All numerical references included in tables are in thousands, except percentages.

Overview

The following discussion should be read in conjunction with the condensed consolidated financial statements and notes included elsewhere in this Form 10-Q. Certain of the statements below contain forward-looking statements. These statements are predictions based upon our current expectations about future trends and events. Actual results could vary materially as a result of certain factors, including but not limited to, those expressed in these statements. In particular, we refer you to the risks discussed in Part II, Item 1A. "Risk Factors" and in our other Securities and Exchange Commission (SEC) filings, which identify important risks and uncertainties that could cause our actual results to differ materially from those contained in the forward-looking statements.

We urge you to consider these factors carefully in evaluating the forward-looking statements contained in this Form 10-Q. All subsequent written or spoken forward-looking statements attributable to our company or persons acting on our behalf are expressly qualified in their entirety by these cautionary statements. The forward-looking statements included in this Form 10-Q are made only as of the date of this Form 10-Q. We do not intend, and undertake no obligation, to update these forward-looking statements.

The Company

We are a supplier of electronic design automation (EDA) systems - advanced computer software and emulation systems used to automate the design, analysis, and testing of electronic hardware and embedded systems software in electronic systems and components. We market our products and services worldwide, primarily to large companies in the military/aerospace, communications, computer, consumer electronics, semiconductor, networking, multimedia, and transportation industries. Through the diversification of our customer base among these various customer markets, we attempt to reduce our exposure to fluctuations within each market. We sell and license our products through our direct sales force and a channel of distributors and sales representatives. In addition to our corporate offices in Wilsonville, Oregon, we have sales, support, software development, and professional service offices worldwide.

We focus on products and design platforms where we have leading market share, thus enabling us to spend more effort to cause adoption of our technology in new applications, especially for new markets in which EDA companies have not participated. We believe this strategy leads to a more diversified product and customer mix than many of our competitors, can help and reduce volatility of business, credit risk, and competition, while increasing the potential for growth. System customers make up a much larger percentage of our business than that of most of our EDA competitors.

We derive system and software revenues primarily from the sale of term software license contracts, which are typically three to four years in length. We generally recognize revenue for these arrangements upon product delivery at the beginning of the license term. Larger enterprise-wide customer contracts, which in the aggregate can represent as much or more than 50% of our system and software revenue, drive the majority of our period-to-period revenue variances. Some of these contracts include unlimited or nearly unlimited access to a fixed group of products. For these reasons, the timing, size, and success of contract renewals is the primary driver of revenue changes from period to period and to a lesser extent new contracts or an increase in the capacity of existing contracts.

The EDA industry is highly competitive and is characterized by very strong leadership positions in specific segments of the EDA market. These strong leadership positions can be maintained for significant periods of time as the software can be difficult to master and customers are disinclined to make changes once their employees, as well as others in the industry, have developed familiarity with a particular software product. For these reasons, much of our profitability arises from niche areas in which we are the leader. We will continue our strategy of developing high quality tools with number one market share potential, rather than being a broad-line supplier with undifferentiated product offerings. This strategy allows us to focus investment in areas where customer needs are greatest and we have the opportunity to build significant market share.

Our products and services are dependent to a large degree on new design projects initiated by customers in the integrated circuit and electronics system industries. These industries can be cyclical and are subject to constant and rapid technological change, rapid product obsolescence, price erosion, evolving standards, short product life cycles, and wide fluctuations in product supply and demand. Furthermore, extended economic downturns can result in reduced funding for development due to downsizing and other business restructurings. These pressures are offset by the need for the development and introduction of next generation products once an economic recovery occurs.

Our revenue has historically fluctuated quarterly and has generally been the highest in the fourth quarter of our fiscal year due to our customers' corporate calendar year-end spending trends and the timing of contract renewals.

Known Trends and Uncertainties Impacting Future Results of Operations

Business Trends

In the United States (U.S.) and abroad, recent market and economic conditions have been unprecedented in the recent past and challenging, with tighter credit conditions, increased market volatility, diminished expectations for the U.S. and global economies, and increased market uncertainty and instability in both U.S. and international capital and credit markets. These conditions, combined with generally declining business and consumer confidence and increased unemployment, have contributed to volatility of unprecedented levels.

As a result of these market conditions, the cost and availability of credit has been and may continue to be adversely affected by illiquid credit markets and wider credit spreads. Many lenders and institutional investors reduced, and in some cases, ceased to provide, funding to borrowers due to the absence of a securitization market and concerns about the stability of the markets generally and the strength of the counterparties specifically. Continued turbulence in the U.S. and international markets and economies may adversely affect our liquidity and financial condition, and the liquidity and financial condition of our customers. If these market conditions continue, they may limit our ability, and the ability of our customers, to access the capital markets to meet liquidity needs and timely refinance maturing liabilities, resulting in an adverse effect on our financial condition and results of operations.

The semiconductor industry experienced a bounce back from the major reductions in supply chain inventories in the fourth quarter of fiscal 2009, with foundries reporting a recovery in loadings. However, bankruptcies and credit problems are increasingly evident and had an effect on our revenues during the first quarter of fiscal 2010.

The semiconductor industry is particularly vulnerable in this economy as several of the largest companies lack the balance sheet strength that they historically carried into recessions. Consistent with our revenue recognition policy, when individual customer credit worthiness declines to a level where we do not consider collectability probable, we convert new transactions from up-front revenue recognition to cash-based revenue recognition and we may be required to modify the payment terms to meet the customer's ability to pay. Our top ten accounts make up approximately 40% of our receivables, including both short and long term balances, and we have not experienced and do not presently expect collection issues with these customers. Net of reserves, we have no receivables greater than 60 days past due, and continue to experience no difficulty in factoring our receivables.

Bad debt expense recorded for the first quarter of fiscal 2010 was not material. However, we do have exposures within our receivables portfolio to some of the larger semiconductor companies with weak credit ratings. These receivables balances do not represent a material portion of our portfolio but could have a material effect on earnings in any given quarter, should additional allowances for doubtful accounts be necessary.

We rely on smaller dollar contracts for a material portion of our business. During fiscal 2009 we experienced a decline in these transactions, which we believe contributed to a decline in our revenue for fiscal 2009. For the first quarter of fiscal 2010 we continued to see a reduced contribution from these accounts and the timing of recovery is not known.

We noted a decline in service and support revenues in the first quarter of fiscal 2010. A multi-quarter increase or decrease in service and support revenue can be an early indicator that our business is either strengthening or weakening. Our experience is that customers will scale back on the purchase of outsourcing services in times of economic decline or weakness.

Bookings during the first three months of fiscal 2010 improved by 25% compared to the first three months of fiscal 2009. Bookings are the value of executed orders during a period for which revenue has been or will be recognized within six months for products and within twelve months for professional services and training. The ten largest transactions for the three months ended April 30, 2009 accounted for approximately 60% of total system and software bookings compared to 45% for the three months ended April 30, 2008. The number of new customers during the three months ended April 30, 2009, excluding PADS (our ready to use printed circuit board design tools) and new customer relationships arising out of our acquisition of Flomerics Group Plc. (Flomerics) was down 55% from the levels experienced during the three months ended April 30, 2008.

Product Developments

During the three months ended April 30, 2009, we continued to execute our strategy of focusing on challenges encountered by customers, as well as building upon our well-established product families. We believe that customers, faced with leading-edge design challenges in creating new products, generally choose the best EDA products in each category to build their design environment. Through both internal development and strategic acquisitions, we have focused on areas where we believe we can build a leading market position or extend an existing leading market position.

We believe that the development and commercialization of EDA software tools is generally a three to five year process with limited customer adoption and sales in the first years of tool availability. Once tools are adopted, however, their life spans tend to be long. We introduced new products and upgrades to existing products in the first quarter of 2010 that we believe have the potential for widespread customer adoption and may have a favorable impact on future periods. During the three months ended April 30, 2009, we did not have any significant products reaching the end of their useful economic life.

Critical Accounting Policies

We base our discussion and analysis of our financial condition and results of operations upon our condensed consolidated financial statements which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, and contingencies as of the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. We evaluate our estimates on an on-going basis. We base our estimates on historical experience, current facts, and on various other assumptions that we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities and the recording of revenue, costs, and expenses that are not readily apparent from other sources. As future events and their effects cannot be determined with precision, actual results could differ from those estimates.

We believe that the accounting for revenue recognition, valuation of trade accounts receivable, valuation of deferred tax assets, income tax reserves, goodwill, intangible assets and long-lived assets, special charges, and accounting for stock-based compensation are the critical accounting estimates and judgments used in the preparation of our condensed consolidated financial statements. For a discussion of our critical accounting policies, see Item 7. "Management's Discussion and Analysis of Financial Condition and Results of Operations - Critical Accounting Policies" in our Annual Report on Form 10-K for the year ended January 31, 2009.

RESULTS OF OPERATIONS

Revenues and Gross Margins



         Three months ended April 30,         2009        Change        2008
         System and software revenues       $ 115,418         19 %    $  96,843
         System and software gross margin   $ 107,581         22 %    $  88,323
         Gross margin percent                      93 %                      91 %
         Service and support revenues       $  78,357         (5 %)   $  82,364
         Service and support gross margin   $  57,154         -       $  57,022
         Gross margin percent                      73 %                      69 %
         Total revenues                     $ 193,775          8 %    $ 179,207
         Total gross margin                 $ 164,735         13 %    $ 145,345
         Gross margin percent                      85 %                      81 %

System and Software



          Three months ended April 30,           2009      Change        2008
          Upfront license revenues             $  97,550       30 %    $ 75,200
          Ratable license revenues                13,846      (18 %)     16,972
          Finance fee revenues                     4,022      (14 %)      4,671

          Total system and software revenues   $ 115,418       19 %    $ 96,843

We derive system and software revenues from the sale of licenses of software products, emulation hardware systems, and finance fee revenues from our long-term installment receivables resulting from product sales. Upfront license revenues are comprised of perpetual licenses and term licenses for which we recognize revenue upon product delivery at the start of the license term. Ratable license revenues are comprised of term licenses where we provide the customer with rights to unspecified or unreleased future products and as a result, recognize revenue ratably over the license term. Finance fee revenues are from the accretion on the discount of long-term installment receivables.

For the three months ended April 30, 2009, our top ten customers accounted for approximately $77.0 million, or 67%, of total System and software revenues compared to approximately $52.0 million, or 54%, for the three months ended April 30, 2008. For the three months ended April 30, 2009, one customer accounted for 13% and another customer accounted for 12% of our total revenues. No single customer accounted for 10% or more of total revenues for the three months ended April 30, 2008. Sales of product associated with our acquisition of Flomerics Group, PLC (Flomerics) in the second quarter of fiscal 2009 resulted in an increase of approximately $4.0 million in System and software revenues during the three months ended April 30, 2009 compared to the three months ended April 30, 2008. Foreign currency had a slightly negative impact on revenues for the first quarter of fiscal 2010 compared to the first quarter of fiscal 2009 as a result of a weakening of the euro and British pound against the U.S. dollar for the comparative periods of $2.0 million.

System and software gross margin percentage increased for the three months ended April 30, 2009 compared to the three months ended April 30, 2008 primarily due to increased System and software revenues of $18.6 million.

Amortization of purchased technology to System and software cost of revenues was $2.9 million for the three months ended April 30, 2009 compared to $3.2 million for the three months ended April 30, 2008. We amortize purchased technology costs over two to five years. The decrease in amortization for the three months ended April 30, 2009 was primarily due to the accelerated full amortization of certain purchased technology of $1.4 million due to the closure of our intellectual property division in the three months ended April 30, 2008, offset by an increase in amortization of $1.5 million resulting from technology acquired in the Flomerics acquisition in the second quarter of fiscal 2009.

Service and Support

We derive service and support revenues from software and hardware post-contract maintenance or support services and professional services, which include consulting, training, and other services. Service and support revenues decreased for the three months ended April 30, 2009 compared to the three months ended April 30, 2008 primarily due to declines in support revenues of approximately $4.0 million and professional service revenues of approximately $3.0 million. The decrease in revenues is primarily the result of the softening of the global economy as our customers scale back on purchases of outsourced services. These decreases were offset in part by approximately $3.0 million in Service and support revenues associated with our acquisition of Flomerics in the second quarter of fiscal 2009.

Service and support gross margin percentage increased for the three months ended April 30, 2009 compared to the three months ended April 30, 2008 primarily because of favorable foreign currency movements on costs of $1.2 million, reductions in headcount related costs of $1.4 million, and reductions in outside service costs of $0.9 million. These improvements to costs were offset by the impact of lower revenues of $4.0 million.

Geographic Revenues Information

Revenue by Geography



            Three months ended April 30,     2009      Change        2008
            North America                  $  74,464        4 %    $  71,381
            Europe                            42,510      (20 %)      53,182
            Japan                             34,640       -          34,541
            Pacific Rim                       42,161      110 %       20,103

            Total revenue                  $ 193,775        8 %    $ 179,207

Revenues increased in North America for the three months ended April 30, 2009 compared to the three months ended April 30, 2008 primarily due to increased software product revenues of approximately $6.7 million, partially offset by a decrease in support and professional service revenues of approximately $3.0 million. The Flomerics acquisition accounted for approximately $3.0 million of the North America revenue increase.

Revenues outside of North America represented 62% of total revenues for the three months ended April 30, 2009 compared to 60% for the three months ended April 30, 2008. For the three months ended April 30, 2009, approximately one-third of European revenues were booked in local currencies and subject to exchange rate fluctuations compared to approximately one-fourth of European revenues for the three months ended April 30, 2008. All other European revenue contracts are denominated and paid to us in U.S. dollars. Decreased European revenues for the three months ended April 30, 2009 compared to the three months ended April 30, 2008 were primarily due to decreased software product revenues of approximately $8.0 million and unfavorable currency effects of approximately $2.0 million. The Flomerics acquisition reduced the overall European revenue decline by approximately $3.0 million.

All of our Japan revenues were recorded in Japanese yen during the three months ended April 30, 2009 compared to approximately two-thirds of our Japan revenues during the three months ended April 30, 2008. The effects of exchange rate differences from the Japanese yen to the U.S. dollar favorably impacted Japanese revenues by approximately 6% for the three months ended April 30, 2009 compared to the three months ended April 30, 2008. Exclusive of currency effects, lower revenues in Japan for the three months ended April 30, 2009 compared to the three months ended April 30, 2008 were primarily due to decreased support, training, and consulting revenues of approximately $1.2 million.

Revenues increased in the Pacific Rim for the three months ended April 30, 2009 compared to the three months ended April 30, 2008 primarily due to increased software product revenues of approximately $21.0 million primarily due to a large term license transaction which shipped in the first quarter of fiscal 2010.

Revenues associated with our acquisition of Flomerics in the second quarter of fiscal 2009 were not material in Japan and the Pacific Rim.

We generate more than half of our revenues outside of North America and expect this to continue in the future. Revenue results will continue to be impacted by future foreign currency fluctuations.

Operating Expenses



        Three months ended April 30,            2009      Change        2008
        Research and development              $  62,291       (3 %)   $  64,382
        Marketing and selling                    76,601       -          76,648
        General and administration               23,036       -          23,061
        Other general expense (income), net         388      337 %         (164 )
        Amortization of intangible assets         2,870       18 %        2,433
        Special charges                           5,695      (41 %)       9,650

        Total operating expenses              $ 170,881       (3 %)   $ 176,010

We incur a substantial portion of our operating expenses outside the United States in various foreign currencies. When these currencies weaken against the U.S. dollar, our operating expense performance improves and when these currencies strengthen our operating expense performance is adversely affected.

Research and Development

For the three months ended April 30, 2009 compared to the three months ended April 30, 2008 we recorded approximately $2.0 million in expenses resulting from our acquisitions of Flomerics and Ponte Solutions, Inc. (Ponte) which occurred in the second quarter of fiscal 2009. This increase in expenses was more than offset by favorable currency movements of approximately $4.1 million.

Marketing and Selling

For the three months ended April 30, 2009 compared to the three months ended April 30, 2008 we recorded approximately $4.5 million in expenses resulting from our acquisition of Flomerics in the second quarter of fiscal 2009. This increase in expense was offset by favorable currency movements of approximately $4.4 million.

General and Administration

For the three months ended April 30, 2009 compared to the three months ended April 30, 2008, general and administration costs were flat. Currency movements had a minimal impact on general and administration costs. General and administration costs decreased as a percentage of revenue from 13% for the three months ended April 30, 2008 to 12% for the three months ended April 30, 2009. We were able to leverage our administrative costs over a larger revenue base in the current fiscal year, which included the Flomerics operations.

Other General Expense (Income), Net

Other general expense (income), net represents the expense (loss) or income
(gain) on the sale of qualifying receivables to certain financing institutions on a non-recourse basis. The increase in expense from the three months ended April 30, 2008 to the three months ended April 30, 2009 was primarily due to a decrease in the amount of receivables sold.

Amortization of Intangible Assets

For the three months ended April 30, 2009 compared to the three months ended April 30, 2008, the increase in amortization of intangible assets was primarily due to amortization of certain intangible assets acquired in the Flomerics acquisition during the second quarter of fiscal 2009 of approximately $0.5 million.

Exclusive of future acquisitions, amortization of intangible assets will decrease in fiscal 2010 primarily due to the complete amortization of intangible assets related to prior technology acquisitions partially offset by a full year of amortization related to intangible assets acquired during fiscal 2009.

Special Charges



              Three months ended April 30,            2009        2008
              Employee severance and related costs   $ 4,028     $ 8,114
              Excess leased facility costs               (41 )     1,443
              Acquisition costs                          268          -
              Other costs                              1,440          93

              Total special charges                  $ 5,695     $ 9,650

Special charges primarily consisted of costs incurred for employee terminations and were due to our reduction of personnel resources 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.

We rebalanced our workforce by 150 employees during the three months ended April 30, 2009. The reduction impacted several employee groups. Employee severance costs of $4.0 million included severance benefits, notice pay, and outplacement services. The total rebalance charge represents the aggregate of numerous unrelated rebalance plans, none of which was individually material to our financial position or results of operations. We determined termination benefit amounts based on employee status, years of service, and local statutory requirements. We communicated termination benefits to the affected employees prior to the end of the quarter in which we recorded the charge. Approximately 40% of these costs were paid during the three months ended April 30, 2009. We expect to pay the remainder during fiscal 2010. There have been no significant modifications to the amount of these charges.

Other special charges for the three months ended April 30, 2009 included costs of $1.2 million related to advisory fees and charges of $0.2 million related to a casualty loss.

We rebalanced our workforce by 110 employees during the three months ended April 30, 2008. The reduction impacted several employee groups. Employee severance costs of $8.1 million included severance benefits, notice pay, and outplacement services. The total rebalance charge represents the aggregate of numerous unrelated rebalance plans, none of which was individually material to our financial position or results of operations. We determined termination benefit amounts based on employee status, years of service, and local statutory requirements. We communicated termination benefits to the affected employees prior to the end of the quarter in which we recorded the charge. The majority of . . .