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Cadence Takes a Page Out of Microsoft’s Playbook

Posted on Tuesday, Jun 17th 2008

With the Microsoft-Yahoo! drama fresh on everyone’s mind, Mike Fister and the Cadence board have finally done something that shows a bit of boldness, some imagination, and possibly some courage. Cadence has made a hostile takeover bid for Mentor Graphics.

“Cadence offers to acquire Mentor Graphics for $16.00 per share in cash. Cadence’s all-cash proposal, which is not subject to any financing condition, represents a 30% premium over the closing price of Mentor Graphics common stock on June 16, 2008, the last trading day prior to public disclosure of Cadence’s proposal, a 59% premium over the closing price of Mentor Graphics common stock on May 2, 2008, when Cadence presented the terms of the proposal to Mentor Graphics, and a 46% premium over Mentor Graphics’ average closing price for the past 30 trading days. The transaction price represents a total enterprise value of $1.6 billion on a fully diluted basis, which reflects Mentor Graphics’ net debt of $69 million.”

For at least three years, I have been calling for some sort of consolidation and financial engineering that would reduce the pressure of the price wars plaguing the EDA industry. My piece from last December, Mentor Graphics: LBO Recommended reiterates this call. It looks as though Cadence has taken it upon itself to buy Mentor Graphics, and ease the price war and breathe some excitement back into the industry.

Mike Fister’s statement about why he wants to buy Mentor, of course, does not say any of this. Fister says, this will give the customers a better integrated flow. This is only partially true. Yes, Mentor has Calibre, the industry’s best DFM suite, and having that in its portfolio would give Cadence a very significant edge over competition (Synopsys, primarily) in its all-you-can-eat bids.

But Mentor also has a PCB design tool business (over $100 million) that competes with Cadence. What happens to that? Market share will amount to over 85%, I suspect, if they combine the two businesses, with Zuken, a Japanese company, the only remaining competitor.

And Mentor has now accumulated all sorts of other “stuff” in the less differentiated part of the EDA flow through various recent acquisitions which are going to be completely redundant.

There are other smaller businesses like Design For Test (DFT; about $60 million) where Cadence and Mentor have no overlap, and Cadence can either keep those businesses or sell them off.

So, the $1.6 billion that Cadence would be paying, would be primarily for acquiring Calibre, the PCB/FPGA tools business, may be DFT. What else?

Is it worth the price? It could be, if it unblocks Cadence’s depressed market cap, and helps it win against Synopsys.

In summary, I would say, I like the thinking behind this deal. EDA should not have so many players and this incessant price war. Yes, integration will be hard, but it is becoming acceptable these days to orchestrate large technology company mergers and be able to pull them off successfully.

Whether Wally Rhines likes it or not, Mentor shareholders have just been given a nice opportunity to cash out. I hope Rhines will not throw a Jerry Yang-like tantrum and screw up the deal, but it looks as though he may be getting ready to do just that.

ment cdns

If you are not familiar with my past coverage of the EDA industry, I recommend you catch up on some readings: In Mentor Graphics: Target for SilverLake?, Future of EDA, DFM Vision, RTL Hand-off and Predictive Prototyping, Future of EDA: Addendum, I discussed the future of the EDA industry and its structural dysfunctions at length.

I have also written individual stock analysis and competitive strengths and threats reviews for all the major players. You can find those here: Cadence LBO?, Will Magma Die on the Vine?, Cadence Crashes. Now What?, Cadence Languishes On, Magma Squeezed From Both Sides, Mentor, PDF Solutions Climb, Synopsys Better Than the Rest.

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“It looks like Cadence has taken it upon itself to buy Mentor Graphics, and (a) ease the price-war (b) breathe some excitement back into the industry.”

Not sure how having less companies in the EDA space is going to “breathe some excitement back into the industry” – more likely the opposite. As far as the “price-war” goes: I don’t see that either: EDA is a high margin biz. Tool prices are quite high.

No, we don’t need less EDA companies, we need more of them that are smaller and more innovative.

BusyBee Tuesday, June 17, 2008 at 10:37 AM PT

This would allow cadence to kill a great competetion as well as enter the FPGA market which is getting intresting every day. Synopsys aquisition of Synplicity also proves this point.
I will be watching !!

FPGA EDA Tools Tuesday, June 17, 2008 at 10:37 AM PT

BusyBee,

With all due respect, I don’t think you’ve been following any of the EDA coverage on this blog. I suggest you go back and read the articles.

Regards, Sramana

Sramana Mitra Tuesday, June 17, 2008 at 10:40 AM PT

Cadence has its own DFT tools. It supposedly had its own DFM tools but has now basically said its offering is inferior to Mentor’s. The only real areas of non-overlap are FPGA and embedded software, which are tiny, tiny markets for the EDA companies.

Chris Edwards Tuesday, June 17, 2008 at 11:12 AM PT

From what you are saying, it appears there may be antitrust issues with this deal. First, in the PCB space, if the combined companies have over 85% of the market, that is a near monopoly. Moreover, is it possible that a company like Magma might cry foul? More over, if generally, as you suggest, this transaction might put an end to ruinous price wars in the industry, while that might be good for Synopsis and Cadence, it would be bad for its customers.

Andy Tuesday, June 17, 2008 at 11:14 AM PT

Chris – Cadence does not have any DFT business anymore.

Andy – The EDA industry will collapse if the price-wars don’t stop. The R&D costs are too high, and the no-floor price-wars are causing all investors to flee, so very soon, the customers would need to build their own in-house EDA tools, unless the industry is restructured.

Sramana Mitra Tuesday, June 17, 2008 at 11:20 AM PT

“With all due respect, I don’t think you’ve been following any of the EDA coverage on this blog. I suggest you go back and read the articles.”

Sramana, with all due respect, perhaps I haven’t read every entry of your blog with as much due respect as you seem to want, however… I do work in the industry and I have been an EDA tool user in the past so I’ve been on both sides of the EDA fence.

Still, you do not address the reason why less EDA companies will make the industry more exciting. How exactly will less competition lead to more innovation? Should we just have 1 EDA company to rule them all? CadMentSys? Let’s just eliminate all that pesky competition.

BusyBee Tuesday, June 17, 2008 at 11:30 AM PT

“With all due respect, I don’t think you’ve been following any of the EDA coverage on this blog. I suggest you go back and read the articles.”

Smarma, with all due respect, perhaps I haven’t read every entry of your blog with as much due respect as you seem to want, however… I do work in the industry and I have been an EDA tool user in the past so I’ve been on both sides of the EDA fence.

Still, you do not address the reason why less EDA companies will make the industry more exciting. How exactly will less competition lead to more innovation? Should we just have 1 EDA company to rule them all? CadMentSys? Let’s just eliminate all that pesky competition.

BusyBee Tuesday, June 17, 2008 at 11:31 AM PT

No, I don’t think we should have only one EDA company. However, 4 major EDA companies with a relatively small market size, each claiming to have a “flow” is also not sustainable.

An industry that has no margins cannot support unlimited price-competition. Companies go out of business or get acquired. Industry consolidates, until an equilibrium is achieved once again, whereby investors are willing to invest in the remaining ones.

That’s what you are seeing happening in the industry. Whether you like it or not, the current best-of-breed solutions will consolidate under 2 players, likely Cadence and Synopsys.

Then, it would be a very good idea for both of those companies to also put back in place venture funds to stimulate off-P&L innovation, something Cadence used to do at one time, but one of the first things Mike Fister did upon coming into power at Cadence, is to get rid of that rather effective innovation vehicle.

Anyway, I have written about all this before. I just don’t want to repeat these things here.

If you don’t want to give me the respect of reading the prior writings on the topic, that’s fine. I just don’t want to engage with you in this discussion any more.

I simply don’t have the time.

Sramana Mitra Tuesday, June 17, 2008 at 11:37 AM PT

I’m not seeing the “less EDA companies = more excitement” equation either. Please enlighten us. And as a user I’m also not seeing price wars in EDA.

TT Tuesday, June 17, 2008 at 11:43 AM PT

Sramana, I have read your previous writings on the subject. Did you consider the possibility that not everyone agrees with your thesis presented in those writings? If you want your blog to be a one-way conversation, that’s fine, but many of us view blogs as being different from print media because blogs generally allow divergent opinions.

BusyBee Tuesday, June 17, 2008 at 11:51 AM PT

You must not be a regular reader on my blog … If anything, people have always applauded the amount of diverse perspective I have published in the comments.

You can disagree all you want.

Sramana Mitra Tuesday, June 17, 2008 at 11:56 AM PT

“Then, it would be a very good idea for both of those companies to also put back in place venture funds to stimulate off-P&L innovation,”

I agree with this, however, I do not believe we need to get down to two major players before this is possible. Cadence could take a chunk of cash that they’re willing to pay for Mentor and instead create (again) such a venture fund. However, as you point out, their current management is too shortsighted to do that having shut down a similar fund previously.

All of the Big3 EDA companies should be taking this venture fund approach, perhaps even partnering with some of their larger customers in helping fund EDA startups.

I don’t think that “bigger is better” thinking is going to lead to positive developments in EDA. EDA tends has fallen into the “old boys network” mentality too much now as it is, reducing the number of companies at this point will only make that worse.

BusyBee Tuesday, June 17, 2008 at 11:59 AM PT

I never said less EDA companies = more excitement.

The current structure is driving all financial investors out of the sector. That needs to be addressed. How do you propose to do that? In free market economics, these situations get addressed by consolidation, easing of the price pressure, and getting back to healthier margins and growth rates.

Small markets don’t support many large players. This is a basic Economics reality.

You don’t like that reality. Well, I can’t help you there. This is where the market will force the industry to go.

I don’t think you guys have much to say about the EDA company’s shareholders, who did not exactly invest in non-profits. Or did I miss something?

Excitement – because something is finally being done to address the dysfunctions, rather than this Godot-like wait for … what … divine intervention?

Sramana Mitra Tuesday, June 17, 2008 at 12:09 PM PT

I’m not sure what needs to happen in EDA. Perhaps the industry needs to revisit it’s academic roots? I know Cadence has it’s Berkeley labs. Perhaps Synopsys has something similar. Funding more blue-sky projects (but with potential high payoff) in academia might be the way to go.

TT Tuesday, June 17, 2008 at 12:47 PM PT

Cadence Encounter Test is “very much alive”, according to the CDNS spokesman I just talked to. So, I’m not sure where you got the idea that Cadence was no longer in DFT. It’s market share trails MGC and SNPS by some way, but they are there.

Chris Edwards Tuesday, June 17, 2008 at 12:54 PM PT

It is interesting, because it was Cadence and Magma that were causing the price erosion. Cadence came out with the all you can eat and also credit card approach, which basically erodes price of the tools. Synopsys decided to go with term licenses in order to prevent being held hostage by customers and avoid end of quarter deals. Cadence tried, but failed, and came up with all sorts of schemes that basically pushes all prices down. Magma gave themselves away since they are small

Yaqub Tuesday, June 17, 2008 at 4:23 PM PT

Chris, Sorry, How about Cadence has “no DFT to write home about?” In other words, they have no market share, alive or not.

Yaqub, Agreed that Cadence has caused a lot of the problem.

Sramana Mitra Tuesday, June 17, 2008 at 5:13 PM PT

ps. Cadence does have some DFT tools they acquired from IBM for IBM processes, according to some knowledgeable sources.

Sramana Mitra Tuesday, June 17, 2008 at 5:14 PM PT

Think about the fact that in case of overlapping technologies like Modelsim and NC simulators, there would be loads of layoff. Also I am not sure if customers would particularly enjoy exorbitant tool cost in the face of what might end up being a duopoly.

Arpan Tuesday, June 17, 2008 at 10:59 PM PT

Mentor graphics is way ahead in DFT tools category (at least ATPG) from any other vendors. They have technology for future. Cadence or Synopsys have very inferior technology in ATPG. They get market share in those areas because of “the flow” for chip design. Smaller semiconductor company generally sticks with one vendor due to price of single flow but big companies like TI, BRCM probably have multiple vendors and picks best in class for a product. Of course it also depends on BUs inside a company.

SKG Tuesday, June 17, 2008 at 10:59 PM PT

Sramana, obviously this deal is about the flagship products. Mentor has, however a dozen of smaller satellite businesses, like Nucleus embedded or automotive. What do you think if these would fit in Cadence plans?

Harvey Tuesday, June 17, 2008 at 11:25 PM PT

Cadence and Mentor sitting in a tree…….

I think I’m the last to pick up on this
Personally I like Wally Rhines presentations about EDA  and the anarchist in me is rooting for the small guy. But I think everyone is  overlooking Mentor’s system-level design flows.
Having a histo…

DAtum Wednesday, June 18, 2008 at 3:29 AM PT

Arpan – Customers also have caused the EDA problem by forcing the price wars. It’s the nature of markets, so I am stating the obvious. EDA vendors should, at some point, put their foot down and say that the industry is going to start charging royalties on chips. May be a lower all-you-can-eat fee structure + royalties is what gets the industry better aligned with the semiconductor industry.

Harvey – Cadence Sales force tends to do very poorly with niche products, plans or not.

Sramana Mitra Wednesday, June 18, 2008 at 7:57 AM PT

EDA to get royalties on chips? Perhaps we should be paying a royalty for every hole we drill, or every destination we drive to with a GPS system, or every presentation we create with PowerPoint. EDA Tools are tools – customers will never pay a royalty for using a tool. Can you think of an example in the world where customers pay a royalty on their end product for using a tool?

While I’m at it, you might also read up on the principles of supply and demand – all this business model stuff is a red herring. There is simply too much EDA tool creation and supply capacity for certain categories of tools. This merger will be justified by cost savings in people, a more complete portfolio and even more all you can eat deals. This merger does nothing to address pricing pressures in Digital IC Implementation although it does protect the Cadence Virtuoso franchise. It will address supply issues with functional verification and perhaps PCB, though I’d be surprised if one of the PCB businesses were not spun out.

EDA Bar Steward Wednesday, June 18, 2008 at 8:33 AM PT

I’m afraid I have to agree with Sramana. The reason EDA companies can’t get a decent value for their technology is because there are just too many identical products to choose from. EVERY company claims leadership. EVERY company goes after the same 5-10 customers. EVERY company competes for the same shrinking pot of EDA tool budget.

At the same time FEWER companies are reaching profitability, FEWER investors see a decent ROI so FEWER companies get funded.

By significantly reducing the number of competitors on the field, you shrink the supply of available tools, increasing the value you can get for the remaining tools and maybe returning the industry to profitability.

No private equity fund is going to touch an LBO of an EDA company. The only way it’s going to happen is consolidation within the industry. I wasn’t expecting one this big, but from a business standpoint, it makes sense.

Lou Covey Wednesday, June 18, 2008 at 9:41 AM PT

Hi Ms Mitra,
The idea of paying royalties is an interesting one but I don’t think any EDA company unless you have a monopoly or something close would dare propose it to ASIC houses like TI or Intel. Now I know you speak for the industry and its overall improvement, but let me try explain why this bid is not making sense:
1) Mentor’s strongest presence is in Calibre, DFT and FPGA tools. Cadence jolly well gets these in its bag. Now what about the overlapping tools? Modelsim has couple of hundred people on it — if you kill a product you surely don’t expect people to stay with the company. So you are risking to lose an EDA company’s key assets — the tool developers. Then what are you paying this $1.6B for? Source code, is it?
2) A side effect of 1) is that the already small industry shrinks even further. You know well that it’s tough to get people in this business and that makes things costly. Now if you are making the number of companies only 2 then how many engineers do you think you’d get who’d spend a lifetime in 2 companies and know that the 3rd option is startup. Also startups require risk taking ability and while I respect those who take the risk you can’t blame those who don’t. If a career comes to you with a caveat that the 3rd option is risk you are jeopardizing the future of EDA. At least we now have an industry — the future ain’t good if its only 2 companies.

I am sure you understand and I would be keen to hear your thoughts.

Regards,
Arpan

Arpan Wednesday, June 18, 2008 at 9:41 AM PT

Arpan,

The smaller tools won’t get abandoned. They will become part of the all-you-can-eat. All I was saying is that anything that requires “push selling” won’t get much attention from the sales force unless the ticket is big.

On your point about engineers and jobs, yes, there will be layoffs. There’s all sorts of overlaps, and Cadence, if the deal goes through, would have to cut some of the overlapping product areas, and standardize on one product for each category over time. Big mergers are done to gain economies of scale. Economies of scale always involve lay-offs.

In any case, what you are seeing unfold is a market force in action. There’s nothing much to do to stop this. All mature markets consolidate at some point, and if they are inherently small markets, they tend to become at best oligopolies (current situation), morphing into duopolies eventually.

As for the engineers, there are so many other areas of technology where the engineers could go work. EDA has always had very smart engineering talent. The talent can go in many directions, they don’t have to work on EDA for their entire lives.

Sramana Mitra Wednesday, June 18, 2008 at 9:57 AM PT

Covey said, “shrinking pot of EDA tool budget” – where does that come from? According to EDAC, EDA license and maintenance grew in 2007.

The industry is not profitable? Really?
Net Income 2007:
CDNS $296M
SNPS $130M
MENT $29M
LAVA $(31M)
ANST $20M
2008 doesn’t look so bright, but it doesn’t look good for the entire economy – some would call it a recession.

EDA Bar Steward Wednesday, June 18, 2008 at 10:43 AM PT

Hi Ms Mitra,
Thanks for the response. You agreed to the fact that the industry size will shrink and there’s bound to be engineering layoffs. I am not a market expert by any stretch of imagination, but by all inklings, this looks to be a time when engineering talent would leave this business. I am hoping that 5 years down the line Fister and Wally don’t look back and realize their actions killed off EDA growth altogether. The beauty about Fister’s press release is that it’s all about shareholder values and less about business momentum and synergies. You didn’t miss that for sure. :-)
On a separate note, at 16$ you are 48X FY09. You intend to kill off businesses so basically you are much more than 48X in reality. To top it off, there’s hardly any chance of this deal being done at 16$ given the market movements. (Fister does hint of sweetening, I bet you know better here) I personally doubt whether the deal would finally go thru given the price vs potential growth standpoint.

Once again, thx for providing a forum where we could actually discuss such stuff.

Regards,
Arpan

Arpan Wednesday, June 18, 2008 at 11:17 AM PT

Dear Arpan, I think that dog will hunt!

EDA Bar Steward Wednesday, June 18, 2008 at 12:09 PM PT

“As for the engineers, there are so many other areas of technology where the engineers could go work. EDA has always had very smart engineering talent. The talent can go in many directions, they don’t have to work on EDA for their entire lives.”

Perhaps… still, EDA software development requires a very special set of skills that takes years to develop. If you’ve taken years becoming a good C++ developer (and that alone takes the best part of a decade and most EDA apps are written in C++) while also becoming familiar with various sub-domains like HDLs, chip design, layout, synthesis, simulation & power issues, etc… Well when you go to apply to a web company with all that knowledge you worked very hard to develop, they look at your resume and say “Huh?”. So basically all that specialized knowledge is out the window as most of it’s not marketable outside of EDA.

EDA software development is a challenging field – yes, I’m sure there are some sub-domains in the Web world that have challenging problems to solve (at places like Google) but most web programming is going to be very mundane by comparison. And without having had the experience in the web domain, you’d likely be put in the “entry level” classification when it comes to migrating to Web development – even if you have many years of experience. Outside of Web development, who’s hiring software engineers right now?

The thing is, we apparently need a lot more people with the skills that EDA software engineers possess – there are new types of EDA apps that need to be written and lots more problems to be solved in that arena. If we get down to two main EDA companies we’ll likely be throwing a lot of this talent away to go work on other stuff like web apps (don’t we already have an abundance of people working on those now as it is?) and we won’t be developing as many engineers capable of working on the EDA problems of the future.

To put it another way: Yeah, in the late 90′s the web was singing it’s siren song and it was tempting to go look into getting into the web as a career. But I stuck with EDA because when I looked at what was really involved with most web development it turned out to be pretty mundane stuff by comparison (filling in forms, looking up prices, etc). Could I have made more money on the web side? Quite possibly, if I put my bets on the right “horse”. Still, the problems in EDA seemed a lot more challenging so I continued to invest my time in learning that field even though it was clear that it was more difficult to become proficient in EDA than it would have been in web development.

An EDA engineer Wednesday, June 18, 2008 at 3:16 PM PT

I don’t disagree with your thoughts at all. EDA, chip design, embedded systems software – these are far more complex and intellectually challenging and consequently interesting problem domains than web software except for the genre of search / algorithms / AI related problems.

But again, markets evolve. At some point, the PC, desktop publishing, word processing – these innovations slashed much of the administrative profession. The internet moved call-center jobs off-shore. This is just the way markets operate.

Some portion of the EDA talent would need to find other careers – that’s just the reality.

Sramana Mitra Wednesday, June 18, 2008 at 3:28 PM PT

Cadence has no experience digesting a company the size of Mentor. The cultures of the two companies are very, very different. Mentor is expected to fight the acquisition tooth and nail. Even if Cadence is able to close this deal, perhaps after a shareholder proxy fight, long range problems can be predicted.

Cadence has been dysfunctional in its internal R&D for at least 14 years. Almost all new technology was acquired from outside. But those were relatively small firms, led by a few visionary founders. A Cadence/Mentor combo is a train wreck in the making.

Miguel Wednesday, June 18, 2008 at 3:46 PM PT

“Some portion of the EDA talent would need to find other careers – that’s just the reality.”

You’re probably right, but this isn’t a case where some new technology caused a shift that’s leading to displacement. As I noted, there are still plenty of apps that need writing in the EDA space. Lots of problems to solve yet.

It could be that some displaced engineers might join up and go on to start their own startups, but that’s pretty capital intensive compared to, say, a web startup.

An EDA engineer Wednesday, June 18, 2008 at 4:17 PM PT

I think the best outcome would be a renewed surge of entrepreneurship and innovation. No disagreements there whatsoever.

Sramana Mitra Wednesday, June 18, 2008 at 7:23 PM PT

Sramana, it would be interesting to know your thoughts what IC industry thinks about this deal. And what IC industry thinks in general about consolidation of the EDA industry. For me, the price war is not so bad for chip makers; on the other hand – having many tools/flows/vendors makes the things harder for them – especially taking into account the complexity of EDA tools and integration of different vendors. So – there is the equilibrium point here ? And as you said the IC industry requires EDA innovations for moving ahead; making EDA market more profitable is not fully the same as to make it more innovative – no ?

Paul Thursday, June 19, 2008 at 5:43 AM PT

Paul, I have a Forbes column tomorrow that I’d like you to read. We can discuss this topic after.

Sramana Mitra Thursday, June 19, 2008 at 10:35 AM PT

Hello Sramana, thank you, I read your article in Forbes. Very interesting. Frankly speaking I’m not sure that “chip royalties” business model can fully help. Yes, it will make the EDA profits better but will not stimulate the innovations – because large EDA vendors will have enough money just selling their existing tools. There will not be any needs for them to develop internally or buy startups. And chip makers understand this and will not support such model – until it somehow connects with real improvements and innovations in the tools.

Paul Saturday, June 21, 2008 at 1:01 AM PT

Paul, I think I said earlier that one of the essential steps is for the major EDA vendors to bring back their venture funds. Innovation capital has steadily fled EDA, and Fister made the mistake of shutting off Cadence’s venture arm. He needs to bring that back. Synopsys needs to put one in place.

There used to be a lot of entrepreneurial energy in EDA at one time, and also lots of M&A. But both have stalled in the last 5 years.

Sramana Mitra Saturday, June 21, 2008 at 9:06 AM PT

[...] Cadence has already purchased 4.3 million shares of Mentor amounting to 4.7% of Mentor’s common stock through open market transactions. Its takeover bid of $1.6 billion, or $16 per share, might be slightly high, but the deal would be worth the money if Cadence is able to leverage the alliance to compete with Synopsys and get the industry out of the…. [...]

Cadence Comes Tumbling After - Sramana Mitra on Strategy Thursday, July 24, 2008 at 10:35 AM PT
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