Cadence Design Systems Q2 2024 Earnings Call Transcript

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Provided by Quartr
July 22, 2024

There are 15 speakers on the call.

Operator

Good afternoon. My name is Brianna, and I will be your conference operator today. At this time, I would like to welcome everyone to the Cadence Second Quarter 2024 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

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'd like

Speaker 2

to welcome everyone to our Q2 of 2024 earnings conference Call. I'm joined today by Anur Devgan, 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 will be available on our website, cadence.com. Today's discussion will contain forward looking statements, including our outlook on future business and operating results. Due to risks and uncertainties, actual results may differ materially from those projected or implied in today's discussion.

Speaker 2

For information on factors that could cause actual results to differ, please refer to our SEC filings, including our most recent Forms 10 ks and 10 Q, CFO commentary and today's earnings release. All forward looking statements during this call are based on estimates and information available to us as of today, and we disclaim any obligation to update them. In addition, we 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. For the Q and A session today, we would ask that you observe a limit of one question and one follow-up.

Speaker 2

Now, I'll turn the call over to Anurag.

Speaker 3

Thank you, Richard. Good afternoon, everyone, and thank you for joining us today. Cadence delivered strong financial results for the Q2 of 2024 with broad based momentum across our product portfolio. Bookings were stronger than expected, leading to a healthy backlog and underscoring the robust demand for our innovative technologies. We exceeded our outlook on all key metrics and are updating our revenue guidance for the year to over 13% year over year growth.

Speaker 3

John will provide more details on both our Q2 results and updated outlook for the year. Generational trends such as hyperscale computing, 5 gs and autonomous driving, all underpinned by the AI super cycle are driving strong design activity across multiple verticals, particularly in data center and automotive. Along with increasing chip complexity and system companies building their own silicon, these trends are creating tremendous tailwinds for our differentiated solutions. We are steadfastly executing to our intelligent system design strategy, extending our leadership in core EDA, while steadily expanding our footprint in the new system design and analysis area. Customers are ramping up their R and D spend in AI driven automation.

Speaker 3

Our Cadence dot AI portfolio offering unparalleled quality of results and productivity benefits continues to gain momentum with orders more than tripling over the last year. Our solutions are enabling the massive AI infrastructure build out across the semi and systems space. Additionally, we continue embedding AI in our EDA, SDA and digital biology solutions. In Q2, our long term development partner, NVIDIA, broadly deployed Palladium Z3 to deliver to its next generation AI product roadmap, further solidifying Cadence's leadership in the industry. A marquee hyperscaler meaningfully expanded its partnership with Cadence in Q2 through a broad proliferation of our Cadence dotai EDA, SDA and hardware portfolio.

Speaker 3

The growing foundry ecosystem is driving increased design activity and creating significant opportunities for our industry leading product. And in Q2, we expanded our collaboration with several leading foundry partners. We announced that Cadence.ai digital and analog tools were optimized for Samsung's advanced node SF2 gate all around process, driving enhanced quality of results and accelerating node migration. We extended our long standing collaboration with TSMC through a very comprehensive and innovative technology advancements, ranging from 3 d IC to design IP and photonics and providing optimized digital and analog full flows for TSMC's latest N2 process technologies. Our Integrity 3DIC platform is the industry's leading unified design analysis and sign off platform for multi chiplet architectures.

Speaker 3

Integrity has been certified for all of TSMC's latest 3 d fabric offerings and now has enabled several new features like hierarchical 3DIC design. We also announced that integrity has been enabled for all of Samsung Foundry's multi die integration offerings, accelerating the design and assembly of stacked chiplets. Additionally, we released a complete Intel Foundry EMIP advanced packaging reference flow that is optimized to work seamlessly with Intel 18A technology. We are also collaborating with multiple foundries to optimize our industry leading IP cores for AI, HPC, mobile and automotive applications for their advanced process technology, so as to ensure seamless integration into customer designs. We saw strong momentum in our IP business, with a delivering 25% year over year growth in Q2.

Speaker 3

As we executed to our profitable and scalable growth strategy. AI use cases, HPC and heterogeneous integration were the primary drivers, fueling the demand for our HBM, PCIe, GDDR, 112 gig SerDes and UCIE products. We expanded our system IP portfolio with the addition of Cadence Janus network on a chip solution that manages high speed communications effectively with minimum latency, enabling customers to achieve their PPA targets faster and with lower risk. Emulation and prototyping have become mission critical elements of chip design and software bringer flows. Following the launch of our market leading Z3 and X3 platforms, there is robust demand for these best in class systems, particularly by AI, hyperscale and automotive companies.

Speaker 3

And we continue to ramp up our production capacity accordingly. Vericium, our AI driven verification platform, continued seeing rapid customer adoption with several market shaping customers, including Qualcomm, successfully using Vericium Sim AI for coverage maximization and achieving up to a 20x reduction in verification workload time. Our system design and analysis business continued its strong momentum in Q2, delivering 20% year over year revenue growth. As chiplett based architectures gain traction, our industry leading integrated 3 d IC platform had increased adoption and expansion from large deployments at 5 gs hyperscale memory and consumer customers. Our AI enabled Allegro X design platform is being rapidly adopted and driving competitive displacement as multiple aerospace and defense, hyperscalers and EV customers take advantage of the platform's productivity and next generation capabilities.

Speaker 3

Allegro X in design analysis capabilities are also driving a pull through of our multi physics analysis solutions. In Q2, a leading EV auto company forged a strategic partnership with Cadence, making a significant investment across the breadth of our multi physics portfolio. With the close of Beta CAE in Q2, we now offer a comprehensive multi physics platform covering electromagnetics, electrothermal, CFD and structural analysis solutions. Our digital IC and custom businesses delivered another solid quarter. Proliferation of our digital full flow at the most advanced nodes continued with close to 40 full flow wins over the last 12 months, especially at hyperscalers.

Speaker 3

With over 400 tape outs, customers are increasingly relying on Cadence Cerebras, the leading AI tool in the industry, as it continues to deliver amazing PPA and productivity benefits. For example, Cadence Cerebras has been delivering up to a 10% PPA gain for a global marquee systems company and is now deployed as part of the default flow for their latest designs at the most advanced nodes. Samsung Foundry leveraged Cadence Cerebras in both DTCO and implementation to achieve more than a 10% leakage power reduction on their SF2 gate all around platform. ClosureNext utilized service closure and tempest sign off to reduce timing closure time by 73% and double productivity while reducing memory cost by 90%. Our AI driven Virtuoso Studio is the leading automated solution for analog and RF designs.

Speaker 3

And its new AI features allow much more efficient migration from one process node to another. Virtusa Studio added 35 new logos in Q2, led by top hyperscalers, aerospace and defense and automotive customers. In summary, I'm pleased with our Q2 results and the continuing momentum of our business. The AI driven automation era offers massive opportunities and the co optimization of our comprehensive EDA and SDA portfolio with accelerated computing and AI orchestration uniquely positions us to provide disruptive solutions to multiple markets. Now I will turn it over to John to provide more details on the Q2 results and our updated 2024 outlook.

Speaker 1

Thanks, Anuruz, and good afternoon, everyone. I'm pleased to report that Cadence delivered strong results for the Q2 of 2024, finishing the first half with backlog of approximately $6,000,000,000 Also, we expanded our multi physics platform in Q2 by completing the acquisition of BetaCAE. Here are some of the financial highlights from the Q2 starting with P and L. Total revenue was $1,061,000,000 GAAP operating margin was 27.7 percent and non GAAP operating margin was 40.1 percent and GAAP EPS was $0.84 with non GAAP EPS $1.28 Next turning to the balance sheet and cash flow. Cash balance at quarter end was $1,059,000,000 while the principal value of debt outstanding was $1,350,000,000 Operating cash flow was $156,000,000 DSOs were 49 days and we used $125,000,000 to repurchase Cadence shares in Q2.

Speaker 1

Before I provide our updated outlook, I'd like to share some assumptions that are embedded. Our updated outlook includes beta CAE and it contains the usual assumption that export control regulations that exist today remain substantially similar for the remainder of the year. Our updated outlook for 2024 is revenue in the range of $4,600,000,000 to $4,660,000,000 GAAP operating margin in the range of 29.7% to 31.3 percent non GAAP operating margin in the range of 41.7% to 43.3 percent. GAAP EPS in the range of $3.82 to $4.02 non GAAP EPS in the range of $5.77 to $5.97 Operating cash flow in the range of $1,000,000,000 to $1,200,000,000 and we expect to use approximately 50% of our annual free cash flow to repurchase Cadence shares. With that in mind, for Q3, we expect revenue in the range of $1,165,000,000 to $1,195,000,000 GAAP operating margin in the range of 27.7 percent to 29.3 percent non GAAP operating margin in the range of 40.7% to 42.3 percent GAAP EPS in the range of $0.83 to $0.93 and non GAAP EPS in the range of $1.39 to $1.49 And as usual, we published a CFO commentary document on our Investor Relations website, which includes our outlook for additional items as well as further analysis and GAAP to non GAAP reconciliations.

Speaker 1

In conclusion, I'm pleased with our strong Q2 results. We exceeded our outlook on all key financial metrics, a good finish to the first half and ongoing demand for our solutions sets us up for strong growth in the second half of twenty twenty 4. As always, I'd like to close by thanking our customers, partners and our employees for their continued support. And with that operator, we will now take questions.

Operator

Thank you. We will open the line for questions. Your first question comes from Charles Hsie with Needham and Company. Please go ahead.

Speaker 4

Hi, good afternoon. Thanks for taking my questions. Anirudh and John, maybe the first question, I do want to ask a fairly big question, a big picture one. So you did pick up your outlook for the year, but some of that really comes from beta CAE. But the broader question is the semiconductor global semiconductor sales, it's on track to grow a lot faster, let's say, compared with you and your peers synopsis.

Speaker 4

But this seems to me kind of like a reversal of the trend of the last 3 years when you actually did outgrow the semiconductors. But with so much AI being a big driver for semiconductors, we do wonder whether it's either through pricing or through some other measures cadence can actually gain a little bit bigger piece of the pie for overall semiconductor especially from AI. I don't know if you can provide some thoughts today. I'm not necessarily asking how to change the trend in terms of the value capture, but any thoughts would be great. Thanks.

Speaker 3

Yes. Hi, Charles. Thanks for the question. I mean, first of all, I'd like to say that overall we are pleased with how we are performing. If you step back, because you asked a longer term question, right?

Speaker 3

If you step back, we will deliver, we expect more than 13% revenue growth and about 42.5% operating margin. So I think that's a best in class combination of both revenue growth and operating margin. And then if you look at our CAGR over last 3 years, which is one of our kind of favorite metrics, that's also performing pretty well in terms of growth and margin expansion. And you mentioned semi cycle, I mean, it's encouraging to see that there is going to be growth this year, which it was not there last year. But as you well know, Charles, we are tied to the R and D spend more than the revenue of our customers.

Speaker 3

And of course, if the revenue goes up, they are more likely to spend on R and D. But in general, our customers, both system and semi companies, continue to spend on R and D and these are long term projects. So we'll see how that goes as the semiconductor revenue improves, but this is not instantaneous effect on R and D spend. There is always some lag sometimes. And so we really but we are encouraged to see the improvement in semi spending overall in the semiconductor revenue.

Speaker 3

So I would like to say and you can see in our backlog also, we maintain a pretty healthy backlog. So overall, I think things are performing well and this AI is broadening out. I mean, you know this well. AI is broadening out beyond data center, which we are glad to have great partnerships to automotive, to more edge consumer devices like phones and PCs. So overall, I feel pretty good about the industry and of course our position in it as the essential provider of design software.

Speaker 4

Got it. Maybe a quick follow-up on China. It looks like China revenue is still pretty light in the second quarter. So I recall you were thinking maybe China contribution is probably going to be slightly less than the mid teens or less than 15%. But even if let me assume the China revenue gets to like a 14% ish, it still implies a little bit of a second half reacceleration of China revenue growth.

Speaker 4

Is that still the case or you think maybe compared with the 3 months ago, China actually may get a little bit weaker as you previously thought? Thanks.

Speaker 1

Thanks for the question, Charles. And that's I mean regional revenue is notoriously hard to predict. I will say that at the midpoint of our current revenue guide, we only need China to get to 13% of overall revenue to be able to hit that midpoint. I mean, when you look at performance in Q2 and the first half, we had a very strong bookings first half, very pleased with customers' response to our new hardware systems. The IP and SD and A businesses continue to grow strongly.

Speaker 1

Core business continue to scale really well and we're focused on profitable revenue growth. I know in your first question, you indicated that we hadn't raised the outlook, but we did raise non GAAP EPS by 0 point 0 $6 We're very pleased with the improvement in profitability. And when you look at the current guide, we're actually on track for 50% incremental margin excluding the impact of betaCE now. BetaCE is in our guide, but it's in our guide that what we previously communicated in the press release is $40,000,000 of revenue and about $0.12 dilution to non GAAP EPS. There is an impact to op cash as a result of beta CAE as well.

Speaker 1

But overall, very, very pleased. We thought it was prudent to assume lower China revenue for this year at the midpoint of our guide, but that's it. So we only need 13% to get to the midpoint of guidance.

Speaker 4

Thanks, Ani, Ruth and John for the additional color. Appreciate it. Thanks.

Operator

Our next question comes from Gianmarco Conte with Deutsche Bank. Please go ahead.

Speaker 5

Yes. Hi there. Thank you so much for taking my questions. So on my first one, could you talk a little bit about the implied Q4 ramp up to 29% growth at the midpoint of guidance? And what has given you the confidence in reaching the target?

Speaker 5

Is it mostly harder visibility coming through? Or are there an unusually high number of Q4 renewals that you're waiting for? Any color here would be great. Thank you.

Speaker 1

Yes, Jim, Mark. I mean, there's no real change from what we said last quarter. I mean, it's effectively the shape of the revenue curve for the year. We're expecting upfront revenue a lot more upfront revenue in the second half. It's just the timing of shipments really that's upfront revenue typically comes from IP hardware and to a lesser extent some software on the SD and A side.

Speaker 1

With the hardware, it takes time to build the systems. We have higher revenue in Q4 versus Q3 as a result. But also from IP, there's IP is we recognize revenue in IP based on the timing of deliveries. We're confident in that guide. It's just the shape of Q3 and Q4 is what we have in the guide now.

Speaker 5

Okay, great. So my follow-up would be on Honda. If you could talk a little bit about how much visibility you have actually in H2. Are you booking and delivering in the same quarter, hence, why we're not seeing a major uplift in backlog growth? Or is there a different amount to it?

Speaker 5

I'm trying to understand if you're booking, manufacturing and delivering all in the same quarter for hardware essentially? Thank you.

Speaker 1

Thanks for the question. Yes, in some case on the newer systems, there is a time line, a lead time to building the systems. We have more bookings than our ability to actually fulfill those bookings. But we do have some inventory of the older systems. We're able to deliver those in the quarter.

Speaker 1

Yes, I mean, there's always a mix. We did have a challenge in the past with getting inventory and building the inventory as fast as we could for the amount. I think we've dealt with a lot of that. You'll also see in the op cash guide, there's a we're planning to purchase a significant amount of raw materials for building inventory in Q3. That's the biggest portion of the change in op cash guys.

Speaker 3

Also just to add on the overall yeah, hey, just to add on the overall hardware cycle, as you remember, we launched new systems in April, you know, just couple of months ago, few months ago now. And the response to them has been phenomenal. Actually, these palladium, especially both palladium and protium, but these systems can design chips, like I mentioned last time, with capacity of 1,000,000,000,000 transistors and the current biggest chip is like 200,000,000,000 transistors, most of them are 100,000,000,000 or less. So we are 5x to 10x higher capacity than what is needed. So that should suit the industry well for next several years.

Speaker 3

And I'm also pretty pleased about is that we delivered production deployment of our new systems to some very major customers. So we highlighted NVIDIA, our development partner with a significant deployment of Z3, also one of the leading mobile system mobile companies in the world and one of the leading hyperscalers. So it's across multiple markets that we delivered our latest systems, which are performing exceedingly well. So that sets up very well for the future and also competitively. And we have a significant lead given the nature of our systems.

Speaker 3

It's a combination of Protium is based on FPGA and then Palladium is based on our own chip at Advanced TSMC Process. And Cadence is the only solution that does that and provides a unique value. So overall, I think hardware business is performing well. And as you know, these are multi year upgrade cycles. So this is not all in 2024.

Speaker 3

So, we'll see how things go in 2025 and 2016.

Speaker 5

Got it. Thank you.

Operator

Our next question comes from Vivek Arya with Bank of America Securities. Please go ahead.

Speaker 6

Thanks for taking my questions. So on an absolute basis in fiscal 2024, organic sales growth rate is robust, but in terms of revisions, it has stalled, right, essentially no real movement since what you suggested at the start of the year. So I'm curious, Anurag, how has the year transpired versus what you thought? And how do you think about bookings and backlog trends into the second half? Should we expect that backlog stays around the $6,000,000,000 will it start to pick up?

Speaker 6

Just I'm trying to understand that should we be thinking about sales accelerating from here or this being kind of the sustainable growth rate for the company?

Speaker 3

Yes. Hi, Vivek. Good question. So, in general, what I would like to say is, like we mentioned last two times, the shape of the curve this year is unique to cadence, given multiple factors. This is not what we expected last 2 years.

Speaker 3

So this time it's more back end loaded for the reasons we mentioned before. So the guide is a little different and we are also given that shape of the curve more prudent in our guide like we were in Q2 and then we rather overachieve and deliver that and give the team flexibility to do the right business for the long term. So I think that's the difference this year versus last few years is given the shape of the curve, we have more prudence in our revenue guide like John mentioned and John can comment on the backlog expectations.

Speaker 1

Yes. I mean, we don't guide bookings, but we were very pleased with the strong bookings in the first half. And I get the question, Vivek. I mean, essentially, we're seeing strong demand for our hardware systems. We're seeing strength across all our businesses.

Speaker 1

And I guess your question is that when you add in beta CE, you're not really taking the revenue guide up. I think essentially, I mean, if your question is what would we like to see improve, I think it's the China revenue percentage. It was 12% in Q1, twelve percent in Q2. It improved in Q2 over Q1. And we think it will continue to improve through the year.

Speaker 1

But right now, our guide only assume only needs to get to 13% China to hit the midpoint of that guidance.

Speaker 6

And from my follow-up, you mentioned beta CAE quite a drag to EPS. I think you mentioned $0.12 dilution and almost, I think, what is like a $300,000,000 hit to operating cash flows. Can you describe that acquisition a little more? And when does it start to become accretive to your financials? Thank you.

Speaker 1

Yes, Vivek. On the $300,000,000 drop in operating cash, just to clarify that, that about 40% of that $300,000,000 drop is due to M and A. I mean, in things like BDC, some of the purchase price, the geography of where the cash impact goes, it flows some of that payment flows through OpCash. The bigger portion of the impact on operating cash is our plan to purchase a lot of inventory raw materials for the hardware demand that we're seeing. We're pre purchasing a lot of inventory.

Speaker 1

So you'll see our inventory spike in Q3 with all of the raw materials we're purchasing. We want to make sure that we have all the raw materials necessary to ramp up the build out of our hardware systems. And then in relation to BDC, I mean, it's very recent acquisition. It's no different to what we have in the press release. In fact, on the press release, we said we were expecting $40,000,000 of revenue at the midpoint.

Speaker 1

That's embedded now in the guide. We're expecting $0.12 dilution on non GAAP EPS. That's also in the guide now. And we expect it to be I mean, operationally, it will be accretive next year, but there are some interest cost associated with the debt, but we think it will be accretive next year.

Speaker 3

Also a couple of things to clarify. So one thing, this purchase of inventory for the hardware systems, I mean that will be used over multiple years. It's not just for 2024. So I think it's a one time investment that pays for several years and that's a prudent decision to make to get the right kind of parts for the future. And then on beta, it completes our system analysis portfolio to add structural analysis.

Speaker 3

It also strengthens our position in automotive. Of course, data center is a big vertical with all the AI super cycle. But I think one of the other exciting verticals is automotive with all this electrification and also AI getting added in self driving or driver assistance. So we see a lot of design activity in automotive. Also automotive is also moving through chiplets and 3 d IC.

Speaker 3

So I think automotive has all the three tenants of our ISG strategy. It has silicon content that is increasing and more and more system design, of course, is needed for the design automotive and AI for all the data and computational software. So for that reason, beta CAE completes our portfolio in automotive and positions us well in the future. And this is not just with the semiconductor companies doing automotive, but also the system companies now. OEMs doing more and more chip design, doing more of our system solutions.

Speaker 3

And I also want to highlight and congratulate McLaren. There's a big news this weekend. McLaren got 1 and 2 in Hungarian F1. And we have been working with them for last few months years and it's good to see them do well as we deploy. So I think the automotive solution that we are driving is a combination of silicon system and then AI, and we are seeing the results of that through organic and inorganic expansion.

Speaker 7

Thank you.

Operator

Our next question comes from Joshua Tilton with Wolfe Research. Please go ahead.

Speaker 8

Hey guys, can you hear me?

Speaker 1

I'm clear, Josh.

Speaker 8

Great. The first one is just kind of more of a clarification. I know there's been a lot of questions around the mix in upfront versus recurring. I guess what I'm just trying to understand is and I could be wrong with my math here, but it feels like it was the upfront component was still a little light in 2Q and now we're a little bit more second half weighted, more 4Q weighted because you need time to develop inventory. Am I thinking about that the right way?

Speaker 1

That's fair. Josh, I would do the inverse on you in terms of bookings were side But and we are I mean, we're taking orders. We've got strong demand for the hardware and we're building those hardware systems as quickly as we can, particularly the newer hardware orders. IP is doing really well and system design analysis is doing really well. And what we've reflected in the guide is our expectation of how much of that revenue will fall in Q3 and Q4.

Speaker 1

We took the opportunity and we really derisked the guide for the year by reducing our expectations for China. Upfront, we still expect to be in a range of 80% to 85%, But I think we might get slightly more recurring revenue as a result of the strong bookings in the first half.

Speaker 8

That is super clear. And then I guess just my follow-up to that is, I guess it's another visibility question, but how much of what's baked into the guide from an upfront perspective do you feel like you have like good guidance that you put out today still require you to build and develop inventory between now and shipping those boxes?

Speaker 1

Yes. But it's we definitely need to build hardware and you'll see the impact in our inventory in Q3 with the amount of raw materials we're purchasing. But as Anurag says, that's a one time thing that we're doing to try and get raw materials and to build those systems quickly as we can. But the a lot of the upfront revenue in the second half comes from the strength in our IP business. And we have those orders in backlog.

Speaker 1

And it's just a case of executing against those. We also have some SD and A or system design analysis up from revenue that's scheduled to occur in Q3 and Q4. Again, most of that is from orders in the system. On the hardware side, it's kind of mid to high single digits is what we were expecting the SPG group to deliver to be able to hit the midpoint of that guidance.

Speaker 8

Super, super helpful. And then just a quick follow-up is, really awesome to see the recurring revenue growing sequentially this quarter. Is there any way you can maybe help us on what the expected recurring versus upfront mix is supposed to be in 3Q? And then I'll see the floor.

Speaker 1

Oh, I don't have that to hand, but let me come back to that. Let's see if I can take it out here.

Speaker 8

Thanks guys. Congrats.

Operator

Our next question comes from Reuben Roy with Stifel. Please go ahead.

Speaker 9

Yes. Thank you. John, just a very quick question and then I guess a follow-up and then I'll answer a real question. But on the inventory purchases, is am I right in assuming that that's mostly for the Z3, X3? And has anything changed in terms of when you're thinking about general availability of those hardware products?

Speaker 1

Yes, that's correct. But the vast majority of the purchases are to get raw materials to help build those new systems.

Speaker 9

And then in terms of the type?

Speaker 3

Yes. Just to clarify, I mean also, I mean we have 2 systems, right? So, palladiums we design ourselves and we manufacture the chip in TSMC and Protium. We also design ourselves, but the silicon itself is primarily from AMD with Xilinx FPGAs. So a lot of this purchase is for X3s and the FPGAs and that should serve us for multiple years.

Speaker 3

On Z3, like we said, we are already shipping them and they're already deployed in production this quarter. So I think Z3 is slightly different than X3 in terms of the mix of the silicon content, just to clarify that.

Speaker 9

Okay. I apologize, I thought they were going to sort of certain customers are not generally available. But thank you for that. And then the real question just around some of your top customers have been accelerating the rhythm of bringing sort of their very complex chips to market. Nvidia and AMD certainly have accelerated their roadmaps to sort of a 1 year rhythm.

Speaker 9

Are you seeing any changes in sort of the way your business is impacted or affected kind of by the acceleration of their product roadmaps yet?

Speaker 3

Yes. I would like to I think we are seeing more and more design activity, like you said, the rhythm or the cadence of the products and also different kind of chips. It's not just the big data center chips, but even within them, there is more and more customization. Of course, the hyperscale is doing their own silicon. And then now, we talked about our partnership with, for example, Qualcomm, and they are doing consumer or edge laptop AI devices.

Speaker 3

So the amount of AI is also spreading to other verticals, not just the obvious the big one on data center. And data center design is accelerating. And I think when we look at it, we still see that the data center part of AI still should accelerate at least the visibility we have for next couple of years, so we'll see how that goes. And therefore, and the other thing is automotive now automotive takes normally a little longer, but they're already seeing design activity and the deployment maybe few years down, maybe after data center. And then consumer and PCs already starting with phones and laptops.

Speaker 3

So overall, we do see accelerating deployment of AI into the whole semiconductor ecosystem And we are very proud of our position in it, whether it's 3DIC, whether it is data center chips, whether it's our own AI products, we are winning almost all kind of engagements on our kind of Cadence.ai portfolio. So overall, we do see more and more design and deployment of AI infrastructure and our own AI product. And if I

Speaker 1

could just come back to Josh's question on the revenue mix for Q3. But for recurring revenue, we expect, sorry, 80% to 85% of revenue to be recording for the year. And Q3 includes the middle of that range and then the balance is Q4. So you can do the math and work out what the upfront piece is.

Operator

Our next question comes from Jay Vleeschhouwer with Griffin Securities. Please go ahead.

Speaker 10

Thank you. Good evening. Anurub, a question about the evolution of the product portfolio for EDA generally and perhaps for SD and A specifically. What I'd like to ask about is how you're thinking about packaging the products. Over the last year, you've introduced a couple of products with the term studio in the name.

Speaker 10

And I'm wondering if you're thinking about more and more bundling or packaging of that kind via that nomenclature for the EDA products? And then specifically for SD and A, now that you do have multiple codes, how are you thinking about packaging or integrating across the various simulation codes that you've assembled now in acquisition? Then I'll ask my follow-up.

Speaker 3

Yes. Hi, Jay. Good question. So, I mean, as you know, in EDA, when we go to lower nodes, there is more integrated solutions which are required, whether it's digital or analog or verification. And that is further accelerated by use of AI.

Speaker 3

So like Cerebras, for example, in digital will integrate not just place and route, but also synthesis and sign off. So I think that trend is definitely there. And same thing with Verisium, our leading AI product for verification, also integrates the 4 major verification platforms we have. So it is more and more platform driven approach. And we can do that now with SD and A now that we have a complete portfolio.

Speaker 3

And we mentioned like a leading EV company like OEM, one of the leading, the most advanced EV companies deployed our entire portfolio. So as we have a bigger portfolio in SD and A, it does let us do what we have always done in EDA, focus on solutions, not just on individual products and integrate solutions with our own kind of native integration, whether it's analog, digital verification and now with SD and A.

Speaker 7

All

Speaker 10

right. As follow-up, I know it's still quite early in the propagation of AI and ML by you and your peers to the customers. But are you beginning to see any commonality or convergence towards relatively small number of use cases that customers are mostly employing the tools for? And then relatedly, are you also seeing AIML adoption having any meaningful effect on your services revenue?

Speaker 3

Yes, Jay. So, what I would like to say is that the number of use cases I see is increasing at this point. I mean, of course, one of the biggest use case that we started with was digital implementation since it is so kind of heavy kind of design process. So automating the digital implementation process was huge benefit. And we talked even this quarter Cerebras being deployed at 1 of the leading system companies for the default flow also used by Samsung.

Speaker 3

Also you see verification be used by Qualcomm. So I think what is happening in that Cerebras or the implementation use case, 2 things. 1 is that it is going not just for design, but also for DTCO, design technology co optimization, and also for higher level in the design process like floor planning and 3 d IC exploration. So, it's all not just for implementation of the design, but also for architecture and exploration. And the other thing is like there's more workflow automation.

Speaker 3

As customers get used to Cerebras, they are using it not just towards the end of the design process, they're using it right from the beginning throughout the design process. So, it allows us to do more workflow automation. And Cerebras has also evolved to allow much more of an entire workflow rather than a specific implementation use case. And then same thing is happening in terms of more and more use cases, for example, packaging. Allegro X is doing pretty well.

Speaker 3

And recently, one of the leading customers in 3 dIC used its capability to automate, for example, routing, for automating placement, which was not there before in PCB and package design. So, overall, I do think it's maturing of the workflows. And then with these LLMs and Gen AI, we have kind of several workflows for taking spec to RTL and we highlighted some of them last quarter. So I actually do see finally that in the we are always kind of building out the AI infrastructure, these big companies designing chips. But I do see now there's a turning point in deployment of AI for the design process with the initial workflow being Cerebras and digital implementation now to expanding to LLM based spec, expanding to DTCO, expanding to 3DIC, of course, expanding to analog, packaging, verification.

Speaker 3

And we do have the most comprehensive AI portfolio in terms of all 5 major kind of product lines. So actually it's a pretty encouraging view compared to a year ago.

Speaker 10

Thank you, Anurag. Thank you, John.

Operator

Our next question comes from Harlan Sur with JPMorgan. Please go ahead.

Speaker 11

Hi, good afternoon. Thanks for taking my question. Is the bookings profile for the full year still expected to be 40% first half, 60% second half? Because if it is, then that would imply book to bill greater than 1 for the full year, total backlog up about 9% this year to about 6,500,000,000 dollars But I guess how much of that backlog is due to the beta CAE acquisition? What I'm just trying to figure out is ex beta CAE, if core cadence orders and backlog are expected to be up this year, which would continue the strong sort of 6 to 7 year trend of increasing orders and backlog for the team?

Speaker 1

Yes, Hardin. Again, like I say, it's we're not guiding bookings, but we were very, very pleased with the strong first half for bookings. The BetaCE contribution to backlog is very, very small. It's immaterial because betaCE, their revenue is upfront. So that's the upfront piece of the business rather than the recurring revenue.

Speaker 1

But yes, we're very pleased. I mean, you can typically expect us to always be driving for a book to bill of greater than 1, but we don't guide bookings though.

Speaker 11

Okay, perfect. Thank you. Anurud, there's a pretty interesting dynamic with your memory customers, right? They're big customers of your custom product family Virtuoso, but they are moving more and more to advanced digital design, right? The HBM control logic chip, for example, is moving to leading edge technologies and advanced chip design.

Speaker 11

Similarly, with some of your NAND customers, they're moving towards more of this sort of bonded CMOS periphery to array. The periphery chip again is also moving towards advanced digital design as well. So are you starting to see more adoption of your advanced digital implementation and verification products by your memory customers? And then does the leadership in memory via Virtuoso sort of give you an advantage as they bring on more advanced logic design capabilities?

Speaker 3

Yes, Harlan. That's a great observation. And we are fortunate to have very deep and long standard partnership with all the major memory companies. At least there are 3 big ones and then maybe 2 to the next level. But overall, we are given our strength like you mentioned in Virtuoso, which is the platform for choice for all memory implementation.

Speaker 3

And yes, there is a lot more digital and implementation design happening at memory companies, primarily driven by HBM and other trends. And actually, also there is some kind of I mean, they were always doing digital, but it's a lot more now. And there is trend of even integrating TSMC's technologies with kind of Emory. And given our strong partnership with TSMC, that also helps us with the memory companies. And as you know, they are also doing a lot more CDIC, all the 3 big memory companies.

Speaker 3

And these memory layers are going from they are actually one of the most advanced 3 d IC with the memory layers going from 8 to 12. And that also plays to our trends. And even in my prepared remarks, I mentioned, for example, our partnership with Samsung and 3DIC. And then so it's true with the other kind of 2 major players in memory. So we are pleased in our position in memory and the emerging trends of HBM and 3 d IC integration, and we'll see how that progresses.

Speaker 3

But I think memory is often overlooked in I don't need to tell you, but just in general, memory is often overlooked in the big AI super cycle. It's not the big chips, logic chips, but memories play a very essential role and we are very well positioned both with the leaders like NVIDIA on the logic side and then we highlighted Samsung and the other big memory players in general.

Speaker 11

Thank you for the insights.

Operator

Our next question comes from Jason Celino with KeyBanc Capital Markets. Please go ahead.

Speaker 12

Great. Thanks for taking my questions. So lots of questions so far on the hardware timing, but I think John on prior calls you said that the hardware delivery times typically are like 8 to 10 weeks. That's what it is for like a normal cycle. But are you saying the lead times for the Z3, X3 are longer than this because the demand is much better than what you're seeing?

Speaker 1

Demand is strong. Demand is strong. What I was trying to point out was that we do have inventory of the older systems that we can deliver right away. The newer systems, we're having to build them as quickly as we can because the orders are coming in faster than we can build them. So the lead times is a bit of a moving target in that respect.

Speaker 1

We are planning to purchase a lot of raw materials and build as quickly as we can in Q3. So you'll see a significant uptick in our inventory balance at the end of Q3.

Speaker 12

Okay. No, that's helpful. And then just a clarification, I think you were saying like the SBA group to hit your guide needed to do like mid to high single digit growth. I'm not familiar with SDG. Is that the functional verification kind of guide for the year?

Speaker 12

And then if you're parsing out, like does that imply like what do we need

Speaker 5

to see on IP since that's the

Speaker 12

other upfront component to hit the guide? Thanks.

Speaker 1

Yes, that's fair. That's, yes, IP is having a really, really strong year as is system design analysis. They'll be our 2 fastest growers for the year. And then again, there's some upfront revenue from them. It's more weighted towards Q4 versus Q3.

Speaker 1

So we have the shape of the curve is really driving our guide. And I would clarify I would categorize it as prudent. Anurud, would you add anything?

Speaker 3

No, that's right, John. And sorry for the acronym. SVG is system verification group. So when we say SVG, that means verification. So I think that's what John was implying.

Speaker 3

Verification should grow, but right now we are not assuming massive growth in verification for this year. But it should grow compared to last year. And then like you mentioned, some of the upfront revenue is also IP. If you remember, we highlighted in Q1 a new partnership with Intel and they are we are deploying our IP portfolio for the Intel process. So it takes time to do that and deliver to that and some of it is in Q3 and Q4.

Speaker 3

And also this time we talked about our expansion partnership with Intel on both on EMIP, their packaging and 3DIC platform and 18A. Just to clarify the

Speaker 12

Great, Stefan. Yes, thanks for the lingo acronym help. Andrew, very helpful.

Operator

Our next question comes from Lee Simpson with Morgan Stanley. Please go ahead.

Speaker 7

Great. Thanks for fitting me in and well done on a good quarter. Just wanted to get some clarification. I don't know if I heard correctly, but I think I heard you say that a mobile OEM had taken the Z3 platform. And if that's the case, do you have a sense for what the emulation work might be?

Speaker 7

Would it be for chips on device or would it be for chips both on device and perhaps in, let's say, a network situation? Thanks.

Speaker 3

Well, good question. We don't comment on individual customer or specific customer use cases. But in general, these hardware systems, as you know, are used both for chip design and for system software bring up. So both use cases are there and we are the leading platform given Palladium and Proteum. And this is true for all, even in the AI use case, even in the data center AI use case, a lot of it is for software development.

Speaker 3

Actually, Palladium is the platform for choice to even our AI chip customers to give a model to their customers, because even before they have a chip, they can give a Palladium model to see how it performs. So it's both for chip design and also for system design and system software. And that's true for multiple multiple major verticals, data center, mobile, automotive, these things. Yes. Thank you.

Speaker 7

Yes. Thanks. Just on those multiple verticals, if we look at the incidence of 3 d ICs coming through, I get the sense that that's starting to hit the tape now in automotive. You have mentioned EV Companies as a collaboration of late, but you have mentioned a number of chipmakers also. I wonder if it's possible at this point or even if it's relevant to just maybe talk about the split between the customers.

Speaker 7

Are we talking system customers, I. E. OEMs and Tier 1s in the majority right now? Or is it still major semi chipmakers for the automotive work? Thanks.

Speaker 3

Great question. So first to, yes, like you correctly pointed out, I think the 3 d IC is a lot more prevalent in automotive than let's say 6 to 12 months ago. And of course the original genesis is HPC and data center AI, but now all these chiplets and 3 d IC platforms are moving to automotive, okay? And I think over time, we'll move to other verticals like consumer. They already moved to laptop, for example.

Speaker 3

There's several of the laptop chips are 3 d IC, but I think that will be the progression. It will gradually go to all verticals, but it's definitely active in automotive Because as you know, with the chiplet architecture, the customer doesn't have to redesign all the chips and also they can use some standard chips and have some specific chips which are more value added for them. And that's particularly true in automotive as each OEM wants to differentiate versus the other OEM. So this trend is not just for semi companies to your question, it's also there in OEMs. And I think that's even more I do think that the 3 d IC trend makes even more sense for end OEMs because then they're able to customize and differentiate versus the other.

Speaker 3

So we are seeing that and we are seeing that in other geographies as well Because as you know, China is pretty good strong in EVs and then U. S. And then Japan, there's a lot of activity. So overall, I think automotive, there is more activity on 3DIC, including both semi and OEMs.

Speaker 7

Great. Thanks, Anurag. Great color.

Operator

Our next question comes from Clark Jefferies with Piper Sandler. Please go ahead.

Speaker 13

Hello. Thank you for taking the question. My first question is, Anurud, how do you expect the delivery of these 3rd generation systems to translate to additional software consumption in the recurring revenue portfolio? These products are happening with verification acceleration software bring up, but how do you see that additional consumption panning out after the delivery of a new ZRX system? And then I have one follow-up.

Speaker 3

Yes, great question. I mean, like what John was saying, when we say SVG, System Verification Group, so hardware is a part of that group. Even though hardware is a significant business, we organize it as part of verification. And one of the big reasons for that is apart from in verification, apart from the hardware systems, we have a lot of other verification products, which are doing pretty well like Jasper for formal verification, Exelium for logic simulation. And the customer is looking for an integrated solution on verification.

Speaker 3

To the earlier question that Jay had about what is happening in SDA, in EDA we always have believed for last several years that it's going to be integrated solution in verification. So the stronger our hardware products get, we do expect it should help our software verification products, things like Exelium and Jasper and Verisium, because a lot of some of the hardware capacity is also used for what is called SimExcel, simulation acceleration, in which they use Palladium to accelerate logic simulation. So, there is a natural tie in between verification software products and verification hardware products. Now, exactly how it pans out, we just have to see, but the strength in hardware should help us in our overall portfolio strength.

Speaker 13

Perfect. And then one follow-up for John. I think just to kind of finally put a cap on the whole discussion around timing. I guess then is it fair to say that that sort of $600 odd 1,000,000 of upfront revenue in the second half, maybe a majority of that is coming from IP and SC and A and not necessarily the Gen 3 systems and that maybe the interpretation is that there's going to be more of a demand curve in the beginning of 2025 rather than this $600,000,000 being strongly driven by 3rd gen Palladium and Proteum. Is that a fair takeaway?

Speaker 1

I think that is, Clark. Yes, that's exactly right. I mean, we always knew that it would take time to build the hardware system. So we originally included that in our guide in the first place.

Speaker 13

All right. Thank you for taking the question.

Operator

Our final question comes from Joe Vruwink with Baird. Please go ahead.

Speaker 14

Great. Thanks for fitting me in. I did want to follow-up and stay with verification and just this raw material investment. So the thing I'm trying to reconcile is, I would imagine you entered this year expecting inventory. So I guess I'm wondering what changed in the quarter that warranted this updated assumption for cash flow and raw material purchase?

Speaker 14

And really at the heart of the question, did something change about your hardware demand expectation, not necessarily for 2024, but maybe out into 2025. And we just happen to be getting that news now because of the need to inventory input? Yes, it's a

Speaker 1

great question, Joe. I mean, the leaders of that business, I spent plenty of time with them this last quarter, because they were monitoring what the demand was like for the new systems. Demand is quite strong. And then the key thing to highlight here is it's a one time multiyear purchase of inventory raw materials. They feel very, very confident in the longevity of these systems and the longevity of that demand.

Speaker 1

And they wanted to prepurchase multi years of inventory in Q3. Now that was news to us, if you like. So we thought that one time thing, we wanted to include it all now in Q3 and not impact that doesn't impact next year. I mean, it will be favorable for next year's operating cash.

Speaker 7

Okay, great.

Speaker 14

Then lastly, you mentioned at the start, orders for Cadence dotai tripled year over year. I don't think that's possible without also getting a lift in the base business, both across EDA and SD and A. I guess on an ACV run rate basis, what has the AI lineup meant for Cadence overall? And does this create a step up in value where as you start pulling these contracts from backlog in coming quarters, it will become more noticeable in revenue and we'll kind of see the AI contribution more than we have to this point?

Speaker 3

Yes. Good question. I mean AI is adding like I was mentioning before, I mean, it's almost become like table stakes now. So, all our new contracts include our Cadence dotai portfolio as customers get more and more kind of used to using them. And once you start using the AI portfolio, it's difficult to go back to not using them.

Speaker 3

So, without getting into like what happens exactly to future revenues and bookings, we are always cautious about that. But in general, there is uptick with more customers deploying AI. And whenever we have new contracts, we are including them as it makes sense in them.

Speaker 14

Okay. Thank you very much.

Operator

I will now turn the call back to Anurud Devgan for closing remarks.

Speaker 3

Thank you all for joining us this afternoon. It's an exciting time for Cadence with strong business momentum and growing opportunities with semiconductor and system customers. With a world class employee base, we continue delivering to our innovative roadmap and working hard to delight our customers and partners. On behalf of our Board of Directors, we thank our customers, partners and investors for their continued trust and confidence in Cadence.

Operator

Thank you for participating in today's Cadence Q2 2024 Earnings Conference Call. This concludes today's call. You may now disconnect.

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Earnings Conference Call
Cadence Design Systems Q2 2024
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