CDNS 09.29.2012 10-Q
Table of Contents

 
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
_____________________________________ 
FORM 10-Q
_____________________________________  
(Mark One)
 
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 29, 2012
OR
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from             to             
Commission file number 000-15867
_____________________________________ 
CADENCE DESIGN SYSTEMS, INC.
(Exact Name of Registrant as Specified in Its Charter)
_____________________________________ 
Delaware
 
77-0148231
(State or Other Jurisdiction of
Incorporation or Organization)
 
(I.R.S. Employer
Identification No.)
 
 
2655 Seely Avenue, Building 5, San Jose, California
 
95134
(Address of Principal Executive Offices)
 
(Zip Code)
(408) 943-1234
Registrant’s Telephone Number, including Area Code
_____________________________________ 
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x    No  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes  x    No  ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer

x
  
Accelerated filer

o
 
 
 
 
Non-accelerated filer

¨  (Do not check if a smaller reporting company)
  
Smaller reporting company

o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).    Yes  ¨    No  x
On September 29, 2012, 280,008,255 shares of the registrant’s common stock, $0.01 par value, were outstanding.

Table of Contents

CADENCE DESIGN SYSTEMS, INC.
INDEX
 
 
 
Page
PART I.
FINANCIAL INFORMATION
 
 
 
 
Item 1.
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
PART II.
 
 
 
 
Item 1.
 
 
 
Item 1A.
 
 
 
Item 2.
 
 
 
Item 3.
 
 
 
Item 4.
 
 
 
Item 5.
 
 
 
Item 6.
 
 
 
 

Table of Contents

PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

CADENCE DESIGN SYSTEMS, INC.
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
(Unaudited)
 
 
September 29,
2012
 
December 31,
2011
ASSETS
Current Assets:
 
 
 
Cash and cash equivalents
$
649,099

 
$
601,602

Short-term investments
95,819

 
3,037

Receivables, net of allowances of $110 and $0, respectively
123,206

 
136,772

Inventories
34,629

 
43,243

2015 Notes Hedges
287,079

 
215,113

Prepaid expenses and other
60,780

 
64,216

Total current assets
1,250,612

 
1,063,983

Property, plant and equipment, net of accumulated depreciation of $638,552 and $658,990, respectively
246,856

 
262,517

Goodwill
233,275

 
192,125

Acquired intangibles, net of accumulated amortization of $97,746 and $91,542, respectively
192,768

 
173,234

Long-term receivables
5,668

 
11,371

Other assets
59,335

 
58,039

Total Assets
$
1,988,514

 
$
1,761,269

LIABILITIES AND STOCKHOLDERS’ EQUITY
 
 
 
Current Liabilities:
 
 
 
Convertible notes
$
305,029

 
$
294,061

2015 Notes Embedded Conversion Derivative
287,079

 
215,113

Accounts payable and accrued liabilities
160,250

 
165,791

Current portion of deferred revenue
322,260

 
340,401

Total current liabilities
1,074,618

 
1,015,366

Long-Term Liabilities:
 
 
 
Long-term portion of deferred revenue
58,436

 
73,959

Convertible notes
136,594

 
131,920

Other long-term liabilities
130,478

 
128,894

Total long-term liabilities
325,508

 
334,773

Commitments and Contingencies (Note 12)

 

Stockholders’ Equity:
 
 
 
Common stock and capital in excess of par value
1,711,797

 
1,733,884

Treasury stock, at cost
(207,018
)
 
(290,462
)
Accumulated deficit
(962,515
)
 
(1,083,245
)
Accumulated other comprehensive income
46,124

 
50,953

Total stockholders’ equity
588,388

 
411,130

Total Liabilities and Stockholders’ Equity
$
1,988,514

 
$
1,761,269

See notes to condensed consolidated financial statements.

1
Table of Contents

CADENCE DESIGN SYSTEMS, INC.
CONDENSED CONSOLIDATED INCOME STATEMENTS
(In thousands, except per share amounts)
(Unaudited)
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
Revenue:
 
 
 
 
 
 
 
Product
$
216,561

 
$
163,966

 
$
614,886

 
$
463,723

Services
28,415

 
29,102

 
86,923

 
86,384

Maintenance
93,557

 
99,389

 
279,030

 
291,722

Total revenue
338,533

 
292,457

 
980,839

 
841,829

Costs and Expenses:
 
 
 
 
 
 
 
Cost of product
23,337

 
18,185

 
60,323

 
52,453

Cost of services
16,809

 
20,410

 
53,254

 
61,101

Cost of maintenance
11,124

 
11,223

 
33,756

 
32,837

Marketing and sales
82,461

 
79,914

 
246,674

 
235,292

Research and development
115,078

 
103,154

 
335,703

 
303,721

General and administrative
26,350

 
24,041

 
84,364

 
68,720

Amortization of acquired intangibles
3,876

 
3,786

 
11,305

 
12,750

Restructuring and other charges (credits)
57

 
(433
)
 
49

 
277

Total costs and expenses
279,092

 
260,280

 
825,428

 
767,151

Income from operations
59,441

 
32,177

 
155,411

 
74,678

Interest expense
(8,737
)
 
(10,830
)
 
(25,840
)
 
(32,584
)
Other income (expense), net
(131
)
 
7,244

 
5,972

 
20,107

Income before provision (benefit) for income taxes
50,573

 
28,591

 
135,543

 
62,201

Provision (benefit) for income taxes
(8,011
)
 
485

 
9,469

 
864

Net income
$
58,584

 
$
28,106

 
$
126,074

 
$
61,337

Net income per share – basic
$
0.22

 
$
0.11

 
$
0.47

 
$
0.23

Net income per share – diluted
$
0.21

 
$
0.10

 
$
0.45

 
$
0.23

Weighted average common shares outstanding – basic
271,350

 
264,723

 
269,643

 
263,149

Weighted average common shares outstanding – diluted
283,328

 
270,741

 
278,760

 
270,068










See notes to condensed consolidated financial statements.

2
Table of Contents

CADENCE DESIGN SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In thousands)
(Unaudited)
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
Net income
$
58,584

 
$
28,106

 
$
126,074

 
$
61,337

Other comprehensive income (loss), net of tax effects:
 
 
 
 
 
 
 
Foreign currency translation gain (loss)
1,025

 
26

 
(3,808
)
 
5,631

Changes in unrealized holding gains or losses on available-for-sale securities, net of reclassification adjustment for realized gains and losses
(120
)
 
(447
)
 
(1,141
)
 
(8,525
)
Changes in defined benefit plan liabilities
65

 
23

 
120

 
36

Total other comprehensive income (loss), net of tax effects
970

 
(398
)
 
(4,829
)
 
(2,858
)
Comprehensive income
$
59,554

 
$
27,708

 
$
121,245

 
$
58,479






































See notes to condensed consolidated financial statements.

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Table of Contents

CADENCE DESIGN SYSTEMS, INC.
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
(Unaudited)
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
Cash and Cash Equivalents at Beginning of Period
$
601,602

 
$
557,409

Cash Flows from Operating Activities:
 
 
 
Net income
126,074

 
61,337

Adjustments to reconcile net income to net cash provided by operating activities:
 
 
 
Depreciation and amortization
67,171

 
68,934

Amortization of debt discount and fees
17,480

 
22,068

Stock-based compensation
34,285

 
31,589

Gain on investments, net
(2,222
)
 
(19,220
)
Non-cash restructuring and other charges
188

 
202

Deferred income taxes
(14,107
)
 
(4,741
)
Provisions (recoveries) for losses (gains) on receivables, net
120

 
(6,596
)
Other non-cash items
3,270

 
3,689

Changes in operating assets and liabilities, net of effect of acquired businesses:
 
 
 
Receivables
24,276

 
63,729

Inventories
6,936

 
(9,767
)
Prepaid expenses and other
1,547

 
19,718

Other assets
(3,101
)
 
3,718

Accounts payable and accrued liabilities
(1,714
)
 
(71,832
)
Deferred revenue
(38,230
)
 
20,245

Other long-term liabilities
(1,855
)
 
(4,868
)
Net cash provided by operating activities
220,118

 
178,205

Cash Flows from Investing Activities:
 
 
 
Proceeds from the sale and maturity of available-for-sale securities
7,436

 
9,588

Purchases of available-for-sale securities
(101,248
)
 
—

Proceeds from the sale of long-term investments
44

 
4,824

Purchases of property, plant and equipment
(25,932
)
 
(17,703
)
Investment in venture capital partnerships and equity investments
(250
)
 
(608
)
Cash paid in business combinations and asset acquisitions, net of cash acquired
(66,432
)
 
(44,052
)
Net cash used for investing activities
(186,382
)
 
(47,951
)
Cash Flows from Financing Activities:
 
 
 
Principal payments on receivable sale financing
(2,907
)
 
(2,829
)
Tax effect related to employee stock transactions allocated to equity
5,790

 
2,897

Payment of acquisition-related contingent consideration
(39
)
 
—

Proceeds from issuance of common stock
28,755

 
16,994

Stock received for payment of employee taxes on vesting of restricted stock
(13,457
)
 
(9,926
)
Net cash provided by financing activities
18,142

 
7,136

Effect of exchange rate changes on cash and cash equivalents
(4,381
)
 
1,302

Increase in cash and cash equivalents
47,497

 
138,692

Cash and Cash Equivalents at End of Period
$
649,099

 
$
696,101









See notes to condensed consolidated financial statements.

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Table of Contents

CADENCE DESIGN SYSTEMS, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
NOTE 1. BASIS OF PRESENTATION
The Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q have been prepared by Cadence Design Systems, Inc., or Cadence, without audit, pursuant to the rules and regulations of the United States Securities and Exchange Commission, or the SEC. Certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with generally accepted accounting principles have been condensed or omitted pursuant to such rules and regulations. However, Cadence believes that the disclosures contained in this Quarterly Report on Form 10-Q comply with the requirements of Section 13(a) of the Securities Exchange Act of 1934, as amended, or the Exchange Act, for a Quarterly Report on Form 10-Q and are adequate to make the information presented not misleading. These Condensed Consolidated Financial Statements are meant to be, and should be, read in conjunction with the Consolidated Financial Statements and the Notes thereto included in Cadence’s Annual Report on Form 10-K for the fiscal year ended December 31, 2011. Certain prior period balances have been reclassified to conform to current period presentation.
The unaudited Condensed Consolidated Financial Statements included in this Quarterly Report on Form 10-Q reflect all adjustments (which include only normal, recurring adjustments and those items discussed in these Notes) that are, in the opinion of management, necessary to state fairly the results of operations, cash flows and financial position for the periods and dates presented. The results for such periods are not necessarily indicative of the results to be expected for the full fiscal year.
Preparation of the Condensed Consolidated Financial Statements in conformity with United States generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the Condensed Consolidated Financial Statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates.

NOTE 2. CONVERTIBLE NOTES
2015 Notes
In June 2010, Cadence issued $350.0 million principal amount of 2.625% Cash Convertible Senior Notes Due 2015, or the 2015 Notes. At maturity, the holders of the 2015 Notes will be entitled to receive the principal amount of the 2015 Notes plus accrued interest. The 2015 Notes are convertible into cash prior to maturity upon the occurrence of certain conditions described in the table below. If a holder of the 2015 Notes elects to convert its notes prior to maturity, the holder of the notes will be entitled to receive cash equal to the principal amount of the notes plus any additional conversion value as described in the table below under the heading “Conversion feature.”

Cadence entered into hedge transactions, or the 2015 Notes Hedges, in connection with the issuance of the 2015 Notes. The purpose of the 2015 Notes Hedges was to limit Cadence’s exposure to the additional cash payments above the principal amount of the 2015 Notes that may be due to the holders. As a result of the 2015 Notes Hedges, Cadence’s maximum expected cash exposure upon conversion of the 2015 Notes is the $350.0 million principal balance of the notes. In June 2010, Cadence also sold warrants in separate transactions, or the 2015 Warrants. As a result of the 2015 Warrants, Cadence will experience dilution to its diluted earnings per share if its average closing stock price exceeds $10.78 for any fiscal quarter. To the extent that Cadence’s stock price exceeds $10.78 at expiration of the 2015 Warrants, Cadence will issue shares to settle the 2015 Warrants.

5
Table of Contents

A summary of key terms of the 2015 Notes is as follows:
 
 
 
2015 Notes
 
 
(In thousands, except percentages)
 
 
Outstanding principal maturity value – at September 29, 2012
 
$350,000
 
 
Contractual interest rate
 
2.625%
 
 
Contractual maturity date
 
June 1, 2015
 
 
Initial conversion rate
 
132.5205 shares of common stock per $1,000 principal amount of notes, which is equivalent to a conversion price of approximately $7.55 per share of Cadence common stock.
 
 
Conversion feature (in addition to principal amount payable in cash)
 
Cash to the extent Cadence’s stock price exceeds approximately $7.55 per share, calculated based on the applicable conversion rate multiplied by the volume weighted average price of Cadence common stock over a specified period.
 
 
Early conversion conditions (or the Early Conversion Conditions)
 
• Closing stock price greater than $9.81 for at least 20 of the last 30 trading days in a fiscal quarter (convertible only for subsequent quarter).
 
• Specified corporate transactions.
 
• Note trading price falls below a calculated minimum.
 
 
Conversion immediately preceding maturity
 
From March 1, 2015 until the second trading day immediately preceding the maturity date, holders may convert their 2015 Notes at any time into cash as described above under “Conversion feature.”
 
 
Redemption at Cadence’s option prior to maturity
 
None.
 
 
 
Fundamental change put right
 
Upon certain fundamental corporate changes prior to maturity, the 2015 Note holders could require Cadence to repurchase their notes for cash equal to the principal amount of the notes plus accrued interest.
 
 
Make-whole premium
 
Upon certain fundamental changes prior to maturity, if Cadence’s stock price were between $6.16 and $40.00 per share at that time, the holders of the notes would be entitled to an increase to the conversion rate. This is referred to as a “make-whole premium.”
 
 
Financial covenants
 
None.
Impact of Early Conversion Conditions on Financial Statements
The 2015 Notes are convertible into cash from September 30, 2012 through December 29, 2012 because Cadence’s closing stock price exceeded $9.81 for at least 20 days in the 30-day period prior to September 29, 2012. Accordingly, the net balance of the 2015 Notes of $305.0 million is classified as a current liability on Cadence’s Condensed Consolidated Balance Sheet as of September 29, 2012. The classification of the 2015 Notes as current or long-term on the Condensed Consolidated Balance Sheet is evaluated at each balance sheet date and may change from time to time depending on whether Cadence’s closing stock price has exceeded $9.81 during the periods specified in the table above under “Early conversion conditions.”
If one of the 2015 Notes Early Conversion Conditions is met in any future fiscal quarter, Cadence would classify its net liability under the 2015 Notes as a current liability on the Condensed Consolidated Balance Sheet as of the end of that fiscal quarter. If none of the 2015 Notes Early Conversion Conditions have been met in a future fiscal quarter prior to the one-year period immediately preceding the maturity date, Cadence would classify its net liability under the 2015 Notes as a long-term liability on the Condensed Consolidated Balance Sheet as of the end of that fiscal quarter. If the note holders elect to convert their 2015 Notes prior to maturity, any unamortized discount and transaction fees will be expensed at the time of conversion. If the entire outstanding principal amount had been converted on September 29, 2012 Cadence would have recorded an expense of $51.2 million associated with the conversion, comprised of $45.0 million of unamortized debt discount and $6.2 million of unamortized transaction fees.

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As of September 29, 2012, the if-converted value of the 2015 Notes to the note holders of approximately $596.7 million exceeded the principal amount of $350.0 million. The fair value of the 2015 Notes was $620.3 million as of September 29, 2012 and $527.8 million as of December 31, 2011. The 2015 Notes currently trade at a premium to the if-converted value of the notes. As of September 29, 2012, none of the note holders had elected to convert their 2015 Notes.
2015 Notes Embedded Conversion Derivative
The conversion feature of the 2015 Notes, or the 2015 Notes Embedded Conversion Derivative, requires bifurcation from the 2015 Notes and is accounted for as a derivative liability. The fair value of the 2015 Notes Embedded Conversion Derivative at the time of issuance of the 2015 Notes was $76.6 million and was recorded as original debt discount for purposes of accounting for the debt component of the 2015 Notes. This discount is amortized as interest expense using the effective interest method over the term of the 2015 Notes. The 2015 Notes Embedded Conversion Derivative is carried on the Condensed Consolidated Balance Sheet at its estimated fair value. The fair value was $287.1 million as of September 29, 2012 and $215.1 million as of December 31, 2011.

2015 Notes Hedges
The 2015 Notes Hedges expire on June 1, 2015, and must be settled in cash. The aggregate cost of the 2015 Notes Hedges was $76.6 million. The 2015 Notes Hedges are accounted for as derivative assets and are carried on the Condensed Consolidated Balance Sheet at their estimated fair value. The fair value was $287.1 million as of September 29, 2012 and $215.1 million as of December 31, 2011. The 2015 Notes Embedded Conversion Derivative liability and the 2015 Notes Hedges asset are adjusted to fair value each reporting period and unrealized gains and losses are reflected in the Condensed Consolidated Income Statements. The 2015 Notes Embedded Conversion Derivative and the 2015 Notes Hedges are designed to have similar fair values. Accordingly, the changes in the fair values of these instruments offset during the three and nine months ended September 29, 2012 and October 1, 2011 and did not have a net impact on the Condensed Consolidated Income Statements for the respective periods.
The classification of the 2015 Notes Embedded Conversion Derivative liability and the 2015 Notes Hedges asset as current or long-term on the Condensed Consolidated Balance Sheet corresponds with the classification of the 2015 Notes, is evaluated at each balance sheet date and may change from time to time depending on whether the closing stock price early conversion condition is met for a particular quarter.
2015 Warrants
In June 2010, Cadence sold the 2015 Warrants in separate transactions for the purchase of up to approximately 46.4 million shares of Cadence’s common stock at a strike price of $10.78 per share, for total proceeds of $37.5 million, which was recorded as an increase in stockholders’ equity. The 2015 Warrants expire on various dates from September 2015 through December 2015 and must be settled in net shares of Cadence’s common stock. Therefore, upon expiration of the 2015 Warrants Cadence will issue shares of common stock to the purchasers of the 2015 Warrants that represent the value by which the price of the common stock exceeds the strike price stipulated within the particular warrant agreement.
Components of 2015 Notes
The components of the 2015 Notes as of September 29, 2012 and December 31, 2011 were as follows:
 
 
As of
 
September 29,
2012
 
December 31,
2011
 
(In thousands)
Principal amount
$
350,000

 
$
350,000

Unamortized debt discount
(44,971
)
 
(55,939
)
Liability component
$
305,029

 
$
294,061








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The effective interest rate and components of interest expense of the 2015 Notes for the three and nine months ended September 29, 2012 and October 1, 2011 were as follows:
     
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands, except percentages)
Effective interest rate
8.1
%
 
8.1
%
 
8.1
%
 
8.1
%
Contractual interest expense
$
2,289

 
$
2,289

 
$
6,867

 
$
6,867

Amortization of debt discount
$
3,737

 
$
3,453

 
$
10,968

 
$
10,166

2013 Notes and 2011 Notes
In December 2006, Cadence issued $250.0 million principal amount of 1.500% Convertible Senior Notes Due December 15, 2013, or the 2013 Notes. At the same time, Cadence issued $250.0 million principal amount of 1.375% Convertible Senior Notes Due December 15, 2011, or the 2011 Notes. During 2010, Cadence repurchased a portion of the 2011 Notes and the 2013 Notes. The 2011 Notes matured on December 15, 2011, at which time Cadence paid the remaining balance on the 2011 Notes in full. As of September 29, 2012, the remaining principal maturity value of the 2013 Notes was $144.5 million.
At maturity, the holders of the 2013 Notes will be entitled to receive the principal amount of the 2013 Notes plus accrued interest. The 2013 Notes are convertible into a combination of cash and shares of Cadence common stock upon the occurrence of certain conditions described in the table below. If a holder of the 2013 Notes elects to convert its notes prior to maturity, the holder of the notes will be entitled to receive cash for the principal amount of the notes plus shares for any additional conversion value as described in the table below under the heading “Conversion feature.” As of September 29, 2012, the 2013 Notes were not convertible.
Cadence entered into hedge transactions, or the 2013 Notes Hedges and the 2011 Notes Hedges, in connection with the issuance of the 2013 Notes and the 2011 Notes. The 2011 Notes Hedges expired unexercised on December 15, 2011. Pursuant to the 2013 Notes Hedges, Cadence has the option to receive the amount of shares that may be owed to the 2013 Notes holders. The purpose of the 2013 Notes Hedges was to limit Cadence’s exposure to the dilution that may result from the issuance of shares upon conversion of the notes. In December 2006, Cadence also sold warrants in separate transactions, or the 2013 Warrants and the 2011 Warrants. As a result of the 2013 Warrants, Cadence will experience dilution to its diluted earnings per share to the extent its average closing stock price exceeds $31.50 for any fiscal quarter. If Cadence’s stock price is above $31.50 at the expiration of the 2013 Warrants, Cadence will issue shares to settle the 2013 Warrants.

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A summary of key terms of the 2013 Notes is as follows: 
 
  
2013 Notes
 
  
(In thousands, except percentages)
 
 
Principal maturity value – at issuance
 
$250,000
 
 
 
Outstanding principal maturity value – at September 29, 2012
  
$144,461
 
 
Contractual interest rate
  
1.500%
 
 
Contractual maturity date
  
December 15, 2013
 
 
Initial conversion rate
  
47.2813 shares of common stock per $1,000 principal amount of notes, which is equivalent to a conversion price of approximately $21.15 per share of Cadence common stock.
 
 
Conversion feature (in addition to principal amount payable in cash)
  
Shares to the extent Cadence’s stock price exceeds $21.15 per share, calculated based on the applicable conversion rate multiplied by the volume weighted average price of Cadence common stock over a specified period.
 
 
Early conversion conditions (or the Early Conversion Conditions)
  
•  Closing stock price greater than $27.50 for at least 20 of the last 30 trading days in a calendar quarter (convertible only for subsequent quarter).
 
•  Specified corporate transactions.
 
•  Note trading price falls below calculated minimum.
 
 
Conversion immediately preceding maturity
  
From November 1, 2013, and until the trading day immediately preceding the maturity date, holders may convert their 2013 Notes at any time into cash and Cadence shares as described above under “Conversion feature.”
 
 
Redemption at Cadence’s option prior to maturity
  
None.
 
 
Fundamental change put right
  
Upon a fundamental change prior to maturity, the 2013 Note holders could require Cadence to repurchase their notes for cash equal to the principal amount of the notes plus accrued interest.
 
 
Make-whole premium
  
Upon certain fundamental changes, prior to maturity, if Cadence’s stock price were between $18.00 and $60.00 per share at that time, the holders of the notes would be entitled to an increase to the conversion rate. This is referred to as a “make-whole premium.”
 
 
Financial covenants
  
None.
Impact of Early Conversion Conditions on Financial Statements
As of September 29, 2012, none of the 2013 Notes Early Conversion Conditions had been met and the 2013 Notes are classified as a long-term liability on the Condensed Consolidated Balance Sheet. The classification of the 2013 Notes as a current or long-term liability on the Condensed Consolidated Balance Sheet is evaluated at each balance sheet date and may change from time to time, depending on whether the closing stock price early conversion condition is met for that particular quarter.

As of September 29, 2012, the if-converted value of the 2013 Notes to the note holders did not exceed the principal amount of the 2013 Notes. The total fair value of the 2013 Notes, including the equity component, was $144.4 million as of September 29, 2012 and was $142.3 million as of December 31, 2011.
2013 and 2011 Notes Hedges
The 2011 Notes Hedges expired unexercised on December 15, 2011. The 2013 Notes Hedges expire on December 15, 2013, and must be settled in net shares of Cadence common stock. Therefore, upon expiration of the 2013 Notes Hedges the counterparties will deliver shares of common stock to Cadence that represent the value, if any, by which the price of the common stock exceeds the price stipulated within the particular hedge agreement. The aggregate cost of the hedges entered into in connection with the 2011 Notes Hedges (which had similar conversion features as the 2013 Notes) and 2013 Notes Hedges was $119.8 million and

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was recorded as a reduction to stockholders’ equity. In connection with the purchase of a portion of the 2013 Notes and 2011 Notes in June 2010, and the purchase of a portion of the 2013 Notes in November 2010, Cadence also sold a portion of the 2013 Notes Hedges and the 2011 Notes Hedges representing options to purchase approximately 9.7 million shares of Cadence’s common stock for proceeds of $0.4 million. The estimated fair value of the remaining 2013 Notes Hedges was $1.0 million as of September 29, 2012 and $1.4 million as of December 31, 2011. Subsequent changes in the fair value of the 2013 Notes Hedges will not be recognized in the Condensed Consolidated Financial Statements as long as the instruments remain classified as equity.
2013 and 2011 Warrants
In December 2006, Cadence sold warrants in separate transactions, which consisted of the 2013 Warrants and the 2011 Warrants, for the purchase of up to 23.6 million shares of Cadence’s common stock at a strike price of $31.50 per share for proceeds of $39.4 million, which was recorded as an increase in stockholders’ equity. In connection with the purchase of some of the 2013 Notes and the 2011 Notes in June 2010 and November 2010, Cadence also purchased some of the 2013 Warrants and the 2011 Warrants, reducing the number of shares of Cadence common stock available for purchase by 9.7 million shares at a cost of $0.1 million. The 2011 Warrants expired on various dates from February 2012 through April 2012 and the 2013 Warrants will expire on various dates from February 2014 through April 2014. The 2013 Warrants must be settled in net shares of Cadence’s common stock. Therefore, upon expiration of the 2013 Warrants Cadence will issue shares of common stock to the purchasers of the warrants that represent the value, if any, by which the price of the common stock exceeds the strike price stipulated within the particular warrant agreement. During the nine months ended September 29, 2012 the 2011 Warrants expired, reducing the number of shares of Cadence common stock available for purchase by 7.1 million shares.
Components of the 2013 Notes
The components of the 2013 Notes as of September 29, 2012 and December 31, 2011 were as follows:
 
 
As of
 
September 29,
2012
 
December 31,
2011
 
(In thousands)
Equity component – included in common stock
$
63,027

 
$
63,027

Principal amount
$
144,461

 
$
144,461

Unamortized debt discount
(8,045
)
 
(12,719
)
Liability component
$
136,416

 
$
131,742


The effective interest rate and components of interest expense of the 2013 Notes for the three and nine months ended September 29, 2012, and of the 2013 Notes and 2011 Notes for the three and nine months ended October 1, 2011, were as follows:
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands, except percentages)
Effective interest rate
6.4
%
 
6.3
%
 
6.4
%
 
6.3
%
Contractual interest expense
$
540

 
$
1,053

 
$
1,619

 
$
3,161

Amortization of debt discount
$
1,588

 
$
3,275

 
$
4,674

 
$
9,684

Zero Coupon Zero Yield Senior Convertible Notes Due 2023
In August 2003, Cadence issued $420.0 million principal amount of its Zero Coupon Zero Yield Senior Convertible Notes Due 2023, or the 2023 Notes. As of September 29, 2012 and December 31, 2011, the remaining balance and the total fair value of the 2023 Notes was $0.2 million.


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NOTE 3. ACQUISITIONS AND ACQUISITION-RELATED CONTINGENT CONSIDERATION
Sigrity, Inc.
On July 2, 2012, Cadence acquired Sigrity, Inc., or Sigrity, a provider of signal and power integrity analysis tools for system, printed circuit board and integrated circuit package designs. Cadence is incorporating the Sigrity technology into its Allegro product offering. The goodwill associated with this acquisition resulted primarily from Cadence's expectation of synergies from the integration of Sigrity's product offerings with Cadence's product offerings, and is not deductible for income tax purposes. Comparative pro forma financial information for this acquisition has not been presented because the results of operations were not material to Cadence’s Condensed Consolidated Financial Statements.
Total cash consideration for Sigrity was $78.5 million (net of cash acquired of $7.5 million), of which $64.3 million was paid at closing, and $14.2 million was deferred and is conditioned upon certain Sigrity shareholders remaining employees of Cadence over designated retention periods. Cadence recorded expense of $1.8 million during the three months ended September 29, 2012 related to this deferred purchase consideration and will expense the remaining $12.4 million over the remaining retention periods.
The following table summarizes the assets acquired and liabilities assumed as part of the Sigrity acquisition:
 
 
(In thousands)
Cash and cash equivalents
 
$
7,490

Trade receivables
 
4,254

Property, plant and equipment
 
238

Other assets
 
1,004

Acquired intangibles:
 
 
Existing technology (four- to ten-year useful lives)
 
22,200

Agreements and relationships (three- to ten-year useful lives)
 
17,100

Tradenames and trademarks (nine-year useful lives)
 
1,300

Goodwill
 
39,680

Total assets acquired
 
$
93,266

Deferred revenue
 
(3,800
)
Other liabilities
 
(2,547
)
Long-term deferred tax liabilities
 
(15,079
)
Net assets acquired
 
$
71,840


Sigrity's assets and liabilities were recorded at their fair values on the date of acquisition. The fair values of Sigrity's intangible assets and deferred revenue were determined using significant inputs that are not observable in the market. For an additional description of these fair value calculations, see Note 7.

The deferred tax liabilities primarily related to the intangible assets acquired with Sigrity provided Cadence a future source of taxable income. Accordingly, Cadence released $14.8 million of its deferred tax asset valuation allowance, which was recognized as a benefit for income taxes during the three and nine months ended September 29, 2012.

Acquisition-related Contingent Consideration
For business combinations completed after January 3, 2009, contingent consideration is recorded at fair value on the acquisition date and adjusted to fair value at the end of each reporting period.
One of the fiscal 2011 acquisitions includes contingent consideration payments based on certain future financial measures associated with the acquired technology. This contingent consideration arrangement requires payments of up to $5.0 million if these measures are met during the three-year period subsequent to October 1, 2011. The fair value of the contingent consideration arrangement recorded on the date of the acquisition was $3.5 million. The fair value of the contingent consideration as of September 29, 2012 was $4.0 million.
Cadence may be obligated to make cash payments in connection with other business combinations and asset acquisitions, subject to the satisfaction of certain performance metrics. If performance is such that these payments are fully achieved, Cadence may be obligated to pay up to an aggregate of $18.8 million over the next 43 months. Of the $18.8 million, up to $12.5 million would be recorded as operating expenses in the Condensed Consolidated Income Statements.

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NOTE 4. GOODWILL AND ACQUIRED INTANGIBLES
Goodwill
Cadence completed its annual goodwill impairment test during the three months ended September 29, 2012 and determined that the fair value of Cadence's single reporting unit substantially exceeded the carrying amount of its net assets and that no impairment existed.
The changes in the carrying amount of goodwill during the nine months ended September 29, 2012 were as follows:
 
 
Gross Carrying
Amount
 
(In thousands)
Balance as of December 31, 2011
$
192,125

Goodwill resulting from acquisitions
39,680

Additions due to contingent consideration*
1,041

Effect of foreign currency translation
429

Balance as of September 29, 2012
$
233,275

_________
* Cadence accounts for business combinations with acquisition dates on or before January 3, 2009 under the purchase method in accordance with accounting standards that were authoritative at that time, whereby contingent consideration is added to goodwill as it is earned.

Acquired Intangibles, Net
Acquired intangibles with finite lives as of September 29, 2012 were as follows, excluding intangibles that were fully amortized as of December 31, 2011:
 
 
Gross Carrying
Amount
 
Accumulated
Amortization
 
Acquired
Intangibles, Net
 
(In thousands)
Existing technology
$
112,947

 
$
(26,561
)
 
$
86,386

Agreements and relationships
134,982

 
(35,705
)
 
99,277

Distribution rights
30,100

 
(27,843
)
 
2,257

Tradenames, trademarks and patents
12,485

 
(7,637
)
 
4,848

Total acquired intangibles
$
290,514

 
$
(97,746
)
 
$
192,768


Acquired intangibles with finite lives as of December 31, 2011 were as follows, excluding intangibles that were fully amortized as of January 1, 2011:
 
 
Gross Carrying
Amount
 
Accumulated
Amortization
 
Acquired
Intangibles, Net
 
(In thousands)
Existing technology
$
90,433

 
$
(17,119
)
 
$
73,314

Agreements and relationships
118,060

 
(27,123
)
 
90,937

Distribution rights
30,100

 
(25,585
)
 
4,515

Tradenames, trademarks and patents
26,183

 
(21,715
)
 
4,468

Total acquired intangibles
$
264,776

 
$
(91,542
)
 
$
173,234



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Amortization of acquired intangibles for the three and nine months ended September 29, 2012 and October 1, 2011 was as follows:
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands)
Cost of product
$
3,605

 
$
2,906

 
$
9,395

 
$
7,585

Cost of maintenance
269

 
—

 
269

 
—

Amortization of acquired intangibles
3,876

 
3,786

 
11,305

 
12,750

Total amortization of acquired intangibles
$
7,750

 
$
6,692

 
$
20,969

 
$
20,335

Amortization expense from existing technology intangible assets is included in cost of product and amortization expense from a maintenance agreement intangible asset is included in cost of maintenance.
Estimated amortization expense for the following five fiscal years and thereafter is as follows:
 
 
(In thousands)
2012 – remaining period
$
7,764

2013
27,976

2014
25,178

2015
24,831

2016
24,309

Thereafter
82,710

Total estimated amortization expense
$
192,768


NOTE 5. RESTRUCTURING AND OTHER CHARGES
Cadence has initiated various restructuring plans in the past in an effort to operate more efficiently. These restructuring plans were primarily comprised of severance and termination costs related to headcount reductions and facility-related lease loss charges. As of September 29, 2012, all severance and termination benefits have been paid.
The following table presents activity for Cadence’s restructuring plans for the three months ended September 29, 2012:
 
 
Excess
Facilities
 
 
Balance, June 30, 2012
$
4,512

Restructuring and other charges, net
57

Cash payments
(176
)
Effect of foreign currency translation
99

Balance, September 29, 2012
$
4,492


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The following table presents activity for Cadence’s restructuring plans for the nine months ended September 29, 2012:
 
 
Severance
and
Benefits
 
Excess
Facilities
 
Other
 
Total
 
(In thousands)
Balance, December 31, 2011
$
46

 
$
4,976

 
$
5

 
$
5,027

Restructuring and other charges (credits), net
(29
)
 
83

 
(5
)
 
49

Cash payments
(17
)
 
(636
)
 
—

 
(653
)
Effect of foreign currency translation
—

 
69

 
—

 
69

Balance, September 29, 2012
$
—

 
$
4,492

 
$
—

 
$
4,492



NOTE 6. RECEIVABLES AND ALLOWANCES FOR DOUBTFUL ACCOUNTS
Cadence’s current and long-term receivables balances as of September 29, 2012 and December 31, 2011 were as follows:
 
 
As of
 
September 29,
2012
 
December 31,
2011
 
(In thousands)
Accounts receivable
$
96,216

 
$
99,686

Installment contract receivables, short-term
27,100

 
37,086

Long-term receivables
5,668

 
11,371

Total receivables
$
128,984

 
$
148,143

Less allowance for doubtful accounts
(110
)
 
—

Total receivables, net
$
128,874

 
$
148,143

Cadence’s customers are primarily concentrated within the semiconductor, electronics systems and consumer electronics industries. As of September 29, 2012, one customer accounted for 10% of Cadence’s total receivables and as of December 31, 2011, no single customer accounted for more than 10% of Cadence’s total receivables. As of September 29, 2012, approximately 55% of Cadence’s total receivables were attributable to the ten customers with the largest balances of total receivables. As of December 31, 2011, approximately 45% of Cadence’s total receivables were attributable to the ten customers with the largest balances of total receivables.
The following table presents the change in Cadence's allowance for doubtful accounts for the nine months ended September 29, 2012:
 
Balance at Beginning of Period
 
Charged to Costs and Expenses
 
Uncollectible Accounts Written Off, Net
 
Balance at End of Period
Allowance for doubtful accounts
$
—

 
$
(120
)
 
$
10

 
$
(110
)

NOTE 7. FAIR VALUE
Inputs to valuation techniques are observable or unobservable. Observable inputs reflect market data obtained from independent sources, while unobservable inputs reflect Cadence’s market assumptions. These two types of inputs have created the following fair-value hierarchy:
•
Level 1 – Quoted prices for identical instruments in active markets;
•
Level 2 – Quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-derived valuations in which all significant inputs and significant value drivers are observable in active markets; and

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Table of Contents

•
Level 3 – Valuations derived from valuation techniques in which one or more significant inputs or significant value drivers are unobservable.
This hierarchy requires Cadence to minimize the use of unobservable inputs and to use observable market data, if available, when determining fair value. Cadence recognizes transfers between levels of the hierarchy based on the fair values of the respective financial instruments at the end of the reporting period in which the transfer occurred. There were no transfers between levels of the fair value hierarchy during the three and nine months ended September 29, 2012.
The fair values of Cadence’s 2013 Notes and 2015 Notes, which differ from their carrying values, are influenced by interest rates and Cadence’s stock price and stock price volatility and are determined by prices for the 2013 Notes and 2015 Notes observed in market trading, which are level 2 inputs.

On a quarterly basis, Cadence measures at fair value certain financial assets and liabilities. The fair value of financial assets and liabilities was determined using the following levels of inputs as of September 29, 2012 and December 31, 2011:
 
 
Fair Value Measurements as of September 29, 2012:
  
Total
 
Level 1
 
Level 2
 
Level 3
 
(In thousands)
Assets
 
Cash equivalents:
 
 
 
 
 
 
 
Money market funds
$
484,465

 
$
484,465

 
$
—

 
$
—

United States Treasury securities
3,975

 
3,975

 
—

 
—

Bank certificates of deposit
1,000

 
—

 
1,000

 
—

Corporate debt securities
501

 
—

 
501

 
—

Commercial paper
500

 
—

 
500

 
—

Short-term investments:

 
 
 
 
 
 
Corporate debt securities
32,613

 
—

 
32,613

 
—

Bank certificates of deposit
28,522

 
—

 
28,522

 
—

United States Treasury securities
21,460

 
21,460

 
—

 
—

United States government agency securities
8,235

 
8,235

 
—

 
—

Commercial paper
2,988

 
—

 
2,988

 
—

Marketable equity securities
2,001

 
2,001

 
—

 
—

Trading securities held in Non-Qualified Deferred Compensation Plan, or NQDC
23,561

 
23,561

 
—

 
—

2015 Notes Hedges
287,079

 
—

 
287,079

 
—

Foreign currency exchange contracts
778

 
—

 
778

 
—

Total Assets
$
897,678

 
$
543,697

 
$
353,981

 
$
—

 
 
 
 
 
 
 
 
  
Total
 
Level 1
 
Level 2
 
Level 3
 
(In thousands)
Liabilities
 
Acquisition-related contingent consideration
$
4,108

 
$
—

 
$
—

 
$
4,108

2015 Notes Embedded Conversion Derivative
287,079

 
—

 
287,079

 
—

Total Liabilities
$
291,187

 
$
—

 
$
287,079

 
$
4,108

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 

15
Table of Contents

 
 
 
 
 
 
 
 
 
Fair Value Measurements as of December 31, 2011:
  
Total
 
Level 1
 
Level 2
 
Level 3
 
(In thousands)
Assets
 
Cash equivalents – money market funds
$
484,102

 
$
484,102

 
$
—

 
$
—

Short-term investments:
 
 
 
 
 
 
 
Marketable equity securities
3,037

 
3,037

 
—

 
—

Trading securities held in NQDC
24,058

 
24,058

 
—

 
—

2015 Notes Hedges
215,113

 
—

 
215,113

 
—

Foreign currency exchange contracts
200

 
—

 
200

 
—

Total Assets
$
726,510

 
$
511,197

 
$
215,313

 
$
—

 
 
 
 
 
 
 
 
  
Total
 
Level 1
 
Level 2
 
Level 3
 
(In thousands)
Liabilities
 
Acquisition-related contingent consideration
$
3,911

 
$
—

 
$
—

 
$
3,911

2015 Notes Embedded Conversion Derivative
215,113

 
—

 
215,113

 
—

Total Liabilities
$
219,024

 
$
—

 
$
215,113

 
$
3,911


Level 1 Measurements
Cadence’s cash equivalents held in money market funds, available-for-sale United States Treasury securities, United States government agency securities, equity securities and the trading securities held in Cadence’s NQDC trust are measured at fair value using level 1 inputs.
Level 2 Measurements
The 2015 Notes Hedges and the 2015 Notes Embedded Conversion Derivative are measured at fair value using level 1 and level 2 inputs. These instruments are not actively traded and are valued using an option pricing model that uses observable market data for all inputs, such as implied volatility of Cadence’s common stock, risk-free interest rate and other factors. Cadence’s available-for-sale corporate debt securities, bank certificates of deposit and commercial paper are measured at fair value using level 2 inputs. Cadence obtains the fair values of its level 2 available-for-sale securities from a professional pricing service and validates the fair values by assessing the pricing methods and inputs and by comparing the fair values to another independent source.
Cadence’s foreign currency exchange contracts are measured at fair value using observable foreign currency exchange rates.
Level 3 Measurements
The liabilities included in level 3 represent the fair value of contingent consideration associated with certain of Cadence’s 2011 and 2010 acquisitions. Cadence makes estimates regarding the fair value of contingent consideration liabilities on the acquisition date and at the end of each reporting period until the contingency is resolved. The fair value of these arrangements is determined by calculating the net present value of the expected payments using significant inputs that are not observable in the market, including revenue projections and discount rates consistent with the level of risk of achievement. The fair value of these contingent consideration arrangements is affected most significantly by the changes in the revenue projections, but is also impacted by the discount rate used to adjust the outcomes to their present values. If the revenue projections increase or decrease, the fair value of the contingent consideration will increase or decrease accordingly, in amounts that will vary based on the timing of the projected revenues, the timing of the expected payments and the discount rate used to calculate the present value of the expected payments. Cadence used discount rates ranging from 11% to 16% to value its contingent consideration liabilities as of September 29, 2012 and December 31, 2011. Cadence believes that its estimates and assumptions are reasonable, but significant judgment is involved.
Changes in the fair value of contingent consideration liabilities subsequent to the acquisition are recorded in general and administrative expense in the Condensed Consolidated Income Statements. For an additional description of the related business combinations, see Note 3.

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Table of Contents

The following table summarizes the level 3 activity for the nine months ended September 29, 2012:
 
 
(In thousands)
Balance as of December 31, 2011
$
3,911

Payments
(39
)
Adjustments
236

Balance as of September 29, 2012
$
4,108


Cadence acquired intangible assets of $40.6 million in connection with its acquisition of Sigrity during the three months ended September 29, 2012. The fair value of the intangible assets acquired was determined using the income approach and using level 3 inputs. Key assumptions include the level and timing of expected future cash flows, conditions and demands specific to electronic design automation software development, discount rates consistent with the level of risk and the economy in general. The fair value of these intangible assets is affected most significantly by the projected income associated with the intangible assets and the timing of the projected income, but is also impacted by the discount rate used to adjust the outcomes to their present values. If the income projections increase or decrease, the fair value of the intangible assets would increase or decrease accordingly, in amounts that will vary based on the timing of the projected income and the discount rate used to calculate the present value of the expected income. Cadence used discount rates ranging from 11% to 12% to value the intangible assets acquired with Sigrity.

As part of the Sigrity acquisition, Cadence also assumed an obligation related to deferred revenue of $3.8 million, which was estimated using the cost build-up approach. The cost build-up approach determines fair value using estimates of the costs required to provide the contracted deliverables plus an assumed profit of 25%. The total costs including the assumed profit were adjusted to present value using a discount rate of approximately 3%. The resulting fair value approximates the amount that Cadence would be required to pay a third party to assume the obligation. The fair value of the deferred revenue obligation is affected most significantly by the estimated costs required to support the obligation, but is also affected by the assumed profit and the discount rate.

Cadence believes that its estimates and assumptions related to the fair value of its acquired intangible assets and deferred revenue obligations are reasonable, but significant judgment is involved. For an additional description of the Sigrity acquisition, see Note 3.


NOTE 8. CASH, CASH EQUIVALENTS AND INVESTMENTS
Cadence's cash, cash equivalents and short-term investments at fair value as of September 29, 2012 and December 31, 2011 were as follows:
 
As of
 
September 29, 2012
 
December 31, 2011
 
(In thousands)
Cash and cash equivalents
$
649,099

 
$
601,602

Short-term investments
95,819

 
3,037

Cash, cash equivalents and short-term investments
$
744,918

 
$
604,639


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Table of Contents

Cash and Cash Equivalents
Cadence considers all highly liquid investments with original maturities of three months or less on the date of purchase to be cash equivalents. The following table summarizes Cadence’s cash and cash equivalents at fair value as of September 29, 2012 and December 31, 2011:
 
 
As of
 
September 29,
2012
 
December 31,
2011
 
(In thousands)
Cash and interest bearing deposits
$
158,658

 
$
117,500

Money market funds
484,465

 
484,102

United States Treasury securities
3,975

 
—

Bank certificates of deposit
1,000

 
—

Corporate debt securities
501

 
—

Commercial paper
500

 
—

Total cash and cash equivalents
$
649,099

 
$
601,602

The amortized cost of Cadence's cash equivalents approximates fair value.
Short-Term Investments
Cadence’s short-term investments include marketable debt securities with original maturities greater than three months on the date of purchase and marketable equity securities. Cadence considers its entire portfolio of marketable debt and equity securities to be available for sale and available to fund current operations. Available-for-sale debt securities are carried at fair value, with the unrealized gains and losses presented net of tax as a separate component of other comprehensive income. Unrealized and realized gains and losses are determined using the specific identification method.
Cadence recognizes gains on its available-for-sale securities when they are realized. Cadence recognizes losses on its available-for-sale securities when they are realized or when Cadence has determined that an other-than-temporary decline in fair value has occurred. For an available-for-sale debt security, an other-than-temporary decline in fair value has occurred when the security’s fair value is less than its amortized cost basis and Cadence intends to sell the security, or it is more likely than not that Cadence will be required to sell the security, before recovery of its amortized cost basis. Cadence records realized gains, realized losses and other-than-temporary impairments as part of other income (expense), net in the Condensed Consolidated Income Statements.
The following tables summarize Cadence’s short-term investments as of September 29, 2012 and December 31, 2011:
 
 
As of September 29, 2012
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
 
(In thousands)
Corporate debt securities
$
32,551

 
$
63

 
$
(1
)
 
$
32,613

Bank certificates of deposit
28,506

 
17

 
(1
)
 
28,522

United States Treasury securities
21,436

 
24

 
—

 
21,460

United States government agency securities
8,222

 
13

 
—

 
8,235

Commercial paper
2,986

 
2

 
—

 
2,988

Marketable equity securities
1,823

 
178

 
—

 
2,001

Total short-term investments
$
95,524

 
$
297

 
$
(2
)
 
$
95,819



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As of December 31, 2011
 
Amortized
Cost
 
Gross
Unrealized
Gains
 
Gross
Unrealized
Losses
 
Fair
Value
 
(In thousands)
Marketable equity securities
$
1,830

 
$
1,207

 
$
—

 
$
3,037

Total short-term investments
$
1,830

 
$
1,207

 
$
—

 
$
3,037


Cadence purchased its investments in marketable debt securities during the three months ended June 30, 2012 and the three months ended September 29, 2012. As of September 29, 2012, any security Cadence held with an unrealized loss had been held for less than six months.
The amortized cost and estimated fair value of marketable debt securities included in short-term investments as of September 29, 2012, by contractual maturity, are shown in the table below. Actual maturities may differ from contractual maturities because issuers may have the right to call or prepay obligations without call or prepayment penalties.
 
 
Amortized
Cost
 
Fair
Value
 
(In thousands)
Due in less than one year
$
56,437

 
$
56,485

Due in one to three years
37,264

 
37,333

Total marketable debt securities included in short-term investments
$
93,701

 
$
93,818

Realized gains from the sale of marketable debt and equity securities during three and nine months ended September 29, 2012 and October 1, 2011 were as follows:
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands)
 
(In thousands)
Gains on sale of marketable debt and equity securities
$
8

 
$
—

 
$
125

 
$
8,052


Amortization of premium or discount related to Cadence’s marketable debt securities for the three and nine months ended September 29, 2012 and October 1, 2011 was as follows:
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands)
 
(In thousands)
Amortization of premium (discount)
$
251

 
$
—

 
$
271

 
$
—

Non-Marketable Investments
Cadence’s non-marketable investments generally consist of voting preferred stock or convertible debt of privately-held companies and are included in other assets on Cadence’s Condensed Consolidated Balance Sheets. If Cadence determines that it has the ability to exercise significant influence over the issuer, which may include considering whether the investments are in-substance common stock, the investment is accounted for using the equity method.

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Cadence’s non-marketable investments as of September 29, 2012 and December 31, 2011 were as follows:
 
 
As of
 
September 29,
2012
 
December 31,
2011
 
(In thousands)
Cost method
$
5,054

 
$
6,157

Equity method
4,283

 
4,303

Total non-marketable investments
$
9,337

 
$
10,460

Net realized gains on the sale of non-marketable investments during the three and nine months ended September 29, 2012 and October 1, 2011 were as follows:

 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands)
 
(In thousands)
Gains on sale of non-marketable investments
$
—

 
$
5,379

 
$
—

 
$
8,108


NOTE 9. NET INCOME PER SHARE
Basic net income per share is computed by dividing net income during the period by the weighted average number of shares of common stock outstanding during that period, less unvested restricted stock awards. Diluted net income per share is impacted by equity instruments considered to be potential common shares, if dilutive, computed using the treasury stock method of accounting.

The calculations for basic and diluted net income per share for the three and nine months ended September 29, 2012, and October 1, 2011, are as follows:
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands, except per share amounts)
Net income
$
58,584

 
$
28,106

 
$
126,074

 
$
61,337

Weighted average common shares used to calculate basic net income per share
271,350

 
264,723

 
269,643

 
263,149

2023 Notes
11

 
11

 
11

 
11

2015 Warrants
6,286

 
—

 
3,148

 
—

Stock-based compensation
5,681

 
6,007

 
5,958

 
6,908

Weighted average common shares used to calculate diluted net income per share
283,328

 
270,741

 
278,760

 
270,068

Net income per share - basic
$
0.22

 
$
0.11

 
$
0.47

 
$
0.23

Net income per share - diluted
$
0.21

 
$
0.10

 
$
0.45

 
$
0.23


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The following table presents shares of Cadence’s common stock outstanding for the three and nine months ended September 29, 2012, and October 1, 2011, that were excluded from the computation of diluted net income per share because the effect of including these shares in the computation of diluted net income per share would have been anti-dilutive:
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands)
2015 Warrants (various expiration dates through 2015)
—

 
46,382

 
—

 
46,382

2011 Warrants and 2013 Warrants (various expiration dates through 2014)
6,830

 
17,916

 
6,830

 
18,194

Options to purchase shares of common stock (various expiration dates through 2022)
10,003

 
14,184

 
12,767

 
14,184

Non-vested shares of restricted stock
10

 
2,805

 
82

 
21

Total potential common shares excluded
16,843

 
81,287

 
19,679

 
78,781


NOTE 10. ACCUMULATED DEFICIT
The changes in accumulated deficit for the three and nine months ended September 29, 2012 were as follows:
 
 
Three Months
Ended
 
(In thousands)
Balance as of June 30, 2012
$
(1,018,190
)
Net income
58,584

Reissuance of treasury stock
(2,909
)
Balance as of September 29, 2012
$
(962,515
)
 
 
Nine Months
Ended
 
(In thousands)
Balance as of December 31, 2011
$
(1,083,245
)
Net income
126,074

Reissuance of treasury stock
(5,344
)
Balance as of September 29, 2012
$
(962,515
)

NOTE 11. OTHER COMPREHENSIVE INCOME
Cadence’s other comprehensive income is comprised of foreign currency translation gains and losses, changes in unrealized holding gains and losses on available-for-sale securities net of reclassifications for realized gains and losses and changes in defined benefit plan liabilities as presented in Cadence’s Condensed Consolidated Statements of Comprehensive Income.

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Changes in unrealized holding gains or losses on available-for-sale securities include the following for the three and nine months ended September 29, 2012, and October 1, 2011:
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands)
Unrealized holding gains or losses
$
(112
)
 
$
(447
)
 
$
(1,018
)
 
$
(481
)
Reclassification of unrealized holding gains or losses to other income (expense), net
(8
)
 
—

 
(123
)
 
(8,044
)
Changes in unrealized holding gains
or losses
$
(120
)
 
$
(447
)
 
$
(1,141
)
 
$
(8,525
)
Accumulated other comprehensive income was comprised of the following as of September 29, 2012, and December 31, 2011:
 
 
September 29,
2012
 
December 31,
2011
 
(In thousands)
Foreign currency translation gain
$
50,182

 
$
53,990

Changes in defined benefit plan liabilities
(4,348
)
 
(4,468
)
Unrealized holding gains on available-for-sale securities
290

 
1,431

Total accumulated other comprehensive income
$
46,124

 
$
50,953


NOTE 12. CONTINGENCIES
Legal Proceedings
From time to time, Cadence is involved in various disputes and litigation that arise in the ordinary course of business. These include disputes and lawsuits related to intellectual property, indemnification obligations, mergers and acquisitions, licensing, contracts, distribution arrangements and employee relations matters. At least quarterly, Cadence reviews the status of each significant matter and assesses its potential financial exposure. If the potential loss from any claim or legal proceeding is considered probable and the amount or the range of loss can be estimated, Cadence accrues a liability for the estimated loss. Legal proceedings are subject to uncertainties, and the outcomes are difficult to predict. Because of such uncertainties, accruals are based on Cadence’s judgments using the best information available at the time. As additional information becomes available, Cadence reassesses the potential liability related to pending claims and litigation matters and may revise estimates.
Other Contingencies
Cadence provides its customers with a warranty on sales of hardware products, generally for a 90-day period. Cadence did not incur any significant costs related to warranty obligations during the three and nine months ended September 29, 2012, or October 1, 2011.
Cadence’s product license and services agreements typically include a limited indemnification provision for claims from third parties relating to Cadence’s intellectual property. If the potential loss from any indemnification claim is considered probable and the amount or the range of loss can be estimated, Cadence accrues a liability for the estimated loss. The indemnification is generally limited to the amount paid by the customer. Cadence did not incur any significant losses from indemnification claims during the three and nine months ended September 29, 2012, or October 1, 2011.


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NOTE 13. STATEMENT OF CASH FLOWS
The supplemental cash flow information for the nine months ended September 29, 2012, and October 1, 2011, is as follows:
 
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
(In thousands)
Cash Paid During the Period for:
 
 
 
Interest
$
5,677

 
$
6,708

Income taxes, including foreign withholding tax
$
12,481

 
$
13,304

Non-cash Investing and Financing Activities:
 
 
 
Stock options assumed for acquisition
$
—

 
$
1,600

Available-for-sale securities received from customer
$
20

 
$
312

Receivables related to sales of cost-method investments
$
—

 
$
4,858


NOTE 14. OTHER INCOME (EXPENSE), NET
Cadence’s other income (expense), net, for the three and nine months ended September 29, 2012, and October 1, 2011, was as follows:
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands)
Interest income
$
650

 
$
318

 
$
1,295

 
$
1,015

Amortization of premium or discount on marketable debt securities
(251
)
 
—

 
(271
)
 
—

Gains on sale of marketable debt and equity securities, net
8

 
—

 
123

 
8,044

Gains on sale of non-marketable equity investments
—

 
5,379

 
—

 
8,108

Gains (losses) on securities in Cadence’s NQDC
(839
)
 
204

 
3,237

 
3,116

Gains (losses) on foreign exchange
1,376

 
1,259

 
2,546

 
(466
)
Equity losses from non-marketable investments
(34
)
 
(39
)
 
(34
)
 
(104
)
Write-down of non-marketable investments
(1,081
)
 
—

 
(1,103
)
 
—

Other income, net
40

 
123

 
179

 
394

Total other income (expense), net
$
(131
)
 
$
7,244

 
$
5,972

 
$
20,107


NOTE 15. SEGMENT REPORTING
Segment reporting is based on the “management approach,” following the method that management organizes the company’s reportable segments for which separate financial information is made available to, and evaluated regularly by, the chief operating decision maker in allocating resources and in assessing performance. Cadence’s chief operating decision maker is its President and Chief Executive Officer, or CEO, who reviews Cadence’s consolidated results as one reportable segment. In making operating decisions, the CEO primarily considers consolidated financial information, accompanied by disaggregated information about revenues by geographic region.
Outside the United States, Cadence markets and supports its products and services primarily through its subsidiaries. Revenue is attributed to geography based upon the country in which the product is used or services are delivered. Long-lived assets are attributed to geography based on the country where the assets are located.


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The following table presents a summary of revenue by geography for the three and nine months ended September 29, 2012 and October 1, 2011:
 
 
Three Months Ended
 
Nine Months Ended
 
September 29,
2012
 
October 1,
2011
 
September 29,
2012
 
October 1,
2011
 
(In thousands)
Americas:
 
 
 
 
 
 
 
United States
$
141,509

 
$
123,808

 
$
414,888

 
$
360,018

Other Americas
4,733

 
6,116

 
18,659

 
19,457

Total Americas
146,242

 
129,924

 
433,547

 
379,475

Europe, Middle East and Africa
66,392

 
61,643

 
191,097

 
174,377

Japan
58,757

 
50,989

 
168,856

 
150,348

Asia
67,142

 
49,901

 
187,339

 
137,629

Total
$
338,533

 
$
292,457

 
$
980,839

 
$
841,829

The following table presents a summary of long-lived assets by geography as of September 29, 2012 and December 31, 2011: 
 
As of
 
September 29,
2012
 
December 31,
2011
 
(In thousands)
Americas:
 
 
 
United States
$
215,656

 
$
230,884

Other Americas
84

 
35

Total Americas
215,740

 
230,919

Europe, Middle East and Africa
5,081

 
4,813

Japan
2,247

 
3,960

Asia
23,788

 
22,825

Total
$
246,856

 
$
262,517


Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion should be read in conjunction with the Condensed Consolidated Financial Statements and notes thereto included in this Quarterly Report on Form 10-Q, or this Quarterly Report, and in conjunction with our Annual Report on Form 10-K for the fiscal year ended December 31, 2011. Certain of these statements, including, but not limited to, statements regarding the extent and timing of future revenues and expenses and customer demand, statements regarding the deployment of our products, statements regarding our reliance on third parties and other statements using words such as “anticipates,” “believes,” “could,” “estimates,” “expects,” “forecasts,” “intends,” “may,” “plans,” “projects,” “should,” “will” and “would,” and words of similar import and the negatives thereof, constitute forward-looking statements. These statements are predictions based upon our current expectations about future events. Actual results could vary materially as a result of certain factors, including, but not limited to, those expressed in these statements. We refer you to the “Risk Factors,” “Results of Operations,” “Disclosures About Market Risk,” and “Liquidity and Capital Resources” sections contained in this Quarterly Report, and the risks discussed in our other Securities Exchange Commission, or SEC, filings, which identify important risks and uncertainties that could cause actual results to differ materially from those contained in the forward-looking statements.
We urge you to consider these factors carefully in evaluating the forward-looking statements contained in this Quarterly Report. All subsequent written or oral forward-looking statements attributable to our company or persons acting on our behalf are expressly qualified in their entirety by these cautionary statements. The forward-looking statements included in this Quarterly Report are made only as of the date of this Quarterly Report. We do not intend, and undertake no obligation, to update these forward-looking statements.

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Overview
We develop software, hardware and intellectual property which are used by semiconductor and electronic system customers to develop and design integrated circuits and electronic devices. We license our software, and two categories of intellectual property, or IP, commonly referred to as verification IP, or VIP, and Design IP. In addition, we sell and lease hardware technology. We provide maintenance for our product offerings and provide engineering services related to methodology, education, and hosted design solutions which help customers manage and accelerate their electronics product development processes.
Substantially all of our revenue is generated from integrated circuit, or IC, and electronics systems manufacturers and designers and is dependent upon their commencement of new design projects. As a result, our revenue is significantly influenced by our customers’ business outlook and investment in the introduction of new products and the improvement of existing products.
In order to be competitive and profitable in the price-sensitive markets they serve, our customers demand high levels of productivity from their design teams, better predictability in their development schedules and high quality products. Semiconductor and electronics systems companies are responding to demand for increased functionality and miniaturization by combining subsystems – such as radio frequency, or RF, wireless communication, video signal processing and microprocessors – either onto a single silicon chip, creating a system-on-chip, or SoC, or by combining multiple chips into a single chip package in a format referred to as system-in-package, or SiP. The trend toward subsystem integration has required these chip makers to find solutions to challenges previously addressed by system companies, such as verifying system-level functionality and hardware-software interoperability.
Our offerings address many of the challenges associated with developing unique silicon circuitry, integrating that circuitry with Design IP developed by us or third parties to create SoCs, and combining ICs and SoCs with software to create electronic systems. We provide our customers with the ability to address the broad range of issues that arise at the silicon, SoC and system levels.
The most significant issues that our customers face in creating their products include optimizing energy consumption, manufacturing microscopic circuitry, verifying device functionality and achieving technical performance targets, all while meeting aggressive cost requirements. Our semiconductor and systems customers deliver a wide range of products in segments such as smart phones, tablets, televisions, communications and internet infrastructure, and computing platforms. Providers of EDA solutions must deliver products that address the technical challenges while improving the productivity, predictability, reliability and profitability of the design processes and products of their customers.
Our products are engineered to improve our customers’ design productivity and design quality by providing a comprehensive set of EDA solutions and a differentiated portfolio of Design IP and VIP. Product revenues include all fees earned from granting licenses to use our software and IP, and from sales and leases of our hardware products.
We combine our products and technologies into categories related to major design activities:
•
Digital IC Design;
•
Functional Verification and Design IP;
•
Custom IC Design;
•
Design for Manufacturing, or DFM; and
•
System Interconnect Design.
The major Cadence® design platforms are branded as Incisive® functional verification, Encounter® digital IC design, Virtuoso® custom design and Allegro® system interconnect design. Our functional verification offerings include VIP products and are supplemented by our Design IP offerings. In addition, we augment these platform product offerings with a set of DFM products that service both the digital and custom IC design flows. On July 2, 2012, we acquired Sigrity, Inc., or Sigrity, a provider of signal and power integrity analysis tools for system, printed circuit board and IC package design. We are incorporating the Sigrity technology into our Allegro product offering. We also offer the Sigrity technology on a stand-alone basis.
The products and technologies included in these categories are combined with services, ready-to-use packages of technologies assembled from our broad portfolio and other associated components that provide comprehensive solutions for low power, mixed signal and advanced-node designs, as well as popular designs based on intellectual property owned and licensed by ARM Holdings, Plc. These solutions and their constituent elements are marketed to users who specialize in areas such as system design and verification, functional verification, logic design, digital implementation, custom IC design and printed circuit board, or PCB, and IC package and SiP design. We have identified certain items that management uses as performance indicators to manage our business, including revenue, certain elements of operating expenses and cash flow from operations, and we describe these items further below under the heading “Results of Operations” and “Liquidity and Capital Resources.”

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Critical Accounting Estimates
In preparing our Condensed Consolidated Financial Statements, we make assumptions, judgments and estimates that can have a significant impact on our revenue, operating income and net income, as well as on the value of certain assets and liabilities on our Condensed Consolidated Balance Sheets. We base our assumptions, judgments and estimates on historical experience and various other factors that we believe to be reasonable under the circumstances. Actual results could differ materially from these estimates under different assumptions or conditions. At least quarterly, we evaluate our assumptions, judgments and estimates and make changes accordingly. Historically, our assumptions, judgments and estimates relative to our critical accounting estimates have not differed materially from actual results. For further information about our critical accounting estimates, see the discussion in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations, under the heading “Critical Accounting Estimates” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2011.

Results of Operations
Financial results for the three and nine months ended September 29, 2012, as compared to the three and nine months ended October 1, 2011, reflect the following:
•
An increase in the combined value of our product and maintenance revenue, primarily because of a general increase in the annualized values of software contracts with our customers and an increase in the sale and lease of our hardware products;
•
An increase in employee-related costs, primarily consisting of costs related to hiring additional employees during the period and incremental costs related to our acquisition of Sigrity;
•
An increase in variable compensation during the nine months ended September 29, 2012 as compared to the same period in 2011; and
•
An income tax benefit in the three months ended September 29, 2012, primarily resulting from a release of valuation allowance against our deferred tax assets due to the acquisition of intangible assets held by Sigrity.
Revenue
We primarily generate revenue from licensing our EDA software and IP, selling or leasing our hardware technology, providing maintenance for our software, IP and hardware and providing engineering services. We principally use three software and IP license types: subscription, term and perpetual.

The timing of our product revenue is significantly affected by the mix of license types in the bookings executed in any given period and whether the revenue for such bookings is recognized over multiple periods or up-front, upon completion of delivery.
We seek to achieve a consistent mix of bookings with approximately 90% of the aggregate value of our bookings of a type for which the revenue is recurring, or ratable, in nature, and the remainder of the resulting revenue recognized up-front, upon completion of delivery. Our ability to achieve this bookings mix in any single fiscal quarter may be impacted by an increase in hardware sales beyond our current expectations, because revenue for hardware sales is generally recognized up-front in the quarter in which delivery is completed.
Approximately 90% of the aggregate value of our bookings during the three and nine months ended September 29, 2012 and October 1, 2011 was of a type for which the revenue is recurring, or ratable, in nature.
For an additional description of the impact of hardware sales on the anticipated mix of bookings, our other license types and the timing of revenue recognition for license transactions, see the discussion under the heading “Critical Accounting Estimates – Revenue Recognition” in “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Form 10-K for the fiscal year ended December 31, 2011.
Although we believe that pricing volatility has not generally been a material component of the change in our revenue from period to period, we believe that the amount of revenue recognized in future periods will depend on, among other things, the:
•
Competitiveness of our new technology; and
•
Size, duration, timing, terms and type of:
•
Contract renewals with existing customers;
•
Additional sales to existing customers; and
•
Sales to new customers.

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Revenue by Period
The following table shows our revenue for the three months ended September 29, 2012 and October 1, 2011 and the change in revenue between periods:
 
 
Three Months Ended
 
Change
 
September 29,
2012
 
October 1,
2011
 
Amount
 
Percentage
 
(In millions, except percentages)
Product
$
216.6

 
$
164.0

 
$
52.6

 
32
 %
Services
28.4

 
29.1

 
(0.7
)
 
(2
)%
Maintenance
93.5

 
99.4

 
(5.9
)
 
(6
)%
Total revenue
$
338.5

 
$
292.5

 
$
46.0

 
16
 %

The following table shows our revenue for the nine months ended September 29, 2012 and October 1, 2011 and the change in revenue between periods:
 
 
Nine Months Ended
 
Change
 
September 29,
2012
 
October 1,
2011
 
Amount
 
Percentage
 
(In millions, except percentages)
Product
$
614.9

 
$
463.7

 
$
151.2

 
33
 %
Services
86.9

 
86.4

 
0.5

 
1
 %
Maintenance
279.0

 
291.7

 
(12.7
)
 
(4
)%
Total revenue
$
980.8

 
$
841.8

 
$
139.0

 
17
 %

For software arrangements, we generally recognize revenue ratably over the duration of the arrangement and such revenue is allocated between product and maintenance revenue. As the duration decreases, the allocation to maintenance revenue decreases and the allocation to product revenue increases. Combined, product and maintenance revenue increased during the three and nine months ended September 29, 2012, as compared to the three and nine months ended October 1, 2011, primarily because of increased business levels, an increase in revenue related to the sale and lease of our hardware products and increased revenue recognized from bookings in prior periods. Maintenance revenue decreased on a standalone basis during the three and nine months ended September 29, 2012, as compared to the three and nine months ended October 1, 2011, primarily because of the increased allocation to product revenue due to the gradual decline in the average duration of our time-based software license arrangements.
Revenue by Product Group
The following table shows the percentage of product and related maintenance revenue contributed by each of our five product groups, and Services and other for the past five consecutive quarters:
 
 
Three Months Ended
 
September 29,
2012
 
June 30,
2012

 
March 31,
2012

 
December 31,
2011

 
October 1,
2011

Functional Verification and Design IP
30
%
 
33
%
 
30
%
 
32
%
 
30
%
Digital IC Design
23
%
 
22
%
 
23
%
 
21
%
 
22
%
Custom IC Design
24
%
 
22
%
 
23
%
 
23
%
 
23
%
System Interconnect
9
%
 
8
%
 
8
%
 
8
%
 
9
%
Design for Manufacturing
6
%
 
6
%
 
7
%
 
6
%
 
6
%
Services and other
8
%
 
9
%
 
9
%
 
10
%
 
10
%
Total