Cadence Design Systems Q2 2022 Earnings Call Transcript

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Provided by Quartr
July 25, 2022

There are 12 speakers on the call.

Operator

Good afternoon. My name is Brent, and I will be your conference operator today. At this time, I would like to welcome everyone to the Cadence Second Quarter 2022 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question and answer session.

Operator

Followed by the number 1 on your telephone keypad. Thank you. I will now turn the call over to Richard Gu, Vice President of Investor Relations for Cadence. Please go ahead.

Speaker 1

Thank you, operator. I would like to welcome everyone to our Q2 of fiscal year 2022 earnings conference call. I'm joined today by Anurud Devgn, President and Chief Executive Officer and John Wall, Senior Vice President and Chief Financial Officer. The webcast of this call and a copy of today's prepared remarks call. Due to risks and uncertainties, actual results may differ materially from those projected or implied in today's discussion.

Speaker 1

Conference call. For information on factors that could cause actual results to differ, please refer to our SEC filings, call, including our most recent Forms 10 ks and 10 Q and today's earnings release. All forward looking statements during this call based on estimates and information available to us as of today, and we disclaim any obligation to update them.

Speaker 2

Conference call. In addition, we

Speaker 1

will present certain non GAAP measures, which should not be considered in isolation from or as a substitute for GAAP results. Reconciliation of GAAP to non GAAP measures are included in today's earnings release. Today's earnings release for the Q2 of fiscal 2022, related financial tables and CFO commentary are also available on our website. For the Q and A session today, we would ask that you observe a limit of one question and one follow-up.

Speaker 3

Thank you, Richard. Good afternoon, everyone, and thank you for joining us today. Cadence delivered outstanding financial results for the Q2. With accelerating broad based demand for innovative solutions driving double digit growth across all our business groups. We beat our guidance on all key metrics and are significantly raising our financial outlook for the year, Resulting in 17% year over year revenue growth as well as exceeding the rule of 55.

Speaker 3

John will provide the details in a moment on both our Q2 results and the updated outlook for the year. Generational trends such as 5 gs, hyperscale computing and autonomous vehicles underpinned by AIML and data analytics are accelerating the digital transformation across multiple industries. Notwithstanding the macroeconomic uncertainties, our customers continue relentlessly investing in their next generation innovation with semiconductor companies benefiting from increasing silicon content and system companies investing in building custom silicon. These exciting trends are fueling robust design activity and driving a strong secular tailwind for end to end core EDA, IP and expanding systems portfolio. In Q2, we significantly accelerated our intelligent system design growth strategy through the introduction of 5 new innovative products as well as through the transformative Open Eye Scientific and future facility acquisitions that expand our TAM and position us well for future growth.

Speaker 3

This morning, we announced our intent to acquire Open Eye Scientific, a leader in computational molecular design space. Over the past few years, we have successfully extended our multi record chip level simulation expertise to the system level, first to finite element analysis and more recently to computational fluid dynamics. With OpenEye, we are now expanding into molecular modeling and simulation, an emerging area of growing interest as pharmaceutical and biotechnology companies accelerate this emphasis on software solutions for drug discovery. Acquisition will allow us to leverage our solver and AIML leadership along with large data management infrastructure to significantly enhance the speed and accuracy of biosimulation. This will drive disruptive innovation in the life science market through increasing the efficiency and success rate of traditionally long and complex drug discovery process.

Speaker 3

Additionally, OpenEye market leading cloud native SaaS platform can capitalize on our cloud expertise, thereby benefiting highly computationally intensive biosimulations. OpenEye's scientifically proven Innovative solutions are used by 19 of the top 20 pharma companies, including Pfizer and AstraZeneca, as well as leading biotech firms, and we excitedly look forward to Doctor. Anthony Nichols and the OpenEye team with the deep science expertise and rich domain knowledge joining Cadence. During the quarter, we also acquired Future Facility, a pioneer in the data center digital twin space that expands our CFD portfolio and extends it to data centers. In addition to electronics cooling analysis, Future Facilities innovative solutions enable customers such as HP Enterprise, Digital Reality and Equinix Optimize the thermal and power efficiencies in the data center using physics based 3d digital twins, thereby helping reduce their carbon footprint.

Speaker 3

We are excited to welcome Hassan Oizi and his talented team to Cadence. Now moving on to Q2 product and customer highlights. A key element of our approach has been to partner closely with market shaping customers and win their confidence by providing leadership platform solution based on best in class engines. In Q2, we deepened our long standing partnership with SAMHSA to a wide ranging expansion of our core EDA, system software and hardware solution. And we are excited to have extended our collaboration with AMD to a far reaching commitment to our innovative core EDA, hardware, design IP and system software solutions.

Speaker 3

Demand for our core ADS software remains strong and broad based. Our digital business had another strong quarter with 14% year over year growth, fueled by key competitive displacement as well as significant expansions at several market shaping customers. Adoption of our digital full flow delivering industry's leading quality of results at the most advanced nodes continue to accelerate with close to 25 new wins in the first half of the year. Innovative, automated and scalable Cadence Cerebus solution with its unique self learning capabilities allow users to explore the entire design space and intelligently optimize the digital full flow Cadence at Ebris continues to see accelerating proliferation, especially with market shaping customers as they realize transformative results across a broad range of complex production designs and getting as much as 30% reduction in leakage power and up to 30x productivity improvement for design tasks ranging from Design Technology Co Optimization, Automated Floor Plan Implementation and Final BPA Push. At our recent Cadence Live Silicon Valley user conference, several key customers including Intel, NVIDIA, Broadcom, Samsung and Ranaissance presented their remarkable successes using Cadence Cerebras.

Speaker 3

Functional verification is becoming a key differentiator as we enable our customers to improve system quality and speed up their time to market. In Q2, our business grew 13% year over year, led by strong growth in hardware and Jasper. Strong secular demand for our industry leading Palladium Z2 and Proteum X2 platforms, especially from hyperscale, AIML and server customers led to our best Q2 ever for hardware. With 10 new customers and nearly 50 repeat orders, Our IP business had a very strong quarter, growing 30% year over year as the continuing IP outsourcing trend growth, strong design and foundry activity for our Star IP, especially at the most advanced nodes. Our leading DDR IP solution continues to proliferate strongly, especially at hyperscaler and memory customers.

Speaker 3

While our PCIe portfolio had significant wins with compute and automotive company, Tensilica continued to expand its footprint in true wireless stereo and Bluetooth headsets and had notable wins in automotive, mobile and ARVR end market. Our system design and analysis business that is driving expansion beyond EDA continued its strong momentum in Q2, delivering 29% year over year growth as we increase our footprint in several verticals, including high-tech electronics, hyperscalers, Aerospace and Defense and 5 gs Communications. In Q2, Cianna, a leader in intelligent networking adopted our advanced Node Custom Design, Photonics, Multi Physics Analysis and 2.5d3d Packaging Solutions for the next generation coherent optical solutions. Exploring design complexity, coupled with rising product development time and cost is driving the need for innovative packaging solutions that can handle heterogeneous integration in a modular manner. We are seeing accelerating growth for our Integrity 3 d IC solution, which is the industry's only comprehensive platform with all in house technology that provides a truly tightly integrated optimized solution across system level floor planning, implementation, packaging and system analysis.

Speaker 3

Our system analysis portfolio delivering disruptive performance and capacity benefits without compromising accuracy is proliferating nicely with both semiconductor and system companies. For example, in addition to multiple repeat orders, Clarity 3 solver was adopted by leading companies, including a marquee U. S. Semiconductor company, a market leading U. S.

Speaker 3

Company providing RF and mobile communication chips and a global marquee hyperscaler. We also announced a new multiyear partnership with McLaren Racing, who will use our Fidelity CFD software to investigate airflow. We are also very excited to have Optimality Explorer, which brings the revolutionary AI technology implemented in Cadence Cerebras to the system space for the very first time. This solution enables the delivery of optimized design about 10x faster on average and traditional manual methods with up to 100x speed up having been seen on Sun Design. Optimality is quickly ramping up with early adopter customers as they realize these compelling results.

Speaker 3

With Microsoft, MediaTek, Baidu and Ambarella having provided strong endorsements for the product. As we innovate on our systems technology, we are also enhancing our go to market strategy. In Q2, we launched our transformational on cloud SaaS and e commerce platform, scalable solution offering instant access, flexible use models for companies adopting a cloud first approach. This new e commerce platform is the industry's first and offers a consumption based use model that's built upon the well established Cadence Cloudburst SaaS platform. Several customers including Bombardier, Cisco and Amazon Web Services have endorsed of the significance of this game changing platform.

Speaker 3

To summarize, semiconductor and system companies of relentlessly investing to accelerate their innovation. And this continues to drive secular tailwinds for our business. Q2 was an outstanding quarter as we raised the financial outlook for the year, while advancing of our Intelligent System Design strategy and setting us up well for future growth by expanding into new end markets with our Open Eye and Future Facilities acquisitions. Now I will turn it over to John to provide more details on the Q2 results and our updated 2022 outlook.

Speaker 4

Thanks, Anurush, and good afternoon, everyone. Cadence achieved strong results for the Q2 of 2022, driven by broad based strength across our technology portfolio. All of our product categories saw double digit year over year revenue growth and we exceeded all key financial and operational metrics in Q2. Here are some of the financial highlights from the Q2. Total revenue was $858,000,000 GAAP operating margin was 33% and non GAAP operating margin was 42%.

Speaker 4

Operating cash flow was $325,000,000 We used $350,000,000 of cash to repurchase Cadence shares and at the end of the quarter our cash balance totaled $1,030,000,000 while the principal value of debt outstanding was $350,000,000 Before I provide our updated outlook for fiscal 2022 and what we expect for Q3, I'd like to take a moment to share certain key assumptions embedded in our outlook. We have included the expected impact of both the future facilities and OpenEye acquisitions. At the midpoint of our fiscal 2022 outlook, we have included the following for these acquisitions. Revenue of $15,000,000 that's $15,000,000 $15,000,000 and an operating cash outflow of $60,000,000 largely due to our expectation that some of the price paid for these acquisitions we'll flow through operating cash in the second half. Embedding these assumptions into our updated outlook for fiscal 2022, we now expect revenue in the range of 3.47 to $3,510,000,000 GAAP operating margin in the range of 29.25 percent to 30.25 percent, non GAAP operating margin of approximately 39.25% to 40.25%, GAAP EPS in the range of $2.59 to 2 $0.65 non GAAP EPS in the range of $4.06 to 4.12 operating cash flow of approximately $1,200,000,000 and we expect to use our free cash flow to repurchase approximately $900,000,000 of Cadence shares in 2022.

Speaker 4

For Q3, we expect revenue in the range of 8.60 to $880,000,000 GAAP operating margin in the range of 26% to 27%, non GAAP operating margin of 37% to 38%, GAAP EPS in the range of $0.58 to $0.62 non GAAP EPS in the range of $0.94 to $0.98 and we expect to use approximately $150,000,000 of cash to repurchase Cadence shares in Q3. Our CFO commentary, which is available on our website, includes our outlook for additional items as well as further analysis and GAAP to non GAAP reconciliations. In conclusion, 2022 is shaping up to be another strong year for all of our businesses at Cadence. I'm pleased that revenue growth and profitability continue to improve. Of 39.75 percent and non GAAP EPS growth of 24.3%.

Speaker 4

As always, I'd like to close by thanking our customers, partners and our employees. And with that operator, we'll now take questions.

Operator

Your first question is from the line of Gary Mobley with Wells Fargo Securities. Your line is open.

Speaker 5

Hey, guys. Thanks for taking my question. And let me extend my Congratulations to a strong first half of the fiscal year. And I want to start off by asking if you could give us some additional detail as to the how material multi physics simulation software is becoming now as a portion of your systems analysis business. And then along the same lines, given that you're now moving into areas like aerospace, Life Sciences Data Center Infrastructure and Other Non Semiconductor End Markets.

Speaker 5

Maybe if you can share with us your view on how you need to build out your sales channel or your SaaS model to address these non traditional customers for cadence.

Speaker 3

Yes. Hi, Gary. It's Anirudh. That's a great question. So, first of all, we are very pleased with our execution to the Intelligent System Design Strategy.

Speaker 3

And as you see, we are doing well applying computational software expertise to our core and the new areas. So all our businesses are doing well. And as we expand into for the systems space, like we did with finite element and then CFD. I also think that it's very important to not just disrupt existing areas of simulation, but also get into new areas of emerging areas of simulation, like we announced today with the molecular simulation. And that naturally adds to our customer base and expanding opportunities.

Speaker 3

Now in terms of OpenEye, it will operate as a when it closes later, it will operate as an independent business unit. But in general, like we have talked about in the past that we are focused on expanding our go to market. And if you look at that on cloud, is another way to reach the long tail and expanding customer base. And overall, we have structured our go to market to be slightly different in this new area. I mean, that's only natural because it's not just the direct channel, but also the indirect channel and now the cloud and SaaS offering.

Speaker 5

Okay. Appreciate that, Anurag. If I could just ask some, I guess, maybe said differently double click on the backlog metric of $5,600,000,000 Any notable changes to the average license duration and maybe you can speak to the diversity of the backlog growth.

Speaker 4

Yes, sure. Gary, great question. But yes, of course, there's an element of time in that backlog number. I think if you look at the RPO number that excludes the $171,000,000 from other arrangements with non cancelable commitments. It's about $5,400,000,000 in RPO, of which about 51% of that is backlog that's expected to revenue in the next 12 months.

Speaker 4

So it's your 12 month backlog. I think the annual value of that backlog I mean your backlog number of 5 point for your RPO number 5.4 is a mix of your annual value and time. And we're very pleased that we've hit. It's roughly $2,750,000,000 in 1 year backlog now. Very pleased with that.

Speaker 4

Of the systems business itself is about 12% of revenue and probably a similar percent of that 1 year backlog.

Speaker 5

Okay. And just to be clear, there wasn't 1 or 2 particular customers that drove the increase in the backlog?

Speaker 4

Well, the first half was very strong for us. We had some big renewals in the first half. As you recall last quarter, we talked about a U. S. Marquee semiconductor company in which we had a record contract.

Speaker 4

We had big renewals again in the Q2. But I think the thing to focus on when you look at the backlog is certainly the 1 year backlog, I think reflects the quality of the backlog and then the $5,400,000,000 reflects the amount of time that we booked with customers.

Speaker 2

Got it. Thank you, guys.

Operator

Your next question is from the line of Vivek Arya with Bank of America Securities. Your line is open.

Speaker 6

Thank you for taking my question. If I go back to the start of the year when you reported Q4, you had suggested a 12% growth for the year and now you're guiding to 17%. And I'm curious what created this big 500 point delta? I don't remember the same kind of pace upgrade of revenue through the year, especially if the business has such recurring elements. I'm just curious what is driving this space of upside surprise.

Speaker 6

And I guess Part B of this is, what is the sustainable growth rate for cadence. Is it the 10%, 11%, which is where what your exit Q4 revenue implies? Or is it now at this new baseline of mid teens Growth or so.

Speaker 4

Hi, Vivek. All great questions. I'll take that, if you don't mind. Essentially at the start of the year we were guiding to 12% with an expectation that I think we expected 87% or 88% of our revenue to be recurring in nature. But it's been a great year, Certainly, great first half for our functional verification, particularly the hardware business there.

Speaker 4

IP has done quite well in the first half. So we've had a higher mix of upfront revenue in the first half and that's driven up the percentage to a certain extent. I know you're rounding up to 17%. I think if you track the impact of inorganic revenue that we've included in our outlook for the remainder of the year. The 15 if you take the 15,000,000 out, it's up to 16.5 percent now, and that's largely due to growth across all of our business lines.

Speaker 4

Our business lines are all performing really, really well. But there's also a higher mix of upfront revenue this year compared to what we expected at the start of the year and compared to last year.

Speaker 6

Thanks, John. But I guess then the Part B of is this mid teens growth, whether it is 2015 or 2016 or 2017, is this the new baseline of growth for cadence? Has something changed to get you into this higher tier of growth or is the 11% right that you had previously in the 3 year CAGR basis still the right way to think about cadence from a longer term perspective. And if I could just sneak in a quick one to that. What happens if there is a downturn?

Speaker 6

I know your business model is fairly resilient, but if there is a downturn in semis, which part of your business will see it first?

Speaker 4

Okay. Vivek, there's a number of questions in there. Let me unpack it a little bit. But I think if you're looking at the underlying growth in the business. I think a good way to look at it is to look at the 3 year CAGRs, because that reflects how well the business has done over one contract cycle.

Speaker 4

Typically, our customers sign up to 3 year contracts with us. Now there has been more upfront revenue business this year. And if you look at our queue. We've disclosed that in quite some detail. I think if you unpack that, you'll find that the recurring revenue business is probably growing at 12% to 13%.

Speaker 4

The upfront revenue business this year our upfront revenue this year compared to last year is up considerably. But The recurring revenue is much more sustainable going forward. And then let me hand you over to Andrew to talk about the impact to our business if there's a downturn. I think the recurring revenue is very, very Sustainable.

Speaker 3

Yes. Hi, Vivek. That's a great point. But as you know, our business is very resilient. And I would say that's probably Three main reasons.

Speaker 3

One is, we are critical to our customers' R and D. We are essential products for the current and future roadmaps. And the second reason is we are highly ratable business, as you know, as John explained, so which gives some higher visibility and also traditionally historically strong renewal rates. And the third thing I would like to highlight is that we are very diversified, both in terms of geographies and end markets. So, I mean, we are carefully watching the macro economic environment.

Speaker 3

But overall, I feel we are in a good position to weather whatever uncertainty is in front of us. And the generational trends are intact, right. So like we always talk about the 3 big drivers for our business. One is the semiconductors and the growing need for semiconductors and digitization of all verticals. Second thing is the system companies doing more silicon and our growing relationship with the system company.

Speaker 3

And then the 3rd big megatrend being our own move beyond EDA into TAM expansion to system design and analysis to different kind of simulation and optimization. And that also brings more customers and more diversification. So overall, we feel good about where we are and but we are watching the environment very closely.

Speaker 6

Thanks very much.

Operator

Your next question is from the line of Jay Flieszaur with Griffin Securities. Your line is open.

Speaker 7

Thank you. Good evening. Eiryu, let me start with you referring back to a couple of important points you made in your keynote addresses both at Cadence Live 2 months ago and DACC 2 weeks ago. So you've said 2 things that are, I think, important. One is that AI based EDA is in effect the next big thing in EDA.

Speaker 7

And the question there is, what are the implications for you in terms of your services model and specifically the kind of AE capacity that you need to provide over time to support that for both your semi and systems customers. And then relatedly, you said 2 weeks ago, very interesting point, that EDA needs a framework for optimizing multiple runs in lieu of the single run history at EDA. So the question there is, do you in fact have that now or are you still working on getting to that point? And then second question for John, excluding acquisitions, how are you thinking about headcount additions for the balance of the year. You interestingly, as compared to other tech companies, maintained a fairly high level of open positions.

Speaker 7

So how are you thinking, again, ex acquisitions about your ability to bring on both R and D and AEs for the rest of the year?

Speaker 3

Yes. Hi, Jay. First of all, thank you for attending the keynotes. That's great. Now in terms of like I always say, our strength is in computational software.

Speaker 3

And I want to highlight computational software, As you know, it's not just simulation. Of course, we have big expertise in simulation, but it's also optimization and design. So, EDA has a rich history of writing one of the most complicated optimization of design software. I mean, for example, Things like place and route and digital implementation are probably the most complex optimization software that's available. And what I'm really excited about use of AI is not just in simulation, but more importantly in optimization.

Speaker 3

And you can see that in Cerebras. Cerebras coupled with our digital flow with Innovus can provide dramatic results. So I think this combination of inside out or simulation based or science based, physics based simulation, whether it is in chip design or system level, combined with outside in AI for optimization is a huge mega trend, okay. So this simulation plus AI, combination of analysis plus optimization. And of course, we applied it to chip design with Cerebras.

Speaker 3

And then recently, I'm also very excited about optimality. We have dramatic results because similar technologies can be applied to system simulation. And to your point, the EBRIS and optimality based on reinforcement learning requires this multi run kind of optimization, which traditionally EDA hasn't done. So we are very pleased with the progress. I mean, there is another area, as you can know, which is like verification that also requires multi run.

Speaker 3

So we will we are tying all these things together and applying this kind of multi run data analytics and AI across of our product portfolio. And the benefit of that to our customers is, of course, they can do more with our software. And what I expect is that over time, we should be able to get more and more spend of the R and D to automation with things like Cerebras optimality and overall automation. John, you can comment on the second.

Speaker 4

Yes, yes. Jay, in relation to headcount, I think if you notice the second half where our margins tick down a little bit in comparison to the first half, that's all due to employee costs really. That our merit cycle kicks in on July 1. So pay increases impact us in the second half of the year and we to continue hiring at pace in the second half of the year. Chip design activity has been very strong, both with semiconductor and systems companies.

Speaker 4

And the market for talent is very competitive, but with how we performed on the great place to work service for the last 6, 7 years, I think we've had no issues with attracting talent and we're not slowing down our hiring activity. And of course, as you mentioned, we're bringing in headcount through M and A as well.

Speaker 3

Thank you both.

Operator

Your next question is from the line of Charles Hsie with Needham and Company. Your line is

Speaker 8

open. Hi, good afternoon. Thank you for allowing me to ask a couple of Genes. Aniruth and John, I would like to ask how much of your business kind of exposed to startups. The reason why I want to ask this is that over the last 2, 3 years, VC funding going into semiconductor startups has been taking up very significantly, and I believe that probably benefit your business in some way over the last few years might have added to your growth.

Speaker 8

So with now the macroeconomic condition kind of worsening and financial conditions kind of tightening, I think some investors are starting to worry about the start up fundings and the potential impact of their EDA spending. I want to ask your thought, can you first quantify to us how much of your exposure into the startups, especially those are pre revenue? And of the second half of

Speaker 3

the year.

Speaker 8

Secondly, what do you think in terms of your impact to your business over the next 12 months in this part of the segment. Thank you.

Speaker 4

Hi, Charles. Yes, great question. As I mentioned to Jay a few moments ago, I mean, chip design activity is very strong. I mean, I think within the startup community, we've probably observed more caution in spending, but demand is there right across the board. In terms of quantifying our exposure, our exposure is quite small on the start up side.

Speaker 4

If you recall back in, I think it was Q2 2020 at the highs of the original outbreak of COVID in that pandemic. I think At the peak, we reserved $70,000,000 of bookings for and they were mainly small customers. And at that, we collected we probably collected half of that eventually. But so I don't think there's I don't think we have any significant exposure on the start up community. And like you say, although they're being cautious, demand is there right across all our businesses.

Speaker 8

Got it.

Speaker 4

Also, Charles, everything we know is in the guidance. We've already I mean, to the extent that there's been any impact in our pipeline, that's already included in the guidance.

Speaker 8

Got it. Got it. Thank you. So maybe a second question on the 3 d IC solutions. Congrats on some of the new traction certainly including the adoption by the U.

Speaker 8

S. Marquee customer. I want to ask a little bit high level question. I believe it was TSMC who recently kind of introduced something called 3dblocks and one of the things in their 3dblocks platform is the interoperability of the 3DIC design tools across different vendors. And Anurush and John, I know you guys have been working on this full flow solution all under one roof for 3 d IC.

Speaker 8

And obviously, it doesn't mean that they are not interoperable with other vendors' tools. But My question is whether your foundry customer, what they are trying to do, would that diminish some of your product differentiation there or you what do you see what does that mean to your 3 gs IC strategy? Thank you.

Speaker 3

Yes. Hi, Charles. That's a good point.

Speaker 6

First of all,

Speaker 3

we are very happy, like you said, with the progress in 3 d IC. And we are glad to work with all the leading foundries, and we have a strong partnership given our position in the market. Now I think this is not any different than traditional EDA though. I mean typically the customer always has a choice to put flows together by multiple tools. Yes.

Speaker 3

But even if you look at traditional EDA, because of advanced node and kind of design companies in Exity, the integrated solution gives better results. But even our traditional EDA tools can be run as a mixture of other tools if the customer so chooses. So we will allow that flexibility in all our domains, but we always believe that a fully integrated solution, like with verification products or digital products. And same thing with 3 dIC, it gives the best results, the best PPA. And that's what we are all about.

Speaker 3

We want to deliver the best of the PPA productivity to our customers and work with the leading foundries to provide that. So I don't see any different from other areas, but at the same time, the focus on benefit of the full flow is even more critical.

Speaker 2

Thank you. Of your questions. Your next question is from

Operator

the line of Harlan Sur with JPMorgan. Your line is open.

Speaker 9

Good afternoon and congratulations on the solid results and execution. A recent dynamic that you're summing up their companies are focused on and their customers are focused on, given geopolitical, national defense, continuity of supply risk, diversification of manufacturing partners. Right now, we have a number of them are currently forced to particular foundry, but are not putting in place to support 1 or more partners. So this is going to entail new library development, new IP blocks, whether purchased organically developed and even in flows, I think this is for both leading edge to analog. I know that the chip companies have to add design engineers every time the new foundry partner.

Speaker 9

So is this focused on manufacturing diversification of 4 I've heard of your EDA and IP businesses as well. I would think so, but wanted to get your views.

Speaker 3

Yes, that's a good point. As you know, we are very diversified and across all segments and geographies and also have the great privilege of working with all the leading foundries in the world to the strength of our products. And we are more focused on the design side than the manufacturing side, because all our products are used on the design side. But that having being said, as there is more on shoring or investment by several governments now by to improve manufacturing. It does require more tool enablement, ED enablement and IT work at all these foundries.

Speaker 3

So I think that drives more demand for our products and we are glad to work with all these partners as we move forward. So at the macro level, we are focused on the design side and our end customers, right, to build solutions, but any kind of manufacturing driven uptake in enablement is good for our business.

Speaker 9

Yes, exactly. Okay. And then on your IT business, in compute, I think you mentioned this in some of remarks, but in compute, we've got Intel and AMD rolling out new processor platforms, right, supporting next generation memory, storage interfaces. We've got DDR5, PCIe Gen5, DXL for the next generation of the large and then all of these processes are rolling out at the end of this year. Additionally, in networking, we're kind of still early days in the adoption of 100 gig surveys for 204 100 gig optical.

Speaker 9

You guys obviously have a strong position here as well or in all of these segments. So with all of these trends inspiring and customers looking to adopt these next Gen standard interfaces on their chip designs. The IP business continues to stay in strong year over year growth from here?

Speaker 3

Yes, that's a good point. I think our IP business is doing well, just like you saw in our results, even Q2 results. And we always focus on star IP and we have design IP portfolio like you mentioned with DDR, PCIe, high Yes. Silica platform. So right now, we're seeing strength across those all those segments.

Speaker 3

And we are pleased with that. And like I said, design activity is strong and IP is a key part of the design activity. And so we are happy with the progress. But I would say that the strength is broad based across not only our different product lines, but also different customer segments. And this overall trend, thank you.

Speaker 3

I just wanted to say IP also benefits from the trend of outsourcing as customers focus on their core expertise, as you know, they will outsource IP. So overall, I think it's a good business and also Our focus on Star IP has improved the profitability of our IP business in the last few years and we are pleased with that trend.

Speaker 9

Yes. Thank you, Anirud.

Operator

Your next question is from the line of Blair Abernathy with Rosenblatt Securities. Your line is open.

Speaker 10

Thank you and nice quarter gentlemen. Just wanted to dig in a little more on the OpenEye acquisition. Anurad, it looks like this is more almost to platform play in the healthcare vertical. Is that the right way to be looking at it? It looks like they have a number of partnerships in a bunch of different areas.

Speaker 10

Whatever you can just expand sort of where you see yourselves going with this product?

Speaker 3

Yes, that's a good question. I mean, first of all, like I said, we believe we are best in class competition software, right? That includes simulation and design, simulation optimization. And then when we go into simulation space, system simulation, we want to do existing areas, which are well established markets like finite element and CSD, and we have talked a lot about it over the last few years, but also new areas, which are emerging and will be important for the next 10 years. And I can't think of a better emerging area than molecular simulation.

Speaker 3

And now it has multiple applications to materials and plastics and other things, but one of the exciting applications is, of course, life sciences and biosimilation. And so the thing I like about it is not only is it simulation and should have all the properties of system simulation like SCA and CMD, It has application to a very important vertical, which will have to be more and more digitized over the next 10 years. So it has both those properties, the inherent R and D synergy and properties of simulation, but also in a very important vertical. And same thing, by the way, is true for future facilities. If you think about it, the reason that like that acquisition and company.

Speaker 3

It's in a CFD area, which is again system simulation, but in a data center vertical, which is a huge thing for Sustainability and Power Consumption and I don't need to tell you how important cloud and data center is. So both of these acquisitions have inherent strength, which ties to our competition software expertise, but also good and important growing verticals and they have strong positions in those. Talking about Open Eye there used by 19 of the top 20 pharma companies and also very broad portfolio and Leadership in Molecular Design and Simulation and also a very good go to market with SaaS. They are 1st company in that space to go to SaaS and cloud native applications. So it has multiple characteristics that we like and at the same time having a talented team.

Speaker 3

And the same thing is true for future facilities. So that gives you an idea of we want to go into strong horizontal capabilities in simulation, but also in exciting verticals.

Speaker 10

That's great. Thanks very much.

Operator

Of your questions. Your next question comes from the line of Joe Vruhring with Baird. Your line is open.

Speaker 11

Great. Hi, everyone. I wanted to go back to the discussion on current RPO. If I did all my math correctly, it looks like the rate of growth has accelerated from the teens to this quarter was north of 30%. And John, if I look at that $2,700,000,000 number just against next 12 month revenue estimates, either your visibility on those NTM estimates is extremely high right now or the NTM estimates are far too low.

Speaker 11

So I guess I'll just put the question to whether based on the level of bookings activity year to date, you do feel like your visibility looking ahead is particularly good and whether you might be able to actually say, at this point in time, so early on that your recurring revenue growth couldn't actually even accelerate as we think about the next 12 months.

Speaker 4

Yes, Joe, great question and great observation. Yes, we're very, very pleased the fact that the current backlog or the kind of 1 year backlog has gone up to about $2,750,000,000 That reflects strength across all our businesses, but also reflects the amount of hardware business we've signed up in the last few quarters. You might see that the second half of the year, we've taken up the second half of the year, I think $52,000,000 compared to where we thought we'd be this time last quarter. And a lot of that has being in the functional verification side because the amount of hardware business that we've signed up. I think in the Q as well, you'll see some new disclosures for raw materials and finished goods in our inventory.

Speaker 4

We're building the systems as fast as we can to deliver to customers. But the €2,750,000,000 of current backlog or 1 year backlog probably has a bigger proportion of hardware in it this quarter than last quarter.

Speaker 11

Okay. Great. That's helpful. And then Just on the topic of macro, and I think backlog is the answer, so it doesn't team like design starts or just how your customers are thinking about the next 2 to 3 years that is changing for the worse at all. But just any details on that next level like maybe engineering seats at customers, the ACV opportunity per seat.

Speaker 11

We've been talking on this call a lot about the advanced Design Solutions, which I think actually give Cadence more revenue leverage per seat than maybe was true in the past. Is there anything there that might give you pause just on thinking about macro or customer spending or I hate to make that this time is different argument, but is some of the things you're seeing truly different relative to past down cycles?

Speaker 4

So Joe, I wouldn't tell you that this time is different at all. I think what I would highlight though is that I would like to distinguish that we're part of the design cycle, not the manufacturing cycle and production cycle. And your design continues unabated. I mean, I have seen among the smaller kind of startup companies a bit more caution on spending, but demand is still there across the board. I mean, they may be cautious.

Speaker 4

There might be slightly longer lead times, but we're still seeing really strong demand across all lines of business. But that's again, we're in the design cycle. Typically, what we've seen in the past is people double down on design at times like this.

Speaker 11

Great. Thank you very much.

Operator

Your next question is from the line of Jason Celino with KeyBanc Capital Markets. Your line is open.

Speaker 2

Great. Thank you for fitting me in. I wanted to ask about the new e commerce or e store capability that you discussed in prepared remarks. What products are available in that channel today? And then who are you specifically targeting to use this?

Speaker 3

Yes, good question. We have pretty it's a busy quarter, right? We have a lot of exciting innovations this time and one of them is on cloud and we've been working on it for a while. As you know, we've been doing SaaS and cloud for a while for several years now, but I think the what we see opportunity with on cloud is combining SaaS with e commerce. And this is especially true for it was built for the long tail of the market, so that the reach can be higher of our go to market strategy.

Speaker 3

Now we are surprised that even some of the big customers want to use it, like you saw Some of the big customers like Cisco and Bombardier and Amazon Web Services were referenced in our announcement. But the goal is to reach the long tail and for that reason, the initial set of products are the systems product, Our system analysis tools and Fidelity, Clarity, Celsius, PCB with Orkad and Allegro. So that's the initial focus and we'll see how that goes because these those products traditionally have much higher number of customers than traditional EDA products. And so therefore, in a cloud and a SaaS e commerce platform is good for these kind of customers. And then we rolled it out to certain geographies and we'll expand that over time.

Speaker 3

So, so far, we have a lot of users over there and we are closely monitoring how it goes, but so far so good. And just to remind you, we also have the hardware cloud for Palladium and Protein, but the on cloud focus is mostly for

Speaker 4

the system

Speaker 3

products into the long tail. Okay. So we are positively surprised by some big customers. Yes. Thank you.

Speaker 2

Yes. It's an interesting development. And then maybe just a quick one for John, just to clarify. The nice raise through the second half, when we think about the visibility into the last 6 months, the hardware and the IP strength that you talked about, is that expected to continue at the same pace as the first half? Or how should we think about that?

Speaker 4

Yes. So great question. I would say, when I cut I would characterize the second half raise has been very much driven by strength across all lines of business. There's been probably more of it for functional verification because of strength in the hardware business. On the IP side, I still maintained low teens growth in the outlook despite the fact that we had a really strong Q2.

Speaker 4

And part of that was because the boost to Q2 revenue that we saw, I think we landed at like 30% revenue growth year over year for IP in Q2. I was expecting mid teens, but about $12,000,000,000 $13,000,000,000 of IP revenue in Q2, I had originally forecast to happen later in the year in Q4 and that happened in Q2. But so I haven't taken the year up for that. But I mean, we're seeing strength right across all lines of business. And but the raise, I would say most of it is hardware, but then the rest is split across all the other lines of business and maybe IP is the smallest amount of the race.

Speaker 4

And there's $15 for the M and A, of course, right.

Speaker 2

Okay. Yes, yes, that's right. Perfect. That's all for me. Of the company.

Speaker 2

There are

Operator

no further questions at this time. I would now like to turn the call back over to the CEO, Anurudh Devgan.

Speaker 3

Thank you, everyone, for joining us this afternoon. We are excited about our business momentum and the tremendous market opportunities ahead of us. On behalf of our employees and our Board of Directors. We thank our customers, partners and investors for their continued trust and confidence in Cadence. We look forward to speaking with you again on our Q3 2022 earnings call.

Speaker 3

Thank you, and have a great evening.

Operator

Thank you for participating in today's Cadence Q2 2022 earnings conference call. This concludes today's call. You may now disconnect.

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Earnings Conference Call
Cadence Design Systems Q2 2022
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