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EX-32.2 - CERTIFICATION OF CFO FURNISHED PURSUANT TO 18 U.S.C. SECTION 1350 - MAGMA DESIGN AUTOMATION INCdex322.htm
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

 

FORM 10-K

 

 

(Mark One)

  x   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended May 2, 2010

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 NO.: 0-33213

 

 

MAGMA DESIGN AUTOMATION, INC.

(Exact name of Registrant as specified in its charter)

 

 

 

DELAWARE   77-0454924
(State or other jurisdiction of incorporation or organization)   (I.R.S. Employer Identification No.)

1650 Technology Drive

San Jose, California 95110

(408) 565-7500

(Address, including zip code, and telephone number, including area code, of the registrant’s principal executive offices)

 

 

SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:

 

Title of Each Class:   Name of Each Exchange on Which Registered:
COMMON STOCK, par value $0.0001 per share  

The Nasdaq Stock Market LLC

(Nasdaq Global Market)

SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:

None

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.    Yes  ¨    No  x

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  ¨    No  ¨

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  x

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  ¨

  Accelerated filer  x

Non-accelerated filer  ¨    (Do not check if a smaller reporting company)

  Smaller reporting company  ¨

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ¨    No  x

The aggregate market value of the registrant’s common stock held by non-affiliates of the registrant, based upon the closing sale price of the registrant’s common stock on October 30, 2009, the last business day of the registrant’s most recently completed second fiscal quarter, as reported on the Nasdaq Global Market, was $104,368,370. This calculation does not reflect a determination that certain persons are affiliates of the registrant for any other purpose.

As of July 12, 2010, the registrant had outstanding 52,847,341 shares of Common Stock, $0.0001 par value.

DOCUMENTS INCORPORATED BY REFERENCE:

Part III incorporates by reference certain information from the registrant’s definitive proxy statement (the “Proxy Statement”) for the 2010 Annual Meeting of Stockholders, which will be filed with the Securities and Exchange Commission within 120 days of the end of the 2010 fiscal year. Except with respect to information specifically incorporated by reference in this Form 10-K, the Proxy Statement is not deemed to be filed as part hereof.

 

 

 


Table of Contents

MAGMA DESIGN AUTOMATION, INC.

ANNUAL REPORT ON FORM 10-K

Year ended May 2, 2010

TABLE OF CONTENTS

 

           Page

PART I

     

Item 1.

  

Business

   1

Item 1A.

  

Risk Factors

   11

Item 1B.

  

Unresolved Staff Comments

   29

Item 2.

  

Properties

   29

Item 3.

  

Legal Proceedings

   29

Item 4.

  

Removed and Reserved

   29

PART II

     

Item 5.

   Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities    30

Item 6.

  

Selected Financial Data

   32

Item 7.

  

Management’s Discussion and Analysis of Financial Condition and Results of Operations

   33

Item 7A.

  

Quantitative and Qualitative Disclosures about Market Risk

   60

Item 8.

  

Financial Statements and Supplementary Data

   61

Item 9.

  

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

   112

Item 9A.

  

Controls and Procedures

   112

Item 9B.

  

Other Information

   112

PART III

     

Item 10.

  

Directors, Executive Officers and Corporate Governance

   113

Item 11.

  

Executive Compensation

   113

Item 12.

   Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters    113

Item 13.

  

Certain Relationships and Related Transactions, and Director Independence

   113

Item 14.

  

Principal Accountant Fees and Services

   113

PART IV

     

Item 15.

  

Exhibits and Financial Statement Schedules

   114

Signatures

   115

Exhibit Index

   116

 

 

Magma, Blast Fusion, Blast Noise, QuickCap, SiliconSmart, Talus and YieldManager are registered trademarks, and ArchEvaluator, Blast Power, Blast Plan, Blast Rail, Blast Create, Quartz, Blast Yield, Camelot, “The Fastest Path from RTL to Silicon,” FineSim, Native Parallel Technology, “Sign-off in the Loop”, Tekton and Titan are trademarks of Magma Design Automation, Inc. All other product and company names are trademarks and registered trademarks of their respective companies.


Table of Contents

PART I

ITEM 1.    BUSINESS

Overview

Magma Design Automation, Inc., also referred to as “we,” “us” or “Magma” in this Form 10-K, provides electronic design automation (“EDA”) software products and related services. Our software enables chip designers to reduce the time it takes to design and produce complex integrated circuits used in the communications, computing, consumer electronics, networking and semiconductor industries. Our flagship products comprise a digital integrated solution for the chip development cycle, from initial design through physical implementation.

Our software products allow chip designers to meet critical time-to-market objectives, improve chip performance and handle chip designs involving millions of components. Our flagship Talus family of products, our new Tekton static timing analyzer and QCP extractor and our Quartz family of sign-off and verification tools combine into one integrated chip design and verification flow, from what traditionally had been separate logic design, physical design, and analysis and sign-off processes. This integrated flow significantly reduces design iterations, allowing our customers to accelerate the time it takes to design and produce deep submicron integrated circuits. Our Titan platform for custom integrated chip design provides an integrated chip-finishing solution for mixed-signal designs.

We provide consulting, training and services to help our customers more rapidly adopt our technology. We also provide post-contract support, or maintenance, for our products.

Evolution of the Electronic Design Automation Market

The trend toward deep submicron and system-on-chip designs has driven demand for improved electronic design automation software that enables the efficient design and implementation of these complex chips. Limitations in traditional electronic design automation technology could slow the adoption of deep submicron processes due to the difficulty in implementing designs at these small feature sizes. Historically, electronic design automation companies developed software for use by separate engineering groups to address either the front-end chip design or back-end chip implementation processes.

In the front-end design process, the chip design is conceptualized and written as a register transfer level computer program, or RTL file, that describes the required functionality of the chip. For large chips, the design is often divided into a number of individual blocks, each with its own associated RTL file. This is often done because of capacity limitations in existing electronic design automation tools. The designer also develops constraints for the design that are used to describe the desired timing performance of the chip. Finally, a target library is specified that contains detailed information about the basic functional building blocks, or logic gates, which will be used in the design. This library is typically provided by the semiconductor vendor or a third-party library vendor. The next step is to run the RTL files through synthesis software that generates a netlist. The netlist describes the circuit in terms of logic gates selected from the target library and connected such that the functionality specified in the RTL files is realized. The synthesis software also performs optimizations to attempt to meet the timing constraints specified by the designer.

A critical objective of chip design is to minimize total circuit delay, which is comprised of gate delay and wire delay. Front-end software was initially developed when the gate delay, or the time it takes for an electrical signal to travel through a logic gate, was the most significant component of total circuit delay. Wire delay, or the time it takes for a signal to travel through a wire connecting two or more gates, was negligible and designers could use simple estimates and still meet targeted circuit speeds. In recent times, minimization of power consumption has become a key objective of our chip design and is considered during the front-end process of the design flow.

 

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In the back-end implementation process, physical design software is used to transform the netlist generated by the front-end process into a physical layout of the chip. The resulting physical layout is usually output in the binary file format Graphics Data System II, commonly referred to as GDSII, that is used to generate the photomasks used to manufacture the integrated circuit. The two primary functions provided by traditional physical design software are placement and routing. Placement determines the optimal physical location for the logic gates on the integrated circuit. After placement is completed, routing connects the logic gates with wires to achieve the desired circuit functionality. After the layout is completed, timing analysis is run to verify that the chip will run at the desired circuit speed. If circuit speeds are slower than the speeds reported by the synthesis software, the design must often be iterated back through the synthesis step in an attempt to improve the timing. Since each timing closure iteration cycle can take one or more weeks, successive iterations of the design process can significantly lengthen the time it takes to design and produce new chips.

Integrated circuit (“IC”) designs, which are both large and highly integrated, require advanced technology to create and maintain chip floor plans. Creating hierarchical chip floor plans traditionally has been a manual error-prone task with less optimal quality of results in terms of chip die area and performance. Alternative flat chip design methodologies simplify floor plan creation but can suffer from long turnaround times making them unacceptable.

Deep Submicron Challenges

The trend toward deep submicron technology has rendered traditionally separate front-end and back-end electronic design automation processes less effective for rapid, cost-effective and reliable chip designs. As integrated circuits have increased in complexity and feature sizes have dropped, the problems faced by chip designers have changed. Wire delay now accounts for the majority of total circuit delay and has become the most significant factor in circuit performance for deep submicron technologies. Front-end estimates of wire delay may vary considerably from actual wire delays measured in the final layout. As a result, the front-end timing might meet the design requirements, but the final layout timing at the completion of the back-end process may be unacceptable, requiring time-consuming iterations back through the front-end process.

Deep submicron process technologies bring additional complexities to the design and implementation process that can cause chip failures. These complexities include, among others, signal integrity problems such as electrical interference from wires in close proximity, commonly referred to as crosstalk or noise that can affect both circuit performance and functionality. Using existing design flows and software, designers must contend with analyzing and fixing these problems manually after the layout is completed. These adjustments often change the chip timing and further contribute to the timing closure problem.

These deep submicron challenges make it difficult to efficiently design chips using separate front-end and back-end processes. Semiconductor manufacturers and electronic products companies are currently seeking alternatives to older generation electronic design automation software to shorten design time, improve circuit speed, and handle larger chip designs. As a result, we believe that a significant opportunity exists for newer electronic design automation approaches to chip design that can enable the design of more complex deep submicron integrated circuits, improve performance, reduce power consumption and significantly reduce the time it takes to design and produce next-generation electronic products.

Our Solution

The important technical foundations for our software products are found within our unified data model architecture, platform logic synthesis, interconnect synthesis, physical implementation, verification, design-for-manufacturability (“DFM”), silicon sign-off and our Titan mixed-signal design platform, which allow our customers to reduce the number of iterations that are often required in conventional integrated circuit design processes.

 

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Logic Design

Our fast, high-capacity logic synthesis provides a common front-end to standard cell application-specific integrated circuit (“ASIC”) and structured ASIC IC implementation platforms. A single RTL representation of the design is synthesized to technology-independent netlist and taken through architecture-specific mapping and physical synthesis to predict the area, performance, power, testability and routability during physical implementation.

Design Implementation

Unified Data Model Architecture

Conventional electronic design automation flows are typically based on a collection of software programs that have their own associated data models, often resulting in cumbersome design flows. We believe that we are the only electronic design automation vendor that offers a complete integrated circuit design implementation flow based on a unified data model. Our unified data model architecture is a key enabler for our ability to deliver automated signal integrity detection and correction, and integrated power optimization and analysis. The unified data model contains all the logical and physical information about the design and is resident in core memory during execution. The various functional elements of our software, such as the implementation engines for synthesis, placement and routing, and our analysis software for timing, RC and delay extraction, power, and signal integrity, all operate directly on this data model. Because the data model is concurrently available to all the engines and analysis software, it is possible to analyze the design and make rapid tradeoff decisions during the physical design process, thereby reducing design iterations.

Interconnect Synthesis

Interconnect Synthesis is a relatively recent addition to our integrated circuit implementation design flow. With Interconnect Synthesis, optimization for timing, crosstalk, on-chip variation (“OCV”), power and yield are performed in the routing phase, rather than relying on logic optimization during logic synthesis as has historically been done. Optimization in logic synthesis alone was insufficient as wireload models started failing at 180 nanometers and below. At 90 nanometers and below, wire delay and the effect of their neighbors contribute to almost all deep-submicron effects. Accordingly, optimization has to be done as wires are assigned to tracks and are being routed. This move to combine optimization and routing requires a flow with a relatively new approach—Interconnect Synthesis.

Physical Verification and Design for Manufacturability

Every completed physical layout must be analyzed and manipulated before final manufacturing. This process—commonly called physical verification—has increased in complexity and importance as manufacturing technology has moved from 130 nanometers to 90 nanometers, and now to 65 nanometers and below. Moreover, new physical phenomena at these manufacturing nodes—including optical proximity correction (“OPC”) and chemical-mechanical-polishing (“CMP”) effects—have introduced the need for new design-for-manufacturing technologies.

Our physical verification products, including Quartz DRC and Quartz LVS, were designed specifically to address the challenges at 90 nanometers and 65 nanometers and below. Quartz DRC and Quartz LVS have been designed to be highly scalable. By using techniques that enable fine-grain parallelism, Quartz DRC and Quartz LVS are able to use a large number (up to 100) of separate Linux machines on a standard computer network. This ability to do distributed processing on a standard Linux machine provides the ability to linearly increase the speed of processing—doubling the number of processors doubles the speed—for design rule checking. This scalability is essential to achieving a fast turnaround time.

We have a strong position in design for manufacturability as we now offer both a leading physical design system and a leading physical verification system.

 

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Silicon Sign-off

Design teams have traditionally relied upon one set of tools for implementation and another set of tools for sign-off analysis. While this separation enables an advantageous tradeoff with respect to accuracy versus runtime, it also requires corrective iteration loops when discrepancies are found during sign-off analysis. With the increased analysis challenges that the 90- and 65-nanometer and smaller processes present, such as combining noise analysis with OCV, across ever-increasing process corners and operating modes, the use of separate point sign-off tools becomes a primary bottleneck in the drive to improve design cycle time. Our “Sign-off in the Loop” flow breaks the sign-off iteration bottleneck by making sign-off-level analysis directly available during the implementation flow. The capabilities of Quartz RC are augmented by the integration of QuickCap technology into the extractor. QuickCap is an industry standard for reference parasitic extraction. The inclusion of this technology into a full-chip extractor enables users to attain the highest possible accuracy for the most timing-critical nets on a chip.

Custom/Mixed-Signal

Analog design flows and teams historically have been isolated from digital design. Analog integrated circuits have typically been full-custom and painstakingly crafted by hand. In addition to being time-consuming and prone to error, this transistor-level design style does not allow an existing design to be easily transferred to a new foundry or process/technology node. With Magma’s Titan platform, analog designers can apply their expertise in defining the first circuit topology, but porting to new geometry nodes is easier.

Products

Below is a description of our major products.

Talus® Design is a key component of the next-generation RTL-to-GDSII Talus® platform. This product enables logic designers to synthesize, evaluate, and improve the quality of their RTL code, design constraints, testability requirements and floorplan. The physical netlist generated by Talus® Design™ provides a clean handoff between the RTL designer and layout engineer, eliminating back-to-front iterations necessary for timing closure in conventional flows.

Talus® Vortex is our place and route product within the next-generation Talus® platform. Talus® Vortex™ flow begins with design netlist, target library, and design constraints. It utilizes state-of-the-art implementation automation to produce a physical layout and routing connection of the design to meet timing, area, power, clock, and routing requirements for manufacture.

Talus® Power Pro is an optimization option to Talus® Design and Talus® Vortex for advanced low-power needs. By using Talus® Power Pro™, dynamic and leakage power can be minimized while meeting design performance, area, and manufacturing requirements. Multiple techniques are employed and embodied in a design flow to maximize the automation required to meet aggressive design schedules.

Tekton is our new standalone static timing analyzer. Tekton™ provides both standard timing analysis and signoff analysis (crosstalk and on-chip variation). In addition to being architected for fast execution and capacity, Tekton includes the native capability to run multi-mode / multi-corner timing analysis – a key requirement in analyzing designs at 40 nanometers and below.

QCP™ is our new standalone SoC (system-on-chip) parasitic extractor. QCP™ is architected for high capacity and fast execution with accuracy within a few percent of our gold standard QuickCap product. QCP™ provides a complete multi-corner extraction solution that adds only a minimal amount of runtime overhead for each additional PVT (process, temperature, voltage) corner.

 

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Talus® qDRC™ is an integrated-physical-design verification tool for direct use during implementation. Using foundry-certified design-rule runsets, Talus® qDRC™ increases productivity by providing sign-off-quality DRC from within the implementation environment.

Hydra™ is an auto-interactive floorplanning and hierarchical design-planning solution featuring a physical optimization capability that enables accurate floorplan handoff. It is a standalone solution that is also fully integrated into Magma’s RTL-to-GDSII flow.

QuickCap® is the industry’s leading parasitic extraction technology. QuickCap® is a highly accurate 3D-field solver used in parameter extraction and rules generation, library cell extraction, critical cell analysis, and critical net analysis.

QuickCap® NX™ is an enhanced version of the QuickCap® tool, targeted to address specific design challenges that occur in 90-nanometer and smaller process technologies.

Quartz Rail™ is a manufacturing sign-off analysis tool for ‘static’ and ‘transient’ voltage drop within a chip. Using industry-standard input for design logic, layout, and activity, and including an interface to our FineSim SPICE™ product for silicon-accurate measurement, Quartz Rail™ provides a reliable and comprehensive voltage-drop analysis for design implementation. Quartz Rail™ is integrated in the Talus® implementation platform to simplify the flow for design analysis to influence design decisions early in the implementation process for best quality of results.

Quartz RC™ provides sign-off-quality parasitic extraction and can operate as either a standalone tool or integrated with the Blast Fusion system, where it underlies the “Sign-off in the Loop” flow.

Quartz Time™ combines the proven static timer in Blast Fusion™ with advanced timing capabilities to create a standalone sign-off timing system.

Quartz DRC™ and Quartz LVS™ are targeted to provide the fastest turnaround time of any physical verification tools, with full sign-off accuracy.

SiliconSmart® products provide robust timing, power, and signal integrity models in a variety of industry standard formats.

FineSim Pro™ is a next-generation, highly accurate fast circuit simulator with full-chip analysis capabilities, including advanced post-layout simulation features, high accuracy with low memory usage and high performance.

FineSim SPICE™ is a unique, native parallel, true SPICE simulator that enables the simulation of analog and mixed signal circuits with full SPICE accuracy, which previously could only be simulated with fast-SPICE simulators.

FineSim Fast Monte Carlo™ is an innovative technology that provides a significant improvement over traditional Monte Carlo methods by providing a faster, more accurate statistical analysis for analog and mixed signal circuits.

FineWave™ is a waveform viewer and analyzer capable of displaying digital, analog and mixed-mode signals.

Titan Mixed-Signal Design Platform™ is a unified mixed-signal design cockpit with a very high capacity and a very fast database access mechanism. Titan™ comprises user-friendly full-custom schematic and layout editors, an analog simulation environment integrated with the FineSim™ simulator, correct-by-design schematic-

 

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driven layout and integration with Magma’s tools for physical verification and digital implementation. By fully embedding Talus for digital design, Titan combines full-custom analog design tools with a digital flow for high-level mixed-signal chip design efficiency. Titan™ supports OpenAccess and emerging industry integration standards.

In addition to traditional base platform, Titan™ platform also provides design and layout accelerators, which are targeted solutions that provide new options to analog designers. Each accelerator can be used to augment an existing tool flow, or combined with the Titan Mixed-Signal Platform™ to create a comprehensive mixed-signal design solution.

Titan ADX™ (Analog Design Accelerator) is a model-based analog design and optimization solution that enables reuse of analog blocks. It is available with pre-built FlexCell libraries of design models.

Titan AVP™ (Analog Virtual Prototyper) is a layout-aware schematic design that integrates physical implementation with design intent.

Titan SBR™ (Shape-Based Router) automates difficult routing tasks for a tenfold improvement in productivity. It is used for analog routing, clock/DDR routing and chip-level assembly routing.

Titan ALX™ (Analog Layout Accelerator) automates migration of analog cell layouts between processes while preserving design intent.

SiliconSmart® ACE, with its embedded FineSim SPICE™ and FineSim Pro™ simulators products, provide robust IP characterization and modeling in timing, power, and signal integrity models in a variety of industry standard formats.

Camelot™ performs failure analysis, fault diagnostics and design debug. Camelot™ imports CAD design data from layout versus schematic (LVS) packages to provide visual representation and cross-mapping of circuits. Linked to analytical tools, Camelot™ automatically drives to an exact location for viewing and analysis. In addition, Camelot™ promotes an expanding base of options for failure analysis, circuit debug, and DFM applications.

YieldManager® is a fab-wide defect and yield management system collecting defect, image, review classification, binsort, bitmap, parametric, and equipment/manufacturing execution system data into a single unified database. Powerful extraction and engineering analysis tools make it easy to find the source(s) contributing to yield problems. Additional options available provide for an expanding base of automation and advanced analysis capability.

LogicMap™ is a fully-automated yield-enhancement software solution that identifies the precise circuit trace on failing chips by overlaying failing nets with in-line defect inspection data by layer. Benefits include the ability to perform failure analysis without the need for packaging or probing, and providing real-time statistically meaningful yield fallout and design sensitivity data.

Merlin’s Framework™ is a navigation software tool for technologies and techniques including flip chips and back side fault isolation and analysis.

Smart Sampling™ provides an automated method for inline defect sampling of wafer inspection data in conjunction with inline review tools within the semiconductor manufacturing environment.

Services

We provide consulting and training to help our customers more rapidly adopt our technology. We also provide post-contract support, or maintenance, for our products.

 

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Customers

We license our software products to semiconductor manufacturers and electronic products companies around the world. Our major customers include Toshiba, Samsung, Qualcomm, Broadcom, NEC, Marvell, Texas Instruments, LSI Logic, and NVIDIA. No individual customer accounted for 10% or more of our consolidated revenues during fiscal 2010.

Product Backlog

As of May 2, 2010 and May 3, 2009, we had greater than $300 million and $291 million, respectively, in backlog, which represents contractual commitments by our customers through purchase orders or contracts. As of May 2, 2010 and May 3, 2009, approximately 20% of the backlog in each year is variable based on volume of usage of our products by the customers. We have estimated variable usage, for the purposes of determining our backlog, based on information from customers’ forecasts available at contract execution date. It is possible that customers from whom we expect to derive revenue from backlog will cancel, defer or default on their orders and as a result we may not be able to recognize expected revenue from backlog on a timely basis or at all.

Change in Fiscal Year End

Prior to fiscal 2009, we had a 52-53 week fiscal year ending on the first Sunday subsequent to March 31. On January 28, 2008, our Board of Directors approved a change of fiscal year from a fiscal year ending on the first Sunday subsequent to March 31 to a fiscal year ending on the Sunday closest to April 30 (except for any given year in which April 30 is a Sunday, in which case the fiscal year will end on April 30), starting with fiscal 2009. Our fiscal years consist of four quarters of 13 weeks each except for each fifth or sixth fiscal year, which includes one quarter with 14 weeks.

Our 2009 fiscal year began on May 5, 2008 and ended on May 3, 2009, resulting in a one-month transition period that began on April 7, 2008 and ended on May 4, 2008. The separate audited financial statements required for the transition period were included on our Form 10-K for the fiscal year ended May 3, 2009, which was filed with the SEC on July 20, 2009.

References in this Form 10-K to fiscal 2010 represent the 52 weeks ended May 2, 2010, references to fiscal 2009 represent the 52 weeks ended May 3, 2009 and references to fiscal 2008 represent the 52 weeks ended, April 6, 2008. We have not submitted financial information for the 52 weeks ended April 5, 2009 in this Form 10–K because the information is not practical or cost-effective to prepare. We believe that the 52 weeks of fiscal 2008 provide a meaningful comparison to the 52 weeks of fiscal 2009 and fiscal 2010 presented in this Form 10-K. We do not believe that there are any significant factors, seasonal or otherwise, that would impact the comparability of information or trends if results for the 52 weeks ended April 5, 2009 were presented in lieu of results for the 52 weeks ended May 3, 2009. We did not experience an unusual amount of business activity or product shipment in the transition month and have reported the loss incurred in that month in our consolidated statements of operations in Item 8 of this Form 10-K.

Revenue and Orders Mix

Our license revenue in any given quarter depends on the volume of short-term licenses shipped during the quarter and the amount of long-term, ratable and cash receipts revenue from deferred revenue that is recognized out of backlog and recognized on orders received during the quarter. We set our revenue targets for any given period based, in part, upon an assumption that we will achieve a certain level of orders and a certain mix of short-term licenses. The precise mix of orders is subject to substantial fluctuation in any given quarter or multiple quarter periods, and the actual mix of licenses sold affects the revenue we recognize in the period. Even if we achieve the target level of total orders, we may not meet our revenue targets if we are unable to achieve our target license mix. In particular, we may fall short of our revenue targets if we deliver more long-term or ratable licenses than expected, or we may exceed our revenue targets if we deliver more short-term licenses than expected.

 

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Unbilled Accounts Receivable

Unbilled accounts receivable represent revenue that has been recognized in advance of contractual invoicing to the customer. We typically generate invoices 45 days in advance of contractual due dates and invoice the entire amount of the unbilled accounts receivable within one year from the contract inception. As of May 2, 2010 and May 3, 2009, unbilled accounts receivable were approximately $2.9 million for both the fiscal years. These amounts were included in accounts receivable on our consolidated balance sheets for these periods.

Revenue by Geographic Areas

We generated 41% of our total revenue from sales outside the United States for fiscal 2010, compared to 41% in fiscal 2009 and 40% in fiscal 2008. Additional disclosure regarding financial information on geographic areas is included in Note 16, Segment Information, to our consolidated financial statements in Item 8 of this Form 10-K.

Sales and Marketing

We license our products primarily through a direct sales force focused primarily on industry leaders in the communications, computing, consumer electronics, networking and semiconductor industries. We have North American sales offices in California, North Carolina, Texas, and Canada. Internationally, we have European offices in Germany and the United Kingdom, an office in Israel, and Asian offices in China, India, Japan, South Korea and Taiwan. Our direct sales force is supported by a larger group of field application engineers that work closely with the customers’ technical chip design professionals.

As of May 2, 2010, we had 266 employees in our marketing, sales and technical sales support organizations.

Competition

The electronic design automation industry is highly competitive and characterized by technological change, evolving standards, and price erosion. Major competitive factors in the market we address include technical innovation, product features and performance, level of integration, reliability, price, total system cost, reduction in design cycle time, customer support and reputation.

We currently compete with companies that hold dominant shares in the electronic design automation market. In particular, Cadence Design Systems, Inc. (“Cadence”) and Synopsys, Inc. (“Synopsys”) are continuing to broaden their product lines to provide an integrated design flow, and we continue to compete with Mentor Graphics Corporation (“Mentor”) in certain product areas, such as physical verification tools. Each of these companies has a longer operating history and significantly greater financial, technical and marketing resources than we do, as well as greater name recognition and a larger installed customer base. These companies also have established relationships with our current and potential customers and can devote substantial resources aimed at preventing us from establishing or enhancing our customer relationships. Our competitors are better able to offer aggressive discounts on their products, a practice that they often employ. Our competitors offer a more comprehensive range of products than we do. For example, we do not offer logic simulation, which can sometimes be an impediment to our winning a particular customer order. In addition, our industry has traditionally viewed acquisitions as an effective strategy for growth in products and market share, and our competitors’ greater cash resources and higher market capitalization would likely give them a relative advantage over us in acquiring companies with promising new chip design products or companies that may be too large for us to acquire without a strain on our resources and liquidity. Further consolidation in the electronic design automation market could result in an increasingly-competitive environment. Competitive pressures may prevent us from increasing market share or require us to reduce the price of products and services, which could harm our business. To execute our business strategy successfully, we must continue to increase our sales worldwide. If we fail to do so in a timely manner or at all, we may not be able to gain market share and our business and operating results could suffer.

 

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Also, a variety of small companies continue to emerge, developing and introducing new products. Any of these companies could become a significant competitor in the future. We also compete with the internal chip design automation development groups of our existing and potential customers. Therefore, these customers may not require, or may be reluctant to purchase, products offered by independent vendors.

Our competitors may develop or acquire new products or technologies that have the potential to replace our existing or new product offerings. The introduction of these new or additional products by competitors may cause potential customers to either defer purchases of our products or decide against purchasing our products. If we fail to compete successfully, we will not gain market share and our business may fail.

Research and Development

We devote a substantial portion of our resources to developing new products and enhancing our existing products, conducting product testing and quality assurance testing, improving our core technology and strengthening our technological expertise in the electronic design automation market. Our research and development expenditures for fiscal 2010, 2009 and 2008 were $47.0 million, $68.8 million and $76.9 million, respectively. There have not been any customer-sponsored research activities since our inception.

As of May 2, 2010, our research and development group consisted of 332 employees. We have engineering centers in California and Texas in the United States, and in China, India, the Netherlands and the United Kingdom. Our engineers are focused in the areas of product development, advanced research, product engineering and design services. Our product development group develops our common core technology and is responsible for ensuring that each product fits into this common architecture. Our advanced research group works independently from our product development group to assess and develop new technologies to meet the evolving needs of integrated circuit design automation. Our product engineering group is primarily focused on product releases and customization. Our design services group is specifically focused on, and assists in completing, customer designs for commercial applications.

Intellectual Property

As of May 2, 2010, we held, directly or indirectly, more than 70 issued patents. Patent protection affords only limited protection for our technology. Our patents will expire on various dates through June 2026. We have filed, and plan to file, applications for additional patents. We do not know if our patent applications or any future patent application will result in a patent being issued with the scope of the claims we seek, if at all, or whether any patents we may receive will be challenged or invalidated. Rights that may be granted under our patent applications that may issue in the future may not provide us competitive advantages. Further, patent protection in foreign jurisdictions where we may need this protection may be limited or unavailable.

It is difficult to monitor and prevent unauthorized use of technology, particularly in foreign countries where local laws may not protect our proprietary rights as fully as do laws in the United States. In addition, our competitors may independently develop technology similar to ours. We will continue to assess appropriate occasions for seeking patent and other intellectual property protections for those aspects of our technology that we believe constitute innovations providing significant competitive advantages.

Our success depends in part upon our rights in proprietary software technology. We have patent applications pending for some of our proprietary software technology. In addition to patents, we rely on a combination of trademark, copyright and, trade secret laws, and contractual restrictions such as confidentiality agreements and licenses, to establish and protect our proprietary rights. We routinely require our employees, customers and potential business partners to enter into confidentiality and nondisclosure agreements before we will disclose any sensitive aspects of our products, technology or business plans. We require employees to agree to surrender to us any proprietary information, inventions or other intellectual property they generate while employed by us. Despite our efforts to protect our proprietary rights through confidentiality and license agreements, unauthorized parties may attempt to copy or otherwise obtain and use our products or technology. These precautions may not prevent misappropriation or infringement of our intellectual property.

 

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Some of our products and technology include software or other intellectual property licensed from other parties. In addition, we also license software and other intellectual property from other parties for internal use. We may be required or choose to obtain new licenses or renew licenses in the future.

Third parties may infringe or misappropriate our copyrights, trademarks and similar proprietary rights. Many of our contracts contain provisions indemnifying our customers from third-party intellectual property infringement claims. Third parties may assert infringement claims against us and/or our customers. Our products may be found by a court to infringe issued patents that may relate to or are required for our products. In addition, because patent applications in the United States are sometimes not publicly disclosed until the patent is issued, applications may have been filed that relate to our software products. We may be subject to legal proceedings and claims from time to time in the ordinary course of our business, including claims of alleged infringement of the trademarks and other intellectual property rights of third parties. Intellectual property litigation is expensive and time consuming and could divert management’s attention away from running our business. If there is a successful claim of infringement, we may be ordered to pay substantial monetary damages, we may be prevented from distributing some of our products, and/or we may be required to develop non-infringing technology or enter into royalty or license agreements. These royalty or license agreements, if required, may not be available on acceptable terms, if at all. Our failure to develop non-infringing technology or license the proprietary rights on a timely basis would harm our business.

Foreign Operations

As indicated above and in Item 2 below, we have offices, including sales offices and engineering centers, located around the world. For additional information regarding risks attendant to our foreign operations, see the discussions under Item 1A, “Risk Factors” including discussion under the headings stating: “Because much of our business is international, we are exposed to risks inherent in doing business internationally that could harm our business. We also intend to expand our international operations. If our revenue from this expansion does not exceed the expenses associated with this expansion, our business and operating results could suffer,“ “We are subject to risks associated with changes in foreign currency exchange rates,and “Failure to obtain export licenses could harm our business by preventing us from licensing or transferring our technology outside of the United States.”

Employees

As of May 2, 2010, we had 677 full-time employees, including 332 in research and development, 266 in sales and marketing and 79 in general and administrative. None of our employees are covered by collective bargaining agreements. We believe our relations with our employees are good.

Corporate Information

We were incorporated in Delaware in 1997. Our principal executive offices are located at 1650 Technology Drive, San Jose, California 95110, and our telephone number is (408) 565-7500. Our common stock is traded on the Nasdaq Global Market under the ticker symbol LAVA. Our Web site address is www.magma-da.com. The information on or accessible through our Web site is not incorporated by reference into this Annual Report. Through a link on the Investor Relations section of our Web site, we make available, free of charge, our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as soon as reasonably practicable after they are filed with, or furnished to, the Securities and Exchange Commission (the “SEC”). Additionally, the public may read and copy any materials we file with the SEC at the SEC’s Public Reference Room at 100 F Street, NE, Washington, DC 20549. The public may obtain information on the operation of the Public Reference Room by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC at the following Internet site: http://www.sec.gov. Financial information about us is set forth in the financial statements below.

 

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ITEM 1A.    RISK FACTORS

Our business faces many risks. The risks described below may not be the only risks we face. Additional risks that we do not yet know of or that we currently think are immaterial may also impair our business operations. If any of the events or circumstances described in the following risk factors actually occurs, our business, financial condition or results of operations could suffer, and the trading price of our common stock could decline.

We have a substantial amount of indebtedness, which could adversely affect our business, operating results or financial condition.

We currently have, and will continue to have for the foreseeable future, a substantial amount of indebtedness. As of May 2, 2010, we had an aggregate principal amount of approximately $78.3 million in outstanding debt, $23.2 million of which were the 2% Convertible Senior Notes due 2010 (the “2010 Notes”). On September 11, 2009, we completed a tender offer and registration to exchange our 2010 Notes for new 6% Convertible Senior Notes due 2014 (the “2014 Notes”). As a result of the exchange, approximately $23.2 million principal amount of the 2010 Notes remained outstanding and approximately $26.7 million principal amount of newly issued 2014 Notes were issued and are outstanding. On May 15, 2010, we repaid the $23.2 million outstanding 2010 Notes. In addition, as of May 2, 2010, we had outstanding borrowings of $15.0 million of term loans and two letters of credit totaling $1.7 million under our credit facility with Wells Fargo Capital Finance, LLC, which expires on March 19, 2014. If cash on hand and cash flow from operations are not sufficient to meet our working capital needs, capital requirements, and debt repayment obligations, we may need to incur additional indebtedness. Our outstanding indebtedness will also require us to use a substantial portion of our cash flow from operations to make debt service payments. If we are unable to generate sufficient cash flow or otherwise obtain funds necessary to make required payments, or if we fail to comply with the various requirements of our indebtedness, we would be in default, which would permit the holders of our indebtedness to accelerate the maturity of the indebtedness and which could cause a default under any other indebtedness then outstanding. Any default under our indebtedness would have a material adverse effect on our business, operating results and financial condition.

In addition, our substantial indebtedness may:

 

   

make it difficult for us to satisfy our financial obligations;

 

   

limit our ability to use our cash flow in our operations, use our available financings to the fullest extent possible, or obtain additional financing for future working capital, capital expenditures, acquisitions or other general corporate purposes

 

   

limit our flexibility to plan for, or react to, changes in our business and industry;

 

   

place us at a competitive disadvantage compared to our less leveraged competitors and our competitors with greater access to capital resources;

 

   

increase our vulnerability to the impact of adverse economic and industry conditions;

 

   

increase our vulnerability in the event of an increase in interest rates if we must incur new debt to satisfy our obligations under our current indebtedness; and

 

   

cause our business to go into bankruptcy or cause our business to fail.

General economic conditions, industry cycles and financial, business and other factors affecting our operations, many of which are beyond our control, may affect our future performance, which may affect our ability to make principal and interest payments on our indebtedness. If we cannot generate sufficient cash flow from operations in the future to service our debt, we may, among other things:

 

   

seek additional financing in the debt or equity markets, and the documentation governing any future financing may contain covenants that limit or restrict our strategic, operating or financing activities;

 

   

attempt to refinance or restructure all or a portion of our indebtedness;

 

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attempt to sell selected assets;

 

   

reduce or delay planned capital expenditures; or

 

   

reduce or delay planned research and development expenditures.

These measures may not be successful, may not be sufficient to enable us to service our indebtedness and may harm our business and prospects. In addition, any financing, refinancing or sale of assets might not be available, or available on economically favorable terms.

If we cannot generate sufficient operating cash flow or obtain additional external financing, our business and financial condition may be materially adversely affected, and our business may fail.

As of May 2, 2010, we had cash and cash equivalents, excluding restricted cash, of $57.5 million. Our short-term investments of $16.8 million as of May 2, 2010, consisted of auction rate securities, which we liquidated on July 2, 2010. After repaying the $11.2 million, we received $5.6 million from the auction rate securities.

We experienced a decrease in revenue during fiscal 2010 and fiscal 2009. If adverse semiconductor industry or general economic conditions persist or worsen, we could experience further decreases in revenue. We continued our cost-cutting efforts initiated in fiscal 2009, including reducing the number of employees, capital spending, research and development projects and administrative expenses, closing some offices and consolidating other offices. We cannot assure you that we will be able to achieve anticipated expense reductions or that we will not be required to make further cost reductions. Some cost-cutting activities may require initial cost outlays before the cost reductions are realized. If our revenue continues to decrease, or if our expense reduction efforts are unsuccessful, our operating results and business may be materially adversely affected, and our business may fail.

We will be required to generate cash sufficient to conduct our business operations and pay our indebtedness and other liabilities, including all amounts, both principal and interest, as they become due on the 2014 Notes and under our credit facility with the Wells Fargo Bank, N.A. We may not generate sufficient cash flow from operations to cover our anticipated debt service obligations, including making payments on any outstanding notes or our credit facility. Our ability to meet our future debt service obligations will depend upon our future performance, which will be subject to financial, business and other factors affecting our operations, many of which are beyond our control. Accordingly, we cannot assure you that we will be able to make required principal and interest payments on our notes when due in the absence of additional sources of equity or debt financing. In addition, if our customers believe that we are not financially sound, they may choose to stop doing business with us, which would materially adversely affect our business and financial condition.

We may try to access private and public sources of external financing, including debt and equity, to repay our existing indebtedness. We are also currently exploring and may explore in the future sources of external financing in order to achieve growth or other business objectives. Such financing may not be available in sufficient amounts, when needed or on terms acceptable to us, or at all. In addition, any equity financing may not be desirable because of resulting dilution to our stockholders, which may be significant in light of the current trading price of our common stock and the size of our market capitalization compared to our outstanding debt. We also may, from time to time, redeem, tender for, exchange for, or repurchase our securities in the open market or in privately-negotiated transactions depending upon availability of our cash resources, market conditions and other factors. Moreover, the availability of funds under our existing $30.0 million credit facility may be adversely affected by our financial condition, results of operations and incurrence or maintenance of additional debt. If we are unable to obtain needed financing or generate sufficient cash from operations, our ability to expand, develop or enhance our services or products, fund our working capital requirements or respond to competitive pressures would be limited, which would materially adversely affect our business and financial condition.

 

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We are currently party to and may enter into debt arrangements in the future, each of which may subject us to restrictive covenants which could limit our ability to operate our business.

We are party to a $30.0 million credit facility with Wells Fargo Capital Finance, LLC, which consists of a $15.0 million term loan and a $15.0 million revolving loans. The new credit facility replaced the earlier $15.0 million credit facility we entered into with Wells Fargo in October 2009. The new $30.0 million credit facility imposes various restrictions and covenants on us that limit our ability to incur or guarantee indebtedness, make investments, declare dividends or make distributions, acquire or merge into other entities, sell substantial portions of our assets and grant security interests in our assets. In the future, we may incur additional indebtedness through arrangements such as credit agreements or term loans that may also impose similar restrictions and covenants. These restrictions and covenants limit, and any future covenants and restrictions may limit, our ability to respond to market conditions, make capital investments or take advantage of business opportunities. Any debt arrangements we enter into may require us to make regular interest or principal payments, which would adversely affect our results of operations.

We cannot assure you that we will be able to satisfy or comply with the provisions, covenants, financial tests and ratios of our debt instruments, which can be affected by events beyond our control. If we fail to satisfy or comply with such provisions, covenants, financial tests and ratios, or if we disagree with our lenders about whether or not we are in compliance, we cannot assure you that we will be able to obtain waivers from our lenders for any failures to comply with our financial covenants or any other terms of the debt instruments. We also may not be able to obtain amendments that will prevent a failure to comply in the future. A breach of any of the provisions, covenants, financial tests or ratios under our debt instruments could result in a default under the applicable agreement, which in turn could accelerate the timing of our repayment obligations such that our indebtedness would become immediately due and payable and could trigger cross-defaults under our other debt instruments, any of which would materially adversely affect our business and financial condition and could make it difficult for us to obtain other credit facilities or bank lines on comparable terms in the future.

Financial market conditions may impede access to or increase the cost of financing operations and investments.

The volatility and disruption in the capital and credit markets has reached unprecedented levels over the past several quarters. These changes in U.S. and global financial and equity markets, including market disruptions and tightening of the credit markets, may make it more difficult for us to obtain additional sources of financing to repay or restructure our indebtedness or to obtain financing for our operations or investments or may increase the cost of obtaining financing.

Customer payment defaults may cause us to be unable to recognize revenue from backlog, and changes in the type of orders comprising backlog could affect the proportion of revenue recognized from backlog each quarter, which could have a material adverse effect on our financial condition and results of operations.

Twenty percent of our revenue backlog, for both fiscal 2009 and fiscal 2010, is variable based on volume of usage of our products by customers or includes specific future deliverables or is recognized as revenue on a cash receipts basis. Management has estimated variable usage based on customers’ forecasts, but there can be no assurance that these estimates will be realized. In addition, it is possible that customers from whom we expect to derive revenue from backlog will default, and, as a result, we may not be able to recognize revenue from backlog as expected. Moreover, existing customers may seek to renegotiate preexisting contractual commitments due to adverse changes in their own businesses, which may be increasingly likely given the current economic conditions. If a customer defaults and fails to pay amounts owed, or if the level of defaults increases, our bad debt expense is likely to increase. Any material payment default by our customers could have a material adverse effect on our financial condition and results of operations.

 

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We rely on a relatively small number of customers for a significant portion of our revenue, and our revenue could decline if customers delay orders or fail to renew licenses or if we are unable to maintain or develop relationships with current or potential customers.

Our business depends on sales to a relatively small number of customers. Although no single customer accounted for 10% or more of our consolidated revenue for the fiscal year ended May 2, 2010, we expect that we will generally continue to depend upon a relatively small number of customers for a substantial portion of our revenue for the foreseeable future. If we fail to sell sufficient quantities of our products and services to one or more customers in any particular period, or if a large customer reduces purchases of our products or services, defers orders, defaults on its payment obligations to us, or fails to renew licenses, our business and operating results could be harmed. In addition, if our customers believe that we are not financially sound, they may choose to stop doing business with us, which would materially adversely affect our business and financial condition.

Most of our customers license our software under time-based licensing agreements, with terms that typically range from 15 months to 48 months. Most of our license agreements automatically expire at the end of the term unless the customer renews the license with us or purchases a perpetual license. If our customers do not renew their licenses or renew their licenses with shorter terms, we may not be able to maintain our current revenue or may not generate additional revenue. Some of our license agreements allow customers to terminate an agreement prior to its expiration under limited circumstances—for example, if our products do not meet specified performance requirements or goals. If these agreements are terminated prior to expiration or we are unable to collect under these agreements, our revenue may decline.

Some contracts with extended payment terms provide for payments that are weighted toward the latter part of the contract term. Accordingly, for bundled agreements, as the payment terms are extended, the revenue from these contracts is not recognized evenly over the contract term, but is recognized as the lesser of the cumulative amounts due and payable or ratably. For unbundled agreements, as the payment terms are extended, the revenue from these contracts is recognized as amounts become due and payable. Revenue recognized under these arrangements will be higher in the latter part of the contract term, which potentially puts our future revenue recognition at greater risk of the customer’s continued credit-worthiness. In addition, some of our customers have extended payment terms, which create additional credit risk.

To gain market share and maintain revenue, we must compete successfully against companies that hold a large share of the EDA market and competition is increasing among EDA vendors as customers tightly control their EDA spending and use fewer vendors to meet their needs.

We currently compete with companies that hold dominant shares in the EDA market, such as Cadence, Synopsys and Mentor. Each of these companies has a longer operating history and significantly greater financial, technical and marketing resources than we do, as well as greater name recognition and a larger installed customer base. Our competitors are better able to offer aggressive discounts on their products, a practice they often employ. Competition and corresponding pricing pressures among EDA vendors or other factors could cause the overall market for EDA products to have low growth rates, remain relatively flat or even decrease in terms of overall dollars. Our competitors offer a more comprehensive range of products than we do. For example, we do not offer logic simulation, which can sometimes be an impediment to our winning a particular customer order. In addition, our industry has traditionally viewed acquisitions as an effective strategy for growth in products and market share, and our competitors’ greater cash resources and higher market capitalization would likely give them a relative advantage over us in acquiring companies with promising new chip design products or companies that may be too large for us to acquire without a strain on our resources and liquidity.

Competition in the EDA market has increased as customers rationalized their EDA spending by using products from fewer EDA vendors. Continued consolidation in the EDA market could intensify this trend. In addition, gaining market share in the EDA market can be difficult as it may take years for a customer to move from a competitor. Many of our competitors, such as Cadence, Synopsys and Mentor, have established relationships with our current and potential customers and can devote substantial resources aimed at preventing

 

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us from establishing or enhancing our customer relationships. Competitive pressures may prevent us from obtaining new customers and gaining market share, may require us to reduce the price of products and services or cause us to lose existing customers, which could harm our business. To execute our business strategy successfully, we must continue our efforts to increase our sales worldwide. If we fail to do so in a timely manner or at all, we may not be able to gain market share and our business and operating results could suffer.

Also, a variety of small companies continue to emerge, developing and introducing new products that may compete with our products. Any of these companies could become a significant competitor in the future. We also compete with the internal chip design automation development groups of our existing and potential customers. Therefore, these customers may not require, or may be reluctant to purchase, products offered by independent vendors.

Our competitors may develop or acquire new products or technologies that have the potential to replace our existing or new product offerings. The introduction of these new or additional products by competitors may cause potential customers to defer purchases of our products or decide against purchasing our products. If we fail to compete successfully, we will not gain market share, or our market share may decrease, and our business may fail.

If the industries into which we sell our products continue to experience a recession or other cyclical effects affecting our customers’ research and development budgets, our revenue would likely decline further.

Demand for our products is driven by new integrated circuit design projects. The demand from semiconductor and systems companies is uncertain and difficult to predict. A continued sharp downturn (such as that currently being experienced in the semiconductor and systems industries), a reduced number of design starts, a reduction in the complexity of integrated circuits, a reduction in our customers’ EDA budgets or consolidation among our customers would accelerate the decrease in revenue we have experienced during the fiscal years ended May 3, 2009 and May 2, 2010, and would harm our business and financial condition.

The primary customers for our products are companies in the communications, computing, consumer electronics, networking and semiconductor industries. A continued downturn in our customers’ markets or in general economic conditions that results in the cutback of research and development budgets or the delay of software purchases would likely result in lower demand for our products and services and could harm our business. The continuing threat of terrorist attacks in the United States and worldwide, the ongoing events in Afghanistan, Iraq, Iran, the Middle East, North Korea and other parts of the world, recent problems with the financial system, such as problems involving banks as well as the mortgage markets and the recent financial crisis, and other worldwide events have increased uncertainty in the United States and global economies. If the global economic decline continues, existing customers may decrease their purchases of our software products or delay their implementation of our software products, and prospective customers may decide not to adopt our software products, any of which could negatively impact our business and operating results.

Our industry is subject to cyclical fluctuation, which could affect our operating results.

The electronics industry has historically been subject to cyclical fluctuations in demand for its products, and this trend may continue in the future. These industry downturns have been and may continue to be characterized by diminished product demand, excess manufacturing capacity and subsequent erosion of average selling prices. Any such cyclical industry downturns could harm our operating results.

Our lengthy and unpredictable sales cycle and the large size of some orders make it difficult for us to forecast revenue and increase the magnitude of quarterly fluctuations, which could harm our stock price.

Customers for our software products typically commit significant resources to evaluate available software. The complexity of our products requires us to spend substantial time and effort to assist potential customers in evaluating our software and in benchmarking our products against those of our competitors. As the complexity of

 

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the products we sell increases, we expect our sales cycle to lengthen. In addition, potential customers may be limited in their current spending by existing time-based licenses with their legacy vendors. In these cases, customers delay a significant new commitment to our software until the term of the existing license has expired. Also, because our products require our customers to invest significant time and incur significant costs, we must target those individuals within our customers’ organizations who are able to make these decisions on behalf of their companies. These individuals tend to be senior management in an organization, typically at the vice president level. We may face difficulty identifying and establishing contact with such individuals. Even after those individuals decide to purchase our products, the negotiation and documentation processes can be lengthy and could lead the decision-maker to reconsider the purchase. Consequently, we may incur substantial expense and devote significant management time and effort to develop potential relationships that do not result in agreements or revenues and that may prevent us from pursuing other opportunities.

Our sales cycle typically ranges between three and nine months but can be longer. Any delay in completing sales in a particular quarter could cause our operating results to fall below expectations. Furthermore, economic downturns, technological changes, litigation risk or other competitive factors could cause some customers to shorten the terms of their licenses significantly, and such shorter terms could in turn have an impact on our total results for orders for this fiscal year. In addition, the precise mix of orders is subject to substantial fluctuation in any given quarter or multiple quarter periods, and the actual mix of licenses sold affects the revenue we recognize in the period. Even if we achieve the target level of total orders, we may not meet our revenue targets if we are unable to achieve our target license mix. In particular, we may fall short of our revenue targets if we deliver more long-term or ratable licenses than expected, or we may exceed our revenue targets if we deliver more short-term licenses than expected.

Our quarterly results are difficult to predict, and if we fail to reach certain quarterly financial expectations, our stock price is likely to decline.

Our quarterly revenue and operating results fluctuate from quarter to quarter and are difficult to predict. It is likely that our operating results in some periods will be below investor expectations. If this happens, the market price of our common stock is likely to decline. Fluctuations in our future quarterly operating results may be caused by many factors, including:

 

   

size and timing of customer orders, which are received unevenly and unpredictably throughout a fiscal year;

 

   

the mix of products licensed and types of license agreements;

 

   

our ability to recognize revenue in a given quarter;

 

   

timing of customer license payments;

 

   

the relative mix of time-based licenses bundled with maintenance, unbundled time-based license agreements and perpetual license agreements, each of which requires different revenue recognition practices;

 

   

size and timing of revenue recognized in advance of actual customer billings and customers with graduated payment schedules which may result in higher accounts receivable balances and days sales outstanding (“DSO”);

 

   

changes in accounting rules and practices related to revenue recognition;

 

   

the relative mix of our license and services revenue;

 

   

our ability to win new customers and retain existing customers;

 

   

changes in our pricing and discounting practices and licensing terms and those of our competitors;

 

   

changes in the level of our operating expenses, including general compensation levels as well as increases in incentive compensation payments that may be associated with future revenue growth;

 

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higher-than-anticipated costs in connection with litigation;

 

   

the timing of product releases or upgrades by us or our competitors; and

 

   

the integration, by us or our competitors, of newly-developed or acquired products or businesses.

We have a history of losses, except for fiscal 2003 and fiscal 2004, and had an accumulated deficit of approximately $383.8 million as of May 2, 2010. If we continue to incur losses, the trading price of our stock may decline.

We had an accumulated deficit of approximately $383.8 million as of May 2, 2010. Except for fiscal 2003 and fiscal 2004, we incurred losses in all other fiscal years since our incorporation in 1997. If we continue to incur losses, or if we fail to achieve profitability at levels expected by securities analysts or investors, the market price of our common stock may decline. If we continue to incur losses, we may not be able to maintain or increase our number of employees or our investment in capital equipment, sales, marketing, and research and development programs.

We have faced lawsuits related to patent infringement and other claims, and we may face additional intellectual property infringement claims or other litigation. Lawsuits can be costly to defend, can take the time of our management and employees away from day-to-day operations, and could result in our losing important rights and paying significant damages.

We have faced lawsuits related to patent infringement and other claims in the past. For example, Synopsys previously filed various suits, including actions for patent infringement, against us. In addition, a putative stockholder class action lawsuit and a putative derivative lawsuit were filed against us. All claims brought against us by Synopsys have been fully resolved by a settlement and a license under the asserted patents, although other similar litigation involving Synopsys or other parties may follow. For another example, we currently face a lawsuit in which one of our insurers, Genesis Insurance Company, seeks the return of $5 million it paid towards the settlement of the putative stockholder and derivative lawsuits that arose out of the Synopsis patent infringement lawsuit. The case is pending and described in more detail in Item 3. Legal Proceedings. In the future, other parties may assert intellectual property infringement claims against us or our customers. We may have acquired or may in the future acquire software as a result of our acquisitions, and we could be subject to claims that such software infringes the intellectual property rights of third parties. We also license technology from certain third parties and could be subject to claims if the software that we license is deemed to infringe the rights of others. In addition, we are often involved in or threatened with commercial litigation unrelated to intellectual property infringement claims such as labor litigation and contract claims, and we may acquire companies that are actively engaged in such litigation.

Our products may be found to infringe intellectual property rights of third parties, including third-party patents. In addition, many of our contracts contain provisions in which we agree to indemnify our customers against third-party intellectual property infringement claims that are brought against them based on their use of our products. Also, we may be unaware of filed patent applications that relate to our software products. We believe that the patent portfolios of our competitors generally are far larger than ours. This disparity between our patent portfolio and the patent portfolios of our competitors may increase the risk that they may sue us for patent infringement and may limit our ability to counterclaim for patent infringement or settle through patent cross-licenses.

The outcome of intellectual property litigation and other types of litigation could result in our loss of critical proprietary rights and unexpected operating costs and substantial monetary damages. Intellectual property litigation and other types of litigation are expensive and time-consuming and could divert our management’s attention from our business. If there is a successful claim against us for infringement, we may be ordered to pay substantial monetary damages (including punitive damages), be prevented from distributing all or some of our products, and be required to develop non-infringing technology or enter into royalty or license agreements, which may not be available on acceptable terms, if at all. Our failure to develop non-infringing technologies or license any required proprietary rights on a timely basis could harm our business.

 

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Publicly announced developments in litigation matters, as well as other factors, may cause our stock price to decline sharply and suddenly, and we are subject to ongoing risks of securities class action litigation related to volatility in the market price for our common stock.

We may not be successful in defending some or all claims that may be brought against us. Regardless of the outcome, litigation can result in substantial expense and could divert the efforts of our management and technical personnel from our business. In addition, the ultimate resolution of the lawsuits could have a material adverse effect on our financial position, results of operations and cash flow, and harm our ability to execute our business plan.

Our operating results will be harmed if chip designers do not adopt or continue to use Blast Fusion, Talus, FineSim, the Quartz family of products, Titan or our other current and future products.

Blast Fusion and its successor product Talus have accounted for the largest portion of our revenue since our inception, and we believe that revenue from Talus, Tekton, FineSim, the Quartz family of products and Titan will account for most of our revenue for the foreseeable future. To the extent that our customer base discontinues use of Blast Fusion and does not upgrade to our Talus products, our operating results may be significantly harmed. In addition, we have dedicated significant resources to developing and marketing Talus, Titan and other products. We must gain market penetration of Talus, Tekton, FineSim, the Quartz family of products, Titan and other products in order to achieve our growth strategy and financial success. Moreover, if integrated circuit designers do not continue to adopt or use Talus, Tekton, FineSim, the Quartz family of products, Titan or our other current and future products, our operating results will be significantly harmed.

Our operating results may be harmed if our customers do not adopt, or are slow to adopt, 65-nanometer and smaller design geometries on a large scale.

Our customers are currently working on a range of design geometries, including 45-nanometer, 65-nanometer and 90-nanometer designs. We continue to work toward developing and enhancing our product line in anticipation of increased customer demand for 65-nanometer and other smaller-design geometries. Notwithstanding our efforts to support 65-nanometer and other smaller design geometries, customers may fail to adopt, or may face technical difficulties in adopting, these geometries on a large scale and we may be unable to persuade our customers to purchase our related software products. Accordingly, any revenue we receive from enhancements to our products or acquired technologies may be less than the development or acquisition costs. If customers fail to adopt or delay the adoption of 65-nanometer and other smaller design geometries on a large scale, our operating results may be harmed. In addition, if customers are not able successfully to generate profits as they adopt smaller geometries, demand for our products may be adversely affected, and our operating results may be harmed.

Difficulties in developing and achieving market acceptance of new products and delays in planned release dates of our software products and upgrades may harm our business and cause our operating results to decline.

The semiconductor industry is characterized by rapid technology developments, changes in industry standards and customer requirements and frequent new product introductions and improvements. For our business to be successful, we will need to develop or acquire innovative new products. We may not have the financial resources necessary to fund all required future innovations. Expanding into new technologies or extending our product line into areas we have not previously addressed may be more costly or difficult than we presently anticipate. Also, any revenue that we receive from enhancements or new generations of our proprietary software products may be less than the costs that we incur to develop or acquire those technologies and products. If we fail to develop and market new products in a timely manner, or if new products do not meet performance features as marketed, our reputation and our business could suffer.

 

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In particular, the semiconductor industry has recently made significant technological advances in deep sub-micron technology, which have required EDA companies to develop or acquire new products and enhance existing products continuously. The evolving nature of our industry could render our existing products and services obsolete. Our success will depend, in part, on our ability to:

 

   

enhance our existing products and services;

 

   

develop and introduce new products and services in a timely and cost-effective manner that will keep pace with technological developments and evolving industry standards;

 

   

address the increasingly sophisticated needs of our customers; and

 

   

acquire other companies that have complementary or innovative products.

If we are unable, for technical, legal, financial or other reasons, to respond in a timely manner to changing market conditions or customer requirements, our business and operating results could be seriously harmed.

Our research and development expenditures have decreased in recent years, and we may not be able to develop new products or update existing products, which may reduce our revenue growth and net income for several years.

Developing EDA technology and integrating acquired technology into existing platforms is expensive, and these investments often require a long time to generate returns. We devote a substantial portion of our resources to developing new products and enhancing our existing products, conducting product testing and quality assurance testing, improving our core technology and strengthening our technological expertise in the EDA market. We believe that we must continue to devote substantial resources to our research and development efforts to maintain and improve our competitive position. Our research and development expenditure for fiscal 2010 was $47.0 million, compared to $68.8 million and $76.9 million for fiscal 2009 and fiscal 2008, respectively. If we are required to invest significantly greater resources than anticipated in research and development efforts in the future, our operating expenses would increase. If these increased efforts do not result in a corresponding increase in revenue, or if our recent decrease in research and development expenditure results in a corresponding decrease in revenue, our operating results could decline. Further, research and development expenses are likely to fluctuate from time to time to the extent we make periodic incremental investments in research and development, and these investments may be independent of our level of revenue, which could negatively affect our financial results.

Our costs of customer engagement and support are high, so our gross margin may decrease if we incur higher-than-expected costs associated with providing support services in the future or if we reduce our prices.

Because of the complexity of our products, we typically incur high field application engineering support costs to engage new customers and assist them in their evaluations of our products. If we fail to manage our customer engagement and support costs, our operating results could suffer. In addition, our gross margin may decrease if we are unable to manage support costs associated with the services revenue we generate or if we reduce prices in response to competitive pressure.

If chip designers and manufacturers do not integrate our software into existing design flows, or if other software companies do not cooperate in working with us to interface our products with their design flows, demand for our products may decrease.

To implement our business strategy successfully, we must provide products that interface with the software of other EDA software companies. Our competitors may not support efforts by us or by our customers to integrate our products into their existing design flows. We must develop cooperative relationships with competitors so that they will work with us to integrate our software into customers’ design flow. Currently, our

 

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software is designed to interface with the existing software of Cadence, Synopsys and others. If we are unable to persuade customers to adopt our software products instead of those of competitors (including competitors offering a broader set of products), or if we are unable to persuade other software companies to work with us to interface our software to meet the demands of chip designers and manufacturers, our business and operating results will suffer.

Product defects could cause us to lose customers and revenue, or to incur unexpected expenses.

Our products depend on complex software, which we either developed internally or acquired or licensed from third parties. Our customers may use our products with other companies’ products, which also contain complex software. If our software does not meet our customers’ performance requirements or meet the performance features as marketed, our customer relationships may suffer. Also, a limited number of our contracts include specified ongoing performance criteria. If our products fail to meet these criteria, it may lead to termination of these agreements and loss of future revenue. Complex software often contains errors. Any failure or poor performance of our software or the third-party software with which it is integrated could result in:

 

   

delayed market acceptance of our software products;

 

   

delays in product shipments;

 

   

unexpected expenses and diversion of resources to identify the source of errors or to correct errors;

 

   

loss of customers and damage to our reputation;

 

   

increased service costs:

 

   

delayed or lost revenue; and

 

   

product liability claims.

Our product functions are often critical to our customers, especially because of the resources our customers expend on the design and fabrication of integrated circuits. Many of our licensing agreements contain provisions to provide a limited warranty. In addition, some of our licensing agreements provide the customer with a right of refund for the license fees if we are unable to correct errors reported during the warranty period. If our contractual limitations are unenforceable in a particular jurisdiction or if we are exposed to claims that are not covered by insurance, a successful claim could harm our business. We currently carry insurance coverage and limits that we believe are consistent with similarly situated companies within the EDA industry; however, our insurance coverage may prove insufficient to protect against any claims that we may experience.

We may not be able to hire or retain the number of qualified personnel required for our business, particularly engineering personnel, which would harm the development and sales of our products and limit our ability to grow.

Competition in our industry for senior management, technical, sales, marketing and other key personnel is intense. If we are unable to retain our existing personnel, or attract and train additional qualified personnel, our growth may be limited due to a lack of capacity to develop and market our products.

Our success depends on our ability to identify, hire, train and retain qualified engineering personnel with experience in integrated circuit design. Specifically, we may need to continue to attract and retain field application engineers to work with our direct sales force to qualify new sales opportunities technically and perform design work to demonstrate our products’ capabilities to customers during the benchmark evaluation process. Competition for qualified engineers is intense, particularly in the Silicon Valley area where our headquarters are located. If we lose the services of a significant number of our employees or if we cannot hire additional employees of the same caliber, we will be unable to increase our sales or implement or maintain our growth strategy.

 

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Our success is highly dependent on the technical, sales, marketing and managerial contributions of key individuals whom we may be unable to recruit and retain.

We depend on our senior executives and certain key research and development and sales and marketing personnel, who are critical to our business. We do not have long-term employment agreements with our key employees, and we do not maintain any key person life insurance policies. Furthermore, our larger competitors may be able to offer more generous compensation packages to executives and key employees, and therefore we risk losing key personnel to those competitors. If we lose the services of any of our key personnel, our product development processes and sales efforts could be harmed. We may also incur increased operating expenses and be required to divert the attention of our senior executives to search for their replacements. The integration of new executives or new personnel could disrupt our ongoing operations.

If we fail to offer and maintain competitive compensation packages for our employees, or if our stock price declines materially for a protracted period of time, we might have difficulty retaining our employees and our business may be harmed.

If the compensation of our employees is not competitive or satisfactory to the employees, we may have difficulty in retaining our employees and our business may be harmed. In today’s competitive technology industry, employment decisions of highly skilled personnel are influenced by equity compensation packages. Our stock price has declined significantly for many years due to market conditions and other factors. In addition, our stock price has declined significantly in light of our recent financial results.

Even though we recently exchanged certain stock options of employees for restricted stock units as a means to try to retain employees, such exchange might not be sufficient to retain employees. Therefore, we may be forced to grant additional options or other equity to retain employees. This in turn could result in:

 

   

immediate and substantial dilution to investors resulting from the grant of additional options or other equity necessary to retain employees; and

 

   

compensation charges against us, which would negatively impact our operating results.

In addition, the NASDAQ Marketplace Rules require stockholder approval for new equity compensation plans and significant amendments to existing equity compensation plans, including increases in shares available for issuance under such plans, and prohibit brokers holding shares of our common stock in customer accounts from giving a proxy to vote on equity compensation plans unless the beneficial owner of the shares has given voting instructions. These regulations could make it more difficult for us to grant equity compensation to employees in the future. To the extent that these regulations make it more difficult or expensive to grant equity compensation to employees, we may incur increased compensation costs or find it difficult to attract, retain and motivate employees, which could adversely affect our business.

If our sales force compensation arrangements are not designed effectively, we may lose sales personnel and resources.

Designing an effective incentive compensation structure for our sales force is critical to our success. We have experimented, and continue to experiment, with different systems of sales force compensation. If our incentives are not well designed, we may experience reduced revenue generation, and we may also lose the services of our more productive sales personnel, either of which would reduce our revenue or potential revenue.

We have had to implement a series of restructuring efforts recently. In the event that these efforts result in ineffective interoperability between our products or ineffective collaboration among our employees, or we are unable to continue to manage the pace of our growth, our business could be harmed.

The recent global economic downturn has negatively affected the semiconductor industry and our business, and in response to these adverse conditions we have had to implement a series of restructuring efforts. We initiated a restructuring plan in May 2008 for which we incurred restructuring charges of $10.7 million in fiscal

 

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2009, and $2.7 million in fiscal 2010, primarily for employee termination and facility closure costs. It is possible we will make adjustments to our restructuring accrual based on the information we receive during fiscal 2011. This reduction in force might harm operating results by making it more difficult for the reduced workforce to take advantage of business opportunities and reach revenue goals. Furthermore, if our organizational structure or restructuring plan results in ineffective interoperability between our products or ineffective collaboration among our employees, then our operating results may be harmed. For example, we could experience delays in new product development that could cause us to lose customer orders, which could harm our operating results. To pace the growth of our operations with the growth in our revenue, we must continue to improve administrative, financial and operations systems, procedures and controls. Failure to improve our internal procedures and controls could hinder our efforts to manage our growth adequately, disrupt operations, lead to additional expenses associated with restructurings, lead to deficiencies in our internal controls and financial reporting and otherwise harm our business.

We may be unable to make payments to satisfy our indemnification obligations.

We enter into standard license agreements in the ordinary course of business. Pursuant to these agreements, we agree to indemnify certain of our 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 our products. These indemnification obligations have perpetual terms. Our normal business practice is to limit the maximum amount of indemnification to the amount received from the customer. On occasion, the maximum amount of indemnification we may be required to make may exceed our normal business practices. We estimate that the fair value of our indemnification obligations are insignificant, based upon our historical experience concerning product and patent infringement claims. Accordingly, we have no liabilities recorded for indemnification under these agreements as of May 2, 2010. If an indemnification event were to occur, we might not have enough funds to pay our indemnification obligations. Further, any material indemnification payment could have a material adverse effect on our financial condition and the results of our operations.

We have entered into certain indemnification agreements whereby certain of our officers and directors are indemnified for certain events or occurrences while the officer or director is, or was, serving at our request in such capacity. Additionally, in connection with certain of our recent business acquisitions, we agreed to assume, or cause our subsidiaries to assume, indemnification obligations to the officers and directors of the acquired companies. While we have directors and officers insurance that reduces our exposure and enables us to recover a portion of any future amounts paid pursuant to our indemnification obligations to our officers and directors, the maximum potential amount of future payments we could be required to make under these indemnification agreements is unlimited. However, as a result of our directors and officers insurance coverage and our belief that our estimated potential exposure to our officers and directors for indemnification liabilities is minimal, no liabilities have been recorded for these agreements as of May 2, 2010. Therefore, if an indemnification event were to occur, we might not have enough funds to pay our indemnification obligations. Further, any material indemnification payment could have a material adverse effect on our financial condition and the results of our operations.

Acquisitions are an important element of our strategy. We may not find suitable acquisition candidates and we may not be successful in integrating the operations of acquired companies and acquired technology.

Part of our growth strategy is to pursue acquisitions. We expect to continuously evaluate the possibility of accelerating our growth through acquisitions, as is customary in the EDA industry. The recent decline in the price of our common stock, our focus on cash management and our need to reduce our debt levels may impact our ability to pursue acquisitions for some period of time. Achieving the anticipated benefits of past and possible future acquisitions will depend in part upon whether we can integrate the operations, products and technology of acquired companies with our operations, products and technology in a timely and cost-effective manner. The process of integrating acquired companies and acquired technology is complex, expensive and time consuming,

 

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and may cause an interruption of, or loss of momentum in, the product development and sales activities and operations of both companies. In addition, the earnout arrangements we use, and expect to continue to use, to consummate some of our acquisitions, pursuant to which we agreed to pay additional amounts of contingent consideration based on the achievement of certain revenue, bookings or product development milestones, can sometimes complicate integration efforts. We cannot be sure that we will find suitable acquisition candidates or that acquisitions we complete will be successful. Assimilating previously acquired companies such as Sabio Labs, Inc. (“Sabio”), Knights Technology, Inc. (“Knights”), ACAD Corporation (“ACAD”), Mojave, Silicon Metrics Corporation, or any other companies we have acquired or may seek to acquire in the future, involves a number of other risks, including, but not limited to:

 

   

adverse effects on existing customer relationships, such as cancellation of orders or the loss of key customers;

 

   

adverse effects on existing licensor or supplier relationships, such as termination of certain license agreements;

 

   

difficulties in integrating or retaining key employees of the acquired company;

 

   

the risk that earnouts based on revenue will prove difficult to administer due to the complexities of revenue recognition accounting;

 

   

the risk that actions incentivized by earnout provisions will ultimately prove not to be in our best interest if our interests change over time;

 

   

difficulties in integrating the operations of the acquired company, such as information technology resources, manufacturing processes, and financial and operational data;

 

   

difficulties in integrating the technologies of the acquired company into our products;

 

   

diversion of our management’s attention;

 

   

potential incompatibility of business cultures;

 

   

post-acquisition discovery of previously unknown liabilities assumed with the acquired business;

 

   

unanticipated litigation in connection with or as a result of an acquisition;

 

   

potential dilution to existing stockholders if we incur debt or issue equity securities to finance acquisitions; and

 

   

additional expenses associated with the amortization of intangible assets.

Because much of our business is international, we are exposed to risks inherent in doing business internationally that could harm our business. We also intend to expand our international operations. If our revenue from this expansion does not exceed the expenses associated with this expansion, our business and operating results could suffer.

During fiscal 2010 and fiscal 2009, we generated 41% of our total revenue from sales outside North America.

To the extent that we expand our international operations, we may need to continue to maintain offices in Europe, the Middle East, and the Asia Pacific region. If our revenue from international operations does not exceed the expense of establishing and maintaining our international operations, our business could suffer. Additional risks we face in conducting business internationally include:

 

   

difficulties and costs of staffing and managing international operations across different geographic areas;

 

   

changes in currency exchange rates and controls;

 

   

uncertainty regarding tax and regulatory requirements in multiple jurisdictions;

 

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the possible lack of financial and political stability in foreign countries, preventing overseas sales growth;

 

   

current events in North Korea, the Middle East, and other parts of the world;

 

   

the effects of terrorist attacks in the United States or against U.S. interests overseas;

 

   

recent problems with the financial system, such as problems involving banks as well as the mortgage markets and the recent financial crisis; and

 

   

any related conflicts or similar events worldwide.

Failure to obtain export licenses could harm our business by preventing us from licensing or transferring our technology outside of the United States.

We are required to comply with U.S. Department of Commerce regulations when shipping our software products and/or transferring our technology outside of the United States or to certain foreign nationals. We believe we have complied with applicable export regulations; however, these regulations are subject to change, and future difficulties in obtaining export licenses for current, future developed and acquired products and technology, or any failure (if any) by us to comply with such requirements in the past, could harm our business, financial conditions and operating results.

We are subject to risks associated with changes in foreign currency exchange rates.

While most of our international sales to date have been denominated in U.S. dollars, our international operating expenses have been denominated in foreign currencies. As a result, a decrease in the value of the U.S. dollar relative to such foreign currencies could increase the relative costs of our overseas operations, which could reduce our operating margins. This exposure is primarily related to a portion of revenue in Japan and operating expenses in Europe, Japan and Asia-Pacific, which are denominated in the respective local currencies. As of May 2, 2010, we had approximately $6.3 million of cash and money market funds in foreign currencies. During the third quarter of fiscal 2008, we started entering into foreign exchange forward contracts to mitigate the effects of our currency exposure risk for foreign currency transactions in Japanese Yen. While we assess the need to utilize financial instruments to hedge currency exposures on an ongoing basis, our assessments may prove incorrect. Therefore, movements in exchange rates could negatively impact our business operating results and financial condition.

Forecasting our tax rates is complex and subject to uncertainty.

Our management must make significant assumptions, judgments and estimates to determine our current provision for income taxes, deferred tax assets and liabilities, and any valuation allowance that may be recorded against our deferred tax assets. These assumptions, judgments and estimates are difficult to make due to their complexity, and the relevant tax law is often changing.

Our future effective tax rates could be adversely affected by the following:

 

   

an increase in expenses that are not deductible for tax purposes, including stock-based compensation and write-offs of acquired in-process research and development;

 

   

changes in the valuation of our deferred tax assets and liabilities;

 

   

future changes in ownership that may limit realization of certain assets;

 

   

changes in forecasts of pre-tax profits and losses by jurisdiction used to estimate tax expense by jurisdiction;

 

   

assessment of additional taxes as a result of federal, state, or foreign tax examinations; or

 

   

changes in tax laws or interpretations of such tax laws.

 

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Future changes in accounting standards, specifically changes affecting revenue recognition, could cause unexpected adverse revenue fluctuations for us.

Future changes in accounting standards or interpretations thereof, specifically those changes affecting software revenue recognition, could require us to change our methods of revenue recognition. These changes could result in deferral of revenue recognized in current periods to subsequent periods or in accelerated recognition of deferred revenue to current periods, each of which could cause shortfalls in meeting the expectations of investors and securities analysts. Our stock price could decline as a result of any shortfall.

Our ability to use our net operating losses (“NOLs”) and other tax attributes to offset future taxable income could be limited by an ownership change and/or decisions by California and other states to suspend the use of NOLs.

We have significant NOLs, research and development (“R&D”) tax credits, available to offset our future U.S. federal and state taxable income. Those NOLs are subject to limitations imposed by Section 382 of the Internal Revenue Code (and applicable state law). In addition, our ability to utilize any of our NOLs and other tax attributes may be subject to significant limitations under Section 382 of the Internal Revenue Code (and applicable state law) if we undergo an ownership change. In the event of an ownership change, Section 382 imposes an annual limitation (based upon our value at the time of the ownership change, as determined under Section 382 of the Internal Revenue Code) on the amount of taxable income a corporation may offset with NOLs. If we undergo an ownership change, Section 382 would also limit our ability to use R&D tax credits. In addition, if the tax basis of our assets exceeded the fair market value of our assets at the time of the ownership change, Section 382 could also limit our ability to use amortization of capitalized R&D and goodwill to offset taxable income for the first five years following an ownership change. Any unused annual limitation may be carried over to later years until the applicable expiration date for the respective NOLs. As a result, our inability to utilize these NOLs, credits or amortization as a result of any ownership changes could adversely impact our operating results and financial condition.

In addition, California and certain states have suspended use of NOLs for certain taxable years, and other states are considering similar measures. As a result, we may incur higher state income tax expense in the future. Depending on our future tax position, continued suspension of our ability to use NOLs in states in which we are subject to income tax could have an adverse impact on our operating results and financial condition.

We have incurred and will continue to incur significant costs as a result of being a public company.

As a public company, we incur significant legal, accounting and other expenses. In addition, the Sarbanes-Oxley Act of 2002, as well as rules subsequently implemented by the SEC and the Nasdaq Global Market, required changes in the corporate governance practices of public companies, which increased our legal and financial compliance costs. In particular, we have incurred and will continue to incur administrative expenses relating to compliance with Section 404 of the Sarbanes-Oxley Act, which requires that we implement and maintain an effective system of internal controls and annual certification of our compliance by our independent registered public accounting firm.

We are required to evaluate our internal control over financial reporting under Section 404 of the Sarbanes-Oxley Act of 2002 and any adverse results from such evaluation could result in a loss of investor confidence in our financial reports and have an adverse effect on our stock price.

Pursuant to Section 404 of the Sarbanes-Oxley Act of 2002 (“Section 404”), we are required to report on, and our independent registered public accounting firm is required to attest to, the effectiveness of our internal control over financial reporting. Our assessment of the effectiveness of our internal control over financial reporting must include disclosure of any material weaknesses in our internal control over financial reporting identified by management. We have an ongoing program to perform the system and process evaluation and

 

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testing necessary to comply with these requirements. Effective internal controls are necessary for us to provide reliable financial reports. If we cannot provide reliable financial reports, there could be an adverse reaction in the financial marketplace due to a loss of investor confidence in the reliability of our financial statements, which ultimately could negatively impact our stock price.

In addition, we must continue to monitor and assess our internal control over financial reporting because a failure to comply with Section 404 could cause us to delay filing our public reports, potentially resulting in de-listing by the Nasdaq Global Market and penalties or other adverse consequences under our existing contractual arrangements. In particular, pursuant to the indenture for the 2014 Notes, if we fail to file our annual or quarterly reports in accordance with the terms of that indenture, or if we do not comply with certain provisions of the Trust Indenture Act specified in the indenture, after the passage of certain periods of time at the election of a certain minimum number of holders of the 2014 Notes, we may be in default under the indenture unless we pay a fee equal to 1% per annum of the aggregate principal amounts of the 2014 Notes, or the extension fee, to extend the default date. Even if we pay the applicable extension fee, we will eventually be in default for these filing failures if sufficient time passes and we have not made the applicable filing.

The effectiveness of disclosure controls is inherently limited.

We do not expect that our disclosure controls and procedures, or our internal control over financial reporting, will prevent all errors and all fraud. A control system, no matter how well designed and operated, can provide only reasonable, not absolute, assurance that the control system objectives will be met. The design of a control system must also reflect applicable resource constraints, and the benefits of controls must be considered relative to their costs. As a result of these inherent limitations, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within our company have been detected. Failure of the control systems to prevent error or fraud could materially adversely impact our financial results and our business.

We may not obtain sufficient patent protection, which could harm our competitive position and increase our expenses.

Our success and ability to compete depends to a significant degree upon the protection for our software and other proprietary technology. We currently have a number of issued patents in the United States, but this number is relatively small in comparison to our competitors. Patents afford only limited protection for our technology. In addition, rights that may be granted under any patent application that may issue in the future may not provide competitive advantages to us. Further, patent protection in foreign jurisdictions where we may need this protection may be limited or unavailable. It is possible that:

 

   

our pending U.S. and non-U.S. patents may not be issued;

 

   

competitors may design around our present or future issued patents or may develop competing non-infringing technologies;

 

   

present and future issued patents may not be sufficiently broad to protect our proprietary rights; and

 

   

present and future issued patents could be successfully challenged for validity and enforceability.

We believe the patent portfolios of our competitors are far larger than ours, and this may increase the risk that they may sue us for patent infringement and may limit our ability to counterclaim for patent infringement or settle through patent cross-licenses.

 

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In addition to patents, we rely on trademark, copyright and trade secret laws and contractual restrictions to protect our proprietary rights. If these rights are not sufficiently protected, it could harm our ability to compete and generate income.

In addition to patents, we rely on a combination of trademark, copyright and trade secret laws, and contractual restrictions, such as confidentiality agreements and licenses, to establish and protect our proprietary rights. Our ability to compete and grow our business could suffer if these rights are not adequately protected. We seek to protect our source code for our software, documentation and other written materials under trade secret and copyright laws. We license our software pursuant to agreements, which impose certain restrictions on the licensee’s ability to utilize the software. We also seek to avoid disclosure of our intellectual property by requiring employees and consultants with access to our proprietary information to execute confidentiality agreements. Our proprietary rights may not be adequately protected because:

 

   

laws and contractual restrictions in U.S. and foreign jurisdictions may not prevent misappropriation of our technologies or deter others from developing similar technologies;

 

   

competitors may independently develop similar technologies and software;

 

   

for some of our trademarks, federal U.S. trademark protection may be unavailable to us;

 

   

our trademarks might not be protected or protectable in some foreign jurisdictions;

 

   

the validity and scope of our U.S. and foreign trademarks could be successfully challenged; and

 

   

policing unauthorized use of our products and trademarks is difficult, expensive and time-consuming, and we may be unable to determine the extent of this unauthorized use.

The laws of some countries in which we market our products may offer little or no protection for our proprietary technologies. Reverse engineering, unauthorized copying or other misappropriation of our proprietary technologies could enable third parties to benefit from our technologies without paying us for them, which would harm our competitive position and market share.

Our use of open source software could negatively impact our ability to sell our products.

The products, services or technologies we acquire, license, provide or develop may incorporate or use open source software. We monitor our use of open source software in an effort to avoid unintended consequences, such as reciprocal license grants, patent retaliation clauses, and the requirement to license our products at no cost. There is little or no legal precedent for interpreting the terms of these open source licenses, therefore we may be subject to unanticipated obligations regarding our products that incorporate open source software. In addition, disclosing the content of our source code could limit the intellectual property protection we can obtain or maintain for that source code or the products containing that source code and could facilitate intellectual property infringement claims against us.

The price of our common stock may fluctuate significantly, which may make it difficult for our stockholders to resell our stock at attractive prices.

Our common stock trades on the Nasdaq Global Market under the symbol “LAVA”. There have been previous quarters in which we have experienced shortfalls in revenue and earnings from levels expected by securities analysts and investors, which have had an immediate and significant adverse effect on the trading price of our common stock. Furthermore, the price of our common stock has fluctuated significantly in recent periods.

The market price of our stock is subject to significant fluctuations in response to a number of factors, including the risk factors set forth in this Annual Report on Form 10-K, many of which are beyond our control. Such fluctuations, as well as economic conditions generally, may adversely affect the market price of our common stock.

 

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In addition, equity markets in general and technology companies’ equities in particular have recently experienced extreme price and trading volume fluctuations that often have been unrelated or disproportionate to the operating performance of individual companies. These fluctuations have in the past and may in the future adversely affect the price of our common stock, regardless of our operating performance. Recent problems with the financial system, such as problems involving banks as well as the mortgage markets, might increase such market fluctuations.

Our certificate of incorporation and bylaws, and Delaware corporate law contain anti-takeover provisions which could delay or prevent a change in control even if the change in control would be beneficial to our stockholders. We could also adopt a stockholder rights plan, which could also delay or prevent a change in control.

Delaware law, as well as our certificate of incorporation and bylaws, contain anti-takeover provisions that could delay or prevent a change in control of our company, even if the change in control would be beneficial to the stockholders. These provisions could lower the price that future investors might be willing to pay for shares of our common stock. These anti-takeover provisions:

 

   

authorize our Board of Directors to create and issue, without prior stockholder approval, preferred stock that can be issued, increasing the number of outstanding shares and deter or prevent a takeover attempt;

 

   

prohibit stockholder action by written consent, thereby requiring all stockholder actions to be taken at a meeting of our stockholders;

 

   

establish a classified Board of Directors requiring that not all members of the board be elected at one time;

 

   

prohibit cumulative voting in the election of directors, which would otherwise allow less than a majority of stockholders to elect director candidates; and

 

   

limit the ability of stockholders to call special meetings of stockholders;

Section 203 of the Delaware General Corporation Law and the terms of our stock option plans also may discourage, delay or prevent a change in control of our company. Section 203 generally prohibits a Delaware corporation from engaging in a business combination with an interested stockholder for three years after the date the stockholder became an interested stockholder. Our stock option plans include change-in-control provisions that allow us to grant options or stock purchase rights that will become vested immediately upon a change in control.

Our board of directors also has the power to adopt a stockholder rights plan, which could delay or prevent a change in control of us even if the change in control is generally beneficial to our stockholders. These plans, sometimes called “poison pills,” are sometimes criticized by institutional investors or their advisors and could affect our rating by such investors or advisors. If our board were to adopt such a plan, it might have the effect of reducing the price that new investors are willing to pay for shares of our common stock.

There may be dilution to our current stockholders upon achievement of various milestones pursuant to our mergers and acquisitions.

There may be dilution to our current stockholders upon achievement of various milestones pursuant to our mergers and acquisitions. Such dilution would also dilute the voting power and ownership interest of our existing stockholders and could cause the market price of our common stock to decline and could increase the fluctuations in our stock price.

 

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Our business operations may be adversely affected in the event of an earthquake or other natural disaster.

Our corporate headquarters and much of our research and development operations are located in San Jose, California, in California’s Silicon Valley region, which is an area known for its seismic activity. An earthquake, fire or other significant natural disaster, whether the result of global climate change or other factors, could have a material adverse impact on our business, financial condition and/or operating results.

ITEM 1B.    UNRESOLVED STAFF COMMENTS

None

ITEM 2.       PROPERTIES

Our corporate headquarters are located in San Jose, California, where we occupy approximately 106,854 square feet under two leases, both of which expire on October 31, 2011. We have North American sales offices in California, North Carolina and Texas. In addition, we have European offices in Germany, the Netherlands and the United Kingdom, an office in Israel, and Asian offices in China, India, Japan, South Korea and Taiwan. We believe our current facilities are adequate to support our current and near-term operations. However, if we need additional space, adequate space may not be available on commercially reasonable terms or at all.

 

ITEM 3.       LEGAL PROCEEDINGS

We are subject to certain legal proceedings described below and from time to time, we are also involved in other disputes that arise in the ordinary course of business. The number and significance of these legal proceedings and disputes may increase as our size changes. Any claims against us, whether meritorious or not, could be time consuming, result in costly litigation, require significant amounts of management time and result in the diversion of significant operational resources. As a result, these legal proceedings and disputes could harm our business and have an adverse effect on its consolidated financial statements. However, the results of any litigation or dispute are inherently uncertain and, at this time, no estimate could be made of the loss or range of loss, if any, from such litigation matters and disputes unless they are or are close to being settled. Liabilities are recorded when a loss is probable and the amount can be reasonably estimated. No accrued legal settlement liabilities are recorded on the consolidated balance sheet as of May 2, 2010. Litigation settlement and legal fees are expensed in the period in which they are incurred.

In Genesis Insurance Company v. Magma Design Automation, et al., Case No. 06-5526-JW, in the United States District Court for the Northern District of California, Genesis seeks a declaration of its rights and obligations under an excess directors and officers liability policy for defense and settlement costs arising out of the securities class action against the Company, in re Magma Design Automation, Inc. Securities Litigation, as well as a related derivative lawsuit. Genesis seeks a return of $5 million it paid towards the settlement of the securities class action and derivative lawsuits from the Company or from another of the Company’s excess directors and officers liability insurers, National Union. The Company contends that either Genesis or National Union owes the settlement amounts, but not the Company. The trial court granted summary judgment for the Company and National Union, finding that Genesis owed the settlement amount. Genesis appealed to the Ninth Circuit Court of Appeals, and the Company cross-appealed. On July 12, 2010, the court of appeal reversed, ruling that Genesis does not owe the settlement amount under its policy, and remanded the case to the trial court for further proceedings. While there can be no assurance as to the ultimate disposition of the litigation, we do not believe that its resolution will have a material adverse effect on our financial position, results of operations or cash flows.

 

ITEM 4.       REMOVED AND RESERVED

 

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PART II

ITEM 5.    MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Our common stock is traded on the Nasdaq Global Market under the symbol “LAVA”. Public trading in our common stock commenced on November 20, 2001. Prior to that, there was no public market for our common stock. As of July 12, 2010, there were 236 holders of record (not including beneficial holders of stock held in street names) of our common stock.

The following table sets forth, for the periods indicated, the high and low per share sale prices of our common stock, as reported by the Nasdaq Global Market.

 

     High    Low

Fiscal 2010

     

Fourth quarter

   $ 3.88    $ 2.24

Third quarter

   $ 2.80    $ 2.01

Second quarter

   $ 2.64    $ 1.35

First quarter

   $ 2.23    $ 1.08

Fiscal 2009

     

Fourth quarter

   $ 1.98    $ 0.68

Third quarter

   $ 3.20    $ 0.85

Second quarter

   $ 7.00    $ 1.53

First quarter

   $ 7.67    $ 5.92

 

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The following graph compares the cumulative 5-year total return to holders of our common stock relative to the cumulative total returns of the NASDAQ Composite Index and the NASDAQ Computer & Data Processing Index. The graph assumes that the value of the investment in our common stock and in each index was $100 on March 31, 2005 and tracks it (including reinvestment of dividends) through May 2, 2010. The comparisons in the table are required by the SEC and are not intended to forecast or be indicative of possible future performance of the common stock.

LOGO

 

     March 31,
2005
   April 02,
2006
   April 01,
2007
   April 06,
2008
   May 4,
2008
   May 3,
2009
   May 2,
2010

Magma Design Automation, Inc.

   100.00    72.87    100.76    85.26    58.97    22.05    44.33

NASDAQ Composite

   100.00    117.95    122.89    121.37    126.84    85.16    122.88

NASDAQ Computer & Data

   100.00    117.76    128.49    131.42    139.81    97.34    141.03

 

* $100 invested on 3/31/05 in stock or index, including reinvestment of dividends. Indexes calculated on month-end basis.

The above performance graph shall not be deemed “filed” for purposes of Section 18 of the Exchange Act or otherwise subject to the liabilities under that section and shall not be deemed to be incorporated by reference into any filing of Magma under the Securities Act of 1933, as amended, or the Exchange Act.

 

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Dividend Policy

We have not declared or paid cash dividends on our common stock and do not anticipate paying any cash dividends in the foreseeable future. Our credit facility restricts our ability to pay dividends. We expect to retain future earnings, if any, to fund the development and growth of our business. Our Board of Directors will determine future dividends, if any.

Recent Sales of Unregistered Securities

None.

Purchases of Equity Securities by the Issuer

None.

ITEM 6.    SELECTED FINANCIAL DATA

The following selected consolidated financial data are qualified by reference to, and should be read in conjunction with, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” below and the Consolidated Financial Statements and related Notes included in Item 8 of this Annual Report. The selected consolidated balance sheet data as of May 2, 2010 and May 3, 2009 and selected consolidated statements of operations data for the years ended May 2, 2010, May 3, 2009 and April 6, 2008, are derived from our audited consolidated financial statements included elsewhere in this Annual Report. The selected consolidated balance sheet data as of April 6, 2008, April 1, 2007 and April 2, 2006 and the selected consolidated statements of operations data for the years ended April 1, 2007 and April 2, 2006 were derived from audited consolidated financial statements not included in this Annual Report. Our historical results are not necessarily indicative of our future results.

 

     Fiscal Year Ended  
     May 2,
2010
    May 3, 2009
(as adjusted)1
    April 6, 2008
(as adjusted)1
    April 1, 2007
(as adjusted)1
    April 2,
2006
 
     (in thousands, except per share data)  

Consolidated Statements of Operations Data:

          

Revenue

   $ 123,077      $ 146,957      $ 214,419      $ 178,153      $ 164,044   

Cost of Revenue

   $ 20,553      $ 48,329      $ 49,354      $ 54,579      $ 41,715   

Operating income (loss)(1)(2)(3)(6)

   $ (7,825   $ (124,198   $ (24,732   $ (67,773   $ (26,529

Other income (expense), net(4)(5)

   $ (2,251   $ (4,280   $ (2,436   $ 7,269      $ 8,141   

Net income (loss)

   $ (3,334   $ (129,242   $ (33,808   $ (61,185   $ (20,937

Net income (loss) per share—basic

   $ (0.07   $ (2.89   $ (0.83   $ (1.67   $ (0.61

Net income (loss) per share—diluted

   $ (0.07   $ (2.89   $ (0.83   $ (1.67   $ (0.61
     As of  
     May 2,
2010
    May 3, 2009
(as adjusted)1
    April 6, 2008
(as adjusted)1
    April 1, 2007
(as adjusted)1
    April 2,
2006
 
     (in thousands)  

Consolidated Balance Sheet Data:

          

Cash and cash equivalents, short-term and long-term investments

   $ 74,355      $ 50,796      $ 67,508      $ 56,038      $ 97,158   

Total assets

   $ 122,123      $ 127,033      $ 237,310      $ 239,517      $ 284,064   

Convertible notes, net

   $ 51,469      $ 47,600      $ 45,291      $ 58,408      $ 105,500   

Other non-current liabilities

   $ 16,090      $ 12,889      $ 11,264      $ 1,689      $ 5,727   

Total stockholders’ equity

   $ (4,282   $ (13,111   $ 106,448      $ 87,307      $ 113,903   

 

(1) We adopted ASC 718, Debt with Conversion and Other Options, on April 3, 2006 using the modified prospective transition method, under which we began recognizing compensation expense for stock-based awards granted on or after April 3, 2006 and unvested awards granted prior to April 3, 2006.

 

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(2) Includes a charge of $12.5 million relating to litigation settlement expense for fiscal 2007.
(3) Includes charges of $2.3 million, $1.3 million, and $0.5 million for fiscal 2008, 2007, and 2006 respectively, for in-process research and development.
(4) Includes gains on extinguishment of convertible notes of $6.5 million and $8.8 million for fiscal 2007 and 2006, respectively.
(5) Includes charges on adoption of ASC 470-20, Debt with Conversion and Other Options, of $1.5 million, $1.4 million and $0.1 million for fiscal 2009, 2008 and 2007 respectively.
(6) Fiscal 2009 operating income (loss) includes a $60.1 million charge for goodwill impairment.

ITEM 7.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

This Management’s Discussion and Analysis of Financial Condition and Results of Operations section should be read in conjunction with “Selected Consolidated Financial Data” and our consolidated financial statements and results appearing elsewhere in this Annual Report. Throughout this section, we make forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Any statements that do not relate to historical or current facts or matters are forward-looking statements. You can often identify these and other forward-looking statements by terms such as “becoming,” “may,” “will,” “should,” “predicts,” “potential,” “continue,” “anticipates,” “believes,” “estimates,” “seeks,” “expects,” “plans,” “intends,” the negative of such terms or other comparable terminology, or the use of future tense. Statements concerning current conditions may also be forward-looking if they imply a continuation of current conditions. These forward-looking statements include, but are not limited to:

 

   

our belief that our current facilities are adequate to support our current and near-term operations

 

   

our expectations about future revenue and our belief that revenue fluctuations are a result of timing of customer purchases of service

 

   

our expectation that our research and development, sales and marketing and general and administrative expenses will remain at levels comparable to prior years as a percentage of revenue

 

   

our expectation that we will attain a certain level of cash flow from license sales, maintenance agreements, consulting contracts, customer contracts, acquired workforce and acquired developed technologies and patents

 

   

our expectation that our sales cycle will lengthen

 

   

our expectation that our backlog orders are firm

 

   

our belief that we have sufficient capital resources to fund our anticipated operating and working capital requirements, capital investments and debt service

 

   

our belief that our acquisitions will enable us to compete successfully in the EDA industry and our expectation that we will be able to make acquisitions in the future

 

   

our expectation that we will be able to continue to use earnout arrangements to consummate our acquisitions and our belief that these arrangements will not complicate integration efforts

 

   

our expected costs to develop in-process research and development from an acquired company into commercially viable products

 

   

our stock price volatility

Although we believe that the expectations reflected in the forward-looking statements contained herein are reasonable, and we have based these expectations on our beliefs and assumptions, such expectations may prove to be incorrect. Our actual results of operations and financial performance could differ significantly from those expressed in or implied by our forward-looking statements. These statements involve certain known and unknown risks and uncertainties. Factors that could cause or contribute to such differences include, but are not limited to,

 

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the risks discussed under the heading “Risk Factors” in Item 1A of this Annual Report on Form 10-K. We do not intend, and undertake no obligation, to update any of our forward-looking statements after the date of this Annual Report on Form 10-K to reflect actual results or future events or circumstances.

Change in Fiscal Year End

Prior to fiscal 2009, we had a 52-53 week fiscal year ending on the first Sunday subsequent to March 31. On January 28, 2008, our Board of Directors approved a change of fiscal year from a fiscal year ending on the first Sunday subsequent to March 31 to a fiscal year ending on the Sunday closest to April 30 (except for any given year in which April 30 is a Sunday, in which case the fiscal year will end on April 30), starting with fiscal 2009. Our fiscal years consist of four quarters of 13 weeks each except for each fifth or sixth fiscal year, which includes one quarter with 14 weeks.

Our 2009 fiscal year began on May 5, 2008 and ended on May 3, 2009, resulting in a one-month transition period that began on April 7, 2008 and ended on May 4, 2008. The separate audited financial statements required for the transition period were included on Form 10-K for the fiscal year ended May 3, 2009, which was filed with the SEC on July 20, 2009.

References in this Form 10-K to fiscal 2010 represent the 52 weeks ended May 2, 2010, references to fiscal 2009 represent the 52 weeks ended May 3, 2009 and references to fiscal 2008 represent the 52 weeks ended April 6, 2008. We have not submitted financial information for the 52 weeks ended April 5, 2009 in this Form 10–K because the information is not practical or cost effective to prepare. We believe that the 52 weeks of fiscal 2008 provide a meaningful comparison to the 52 weeks of fiscal 2009 and fiscal 2010 presented in this Form 10-K. We do not believe that there are any significant factors, seasonal or otherwise, that would impact the comparability of information or trends if results for the 52 weeks ended April 5, 2009 were presented in lieu of results for the 52 weeks ended May 3, 2009. We did not experience an unusual amount of business activity or product shipment in the transition month and have reported the loss incurred in that month in our consolidated statements of operations in Item 8 of this Form 10-K. Accordingly, we have not included the results of the one-month transition period that began on April 7, 2008 and ended on May 4, 2008 in this management’s discussion and analysis of financial condition and results of operations.

Executive Summary

We provide EDA software products and related services. Our software enables chip designers to reduce the time it takes to design and produce complex integrated circuits (“IC”) used in the communications, computing, consumer electronics, networking and semiconductor industries. Our products are used in all major phases of the chip development cycle, from initial design through physical implementation. Our focus is on software used to design the most technologically-advanced integrated circuits, specifically those with minimum feature sizes of 0.13 micron and smaller. See Item 1, “Business” for a more complete description of our business.

As an EDA software provider, we generate substantially all our revenue from the semiconductor and electronics industries. Our customers typically fund purchases of our software and services out of their research and development (“R&D”) budgets. As a result, our revenue is heavily influenced by our customers’ long-term business outlook and willingness to invest in new chip designs.

The semiconductor industry is highly volatile and cost-sensitive. Our customers focus on controlling costs and reducing risk, lowering R&D expenditures, cutting back on design starts, purchasing from fewer suppliers, and requiring more favorable pricing and payment terms from suppliers. In addition, intense competition among suppliers of EDA products has resulted in pricing pressure on EDA products.

To support our customers, we have focused on providing technologically-advanced products to address each step in the IC design process, as well as integrating these products into broad platforms, and expanding our product offerings. Our goal is to be the EDA technology supplier of choice for our customers as they pursue longer-term, broader and more flexible relationships with fewer suppliers.

 

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Our accomplishments during fiscal 2010 include:

 

   

Validation by Taiwan Semiconductor Manufacturing Company (“TSMC”) of the Titan Mixed-Signal Design Platform, and FineSim SPICE and FineSim Pro circuit simulation products, for TSMC’s first Analog/Mixed-Signal Reference Flow targeting TSMC’s most advanced 28-nanometer process technology in addition to Titan platform support for TSMC 40-nm and 65-nm iPDK.

 

   

Release of Titan ALX and Titan AVP, layout productivity improvement products within the Titan platform for Analog/Mixed-Signal Design.

 

   

Release of Tekton , a new standalone timing analysis platform that leverages breakthrough technology to addresses complex sign-off challenges and is uniquely suited for today’s most challenging designs.

 

   

Release of QCP, a new standalone extractor that provides fast, high capacity, high accuracy extraction for the most complex SoC designs.

 

   

Availability of Talus® 1.1, latest release of our RTL-to-GDSII chip implementation system, which utilizes the new Talus® COre technology.

 

   

Availability of SiliconSmart ACE, a next-generation intellectual property characterization and modeling tool that sets a new standard in IP characterization and modeling for designs targeted at 28-nm and smaller process nodes.

 

   

TSMC Integrated Sign-off Flow support for Magma’s Quartz DRC and Quartz LVS.

 

   

Release of FineSim Fast Monte Carlo, a statistical simulation and Monte Carlo analysis product delivering up to 100 times speed improvement over traditional Monte Carlo analysis

 

   

Release of BoardView, a new software that extends CAD navigation and circuit debug from integrated circuits (ICs) to printed circuit boards (“PCB”) and multichip modules (“MCM”s). BoardView is the only commercially available tool to integrate IC and PCB circuit debug with online signal trace and CAD navigation.

 

   

Announcement of YieldManager® Solar, a yield enhancement software system customized for solar fabs which reduces the manufacturing costs of solar cells.

Below is a summary of our operations for fiscal 2010:

 

   

Revenue for fiscal 2010 was $123.1 million, a decrease of 16% from the prior year. Licenses and bundled licenses and services sales for fiscal 2010 and 2009 accounted for approximately 76% and 75%, respectively, of our revenue.

 

   

In fiscal 2010 cash provided from operating, investing and financing activities, as shown on our consolidated statement of cash flows, was $16.0 million, $3.7 million and $4.8 million, respectively, as compared to cash used in operating and investing activities of $5.4 million and $2.4 million and cash provided by financing activities was $0.8 million in fiscal 2009.

 

   

Basic and Diluted net loss per share decreased from $2.89 per share in fiscal 2009 to $0.07 per share in fiscal 2010.

 

   

Our employee headcount decreased to 677 as of May 2, 2010, down from 732 as of May 3, 2009. Most of the decrease in employees represents reductions to research and development and sales and marketing personnel.

Global Markets

Recent market and economic conditions have been unprecedented and challenging with tighter credit conditions and slower growth through fiscal 2010. Continued concerns about the global financial and banking

 

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system, systemic impact of inflation (or deflation), energy costs, geopolitical issues, the availability and cost of credit, the U.S. mortgage market and a declining real estate market in the U.S. have contributed to increased market volatility and diminished expectations for the global economy generally. These concerns, combined with volatile oil prices, declining business and consumer confidence and increased unemployment have recently contributed to volatility of unprecedented levels. In particular, the semiconductor industry continues to be materially adversely affected by the macroeconomic environment.

As a result of these market conditions, the availability and cost of credit has been and may continue to be adversely affected by illiquid credit markets and wider credit spreads. Concern about the stability of the financial markets has led many lenders and institutional investors to reduce, and in some cases, cease to provide funding to borrowers. Continued turbulence in the U.S. and global markets and economies has adversely affected our liquidity and financial condition, and the liquidity and financial condition of our customers. If these market conditions continue, they may continue to limit our ability to access the capital markets to meet liquidity needs, resulting in an adverse effect on our financial condition and results of operations.

Recent Acquisitions

In fiscal 2010 and fiscal 2009, we did not acquire any companies and did not make any material asset purchases.

During fiscal 2008, we acquired companies and purchased technologies that enable us to expand into new markets. We believe that these acquisitions will be a significant factor in our ability to compete successfully in the EDA industry and we expect to make similar acquisitions in the future.

On February 26, 2008, we acquired Sabio Labs, Inc., (“Sabio”) a privately-held developer of analog design solutions for mixed-signal designers. Sabio’s software enables designers to create robust analog designs, efficiently port complex circuits to new process technologies in foundries, and explore system design trade-offs early in the design process. The total purchase price for the acquisition was $16.5 million, consisting of approximately 1,574,000 shares of our common stock valued at $16.2 million and transaction costs of $270,000. As part of the initial consideration, 127,000 shares of our common stock valued at $1.3 million was associated with employee retention and is being earned and recorded as compensation expenses in accordance with such employees’ vesting schedules. In addition, we agreed to pay up to $7.5 million of contingent consideration in the form of cash or shares of Magma common stock, at our discretion, to the former Sabio stockholders upon achieving certain product integration and booking milestones.

During fiscal 2010 and fiscal 2009, a total of $0.4 million and $3.6 million, respectively in gross contingent cash consideration and a total of $1.1 million in gross contingent stock consideration in fiscal 2009 were earned by various acquired businesses upon their achievement of certain milestones under various prior asset purchase and business combination agreements.

Critical Accounting Policies and Estimates

In preparing our consolidated financial statements, we make estimates, assumptions and judgments that can have a significant impact on our revenue, operating income or loss and net income or loss, as well as on the value of certain assets and liabilities on our balance sheet. We believe that the estimates, assumptions and judgments involved in the accounting policies described below have the most significant potential impact on our financial statements, so we consider these to be our critical accounting policies. We consider the following accounting policies related to revenue recognition, stock-based compensation, unbilled accounts receivable, allowance for doubtful accounts, cash equivalent, short-term and long-term investments, strategic investments, asset purchases and business combinations, valuation of long-lived assets and income taxes to be our most critical policies due to the estimation processes involved in each.

 

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Revenue recognition

We recognize revenue in accordance with ASC 985-605, Software-Revenue Recognition (“ASC 985-605”), which generally requires revenue earned on software arrangements involving multiple elements (such as software products, upgrades, enhancements, maintenance, installation and training) to be allocated to each element based on the relative fair values of the elements. The fair value of an element must be based on evidence that is specific to us. If evidence of fair value does not exist for each element of a license arrangement and maintenance is the only undelivered element, then all revenue for the license arrangement is recognized over the term of the agreement. If evidence of fair value does exist for the elements that have not been delivered, but does not exist for one or more delivered elements, then revenue is recognized using the residual method, under which recognition of revenue for the undelivered elements is deferred and the residual license fee is recognized as revenue immediately.

Our revenue recognition policy is detailed in Note 1, The Company and Summary of Significant Accounting Policies, to the Consolidated Financial Statements in Item 8 of this Form 10-K. Management has made significant judgments related to revenue recognition. Specifically, in connection with each transaction involving our products (referred to as an “arrangement” in the accounting literature) we must evaluate whether our fee is “fixed or determinable” and we must assess whether “collectability is probable.” These judgments are discussed below.

The fee is fixed or determinable.    With respect to each arrangement, we must make a judgment as to whether the arrangement fee is fixed or determinable. If the fee is fixed or determinable, then revenue is recognized upon delivery of software (assuming other revenue recognition criteria are met). If the fee is not fixed or determinable, then the revenue is recognized when customer installments are due and payable.

In order for an arrangement to be considered to have fixed or determinable fees, 100% of the license, services and initial post contract support fee is to be paid within one year or less from the order date. We have a history of collecting fees on such arrangements according to contractual terms. Arrangements with payment terms extending beyond twelve months are considered not to be fixed or determinable.

Collectability is probable.    In order to recognize revenue, we must make a judgment about the collectability of the arrangement fee. Our judgment of the collectability is applied on a customer-by-customer basis pursuant to our credit review policy. We typically sell to customers for which there is a history of successful collection. New customers are subjected to a credit review process, which evaluates the customers’ financial positions and ability to pay. If it is determined from the outset of an arrangement that collectability is not probable based upon our credit review process, revenue is recognized on a cash receipts basis (as each payment is collected).

Licenses revenue and bundled licenses and services revenue

We derive license revenue primarily from licenses of our design and implementation software and, to a lesser extent, from licenses of our analysis and verification products. We license our products under time-based and perpetual licenses whereby license revenue is recognized after the execution of a license agreement and the delivery of the product to the customer, provided that there are no uncertainties surrounding the product acceptance, fees are fixed or determinable, collection is probable and there are no remaining obligations other than maintenance.

For perpetual licenses and unbundled time-based license arrangements, where maintenance is included for the first period of the license term, with maintenance thereafter renewable by the customer at the substantive rates stated in their agreements with us, the stated rate for maintenance renewal is vendor-specific objective evidence (“VSOE”) of the fair value of maintenance in these arrangements. For these arrangements, license revenue is recognized using the residual method in the period in which the license agreement is executed

 

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assuming all other revenue recognition criteria are met. Where an arrangement involves extended payment terms, revenue recognized using the residual method is limited to amounts due and payable.

For transactions that include bundled maintenance for the entire license term we have no VSOE of fair value of maintenance. Therefore, we recognize license revenue ratably over the maintenance period. If an arrangement involves extended payment terms—that is, where payment for less than 100% of the arrangement fee is due within one year of the contract date—we recognize revenue to the extent of the lesser of the amount due and payable or the ratable portion. We classify the revenue recognized from these transactions separately as bundled licenses and services revenue in our consolidated statements of operations.

If we were to change any of these assumptions or judgments, it could cause a material increase or decrease in the amount of revenue that we report in a particular period. Amounts invoiced relating to arrangements where revenue cannot be recognized are reflected on our balance sheet as deferred revenue and recognized over time as the applicable revenue recognition criteria are satisfied.

Services revenue

We derive services revenue primarily from consulting and training for our software products and from maintenance fees for our products. Most of our license agreements include maintenance, generally for a one-year period, renewable annually. Services revenue from maintenance arrangements is recognized on a straight-line basis over the maintenance term. Because we have VSOE of fair value for consulting and training services, revenue is recognized as these services are performed or completed. Our consulting and training services are generally not essential to the functionality of the software. Our products are fully functional upon delivery of the product. Additional factors considered in determining whether the revenue should be accounted for separately include, but are not limited to: degree of risk, availability of services from other vendors, timing of payments and impact of milestones or acceptance criteria on our ability to recognize the software license fee.

Stock-based compensation

We account for stock based compensation in accordance with ASC 718, Compensation—Stock Compensation (“ASC 718”). Under ASC 718, stock-based compensation expense is measured at the grant date, based on the fair value of the award, and is recognized as expense, net of estimated forfeitures, over the vesting period of the award.

Determining the fair value of stock-based awards at the grant date requires the input of various highly subjective assumptions, including expected future stock price volatility, expected term of instruments and expected forfeiture rates. We established the expected term for employee options and awards, as well as forfeiture rates, based on the historical settlement experience, while giving consideration to vesting schedules and to options that have estimated life cycles less than the contractual terms. Assumptions for option exercises and pre-vesting terminations of options were stratified for employee groups with sufficiently distinct behavior patterns. Expected future stock price volatility was developed based on the average of our historical weekly stock price volatility and average implied volatility. These input factors are subjective and are determined using management’s judgment. If actual results differ significantly from these estimates, stock-based compensation expense and our results of operations could be materially affected.

Unbilled accounts receivable

Unbilled accounts receivable represent revenue that has been recognized in advance of being invoiced to the customer. In all cases, the revenue and unbilled receivables are for contracts that are non-cancelable, in which there are no contingencies and where the customer has taken delivery of both the software and the encryption key required to operate the software. We typically generate invoices 45 days in advance of contractual due dates, and we invoice the entire amount of the unbilled accounts receivable within one year from the contract inception.

 

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Allowances for doubtful accounts

We maintain allowances for doubtful accounts for estimated losses resulting from the inability of our customers to make required payments. We regularly review the adequacy of our accounts receivable allowance after considering the size of the accounts receivable balance, each customer’s expected ability to pay and our collection history with each customer. We review significant invoices that are past due to determine if an allowance is appropriate using the factors described above. We also monitor our accounts receivable for concentration in any one customer, industry or geographic region.

As of May 2, 2010 and as of May 3, 2009, none of our customers accounted for more than 10% of total receivables. The allowance for doubtful accounts represents our best estimate, but changes in circumstances relating to accounts receivable may result in a requirement for additional allowances in the future. If actual losses are significantly greater than the allowance we have established, our general and administrative expenses and reported net loss would increase. Conversely, if actual credit losses are significantly less than our allowance, our general and administrative expenses would decrease and our reported net income would increase.

Fair value option for financial assets and financial liabilities

We account for financial instruments in accordance with ASC 825, Financial Instruments Overall Recognition (“ASC 825”). ASC 825 permits entities to choose to measure many financial instruments and certain other items at fair value, with changes in fair value recognized in earnings each reporting period. The election, called the fair value option, enables entities to achieve an offset accounting effect for changes in fair value of certain related assets and liabilities without having to apply complex hedge accounting provisions.

We adopted ASC 825 in the first quarter of fiscal 2009. Our adoption of ASC 825 permits us to elect to carry certain financial instruments at fair value with corresponding changes in fair value reported in the results of operations. The election to carry an instrument at fair value is made at the individual contract level and can be made only at origination or inception of the instrument, or upon the occurrence of an event that results in a new basis of accounting. Our election is on a prospective basis and is irrevocable.

During the second quarter of fiscal 2009, we elected fair value accounting for the purchased put option recorded in connection with the settlement agreement signed with UBS Financial Services, Inc. (“UBS”). This election was made in order to mitigate volatility in earnings caused by accounting for the purchased put option and underlying Auction Rate Securities (“ARS”) under different methods.

Total net gain on the ARS of $1.8 million was offset by loss on the put option $1.4 million resulted in a net gain of $0.4 million reported in valuation gain (loss) in the consolidated statement of operations for the fiscal year ended May 2, 2010, respectively.

Cash equivalent, short-term investments and long-term investments

We account for our investments in accordance with ASC 320, Investments in Debt and Equity Securities (“ASC 320”). These investments are typically classified as trading, and the gains or losses are recorded in other income or expense on the statement of operations or available-for-sale, and are recorded on the balance sheet at fair value as of the balance sheet date, with gains or losses considered to be temporary in nature reported as a component of other comprehensive income (loss) within the stockholders’ equity on our consolidated balance sheets. As of May 2, 2010, investments in ARS have been classified as trading, and are recorded on the balance sheet at fair value as of the balance sheet date, with gains or losses recorded as other income or expense on our consolidated statements of operations.

We measure fair value in accordance with the provisions in ASC 820, Fair Value Measurements and Disclosures (“ASC 820”). ASC 820 defines fair value and establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs,

 

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such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions.

Short-term investments on the consolidated balance sheet as at May 2, 2010 consist of ARS that are AAA rated and are secured by pools of student loans guaranteed by state regulated higher education agencies and reinsured by the U.S. Department of Education and the UBS purchased put option. The ARS investments were classified as long-term investments on the consolidated balance sheet as at May 3, 2009. Historically, liquidity for investors in ARS was provided via an auction process that reset the applicable interest rate generally every 28 days, allowing investors to either roll over their investments or sell them at par. Beginning in the fourth quarter of fiscal 2008, there was insufficient demand for these types of investments during the auctions and, as a result, these securities are not currently liquid.

In October 2008, we entered into an agreement with UBS that provided us with Auction Rate Securities Rights (“Rights”) to sell our ARS at par value to UBS at any time during the period from June 30, 2010 through July 2, 2012. These Rights are a separate freestanding instrument accounted for separately from the ARS, and are registered, nontransferable securities accounted for as a purchased put option initially recorded at fair value. Under the Rights agreement, UBS could, at its discretion, sell the ARS at any time through July 2, 2012 without prior notice to us and be required to pay us par value for the ARS within one day of the sale transaction settlement. Additionally, UBS offered a “no net cost” secured line of credit to us up to 75% of the market value of the ARS as determined by UBS that expired on June 30, 2010. Due to our entering into this agreement with UBS and enabling UBS to sell the ARS at any time, the ARS previously reported as available-for-sale have been transferred to trading securities as of May 2, 2010.

On July 2, 2010, we exercised our put option and liquidated the $16.8 million ARS and repaid the outstanding $11.2 million secured line of credit to UBS.

As of May 2, 2010 there was insufficient observable market information available to determine the fair value of our ARS. Prior to November 2, 2008, we estimated Level 3 fair values for these securities based on the investment bank’s valuations. The investment bank valued student loan ARSs as floating rate notes with three pricing inputs: the coupon, the current discount margin or spread, and the maturity. The coupon was generally assumed to equal the maximum rate allowed under the terms of the instrument, the current discount margin was based on an assessment of observable yields on instruments bearing comparable risks, and the maturity was based on an assessment of the terms of the underlying instrument and the potential for restructuring the ARS. The primary unobservable input to the valuation was the maturity assumption, which was set at four years for the majority of ARS instruments. Through January 6, 2008, the ARS were valued at par value due to the frequent resets that historically occurred through the auction process.

As of May 2, 2010, we engaged a third party valuation service to model Level 3 fair value using an income approach and two scenarios: one based on a 0.2 year term and no put option, and a second based on a 4.0 year term with a put option. We reviewed the methodologies employed by the third party models. This included a review of all relevant data inputs and the appropriateness of key model assumptions.

The pricing assumptions for the ARS included the coupon rate, the estimated time to liquidity, current market rates for publicly traded student loans of similar credit rating and an adjustment for lack of liquidity. The student loans are AAA rated and are secured by pools of student loans guaranteed by state regulated higher education agencies and reinsured by the U.S. Department of Education, and have maturities ranging from 2031 to 2047. The coupon rate was assumed to equal the stated maximum auction rate being received, which is determined based on the applicable 91-day U.S. Treasury rate plus 1.20% premium according to provisions outlined in each security’s agreement. The estimated time to liquidity was 4.0 years based on (i) expectations from industry brokers for liquidity in the market and (ii) the period over which UBS and other broker-dealers that had issued ARS have agreed to redeem certain ARS at par value.

 

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The purchased put option gives us the right to sell the ARS to UBS for a price equal to par value during the period June 30, 2010 to July 2, 2012, providing liquidity for the ARS sooner than the estimated 4.0 years. As we planned to exercise the purchased put option on or around June 30, 2010, the value of the purchased put option was determined based on (i) the ability to sell the securities thereby creating liquidity approximately 0.2 year before the ARS market is expected to become liquid and (ii) the avoidance of receiving below-market coupon rate while the security is illiquid and auctions are failing. The fair value of the purchased put option represents the difference between the ARS with an estimated time to liquidity of 4.0 years and the ARS with an estimated time to liquidity of 0.2 year as the purchased put option allows for the acceleration of liquidity and the avoidance of a below-market coupon rate over the two year time period.

Based on the Level 3 valuation and the transfer of the ARS from the available-for-sale category to the trading category, we recorded an other-than-temporary loss of $2.8 million in valuation gain (loss), net in the second quarter of fiscal 2009 including the transfer of accumulated temporary losses of $0.9 million from other comprehensive loss previously recorded as a component of stockholder equity. For fiscal 2009, the total loss on the ARS, including the other than temporary loss of $0.3 million, was reported in the valuation gain (loss), net in the consolidated statement of operations, this loss was offset by gains related to the purchase put option of $0.7 million. For the year ended May 2, 2010, we recorded a gain on the ARS of $1.8 million offset by losses related to the purchased put option of $1.4 million.

Accounting for asset purchases and business combinations

We are required to allocate the purchase price of acquired assets and business combinations to the tangible and intangible assets acquired and liabilities assumed, as well as in-process research and development based on their estimated fair values. Such a valuation requires management to make significant estimates and assumptions, especially with respect to the value of intangible assets.

Critical estimates in valuing certain of the intangible assets include but are not limited to: future expected cash flows from license sales, maintenance agreements, consulting contracts, customer contracts, acquired workforce and acquired developed technologies and patents; expected costs to develop the in-process research and development into commercially viable products and estimated cash flows from the projects when completed; the acquired company’s brand awareness and market position, as well as assumptions about the period of time the acquired brand will continue to be used in the combined company’s product portfolio; and discount rates. Management’s estimates of fair value are based upon assumptions believed to be reasonable, but which are inherently uncertain and unpredictable. Assumptions may be incomplete or inaccurate, and unanticipated events and circumstances may occur.

Other estimates associated with the accounting for business combinations may change as additional information becomes available regarding the assets acquired and liabilities assumed, which could result in changes in the purchase price allocation.

Goodwill impairment

ASC 350-20, Goodwill (“ASC 350-20”), requires that goodwill be tested for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis and between annual tests in certain circumstances. Application of the goodwill impairment test requires judgment, including the identification of reporting units, assigning assets and liabilities to reporting units, assigning goodwill to reporting units, and determining the fair value of the reporting units. We have determined that we have one reporting unit (see Note 16, Segment Information, to our consolidated financial statements in Item 8). Significant judgments required to estimate the fair value of reporting units include estimating future cash flows, determining appropriate discount rates and other assumptions. Changes in these estimates and assumptions could materially affect the determination of fair value for the reporting units. Any impairment losses recorded in the future could have a material adverse impact on our financial condition and results of operations.

 

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ASC 350-20 provides for a two-step approach to determining whether and by how much goodwill has been impaired. The first step requires a comparison of the fair value of the Company (reporting unit) to its net book value. To determine the fair value, we use a market approach. Under the market approach, the fair value of the reporting unit is based on quoted market prices and the number of shares outstanding of our common stock. If the fair value is greater than net book value, no impairment is deemed to have occurred. If the fair value is less, then the second step must be performed to determine the amount, if any, of actual impairment. We use the income method for the second step. The income method is based on a discounted future cash flow approach that uses estimates, including the following for the reporting unit: revenue, based on assumed market growth rates and our assumed market share; estimated costs; and appropriate discount rates based on the particular business’s weighted average cost of capital. Our estimates of market segment growth, market segment share and costs are based on historical data, various internal estimates and certain external sources, and are based on assumptions that are consistent with the plans and estimates that we use to manage the underlying business. Our business consists of both established and emerging technologies and our forecasts for emerging technologies are based upon internal estimates and external sources rather than historical information.

During fiscal 2010, we conducted our annual goodwill impairment test at December 31, 2009 using the market approach for the first step. At December 31, 2009, we determined that the fair value of the reporting unit is greater than the book value of the net assets of the reporting unit and therefore concluded there is no impairment of goodwill. Accordingly we did not proceed to the second step.

During fiscal 2009, we conducted this test during the third quarter and concluded that events had occurred and circumstances had changed during the third fiscal quarter of fiscal 2009 that showed the existence of impairment indicators, including a significant decline in our stock price and continued deterioration in the EDA software products market and the related impact on our revenue forecasts. Consistent with our approach in our annual impairment testing, in assessing the fair value of the reporting unit, we considered both the market approach and income approach. At December 31, 2008, using the step one market approach, we determined that the fair value of our reporting units was less than the book value of the net assets of the reporting unit and accordingly, we performed step two of the impairment test.

In step two of the impairment test, we determined the implied fair value of the goodwill and compared it to the carrying value of the goodwill. With the assistance of a third party valuation firm, we allocated the fair value of the reporting unit to all of its assets and liabilities as if the reporting unit had been acquired in a business combination and the fair value of the reporting unit was the price paid to acquire the reporting unit. The excess of the fair value of the reporting unit over the amount assigned to its assets and liabilities is the implied fair value of goodwill. Our step two analysis resulted in a reduction in fair value of goodwill, and therefore, we recognized an impairment charge of $60.1 million in the third quarter of fiscal 2009.

Valuation of intangibles and long-lived assets

Our intangible assets include acquired intangibles, excluding goodwill. Acquired intangibles with definite lives are amortized on a straight-line basis over the remaining estimated economic life of the underlying products and technologies (original lives assigned are one to six years). We review our long-lived assets for impairment in accordance with ASC 360, Property, Plant and Equipment (“ASC 360”). For assets to be held and used, we initiate our review whenever events or changes in circumstances indicate that the carrying amount of a long-lived asset may not be recoverable. Recoverability of an asset is measured by comparison of its carrying amount to the expected future undiscounted cash flows that the asset is expected to generate. If it is determined that an asset is not recoverable, an impairment loss is recorded in the amount by which the carrying amount of the asset exceeds its fair value. Based on our review, no impairment is indicated.

Income taxes

We account for income taxes in accordance with ASC 740, Income Taxes (“ASC 740”). Significant judgment is required in determining our provision for income taxes. In the ordinary course of business, there are

 

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many transactions and calculations where the ultimate tax outcome is uncertain. The amount of income taxes we pay could be subject to audits by federal, state, and foreign tax authorities, which could result in proposed assessments. Although we believe that our estimates are reasonable, no assurance can be given that the final outcome of these tax matters will not be different from what was reflected in our historical income tax provisions.

Deferred tax assets and liabilities result primarily from temporary timing differences between book and tax valuation of assets and liabilities, as well as federal and state net operating loss and credit carryforwards. We assess the likelihood that our net deferred tax assets will be recovered from future taxable income and, to the extent we believe that the recovery is not likely, we establish a valuation allowance. We consider all available positive and negative evidence including our past operating results, the existence of cumulative losses in the most recent fiscal years, future taxable income, and ongoing prudent and feasible tax planning strategies in assessing the amount of the valuation allowance. As of May 2, 2010, we believe a valuation allowance against our U.S. net deferred tax assets is required. We will continue to evaluate the realizability of the deferred tax assets on a quarterly basis. Future reversals or increases to our valuation allowance could have a significant impact on our future earnings.

Strategic investments in privately-held companies

Our strategic equity investments consist of preferred stock and convertible notes that are convertible into preferred or common stock of several privately-held companies. The carrying value of our portfolio of strategic equity investments totaled $1.3 million at May 2, 2010. Our ability to recover our investments in private, non-marketable equity securities and convertible notes and to earn a return on these investments is primarily dependent on how successfully these companies are able to execute on their business plans and how well their products are accepted, as well as their ability to obtain additional capital funding to continue operations.

Under our accounting policy, the carrying value of a non-marketable investment is the amount paid for the investment unless it has been determined to be other than temporarily impaired, in which case we write the investment down to its estimated fair value. For equity investments where our ownership interest is between 20% to 50%, or where we can exercise significant influence on the investee’s operating or financial decisions, we record our share of net equity income (loss) of the investee based on our proportionate ownership.

During the first quarter of fiscal 2009 we made an additional investment in Zerosoft, Inc of $1.0 million, which increased our ownership in that company to 35% as of May 3, 2009. We also invested $0.8 million in Helic Inc. during the first quarter of fiscal 2009, bringing our ownership in Helic to 8% as of May 3, 2009. In addition, one of our executives is a member of the board of directors of Helic, which permits us to exercise significant influence on Helic’s operating decisions. We have recorded our share of net equity income (loss) of these investments based on our proportionate ownership in our consolidated statements of operations.

During the fourth quarter of fiscal 2010, Synopsys, Inc. purchased 100% of the outstanding stock of Zerosoft, Inc., for $24.0 million in cash and future contingent cash payments. Our 35% ownership interest in Zerosoft, Inc. at the time of the sale resulted in $4.7 million in cash at closing and $4.3 million in contingent proceeds. The contingent proceeds consist of a holdback amount equal to 10% of the initial consideration to be held in escrow and released for payment 15 months from the date of the agreement to secure the indemnification obligations of the sellers, and earnout consideration based upon the achievement of certain annual product performance improvement milestones for the three years subsequent to the sale agreement. The proceeds (net of expenses) of $4.6 million offset against the net book value of the investment of $1.4 million on the date of sale of the investment resulted in a net gain of $3.2 million, which was recorded in the Statement of Operations in Other Income.

The holdback amount and earnout consideration are gain contingencies each representing incremental income and will be recognized when all contingencies are resolved per ASC 450-30, Contingencies.

 

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We review all of our investments periodically for impairment; however, for non-marketable equity securities, the fair value analysis requires significant judgment. This analysis includes assessment of each investee’s financial condition, the business outlook for its products and technology, its projected results and cash flows, the likelihood of obtaining subsequent rounds of financing and the impact of any relevant contractual equity preferences held by us or others. If an investee obtains additional funding at a valuation lower than our carrying amount, we presume that the investment is other than temporarily impaired, unless specific facts and circumstances indicate otherwise, such as when we hold contractual rights that give us a preference over the rights of other investors. As the equity markets have experienced volatility over the past few years, we have experienced substantial impairments in our portfolio of non-marketable equity securities. If equity market conditions do not improve, as companies within our portfolio attempt to raise additional funds, the funds may not be available to them, or they may receive lower valuations, with more onerous investment terms than in previous financings, and the investments will likely become impaired. However, we are not able to determine at the present time which specific investments are likely to be impaired in the future, or the extent or timing of individual impairments. We recorded impairment charges related to these non-marketable equity investments of $0.2 million in fiscal 2009. We did not record impairment charges related to these non-marketable equity investments in fiscal 2010.

Results of Operations

Revenue overview

Revenue is comprised of licenses revenue, bundled licenses and services revenue, and services revenue. Licenses revenue consists of fees for time-based or perpetual licenses of our software products. Bundled licenses and services revenue consists of fees for software licenses and post-contract customer support (“PCS”) where we do not have Vendor Specific Objective Evidence (“VSOE”) of fair value of PCS. Services revenue consists of fees for services, such as customer training, consulting and PCS associated with licenses where we have established VSOE to account for services separately. We recognize revenue based on the specific terms and conditions of the license contracts with our customer for our products and services as described in detail above under the caption “Critical Accounting Policies and Estimates.”

In our consolidated financial statements, we classify our license arrangements as either bundled or unbundled. Bundled license contracts include maintenance with the license fee and do not include optional maintenance periods. Unbundled license contracts have separate maintenance fees and include optional maintenance periods. The Company offers various contractual terms to its customers in designing license agreements to accommodate customer preferences, which are unrelated to product performance and service requirements, order volume, or pricing. The contractual terms that result in the recognition of bundled licenses and services revenue are subject to customer preferences and have historically been inconsistently elected by customers. Moreover, revenue from existing long-term contracts frequently shifts between revenue categories, with no change in the aggregate revenues recognized from such contracts. In light of the foregoing, the Company has concluded that changes in results of the bundled licenses and services revenue category generally do not indicate a material trend in the Company’s historical or future performance and therefore are not discussed below.

For management reporting and analysis purposes we classify our revenue as either licenses or services. Bundled licenses and services are divided into their component parts and included with either licenses or services for management analysis.

Licenses revenue is divided into the following categories:

 

   

Ratable

 

   

Due & Payable

 

   

Up-Front

 

   

Cash Receipts

 

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Services revenue is analyzed separately from the licenses revenue portion.

We use these classifications of revenue to provide greater insight into the reporting and monitoring of trends in the components of our revenue and to assist us in managing our business. The characterization of an individual contract may change over time. For example, a contract originally characterized as Ratable may be redefined as Cash Receipts if that customer has difficulty in making payments in a timely fashion. In cases where a contract has been re-characterized for management reporting and analysis purposes, prior periods are not restated to reflect that change.

Licenses revenue

Ratable.    For bundled time-based licenses, we recognize license revenue ratably over the contract term, or as customer payments become due and payable, if less. In our statements of operations the revenue for these bundled arrangements for both license and service is classified as bundled licenses and services. For management reporting and analysis purposes we separate the licenses portion from the services portion of the revenue. For unbundled time-based licenses, we recognize license revenue ratably over the license term. We generally refer to these licenses as “Ratable” and we generally refer to all time-based licenses recognized on a ratable basis as “Long-Term,” independent of the actual length of term of the license.

Due & Payable.    For unbundled time-based licenses where the payment terms extend greater than one year from the arrangement effective date, we recognize license revenue on a due and payable basis. For management reporting and analysis purposes, we generally refer to this type of license as “Due & Payable.”

Up-Front.    For unbundled time-based and perpetual licenses, we recognize license revenue upon shipment if the payment terms require the customer to pay 100% of the license fee and the initial period of PCS within one year from the agreement date and payments are generally linear. In all of these cases, the contracts are non-cancelable, and the customer has taken delivery of both the software and the encryption key required to operate the software. For management reporting and analysis purposes, we generally refer to this type of license as “Up-Front,” where the license is either perpetual or time-based.

Cash Receipts.    We recognize revenue from customers who have not met our predetermined credit criteria on a cash receipts basis to the extent that revenue has otherwise been earned. We recognize license revenue as we receive cash payments from these customers. For management reporting and analysis purposes, we refer to this type of license revenue as “Cash Receipts.”

Our license revenue in any given quarter depends upon the mix and volume of perpetual or short-term licenses ordered during the quarter and the amount of long-term ratable, due & payable, and cash receipts license revenue recognized during the quarter. In general, we refer to license revenue recognized from perpetual or time-based licenses during the quarter as “Up-Front” revenue, for management reporting and analysis purposes. All other types of revenue are generally referred to as revenue from backlog. We set our revenue targets for any given period based, in part, upon an assumption that we will achieve a certain level of orders and a certain mix of short-term licenses. The precise mix of orders fluctuates substantially from period to period and affects the revenue we recognize in the period. If we achieve our target level of total orders but are unable to achieve our target license mix, we may not meet our revenue targets (if we have more-than-expected long-term licenses) or may exceed them (if we have more-than-expected short-term or perpetual licenses). If we achieve the target license mix but the overall level of orders is below the target level, then we also may not meet our revenue targets as described in the risk factors in Item 1A of this Form 10-K.

Services revenue

Services revenue is primarily from consulting and training for our software products and from maintenance fees for our products. Most of our license agreements include maintenance, generally for a one-year period, renewable annually. Services revenue from maintenance arrangements is recognized ratably over the

 

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maintenance term. Because we have VSOE of fair value for consulting and training services, revenue is recognized as these services are performed or completed.

Revenue, cost of revenue and gross profit

The table below sets forth the fluctuations in revenue, cost of revenue and gross profit data by category as defined for management reporting and analysis purposes for fiscal 2010, fiscal 2009 and fiscal 2008 (in thousands, except for percentage data):

 

    Year Ended:                 % Change               
    May 2, 2010   % of
Revenue
    May 3, 2009   % of
Revenue
    April 6, 2008   % of
Revenue
    2010 / 2009     2009 / 2008  

Revenue

               

Licenses revenue

               

Ratable

  $ 25,453   21   $ 29,040   20   $ 35,176   16   (12 )%    (17 )% 

Due & Payable

    47,642   39     44,871   31     81,327   38   6   (45 )% 

Up-Front*

    7,946   6     23,376   16     48,741   23   (66 )%    (52 )% 

Cash Receipts

    6,017   5     6,537   4     6,291   3   (8 )%    4
                           

Total Licenses revenue

    87,058   71     103,824   71     171,535   80   (16 )%    (39 )% 

Services revenue

    36,019   29     43,133   29     42,884   20   (16 )%    1
                           

Total Revenue

    123,077   100     146,957   100     214,419   100   (16 )%    (31 )% 
                           

Cost of Revenue

               

License

    4,424   4     26,382   18     23,562   11   (83 )%    12

Services

    16,129   13     21,947   15     25,792   12   (27 )%    (15 )% 
                           

Total cost of sales

    20,553   17     48,329   33     49,354   23   (57 )%    (2 )% 
                           

Gross Profit

  $ 102,524   83   $ 98,628   67   $ 165,065   77   4   (40 )% 
                           

 

* Includes $7,778 or 6% of total revenue from new contracts for fiscal 2010, $12,832 or 9% of total revenue from new contracts for fiscal 2009 and $40,278 or 19% of total revenue from new contracts for fiscal 2008.
** Bundled licenses and services in the consolidated statement of operations consists of $24,833 of license revenue and $6,767 of service revenue for fiscal 2010, $27,350 of license revenue and $6,081 of service revenue for fiscal 2009, and $32,473 of license revenue and $8,042 of service revenue for fiscal 2008.

We market our products and related services to customers in four geographic regions: North America, Europe (including Europe, the Middle East and Africa), Japan, and Asia-Pacific (including India, South Korea, Taiwan, Hong Kong and the People’s Republic of China). Internationally, we market our products and services primarily through our subsidiaries and various distributors. Revenue is attributed to geographic areas based on the country in which the customer is domiciled. The table below sets forth geographic distribution of revenue data for fiscal 2010, fiscal 2009 and fiscal 2008 (in thousands, except for percentage data):

 

    Year Ended:                 % Change               
    May 2, 2010   % of
Revenue
    May 3, 2009   % of
Revenue
    April 6, 2008   % of
Revenue
    2010 / 2009     2009 / 2008  

Domestic

  $ 72,100   59   $ 86,576   59   $ 127,664   60   (17 )%    (32 )% 

International

               

Europe

    12,927   11     17,893   12     26,539   12   (28 )%    (33 )% 

Japan

    14,637   12     24,975   17     35,150   16   (41 )%    (29 )% 

Asia-Pacific (excluding Japan)

    23,413   19     17,513   12     25,066   12   34   (30 )% 
                                       

Total International

    50,977   41     60,381   41     86,755   40   (16 )%    (30 )% 
                                       

Total Revenue

  $ 123,077   100   $ 146,957   100   $ 214,419   100   (16 )%    (31 )% 
                                       

 

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Revenue

Revenue for fiscal 2010 was $123.1 million, down 16% from fiscal 2009.

Licenses revenue. We analyzed the license purchasing trends of our key customers, those that make up 70% or more of revenue.

License revenue decreased by 16% in fiscal 2010 compared to fiscal 2009. The decrease in the license revenue was due to the continued downturn in the semiconductor and systems industries, which caused customers to reduce spending. Although license revenue in fiscal 2010 decreased as compared to fiscal 2009, license revenue as percentage of total revenue remained the same due to the enhanced versions of several existing products gaining initial market acceptance.

Licenses revenue decreased by 39% in fiscal 2009 compared to fiscal 2008. Licenses revenue as a percentage of total revenue decreased by 9% in fiscal 2009 compared to fiscal 2008. The decrease in licenses revenue was primarily the result of a sharp downturn in the semiconductor and systems industries, a reduced number of design starts, a reduction of electronic design automation budgets and customers experiencing continued end-market softness in demand and reduced visibility in forecasting their business, which caused customers to reduce spending.

 

   

Ratable revenue decreased $3.6 million for fiscal 2010 compared to fiscal 2009. This decrease in ratable revenue was to due to the overall decrease in the total revenue as compared to the fiscal 2009, which was due to the continued downturn in the economic conditions. Although ratable revenue decreased by $3.6 million from fiscal 2010 as compared to fiscal 2009, ratable revenue as a percentage of total revenue increased from 20% to 21% due to our intent to increase the portion of revenue based on backlog to 90% or more of total revenue to reduce volatility and increase the predictability of our revenues, and thereby reduce up-front revenues to 10% or less of total revenue. Ratable revenue decreased $6.1 million for fiscal 2009 compared to fiscal 2008. This decrease was partially offset as a result of our intent to increase the portion of revenue based on backlog to 90% or more of total revenue to reduce volatility and increase the predictability of our revenues, and thereby reduce due & payable and up-front revenues to 10% or less of total revenue, which resulted in ratable revenue increasing from 16% of total revenue in fiscal 2008 to 20% in fiscal 2009.

 

   

Due & Payable revenue increased $2.8 million for fiscal 2010 compared to fiscal 2009, an increase of 6%. The increase in the due & payable revenue was due to our intent to increase the portion of revenue based on backlog to 90% or more revenue and thereby reduce up-front revenues to 10% or less of total revenue. In addition, the increase in the due & payable revenue is also due to customer preference.

Ratable and due & payable revenue, as a percent of total fiscal 2010 revenue, increased 9%., This was a result of our efforts to increase the portion of revenue based on backlog to 90% or more of total revenue to reduce volatility.

 

   

Up-Front revenue decreased $15.4 million in fiscal 2010 compared to fiscal 2009, a decrease of 66%. Up-Front revenue decreased $25.4 million in fiscal 2009 compared to fiscal 2008, a decrease of 52%. The decreases were attributable to our efforts to reduce up-front revenue and increase ratable and due & payable revenue.

 

   

Cash Receipts revenue decreased during fiscal 2010 by $0.5 million compared to fiscal 2009. The decrease is due to fewer customers being classified as cash receipt customers in fiscal 2010 compared to fiscal 2009. Cash receipts revenue increased during fiscal 2009 by $0.2 million compared to fiscal 2008. Additional customers had been classified as cash receipts customers. This increase is the result of the impact of a deterioration of economic conditions in the industry and with respect to some of our customers.

Services revenue decreased by 7.1 million in fiscal 2010 as compared to fiscal 2009, which was generally proportionate to the decrease in the total revenues during the periods. Service revenue as a percentage of total

 

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revenue remained the same in fiscal 2010 and fiscal 2009 and increased by 1% in fiscal 2009 as compared to fiscal 2008. We believe the fluctuations were a result of timing of customers purchase of services. Although customers delayed license purchases in response to the end-market softness in the demand, customers did continue to purchase maintenance contracts and other services to support their ongoing activities.

Domestic revenue decreased 17% during fiscal 2010 compared to fiscal 2009, and decreased 32% during fiscal 2009 compared to fiscal 2008. International revenue decreased by 16 % and 30% for fiscal 2010 compared to fiscal 2009 and for fiscal 2009 compared fiscal 2008, respectively. The decrease in domestic and international revenue was primarily the result of the global impact of a sharp downturn in the semiconductor and systems industries, a reduced number of design starts, a reduction of electronic design automation budgets and customers experiencing continued end-market softness in demand and reduced visibility in forecasting their business. The decreases in revenues were generally proportionate to the decreases in total revenues during the periods and were primarily due to decreased customer orders. Domestic and international revenue as a percentage of total revenue remained the same for fiscal year 2010 and fiscal year 2009.

No individual customer accounted for 10% or more of total revenue during the fiscal years 2010, 2009 and 2008.

Cost of Revenue

Cost of licenses revenue primarily consists of amortization of acquired developed technology and other intangible assets that are fixed in nature and variable expenses such as royalties, and allocated outside sales representative expenses.

Cost of licenses revenue decreased by $22.0 million or 83% during fiscal 2010, compared to fiscal 2009. Amortization charges related to acquired developed technology and intangible assets decreased during 2010 by $21.4 million compared to fiscal 2009 primarily due to the complete amortization of intangibles acquired on the Mojave acquisition, which were fully amortized at the end of fiscal 2009. In addition, the decrease in the cost of license revenue was due to the decrease in third party distributor commissions by $0.2 million, and decrease of $0.3 million in costs related to expensed equipment. The remainder of the fluctuation in cost of licenses revenue was accounted for by other individually insignificant items.

Cost of licenses revenue increased by $2.8 million or 12% during fiscal 2009, compared to fiscal 2008. Amortization charges related to intangible assets from acquisitions and contingent acquisition earnouts increased during 2009 by $3.0 million compared to fiscal 2008. This increase was offset by a decrease in royalty expense by $0.2 million during fiscal 2009 as compared to 2008.

Cost of services revenue primarily consists of personnel and related costs to provide product support, training and consulting services. Cost of services revenue also includes stock-based compensation expenses and asset depreciation.

Cost of services revenue decreased by $5.8 million or 27% for fiscal 2010 compared to fiscal 2009. The change was primarily due to a net decrease of $5.7 million in the allocation of pre-sale costs (primarily application engineering costs) from sales and marketing costs which were a result of staff reductions under the fiscal 2009 restructuring plan. The remainder of the fluctuation in cost of licenses revenue was accounted for by other individually insignificant items.

Cost of services revenue decreased by $3.8 million or 15% for fiscal 2009 compared to fiscal 2008. The change was primarily due to a net decrease of $3.8 million in the allocation of pre-sale costs (primarily application engineering costs) from sales and marketing costs which were a result of staff reductions under the fiscal 2009 restructuring plan.

 

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Operating expenses

The table below sets forth the fluctuations in operating expenses from fiscal 2009 to fiscal 2010 and from fiscal 2008 to fiscal 2009 (in thousands, except percentage data):

 

                              % Change               

Year Ended:

   May 2, 2010     May 3, 2009     April 6, 2008     2010 / 2009     2009 / 2008  

Operating Expenses

          

Research and development

   $ 47,024      $ 68,751      $ 76,920      (32 )%    (11 )% 

Sales and marketing

     41,247        56,024        70,711      (26 )%    (21 )% 

General and administrative

     18,214        24,307        31,576      (25 )%    (23 )% 

Impairment of goodwill

     —          60,089        —        (100 )%    100

Amortization of intangible assets

     1,134        2,994        8,043      (62 )%    (63 )% 

In-process research and development

     —          —          2,256      —        (100 )% 

Restructuring charge

     2,730        10,661        291      (74 )%    3564
                            

Total operating expenses

   $ 110,349      $ 222,826      $ 189,797      (50 )%    17
                            

Percent of total revenue

          

Research and development

     38     47     36    

Sales and marketing

     34     38     33    

General and administrative

     15     17     15    

Impairment of goodwill

     —          41     —         

Amortization of intangible assets

     1     2     4    

In-process research and development

     —          —          1    

Restructuring charge

     2     7     —         

Total operating expenses

     90     152     89    

 

   

Research and development expense decreased by $21.7 million in fiscal 2010 as compared to fiscal 2009 primarily due to a decrease in employee compensation expense and the related benefits by $12.9 million as a result of lower headcount and employee salary reductions implemented mid-year in fiscal 2009. The decrease in research and development expense in fiscal 2010 was also attributable to a decrease in travel and entertainment costs of $0.4 million, decrease in software maintenance costs of $0.3 million due to the maintenance costs being fully amortized, decrease in consulting costs of $1.5 million, decrease in the stock based compensation expense by $2.8 million and a decrease in the allocations of common expenses, such as information technology and facility related expenses, of $3.6 million.

Research and development expense decreased by $8.2 million in fiscal 2009 as compared to fiscal 2008 primarily due to a decrease in compensation expense and the related benefits by $2.9 million as a result of lower headcount and employee salary reductions implemented mid-year. The decrease in research and development expense in fiscal 2009 was also attributable to a decrease in bonus expense of $3.6 million, decrease in software maintenance costs of $0.7 million due to the maintenance costs being fully amortized and a decrease in the allocations of common expenses, such as information technology and facility related expenses, of $1.2 million.

We expect our research and development expense in fiscal 2011 to increase moderately, but to remain at levels comparable to fiscal 2010 as a percentage of revenue.

 

   

Sales and marketing expense decreased by $14.8 million in fiscal 2010 as compared to fiscal 2009 primarily due to a decrease in compensation expense and related benefits by $12.4 million as a result of lower headcount and employee salary reductions implemented mid-year in fiscal 2009. The decrease in sales and marketing expense in fiscal 2010 was also attributable to a $0.9 million decrease in bad debt expense, decrease in the stock based compensation by $1.3 million, decrease in marketing related activities by $1.0 million and a decrease in the allocation of common expenses, such as information technology and facility related expenses of $2.9 million. The decrease in sales and marketing expense was offset by a decrease in the allocation of pre-sale costs (primarily application engineering costs) to cost of services revenue of $5.7 million.

 

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Sales and marketing expense decreased by $14.7 million in fiscal 2009 as compared to fiscal 2008 primarily due to a decrease in compensation expense and related benefits by $7.8 million as a result of lower headcount and employee salary reductions implemented mid-year. The decrease in sales and marketing expense in fiscal 2009 was also attributable to a decrease in bonus expense of $1.6 million, a decrease in commission expense of $3.9 million due to decreased bookings, a decrease in travel and entertainment costs of $2.7 million due to lower spending on reduced sales, and a decrease in the allocation of common expenses, such as information technology and facility related expenses of $1.9 million. The decrease in sales and marketing expense was offset by decrease in the allocation of pre-sale costs (primarily application engineering costs) to cost of services revenue of $3.8 million.

We expect our sales and marketing expense in fiscal 2011 to increase moderately, but to remain at levels comparable to fiscal 2010 as a percentage of revenue.

 

   

General and administrative expense decreased by $6.1 million in fiscal 2010 compared to fiscal 2009 primarily due to a decrease in compensation expense and the related benefits of $2.9 million, decrease of $0.5 million in legal fees due to settlement of the derivatives litigation, a decrease of $1.2 million in stock-based compensation expense due to our option exchange program, and a decrease of $1.2 million in consulting expense due to our cost reduction efforts. The remaining decreases were due to a decrease in other discretionary operating expenses.

General and administrative expense decreased by $7.3 million in fiscal 2009 compared to fiscal 2008 primarily due to a decrease in compensation expense and bonuses of $2.4 million. The decrease in general and administrative expense in fiscal 2009 was also the result of a decrease of $2.2 million in legal fees due to settlement of the derivatives complaint in October, 2008 and shareholder’s class action lawsuit in March 2009, a decrease of $0.5 million in stock-based compensation expense due to our option exchange program, a decrease of $0.4 million in travel and entertainment expense due to our cost reduction efforts, and a decrease of $1.2 million in depreciation expense as a result of certain assets being fully depreciated in prior periods. These decreases were partially offset by an increase in the related benefits of $0.8 million and an increase in consulting expenses of $0.7 million.

We expect our general and administrative expense in fiscal 2011 to increase moderately, but to remain at levels comparable to fiscal 2010 as a percentage of revenue.

 

   

Amortization of intangible assets decreased by 62% in fiscal 2010 compared to fiscal 2009; and 63% in fiscal 2009 compared to fiscal 2008 primarily due to several existing developed technologies and patents having been fully amortized.

The intangible assets amortized include licensed technology, customer relationship or base, patents, customer contracts, assembled workforces, no shop rights, non-competition agreements and trademarks that were identified in the purchase price allocation for each business combination and asset purchase transaction.

 

   

In-process research and development (“IPR&D”) charges were recorded based on management’s final purchase price allocation and were related to acquired technologies for which commercial feasibility had not been established and had no alternative future use. We did not have any material acquisitions in fiscal 2010 and fiscal 2009.

IPR&D expense of $2.3 million in fiscal 2008 consisted of charges of $1.6 million and $0.7 million recorded in connection with our acquisitions of Sabio and Rio, respectively. The in-process technology projects related to Sabio was completed in fiscal 2009.

 

   

Restructuring costs of $2.7 million in fiscal 2010 represents the charges related to our continued realignment of business objectives and adjustments to our previously determined restructuring estimates.

Restructuring costs of $10.7 million in fiscal 2009 represented employee termination and facility consolidation and closure charges resulting from our realignment to current business objectives.

 

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Other items

The table below sets forth the fluctuations in other items from fiscal 2009 to fiscal 2010 and from fiscal 2008 to fiscal 2009 (in thousands, except percentage data):

 

                                   % Change               

Year Ended:

   May 2, 2010     May 3, 2009     April 6, 2008     2010 / 2009     2009 / 2008  

Operating income (expense), net

          

Interest income

   $ 256      $ 637      $ 2,021      (60 )%    (68 )% 

Interest and amortization of debt discount/ premium

     (4,397     (4,357     (3,866   1   13

Valuation gain (loss), net

     404        (442     —        (191 )%    100

Other income (expense), net

     1,486        (118     (591   (1359 )%    (80 )% 
                            

Total other income (expense), net

   $ (2,251   $ (4,280   $ (2,436   (47 )%    76
                            

Benefit from (provision for) income taxes

   $ 6,742      $ (764   $ (6,640   (982 )%    (88 )% 

 

   

Interest income decreased by 60% in fiscal 2010 compared to fiscal 2009 primarily due to lower interest rates in fiscal 2010 on investments.

Interest income decreased by 68% in fiscal 2009 compared to fiscal 2008 primarily due to our lower average cash and investments balance resulting from our use of $15.2 million in cash to repurchase our Zero Coupon Convertible Subordinated Notes that were due May 15, 2008 (the “2008 Notes”). In addition to the lower cash and investment balance, interest income also decreased due to the lower interest rates earned on the investments in fiscal 2009 as compared to fiscal 2008.

 

   

Interest expense primarily represents amortization of debt discount/premium and issuance costs in connection with the 2010 Notes, the 2014 Notes, and interest on our line of credit facility. Interest expense increased in fiscal 2010 compared to fiscal 2009 primarily due to an additional $0.1 million interest expense related to line of credit facility, $0.7 million increase in the interest expense on the 2014 Notes; the 2014 Notes have a higher interest rate as compared to the 2010 Notes. The above was offset by decrease of $0.7 million on the debt discount/premium amortization related to the 2010 Notes net of amortization of premium related to the 2014 Notes.

Interest expense in fiscal 2009 primarily represents amortization of debt discount and issuance costs in connection with our 2010 Notes and our 2008 Notes and interest on our line of credit facility. Interest expense increased in fiscal 2009 compared to fiscal 2008 by $0.5 million primarily due to the adoption of ASC 470-20, Debt with Conversion and Other Options (“ASC 470-20”) in fiscal 2010. The remainder of the fluctuation in interest expense was accounted for by other individually insignificant items, such as changes in interest expenses on capital leases.

 

   

Valuation gain (loss), net increased by $0.8 million in fiscal 2010 as compared to fiscal 2009 primarily due to the recognition of a gain of $1.8 million on the ARS securities offset by a loss on put option of $1.4 million in fiscal 2010 as compared to a fiscal 2009 loss of $0.3 million on the ARS securities offset by a gain of $0.7 million on the put option on the ARS securities.

 

   

Other income (expense), net increased by $1.6 million in fiscal 2010 as compared to fiscal 2009 due to the increase in the foreign exchange gain by $1.2 million, gain on sale of strategic investment, net of losses, of $2.9 million and a gain of $0.3 million on extinguishment of debt. The increase was offset by an increase in the unrealized foreign exchange loss of $2.8 million.

Other income (expense), net decreased by $0.5 million in fiscal 2009 compared to fiscal 2008 primarily due to a decrease in realized foreign exchange losses of $1.8 million and a decrease in losses from strategic investments of $0.1 million offset by unrealized foreign exchange gains of $1.4 million.

During fiscal 2008, we entered into foreign currency forward contracts to mitigate exposure in movements between the U.S. dollar and Japanese Yen. The derivatives do not qualify for hedge

 

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accounting treatment under ASC 815, Derivative and Hedging (“ASC 815”). We recognize the gain and loss on foreign currency forward contracts in the same period as the remeasurement loss and gain of the related foreign currency-denominated exposures.

 

   

Provision for (benefit from) income taxes. Our effective tax rate was (65.8)%, 0.6% and 19.7% in the fiscal years ended May 2, 2010, May 3, 2009 and April 6, 2008 respectively. Our effective tax rates vary from the U.S. statutory rate primarily due to changes in our U.S. valuation allowance, goodwill impairment, state taxes, foreign income taxed at other than U.S. rates, stock compensation expenses, research and development tax credits, reserves for uncertain tax positions, and foreign withholding taxes for which no U.S. tax benefits were received due to our full U.S. valuation allowance. Worldwide income tax expense (benefit) was $(6.7) million, $0.8 million and $6.6 million, in fiscal years ended May 2, 2010, May 3, 2009 and April 6, 2008, respectively.

During fiscal 2010, we received new information related to the unrecognized tax benefit related to withholding taxes in South Korea. This information was not available to us in previous financial reporting periods and is considered new information for purposes of assessing the Company’s uncertain tax positions. We considered this new information collectively with all other information available and concluded that it is more-likely-than-not the license revenue sourced in South Korea is not subject to withholding tax, and therefore, that the full amount of the tax position will ultimately be realized. Accordingly, a $7.8 million tax benefit related to South Korean withholding tax was recognized into income, and a corresponding decrease in long term tax liabilities was recorded. The recognition of the tax benefit is a discrete item and does not have any current period or future period cash impact.

We are in a net deferred tax asset position, for which a full valuation allowance has been recorded against our U.S. net deferred tax assets. We will continue to provide a valuation allowance against our U.S. net deferred tax assets until it becomes more likely than not that the deferred tax assets are realizable. We will continue to evaluate the realizability of the deferred tax assets on a quarterly basis.

We are subject to income taxes in the United States and in numerous foreign jurisdictions and, in the ordinary course of business, there are many transactions and calculations where the ultimate tax determination is uncertain. The statute of limitations for adjustments to our historic tax obligations will vary from jurisdiction to jurisdiction. The tax years 1999 to 2008 remain open to examination by the major tax jurisdictions where we operate. At May 2, 2010, we do not anticipate that our total unrecognized tax benefits will significantly change due to any settlement of examination or expiration of statute of limitations within the next twelve months. In addition, we do not believe that the ultimate settlement of these obligations will materially affect our liquidity.

Liquidity and Capital Resources

 

As of    May 2, 2010    May 3, 2009     April 6, 2008  

Cash, cash equivalents

   $ 57,518    $ 32,888      $ 46,970   

Short term investments

     16,837      —          3,000   

Long term investments

     —        17,908        17,538   
                       

Cash, cash equivalents, short term and long term investments

   $ 74,355    $ 50,796      $ 67,508   
                       

For the year ended:

       

Net cash flows provided by (used in) operating activities

   $ 16,004    $ (5,419   $ 13,214   

Net cash flows provided by/(used in) investing activities

   $ 3,745    $ (2,415   $ (22,564

Net cash provided by financing activities

   $ 4,762    $ 766      $ 10,932   

 

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As of May 2, 2010, our total cash, cash equivalents, short-term investments and long-term investments, excluding restricted cash, was $74.4 million as compared to $50.8 million as of May 3, 2009 and $67.5 million as of April 6, 2008. In fiscal 2010 our primary sources of cash consisted of cash from operations, release of restricted cash related to our line of credit and acquisition related earnouts, sale of strategic investment, proceed from term debt and proceeds from issuance of common stock to employees. Our primary uses of cash in fiscal 2010 were repayment of the revolving note and secured credit line, repayment of lease obligations, payments related to prior acquisitions, and purchases of property and equipment. In fiscal 2009 our primary sources of cash consisted of proceeds from issuance of common stock to employees, cash borrowed under our line of credit and revolving note and proceeds from maturities and sale of investments. Our primary uses of cash in fiscal 2009 consisted of cash used in operating activities, the repurchase of a portion of the 2008 Notes, payments related to contingent consideration related to business combination and intangible asset acquisitions, purchases of property and equipment, setting aside restricted cash for the revolving note and setting aside cash for escrow arrangements pursuant to various business combinations pursuant to their respective agreements. In fiscal 2008, our primary sources of cash consisted of cash provided by operating activities, proceeds from issuance of common stock to employees, and a reduction in restricted cash set aside for the revolving note. In fiscal 2008, our primary uses of cash consisted of net purchases of available-for-sale investments, the repayment of lease obligation and line of credit, payments related to business combination and intangible asset acquisitions, purchases of property and equipment, and repurchase of our common stock.

Short-term investments on the consolidated balance sheet as at May 2, 2010 consist of ARS that are AAA rated and are secured by pools of student loans guaranteed by state regulated higher education agencies and reinsured by the U.S. Department of Education and the UBS purchased put option. The ARS investments were classified as long-term investments on the consolidated balance sheet as at May 3, 2009. Historically, liquidity for investors in ARS was provided via an auction process that reset the applicable interest rate generally every 28 days, allowing investors to either roll over their investments or sell them at par. Beginning in the fourth quarter of fiscal 2008, there was insufficient demand for these types of investments during the auctions and, as a result, these securities are not currently liquid.

In October 2008, we entered into an agreement with UBS which provides us with Auction Rate Securities Rights (“Rights”) to sell our ARS at par value to UBS at any time during the period June 30, 2010 through July 2, 2012. These Rights are a separate freestanding instrument accounted for separately from the ARS, and are registered, nontransferable securities accounted for as a purchased put option initially recorded at fair value. Under the Rights agreement, UBS may, at its discretion, sell the ARS at any time through July 2, 2012 without prior notice to us and must pay us par value for the ARS within one day of the sale transaction settlement. Additionally, UBS offered a “no net cost” secured line of credit to us up to 75% of the market value of the ARS as determined by UBS until June 30, 2010. Due to our entering into this agreement with UBS and enabling UBS to sell the ARS at any time, the ARS previously reported as available-for-sale have been transferred to trading securities.

On July 2, 2010, we exercised our put option and liquidated the $16.8 million ARS and repaid the outstanding $11.2 million secured line of credit to UBS.

As of May 2, 2010 there was insufficient observable market information available to determine the fair value of our ARS. Prior to November 2, 2008, we estimated Level 3 fair values for these securities based on the investment bank’s valuations. The investment bank valued student loan ARSs as floating rate notes with three pricing inputs: the coupon, the current discount margin or spread, and the maturity. The coupon was generally assumed to equal the maximum rate allowed under the terms of the instrument, the current discount margin was based on an assessment of observable yields on instruments bearing comparable risks, and the maturity was based on an assessment of the terms of the underlying instrument and the potential for restructuring the ARS. The primary unobservable input to the valuation was the maturity assumption which was set at four years for the majority of ARS instruments. Through January 6, 2008, the ARS were valued at par value due to the frequent resets that historically occurred through the auction process.

 

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As of May 2, 2010, we engaged a third party valuation service to model Level 3 fair value using an income approach and two scenarios: one based on a 0.2 year term and no put option, and a second based on a 4.0 year term with a put option. We reviewed the methodologies employed by the third party models. This included a review of all relevant data inputs and the appropriateness of key model assumptions.

The pricing assumptions for the ARS included the coupon rate, the estimated time to liquidity, current market rates for publicly traded student loans of similar credit rating and an adjustment for lack of liquidity. The student loans are AAA rated and are secured by pools of student loans guaranteed by state regulated higher education agencies and reinsured by the U.S. Department of Education, and have maturities ranging from 2031 to 2047. The coupon rate was assumed to equal the stated maximum auction rate being received, which is determined based on the applicable 91-day U.S. Treasury rate plus 1.20% premium according to provisions outlined in each security’s agreement. The current estimated time to liquidity was 4.0 years based on (i) expectations from industry brokers for liquidity in the market and (ii) the period over which UBS and other broker-dealers that had issued ARS have agreed to redeem certain ARS at par value.

The purchased put option gives us the right to sell the ARS to UBS for a price equal to par value during the period June 30, 2010 to July 2, 2012, providing liquidity for the ARS sooner than the currently estimated 4.0 years. As we plan to exercise the purchased put option on or around June 30, 2010, the value of the purchased put option lies in (i) the ability to sell the securities thereby creating liquidity approximately 0.2 year before the ARS market is expected to become liquid and (ii) the avoidance of receiving below-market coupon rate while the security is illiquid and auctions are failing. The fair value of the purchased put option represents the difference between the ARS with an estimated time to liquidity of 4.0 years and the ARS with an estimated time to liquidity of 0.2 year as the purchased put option allows for the acceleration of liquidity and the avoidance of a below-market coupon rate over the two year time period.

Based on the Level 3 valuation and the transfer of the ARS from the available-for-sale category to the trading category, we recorded an other-than-temporary loss of $2.8 million in valuation gain (loss), net in the second quarter of fiscal 2009 including the transfer of accumulated temporary losses of $0.9 million from other comprehensive loss previously recorded as a component of stockholder equity. For fiscal 2009, the total loss on the ARS, including the other than temporary loss of $0.3 million, was reported in the valuation gain (loss), net in the consolidated statement of operations, this loss was offset by gains related to the purchase put option of $0.7 million. For the year ended May 2, 2010, we recorded an unrealized gain on the ARS of $1.8 million offset by losses related to the purchased put option of $1.4 million.

Net cash provided by/used in operating activities

Net cash provided by operating activities increased by $21.4 million in fiscal 2010 compared to fiscal 2009. The increase was primarily due to a decrease in cost and expenses of $19.9 million, a decrease in the use of cash for accounts payable and accrued liabilities of $15.5 million, and a decrease in prepaid expenses of $0.8 million, offset by decrease in cash from customers of $14.7 million. The decrease in cash from customers was due to the lower revenues, while cost and expenses decreased due to the reduction in force and the closure of various facilities as part of our fiscal 2009 restructuring plan. The decrease in the use of cash for accounts payable, accrued liabilities and prepaid expenses was mainly due to the reduction in costs and expenses in fiscal 2010 as compared to fiscal 2009.

Net cash provided by operating activities decreased by $18.6 million in fiscal 2009 compared to fiscal 2008. The decrease was primarily due to a decrease in cash from customers of $49.9 million, offset primarily by a decrease in cost and expenses of $23.6 million, a decrease in the use of cash for accounts payable and accrued liabilities of $4.0 million, and a decrease in prepaid expenses of $2.3 million. The decrease in cash from customers was due to the lower revenues, while cost and expenses decreased due to the reduction in force and the closure of various facilities as part of our fiscal 2009 restructuring plan. The decrease in the use of cash for accounts payable, accrued liabilities and prepaid expenses was mainly due to the reduction in costs and expenses in fiscal 2009 as compared to fiscal 2008.

 

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Net cash provided by/used in investing activities

Net cash provided by investing activities was $3.7 million in fiscal 2010. In fiscal 2010, we sold an investment in a privately held technology company for business and strategic purposes for $4.6 million, released $1.5 million of restricted cash related to acquisition related earnouts, and received $1.5 million from sale of marketable investments. This was offset by cash used to purchase property and equipment for $1.9 million and payment of $1.9 million relating to prior acquisitions.

Net cash used in investing activities was $2.4 million in fiscal 2009. In fiscal 2009, we made cash earnout payments of $4.5 million relating to prior acquisitions, and we made an aggregate investment of $1.8 million in privately held technology companies for business and strategic purposes. We also purchased property and equipment totaling $1.1 million. The primary source of cash was $5.0 million from the sale and maturity of marketable investments.

We expect to make capital expenditures of approximately $3.0 million to $4.0 million during fiscal 2011. These capital expenditures will be used to support selling, marketing and product development activities. We will use capital lease financing as well as our cash and cash equivalents to fund these purchases. In addition, we may make earnout payments related to prior acquisitions and acquire additional technologies and strategic equity investments in the future using our cash and cash equivalents.

Net cash provided by financing activities

Net cash provided by financing activities was $4.8 million in fiscal 2010. The primary source of cash was cash drawn against the term debt with Wells Fargo for $15.0 million, release of restricted cash of $7.5 million maintained for the Wells Fargo Line of Credit, and proceeds from exercise of common stock for $2.2 million. We used $12.2 million for repayment of line of credit from Wells Fargo, repayment of lease obligations of $2.6 million, and issuance costs of $1.9 million for the 2014 Notes and $0.8 million issuance costs related to the Term Debt from Wells Fargo.

Net cash provided by financing activities was $0.8 million in fiscal 2009. The primary source of cash was cash drawn on the line of credit with Wells Fargo Bank for $12.2 million, cash drawn against the auction rate securities with UBS bank for $12.6 million, and cash received on exercise of common stock of $3.8 million. In addition, we used $15.2 million to repay the 2008 Notes and $9.2 million to maintain restricted cash, of which $7.5 million was for the line of credit with Wells Fargo Bank and $1.5 million was for amounts held back in connection with the Sabio acquisition.

Capital resources

Cash and cash equivalents available for use aggregated a total of $57.5 million at May 2, 2010.

As more fully described in Note 9, Convertible Notes, on September 11, 2009 we completed an exchange offer pursuant to which an aggregate principal amount of $26.7 million of our 2010 Notes were exchanged for $26.7 million principal amount of newly issued 2014 Notes. As a result of the exchange, approximately $23.2 million principal amount of the 2010 Notes remained outstanding as of May 2, 2010. These notes were subsequently paid on May 17, 2010 (see Note 19, Subsequent Events).

In July 2010, we repurchased $2.75 million of aggregate principal amount of its 2014 Notes, representing approximately 10.3% of the previously outstanding aggregate principal amount of Notes, in private transactions. These purchases were funded from our working capital. (see Note 19, Subsequent Events)

We negotiated a New Credit Facility with Wells Fargo Bank on March 19, 2010 replacing the old credit facility of $15.0 million. The New Credit Facility is comprised of $15.0 in term debt and $15.0 revolving loans with an expiration date of March 19, 2014. We had drawn down the $15.0 million of term debt that was used to repay the outstanding revolving note of $12.2 million.

 

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We have taken action to receive liquidity from our $16.8 million invested in auction rate securities (“ARS”) as of May 2, 2010, which had been illiquid since February 2008. We entered into a settlement agreement with UBS Financial Services, Inc. (“UBS”) that allowed us to recover the par value of the ARS on or about June 30, 2010 (see Note 3, Fair Value of Financial Instruments). Concurrently, we entered into a “no net cost” secured line of credit with UBS offered as part of the total settlement agreement (see Note 11, Secured Credit Line). This secured line of credit provided us with cash of $11.2 million until the ARS could be sold back to UBS at par value in 2010. On July 2, 2010, we exercised our put option and liquidated the $16.8 million ARS and repaid the outstanding $11.2 million secured line of credit to UBS.

In recent years, we have funded our operations primarily through operating cash flows and through the issuance of convertible debt and equity securities. In the first quarter of fiscal 2009, we began implementing cost reduction measures that continued through the end of fiscal 2010. Given the current adverse economic conditions generally, and in the semiconductor industry in particular, the credit market crisis and our own liquidity position, we have increased our focus on cash management and identifying and taking actions to sustain and enhance our liquidity position. These actions include operational expense reduction initiatives and re-timing or eliminating certain capital spending or research and development projects. As a result of these efforts and other factors, we generated positive cash flow of $16.0 million of cash from operations in fiscal 2010.

We have been successful in refinancing our current debt as of May 2, 2010. Our ability to fund our cash needs over the short and long term will also depend on our ability to continue to generate cash from operations, which is subject to general economic and financial market conditions, competition, maintaining our existing credit facility, and other factors. We believe we have sufficient capital resources to fund our working capital requirements and operations, capital investments, and debt service during the next twelve months. However any of these factors could have a materially adverse impact on our financial position and results of operations. For a complete discussion of the risks facing our business, including our liquidity, please see Part II, Item 1A, “Risk Factors.”

Revolving Loans and Term Debt

Effective as of October 31, 2008, we entered into a secured revolving line of credit facility with Wells Fargo Bank, N.A. (the “Credit Facility”). As amended by the First Amendment dated March 11, 2009, the Second Amendment dated May 21, 2009, and the Third Amendment dated October 1, 2009. The Credit Facility (i) provided for a single revolving line of credit note of up to $15 million replacing the two previous $7.5 million revolving line of credit notes, (ii) eliminated the requirement that Magma maintain a minimum accounts receivable borrowing base and cash collateral, and (iii) extended the term of the line of credit to September 30, 2010. The note bears an annual interest rate equal to a fluctuating rate of 3.5% above the one month LIBOR rate on outstanding borrowings. The Credit Facility also, among other things, required that we provide certain financial statements to Wells Fargo, restricted our ability to pay dividends or make other distributions on our stock and required that we maintain certain financial conditions. In connection with the Third Amendment to the Credit Facility we released a $7.5 million collateralized certificate of deposit classified as restricted cash as of May 3, 2009.

On March 19, 2010, we entered into a new credit facility with Wells Fargo Capital Finance, LLC (the “New Credit Facility”), which replaced our existing $15.0 million Credit Facility. The New Credit Facility provides for a revolving loan not to exceed $15.0 million and a term loan of $15.0 million. The New Credit Facility expires March 19, 2014, and is secured by a first priority interest in all of our assets. The term loan will be repaid in equal quarterly installments of $0.6 million, beginning October 31, 2010.

Under the terms of the New Credit Facility, outstanding borrowings and letter of credit liabilities may not, at any time, exceed the greater of $30.0 million or 40% of all “post-contract support” revenues and “time based license fee” revenues for the preceding twelve-month period. These requirements could, but to date have not, limited our borrowing availability.

 

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The revolving and term loans bear interest at either a LIBOR Rate or a Base Rate, at managements election, in each case determined as follows and plus a margin of 4.50 percentage points: (A) if at a LIBOR Rate, at a per annum rate equal to the LIBOR Rate of the greater of (i) 1.00% per annum or (ii) the one, two or three month LIBOR rate quoted by Bloomberg and (B) if at the Base Rate the greatest of (i) the Federal Funds Rate plus 1/2%, (ii) the three month LIBOR Rate plus 1 percentage point and (iii) the Wells Fargo prime rate. In addition, we are required to pay fees of 0.5% per annum on the unused amount of the New Credit Facility, 2.5% per annum for each letter of credit issued and quarterly administrative fees of $10,000.

We are required to pay interest and fees monthly, with the outstanding principal amount plus all accrued but unpaid interest and fees payable in full at the maturity date of March 19, 2014.

The proceeds of the credit facility are intended to refinance some of our existing indebtedness, including repayment of the Credit Facility, a portion of our 2010 Notes, finance general corporate purposes, including permitted acquisitions and permitted investments, capital expenditures, working capital, letters of credit, and fees and expenses associated with the New Credit Facility. As of May 2, 2010, we had withdrawn $15.0 million of term debt, and used the proceeds to pay off the outstanding revolving note of $12.2 million under the Credit Facility, with the balance retained in cash to fund other corporate needs.

The New Credit Facility contains covenants that, among other things, limit our ability to create liens, merge, consolidate, dispose of assets, incur indebtedness and guarantees, repurchase or redeem capital stock and indebtedness, make certain investments, acquisitions and capital expenditures, enter into certain transactions with affiliates or change the nature of our business. Events of Default under the Credit Agreement include, but are not limited to, payment defaults, covenant defaults, breaches of representations and warranties, cross defaults to certain other material agreements and indebtedness, bankruptcy and other insolvency events, actual or asserted invalidity of security interests or loan documents, and certain change of control events.

The credit facility restricts our ability to pay dividends or make other distributions on our stock and requires that we maintain certain financial conditions. As of May 2, 2010, we were in compliance with the financial conditions.

Convertible notes

On September 11, 2009 we completed an exchange offer pursuant to which an aggregate principal amount of $26.7 million of our 2010 Notes were exchanged for $26.7 million principal amount of newly issued 2014 Notes. As a result of the exchange, approximately $23.2 million principal amount of the 2010 Notes remained outstanding as of May 2, 2010. On May 15, 2010, we repaid the $23.2 million remaining outstanding balance of the 2010 Notes.

Our 2014 Notes mature on May 15, 2014 and bear interest at 6% per annum, with interest payable on May 15 and November 15 of each year, commencing May 15 2010. The 2014 Notes are convertible into shares of our common stock at an initial conversion price of $1.80 per share, for an aggregate of approximately 14.83 million shares. Upon conversion, the holders of the 2014 Notes will receive our shares. The 2014 Notes are unsecured senior indebtedness, which rank equally in right of payment to our Wells Fargo credit facility and the 2010 Notes. The 2014 Notes are effectively subordinated in right of payment to the Wells Fargo credit facility to the extent of the security interest held by Wells Fargo Bank in our assets. After May 15, 2013, we have the option to redeem the 2014 Notes for cash in an amount equal to 100% of the aggregate outstanding principal amount at the time of such redemption.

As of May 2, 2010, we were in compliance with all financial conditions included in the indentures for the 2010 Notes and the 2014 Notes.

 

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In July 2010, we repurchased $2.75 million of aggregate principal amount of its 2014 Notes, representing approximately 10.3% of the previously outstanding aggregate principal amount of Notes, in private transactions. These purchases were funded from our working capital. (see Note 19, Subsequent Events)

Repurchases of common stock

On February 21, 2008, we announced that our Board of Directors authorized us to repurchase up to $20.0 million of our common stock. In March 2008, we used approximately $5.0 million to repurchase 499,500 shares of our common stock in the open market. The repurchased shares are to be used for general corporate purposes. We did not repurchase any of our common stock during 2010.

Contractual obligations

As of May 2, 2010, our principal contractual obligations consisted of $77.7 million from fiscal 2011 through fiscal 2014 for office facilities, repayments of $23.2 million of the 2010 Notes due in May 2010, $26.7 million of the 2014 Notes due in May 2014 and $6.0 million in capital lease obligations for computer equipment and purchase obligations. Although we have no material commitments for capital expenditures, we do not anticipate an increase in our capital expenditures and lease commitments with cost reduction plans that were initiated in fiscal 2009. Purchase obligations represent an estimate of all open purchase orders and contractual obligations in the normal course of business for which we have not received the goods or services as of May 2, 2010. Although open purchase orders are considered enforceable and legally binding, the terms generally allow us the option to cancel, reschedule and adjust our requirements based on our business needs prior to the delivery of goods or performance of services. In addition, we have other obligations for goods and services entered into in the normal course of business. These obligations, however, either are not enforceable or legally binding or are subject to change based on our business decisions.

Our acquisition agreements related to certain business combination and asset purchase transactions obligate us to pay certain contingent cash consideration based on meeting certain financial or project milestones and continued employment of certain employees. The total amount of contingent cash consideration that could be paid under our acquisition agreements, assuming all contingencies are met, was $4.5 million as of May 2, 2010. Subject to the uncertainties further described in “Capital resources” above, these contingent consideration obligations are not expected to affect our estimate that our existing cash and cash equivalents will be sufficient to meet our anticipated operating and working capital expenditure requirements in the ordinary course of business for at least the next 12 months.

The table below summarizes our significant contractual obligations at May 2, 2010, and the effect such obligations are expected to have on our liquidity and cash flows in future periods (in millions). The operating lease obligations and purchase obligations were not recorded in our consolidated balance sheets as of May 2, 2010.

 

     Payment due by period
     Total    Less Than
1 Year
   1-3
Years
   4-5
Years
   After 5
Years

Operating lease obligations

   $ 6.8    $ 4.0    $ 2.6    $ 0.2    $ —  

Capital lease obligations

     2.2      1.6      0.6      —        —  

Convertible notes

     49.9      23.2      —        26.7      —  

Purchase obligations

     3.8      3.1      0.7      —        —  

Term Debt

     15.0      1.7      4.5      8.8      —  
                                  

Total

   $ 77.7    $ 33.6    $ 8.4    $ 35.7    $ —  
                                  

 

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Income taxes

As of May 2, 2010 and May 3, 2009, we recorded unrecognized tax benefits of $18.4 million, and $27.1 million, respectively, of which $1.6 million and $8.8 million, respectively, are included in our long-term tax liabilities on our consolidated balance sheet. We are not able to estimate the amount or timing of any cash payments required to settle these liabilities; however, we do not anticipate the settlement of the liabilities will require payment of cash within the next twelve months and do not believe that the ultimate settlement of these obligations will materially affect our liquidity.

Off-balance sheet arrangements

As of May 2, 2010, we did not have any significant “off-balance-sheet arrangements,” as defined in Item 303(a)(4)(ii) of Regulation S-K.

Indemnification Obligations

We enter into standard license agreements in the ordinary course of business. Pursuant to these agreements, we agree to indemnify our 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 our products. These indemnification obligations have perpetual terms. Our normal business practice is to limit the maximum amount of indemnification to the amount received from the customer. On occasion, the maximum amount of indemnification we may be required to make may exceed our normal business practices. We estimate the fair value of our indemnification obligations as insignificant, based on our historical experience concerning product and patent infringement claims. Accordingly, we have no liabilities recorded for indemnification under these agreements as of May 2, 2010.

We have agreements whereby our officers and directors are indemnified for certain events or occurrences while the officer or director is, or was, serving at our request in such capacity. The maximum potential amount of future payments we could be required to make under these indemnification agreements is unlimited; however, we retain directors and officers insurance that reduces our exposure and enables us to recover portions of amounts paid. As a result of our insurance coverage, we believe the estimated fair value of these indemnification agreements is minimal. Accordingly, no liabilities have been recorded for these agreements as of May 2, 2010.

In connection with certain of our recent business acquisitions, we have also agreed to assume, or cause our subsidiaries to assume, the indemnification obligations of those companies to their respective officers and directors. No liabilities have been recorded for these agreements as of May 2, 2010.

Warranties

We warrant to our customers that our products will conform to the documentation provided. To date, there have been no payments or material costs incurred related to fulfilling these warranty obligations. Accordingly, we have no liabilities recorded for these warranties as of May 2, 2010. We assess the need for a warranty accrual on a quarterly basis, and there can be no guarantee that a warranty accrual will not become necessary in the future.

 

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ITEM 7A.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk

Our exposure to market risk for changes in interest rates relates primarily to our investment portfolio. The primary objective of our investment activities is to preserve principal while maximizing yields without significantly increasing risk. This is accomplished by investing in widely diversified short-term and long-term investments, consisting primarily of investment grade securities. As of May 2, 2010, a hypothetical 100 basis point increase in interest rates would not result in a material impact on the fair value of our cash equivalents and short-term investments.

The fair value of our fixed rate long-term debt is sensitive to interest rate changes. Interest rate changes would result in increases or decreases in the fair value of our debt, due to differences between market interest rates and rates in effect at the inception of our debt obligation. Changes in the fair value of our fixed rate debt have no impact on our cash flows or consolidated financial statements.

Credit Risk

Financial instruments that potentially subject the Company to concentrations of credit risk consist principally of cash, cash equivalents, short-term investments and accounts receivable. The Company’s cash, cash equivalents and short-term investments generally consist of government agencies, municipal obligations and money market funds with high-quality financial institutions. Accounts receivable are typically unsecured and are derived from license and service sales. The Company performs ongoing credit evaluations of its customers and maintains allowances for doubtful accounts.

Foreign Currency Exchange Rate Risk

A majority of our revenue, expense, and capital purchasing activities are transacted in U.S. dollars. However, we transact some portions of our business in various foreign currencies, primarily related to a portion of revenue in Japan and operating expenses in Europe, Japan and Asia-Pacific. Accordingly, we are subject to exposure from adverse movements in foreign currency exchange rates. As of May 2, 2010, we had approximately $6.3 million of cash and money market funds in foreign currencies. During the third quarter of fiscal 2008, we entered into foreign currency forward contracts to mitigate exposure in movements between the U.S. dollar and Japanese yen. The derivatives do not qualify for hedge accounting treatment under ASC 815. We recognize the gain and loss on foreign currency forward contracts in the same period as the remeasurement loss and gain of the related foreign currency-denominated exposures. In fiscal 2010 and 2009, net foreign exchange loss totaled $1.4 million and gain totaled $0.2 million, respectively, and was included in “Other (expense), net” in our consolidated statements of operations.

 

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ITEM 8.    FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

MAGMA DESIGN AUTOMATION, INC. AND SUBSIDIARIES

Index to Consolidated Financial Statements and Financial Statement Schedules

 

     Page

Consolidated Financial Statements:

  

Reports of Independent Registered Public Accounting Firm

   62

Consolidated Balance Sheets as of May 2, 2010 and May 3, 2009

   64

Consolidated Statements of Operations for the fiscal years ended May 2, 2010, May  3, 2009 and April 6, 2008, and the one month ended May 4, 2008

   65

Consolidated Statements of Stockholders’ Equity (Deficit) and Comprehensive Income (Loss) for each of the three fiscal years ended May 2, 2010, May 3, 2009 and April 6, 2008, and the one month ended May 4, 2008

   66

Consolidated Statements of Cash Flows for the fiscal years ended May 2, 2010, May  3, 2009 and April 6, 2008, and the one month ended May 4, 2008

   68

Notes to Consolidated Financial Statements

   70

Financial Statement Schedules:

  

II—Valuation and Qualifying Accounts

   111

Supplementary Financial Data:

  

Selected Consolidated Quarterly Financial Data (Unaudited)

   111

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders of

Magma Design Automation, Inc.

We have audited the accompanying consolidated balance sheets of Magma Design Automation, Inc. and subsidiaries (a Delaware corporation) as of May 2, 2010 and May 3, 2009, and the related consolidated statements of operations, stockholders’ equity (deficit) and comprehensive income (loss), and cash flows for each of the years ended May 2, 2010 and May 3, 2009, the month ended May 4, 2008 and the year ended April 6, 2008. Our audits of the basic financial statements included the financial statement schedules listed in the index appearing under Item 15(a)(2). These financial statements and financial statement schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion on these financial statements and financial statement schedules based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Magma Design Automation, Inc. and subsidiaries as of May 2, 2010 and May 3, 2009, and the results of their operations and their cash flows for each of the years ended May 2, 2010 and May 3, 2009, the month ended May 4, 2008 and the year ended April 6, 2008 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein.

As discussed in Note 9 to the consolidated financial statements, effective May 4, 2009 Magma Design Automation, Inc. and subsidiaries adopted FASB Staff Position No. APB 14-1, Accounting for Convertible Debt Instruments That May Be Settled in Cash upon Conversion (Including Partial Cash Settlement).

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), Magma Design Automation, Inc.’s internal control over financial reporting as of May 2, 2010, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) and our report dated July 14, 2010, expressed an unqualified opinion on the effective operation of internal control over financial reporting.

/S/    GRANT THORNTON LLP

San Jose, California

July 15, 2010

 

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REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

Board of Directors and Stockholders of

Magma Design Automation, Inc.

We have audited Magma Design Automation, Inc. and subsidiaries’ (a Delaware Corporation) internal control over financial reporting as of May 2, 2010, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Magma Design Automation, Inc.’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on Magma Design Automation Inc.’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, Magma Design Automation, Inc. and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of May 2, 2010, based on criteria established in Internal Control—Integrated Framework issued by COSO.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Magma Design Automation, Inc. and subsidiaries as of May 2, 2010 and May 3, 2009 and the related consolidated statements of operations, stockholders’ equity (deficit) and comprehensive income (loss), and cash flows for the years ended May 2, 2010 and May 3, 2009, the month ended May 4, 2008 and the year ended April 6, 2008. Our audits of the basic financial statements included the financial statement schedules listed in the index appearing under Item 15(a)(2). Our report dated July 14, 2010 expressed an unqualified opinion on those financial statements and financial statement schedules.

/S/    GRANT THORNTON LLP

San Jose, California

July 15, 2010

 

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MAGMA DESIGN AUTOMATION, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(in thousands, except share data)

 

     May 2, 2010     May 3,2009
(as adjusted)1
 

ASSETS

    

Current assets:

    

Cash and cash equivalents

   $ 57,518      $ 32,888   

Restricted cash

     250        9,215   

Short-term investments, pledged as collateral for secured credit line

     16,837        —     

Accounts receivable, net

     17,401        26,635   

Prepaid expenses and other current assets

     4,472        5,443   
                

Total current assets

     96,478        74,181   

Property and equipment, net

     5,979        10,443   

Intangible assets, net

     7,487        12,170   

Goodwill

     7,093        6,666   

Long-term investments, pledged as collateral for secured credit line

     —          17,908   

Other assets

     5,086        5,665   
                

Total assets

   $ 122,123      $ 127,033   
                

LIABILITIES AND STOCKHOLDERS DEFICIT

    

Current liabilities:

    

Accounts payable

   $ 2,220      $ 1,212   

Accrued expenses

     16,347        15,353   

Secured credit line

     11,162        12,451   

Revolving note

     —          12,181   

Current portion of term debt

     1,688        —     

Current portion of other long-term liabilities

     1,901        2,679   

Deferred revenue

     25,528        35,779   

Convertible notes, net of debt discount of $44 at May 2, 2010

     23,206        —     
                

Total current liabilities

     82,052        79,655   

Convertible notes, net of debt (premium) discount of ($1,574) and $2,339 at May 2, 2010 and May 3, 2009, respectively

     28,263        47,600   

Long-term portion of term debt

     13,312        —     

Long-term tax liabilities, less current portion

     1,856        9,729   

Other long-term liabilities

     922        3,160   
                

Total liabilities

     126,405        140,144   
                

Commitments and contingencies (Note 15)

    

Stockholders deficit:

    

Common stock (par value $0.0001, 150,000,000 shares authorized; 55,025,286 and 51,988,272 shares issued and outstanding, respectively, at May 2, 2010 and 50,259,862 and 47,222,848 shares issued and outstanding, respectively, at May 3, 2009)

     6        5   

Additional paid-in capital

     417,131        405,342   

Accumulated deficit

     (383,824     (380,490

Treasury stock at cost (3,037,014 shares at May 2, 2010 and May 3, 2009, respectively)

     (32,615     (32,615

Accumulated other comprehensive loss

     (4,980     (5,353
                

Total stockholders deficit

     (4,282     (13,111
                

Total liabilities and stockholders deficit

   $ 122,123      $ 127,033   
                

 

1 May 3, 2009 adjusted for adoption of ASC 470-20. See Note 1.

The accompanying notes are an integral part of these consolidated financial statements.

 

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MAGMA DESIGN AUTOMATION, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(in thousands, except per share data)

 

     Fiscal Year Ended     One month ended
May 4, 2008

(as adjusted)1
 
     May 2, 2010     May 3, 2009
(as adjusted)1
    April 6, 2008
(as adjusted)1
   

Revenue:

        

Licenses

   $ 62,225      $ 76,474      $ 139,062      $ 1,822   

Bundled licenses and services

     31,600        33,431        40,515        641   

Services

     29,252        37,052        34,842        2,404   
                                

Total revenue

     123,077        146,957        214,419        4,867   
                                

Cost of revenue:

        

Licenses

     3,142        19,416        19,151        1,536   

Bundled licenses and services

     4,282        10,459        9,474        517   

Services

     13,129        18,454        20,729        2,010   
                                

Total cost of revenue

     20,553        48,329        49,354        4,063   
                                

Gross profit

     102,524        98,628        165,065        804   

Operating expenses:

        

Research and development

     47,024        68,751        76,920        7,595   

Sales and marketing

     41,247        56,024        70,711        6,061   

General and administrative

     18,214        24,307        31,576        2,418   

Impairment of goodwill

     —          60,089        —          —     

Amortization of intangible assets

     1,134        2,994        8,043        534   

In-process research and development

     —          —          2,256        —     

Restructuring charge

     2,730        10,661        291        —     
                                

Total operating expenses

     110,349        222,826        189,797        16,608   
                                

Operating loss

     (7,825     (124,198     (24,732     (15,804

Other income (expense):

        

Interest income

     256        637        2,021        108   

Interest and amortization of debt discount/ premium

     (4,397     (4,357     (3,866     (250

Valuation gain (loss), net

     404        (442     —          —     

Other income (expense), net

     1,486        (118     (591     (24
                                

Other, net

     (2,251     (4,280     (2,436     (166
                                

Net loss before income taxes

     (10,076     (128,478     (27,168     (15,970

Benefit from (provision for) income taxes

     6,742        (764     (6,640     (375
                                

Net (loss)

   $ (3,334   $ (129,242   $ (33,808   $ (16,345
                                

Net (loss) per share, basic and diluted

   $ (0.07   $ (2.89   $ (0.83   $ (0.38
                                

Shares used in per share calculation, basic and diluted

     49,639        44,698        40,518        42,812   
                                

 

1 Years ended May 3, 2009, April 6, 2008 and one month ended May 4, 2008 adjusted for adoption of ASC 470-20. See Note 1.

The accompanying notes are an integral part of these consolidated financial statements.

 

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MAGMA DESIGN AUTOMATION, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT) AND COMPREHENSIVE INCOME (LOSS)

(in thousands, except share data)

 

    Common Stock   Additional
Paid-in
Capital
    Accumulated
Deficit
    Treasury Stock     Accumulated
Other
Comprehensive
Loss
    Total
Stockholders’
Equity
(Deficit)
    Comprehensive
Loss
 
    Shares     Amount       Shares     Amount        

BALANCES AT APRIL 1, 2007

  38,533,351      $ 5   $ 315,453      $ (197,896   (2,679,426   $ (29,162   $ (1,092   $ 87,308     

Issuance of common stock under stock incentive plans

  3,324,196        —       22,319        —        134,319        1,460        —          23,779     

Issuance of common stock in connection with asset purchase

  281,269        —       2,662        —        —          —          —          2,662     

Issuance of common stock in connection with business combination

  1,979,833        —       19,970        —        —          —          —          19,970     

Retirement of common stock

  (145,746     —       (2,070     —        —          —          —          (2,070  

Repurchase of common stock

  (499,500     —       —          —        (499,500     (4,995     —          (4,995  

Stock-based compensation expense, net of forfeitures

  —          —       20,424        —        —          —          —          20,424     

Tax benefits associated with exercise of stock options and debt issuance costs

  —          —       53        —        —          —          —          53     

Effect of ASC 740-10 adoption (Note 1 “Accounting Corrections”)

  —          —       —          (2,850   —          —          —          (2,850  

Reissuance of treasury stock

  —          —       —          (334   —          —          —          (334     —     

Comprehensive loss:

                 

Net loss

  —          —       —          (32,409   —          —          —          (32,409     (32,409

Effect of ASC 470-20 adoption (Note 1 Adoption of Recent Accounting Pronouncements)

  —          —       —          (1,398   —          —          —          (1,398     —     

Cumulative translation adjustments

  —          —       —          —        —          —          (2,885     (2,885     (2,885

Net unrealized loss on investments

  —          —       —          —        —          —          (807     (807     (807
                                                                 

Other comprehensive loss

                    (3,692
                                                                 

Total comprehensive loss

                  $ (36,101
                                                                 

BALANCES AT APRIL 6, 2008

  43,473,403      $ 5   $ 378,811      $ (234,887   (3,044,607   $ (32,697   $ (4,784   $ 106,448     
                                                                 

Issuance of common stock under stock incentive plans

  336,521        —       2,309        —        6,655        72        —          2,381     

Retirement of common stock

  (19,988     —       (77     —        —          —          —          (77  

Stock-based compensation expense, net of forfeitures

  —          —       1,806        —        —          —          —          1,806     

Effect of ASC 470-20 adoption (Note 1 Adoption of Recent Accounting Pronouncements)

  —          —       —          (74   —          —          —          (74  

Reissuance of treasury stock

  —          —       —          (12   —          —          —          (12     —     

Comprehensive loss:

                 

Net loss

  —          —       —          (16,271   —          —          —          (16,271     (16,271

Cumulative translation adjustments

  —          —       —          —        —          —          177        177        177   

Net unrealized loss on investments

  —          —       —          —        —          —          (191     (191     (191
                                                                 

Other comprehensive loss

                    (14
                                                                 

Total comprehensive loss

                  $ (16,285
                                                                 

BALANCES AT MAY 4, 2008

  43,789,936      $ 5   $ 382,849      $ (251,244   (3,037,952   $ (32,625   $ (4,798   $ 94,187     
                                                                 

 

The accompanying notes are an integral part of these consolidated financial statements.

 

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MAGMA DESIGN AUTOMATION, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (DEFICIT) AND COMPREHENSIVE INCOME (LOSS)

(in thousands, except share data)

 

    Common Stock   Additional
Paid-in
Capital
    Accumulated
Deficit
    Treasury Stock     Accumulated
Other
Comprehensive
Loss
    Total
Stockholders’
Equity
(Deficit)
    Comprehensive
Loss
 
    Shares     Amount       Shares     Amount        

BALANCES AT May 4, 2008 (CONTINUED)

  43,789,936      $ 5   $ 382,849      $ (251,244   (3,037,952   $ (32,625   $ (4,798   $ 94,187     

Issuance of common stock under stock incentive plans

  3,527,673        —       4,693        —        938        10        —          4,703     

Retirement of common stock

  (76,470     —       (1,342     —        —          —          —          (1,342  

Repurchase of common stock

  (18,291     —       (10     —        —          —          —          (10  

Stock-based compensation expense, net of forfeitures

  —          —       18,239        —        —          —          —          18,239     

Stock option exchange

  —          —       913        —        —          —          —          913     

Effect of ASC 470-20 adoption (Note 1 Adoption of Recent Accounting Pronouncements)

  —          —       —          (1,490   —          —          —          (1,490  

Reissuance of treasury stock

  —          —       —          (6   —          —          —          (6     —     

Comprehensive loss:

                 

Net loss

  —          —       —          (127,750   —          —          —          (127,750     (127,750

Cumulative translation adjustments

  —          —       —          —        —          —          (1,558     (1,558     (1,558

Net unrealized loss on investments

  —          —       —          —        —          —          1,003        1,003        1,003   
                                                                 

Other comprehensive loss

                (555     —          (555
                                                                 

Total comprehensive loss

                —          —        $ (128,305
                                                                 

BALANCES AT MAY 3, 2009

  47,222,848      $ 5   $ 405,342      $ (380,490   (3,037,014   $ (32,615   $ (5,353   $ (13,111  

Issuance of common stock under stock incentive plans

  4,784,117        1     2,628        —        —          —          —          2,629     

Retirement of common stock

  (14,285     —       (1,654     —        —          —          —          (1,654  

Repurchase of common stock

  (4,408     —       —          —        —          —          —          —       

Stock-based compensation expense, net of forfeitures

  —          —       13,875        —        —          —          —          13,875     

Effect of ASC 470-20 adoption (Note 1 Adoption of Recent Accounting Pronouncements)

  —          —       (3,060     —        —          —          —          (3,060  

Comprehensive loss:

                 

Net loss

  —          —       —          (3,334   —          —          —          (3,334     (3,334

Cumulative translation adjustments

  —          —       —          —        —          —          373        373        373   
                                                                 

Other comprehensive loss

                373        (2,961     (2,961
                                                                 

Total comprehensive loss

                —          —        $ (2,961
                                                                 

BALANCES AT MAY 2, 2010

  51,988,272      $ 6   $ 417,131      $ (383,824   (3,037,014   $ (32,615   $ (4,980   $ (4,282  
                                                                 

The accompanying notes are an integral part of these consolidated financial statements.

 

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MAGMA DESIGN AUTOMATION, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(in thousands)

 

     Fiscal Year Ended     One month  ended
May 4, 2008
(as adjusted)1
 
     May 2, 2010     May 3, 2009
(as  adjusted)1
    April 6, 2008
(as  adjusted)1
   

Cash flows from operating activities:

        

Net loss

   $ (3,334   $ (129,242   $ (33,808   $ (16,345

Adjustments to reconcile net loss to net cash provided by (used in) operating activities:

        

Depreciation

     6,278        8,633        9,883        682   

Amortization of intangible assets

     4,978        28,270        30,277        2,425   

In-process research and development

     —          —          2,256        —     

Provision for doubtful accounts (net of recovery)

     (174     1,124        562        —     

Amortization of debt discount and debt issuance costs

     1,976        2,562        2,564        154   

Amortization of debt premium

     (240     —          —          —     

Gain on extinguishment of convertible notes

     (278     —          —          —     

Loss on auction rate securities

     1,407        2,174        —          —     

Gain on purchased put option

     (1,811     (1,732     —          —     

(Gain) Loss on strategic equity investments

     (2,647     290        481        17   

Loss on disposal of property and equipment

     —          —          17        —     

Stock-based compensation

     13,876        19,151        20,424        1,806   

Tax benefits associated with exercise of stock options and debt issuance costs

     —          —          53        —     

Restructuring charges

     340        2,505        —          —     

Impairment of goodwill

     —          60,089        —          —     

Other non-cash items

     40        (305     28        —     

Changes in operating assets and liabilities, net of effect of acquisitions:

        

Accounts receivable

     9,746        3,063        (648     6,174   

Prepaid expenses and other assets

     1,482        691        (1,561     (693

Accounts payable

     1,008        (2,044     (1,447     (715

Accrued expenses

     1,275        (11,152     (15,692     (1,138

Deferred revenue

     (10,193     9,899        (3,373     1,764   

Other long-term liabilities

     (7,725     605        3,198        317   
                                

Net cash flows provided by (used in) operating activities

     16,004        (5,419     13,214        (5,552
                                

Cash flows from investing activities:

        

Cash paid for business and asset acquisitions, net of cash acquired

     (1,943     (4,467     (8,288     (1,100

Purchase of property and equipment

     (1,885     (1,147     (7,208     (617

Purchase of available-for-sale investments

     —          —          (49,593     (5,000

Proceeds from maturities and sale of available-for-sale investments

     1,475        5,000        38,950        3,000   

(Purchase) Sale of strategic investments

     4,633        (1,801     (1,275     —     

Restricted cash

     1,465        —          4,850        —     
                                

Net cash flows provided by (used in) investing activities

     3,745        (2,415     (22,564     (3,717
                                

 

The accompanying notes are an integral part of these consolidated financial statements.

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MAGMA DESIGN AUTOMATION, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS—(Continued)

(in thousands)

 

     Fiscal Year Ended     One month  ended
May 4, 2008
(as adjusted)1
 
     May 2, 2010     May 3, 2009
(as  adjusted)1
    April 6, 2008
(as  adjusted)1
   

Cash flows from financing activities:

        

Proceeds from issuance of common stock, net

     2,243        3,789        21,377        2,368   

Repayment of 2% 2010 Notes

     (26,689     —          —          —     

Proceeds from 6% 2014 Notes

     26,689        —          —          —     

Issuance costs related to the 6% 2014 Notes

     (1,852     —          (4,995     —     

Issuance costs related to Term Debt

     (823     —          —          —     

Retirement of restricted stock

     (1,270     (1,351     —          (77

Proceeds/(Repayments) from revolving note

     (12,181     12,181        —          —     

Proceeds from term debt

     15,000        12,550        —          —     

Repayment of lease obligations

     (2,564     (1,972     (2,367     (360

Repayment of convertible notes

     —          (15,216     (83     —     

Repayment of secured credit line

     (1,291     —          (3,000     —     

Restricted cash

     7,500        (9,215     —          —     
                                

Net cash provided by financing activities

     4,762        766        10,932        1,931   
                                

Effect of foreign currency translation changes on cash and cash equivalents

     119        327        50        (3
                                

Net change in cash and cash equivalents

     24,630        (6,741     1,632        (7,341

Cash and cash equivalents, beginning of period

     32,888        39,629        45,338        46,970   
                                

Cash and cash equivalents, end of period

   $ 57,518      $ 32,888      $ 46,970      $ 39,629   
                                

Supplemental disclosure of cash flow information

        

Non-cash investing and financing activities:

        

Purchase of equipment under capital leases

   $ 463      $ 2,297      $ 2,875      $ 651   
                                

Purchase of software under installment payment agreement

   $ —        $ 909      $ —        $ —     
                                

Issuance of common stock in connection with acquisitions

   $ —        $ 908      $ 22,632      $ —     

Cash Paid for:

        

Interest

   $ 2,673      $ 1,793      $ 990      $ 97   
                                

Income Taxes

   $ 674      $ 1,942      $ 1,488      $ 184   
                                

 

1 May 3, 2009, April 6, 2008 and one month ended May 4, 2008 adjusted for adoption of ASC 470-20. See Note 1.

The accompanying notes are an integral part of these consolidated financial statements.

 

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MAGMA DESIGN AUTOMATION, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Note 1.    The Company and Summary of Significant Accounting Policies

The Company

Magma Design Automation, Inc. (the “Company” or “Magma”), a Delaware corporation, was incorporated on April 1, 1997. The Company provides design and implementation, analysis and verification software that enables chip designers to reduce the time it takes to design and produce complex integrated circuits used in the communications, computing, consumer electronics, networking and semiconductor industries. The Company has licensed its products to major semiconductor companies and electronic products manufacturers in Asia, Europe and the United States.

Principles of consolidation

The consolidated financial statements of Magma include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated. Accounts denominated in foreign-currency have been translated from their functional currency to the U.S. dollar.

Change in fiscal year end

Prior to fiscal 2009, the Company had a 52-53 week fiscal year ending on the first Sunday subsequent to March 31. On January 28, 2008 the Company’s Board of Directors approved a change of fiscal year from a fiscal year ending on the first Sunday subsequent to March 31 to a fiscal year ending on the Sunday closest to April 30 (except for any given year in which April 30 is a Sunday, in which case the fiscal year will end on April 30), starting with fiscal 2009. The Company’s fiscal years consist of four quarters of 13 weeks each except for each fifth or sixth fiscal year, which includes one quarter with 14 weeks.

The Company’s 2009 fiscal year began on May 5, 2008 and ended on May 3, 2009, resulting in a one-month transition period that began on April 7, 2008 and ended on May 4, 2008. Information for the transition period was included in the Company’s Quarterly Report on Form 10-Q for the quarter ended August 3, 2008, which was filed with the SEC on September 12, 2008.

References in this Form 10-K to fiscal 2009 represent the 52 weeks ended May 3, 2009. References in this Form 10–K to fiscal 2008 represent the 52 weeks ended April 6, 2008. References in this Form 10–K to fiscal 2007 represent the 52 weeks ended April 1, 2007. The Company has not submitted financial information for the 52 weeks ended April 5, 2009 in this Form 10–K because the information is not practical or cost effective to prepare. The Company believes that the 52 weeks of fiscal 2008 provide a meaningful comparison to the 52 weeks of fiscal 2009 presented in this Form 10-K. The Company does not believe that there are any significant factors, seasonal or otherwise, that would impact the comparability of information or trends if results for the 52 weeks ended April 5, 2009 were presented in lieu of results for the 52 weeks ended May&nbs