UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

(Mark One)

OR

Commission file number 000-31089

VIRAGE LOGIC CORPORATION

47100 Bayside Parkway
Fremont, California 94538
(Address of principal executive offices)

(510) 360-8000
(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 a check whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Act). Yes [X] No [  ]

As of April 30, 2004 there were 21,472,184 shares of the Registrant’s Common Stock outstanding.

VIRAGE LOGIC CORPORATION

FORM 10-Q

INDEX

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VIRAGE LOGIC CORPORATION

See accompanying notes to unaudited condensed consolidated financial statements.

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VIRAGE LOGIC CORPORATION

See accompanying notes to unaudited condensed consolidated financial statements.

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VIRAGE LOGIC CORPORATION

See accompanying notes to unaudited condensed consolidated financial statements.

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VIRAGE LOGIC CORPORATION

Note 1. Organization and Summary of Significant Policies

     Description of Business

     Virage Logic Corporation (the Company) was incorporated in California in November 1995 and subsequently reincorporated in Delaware in July 2000. The Company provides semiconductor intellectual property (IP) platforms based on memory, logic, and I/Os (input/output interface components) that are silicon-proven and production ready. These various forms of IP are utilized by the Company’s customers to design and manufacture System-on-Chip (SoC) integrated circuits that are used in a variety of electronic products including high-speed communications, computer and consumer products, such as cellular and digital phones, pagers, PDAs, digital cameras, DVD players, switches and modems.

     Principles of Consolidation

The accompanying condensed consolidated financial statements include the accounts of Virage Logic Corporation and its wholly-owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation.

     Use of Estimates

     The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates.

     Unaudited Interim Financial Statements

     The accompanying condensed consolidated financial statements as of March 31, 2004, and for the three and six months ended March 31, 2004 and 2003, are unaudited. The unaudited condensed consolidated financial statements have been prepared on the same basis as the annual consolidated financial statements and, in the opinion of management, reflect all adjustments, which include only normal recurring adjustments, necessary to present fairly our financial position, as of March 31, 2004, our results of operations for the three and six months ended March 31, 2004 and 2003, and cash flows for the six months ended March 31, 2004 and 2003, respectively. These condensed consolidated financial statements and related notes should be read in conjunction with our audited consolidated financial statements and related notes included in our 2003 Annual Report on Form 10-K as filed with the Securities and Exchange Commission. Our balance sheet as of September 30, 2003, was derived from audited financial statements but does not include all disclosures required by Regulation S-X for annual reporting. Our results for the three and six months ended March 31, 2004 are not necessarily indicative of the expected results for any other interim period or for the year ending September 30, 2004.

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     Revenue Recognition

     Our revenue recognition policy follows specific and detailed guidelines and is based on the American Institute of Certified Public Accountants Statement of Position 97-2, “Software Revenue Recognition” as amended by Statement of Position 98-4, Statement of Position 98-9 and Statement of Position 81-1.

     Revenues from perpetual licenses for our semiconductor IP products are generally recognized when persuasive evidence of an arrangement exists, delivery of the product has occurred, there are no significant remaining obligations on our part, the fee is fixed or determinable, and collectability is reasonably assured. If any of these criteria are not met, we defer recognizing the revenue until such time as all criteria are met. Revenues from term-based licenses, which are generally twelve months in duration, are recognized ratably over the term of the license, provided the criteria mentioned above are met.

     License of custom memory compilers, logic libraries and I/Os may involve customization to the functionality of the software, therefore revenues from such licenses are recognized over the period that we perform the services. Our contracts are established as fixed fee arrangements. Revenue derived from custom products are recognized using a percentage-of-completion method or as services are performed. For all license and service agreements accounted for using the percentage-of-completion method, we determine progress-to-completion based on labor hours incurred and estimates of efforts required to complete each project. These estimates are based on the amount of work we require for comparable projects, and we believe we are able to reasonably and reliably estimate the costs to complete projects accounted for using the percentage-of-completion method. However, use of different assumptions under the percentage-of-completion method could affect our revenues and the timing of recognizing certain revenues. Alternatively, for customers’ transactions for which we can not reasonably and reliably estimate the costs to complete a project, the completed contract method of accounting is used, such that costs are deferred until the project is completed at which time revenues are recognized. A provision for estimated losses on engagements is made in the period in which the loss becomes probable and can be reasonably estimated. Costs incurred in advance of billings are recorded as costs in excess of related billings on in-process contracts. If customer acceptance is required for completion of specified milestones, the related revenue is deferred until the acceptance criteria is met.

     For agreements that include multiple elements, we recognize revenues attributable to delivered or completed elements covered by such agreements when such elements are completed or delivered. The amount of such revenues is determined by deducting the aggregate value of the undelivered or uncompleted elements, which we determine by each such element’s vendor-specific objective evidence of fair value, from the total revenues recognizable under such agreement. Vendor-specific objective evidence of fair value of each element of an arrangement is based upon the normal pricing for such licensed product and service when sold separately, and for maintenance, it is determined based on the stated renewal rate in each contract. Maintenance revenues are recognized ratably over the contractual term of the maintenance period, which is generally one year.

     Amounts invoiced to our customers in excess of recognized revenues are recorded as deferred revenues. The timing and amounts invoiced to customers can vary significantly

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depending on specific contract terms and can therefore have a significant impact on deferred revenues in any given period.

     Royalty revenues are generally determined and recognized one quarter in arrears, when a production volume report is received from the customer or foundry, and are calculated based on production volumes of wafers containing chips utilizing our semiconductor IP technologies based on a rate per-chip or rate per-wafer depending on the terms of the respective license agreement. From time to time, we may exercise our audit rights under our contracts with customers to audit our licensees’ royalty records. The results of such royalty audits could result in an increase, as a result of a licensee’s underpayment, or decrease, as a result of a licensee’s overpayment, to royalty revenues. Such adjustments are recorded in the period they are determined.

     Stock-based compensation

     The Company accounts for stock-based compensation arrangements in accordance with the provision of Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees” (APB Opinion No. 25), and related interpretations in accounting for its employee stock options and complies with the disclosure provisions of Statement of Financial Accounting Standards No. 123, “Accounting for Stock-Based Compensation” (SFAS 123), as amended by Statement of Financial Accounting Standards No. 148, “Accounting for Stock-based Compensation Transition and Disclosure, an Amendment of FASB 123” (SFAS 148). Under APB Opinion No. 25, when the exercise price of the Company’s employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized.

     The following table illustrates the effect on net income (loss) and net income (loss) per share if the Company had accounted for its stock options and stock purchase plans under the fair value method of accounting under SFAS 123 (in thousands, except per share data):

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     The SFAS 123 adjusted impact of options on the net income (loss) for the three and six months ended March 31, 2004 and 2003 is not representative of the effects on net income (loss) for future periods.

Note 2. Net Income (Loss) Per Share

     Basic and diluted net income (loss) per share is presented in conformity with Statement of Financial Accounting Standards No. 128, “Earnings Per Share” (SFAS 128). Accordingly, basic and diluted net income (loss) per share have been computed using the weighted average number of shares of common stock outstanding during the period, less weighted average shares outstanding that are subject to repurchase by the Company.

     The following table presents the computation of basic and diluted net loss per share applicable to common stockholders (in thousands, except per share data):

     Potentially dilutive shares are excluded from the calculation of diluted net loss per share because they are antidilutive. For the three months ended March 31, 2004 and 2003, potential common shares that were excluded from the net income (loss) per share computations as their effect would be antidilutive were 2.8 million and 5.0 million, and for the six months ended March 31, 2004 and 2003 were 5.6 million and 5.0 million. Shares subject to repurchase total approximately 6,000 and 204,000 for the three and six months ended March 31, 2004 and 2003, respectively.

Note 3. Comprehensive Income (Loss)

     Statement of Financial Accounting Standards No. 130, “Reporting Comprehensive Income” (SFAS 130) established standards for the reporting and display of comprehensive income (loss). Comprehensive income includes unrealized gains and losses on investments and accumulated other comprehensive income is included as a component of stockholders’ equity.

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     Total comprehensive loss is as follows (in thousands):

Note 4. Segment Information

     The Company operates only in one segment, the sale of technology-optimized semiconductor IP platforms based on memory, logic, I/Os and IP development tools.

     The Chief Executive Officer has been identified as the Chief Operating Decision Maker (CODM) because he has final authority over resource allocation decisions and performance assessment. The CODM does not receive discrete financial information about the individual components.

Revenues by geographic region are based on the region in which the customers are located.

Revenues by geography and geometry are as follows (in thousands):

Included in the Other category by geography above are sales to Singapore of $900,000 and $1.1 million for the three months ended March 31, 2004 and 2003, respectively, and $1.8 million and $1.2 million for the six months ended March 31, 2004 and 2003, respectively.

Long-lived assets are located primarily in the United States, with the exception of a building in Armenia, which is owned by the Company. The Armenian building and leasehold improvements are valued at a cost of approximately $1.8 million.

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Note 6. Recently Issued Accounting Pronouncements

     In December 2003, the Securities and Exchange Commission released Staff Accounting Bulletin No. 104, “Revenue Recognition” (SAB 104). SAB 104 revises or rescinds portions of the interpretative guidance related to revenue recognition included in Topic 13 of the codificaton of the staff accounting bulletins. The Company has assessed the impact of SAB 104 and concluded that the adoption of SAB 104 by the Company did not have a material impact on its financial statements.

     In December 2003, the FASB issued additional guidance clarifying the provisions of FASB Interpretation No. 46, “Consolidation of Variable Interest Entities, an Interpretation of ARB No. 51” (FIN 46-R). FIN 46-R provides a deferral of FIN 46 for certain entities. FIN 46 requires certain variable interest entities to be consolidated by the primary beneficiary of the entity if the equity investors in the entity do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated financial support from other parties. The Company believes that the adoption of this standard will have no material impact on its financial statements.

Note 7. Commitments and Contingencies

Indemnifications. The Company enters into standard license agreements in its ordinary course of business. Pursuant to these agreements, the Company agrees to indemnify its customers for losses suffered or incurred by them as a result of any patent, copyright, or other intellectual property infringement claim by any third party with respect to the Company’s products. These agreements generally have perpetual terms. The maximum amount of indemnification the Company could be required to make under these agreements is generally limited to the license fees received by the Company. The Company estimates the fair value of its indemnification obligation as insignificant, based upon its history of litigation concerning product and patent infringement claims. Accordingly, the Company has no liabilities recorded for indemnification under these agreements as of March 31, 2004.

Warranties. The Company offers its customers a warranty that its software products will substantially conform to their functional specifications. To date, there have been no payments or material costs incurred related to fulfilling these warranty obligations. Accordingly, the Company has no liabilities recorded for these warranties as of March 31, 2004. The Company assesses the need for a warranty reserve on a quarterly basis and there can be no guarantee that a warranty reserve will not become necessary in the future.

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ITEM 2.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Statements made in this section, “Management’s Discussion and Analysis of Financial Condition and Results of Operations”, other than statements of historical fact, are forward-looking statements that involve risks and uncertainties. These statements relate to products, customers, business prospects, technologies, trends and effects of acquisitions. In some cases, forward-looking statements can be identified by terminology such as “may,” “will,” “should,” “expect,” “anticipate,” “intend,” “plan,” “believe,” “estimate,” “potential,” or “continue,” the negative of these terms or other comparable terminology. Forward-looking statements are subject to a number of known and unknown risks and uncertainties which might cause actual results to differ materially from those expressed or implied by such statements. These risks include our ability to forecast our business, including our revenue, income and order flow outlook, our ability to execute on our strategy of being a provider of semiconductor IP platforms, our ability to continue to develop new products and maintain and develop new relationships with third-party foundries, integrated device manufacturers, and fabless semiconductor companies, our ability to overcome the challenges associated with establishing licensing relationships with semiconductor companies, our ability to obtain royalty revenues from customers in addition to license fees, our ability to receive accurate information necessary for calculation of royalty revenues and to collect royalty revenues from customers, business and economic conditions generally and in the semiconductor industry in particular, pace of adoption of new technologies by our customers, competition in the market for semiconductor IP platforms, and other risks and uncertainties including those set forth below under “Risk Factors”. These forward-looking statements speak only as of the date hereof, we expressly disclaim any obligation or undertaking to release publicly any updates or revisions to any forward-looking statements contained herein. The following information should be read in conjunction with the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section of the Company’s Form 10-K for the fiscal year ended September 30, 2003 filed with the Securities and Exchange Commission.

Overview

     Virage Logic provides semiconductor intellectual property (IP) platforms that are based on memory, logic, and I/Os (input/output interface components) that are silicon-proven and production ready. Virage Logic helps its customers meet their market demands for cost reduction, while improving performance and reliability for integrated device manufacturers (IDMs), fabless and foundry companies focused on the consumer, communications and networking, handheld and portable, and computer and graphics markets.

     We are seeing signs of improved business activity in the semiconductor industry, and are experiencing continued customer momentum for our platform 0.13 micron and 90-nanometer process and Self-Test and Repair (STAR) Memory System™. As more designs move to the 0.13 micron and 90-nanometer process nodes, the capabilities offered by the STAR Memory System become more important to improve yield, speed and time to market and to reduce overall costs.

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     Our revenues are derived principally from licenses of our semiconductor IP platforms, which are based on the following products:

	•		embedded memories, including memory compilers for static RAM, register files, CAMs and non-volatile memory, as well as memory test processor and fuse box components for embedded test and repair of defective memory cells;
	•		logic elements, including Metal Programmable Cell Libraries that save configuration costs by reprogramming only a few masks and Standard Cell Libraries that deliver up to a 30% smaller area over conventional standard cell implementations;
	•		I/O libraries, providing a rich set of I/O cells; and
	•		software development tools.

     We also derive revenues from royalties, custom design services, maintenance services and library development and consulting services related to the license of logic components.

     Our revenues are reported in two separate categories: license revenues and royalty revenues. License revenues are derived from license fees, maintenance fees, fees for custom design services, library design services and consulting services. Royalty revenues are derived from fees paid by a customer on a per-chip design basis or a third-party foundry based on production volumes of wafers containing chips utilizing our semiconductor IP technologies.

     The license of our semiconductor IP typically covers a range of embedded memory, logic and I/O products. Licenses of our semiconductor IP products can be either perpetual or term-based. In addition, maintenance can be purchased for both types of licenses. All revenues to date have been denominated in U.S. dollars.

     We derive our royalty revenues from third-party foundries, fabless customers and integrated device manufacturers that manufacture chips incorporating our Area, Speed and Power (ASAP) Memory™ products, ASAP Logic™ products, Self-Test and Repair (STAR) Memory System™, NetCAM™, NOVeA®, and Base I/O Library technologies. Royalty payments are in addition to the license fees we collect from our customers, and are calculated based on production volumes of wafers containing chips utilizing our semiconductor IP technologies based on a rate per-chip or rate per-wafer depending on the terms of the respective license agreement. Royalty revenues are generally determined and recognized one quarter in arrears, when a production volume report is received from the customer or foundry. Time delays for receiving royalty revenues are due to the typical length of time required for the customer to implement our semiconductor IP into their design, and then to manufacture and bring to market a product incorporating our products.

     Currently, license fees represent a significant portion of our revenues. Royalty revenues for the three months ended March 31, 2004 and 2003 were $1.8 million and $579,000, respectively, and for the six months ended March 31, 2004 and 2003 were $3.2 million and $1.1 million, respectively.

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     We have been dependent on a limited number of customers for a substantial portion of our annual revenues, although that dependence continues to decrease. Our customers comprising the top 10 customer group have changed from time to time. For the three months ended March 31, 2004, Philips Semiconductor accounted for 15% of our revenues. For the three months ended March 31, 2003, Agere Systems and Chartered Semiconductor each accounted for 12% of our revenues and NEC Electronics Corporation accounted for 10% of our revenues. No single customer generated more than 10% of our revenues for the six months ended March 31, 2004 and 2003.

Critical Accounting Policies

     The preparation of financial statements in accordance with generally accepted accounting principles in the United States requires that we make estimates and judgments, which affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. We continually evaluate our estimates, including those related to percentage-of-completion, allowance for doubtful accounts, investments, intangible assets, income taxes, and contingencies such as litigation. We base our estimates on historical experience and other assumptions that we believe are reasonable under the circumstances. Actual results may differ from these estimates under different assumptions or conditions.

     We have identified the following as critical accounting policies to our company:

•		revenue recognition
•		valuation of accounts receivable
•		valuation of long-lived assets and investments
•		valuation of purchased intangibles, including goodwill
•		accounting for stock options
•		income taxes.

Revenue Recognition

     Our revenue recognition policy follows specific and detailed guidelines and is based on the American Institute of Certified Public Accountants Statement of Position 97-2, “Software Revenue Recognition” as amended by Statement of Position 98-4, Statement of Position 98-9 and Statement of Position 81-1.

     Revenues from perpetual licenses for our semiconductor IP products are generally recognized when persuasive evidence of an arrangement exists, delivery of the product has occurred, there are no significant remaining obligations on our part, the fee is fixed or determinable, and collectability is reasonably assured. If any of these criteria are not met, we defer recognizing the revenue until such time as all criteria are met. Revenues from term-based licenses, which are generally twelve months in duration, are recognized ratably over the term of the license, provided the criteria mentioned above are met.

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