Commentary: EDA Industry Update May 2005 -- What did the Last Quarter Bring?

It wasn't good news out of the Conference Board, either, on May 19, 2005. Its index of leading indicators, which is designed to forecast economic activity six to nine months ahead, fell for a fourth straight month, slipping 0.2% in April. The index of leading indicators fell in April after a downwardly-revised 0.6% drop in March from 0.4% previously, the private research group said. February index was revised to show a 0.1% decline. "The leading economic indicators show a definite loss of forward momentum," said Ken Goldstein, chief economist for the board. "The decline in the leading index indicates that the economy is losing some steam." "The leading index is consistent with annualized gross domestic product growth falling to less than 2% in the second half of the year," said Josh Shapiro, chief economist for MFR Inc.

The poor health of the country's manufacturing sector again came into focus on May 19, 2005, after the Federal Reserve Bank of Philadelphia revealed a marked slowdown in factory activity in its region. The Philly Fed index fell to 7.3 in May from 23.5 in April, its lowest reading since June 2003. The fall was much steeper than expected.

The lack of profitability is not the reason relatively few new jobs are being created. U.S. corporations' before-tax profits rose a record 23.6% to $1.307 trillion annualized in the first quarter of 2005. The increase brought the year-over-year growth up to 35.9%, the fastest profit growth since the third quarter of 1987. Economists at Bear Stearns noted that corporate profits as a share of GDP have risen to the highest level in over 37 years.

Consumer Confidence has been steadily deteriorating. US consumer sentiment fell for the fifth straight month in mid-May 2005 to its lowest level in two years, according to the May 13, 2005 announcement by researchers at the University of Michigan. The consumer sentiment index fell to 85.3 in from 87.7 in April. That's the lowest since the start of the Iraq War in March 2003. The decline in the sentiment index was driven by the expectations index, which dropped to 73.7 in May from 77.0 in the previous month, the lowest since March 2003. The current conditions index fell to 103.3 in May from 104.4 in April, the lowest since December 2003. "The consumer numbers out there were very frightening," said Chris Johnson, manager of quantitative analysis at Schaeffer's Investment Research in Cincinnati. "The consumer is in the driver's seat in this economy, and a lot of big names depend on healthy consumer spending." Despite the slightly improved stock markets in the last two weeks, the late-May consumer sentiment index came in on May 27, 2005 at only 86.9, a meager 1.6 points above mid-May.

While crude oil prices are about $7 lower than their all-time high of $58.28 set April 4, 2005, they still closed May 27, 2005 at a burdensome $51.85 a barrel, just as the summer demand got underway over the Memorial Day weekend.

The NASDAQ closed on May 31, 2005 at 2068, up a little in the past couple of weeks. Nevertheless, it still stood 4.9% below the beginning of 2005. And it's still an enormous 25% shy of its 2757 level of January 22, 2001, just to choose a date.

The above sets out some of the difficulties that the EDA Industry, its strategic partners, and most importantly, its customers will have to contend with to succeed in today's economy.

#### tracks the financial performance of some seventeen (17) public companies across the broader electronics tools market, from which we had arbitrarily selected nine (9) to represent EDA vendors in the software & programming industry.

Taken together, three of these EDA companies (Cadence, Mentor Graphics, and Synopsys) represent a dominant 85 to 90 percent of the total revenue in this grouping, and each of these three companies offers a wide array of software products and services.

The remaining six (6) EDA public companies selected - Altium, Ansoft, Magma, Nassda, Synplicity, and Verisity - offered specialized software/services products in specific EDA niches. Combined, they generate the remaining 10 to 15 percent of the revenue of the nine companies originally considered here. Not infrequently, some of these six smaller companies partner with one or more of the Big Three (Cadence, Mentor, Synopsys) to provide end-customers with broader solution suites. (Of course, the possibility always remained (an remains) that one or more of the smaller companies could become acquisition candidates for the Big Three as well - see reference to Nassda and Verisity above).

The collective annual revenue of the originally-selected nine EDA companies worldwide was just north of $3 billion, a total which compares favorably to the combined ~$4 billion in annual revenue created by the eight MCAD companies covered in May 2003 and the nine MCAD companies covered quarterly since August 2003. However, even the pooled ~$7 billion in revenues of both of the selected MCAD and EDA company groupings pales in comparison to the $190 billion or so spent globally on an annual basis across all categories of software.

As with MCAD software, however, the importance of the EDA software niche lies in the leverage it provides to users applying the tools. EDA helps to create the electronic integrated circuits, microprocessors, memories, boards, MCMs, computers, PDAs, cell phones, automotive electronics and avionics, smart appliances, and other such electronic systems now clearly omnipresent in our everyday lives. Indeed, most of products mentioned above are electromechanical - demanding a smooth merger of EDA and MCAD software tools (still an objective yet to be fully realized).

Both MCAD and its slightly more youthful companion industry of EDA are arguably responsible for enabling virtually all contemporary design - analysis - manufacturing industries - industries which are key to creating real productivity and national wealth in every modern economy.

Note: Lawsuits; acquisitions of outside public & private companies; acquisitions of intellectual property; purchases of other assets; strategic changes in pricing and software license/lease practices; and/or other similar events frequently affect both the reported revenues and GAAP net income of all companies. Both EDA and MCAD companies are no strangers to these many and varied actions. Many of these "non-operating" company activities lead to entries "below the Operating Income line". Often these entries -- such as "integration costs, in-process R&D, amortization of intangible assets & deferred comp, interest income, pro or con income tax effects, etc" - can make large differences between pro-forma net income and GAAP net income.

Nevertheless, these impacts, positive or negative, are almost always the results of explicit employee actions and/or management decisions designed to supplement organic revenue growth in revenues, in earnings, or both. Accordingly, both the gain and the pain must be borne, in one accounting period or another. Accordingly, total revenues, GAAP net income and GAAP Earnings Per Share (EPS) are universally accepted measures to analyze fairly the relative and absolute performances of most private and public companies.

In viewing financial results from international companies, readers should also keep in mind that different companies use slightly different methods in computing currency effects from business done in one country vs. another.


EDA Consortium's Market Statistics

On April 5, 2005 the EDA Consortium released its latest Market Statistics Service report for the overall EDA Industry (covering Q4 2004). ( Table 12).

Dr. Walden C. Rhines, chairman of the EDA Consortium and chairman and CEO of Mentor Graphics Corporation, said, "In 2004, The EDA industry crossed the $4 billion mark. Every quarter saw consistent year over year growth for the whole industry, though the North American region, as well as the IC Physical Design & Verification segment, were both down for the year."

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