<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED
SEPTEMBER 30, 1999
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from _______ to _______
-----------------------------------------------------------------------------
Commission File Number 0-25864
AVANT! CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 94-3133226
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
46871 Bayside Parkway
Fremont, California 94538
(Address of principal executive offices, including zip code)
Registrant's telephone number, including area code: (510) 413-8000
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 [ ]
The number of shares outstanding of the registrant's common stock as of
November 4, 1999 was 38,524,200.
<PAGE>
AVANT! CORPORATION
FORM 10-Q
September 30, 1999
INDEX
<TABLE>
<CAPTION>
PAGE
<S> <C>
PART I FINANCIAL INFORMATION
Item 1. FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets as of September 30, 1999 and
December 31, 1998 1
Condensed Consolidated Statements of Income for the Three and Nine Months
Ended September 30, 1999 and 1998 2
Condensed Consolidated Statements of Cash Flows for the Nine Months
Ended September 30, 1999 and 1998 3
Notes to Condensed Consolidated Financial Statements 4
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS 9
Item 2A RISK FACTORS THAT MAY AFFECT FUTURE RESULTS 17
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK, DERIVATIVES
AND FINANCIAL INSTRUMENTS 24
PART II OTHER INFORMATION
Item 1. LEGAL PROCEEDINGS 25
Item 2. CHANGES IN SECURITIES AND USE OF PROCEEDS 25
Item 5. OTHER INFORMATION 25
Item 6. EXHIBITS AND REPORTS ON FORM 8-K 25
SIGNATURE PAGE 26
EXHIBIT INDEX 27
</TABLE>
i
<PAGE>
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
AVANT! CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands, except per share data)
(unaudited)
<TABLE>
<CAPTION>
September 30, December 31,
1999 1998
--------------- ---------------
<S> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 69,528 $ 126,180
Short-term investments 156,787 21,389
Accounts receivable, net 40,196 37,965
Due from affiliates 4,977 8,947
Deferred income taxes 19,109 15,077
Prepaid expenses and other current assets 10,397 14,980
--------------- ---------------
Total current assets 300,994 224,538
Equipment, furniture and fixtures, net 27,781 30,152
Deferred income taxes 16,851 23,910
Goodwill and other intangibles, net 33,755 41,343
Other assets 13,586 17,565
--------------- ---------------
Total assets $ 392,967 $ 337,508
=============== ===============
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 10,316 $ 6,292
Accrued compensation 15,857 10,109
Accrued income taxes 18,294 25,457
Current portion of long term obligation 61 1,053
Other accrued liabilities 16,240 13,613
Deferred revenue 40,463 32,614
--------------- ---------------
Total current liabilities 101,231 89,138
Long-term obligation less current portion - 657
Other noncurrent liabilities: 1,863 1,878
--------------- ---------------
Total liabilities 103,094 91,673
Commitments and contingencies
Stockholders' equity:
Series A convertible preferred stock, $.0001 par value; 5,000
shares authorized; none issued and outstanding - -
Series A junior participating preferred stock, $.0001 par value;
75,000 shares authorized; none issued and outstanding - -
Common stock, $.0001 par value; 75,000 authorized;
38,274 and 37,474 shares issued and outstanding
at September 30, 1999 and December 31, 1998, respectively 4 4
Additional paid-in capital 226,120 218,237
Deferred compensation (842) (1,306)
Other accumulated comprehensive income (loss) (925) (15)
Retained earnings 65,516 28,915
--------------- ---------------
Total stockholders' equity 289,873 245,835
--------------- ---------------
Total liabilities and stockholders' equity $ 392,967 $ 337,508
--------------- ---------------
</TABLE>
See accompanying notes to condensed consolidated financial statements.
1
<PAGE>
AVANT! CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(in thousands, except per share data)
(unaudited)
<TABLE>
<CAPTION>
Three Months Ended Nine months Ended
September 30, September 30, September 30, September 30,
1999 1998 1999 1998
------------ ------------- ------------ -----------
<S> <C> <C> <C> <C>
Revenue:
Software $ 53,176 $ 42,636 $ 148,582 $ 123,260
Services 22,308 20,770 73,931 56,701
------------ ------------- ------------ -----------
Total revenue 75,484 63,406 222,513 179,961
------------ ------------- ------------ -----------
Costs and expenses :
Costs of software 1,568 1,375 4,162 4,122
Costs of services 3,709 4,758 13,236 13,135
Selling and marketing 20,730 17,390 60,824 50,263
Research and development 17,670 15,751 53,841 45,843
General and administrative 11,142 7,921 27,924 19,975
Merger expenses 5,902 - 5,902 10,747
------------ ------------- ------------ -----------
Total operating expenses 60,721 47,195 165,889 144,085
------------ ------------- ------------ -----------
Income from operations 14,763 16,211 56,624 35,876
Interest income and other, net 3,107 1,684 6,430 4,664
------------ ------------- ------------ -----------
Income before income taxes 17,870 17,895 63,054 40,540
Provision for income taxes 8,889 6,254 25,858 17,929
------------ ------------- ------------ -----------
Net income 8,981 11,641 37,196 22,611
Accretion of discount related to
redeemable convertible preferred stock 144 237 595 611
------------ ------------- ------------ -----------
Net income applicable to common
stockholders 8,837 11,404 36,601 22,000
------------ ------------- ------------ -----------
Other comprehensive income - Change in unrealized gain (loss) on
Short-term investments, net of related
tax effects (47) 15 (579) 137
Foreign exchange translation adjustment (238) (109) 11 (112)
------------ ------------- ------------ -----------
Total comprehensive income $ 8,552 $ 11,310 $ 36,033 $ 22,025
============ ============= ============ ===========
Earnings per share - Basic:
Earnings per share $ 0.23 $ 0.31 $ 0.97 $ 0.60
============ ============= ============ ===========
Total weighted average number of common
shares outstanding 38,172 36,542 37,927 36,560
============ ============= ============ ===========
Earnings per share - Diluted:
Earnings per share $ 0.22 $ 0.30 $ 0.92 $ 0.57
============ ============= ============ ===========
Total weighted average number of common
and common equivalent shares outstanding 39,520 38,157 39,805 38,522
============ ============= ============ ===========
</TABLE>
See accompanying notes to condensed consolidated financial statements.
2
<PAGE>
AVANT! CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(in thousands)
(unaudited)
<TABLE>
<CAPTION>
Nine months Ended
September 30, September 30,
Cash flows from operating activities: 1999 1998
--------------- --------------
<S> <C> <C>
Net income $ 36,601 $ 22,000
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization 15,370 12,696
Loss on disposal of equipment 90 18
Amortization of deferred compensation 464 1,384
Deferred income taxes 3,027 (1,744)
Deferred rent 486 486
Provision for doubtful accounts 3,871 1,074
Equity in earnings of joint ventures 57 (1,294)
Tax benefit related to stock options 2,026 360
Changes in operating assets and liabilities:
Accounts receivable (6,102) (10,925)
Due from affiliates 3,970 (4,176)
Prepaid expenses and other assets 8,504 (5,671)
Accounts payable 4,024 (395)
Accrued compensation 5,748 (398)
Accrued income taxes (7,163) 14,619
Accrued merger and other accrued liabilities 1,531 (4,439)
Deferred revenue 7,849 (1,127)
--------------- --------------
Net cash provided by operating activities 80,353 22,468
--------------- --------------
Cash flows from investing activities:
Additional purchase price related to Compass acquisition - (1,901)
Purchases of short-term investments (505,365) (464,499)
Maturities and sales of short-term investments 369,057 483,577
Purchases of equipment, furniture, fixtures and other assets (5,501) (8,993)
Purchase of equity investments - (10,250)
--------------- --------------
Net cash used in investing activities (141,809) (2,066)
--------------- --------------
Cash flows from financing activities:
Repayment of short term and long term loan (1,053) (159)
Principal payments under capital lease obligations - (104)
Exercise of stock options 5,630 6,052
Repurchase of common stock (32) (17,001)
Issuance of common stock under employee stock purchase plan 259 2,012
--------------- --------------
Net cash provided by (used in) financing
activities 4,804 (9,200)
Net increase (decrease) in cash and cash equivalents (56,652) 11,202
Cash and cash equivalents, beginning of period 126,180 81,982
--------------- --------------
Cash and cash equivalents, end of period $ 69,528 $ 93,184
=============== ==============
Cash paid:
Interest $ 202 $ 214
Income taxes $ 25,407 $ 4,308
</TABLE>
See accompanying notes to condensed consolidated financial statements.
3
<PAGE>
AVANT! CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(unaudited)
1. BASIS OF PRESENTATION
The unaudited consolidated financial statements include the accounts of Avant!
Corporation ("Avant!" or the "Company") and its wholly owned subsidiaries. All
significant intercompany accounts and transactions have been eliminated. In the
opinion of management, all adjustments (consisting only of normal recurring
adjustments) necessary for a fair presentation of financial position and results
of operations have been made. Operating results for interim periods are not
necessarily indicative of results, which may be expected for a full year. The
information included in this Form 10-Q should be read in conjunction with the
Company's annual report on Form 10-K for the year ended December 31, 1998, filed
with the Securities and Exchange Commission (SEC).
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
reported amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates. Certain financial statement items
have been reclassified to conform to the current period's presentation.
2. NET INCOME PER SHARE
Basic earnings per share is computed using the weighted-average number of common
shares outstanding during the period. Diluted earnings per share is computed
using the weighted-average number of common shares outstanding and common stock
equivalent shares from stock options, and warrants, when dilutive, using the
treasury stock method. Excluded from the computation of diluted earnings per
share for the three months ended September 30, 1999 and 1998, are options to
acquire 1,836,000 and 1,014,000 shares, respectively, of common stock with a
weighted-average exercise price of $20.68 and $23.31, respectively. For the nine
months ended September 30, 1999 and 1998, options to acquire 1,280,000 and
571,000 shares, respectively, of common stock with a weighted-average exercise
price of $22.94 and $27.61, respectively, have been excluded because their
effects would be anti-dilutive.
<TABLE>
(in thousands, except per share data)
Three Months Ended Nine months Ended
September 30, September 30,
1999 1998 1999 1998
------------ ------------ ------------ ------------
<S> <C> <C> <C> <C>
Diluted EPS:
Net Income applicable to
Common stockholders $ 8,837 $ 11,404 $ 36,601 $ 22,000
============ ============ ============ ============
Weighted average number of common
shares outstanding 38,172 36,542 37,927 36,560
Stock options 1,348 1,615 1,878 1,962
------------ ------------ ------------ ------------
Total weighted average number
of common and common
equivalent shares outstanding 39,520 38,157 39,805 38,522
============ ============ ============ ============
Diluted earnings per share $ 0.22 $ 0.30 $ 0.92 $ 0.57
============ ============ ============ ============
</TABLE>
4
<PAGE>
3. RECENT PRONOUNCEMENTS
The FASB recently issued SFAS No. 133, ACCOUNTING FOR DERIVATIVE INSTRUMENTS AND
HEDGING ACTIVITIES. SFAS No. 133 establishes accounting and reporting standards
for derivative instruments, including certain derivative instruments embedded in
other contracts (collectively referred to as derivatives), and for hedging
activities. It requires an entity to recognize all derivatives as either assets
or liabilities in the statement of financial position and measure those
instruments at fair value. The Company must adopt SFAS No. 133 by January 1,
2001. Management does not believe the adoption of SFAS No. 133 will have a
material effect on the financial position or results of operations of the
Company.
4. SEGMENT INFORMATION
The Company has adopted the provisions of SFAS No. 131, DISCLOSURE ABOUT
SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION. SFAS No. 131 establishes
standards for the reporting by public business enterprises of information about
operating segments, products and services, geographic areas, and major
customers. The method for determining what information to report is based on the
way that management organizes the operating segments within the Company for
making operating decisions and assessing financial performance.
The Company's chief operating decision-maker is considered to be the Company's
Chief Executive Officer ("CEO"). The CEO reviews financial information presented
on a consolidated basis accompanied by desegregated information about revenues
by geographic region for purposes of making operating decisions and assessing
financial performance. The consolidated financial information reviewed by the
CEO is identical to the information presented in the accompanying consolidated
statement of operations. Therefore, the Company operates in a single operating
segment: electronic design automation software and services. There have been no
differences from the last annual report as of December 31, 1998 in the basis of
segmentation or in the basis of measurement of segment profit or loss.
Furthermore, because the Company operates in a single operating segment, total
assets and operating income disclosed in the condensed consolidated financial
statements as of September 30, 1999 represent the total assets and operating
income of the segment. Revenue and asset information regarding operations in the
different geographic regions are as follows (in thousands):
<TABLE>
<CAPTION>
North America Europe Asia Consolidated
------------------------------------------------------------------------
<S> <C> <C> <C> <C>
Revenues:
Three months ended September 30, 1998 $ 47,558 $ 5,479 $ 10,369 $ 63,406
Three months ended September 30, 1999 56,735 6,763 11,986 75,484
Nine months ended September 30, 1998 124,503 22,905 32,553 179,961
Nine months ended September 30, 1999 157,840 24,031 40,642 222,513
Identifiable assets:
As of September 30, 1998 $ 277,861 $ 15,685 $ 2,677 $ 296,223
As of September 30, 1999 367,815 16,716 8,436 392,967
Long-lived assets:
As of September 30, 1998 $ 30,483 $ 1,137 $ 242 $ 31,862
As of September 30, 1999 25,708 728 1,345 27,781
</TABLE>
As discussed in Part I, Item 2A, "Risk Factors That May Affect Future Results,"
the Company is involved in several litigation matters, including a lawsuit with
Cadence Design Systems, Inc. ("Cadence"). As a result of the litigation, some
customers may return, or cancel, or postpone orders of the Company's products.
As of September 30, 1999, such cancellations, postponements and returns had not
had a material financial impact on the Company's revenues. Cancellations,
returns, or a significant delay of orders in the future would have a material
adverse effect on the Company's business, financial condition and results of
operations, however.
5. MERGERS AND ACQUISITIONS
On August 20, 1999, Avant! acquired Chrysalis Symbolic Design Inc.
(Chrysalis), which designs, develops and sells software products that assist
designers of complex and application-specific integrated circuits in the
validation and verification of electronic designs, for approximately $42
million by issuing approximately 3,042,000 shares of Avant! common stock in a
merger exchange for all of the outstanding stock of Chrysalis. The Company
also assumed Chrysalis stock options representing the right to purchase
446,370 shares of Avant! common stock at a weighted average exercise price of
$3.99 per share and assumed Chrysalis warrants representing the right to
purchase 116,213 share of Avant! common stock at a weighted average exercise
price of $14.25 per share.
5
<PAGE>
In connection with the acquisition, the Company incurred cash expenses of
$4.4 million, including fees paid to professional advisors and others
totaling $2.0 million and personnel-related and other costs of $2.4 million.
The Company had no significant non-cash expenses related to the transaction.
As of September 30, 1999 the unpaid merger related expenses were $3.8 million.
On August 6, 1999, Avant! acquired Xynetix Design Systems, Inc. (Xynetix),
which develops EDA software for advanced IC packaging and complex system
design, for approximately $19 million by issuing approximately 1,441,000
shares of Avant! common stock in a merger exchange for all of the outstanding
stock of Xynetix. The Company also assumed outstanding Xynetix stock options
representing the right to purchase 126,492 shares of Avant! common stock at a
weighted average exercise price of $1.86 per share. In connection with the
acquisition, the Company incurred expenses of approximately $1.5 million,
including fees paid to professional advisors and others totaling $0.6
million, facilities costs of $0.5 million and other costs of $0.4 million.
Substantially all of the Company's expenses related to the Xynetix
acquisition constituted cash expenditures. As of September 30, 1999 the
unpaid merger related expenses were $1.1 million.
Both acquisitions were accounted for using the pooling of interests accounting
method. Accordingly, the Company's consolidated financial statements have been
restated to include the financial position and results of operations for
Chrysalis and Xynetix for all periods presented. Summarized below are revenue
and net income for the separate entities, Avant!, Chrysalis and Xynetix, and
combined amounts presented in the consolidated financial statements in Part I,
Item 1, above, for the three months and nine months ended September 30 1999 and
1998, respectively.
<TABLE>
<CAPTION>
(in thousands)
Three months ended Nine months ended
SEPTEMBER 30 SEPTEMBER 30
------------ ------------
1999 1998 1999 1998
------------------ -----------------
<S> <C> <C> <C> <C>
Revenue:
Avant! $71,905 $58,078 $207,911 $164,108
Chrysalis 2,808 3,526 10,608 10,261
Xynetix 771 1,802 3,994 5,592
------- ------- -------- --------
$75,484 $63,406 $222,513 $179,961
------- ------- -------- --------
Net Income (loss) applicable to
common stockholders:
Avant! $10,346 $12,768 $ 40,188 $ 25,918
Chrysalis ( 242) ( 199) ( 632) ( 522)
Xynetix (1,267) (1,165) ( 2,955) ( 3,396)
------- ------- -------- --------
$ 8,837 $11,404 $ 36,601 $ 22,000
------- ------- -------- --------
</TABLE>
Expenses for the first nine months of 1998 included merger-related expenses of
approximately $10.7 million for the Company's acquisition of TMA. Fees paid to
professional advisors and others were $5.4 million charges for the elimination
of duplicate facilities were $2.2 million and severance and certain other
related costs totaled $3.1 million. As of September 30, 1999, there were no
material remaining accrued liabilities relating to this acquisition. Of the
$10.7 million of merger-related costs, approximately $7.9 million were cash
expenditures and the remainder related to non-cash charges.
6. LEGAL PROCEEDINGS
Avant! and its subsidiaries are engaged in various litigation matters,
including, a civil action brought by Cadence Design Systems, Inc., the criminal
indictment of Avant! and certain of its employees, officers and directors,
securities class action and defamation claims stemming from the Cadence
litigation and the criminal indictment, and civil actions brought by Silvaco
Data Systems, Inc. The pending litigation against Avant! and any future
litigation against Avant! or its employees, regardless of the outcome, may
result in substantial costs and expenses and significant diversion of effort by
Avant!'s management. Any of these matters could seriously harm Avant!'s
business, financial condition and results of operations.
6
<PAGE>
CADENCE LITIGATION. On December 6, 1995, Cadence filed an action against
Avant! and certain of its officers in the United States District Court for
the Northern District of California alleging copyright infringement, unfair
competition, misappropriation of trade secrets, conspiracy, breach of
contract, inducing breach of contract and false advertising. The essence of
the complaint is that certain of Avant!'s employees who were formerly Cadence
employees allegedly misappropriated and improperly copied source code for
certain important functions of Avant!'s place and route products from
Cadence, including Cadence's Design Framework II ("DFII") product, and that
Avant! has allegedly competed unfairly by making false statements concerning
Cadence and its products. The action also alleges that Avant! induced certain
individual defendants to breach their agreements of employment and
confidentiality with Cadence. Trial on Cadence's allegations has not been
scheduled.
In addition to actual and punitive damages, which have not been quantified by
Cadence, Cadence is seeking to enjoin the sale of Avant!'s place and route
products pending trial of the action. On December 19, 1997, the District Court
entered an injunction against continued sales or licensing of any product or
work copied or derived from Cadence's Design Framework II, specifically
including, but not limited to, Avant!'s ArcCell products. The injunction also
barred Avant! from possessing or using any copies or any portion of the source
code or object code for ArcCell or any other product, to the extent that portion
is copied or derived from Cadence's DFII. (Avant! had stopped selling or
licensing ArcCell products or code in mid 1996.) On December 7, 1998, the
District Court entered an injunction against Avant! prohibiting Avant! from
directly or indirectly marketing, selling, leasing, licensing, copying or
transferring the Aquarius, Aquarius XO and Aquarius BV products. The injunction
also prohibits Avant! from marketing, selling, leasing, licensing, copying or
transferring any translation code for an Aquarius product that infringes any
protected right of Cadence. With certain exceptions related to the pending
litigation, the injunction prohibits Avant! from possessing or using any copies
of any portion of the source code or object code for the Aquarius products to
the extent that such portion is copied or derived from the DFII product of
Cadence. The preliminary injunction against Avant!'s Aquarius products could
seriously harm Avant!'s business, financial condition and results of operations.
In April 1999, Avant! and Cadence filed motions for summary adjudication as to
whether a 1994 release between Avant! and Cadence applies to Avant!'s continued
use of alleged Cadence intellectual property that was in Avant!'s place and
route product at the time of the release. On September 8, 1999, the Court
granted Avant!'s motion in part and ruled that Cadence's trade secret claim
regarding use of DF II source code is barred by the release. The Court also
ruled that the release does not bar Cadence's copyright claim regarding use of
DF II source code. The ruling makes it likely that Cadence will prevail on its
copyright claims regarding Avant!'s use of DF II code in ArcCell. While the
ruling also increases the likelihood that Cadence will prevail on its DF II
claims regarding Aquarius, Avant! believes it has additional meritorious
defenses with respect to Aquarius that it does not have with respect to ArcCell.
The Court had previously enjoined ArcCell and Aquarius. On October 15, 1999, the
Court issued an amended order certifying its September 8, 1999, order for
interlocutory appeal to the United States Circuit Court of Appeals for the Ninth
Circuit. Cadence and Avant! have petitioned for leave to file an interlocutory
appeal, but the Circuit Court has not yet ruled on those petitions.
Avant! believes it has defenses to Cadence's claims and intends to defend itself
vigorously. If Avant!'s defenses are unsuccessful, Avant! may ultimately be
permanently enjoined from selling certain place and route products, and may be
required to pay monetary damages to Cadence. In addition, upon further
consideration by the District Court, Avant! could be preliminarily enjoined from
selling its Apollo place and route products. In addition, it is likely that an
adverse judgment against Avant! would result in a steep decline in the market
price of Avant!'s common stock. Accordingly, an adverse judgment, if granted on
any claim, would seriously harm Avant!'s business, financial position and
results of operations. Furthermore, it is possible that Avant!'s relationships
with its customers and/or partners will be seriously harmed in the future as a
result of the Cadence litigation.
CRIMINAL INDICTMENT. On December 16, 1998, after a grand jury investigation,
the Santa Clara County District Attorney's office filed a criminal indictment
alleging felony level offenses related to the allegations of misappropriation
of trade secrets set forth in Cadence's lawsuit against, among others, Avant!
and current or former employees and/or directors of Avant!, including Gerald
C. Hsu, President, Chief Executive Officer and Chairman of the board of
directors, Y. Eric Cho, consultant for Avant!, former officer and former
member of Avant! board of directors, Y. Z. Liao, Corporate Fellow, Stephen
Wuu, Executive Operating Officer, Sales, Leigh Huang, consultant for Avant!,
Eric Cheng, Research and Development Manager, and, Mike Tsai, former officer
and former member of Avant! board of directors.
The indictment charges the defendants with conspiring to commit trade secret
theft, trade secret theft, inducing the theft of a trade secret, conspiracy to
commit fraudulent practices in connection with the offer or sale of a security
and fraudulent practices in connection with the offer or sale of a security. The
criminal indictment could result in additional defense costs and criminal fines
against Avant!, as well as the potential incarceration of certain members of its
management team and its chairman of the board of directors. Such outcomes would
seriously harm Avant!'s business, financial condition and results of operations
and may also result in canceled or postponed orders, increased future
expenditures, the loss of management and other key personnel, additional
stockholder litigation and loss of reputation and goodwill. Trial has currently
been set for February 22, 2000.
7
<PAGE>
On July 27, 1999, the court granted defendant Eric Cho's motion to dismiss on
the ground that Mr. Cho had been indicted without reasonable or probable cause.
The order dismissing Mr. Cho from the action has been appealed by the District
Attorney.
SILVACO LITIGATION. In March 1993, Meta Software Inc., which Avant! acquired
in October 1996 and which is now a wholly owned subsidiary of Avant!, filed a
complaint in the Superior Court of California for Santa Clara County against
Silvaco Data Systems, Inc. seeking monetary damages and injunctive relief. In
August 1995, Silvaco filed a cross-complaint against Meta and Shawn Hailey,
then the President and Chief Executive Officer of Meta, alleging, among other
things, that Meta owed Silvaco royalties and license fees pursuant to a
product development and marketing program and unpaid commissions related to
Silvaco's sale of Meta's products and services under such program. In
November 1997, a judgment in the aggregate amount of $31.4 million was
entered against Avant!. Avant! filed appeals on its own behalf and on behalf
of Mr. Hailey. If Avant!'s and Mr. Hailey's appeals are unsuccessful, Avant!
will be required to pay substantial monetary damages to Silvaco. Payment of
the damages previously awarded, and damages which may be awarded in the
future, would seriously harm Avant!'s business, financial condition and
results of operations.
On March 31, 1998, Silvaco filed an additional lawsuit, against Avant! and Roy
Jewell, a former member of Avant!'s Executive Staff, in the Superior Court of
California for Santa Clara County. The lawsuit alleges causes of action for
defamation, negligent and intentional interference with economic advantage,
unfair competition, Lanham Act violations and consumer fraud. Silvaco is seeking
$20 million in compensatory damages, punitive damages and an injunction. Avant!
believes it has defenses to these claims and intends to defend itself
vigorously. In the event Avant!'s defenses are unsuccessful, Avant! may be
required to pay damages to Silvaco, and such a judgment would seriously harm
Avant!'s business, financial condition and results of operations.
SECURITIES CLASS ACTION CLAIMS. On December 15, 1995, Paul Margetis and Helen
Margetis filed in the United States District Court for the Northern District
of California a securities fraud class action complaint against Avant!. This
lawsuit alleges certain securities law violations, including omissions and/or
misrepresentation of material facts. The alleged omissions and/or
misrepresentations are largely consistent with those outlined in Cadence's
civil lawsuit, described above. In addition, on May 30, 1997, Joanne Hoffman
filed in the United States District Court for the Northern District of
California a class action lawsuit alleging securities claims on behalf of
purchasers of Avant!'s stock between March 29, 1996 and April 11, 1997, the
date of the filing of a criminal complaint against Avant! and six of its
employees and/or directors. Plaintiff alleges that Avant! and its officers
misled the market as to the likelihood of criminal charges being filed and as
to the validity of the Cadence allegations. The District Court has granted
Avant!'s motion to coordinate the Hoffman action for pretrial purposes with
the earlier-filed Margetis action. Avant! believes it has defenses to these
securities class action claims, and intends to defend itself vigorously. In
the event Avant!'s defenses are unsuccessful, Avant! may be required to pay
damages to the securities class action plaintiffs, and such a judgment would
seriously harm Avant!'s business, financial condition and results of
operations.
NEQUIST LITIGATION. On July 15, 1998, Eric Nequist, a Cadence employee, filed
in the Santa Clara County Superior Court a complaint against Avant!. The
complaint alleges causes of action for defamation, intentional infliction of
emotional distress, negligent and intentional interference with economic
advantage, abuse of process and violations of California Business and
Professions Code Section 17200. No trial date has been set, and the parties
have been ordered to mediation. Avant! has moved that this litigation be
stayed pending resolution of the criminal case against Avant!, and Avant!'s
motion is currently pending before the Sixth District Court of Appeal. The
Sixth District Court has stayed certain discovery pending resolution of that
motion. Avant! believes it has defenses to Mr. Nequist's claims and intends
to defend itself vigorously. In the event Avant!'s defenses are unsuccessful,
Avant! may be required to pay damages to Mr. Nequist, and such a judgment
could seriously harm Avant!'s business, financial condition and results of
operation.
LITIGATION COSTS. The pending litigation and any future litigation against
the Company and the Company's employees, regardless of the outcome, is
expected to result in substantial costs and expenses to the Company. Expenses
for the litigation matters described above were $6.3 million and $13.8
million during the three and nine months ended September 30, 1999,
respectively. The Company currently expects legal costs to substantially
increase in the future as a result of its current litigation issues.
Accordingly, any such litigation could seriously harm Avant!'s business,
financial position and results of operations. Furthermore, if Avant! is
8
<PAGE>
required to satisfy the default judgments in full in the Silvaco litigation,
Avant! could be required to pay over $31.4 million in damages, which would
seriously harm Avant!'s business, financial condition and results of
operations.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATION
This Management's Discussion and Analysis of Financial Condition and Results
of Operations should be read in conjunction with the accompanying condensed
consolidated financial statements and notes included in this report. This
Form 10-Q contains 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 contained herein that are not statements of
historical fact may be deemed to be forward-looking statements. Without
limiting the foregoing, the words "believes," "anticipates," "plans,"
"expects," and similar expressions are intended to identify forward-looking
statements. The forward-looking statements include, without limitation,
statements about the market opportunity for electronic design automation
software and services, new product development, our strategy, competition and
expected expense levels, and the adequacy of our available cash resources.
Our actual results could differ materially from those expressed by these
forward-looking statements as a result of various factors, including the risk
factors described in "Risk Factors That May Affect Future Results" and
elsewhere in this report, and the risks discussed in the "Risk Factors"
section included in the Company's Annual Report on Form 10-K for the year
ended December 31, 1998 filed with the Securities and Exchange Commission
(SEC) on March 29, 1999, and other risks detailed from time to time in the
Company's Securities and Exchange Commission reports. In addition, past
results and trends should not be used by investors to anticipate future
results and trends. We undertake no obligation to update publicly any
forward-looking statements for any reason, even if new information becomes
available or other events occur in the future.
OVERVIEW
Avant! develops, markets and supports software products that assist design
engineers in the physical layout, design, verification, simulation and timing
analysis of advanced integrated circuits (ICs). The Company's strategy is to
focus on productivity enhancing software for the integrated circuit design
automation (ICDA) segment of the electronic design automation (EDA) market.
The Company resulted from the merger of ArcSys, Inc. ("ArcSys") and Integrated
Silicon Systems, Inc. ("ISS") on November 27, 1995. Effective August 20, 1999,
August 6, 1999, January 16, 1998, November 27, 1996, October 29, 1996 and
September 27, 1996, Chrysalis Symbolic Design Inc. (Chrysalis), Xynetix Design
Systems, Inc. (Xynetix), Technology Modeling Associates ("TMA"), FrontLine
Design Automation ("FrontLine"), Meta-Software Inc. ("Meta"), and Anagram, Inc
("Anagram"), respectively, merged into the Company. These mergers have all been
accounted for by the pooling-of-interests method, and accordingly, the Company's
consolidated financial statements give retroactive effect for all periods
presented to include the results of operations, financial positions, and cash
flows of Chrysalis, Xynetix, TMA, FrontLine, Meta, Anagram and ISS. On November
19, 1998, November 13, 1998, September 12, 1997, September 30, 1997 and December
31, 1996, the Company acquired ACEO Technology Inc. ("ACEO"), interHDL Inc.
("interHDL"), Compass Design Automation, Inc. ("Compass"), Datalink Far East,
Ltd. ("Datalink") and Nexsyn Design Technology Inc. ("Nexsyn"), respectively.
These acquisitions have been accounted for by the purchase method, and
accordingly, the Company's consolidated financial statements do not include the
results of operations, financial position or cash flows prior to the respective
acquisition dates.
The Company began shipping Hercules (formerly VeriCheck), its hierarchical
physical verification software, in 1992, and Aquarius (formerly ArcCell), its
cell-based place and route software product, in 1993. Anagram was founded in
March 1993, and began shipping Star-Sim, its high-capacity circuit simulation
and high-accuracy timing analysis software, in December 1994. Meta was founded
in 1980, when it introduced its simulation and library software products
including Star-Hspice. FrontLine was founded in 1993. TMA was founded in 1979
and began its device and process simulation products, Medici and TSUPREM-4 in
1985 and 1988, respectively. Chrysalis was founded in 1992 and began shipping
its checkers, Design VERIFYer in 1993. Xynetix was founded in 1993 and began
shipping its Encore, EDAnavigator and EDAvalidator in 1993, 1994 and 1994,
respectively.
At the June 1998 Design Automation Conference, Avant! announced the SinglePass
Design solution which significantly reduces the Time-to-Money for
System-on-a-Chip Design by eliminating traditional design iterations due to
timing, power and noise concerns. Since then, Avant!'s SinglePass solution has
seen broad market acceptance that is transforming the way in which
System-on-a-Chip design is accomplished. At the June 1999 Design Automation
Conference, Avant! announced its SinglePass initiative with the announcement of
3 new products and 3 significant enhancements to products within the flow. New
products include Apollo-II, Avant!'s next generation place and route product,
Enterprise, its new full custom-layout editor, and Jupiter, the front-end tool
for RTL Analysis, Design Planning, and Very Deep Submicron (VDSM) Physical
Synthesis. Notable enhancements to SinglePass include Apollo-II, its next
generation place and route product, Saturn, a DSM synthesis optimization
9
<PAGE>
tool, and Hercules-II, Avant!'s next generation physical verification
product. All tools within SinglePass reside on Milkyway, the industry's only
common VDSM database. In addition to these advanced technologies, SinglePass
also contains circuit simulation and full chip extraction and mask synthesis
technology as evident in the Star-Hspice, Star-Sim, and Star-Time simulators,
the Star-RC full-chip parasitic extractor, and Taurus-OPC, the Company's
Optical Proximity Correction product. Avant!'s SinglePass initiative is
complemented by another company initiative named Silicon Early Access (SEA).
SEA combines the advanced Technology Computer Aided Design (TCAD) products to
reduce the time to develop and leverage advanced semiconductor processes. As
part of Silicon Early Access, the company's library business provides market
leading standard cell libraries for process technologies as advanced as 0.18
micron.
RESULTS OF OPERATIONS
The following table sets forth the percentage of total revenue for selected
items in the Company's Consolidated Financial Statements for the periods
indicated:
<TABLE>
<CAPTION>
Three Months Ended Nine months Ended
September 30, September 30,
1999 1998 1999 1998
------------ ------------ ------------ -------------
<S> <C> <C> <C> <C>
Revenue:
Software 70 67 67 68
Services 30 33 33 32
------------ ------------ ------------ -------------
Total revenue 100% 100% 100% 100%
Costs and expenses:
Costs of software 2 2 2 2
Costs of services 5 8 6 7
Selling and marketing 27 27 27 28
Research and development 23 25 24 25
General and administrative 15 12 13 11
Merger expenses 8 - 3 6
------------ ------------ ------------ -------------
Total operating expenses 80 74 75 79
------------ ------------ ------------ -------------
Income from operations 20 26 25 21
Interest income and other, net 4 3 3 2
------------ ------------ ------------ -------------
Income before income taxes 24 29 28 23
Provision for income taxes 12 10 11 10
------------ ------------ ------------ -------------
Net income 12% 19% 17% 13%
============ ============ ============ =============
</TABLE>
COMPARISON OF THREE AND NINE MONTHS ENDED SEPTEMBER 30, 1999 AND 1998
REVENUE. Revenue consists primarily of fees for licenses of the Company's
software products, maintenance and customer support. In the fourth quarter of
1997, the Company adopted the provisions of AICPA SOP 97-2, SOFTWARE REVENUE
RECOGNITION (SOP 97-2). SOP 97-2 generally requires revenue earned on software
arrangements involving multiple elements to be allocated to each element based
on the relative fair values of the elements. The revenue allocated to software
products, including time-based software licenses, generally is recognized after
shipment of the products, delivery of permanent authorization codes and
fulfillment of acceptance terms. The revenue allocated to postcontract customer
support (PCS) is recognized ratably over the term of the support; revenue
allocated to service elements is recognized as the services are performed. In
connection with the adoption of SOP 97-2, revenue for contracts with extended
payment terms (generally greater than twelve months) are recognized as payments
become due. The effect of adopting SOP 97-2 on October 1, 1997 was not material.
In December 1998, the AcSEC issued SOP 98-9, SOFTWARE REVENUE RECOGNITION, WITH
RESPECT TO CERTAIN ARRANGEMENTS, which requires recognition of revenue using the
"residual method" in a multiple element arrangement when
10
<PAGE>
fair value does not exist for one or more of the delivered elements in the
arrangement. Under the "residual method", the total fair value of the
undelivered elements is deferred and subsequently recognized in accordance
with SOP 97-2. The Company does not expect a material change to its
accounting for revenues as a result of the provisions of SOP 98-9.
The Company's total revenue increased 19% to $75.5 million for the three months
ended September 30, 1999 from $63.4 million for the three months ended September
30, 1998. The percentage of the Company's total revenue attributable to software
licenses increased to 70% for the three months ended September 30, 1999 compared
to 67% for the three months ended September 30, 1998 as the Company shifted
resources from design-related consulting services and increased emphasis on
higher margin product sales. Total revenue increased 24% to $222.5 million for
the nine months ended September 30, 1999 from $180.0 million for the nine months
ended September 30, 1998. The increase was attributable to continued strong
growth in software license revenues and the large base of installed systems for
maintenance. Revenues from licenses to affiliates Maingate Electronics, KK
(Maingate) of Japan and Davantech Co. Ltd. (DavanTech) of Korea, were $4.8
million and $0, respectively for the quarter ended September 30, 1999. For the
nine months ended September 30, 1999, revenues from these affiliates were $13.9
million and $1.5 million, respectively. The Company owns 35% and 39.6% of
MainGate and DavanTech, respectively, and accounts for the joint ventures by the
equity method. Gerry C. Hsu, the Company's Chairman of the Board, President and
Chief Executive Officer owns 40% and 2.6%, of MainGate and DavanTech,
respectively. The Company recognizes its revenues from these affiliates only
upon their receipt of payment from their customers.
Software revenue increased 25% to $53.2 million for the three months ended
September 30, 1999 from $42.6 million for the three months ended September
30, 1998. Increases in software revenue were due primarily to increased
license revenue from the Company's place and route products such as Apollo
and verification products such as Hercules. Software revenue increased 21% to
$148.6 million for the nine months ended September 30, 1999 from $123.3
million for the nine months ended September 30, 1998. Increases in software
revenue were due primarily to the increase in license fees from the Company's
place and route products such as Apollo and verification products such as
Hercules. Services revenue increased 7% to $22.3 million for the three months
ended September 30, 1999 from $20.8 million for the three months ended
September 30, 1998, reflecting the growing base of installed systems offset
by reduction in consulting services. Services revenue increased 30% to $73.9
million for the nine months ended September 30, 1999 from $56.7 million for
the nine months ended September 30, 1998. The maintenance fee component of
services revenue increased because of the expanded installed base of the
Company's software products.
COSTS OF SOFTWARE AND SERVICES. Costs of software consist primarily of expenses
associated with product documentation, production costs and personnel. Costs of
software increased to $1.6 million from $1.4 million for the three months ended
September 30, 1999 and 1998, respectively, and were flat as a percentage of
software revenue. Costs of services consist of costs of maintenance and customer
support, and direct costs associated with providing other services. Maintenance
includes activities undertaken after the product is available for general
release to customers to correct errors, make routine changes and provide
additional features. Customer support includes any installation assistance,
training classes, telephone question and answer services, newsletters, on-site
visits and software or data modifications. Costs of services decreased to $3.7
million for the three months ended September 30, 1999 from $4.8 million for the
third quarter of 1998. Costs of services as a percentage of services revenue
decreased to 17% for the three months ended September 30, 1999 from 23% for the
three months ended September 30, 1998. The reduction in costs of services
resulted primarily from the reduction in emphasis on design-related consulting
services and the related personnel support.
Costs of software increased to $4.2 million from $4.1 million for the nine
months ended September 30, 1999 and 1998, respectively, and were flat as a
percentage of software revenue. Costs of services increased slightly to $13.2
million for the nine months ended September 30, 1999, but as a percentage of
services revenue decreased to 18% for the nine months ended September 30,
1999, from 23% for the same period in 1998. The reduction in costs of
services as a percentage of services revenue reflected higher revenue growth
due to a larger user base and improved productivity of the Company's support
resources in serving its customer base.
SELLING AND MARKETING EXPENSES. Selling and marketing expenses consist primarily
of costs, including sales commissions, of all personnel involved in the sales
process. This includes sales representatives, marketing associates, benchmarking
personnel and field application engineers. Selling and marketing expenses also
include costs of advertising, public relations, conferences, trade shows and
allowance for doubtful accounts. Selling and marketing expenses increased to
$20.7 million from $17.4 million for the three months ended September 30, 1999
and 1998, respectively. The increase was primarily due to increased headcount,
commission and advertising expenses. Selling and marketing expenses were 27% of
total revenue for the three months ended September 30, 1999 and 1998. Selling
and marketing expenses increased to $60.8 million for the nine months ended
September 30, 1999 from $50.3 million for the nine months ended September 30,
1998, primarily due to increased headcount, an increase in the allowance for
doubtful accounts and advertising expenses. The allowance for doubtful accounts
increased by $3.9 million during the nine months ended September 30, 1999 due to
increased sales levels and an adjustment to reflect actual collection
experience. As a percentage of total revenue, selling and marketing expenses
decreased by 1% to 27% for the nine months ended September 30, 1999.
11
<PAGE>
RESEARCH AND DEVELOPMENT EXPENSES. Research and development expenses include all
costs associated with the development of new products and significant
enhancement of existing products. Research and development expenses were $17.7
million and $15.8 million for the three months ended September 30, 1999 and
1998, respectively, and decreased slightly as a percentage of revenue in the
current period. Increased spending during the third quarter related primarily to
the new research and development center open in China. Research and development
expenses increased to $53.8 million for the nine months ended September 30, 1999
from $45.8 million for the same period one year ago, and included additional
expense from the operations obtained through the Company's November 1998
acquisitions of interHDL and ACEO, as well as the new development center in
China.
GENERAL AND ADMINISTRATIVE EXPENSES. General and administrative expenses
increased to $11.1 million for the three months ended September 30, 1999 from
$7.9 million for the three months ended September 30, 1998, primarily due to
increases in costs associated with the Company's ongoing litigation. Legal
expenses were $6.4 million and $3.2 million for the three months ended
September 30, 1999 and 1998, respectively. General and administrative
expenses for the nine months ended September 30, 1999 increased to $27.9
million from $20.0 million for the same period in 1998, also primarily due to
increases in legal and personnel costs. Legal expenses were $13.8 million and
$7.5 million for the nine months ended September 30, 1999 and 1998,
respectively. As a percentage of total revenue, general and administrative
expenses increased to 13% for the nine months ended September 30, 1999 from
11% for the comparable period in 1998.
MERGER AND ACQUISITION EXPENSES.
On August 20, 1999, Avant! acquired Chrysalis Symbolic Design Inc.
(Chrysalis), which designs, develops and sells software products that assist
designers of complex and application-specific integrated circuits in the
validation and verification of electronic designs, for approximately $42
million by issuing approximately 3,042,000 shares of Avant! common stock in a
merger exchange for all of the outstanding stock of Chrysalis. The Company
also assumed Chrysalis stock options representing the right to purchase
446,370 shares of Avant! common stock at a weighted average exercise price of
$3.99 per share and assumed Chrysalis warrants representing the right to
purchase 116,213 share of Avant! common stock at a weighted average exercise
price of $14.25 per share. In connection with the acquisition, the Company
incurred cash expenses of $4.4 million, including fees paid to professional
advisors and others totaling $2.0 million and personnel-related and other
costs of $2.4 million. The Company had no significant non-cash expenses
related to the transaction. As of September 30, 1999 the unpaid merger
related expenses were $3.8 million.
On August 6, 1999, Avant! acquired Xynetix Design Systems, Inc. (Xynetix),
which develops EDA software for advanced IC packaging and complex system
design, for approximately $19 million by issuing approximately 1,441,000
shares of Avant! common stock in a merger exchange for all of the outstanding
stock of Xynetix. The Company also assumed outstanding Xynetix stock options
representing the right to purchase 126,492 shares of Avant! common stock at a
weighted average exercise price of $1.86 per share. In connection with the
acquisition, the Company incurred expenses of approximately $1.5 million,
including fees paid to professional advisors and others totaling $0.6
million, facilities costs of $0.5 million and other costs of $0.4 million.
Substantially all of the Company's expenses related to the Xynetix
acquisition constituted cash expenditures. As of September 30, 1999 the
unpaid merger related expenses were $1.1 million.
Expenses for the first nine months of 1998 included merger-related expenses
of approximately $10.7 million for the Company's acquisition of TMA. Fees
paid to professional advisors and others were $5.4 million, charges for the
elimination of duplicate facilities were $2.2 million, and severance and
certain other related costs totaled $3.1 million. As of September 30, 1999,
there were no material remaining accrued liabilities relating to this
acquisition. Of the $10.7 million of merger-related costs, approximately $7.9
million were cash expenditures and the remainder related to non-cash charges.
INTEREST INCOME AND OTHER, NET. Interest income and other increased to $3.1
million for the three months ended September 30, 1999 from $1.7 million for
the comparable period in 1998 due to increases in short-term investments and
cash equivalents, and foreign exchange gain. For the nine months ended
September 30, 1999, interest income and other, net was $1.7 million higher
than in the nine months ended September 30, 1998.
INCOME TAX EXPENSE. The provision for income taxes was $8.9 million and $6.3
million for the three months ended September 30, 1999 and 1998, respectively,
and was $25.9 million and $17.9 million for the nine months ended September 30,
1999 and 1998, respectively. The provision for income taxes, as a percentage of
pre-tax income and excluding merger expense, was 37.4% for the most recent
quarter and 35% for the third quarter of 1998, and was 37.5% and 35% for the
nine months ended September 30, 1999 and 1998, respectively. The increase in tax
rates, both for the quarter and nine months ended September 30, 1999, was due
primarily to the effect of increased goodwill amortization from acquisitions,
which is not deductible for income tax purposes.
NET INCOME. Net income including one time charge for merger expenses was
$8.8 million and $11.4 million for the three months ended September 30, 1999
and 1998, respectively. The decrease was primarily due to the effect of the
improved gross margin, offset by the one time charge for merger expenses of
$5.9 million and an increase in general and administrative expenses for the
three months ended September 30, 1999. Net income including merger expenses
were $36.6 million and $22.0 million for the nine months ended September 30,
1999 and 1998, respectively. The increase in net income including merger
expenses was primarily due to the effect of the improved gross margin, offset
by an increase in general and administrative expenses for the nine months
ended September 30, 1999.
Net income excluding one time charge for merger expenses was $14.7 million
and $11.4 million for the three months ended September 30, 1999 and 1998,
respectively. Net income excluding merger expenses was $42.5 million and
$32.8 million for the nine months ended September 30, 1999 and 1998,
respectively. The increase in net income excluding merger expenses was
primarily due to the effect of the improved gross margin, offset by an
increase in general and administrative expenses.
12
<PAGE>
QUARTERLY RESULTS
The Company's quarterly results have varied in the past and may be subject to
fluctuations resulting from a variety of factors, including the outcome of
outstanding litigation, purchasing patterns of customers, the completion of
product evaluations by customers, the timing of product enhancements and product
introductions by the Company and its competitors and the timing of significant
orders. The customer evaluation process for the Company's products is lengthy,
and the timing and outcome of such evaluations have affected the Company's
historical quarterly performance and may impact future quarterly results. The
Company's expense levels are based, in part, on its expectations concerning
future revenue. The Company increases operating expenses in order to generate
and support future revenue. If revenue levels are below expectations, operating
results are likely to be disproportionately affected because only a portion of
the Company's expenses varies with its revenue. As a result, the Company
believes that period to period comparison of financial results are not
necessarily meaningful and should not be relied upon as an indication of future
performance.
Due to the factors noted above, the Company's future earnings and stock price
may be subject to significant volatility, particularly on a quarterly basis. Any
shortfall in revenues or earnings from levels expected by securities analysts
could have an immediate and significant adverse effect on the trading price of
the Company's common stock. Additionally, the Company may not learn of such
shortfalls until late in a fiscal quarter, which could result in an even more
immediate and adverse effect on the trading price of the Company's common stock.
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by operations was $80.4 million for the nine months ended
September 30, 1999. The increase was attributable to the increase in operating
income, accounts payable, accrued liabilities and deferred revenue and decrease
in prepaid expenses and other assets, offset by an increase in accounts
receivable and decrease in accrued income taxes. The Company's investing
activities used $141.8 million of net cash for the nine months ended September
30, 1999 resulting from the purchase of investment securities and purchases of
computer equipment and office furniture. Net cash provided by financing
activities was $4.8 million for the nine months ended September 30, 1999
primarily from the exercise of stock options.
The Company requires payment of receivables net 30, but many customers disregard
this obligation because of industry or local practice and general economic
conditions. The Company periodically increases its allowance for doubtful
accounts to reflect increased sales levels and collection experience. The
Company increased the allowance by $3.9 million during the period ended
September 30, 1999. The Company believes that its allowance for doubtful
accounts is adequate.
As of September 30, 1999, the Company had $226.3 million of cash, cash
equivalents and short-term investments, compared to $147.6 million at December
31, 1998. Working capital also increased from $135.4 million at December 31,
1998 to $199.8 million at September 30, 1999. In connection with the Silvaco
litigation, the Company was required to post a bond, which is collaterized by a
$23.6 million letter of credit.
Based on its current operating plan, and absent additional adverse judgments or
verdicts in currently pending litigation, the Company believes that it has
available cash and short-term investments sufficient to fund the Company's
operations through at least the next 12 months.
RECENT ACQUISITIONS
The Following unaudited quarterly condensed consolidated financial data
provide information for each of past seven quarters for the Company,
Chrysalis and Xynetix on a combined basis, which reflects the pooling of
interests accounting method used by Avant! for its acquisition of both
companies. This information should be read in conjunction with the financial
information set forth in Part I, Item 1.
13
<PAGE>
QUARTERLY CONDENSED CONSOLIDATED BALANCE SHEETS
(in thousands)
(unaudited)
<TABLE>
MAR 31 JUN 30 SEPT 30 DEC 31 MAR 31 JUN 30 SEPT 30
---------- ---------- ---------- ---------- ---------- ---------- ----------
1998 1998 1998 1998 1999 1999 1999
---------- ---------- ---------- ---------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
ASSETS
Current assets:
Cash and cash equivalents $ 76,184 $112,140 $ 93,184 $126,180 $ 71,085 $ 49,308 $ 69,528
Short-term investments 57,355 34,430 38,354 21,389 107,525 147,933 156,787
Accounts receivable, net 28,886 30,881 38,424 37,965 42,263 47,577 40,196
Due from affiliates 6,764 4,202 10,347 8,947 9,349 7,882 4,977
Deferred income taxes 9,306 9,670 9,619 15,077 13,563 19,353 19,109
Prepaid expenses and other current assets 14,881 14,150 17,158 14,980 14,945 12,787 10,397
------- ------- ------- ------- ------- ------- -------
Total current assets 193,376 205,473 207,086 224,538 258,730 284,840 300,994
Equipment, furniture and fixtures, net 33,952 33,811 31,862 30,152 28,969 27,828 27,781
Deferred income taxes 20,694 18,623 23,648 23,910 24,172 25,752 16,851
Goodwill and other intangibles, net 17,474 16,403 15,344 41,343 38,929 36,501 33,755
Other assets 12,379 13,624 18,283 17,565 17,184 16,191 13,586
------- ------- ------- ------- ------- ------- -------
Total assets $277,875 $287,934 $296,223 $337,508 $367,984 $391,112 $392,967
======== ======== ======== ======== ======== ======== ========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable $ 4,252 $ 5,913 $ 7,191 $ 6,292 $ 8,639 $ 10,097 $ 10,316
Accrued compensation 9,106 6,412 9,092 10,109 11,436 11,974 15,857
Accrued income taxes 9,131 9,704 21,448 25,457 30,110 33,021 18,294
Current portion of long term obligations 1,451 2,378 843 1,053 1,567 2,541 61
Other accrued liabilities 17,666 12,886 11,929 13,613 13,494 13,498 16,240
Deferred revenue 25,796 22,069 20,344 32,614 37,863 39,329 40,463
------- ------- ------- ------- ------- ------- -------
Total current liabilities 67,402 59,362 70,847 89,138 103,109 110,460 101,231
------- ------- ------- ------- ------- ------- -------
Long-term obligation less current portion 651 646 597 656 517 558 -
Other noncurrent liabilities: 1,047 1,241 1,730 1,879 1,763 1,892 1,863
------- ------- ------- ------- ------- ------- -------
Total liabilities 69,100 61,249 73,174 91,673 105,389 112,910 103,094
------- ------- ------- ------- ------- ------- -------
Commitments and contingencies
Stockholders' equity:
Preferred stock - - - - - - -
Common stock 4 4 4 4 4 4 4
Additional paid-in capital 205,292 211,598 195,922 218,237 220,813 222,814 226,120
Deferred compensation (2,397) (2,093) (1,315) (1,306) (1,066) (825) (842)
Other accumulated comprehensive income (loss) 160 246 103 (15) 26 (469) (925)
Retained earnings 6,162 5,960 5,724 5,516 28,729 28,464 28,915
Current year profit (446) 10,970 22,611 23,399 14,089 28,214 36,601
------- ------- ------- ------- ------- ------- -------
Total stockholders' equity 208,775 226,685 223,049 245,835 262,595 278,202 289,873
------- ------- ------- ------- ------- ------- -------
Total liabilities and
stockholders' equity $277,875 $287,934 $296,223 $337,508 $367,984 $391,112 $392,967
======== ======== ======== ======== ======== ======== ========
</TABLE>
14
<PAGE>
QUARTERLY CONDENSED CONSOLIDATED STATEMENT OF INCOME
EXCLUDING MERGER EXPENSES
(in thousands, except per share data)
(unaudited)
<TABLE>
<CAPTION>
MAR 31 JUN 30 SEPT 30 DEC 31 MAR 31 JUN 30 SEPT 30
---------- ---------- ---------- --------- ---------- ---------- ----------
1998 1998 1998 1998 1999 1999 1999
---------- ---------- ---------- --------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenue:
Software $ 39,932 $ 40,692 $ 42,636 $ 45,588 $ 45,310 $ 50,096 $ 53,176
Services 16,971 18,960 20,770 22,781 26,369 25,254 22,308
---------- ---------- ---------- --------- ---------- ---------- ----------
Total revenue 56,903 59,652 63,406 68,369 71,679 75,350 75,484
Costs and expenses:
Cost of software 1,348 1,399 1,375 1,335 1,302 1,292 1,568
Cost of services 4,285 4,092 4,758 4,947 4,771 4,756 3,709
Selling and marketing 16,528 16,345 17,390 19,467 19,206 20,889 20,730
Research and development 15,034 15,058 15,751 17,053 17,986 18,185 17,671
General and administrative 5,939 6,115 7,921 7,833 7,651 9,131 11,142
---------- ---------- ---------- --------- ---------- ---------- ----------
Total operating expenses 43,134 43,009 47,195 50,635 50,916 54,253 54,820
Income from operations 13,769 16,643 16,211 17,734 20,763 21,097 20,664
Interest income and other, net 2,129 851 1,684 883 1,938 1,385 3,107
---------- ---------- ---------- --------- ---------- ---------- ----------
Income before income taxes 15,898 17,494 17,895 18,617 22,701 22,482 23,771
Provision for income taxes 5,597 6,078 6,254 6,562 8,612 8,358 8,888
---------- ---------- ---------- --------- ---------- ---------- ----------
Net income 10,301 11,416 11,641 12,055 14,089 14,124 14,883
Accretion of discount related
to redeemable convertible
preferred stock 172 202 237 209 186 265 144
---------- ---------- ---------- --------- ---------- ---------- ----------
Net income applicable to
common stockholders $ 10,129 $ 11,214 $ 11,404 $ 11,846 $ 13,903 $ 13,859 $ 14,739
========== ========== ========== ========= ========== ========== ==========
Earnings per share - Basic:
Earnings per share $ 0.28 $ 0.31 $ 0.31 $ 0.33 $ 0.37 $ 0.37 $ 0.39
========== ========== ========== ========= ========== ========== ==========
Total weighted average
number of common shares
outstanding 36,403 36,734 36,542 36,338 37,673 37,937 38,172
========== ========== ========== ========= ========== ========== ==========
Earnings per share - Diluted:
Earnings per share $ 0.27 $ 0.28 $ 0.30 $ 0.31 $ 0.34 $ 0.35 $ 0.37
========== ========== ========== ========= ========== ========== ==========
Total weighted average
number of common shares
outstanding 38,035 39,375 38,157 38,248 40,559 39,337 39,520
========== ========== ========== ========= ========== ========== ==========
</TABLE>
15
<PAGE>
QUARTERLY CONDENSED CONSOLIDATED STATEMENT OF INCOME
INCLUDING MERGER EXPENSES
(in thousands, except per share data)
(unaudited)
<TABLE>
MAR 31 JUN 30 SEPT 30 DEC 31 MAR 31 JUN 30 SEPT 30
---------- ---------- ---------- --------- ---------- ---------- ----------
1998 1998 1998 1998 1999 1999 1999
---------- ---------- ---------- --------- ---------- ---------- ----------
<S> <C> <C> <C> <C> <C> <C> <C>
Revenue:
Software $ 39,932 $ 40,692 $ 42,636 $ 45,588 $ 45,310 $ 50,096 $ 53,176
Services 16,971 18,960 20,770 22,781 26,369 25,254 22,308
---------- ---------- ---------- --------- ---------- ---------- ----------
Total revenue 56,903 59,652 63,406 68,369 71,679 75,350 75,484
Costs and expenses:
Cost of software 1,348 1,399 1,375 1,335 1,302 1,292 1,568
Cost of services 4,285 4,092 4,758 4,947 4,771 4,756 3,709
Selling and marketing 16,528 16,345 17,390 19,467 19,206 20,889 20,730
Research and development 15,034 15,058 15,751 17,053 17,986 18,185 17,671
General and administrative 5,939 6,115 7,921 7,833 7,650 9,131 11,142
Merger expenses 10,747 - - 11,268 - - 5,902
---------- ---------- ---------- --------- ---------- ---------- ----------
Total operating expenses 53,881 43,009 47,195 61,903 50,916 54,253 60,722
Income from operations 3,022 16,643 16,211 6,466 20,763 21,097 14,762
Interest income and other, net 2,129 851 1,684 883 1,938 1,385 3,107
---------- ---------- ---------- --------- ---------- ---------- ----------
Income before income taxes 5,151 17,494 17,895 7,349 22,701 22,482 17,869
Provision for income taxes 5,597 6,078 6,254 6,562 8,612 8,358 8,888
---------- ---------- ---------- --------- ---------- ---------- ----------
Net income ( 446) 11,416 11,641 787 14,089 14,124 8,981
Accretion of discount related
to redeemable convertible
preferred stock 172 202 237 209 186 265 144
---------- ---------- ---------- --------- ---------- ---------- ----------
Net income applicable to
common stockholders $ ( 618) $ 11,214 $ 11,404 $ 578 $ 13,903 $ 13,859 $ 8,837
========== ========== ========== ========= ========== ========== ==========
Earnings per share - Basic:
Earnings per share $ ( 0.02) $ 0.31 $ 0.31 $ 0.02 $ 0.37 $ 0.37 $ 0.23
========== ========== ========== ========= ========== ========== ==========
Total weighted average number
of common shares outstanding 36,403 36,734 36,542 36,338 37,673 37,937 38,172
========== ========== ========== ========= ========== ========== ==========
Earnings per share - Diluted:
Earnings per share $ ( 0.02) $ 0.28 $ 0.30 $ 0.02 $ 0.34 $ 0.35 $ 0.22
========== ========== ========== ========= ========== ========== ==========
Total weighted average
number of common shares
outstanding 36,403 39,375 38,157 38,248 40,559 39,337 39,520
========== ========== ========== ========= ========== ========== ==========
</TABLE>
16
<PAGE>
ITEM 2A. RISK FACTORS THAT MAY AFFECT FUTURE RESULTS
WE ARE INVOLVED IN SEVERAL LITIGATION MATTERS THAT COULD SERIOUSLY HARM OUR
BUSINESS
Avant! and its subsidiaries are engaged in various litigation matters,
including: a civil action brought by Cadence Design Systems, Inc., the criminal
indictment of Avant! and certain of its employees, officers and directors;
securities class action and defamation claims stemming from the Cadence
litigation and the criminal indictment, and civil actions brought by Silvaco
Data Systems, Inc. The pending litigation against Avant! and any future
litigation against Avant! or its employees, regardless of the outcome, may
result in substantial costs and expenses and significant diversion of effort by
Avant!'s management. An adverse result in any of these litigation matters could
seriously harm Avant!'s business, financial condition and results of operations.
CADENCE LITIGATION. On December 6, 1995, Cadence filed an action against
Avant! and certain of its officers in the United States District Court for
the Northern District of California alleging copyright infringement, unfair
competition, misappropriation of trade secrets, conspiracy, breach of
contract, inducing breach of contract and false advertising. The essence of
the complaint is that certain of Avant!'s employees who were formerly Cadence
employees allegedly misappropriated and improperly copied source code for
certain important functions of Avant!'s place and route products from
Cadence, including Cadence's Design Framework II ("DFII") product, and that
Avant! has allegedly competed unfairly by making false statements concerning
Cadence and its products. The action also alleges that Avant! induced certain
individual defendants to breach their agreements of employment and
confidentiality with Cadence. Trial on Cadence's allegations has not been
scheduled.
In addition to actual and punitive damages, which have not been quantified by
Cadence, Cadence is seeking to enjoin the sale of Avant!'s place and route
products pending trial of the action. On December 19, 1997, the District Court
entered an injunction against continued sales or licensing of any product or
work copied or derived from Cadence's Design Framework II, specifically
including, but not limited to, Avant!'s ArcCell products. The injunction also
barred Avant! from possessing or using any copies or any portion of the source
code or object code for ArcCell or any other product, to the extent that portion
is copied or derived from Cadence's DFII. (Avant! had stopped selling or
licensing ArcCell products or code in mid 1996.) On December 7, 1998, the
District Court entered an injunction against Avant! prohibiting Avant! from
directly or indirectly marketing, selling, leasing, licensing, copying or
transferring the Aquarius, Aquarius XO and Aquarius BV products. The injunction
also prohibits Avant! from marketing, selling, leasing, licensing, copying or
transferring any translation code for an Aquarius product that infringes any
protected right of Cadence. With certain exceptions related to the pending
litigation, the injunction prohibits Avant! from possessing or using any copies
of any portion of the source code or object code for the Aquarius products to
the extent that such portion is copied or derived from the DFII product of
Cadence. The preliminary injunction against Avant!'s Aquarius products could
seriously harm Avant!'s business, financial condition and results of operations.
In April 1999, Avant! and Cadence filed motions for summary adjudication as to
whether a 1994 release between Avant! and Cadence applies to Avant!'s continued
use of alleged Cadence intellectual property that was in Avant!'s place and
route product at the time of the release. On September 8, 1999, the Court
granted Avant!'s motion in part and ruled that Cadence's trade secret claim
regarding use of DF II source code is barred by the release. The Court also
ruled that the release does not bar Cadence's copyright claim regarding use of
DF II source code. The ruling makes it likely that Cadence will prevail on its
copyright claims regarding Avant!'s use of DF II code in ArcCell. While the
ruling also increases the likelihood that Cadence will prevail on its DF II
claims regarding Aquarius, Avant! believes it has additional meritorious
defenses with respect to Aquarius that it does not have with respect to ArcCell.
The Court had previously enjoined ArcCell and Aquarius. On October 15, 1999, the
Court issued an amended order certifying its September 8, 1999, order for
interlocutory appeal to the United States Circuit Court of Appeals for the Ninth
Circuit. Cadence and Avant! have petitioned for leave to file an interlocutory
appeal, but the Circuit Court has not yet ruled on those petitions.
Avant! believes it has defences to Cadence's claims and intends to defend itself
vigorously. If Avant!'s defenses are unsuccessful, Avant! may ultimately be
permanently enjoined from selling certain place and route products, and may be
required to pay monetary damages to Cadence. In addition, upon further
consideration by the District Court, Avant! could be preliminarily enjoined from
selling its Apollo place and route products. In addition, it is likely that an
adverse judgment against Avant! would result in a steep decline in the market
price of Avant!'s common stock. Accordingly, an adverse judgment, if granted on
any claim, would seriously harm Avant!'s business, financial position and
results of operations. Furthermore, it is possible that Avant!'s relationships
with its customers and/or partners will be seriously harmed in the future as a
result of the Cadence litigation.
17
<PAGE>
CRIMINAL INDICTMENT. On December 16, 1998, after a grand jury investigation, the
Santa Clara County District Attorney's office filed a criminal indictment
alleging felony level offenses related to the allegations of misappropriation of
trade secrets set forth in Cadence's lawsuit against, among others, Avant! and
the following current or former employees and/or directors of Avant!:
- Gerald C. Hsu, President, Chief Executive Officer and Chairman of the
board of directors;
- Y. Z. Liao, Corporate Fellow;
- Stephen Wuu, Executive Operating Officer, Sales;
- Leigh Huang, consultant for Avant!;
- Eric Cheng, Research and Development Manager; and
- Mike Tsai, former officer and former member of Avant! board of
directors.
The indictment charges the defendants listed above with conspiring to commit
trade secret theft, trade secret theft, inducing the theft of a trade secret,
conspiracy to commit fraudulent practices in connection with the offer or sale
of a security and fraudulent practices in connection with the offer or sale of a
security. The criminal indictment could result in additional defense costs and
criminal fines against Avant!, as well as the potential incarceration of certain
members of its management team and its chairman of the board of directors. Such
outcomes would seriously harm Avant!'s business, financial condition and results
of operations and may also result in canceled or postponed orders, increased
future expenditures, the loss of management and other key personnel, additional
stockholder litigation and loss of reputation and goodwill. Trial has currently
been set for February 22, 2000. One former defendant has been dismissed from the
action but the District Attorney has appealed the dismissal order.
SILVACO LITIGATION. In March 1993, Meta Software Inc., which Avant! acquired in
October 1996 and which is now a wholly owned subsidiary of Avant!, filed a
complaint in the Superior Court of California for Santa Clara County against
Silvaco Data Systems, Inc. seeking monetary damages and injunctive relief. In
August 1995, Silvaco filed a cross-complaint against Meta and Shawn Hailey, then
the President and Chief Executive Officer of Meta, alleging, among other things,
that Meta owed Silvaco royalties and license fees pursuant to a product
development and marketing program and unpaid commissions related to Silvaco's
sale of Meta's products and services under such program. In November 1997, a
judgment in the aggregate amount of $31.4 million was entered against Avant!.
Avant! filed appeals on its own behalf and on behalf of Mr. Hailey. If Avant!'s
and Mr. Hailey's appeals are unsuccessful, Avant! will be required to pay
substantial monetary damages to Silvaco. Payment of the damages previously
awarded, and damages which may be awarded in the future, would seriously harm
Avant!'s business, financial condition and results of operations.
On March 31, 1998, Silvaco filed an additional lawsuit, against Avant! and Roy
Jewell, a former member of Avant!'s Executive Staff, in the Superior Court of
California for Santa Clara County. The lawsuit alleges causes of action for
defamation, negligent and intentional interference with economic advantage,
unfair competition, Lanham Act violations and consumer fraud. Silvaco is seeking
$20 million in compensatory damages, punitive damages and an injunction. Avant!
believes it has defenses to these claims and intends to defend itself
vigorously. In the event Avant!'s defenses are unsuccessful, Avant! may be
required to pay damages to Silvaco, and such a judgment would seriously harm
Avant!'s business, financial condition and results of operations.
SECURITIES CLASS ACTION CLAIMS. On December 15, 1995, Paul Margetis and Helen
Margetis filed in the United States District Court for the Northern District of
California a securities fraud class action complaint against Avant!. This
lawsuit alleges certain securities law violations, including omissions and/or
misrepresentation of material facts. The alleged omissions and/or
misrepresentations are largely consistent with those outlined in Cadence's civil
lawsuit, described above. In addition, on May 30, 1997, Joanne Hoffman filed in
the United States District Court for the Northern District of California a class
action lawsuit alleging securities claims on behalf of purchasers of Avant!'s
stock between March 29, 1996 and April 11, 1997, the date of the filing of a
criminal complaint against Avant! and six of its employees and/or directors.
Plaintiff alleges that Avant! and its officers misled the market as to the
likelihood of criminal charges being filed and as to the validity of the Cadence
allegations. In the event Avant!'s defenses are unsuccessful, Avant! may be
required to pay damages to the securities class action plaintiffs, and such a
judgment would seriously harm Avant!'s business, financial condition and results
of operations.
NEQUIST LITIGATION. On July 15, 1998, Eric Nequist, a Cadence employee, filed in
the Santa Clara County Superior Court a complaint against Avant!. The complaint
alleges causes of action for defamation, intentional infliction of emotional
distress, negligent and intentional interference with economic advantage, abuse
of process and violations of California Business and Profession Code Section
17200. In the event Avant!'s defenses are unsuccessful, Avant! may be required
to pay damages to Mr.
18
<PAGE>
Nequist, and such a judgment could seriously harm Avant!'s business,
financial condition and results of operation.
WE FACE SUBSTANTIAL ONGOING LITIGATION COSTS
The pending litigation and any future litigation against the Company and the
Company's employees, regardless of the outcome, is expected to result in
substantial costs and expenses to the Company. The Company's legal expenses
for these matters have been $6.4 million and $13.8 million during the three
and nine months ended September 30, 1999, respectively. The Company currently
expects legal costs to substantially increase in the future as a result of
its current litigation issues. Thus, this litigation could seriously harm
Avant!'s business, financial position and results of operations. Furthermore,
if Avant! is required to satisfy the default judgments in full in the Silvaco
litigation, Avant! could be required to pay over $31.4 million in damages,
which would seriously harm Avant!'s business, financial condition and results
of operations.
WE NEED TO SUCCESSFULLY MANAGE OUR EXPANDING OPERATIONS
Avant! has experienced periods of rapid growth and significant expansion of its
operations that have placed a significant strain upon its management systems and
resources. In addition, Avant! has recently hired a significant number of
employees, and plans to further increase its total headcount. Avant! also plans
to expand the geographic scope of its customer base and operations. This
expansion has resulted and will continue to result in substantial demands on
Avant!'s management resources. Avant!'s ability to compete effectively and to
manage future expansion of its operations, if any, will require Avant! to
continue to improve its financial and management controls, reporting systems and
procedures on a timely basis and expand, train and manage its employee work
force. Avant! may not be successful in addressing such risks, and the failure to
do so would seriously harm Avant!'s business, financial condition and results of
operations.
WE MAY BE UNABLE TO ATTRACT AND RETAIN THE KEY MANAGEMENT AND TECHNICAL
PERSONNEL THAT WE NEED TO SUCCEED
Avant!'s future operating results depend in significant part upon the continued
service of key management and technical personnel. Several of Avant!'s key
personnel, including Gerald C. Hsu, have been criminally indicted on charges
relating to the matters underlying the pending litigation between Avant! and
Cadence. If any of the individuals criminally indicted are found guilty and
incarcerated or are otherwise unable to continue to provide services to Avant!,
its business, financial condition and results of operations could be seriously
harmed. In addition, few of Avant!'s employees are bound by employment or
non-competition agreements, and due to the intense competition for such
personnel, as well as the uncertainty caused by the integration of Avant!'s
businesses and pending litigation, it is possible that Avant! will fail to
retain such key technical and managerial personnel. Moreover, there are only a
limited number of qualified integrated circuit design automation engineers, and
competition for these individuals is intense. If Avant! is unable to attract,
hire and retain qualified personnel in the future, the development of new
products and the management of Avant!'s increasingly complex business would be
impaired. This would seriously harm Avant!'s business, operating results and
financial condition. See "--We are involved in several litigation matters that
could seriously harm our business."
WE MAY BE UNABLE TO SUCCESSFULLY COMPETE IN THE HIGHLY COMPETITIVE INTEGRATED
CIRCUIT DESIGN AUTOMATION SOFTWARE MARKET
The integrated circuit design automation software market in which Avant!
competes is intensely competitive and subject to rapid change. Avant! currently
faces competition from major integrated circuit design automation vendors,
including Cadence Design Systems, Inc., which currently holds a dominant share
of the market for integrated circuit physical design software, Synopsys, Inc.
and Mentor Graphics Corporation. Avant! may not be able to maintain a
competitive position against these competitors. This is particularly true
because each of these companies has a longer operating history, significantly
greater financial, technical and marketing resources, greater name recognition
and a larger installed customer base than Avant!. In addition, each of these
competitors will likely be able to respond more quickly to new or emerging
technologies and changes in customer requirements, and to devote greater
resources to the development, promotion and sale of their products than Avant!.
These competitors also have established relationships with current and potential
customers of Avant!, and they can devote substantial resources aimed at
preventing Avant! from enhancing relationships with existing customers or
establishing relationships with potential customers.
Moreover, the integrated circuit design automation software industry is
undergoing a trend toward consolidation that is expected to result in large,
more financially flexible competitors with a broad range of product offerings.
Alliances among competitors could present particularly formidable competition to
Avant!. Furthermore, because there are relatively low barriers to entry in the
software industry, Avant! expects additional competition from other established
and emerging companies. Avant! also competes
19
<PAGE>
with the internal integrated circuit design automation development groups of
its existing and potential customers, many of whom design and develop
customized design tools for their particular needs and therefore may be
reluctant to purchase products offered by independent vendors, such as
Avant!. Avant!'s current or potential competitors may develop products
comparable or superior to those developed by Avant! or adapt more quickly
than Avant! to new technologies, evolving industry trends or changing
customer requirements. Increased competition could result in price
reductions, reduced margins or loss of market share, any of which could
seriously harm Avant!'s business, operating results or financial condition.
Avant! may be unable to compete successfully against current and future
competitors, and competitive pressures faced by Avant! could seriously harm
Avant!'s business, operating results and financial condition.
OUR QUARTERLY OPERATING RESULTS ARE DIFFICULT TO PREDICT
We are unable to accurately forecast our future revenues primarily because of
the emerging nature of the market in which we compete and because of the
unpredictability of the various litigation matters to which we are a party. Our
revenues and operating results generally depend on the size, timing and
structure of significant licenses. These factors have historically been, and are
likely to continue to be, difficult to forecast. In particular, we have adopted
a flexible pricing strategy pursuant to which we offer both perpetual and
time-based software licenses to customers, depending on customer requirements
and financial constraints. Because each time-based license may have a different
structure and could be subject to cancellation, future revenue received under
these licenses is unpredictable. In addition, our current and future expense
levels are based largely on our operating plans and estimates of future revenues
and are, to a extent, fixed. We may be unable to adjust spending sufficiently
quickly to compensate for any unexpected revenue shortfall.
Accordingly, any significant shortfall in revenues in relation to our planned
expenditures would seriously harm our business, financial condition and results
of operations. Such shortfalls in our revenue or operating results from levels
expected by public market analysts and investors could seriously harm the
trading price of our common stock. Additionally, we may not learn of such
revenue shortfalls, earnings shortfalls or other failure to meet market
expectations until late in a fiscal quarter, which could result in an even more
immediate and serious harm to the trading price of our common stock.
Our quarterly operating results have varied, and it is anticipated that our
quarterly operating results will vary, substantially from period to period
depending on various factors, many of which are outside our control. In addition
to the factors discussed in the previous paragraph, other factors that could
affect our quarterly operating results include:
- Increased competition;
- The length of our sales cycle;
- The timing of new or enhanced product announcements, introductions, or
delays in the introductions of new or enhanced versions of products by
us or our competitors;
- Market acceptance of new and enhanced versions of our products;
- Changes in pricing policies by us or our competitors;
- Conditions in the semiconductor and electronics industries;
- Cancellation of time-based licenses or maintenance agreements;
- The unavailability of technology of third parties;
- The mix of direct and indirect sales;
- Changes in operating expenses;
- Economic conditions in the Asian and other markets;
- Our ability to continue to market our products in Asian and other
markets;
- Foreign currency exchange rates; and
- General economic factors.
Due to the foregoing factors, we cannot predict with any significant degree of
certainty our quarterly revenue and operating results. Further, we believe that
period-to-period comparisons of our operating results are not necessarily a
meaningful indication of future performance.
20
<PAGE>
OUR STOCK PRICE IS EXTREMELY VOLATILE
The trading price of our common stock has fluctuated significantly in the past,
and the trading price of our common stock is likely to be highly volatile and
could be subject to wide fluctuations in price in response to such factors as:
- The outcome of the various litigation matters to which we are a party;
- Actual or anticipated fluctuations in our operating results;
- Announcements of technological innovations and new products by us or our
competitors;
- New contractual relationships with strategic partners by us or our
competitors;
- Proposed acquisitions by us or our competitors; and
- Financial results that fail to meet public market analyst expectations of
performance.
In addition, the stock market in general, and The Nasdaq National Market and the
market for technology companies in particular has experienced extreme price and
volume fluctuations that have often been unrelated or disproportionate to the
operating performance of such companies. These broad market and industry factors
may seriously harm the market price of our common stock in future periods.
WE HAVE RELIED AND EXPECT TO CONTINUE TO RELY ON A LIMITED NUMBER OF PRODUCTS
FOR SUBSTANTIALLY ALL OF OUR REVENUE
Historically, we have derived substantially all of our total revenue from the
licensing and support of the following products:
- Apollo (our successor product to Aquarius);
- Hercules (our hierarchical physical verification software product);
- Star-Hspice (our circuit simulator);
- Star-Sim (our high-capacity circuit simulation and high-accuracy
timing analysis software); and
- Polaris (our Verilog simulation product).
Absent any adverse results from existing litigation, we currently expect that
these products will continue to account for a significant portion of our revenue
for the foreseeable future. As a result, our business, operating results and
financial condition are significantly dependent upon the continued market
acceptance of these products and upon our ability to continue to sell, license
and support each of these products.
WE DEPEND ON INTERNATIONAL SALES FOR A SIGNIFICANT PERCENTAGE OF OUR REVENUE
International revenue, principally from Asian customers, accounted for
approximately 31%, 40% and 35% of our total revenue in 1998, 1997, and 1996,
respectively. For the nine months ended September 30, 1999, international
revenue accounted for approximately 29% of total revenue. We expect that
international license and service revenue, particularly in Asia, will continue
to account for a significant portion of our total revenue for the foreseeable
future. Our international business activities are subject to a variety of
potential risks, including:
- The impact of recessionary environments in foreign economies;
- Longer receivables collection periods and greater difficulty in accounts
receivable collection;
- Difficulties in staffing and managing foreign operations;
- Political and economic instability;
- Unexpected changes in regulatory requirements;
- Reduced protection of intellectual property rights in some countries; and
- Tariffs and other trade barriers.
Currency exchange fluctuations in countries in which we license our products
could also seriously harm our business, financial condition and results of
operations by resulting in pricing that is not competitive with products priced
in local currencies. Furthermore, we may not be able to continue to generally
price our products and services internationally in U.S. dollars because of
changing sovereign restrictions on importation and exportation of foreign
currencies as well as other practical considerations. In addition, the laws of
certain countries do not protect our products and intellectual property rights
to the same extent, as do the laws of the United States. Moreover, it is
possible that we may fail to sustain or increase revenue derived from
international
21
<PAGE>
licensing and service or that the foregoing factors will seriously
harm our future international license and service revenue, and, consequently,
seriously harm our business, financial condition and results of operations.
WE DEPEND UPON THIRD PARTY DISTRIBUTORS AND MANUFACTURER'S REPRESENTATIVES TO
LICENSE AND SUPPORT OUR PRODUCTS IN ASIA
We rely on distributors and manufacturer's representatives for the licensing and
support of our products in Asia. A substantial portion of our international
license and service revenue is generated from a limited number of these
representatives, although we had no individual customer representing over 10% of
revenue in any of the years 1994-1998. In 1996, we consolidated our Korean sales
channel by forming DavanTech Co., Ltd., a distributor owned by Avant!, Gerald C.
Hsu (Avant!'s Chairman of the Board, President and CEO) and other parties. In
1997, we consolidated our Japanese sales channel by forming MainGate, a
distributor owned by Avant!, Gerald C. Hsu (Avant!'s Chairman of the Board,
President and CEO), and other parties (including other Avant! employees and
former employees of Avant!'s third party distributors). Our reliance on
distributors and manufacturer's representatives subjects us to a number of
risks. For example, our current distributors, manufacturer's representatives
DavanTech or MainGate may not choose to or be able to market, service or support
our products effectively. Economic conditions or industry demand may seriously
harm these or other distributors and manufacturer's representatives or these
distributors, manufacturer's representatives DavanTech or MainGate may devote
greater resources to marketing and supporting products of our competitors.
Additionally, because our products are used by highly skilled professional
engineers, a distributor or manufacturer's representative must possess
sufficient technical, marketing and sales resources in order to be effective and
must devote these resources to a lengthy sales cycle, customer training and
product service and support. Only a limited number of distributors or
manufacturer's representatives possess such resources. Accordingly, the loss of,
or a significant reduction in revenue from, one of our distributors,
manufacturer's representatives DavanTech or MainGate or any other distributor or
manufacturer's representative on which our revenues may, in the future, become
dependent, could seriously harm our business, financial condition and results of
operations.
OUR FUTURE SUCCESS WILL DEPEND ON OUR ABILITY TO KEEP PACE WITH THE RAPIDLY
EVOLVING TECHNOLOGY STANDARDS OF OUR INDUSTRY
Because the semiconductor industry has made significant technological advances
recently, integrated circuit design automation companies, such as Avant!, that
license software to semiconductor companies have been required to continuously
develop new products and enhancements for existing products to keep pace with
the evolving industry standards and rapidly changing customer requirements. The
evolving nature of the integrated circuit design automation 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 on a timely and
cost-effective basis that will keep pace with technological
developments and evolving industry standards; and
- Address the increasingly sophisticated needs of our customers.
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, financial condition and results of operations could be seriously
harmed.
WE DEPEND ON THE GROWTH OF THE SEMICONDUCTOR AND ELECTRONICS INDUSTRIES
Avant! is dependent upon the semiconductor industry and, more generally, the
electronics industry. Both of these industries are characterized by rapid
technological change, short product life cycles, fluctuations in manufacturing
capacity and pricing and gross margin pressures. Segments of these industries
have from time to time experienced significant economic downturns characterized
by decreased product demand, production over-capacity, price erosion, work
slowdowns and layoffs. While these industries have experienced an extended
period of significant economic growth over the past few years, such economic
growth may not continue, and if it does not, any downturn could be especially
severe on Avant!. During such downturns, the number of new integrated circuit
design projects often decreases. Because acquisitions of new licenses from
Avant! are largely dependent upon the commencement of new design projects, any
slowdown in these industries could seriously harm Avant!'s business, financial
condition and results of operations.
22
<PAGE>
WE MAY BEAR INCREASED EXPENSES TO PROTECT OUR PROPRIETARY RIGHTS OR DEFEND
AGAINST CLAIMS OF INFRINGEMENT, AND WE MAY LOSE COMPETITIVE ADVANTAGES IF OUR
PROPRIETARY RIGHTS ARE INADEQUATELY PROTECTED
We rely on a combination of patents, trade secrets, copyrights, trademarks and
contractual commitments to protect our proprietary rights in our software
products. We generally enter into confidentiality or license agreements with our
employees, distributors and customers, and limit access to and distribution of
our software, documentation and other proprietary information. Despite these
precautions, a third party may still copy or otherwise obtain and use our
products or technology without authorization, or develop similar technology
independently. In addition, effective patent, copyright and trade secret
protection may be unavailable or limited in certain foreign countries. We expect
that software companies will increasingly be subject to infringement claims as
the number of products and competitors in the integrated circuit design
automation industry grows and the functionality of products in different
industry segments overlaps. In particular, our current litigation with Cadence
involves such infringement claims. Responding to such claims, regardless of
merit, could consume valuable time, result in costly litigation, cause product
shipment delays or require us to enter into royalty or licensing agreements.
Such royalty or licensing agreements, if available, may not be available on
terms acceptable to us. A forced license could seriously harm our business,
financial condition and results of operations.
ERRORS IN OUR SOFTWARE PRODUCTS COULD RESULT IN LOSS OF MARKET SHARE OR FAILURE
TO ACHIEVE MARKET ACCEPTANCE
Software products as complex as those offered by Avant! may contain defects or
failures when introduced or when new versions are released. Avant! has in the
past discovered software defects in certain of its products and may experience
delays or lost revenue to correct such defects in the future. Despite testing by
Avant!, errors may still be found in new products or releases after commencement
of commercial shipments, resulting in loss of market share or failure to achieve
market acceptance. Any such occurrence could seriously harm Avant!'s business,
financial condition and results of operations.
OUR BUSINESS COULD BE AFFECTED BY YEAR 2000 ISSUES
STATE OF READINESS. Many currently installed computer systems and software
products are coded to accept only two digit entries in the date code field and
cannot distinguish 21st century dates from 20th century dates. This could result
in system failure or miscalculations causing disruptions of operations,
including, among other things, a temporary inability to process transactions,
send invoices or engage in similar normal business activities. As a result, many
companies' software and computer systems may need to be upgraded or replaced in
order to comply with such "Year 2000" requirements. During 1998, Avant!
undertook an evaluation of its currently supported products to determine if they
are Year 2000 compliant. The results of this evaluation revealed that most
currently supported products are Year 2000 compliant. Avant! has also provided
for those supported products not Year 2000 compliant with fix patch or upgrade,
as part of the Company's standard maintenance programs. Although to the best of
Avant!'s knowledge, the Company has offered Year 2000 solutions for those
products, unpredicted Year 2000 problems might occur. Any unpredicted Year 2000
problem occurring in Avant!'s products could result in:
- A decrease in sales of our products;
- An increase in the allocation of resources to address the Year 2000
problems of our customers without additional revenue commensurate with
such dedication of resources; and
- An increase in litigation costs relating to losses suffered by our
customers due to such Year 2000 problems.
During 1998, Avant! conducted a preliminary review of our internal computer
systems to identify the systems that could be affected by the Year 2000 issue
and to develop a plan to resolve the issue. Avant! has adopted SAP R/3 software
as an enterprise system managing its financial and logistical operations in the
United States and Europe. SAP R/3 software has been certified by SAP as Year
2000 compliant. Some other third party software systems and applications
currently used by Avant!, however, are not Year 2000 compliant. Avant! intends
to stop using these software products or upgrade or replace them as part of
Avant!'s growth plans.
Avant! only performs Year 2000 compliance testing on its most critical internal
support systems. Inoperability related to Year 2000 problems of internal systems
that are certified Year 2000 compliant by the vendor and not tested by Avant!
could seriously harm Avant!'s operational efficiency. Furthermore, the
purchasing patterns of customers or potential customers may be affected by Year
2000 issues as companies expend significant resources to correct their current
systems for Year 2000 compliance. These expenditures may result in reduced funds
available to purchase products and services such as those offered by Avant!,
which could seriously harm Avant!'s business, operating results and financial
condition.
23
<PAGE>
RISKS. Avant! requests its vendors to provide Year 2000 compliance certificates
for all its internal support systems. However, the Company only intends to
perform testing on its most critical internal support systems. Inoperability
related to Year 2000 problems of internal systems that are certified Year 2000
ready by the vendor and not tested by Avant! could have an adverse impact to the
Company's operational efficiency.
The migration paths provided by Avant! as the remedies to make its products Year
2000 ready may not be accepted by the customer, which could have an adverse
impact on Avant!'s business.
COSTS. Avant! does not have a project tracking system that tracks the cost and
time that its own internal employees spend on the Year 2000 project. Based on
Avant!'s assessment, the costs incurred to date have had no material impact on
Avant!'s results of operations. Avant! expects that costs directly related to
Year 2000 compliance in excess of normal upgrade and maintenance costs will not
exceed approximately $0.25 million for both costs incurred to date and future
costs.
CONTINGENCY PLANS. Avant! has started to assess the areas that need a
contingency plans. Some contingency plans have been established. Any failure of
Avant! to address any unforeseen Year 2000 problems would seriously harm
Avant!'s business, financial condition and results of operations.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK, DERIVATIVES
AND FINANCIAL INSTRUMENTS
Information relating to quantitative and qualitative disclosure about market
risk is set forth in Part I, Item 2A of this Form 10Q and in the Company's 1998
Annual Reports to Stockholders under the caption "Factors That may Affect Future
Results" in Management's Discussion and Analysis of Financial Condition and
Results of Operations. Such information is incorporated herein by reference.
FOREIGN CURRENCY HEDGING INSTRUMENTS
The Company transacts business in various foreign currencies. Accordingly, the
Company is subject to exposure from adverse movements in foreign currency
exchange rates. This exposure is primarily related to payments from MainGate, a
Japanese distributor. As of September 30, 1999, the Company had no hedging
contracts outstanding.
The Company assesses the need to utilize financial instruments to hedge currency
exposures on an ongoing basis. The Company does not use derivative financial
instruments for speculative trading purposes, nor does the Company hedge its
foreign currency exposure in a manner that entirely offsets the effects of
changes in foreign exchange rates. The Company regularly reviews its hedging
program and may as part of this review determine at any time to change its
hedging program.
FIXED INCOME INVESTMENTS
The Company's exposure to market risks for changes in interest rates arises from
its investments in debt securities issued by U.S. government agencies and
corporate debt securities. The Company places its investments with high credit
quality issuers and endeavors to limit the amount of its credit exposure to any
one issuer. The Company's general policy is to limit the risk of principal loss
and ensure the safety of invested funds by limiting market and credit risk. All
highly liquid investments with a maturity of 3 months or less at the date of
purchase are considered to be cash equivalents; investments with maturities
between 3 and 12 months are considered to be short-term investments; investments
with maturities in excess of 12 months are considered to be long-term
investments. The Company does not expect any material loss with respect to its
investment portfolio.
The following table presents the carrying value and related weighted average
annualized return rates for the Company's investment portfolio. The carrying
value approximates fair value at September 30, 1999, in thousand.
<TABLE>
<CAPTION>
Carrying Average
Amount Return Rate
-------------- ------------------
<S> <C> <C>
Cash equivalents-variable rates $ 47,447 4.50%
Short-term investments-variable rates 156,787 5.62%
-------------- ------------------
$ 204,234 5.36%
============== ==================
</TABLE>
24
<PAGE>
PART II - OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
The information regarding legal proceedings provided in Part I, Item 1 "Notes to
Condensed Consolidated Financial Statements", Item 2 "Management's Discussion
and Analysis of Financial Condition and Results of Operations," and Item 2A,
"Risk Factors That May Affect Future Results" is incorporated by reference in
response to this item.
ITEM 2. CHANGE IN SECURITIES AND USE OF PROCEEDS
During the three months ended September 30, 1999, the Company acquired
Chrysalis by issuing 3,042,000 shares of common stock in exchange for all of
the outstanding stock of Chrysalis. The Company also assumed Chrysalis
warrants and agreed to issue a total of 116,213 shares of Chrysalis common
stock at a weighted average exercise price of $14.25 per share upon exercise
of the warrants. The transaction was subject to Rule 145 promulgated under
the Securities Act of 1933, and the securities issued by the Company were
exempt from registration under the Securities Act by reason of Section
3(a)(10). In the exchange, the Company also assumed outstanding options to
purchase Chrysalis common stock and agreed to issue a total of 446,370 shares
of common stock at a weighted average exercise price of $3.99 per share upon
future exercise of the options. The Chrysalis options and the shares of
common stock to be issued by the Company on exercise of the options were
registered under the Securities Act on Form S-8 during the quarter ended
September 30, 1999.
During the three months ended September 30, 1999, the Company
acquired Xynetix by issuing 1,441,000 shares of common stock in exchange for
all of the outstanding stock of Xynetix. The transaction was subject to Rule
145 promulgated under the Securities Act of 1933, and the securities issued
by the Company were exempt from registration under the Securities Act by
reason of Section 3(a)(10). In the exchange, the Company also assumed
outstanding options to purchase Xynetix common stock and agreed to issue a
total of 126,492 shares of common stock at a weighted average exercise price
of $1.86 per share upon future exercise of the options. The Xynetix options
and the shares of common stock to be issued by the Company on exercise of the
options were registered under the Securities Act on Form S-8 during the
quarter ended September 30, 1999.
ITEM 5. OTHER INFORMATION
On October 27, 1999, Eric Brill resigned from the board of directors of
the Company.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
27.1 Financial Data Schedule (electronic version only).
(b) Reports on Form 8-K
The Company filed no reports on form 8-K during the quarter for which
this report is required to be is filed.
25
<PAGE>
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
AVANT! CORPORATION
------------------
(Registrant)
NOVEMBER 15, 1999 /S/ GERALD C. HSU
------------------
Gerald C. Hsu
President, Chief Executive Officer
and Chairman of the Board of Directors
NOVEMBER 15, 1999 /S/ SAM CHANG
------------------
Sam Chang
Head of Finance
(principal accounting officer
and principal financial officer)
26
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONSOLIDATED BALANCE SHEETS AND CONSOLIDATED STATEMENTS OF INCOME FILED AS PART
OF THIS FORM 10-Q AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH
FINANCIAL STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 3-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 69,528
<SECURITIES> 156,787
<RECEIVABLES> 52,244
<ALLOWANCES> 12,048
<INVENTORY> 0
<CURRENT-ASSETS> 300,994
<PP&E> 57,352
<DEPRECIATION> 29,571
<TOTAL-ASSETS> 392,967
<CURRENT-LIABILITIES> 101,231
<BONDS> 0
0
0
<COMMON> 4
<OTHER-SE> 289,869
<TOTAL-LIABILITY-AND-EQUITY> 392,967
<SALES> 0
<TOTAL-REVENUES> 222,513
<CGS> 4,162
<TOTAL-COSTS> 17,398
<OTHER-EXPENSES> 148,491
<LOSS-PROVISION> 3,871
<INTEREST-EXPENSE> 0
<INCOME-PRETAX> 63,054
<INCOME-TAX> 25,858
<INCOME-CONTINUING> 37,196
<DISCONTINUED> 0
<EXTRAORDINARY> 0
<CHANGES> 0
<NET-INCOME> 36,601
<EPS-BASIC> 0.97
<EPS-DILUTED> 0.92
</TABLE>
