The operator, Regina, welcomes everyone to the Cadence First Quarter 2024 Earnings Conference Call and introduces Richard Gu, Vice President of Investor Relations. Richard Gu introduces Anirudh Devgan, President and CEO, and John Wall, Senior Vice President and CFO. He also mentions that the webcast and prepared remarks will be available on the company's website and reminds listeners that the discussion will contain forward-looking statements. He also mentions that non-GAAP measures will be presented and asks for a limit of one question and one follow-up during the Q&A session. Anirudh Devgan thanks everyone for joining and begins his remarks.

Cadence had a strong start to the year and exceeded expectations in the first quarter of 2024. They have a record backlog and are raising their financial outlook for the year. The company's long-term trends and intelligent system design strategy are driving strong design activity. They have made significant advancements in their technology and recently launched their third-generation dynamic duo, the Palladium Z3 emulation and Protium X3 prototyping platform, to meet the increasing demand for high-performance hardware accelerated verification solutions.

The Palladium Z3 platform sets a new standard for performance and capacity, with a 48 billion gate capacity and support from top companies like Nvidia, Arm, and AMD. Cadence also introduced the Reality Digital Twin Platform for improved data center energy efficiency and enhanced its molecular design platform with Nvidia's BioNemo and microservices. In the first quarter, Cadence expanded its partnerships with IBM, Global Foundry, and Arm to develop solutions for various industries, including aerospace, defense, IoT, and automotive.

In Q1, we continued to strengthen our partnership with Dassault Systems and saw steady growth in our System Design and Analysis business. Our acquisition of BETA CAE will allow us to expand into structural analysis and tap into a multi-billion dollar market. Our Millennium supercomputing platform and Allegro X solutions are also seeing success, with a leading automaker expanding its deployment and Samsung using Celsius Studio to improve product development time.

A leading Asian mobile chip company has seen a significant improvement in design productivity through the use of optimality intelligence system explorer AI technology and Clarity 3D Solver. The demand for functional verification products continues to increase due to the growing complexities in system verification and software. Hardware accelerated verification has become a necessary part of the design flow, with notable wins at a leading networking company and major automotive semiconductor supplier. The Verisium platform, which utilizes big data and AI, has seen increasing customer adoption and was used by Qualcomm to increase total design coverage and reduce verification workload runtime by up to 20x. Cadence's Digital IC business had a solid quarter, with strong growth at hyperscalers and over 50 customers using their digital solutions on advanced nodes. Cadence Cerebrus, which leverages Gen.AI, has been used in over 350 tapeouts and is delivering best-in-class PPA and productivity benefits for marquee customers and in DTCO flows for new process nodes.

In the first quarter of 2024, Cadence's custom IC business saw success with its Virtuoso Studio, which uses AI-powered layout automation and optimization. The company's IP business also benefited from the growing market for AI and multi-chiplet architecture. Cadence formed partnerships with Intel Foundry and a top hyperscaler for design software and IP solutions. Its TenSilica business reached a milestone of 200 software partners and its Xtensa NX controller was extended to a top hyperscaler. Cadence was also recognized as one of the 2024's 100 best companies to work for. The company achieved record Q1 bookings and backlog of approximately $6 billion, positioning it for strong growth in the second half of 2024.

The financial highlights from the first quarter include a total revenue of $1.009 billion, with a GAAP operating margin of 24.8% and a non-GAAP operating margin of 37.8%. The cash balance at quarter end was $1.012 billion and operating cash flow was $253 million. The updated outlook for fiscal 2024 includes revenue in the range of $4.56 billion to $4.62 billion, with a GAAP operating margin of 31% to 32% and a non-GAAP operating margin of 42% to 43%. For Q2, revenue is expected to be in the range of $1,030 million to $1,050 million, with a GAAP operating margin of 26.5% to 27.5% and a non-GAAP operating margin of 38.5% to 39.5%.

The CFO commentary document has been published on the investor relations website, outlining Cadence's outlook for the year and providing GAAP to non-GAAP reconciliations. The company is on track for a strong 2024 and thanks its customers, partners, and employees for their support. During the Q&A session, the CFO discusses the impact of upfront revenue on the second half of the year and how it differs from previous expectations.

The company's upfront revenue is expected to be 15-20%, with $800 million expected this year compared to $650 million last year. The first half of this year is expected to have $250 million in upfront revenue, while the second half is expected to have $550 million. This is due to a record backlog and the launch of new hardware systems. The new systems, Z3, are highly anticipated and demand is expected to shift to them, causing a shift in upfront revenue to the second half. The company's CEO and Anirudh Devgan, a leader in hardware-based emulations, are both proud of the new systems.

The company is pleased with the success of their Z1 X1 and Z2 X2 products, which were launched in 2015 and 2021 respectively. They have now developed a new product, Z3 and X3, in just three years, which is a significant improvement in terms of capacity and performance. This new product is already being used by major companies for chip design, and it sets them up for future success. The company attributes their ability to develop the product in a shorter time frame to their use of their own design and tools. They anticipate a transition period as customers switch to the new system, but believe it is the right move for the long-term success of the business. The demand for emulation is increasing due to the growing size of AI chips.

The company felt it was necessary to speed up the development of their next generation system in order to prepare for the upcoming AI wave. This may have some impact on quarterly results, but will be beneficial in the long run. The use of AI is expected to increase customer engagement and lead to larger renewal rates, as it has a profound impact on the company and its customers in areas such as infrastructure and chip design. The company is fortunate to be working with leading AI companies and is adapting their tools and hardware platforms to support the growing demand for larger AI chips.

The analyst asks about the lower revenue from China in Q1 and if it is impacting the Q2 forecast.

The speaker discusses the outlook for China and mentions that last year there was strong demand for functional verification and upfront revenue. This year, China's percentage of revenue has decreased due to lower hardware, functional verification, and upfront revenue. However, the company has good geographical diversification and strong design activity in China. The upcoming ramp of the third generation hardware is expected to bring an increase in demand, potentially from both replacement and new customers. The new hardware also offers a significant increase in capacity for designing larger chips with more transistors.

Anirudh Devgan explains that the Z3 X3 system has more capacity and can provide more value to customers compared to the Z2 X2 system. The Z3 uses an advanced TSMC chip and can connect up to 16 racks together, allowing for the emulation of very large systems efficiently. This is important for AI workloads as the capacity of chips needs to continue increasing. The Z3 can also emulate multiple chips, which is crucial for AI as more and more chips are being stacked and used in packages.

The speaker is discussing the partnership between the company and Arm, specifically in regards to their collaboration on developing custom SoCs using Neoverse. The partnership has resulted in a significant amount of work around functional verification.

Anirudh Devgan, CEO of Cadence, discusses the strong partnership between Cadence and Arm and how it has expanded into new markets such as HPC servers and automotive. He also mentions recent M&A activity and addresses speculation about a potential transformative deal.

Anirudh Devgan, CEO of Cadence, was asked about the company's future plans and potential acquisitions. He stated that their strategy has not changed since 2018 and they will continue to focus on their core business of EDA and IP. However, they may consider opportunistic M&A, such as tuck-in acquisitions, to enhance their portfolio. They have recently acquired Rambus IP assets, which will contribute to their growth in the AI industry. Overall, their focus remains on organic development and they are optimistic about the growth in their core business and IP this year.

The company is focused on acquiring BETA, a technology that is a good fit for their needs and has a strong presence in the automotive and aerospace industries. They plan to continue their strategy of primarily organic growth with synergistic acquisitions. In regards to the Z3 X3 systems, they have seen a high attach rate of 85% for both systems and expect it to continue to increase, especially with the incorporation of InfiniBand technology. This dynamic duo approach, with a custom processor for palladium and FPGA for Protium, has been successful for customers in both chip and software development.

The speaker talks about their long-term development partner, Nvidia, and how they have evolved from just chip development to also having a large software stack. They also mention using Nvidia's products in their systems, with InfiniBand being used in their Z3 system and AMD FPGAs in their X3 system. They are confident in their leadership in these hardware platforms and have seen strong demand for both systems. The speaker also talks about the HBM IP business, which is expected to have a strong growth year in 2024.

Revenue recognition for the company depends on the timing of deliveries, and they had a strong bookings quarter in Q1. They are preparing to scale for a number of deliveries of IP in the second half, and expect a strong year for IP. They have a partnership with Intel and IFS that will contribute to IP, but they need to hire more people and port their portfolio to the Intel process. For John, he comments on the EDA market health and dynamics, specifically mentioning intra-contract new or expansion business. He also talks about pricing for this year, given that EDA generally has better pricing capacity. For Anirudh, he mentions the partnership with Intel and IFS, and the need to hire more people and port their portfolio.

The company has a strong recurring revenue growth in the software renewal business. However, customers who have adopted AI tools are not purchasing add-ons as frequently. The company is focused on proliferating AI tools into accounts and increasing pricing in the future. Anirudh Devgan does not have anything to add. At a recent conference, there was a heavy focus on Cerebrus, the longest end-market. The company is thinking about the adoption curve for other brands and how AI can be applied in different parts of the design flow. There are some areas where AI may not be applicable, such as synthesis.

The company has five major AI platforms, with Cerebrus and Digital implementation being the oldest and most successful. However, the other platforms, such as Verisium for verification and Allegro for PCB and packaging, are also performing well. The company believes that verification and Allegro could see significant benefits from AI in the future. The area that has not seen as much automation is design generation, but the company is exploring the use of LLM based models in this area.

The speaker discusses the company's work with customers to automatically generate RTL from a 40-50 page Spec document, which requires advanced LLM capabilities. He also mentions that China revenue was down in the first quarter due to tough year-ago comparisons, but design activity remains strong and the company expects China revenue to be flat to down for the fiscal year. The speaker also addresses concerns about US export controls impacting business in China.

The company is confident about its 2024 outlook despite geopolitical risks and is preparing for strong demand and revenue growth in the second half of the year, particularly for the Z3 and X3 products. The R&D team has reduced the cycle time for designing these products and they are currently available for orders, with ramping up in Q3 and Q4.

The company has a three to six month overlap when releasing new systems, with Q3 and Q4 expected to see higher sales. They plan to sell both the older and newer systems, but some customers may wait for the newer version, leading to a shift in hardware revenue to the second half of the year. The company also plans to use their cloud offering to serve the underserved community, which will lead to ratable revenue over time. The demand for the newer systems may take one to two quarters to ramp up.

In response to a question about the impact of the new Z2 system on revenue, the company stated that while the profile of revenue may change if customers continue to buy Z2 and not use the cloud, they expect the strength of the new system to drive demand. The company also mentioned that the second half growth will be driven by both hardware and IP, and that the impact of the new system will likely extend beyond this year. When asked about recurring revenue, the company suggested looking at a three-year CAGR basis due to potential fluctuations.

The company is pleased with its recurring revenue growth and expects a 40-60 weighting of bookings in the first half to second half of the year. The current recurring revenue is above 10% and any add-ons would be considered upside to the guide. The company has achieved over 50% incremental margins for the past seven years and is aiming to achieve it again this year, with the current margin being in the high 40s. The company prioritizes organic growth over M&A.

The speaker discusses Cadence's focus on innovation and organic growth, with small tuck-in M&As being a potential headwind in the short-term but beneficial in the long-term. They mention the recent acquisition of BETA CAE, which may still be considered a small tuck-in. The speaker remains optimistic about achieving a 50% incremental margin for the year. The questioner asks about the relatively flat start for SDA but the speaker clarifies that there may be a rounding issue and that the actual growth rate for SDA in Q1 over Q1 is likely high single digits.

The speaker discusses the strong growth of systems, design, and automation (SD&A) in the past two years, which is expected to continue this year. They also mention the recent increase in AI innovation and design activity among big semiconductor and system companies, such as Nvidia, Google, and Meta. The company is involved with all major players in this field and is happy to provide their solutions.

The speaker believes that system companies will continue to develop their own chips for customization, schedule control, and cost benefits. The demand for AI is increasing, leading to more partnerships between system companies and semiconductor companies. The speaker expects the business with system companies to grow faster than the average for Cadence, and overall, the demand for AI and hyperscalers is increasing. The speaker thanks customers, partners, and investors for their support.

This summary was generated with AI and may contain some inaccuracies.