Bull of the day: Cadence Design Systems (CDNS) – September 27, 2022

I last wrote about Cadence Design Systems (CDN Free Report) in early August after another stellar quarterly report put the stock back in the upper tiers of the Zacks rankings for positive earnings estimate (EER) revisions.

As the current bear market ravages technology and semiconductor companies like Nvidia (NVDA Free Report), it’s time to take stock of this $50 billion provider of Electronic Design Automation (EDA) and System Design Enablement (SDE) software tools for semiconductor manufacturers. -drivers.

Cadence calls their unique brand and platform capabilities strategy for chipmakers Intelligent System Design.

In fact, NVIDIA is a Cadence customer precisely because Jensen Huang and his engineering teams are so focused on simulating all facets of their chip design and testing.

Through its smart systems design strategy, the company offers software, hardware and reusable IC design blocks to electronic systems and semiconductor customers.

Cadence’s leading EDA software and services enable engineers to develop different types of integrated circuits. Its design IPs are directly integrated into the ICs.

Here’s what I wrote in May when I recommended CDNS stocks near $130 and they broke above $190 in mid-August before the current market rout…

Link between software and industrial design

Software for designing semiconductors has become increasingly important for at least 3 reasons…

First, transistor architecture has slipped to sub-microscopic levels below 10 nanometers, smaller than the coronavirus.

Second, the proliferation of automotive, mobile, home, factory, and data center applications is accelerating demand and custom solutions for OEMs.

Third, the engineering, testing, and simulation of these ultra-miniature designs are critical before they are shipped to a chip foundry, or “fab.”

(end of May notes)

Beat and increase the quarter

On July 25, Cadence reported second-quarter non-GAAP earnings of $1.08 per share, up from $0.86 a year earlier, beating Zacks’ consensus estimate by 11.3% and rising by 26% year over year.

Revenue for the June quarter totaled $857.5 million, compared to $728.3 million a year earlier. Revenue beat the Zacks consensus estimate by 2.45% and grew 18% year-over-year.

Sales benefited from continued strength in all segments, driven by increased demand for its products. CDNS ended the quarter with an order backlog of $5.6 billion.

Driven by strong second-quarter results, the company raised its 2022 outlook. $3.435 billion. Zacks’ consensus estimate for 2022 revenue is currently pegged at $3.4 billion, indicating 13.8% year-over-year growth.

The company expects third-quarter earnings per share of $0.94 to $0.98 on revenue of $860 million to $880 million. Consensus estimates are for normalized EPS of $0.90 and revenue of $832.3 million.

For the full year, EPS is expected to be between $4.06 and $4.12 versus prior consensus estimates of $3.92 per share.

Acquisition of OpenEye scientific software

Cadence also announced that it has reached an agreement to buy private computational molecular design company OpenEye Scientific Software for approximately $500 million in cash.

OpenEye’s services are used by pharmaceutical and biotechnology companies for drug discovery. The transaction is expected to generate “intangible revenue” in 2022 and about $40 million in fiscal 2023, Cadence said.

This offer particularly excited me for two reasons:

1) As a portfolio manager for Zacks Healthcare Innovators, I am very interested in companies that are creating platform technology expertise in the exciting new eras of genomics and protein folding.

2) This move reinforces the company’s mission as being fundamentally focused on software for all industries, not just the semiconductor vertical markets it already serves. It is only natural that this platform expertise in simulation moves towards biosimulation where billions of protein combinations must be navigated.

The acquisition aims to accelerate Cadence’s intelligent systems design strategy and expand its total addressable market. The company wants to expand its reach into the molecular modeling and simulation market as pharmaceutical and biotechnology companies leverage computational software solutions for drug discovery.

And here’s the update after the deal closes on September 1…

Cadence Design Completes Acquisition of OpenEye Scientific

CDNS announced that it has completed the acquisition of OpenEye Scientific Software. Addition of OpenEye technologies and team accelerates Cadence’s smart systems design strategy by extending Cadence’s core computational software competency to life science-focused molecular modeling and simulation .

Excerpt from the company’s press release of 1/9…

“The acquisition will enable pharmaceutical and biotechnology companies to benefit from more robust drug discovery solutions that combine OpenEye’s innovative molecular modeling and simulation software solutions for drug discovery with Cadence’s algorithmic and problem-solving expertise. , an efficient big data management infrastructure, and leading artificial intelligence/ML and cloud solutions.”

Performance details

In the second quarter, product and maintenance revenue (93.6% of total revenue) of $802.3 million increased 16.6% year over year. Services revenue (6.4%) of $55.2 million increased 36.7% over the year-ago quarter figure.

Geographically, Americas, China, Rest of Asia, Europe, Middle East and Africa (EMEA) and Japan contributed 45%, 13%, 18% respectively , 18% and 6% to total turnover for the quarter under review.

In terms of products, custom IC design and simulation, digital IC design and approval, functional verification, intellectual property, and system design and analysis contributed 23% respectively. , 27%, 24%, 14% and 12% of total revenue.

The company’s digital and endorsement businesses delivered 14% year-over-year revenue growth. Digital Full Flow saw strong traction with 25 new customers won in the first half of the year. The company’s Cadence Cerebrus solution has been accelerated and deployed by multiple customers including Intel, NVIDIA, Broadcom, Samsung and Renesas.

The Palladium and Protium (particularly Z2 and X2) platforms have seen continued momentum with many contracts won. The company noted that it won 10 new customers and 50 repeat orders in the second quarter, with more than two-thirds for both platforms. Most of the contracts won were from hyperscale, AI/ML and server customers.

During the quarter under review, the company launched 15 verification IP solutions that enable industrial, automotive, hyperscale data center and mobile customers to develop system-on-chips.

Cadence’s systems design and analysis business segment grew 29% year-over-year.

During the quarter under review, total non-GAAP costs and expenses increased 12% year over year to $493.9 million.

Non-GAAP gross margin contracted 120 basis points (bps) to 90.6%, but non-GAAP operating margin increased 300 bps year on year to 42.4% in the quarter under review.

Balance sheet and cash flow

As of July 2, 2022, the company had cash and cash equivalents of approximately $1.03 billion, compared to $1.135 billion as of April 2, 2022.

The company’s long-term debt was $348 million as of July 2, 2022, compared to $347.8 million as of April 2, 2022.

The company generated operating cash flow of $661.1 million in the current quarter, compared to $588.8 million in the prior quarter. Free cash flow in the quarter under review was $301 million, compared to $319 million in the prior quarter.

The company repurchased shares worth about $320 million in the second quarter.

2022 outlook raised

In addition to the previously mentioned revenue and EPS guidance, Cadence provided these forward-looking details on its performance…

For 2022, non-GAAP operating margin is forecast in a range of 39.25-40.25% versus the previously guided range of 38.5-40%.

For 2022, operating cash flow is expected to be $1.2 billion. Management plans to use the free cash flow generated to repurchase shares worth approximately $900 million.

Non-GAAP operating margin is expected between 37% and 38% for the third quarter. The company plans to repurchase shares for at least $150 million in the next quarter.

Analyst reaction

KeyBanc analyst Jason Celino reiterated his rating of overweight and $215 PT in August, citing these drivers of growth and profitability…

Rising silicon content in automobiles, autonomous driving, IoT, AI/ML designs and increasing complexity in chip design provide multi-year tailwinds for growth.
EDA tailwinds + internal process improvements for greater efficiency + continuous execution = path to a high OM of 30% over the next two to three years.
Expansion into system analytics offers additional growth opportunities

Needham analyst Charles Shi raised the company’s price target on Cadence Design to $200 from $193 and retains a buy rating on the stock. The analyst cites the company’s second quarter “beat and rebound” while noting that the stock may have bottomed recently. Shi adds that he’s “encouraged” by Cadence Design’s impression and also thinks the best time to bottom-fish semiconductor stocks may come sooner than many investors think.

I agree with Shi. And investors can get one more hit and buy cheaper tokens after the NVDA warning.

Disclosure: I own CDNS shares and may be able to enter NVDA shares again soon.

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