Mentor Graphics Reports Fiscal Fourth Quarter Results and Announces Board Has Increased Share Buyback Authorization

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28 February 2012

Financial News

Mentor Graphics Reports Fiscal Fourth Quarter Results and Announces Board Has Increased Share Buyback Authorization

Mentor Graphics Corporation announced financial results for the company’s fiscal fourth quarter and year ended January 31, 2012. The company reported revenues of $320.4 million, non-GAAP earnings per share of $.58, and GAAP earnings per share of $.52. For the full fiscal year, revenues were $1,014.6 million, non-GAAP earnings per share were $1.13, and GAAP earnings per share were $.74.

“It was a quarter and a year of records for the company, including the significant milestone of crossing one billion dollars in revenues,” said Walden C. Rhines, chairman and CEO of Mentor Graphics. “We exited the year with very strong momentum as our strategy of diversification has driven growth in non-traditional EDA applications like manufacturing, thermal analysis and embedded software, all of which grew bookings faster than the overall company. Additionally, the growing complexity of chips and the challenges of the 28nm and 20nm process nodes have generated substantial demand for both our functional verification and our design-to-silicon products.”

For the full fiscal year, the company grew staffing 1.4%, including acquisitions, while growing revenues 10.9%. Non-GAAP operating margins for the year reached 16.5% and 11.1% on a GAAP basis. For the fourth quarter, operating expense was flat year-on-year on a non-GAAP basis, and up 2.3% on a GAAP basis. For the full fiscal year, non-GAAP operating expense was up 3.0%, and 3.3% on a GAAP basis.

During the quarter, the company announced the Hyperlynx® 8.2 product which now offers three-dimensional full-wave field solving and thermal/power co-simulation capability. The company also announced a partnership with Freescale Semiconductor to deliver high-speed simulation and virtual prototyping environments for next-generation Freescale multi-core embedded processors. In December, Mentor acquired Flowmaster, a world leader in one-dimensional computational fluid dynamics simulation software used to analyze complex fluid flow network systems. Also in the quarter, the company announced a new version of its three-dimensional computational fluid dynamics simulation software that offers new analytic capabilities for radiation, combustion and hypersonic flows. The company introduced the first solution that addresses the challenges of light emitting diode (LED) and semiconductor packaging thermal characterization, combining the FloTHERM® and T3ster® products. In manufacturing, the company announced Capital Harness MPM, a product that helps wire harness manufacturers cut production costs.

“The company has delivered significant improvements in our SG&A to revenues ratio over the year, driven by both strong cost controls and improvements in the business,” said Gregory K. Hinckley, president of Mentor Graphics. “We made great strides this year toward the company’s goal of achieving 20% operating margins, and with incremental improvements, expect to achieve that target in FY2014. With continued discipline in the business, we expect to grow earnings per share at twice the rate of revenue growth in the coming fiscal year. Our past investments in a multi-tiered sales channel allow us to address the universe of tens of thousands of systems companies versus the hundreds of semiconductor companies which gives us, uniquely among our competitors, the reach to penetrate traditionally under-served adjacent design markets.”

Outlook

For the full fiscal year 2013, the company expects revenues of about $1.1 billion, non-GAAP earnings per share of about $1.32, and GAAP earnings per share of approximately $1.13. For the first quarter of fiscal 2013, the company expects revenues of about $255 million, non-GAAP earnings per share of about $.25, and GAAP earnings per share of approximately $.19.

Share Repurchase Authorization

The company’s board has increased the share repurchase authorization to $200 million from the original $150 million. During fiscal year 2012 the company repurchased 6.8 million shares for $90 million at an average cost of $13.22 per share. Under this increased authorization, $110 million is available for share repurchase over the next two years.

Fiscal Year Definition

Mentor Graphics’ fiscal year runs from February 1 to January 31. The fiscal year is dated by the calendar year in which the fiscal year ends. As a result, the first three fiscal quarters of any fiscal year will be dated with the next calendar year, rather than the current calendar year.

Discussion of Non-GAAP Financial Measures

Mentor Graphics’ management evaluates and makes operating decisions using various performance measures. In addition to our GAAP results, we also consider adjusted gross margin, operating margin, net income (loss), and earnings (loss) per share which we refer to as non-GAAP gross margin, operating margin, net income (loss), and earnings (loss) per share, respectively. These non-GAAP measures are derived from the revenues of our product, maintenance, and services business operations and the costs directly related to the generation of those revenues, such as cost of revenue, research and development, sales and marketing, and general and administrative expenses, that management considers in evaluating our ongoing core operating performance. These non-GAAP measures exclude amortization of intangible assets, special charges, equity plan-related compensation expenses, interest expense attributable to net retirement premiums or discounts on the early retirement of debt and associated debt issuance costs, interest expense associated with the amortization of debt discount and premium on convertible debt, and the equity in income (loss) of unconsolidated entities (except Frontline PCB Solutions Limited Partnership (Frontline)), which management does not consider reflective of our core operating business.

Management excludes from our non-GAAP measures certain recurring items to facilitate its review of the comparability of our core operating performance on a period-to-period basis because such items are not related to our ongoing core operating performance as viewed by management. Management considers our core operating performance to be that which can be affected by our managers in any particular period through their management of the resources that affect our underlying revenue and profit generating operations during that period. Management uses this view of our operating performance for purposes of comparison with our business plan and individual operating budgets and allocation of resources. Additionally, when evaluating potential acquisitions, management excludes the items described above from its consideration of target performance and valuation. More specifically, management adjusts for the excluded items for the following reasons:

•Identified intangible assets consist primarily of purchased technology, backlog, trade names, and customer relationships. Amortization charges for our intangible assets can vary in frequency and amount due to the timing and magnitude of acquisition transactions. We consider our operating results without these charges when evaluating our core performance due to the variability. Generally, the most significant impact to inter-period comparability of our net income (loss) is in the first twelve months following an acquisition.

•Special charges primarily consist of restructuring costs incurred for employee terminations, including severance and benefits, driven by modifications of business strategy or business emphasis. Special charges may also include expenses incurred related to potential acquisitions, excess facility costs, and asset-related charges. Special charges are incurred based on the particular facts and circumstances of acquisition and restructuring decisions and can vary in size and frequency. These charges are excluded as they are not ordinarily included in our annual operating plan and related budget due to the unpredictability of economic trends and the rapidly changing technology and competitive environment in our industry. We therefore exclude them when evaluating our managers' performance internally.

•Equity plan-related compensation expenses represent the fair value of all share-based payments to employees, including grants of employee stock options and restricted stock units. We do not consider equity plan-related compensation expense in evaluating our manager’s performance internally or our core operations in any given period.

•Interest expense attributable to net retirement premiums or discounts on the early retirement of debt, the write-off of associated debt issuance costs and the amortization of the debt discount and premium on convertible debt are excluded. Management does not consider these charges as a part of our core operating performance. The early retirement of debt and the associated debt issuance costs are not included in our annual operating plan and related budget due to unpredictability of market conditions which could facilitate an early retirement of debt. We do not consider the amortization of the debt discount and premium on convertible debt to be a direct cost of operations.

•In connection with the Company’s acquisition of Valor on March 18, 2010, we also acquired Valor’s 50% interest in Frontline, a joint venture. We report our equity in the earnings or losses of Frontline within operating income. We actively participate in regular and periodic activities such as budgeting, business planning, marketing and direction of research and development projects. Accordingly, we do not exclude our share of Frontline’s earnings or losses from our non-GAAP results as management considers the joint venture to be core to our operating performance.

•Equity in earnings or losses of unconsolidated entities, with the exception of our investment in Frontline, represents our equity in the net income (loss) of a common stock investment accounted for under the equity method. The carrying amount of our investment is adjusted for our share of earnings or losses of the investee. The amounts are excluded from our non-GAAP results as we do not control the results of operations for this investment and we do not participate in regular and periodic operating activities; therefore, management does not consider these businesses a part of our core operating performance.

•Income tax expense (benefit) is adjusted by the amount of additional tax expense or benefit that we would accrue if we used non-GAAP results instead of GAAP results in the calculation of our tax liability, taking into consideration our long-term tax structure. We use a normalized effective tax rate of 17%, which reflects the weighted average tax rate applicable under the various jurisdictions in which we operate. This non-GAAP tax rate eliminates the effects of non-recurring and period specific items which are often attributable to acquisition decisions and can vary in size and frequency and considers our U.S. loss carryforwards that have not been previously benefited. This rate is subject to change over time for various reasons, including changes in the geographic business mix and changes in statutory tax rates. Our GAAP tax rate for the year ended January 31, 2012 is a benefit of (1)%. The GAAP tax rate considers certain mandatory and other non-scalable tax costs which may adversely or beneficially affect our tax rate depending upon our level of profitability in various jurisdictions.

In certain instances our GAAP results of operations may not be profitable when our corresponding non-GAAP results are profitable or vice versa. The number of shares on which our non-GAAP earnings per share is calculated may therefore differ from the GAAP presentation due to the anti-dilutive effect of stock options and restricted stock units in a loss situation.

Non-GAAP gross margin, operating margin, and net income (loss) are supplemental measures of our performance that are not required by, or presented in accordance with, GAAP. Moreover, they should not be considered as an alternative to any performance measure derived in accordance with GAAP, or as an alternative to cash flow from operating activities as a measure of our liquidity. We present non-GAAP gross margin, operating margin, and net income (loss) because we consider them to be important supplemental measures of our operating performance and profitability trends, and because we believe they give investors useful information on period-to-period performance as evaluated by management. Non-GAAP net income (loss) also facilitates comparison with other companies in our industry, which use similar financial measures to supplement their GAAP results. Non-GAAP net income (loss) has limitations as an analytical tool, and therefore should not be considered in isolation or as a substitute for analysis of our results as reported under GAAP. In the future we expect to continue to incur expenses similar to the non-GAAP adjustments described above and exclusion of these items in our non-GAAP presentation should not be construed as an inference that these costs are unusual, infrequent or non-recurring. Some of the limitations in relying on non-GAAP net income (loss) are:

•Amortization of intangibles represents the loss in value as the technology in our industry evolves, is advanced, or is replaced over time. The expense associated with this loss in value is not included in the non-GAAP net income (loss) presentation and therefore does not reflect the full economic effect of the ongoing cost of maintaining our current technological position in our competitive industry, which is addressed through our research and development program.

•We regularly engage in acquisition and assimilation activities as part of our ongoing business and regularly evaluate our business to determine whether any operations should be eliminated or curtailed. We therefore will continue to experience special charges on a regular basis. These costs also directly impact our available funds.

•Our stock incentive and stock purchase plans are important components of our incentive compensation arrangements and will be reflected as expenses in our GAAP results.

•Our income tax expense (benefit) will be ultimately based on our GAAP taxable income and actual tax rates in effect, which often differ significantly from the 17% rate assumed in our non-GAAP presentation. In addition, if we have a GAAP loss and non-GAAP net income, our non-GAAP results will not reflect any projected GAAP tax benefits. Similarly, in the event we were to have GAAP net income and a non-GAAP loss, our GAAP tax expense would be replaced by a credit in our non-GAAP presentation.

•Other companies, including other companies in our industry, calculate non-GAAP net income (loss) differently than we do, limiting its usefulness as a comparative measure.

For FINANCIAL TABLES in the unabridged press release click HERE

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