winning a couple of them, and we continue to win, continue to engage with many of our customers in Asia. Asia-Pacific growth, as we all know, is fast-growing area. Cadence is very well positioned in that region, and we are very active. We have the right team driving success and engaged with our customers. And so we’re going to continue doing that.

Geoff Ribar

So I’d also like to point out one of our strong growth areas was verification IP, in the past year. It grew over 40% year over year. So we think it’s a very strong business for us, very strong growth characteristics.

Jay Vleeschhouwer – Griffin Securities

All right, and then lastly there was an earlier question referring back to the events of a few years ago in terms of your business model, and the transition. Just a follow up to that. Is there remaining any lumpiness in your business, Geoff? You and I have spoken about the lumpiness reflecting what happened a few years ago in terms of the runoff of bookings and contracts. Do you think that everything is now pretty much smoothed out and any nonlinearities, so called, are pretty much done?

Geoff Ribar

Yeah, and in the history we had some customers that we only recognize revenue when they paid. Japan was a part of that. It’s still a little bit there, but because of the ratable nature of our business right now we don’t expect to see much lumpiness. We expect to see much more sequential growth period over period. You know, we’re still completing the model change. That won’t be totally done until Q4 of this year, so 2013 will be the first year where were essentially 100% converted. But again, I think you’ll expect to see sequential growth out of us going forward. That’s our goal and our expectation.

Operator

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

Krish Sankar - Bank of America Merrill Lynch

Thanks for taking my question. I have a few of them. Lip-Bu, what’s your view on the semi R&D spending and EDA growth for 2012?

Lip-Bu Tan

I think, Krish, a couple of points. So clearly the semiconductor industry, the earlier question in terms of some bigger company’s success, continue to hire, and there are some laying off. But overall, the trend is moving upward and even the system company is starting to engage a lot in the semiconductor design, so we are continuing to see the low single digit growth in the semi industry. In terms of the R&D, and as I mentioned earlier, the engagement with the R&D development, we see a steady increase and still very active, especially in some of the mixed signal and then the leading edge processor for the leading companies, we don’t see any slowdown at all.

Geoff Ribar

And again, we’re seeing that 10% growth in our business, right? That’s obviously driven by our views of our customers. As Lip-Bu said, our customer base in some ways is expanding, because we’re having more and more systems business as some of our customers consolidated on the semi side.

Lip-Bu Tan

Right, and I think Geoff mentioned earlier some of our friends in the EDA, in the industry, they mentioned about single low digit growth, and we’re basically indicating 8-11% growth for us. So we will be growing faster.

Krish Sankar - Bank of America Merrill Lynch

So just to follow up on that, the delta from the low single digits to your midpoint 10% growth, how much of that is actually coming from incremental share gains, and how much is coming from maybe the tailwind of your revenue model transition?

Geoff Ribar

The tailwind of our model transition is actually probably the smallest portion that’s out there. We are seeing our sales quality continue to improve. As I think we mentioned, our run rate is actually improving on old deals versus new deals. So that’s good. The sales quality is improving. And we are seeing market share gains. I think we talked in Q2, we’ll have a couple top ten providers that move to our digital flow. We talked about a verification win in this past quarter. And you’re seeing it in the other places too, but those are some of the notable ones.

Krish Sankar - Bank of America Merrill Lynch

And if I can just extrapolate that, given the fact that you expect next year, 2013, up margins in the mid-20s, what kind of start line assumption, what ranges are you baking into that expectation?

Geoff Ribar

We’re not baking any expectation into it. It’s a core imperative of the company, and we’re going to get there. Now, obviously we expect some revenue growth to get there, but we’ll get there either way.

Krish Sankar - Bank of America Merrill Lynch

And then the final question from my end. Can you tell me a little bit about how the renewal calendar for this year is shaping up? You know, when the customers come back to renew, and how would you contrast it versus what you saw in 2011?

Geoff Ribar

Yes, I think it’s obvious from our bookings growth. I mean, just look at our bookings growth and the numbers we’re talking about in our bookings growth. They’re growing faster than revenue is. Our contract life continues to be extremely good, so I think you can see we expect a pretty good calendar and pretty good booking year.

Operator

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

Mahesh Sanganeria - RBC Capital Markets

Geoff, just wanted to follow up on the last comment you made on the increase in run rate. Can you provide more color on how are you able to get that run rate increase? Is it that newer technology, you’re able to get the better pricing? Or broader product portfolio?

Geoff Ribar

So clearly technology’s probably the most important part to it. We’ve worked hard to improve our technology, to expand our technology offerings to be an end-to-end provider, and so that provides for the same engineer on the other side, provides an opportunity to sell more tools to them. So that’s part of it. The second part is our sales quality. Again, we’ve worked really hard to improve our discounts, improve our run rates, improve the timeliness of our business, and I think that contributes also. And I think the third part is market share gains.

Mahesh Sanganeria - RBC Capital Markets

Okay. And just a quick question on the expenses. Of course, it’s going up a little bit more than normal this time because of the catch up, but is there a specific model we should be using in terms of opex year over year, or is opex growth a good number to model going forward beyond this year?

Geoff Ribar

So I think what I said in my prepared remarks is that we expect at least 50% of our revenue increases to drop to the bottom line. I think if you go back over the past couple years you’ll see that we’ve actually exceeded that occasionally. So that will vary a little bit, but we expect that generally as we’re going forward. I think that’s how you should model your opex.

Mahesh Sanganeria - RBC Capital Markets

And one more clarification on your non-GAAP operating margin for 2013. Is that something you plan to achieve at the beginning of the year, or are you applying that for the full year, or toward the end of the year?

Geoff Ribar

Mid-20s in 2013.

Mahesh Sanganeria - RBC Capital Markets

Okay. That explains it. Thanks.

Operator

Your final question comes from Tom Diffely with D.A. Davidson.

Tom Diffely - D.A. Davidson

Lip-Bu, I was hoping to talk a little bit more about the Chinese market. Obviously you guys are very strong there. So I was wondering if you could just quantify how big that market is today for the overall EDA market and then what kind of growth you’re seeing there and how big it could become in the next several years?

Lip-Bu Tan

It’s a good question, Tom. Clearly, if you look at China, they consume about one-third of the semiconductor. That includes some of the Foxconn, Flextronics manufacturing and also some of the internal consumption. And it’s growing. And it’s the fastest-growing area. We are very well positioned there, and clearly you’re going to see quite a few world-class companies coming up, like Spectrum, Hisilicon, a few others, a long list of names. They are coming up really strong. Very well positioned, and Cadence is heavily engaging with that. That will be one of the very fast growing areas. We pay a lot of attention on that. And I think some of these companies will become world class companies, and this I think to really pay attention to the IP, the legitimate EDA tool, and that really plays to our strengths and we are very well positioned to capture that.

Tom Diffely - D.A. Davidson

Do you think your exposure there could give you a couple percentage points of level over the rest of your business on an annual basis for a while?

Geoff Ribar

Tom, we’d love to comment, but we can’t. I’m sorry.

Tom Diffely - D.A. Davidson

So Geoff, maybe just a couple more questions on the income statement. The R&D level seems to jump around a bit, and I’m wondering - it doesn’t seem to be revenue-driven usually. And so what goes into that? What factors?

Geoff Ribar

The vast majority of R&D spend is people, right? The most important part of the company is the people. So we do have some swings based on incentive plans and those types of things as we perform well, and I think that’s probably where you’re seeing the swing a little bit. But I think pretty steadily on percentage we’ve managed it quite well.

Tom Diffely - D.A. Davidson

And it also looks like the other income line was positive for several quarters in a row. It’s gone negative and it looks like you’re projecting negative for this year as well. What’s changed on that line? What factors inside of that line?

Geoff Ribar

Foreign exchange. So we’re going to be conservative guiding for foreign exchange going forward. Right now we have some benefits from foreign exchange in the past year.

Tom Diffely - D.A. Davidson

Okay, and then the biggest exposures there?

Geoff Ribar

Well, almost all of our revenue’s in dollars except for Japan. But we have large organizations around the world in a bunch of different geographies from Europe to India to China to Japan. So how those play out will swing those numbers around.

Tom Diffely - D.A. Davidson

So you’re just conservatively viewing the dollar getting a little weaker at some point?

Geoff Ribar

Yeah. I wish could predict FX.

Operator

Thank you. I’ll now turn the call back over to Lip-Bu Tan for any closing remarks.

Lip-Bu Tan

In closing, I’m very proud of the accomplishments of the Cadence team in 2011. In addition to outstanding financial results, our accomplishments included the introduction of new products for hardware/software code design and code verification, leadership for 22 nanometer and advanced multicore processor design, and deep collaboration with industry leaders. We have momentum on many fronts, and I’m very excited about our prospects for 2012. Thank you everyone for joining us this afternoon. We look forward to speaking with you soon. Thank you.

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