Good afternoon. My name is Mike, I will be your conference operator today. At this time, I would like to welcome everyone to the Cadence Design Systems third quarter 2015 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star, the number 1 on your telephone keypad. Thank you. I will now turn the call over to Alan Lindstrom, Senior Group Director of Investor Relations for Cadence Design Systems. Please go ahead.
Thank you, Mike, welcome everyone to our third quarter 2015 earnings conference call. With me today are Lip-Bu Tan, President and CEO, and Geoff Ribar, Senior Vice President and CFO. The webcast of this call can be accessed through our website, cadence.com, will be archived through December 18th, 2015. A copy of today's prepared remarks will also be available on our website at the conclusion of today's call. Before I start, I want to call your attention to our new CFO commentary, which was included in our 8-K filing today is available on our investor relations website at cadence.com. Since we are providing the CFO commentary, Jeff's prepared remarks will be streamlined, certain metrics not discussed in today's call, including historical comparisons, will appear in the CFO commentary.
The CFO commentary should be referenced in conjunction with both today's conference call remarks the earnings press release issued today. Please note that today's discussion will contain forward-looking statements that our actual results may differ materially from those expectations. For information on the factors that could cause a difference in our results, please refer to our filings with the Securities and Exchange Commission. These include Cadence's most recent reports on Form 10-K and Form 10-Q, including the company's future filings the cautionary comments regarding forward-looking statements in the earnings press release issued today. In addition to the financial results prepared in accordance with generally accepted accounting principles or GAAP, we will also present certain non-GAAP financial measures today. Cadence management believes that in addition to using GAAP results in evaluating our business, it can also be useful to measure results using certain non-GAAP financial measures.
Investors potential investors are encouraged to review the reconciliation of non-GAAP financial measures with their most direct comparable GAAP financial measures, which can be found in the quarterly earnings section of the investor relations portion of our website. A copy of today's press release, dated October 26th, 2015, for the quarter ended October 3rd, 2015, related financial tables can also be found in the investor relations portion of our website. I will turn the call over to Lip-Bu.
Good afternoon, everyone, and thank you for joining us today. Cadence delivered strong operating results for Q3. Revenue was $434 million, up 8% year-over-year. Non-GAAP operating margin was 27%, above the high end of our guidance range. Non-GAAP EPS was $0.28, also above the high end of our guidance range. Operating cash flow was $87 million, which kept us on track for our guidance of $360 million for the year. Let us first address the environment. Semiconductor business conditions remain challenging. Lower semiconductor growth for the year now appears likely. As we reported last quarter, we remain mindful of the ongoing consolidation in our semiconductor customer base. While we do not expect a material impact on our business near term, consolidation could pose a challenge to industry growth over the next few years. Let us turn to the Q3 highlights.
Our system design enablement strategy continues to create new vertical opportunities. In Q3, we signed a significant contract with GE Aviation for IP, hardware, and system-level design services. A biomedical technology company adopted our low-power mixed-signal design flow. We became the provider for the functional verification environment of a leading automotive chip supplier. A global automotive supplier significantly expanded its contract for functional safety verification to reduce their effort for ISO 26262 compliance. In the digital and sign-off space, the theme for the quarter was continued innovation, adoption, and proliferation of our new products. We expanded our digital footprint across multiple growing industries and across multiple process nodes. We now have over 30 top customers using the Innovus implementation systems for their advanced node production designs. This includes seven of the industry's top 10 semiconductor companies, where our digital implementation position has increased significantly.
In just three months since its launch, the Genus synthesis solution has already been purchased by multiple customers, with many more in evaluation. Cypress Semiconductor is standardizing on the Cadence full digital flow and Spectre XPS for full customer verification for their next-generation 40 nanometer mainstream products. Innovation continues with the introduction of another digital product, the Joules RTL power solution. Joules delivers time-based RTL power analysis 20 times faster than previous solutions. One of our most exciting announcements of the quarter was that the Nano Electronics Research Institute, imec, and Cadence completed the tape-out of the world's first five nanometer test chip using EUV combined with 193 immersion lithography and quadruple patterning. In sign-off, our Tempus timing solution surpassed 200 tape-outs, while the Voltus power solution and Quantus extraction solution continue to add new customers.
Cadence earned a partner of the year award from TSMC for joint development of the 10 nanometer design input infrastructure. IP is a fast-growing part of our business. It's one of the key tenets of our system design enablement strategy. The new Tensilica Vision P5 fourth-generation imaging DSP was introduced in Q3 with significantly improved capabilities and performance. The Vision P5 already have a major design win. We believe the Vision market presents a huge opportunity, especially in mobile, ADAS, and IoT applications. Design IP had the best quarter ever. Two major customers, a system company and a semiconductor company, have adopted our 14/16 nanometer multi-protocol SerDes physical layer for production designs. Ours is the first multi-protocol SerDes physical layer at this node. We also released a broad portfolio of design IP for TSMC's 10 nanometer FinFET process, for which we already have secured multiple design wins.
We received the TSMC Partner of the Year award for analog/mixed-signal IP. Let us turn to system design and verification. Verification remains the fastest-growing challenge for our customers, who must deliver functionally correct products within ever-tighter market windows. Addressing the verification problem requires a holistic approach with the integration of multiple complementary products, which we provide with our system development suite. The suite had an all-time record quarter in Q3, driven by the growth in North America and China. The exciting news for the hardware is that we have begun shipping our next-generation emulation platform. Purchasers of Palladium XP2, the existing platform, continued at a good pace in Q3 with strong sales to system companies. Sales of Protium, our FPGA prototyping platform, ramped significantly in Q3. Formal verification had a very strong quarter. A large system company renewed and increased its JasperGold capacity by 50%.
This was our largest order ever for formal verification. As companies in China move towards the leading edge, they are adopting formal technology. In Q3, we have our largest formal verification order so far in China. Our system interconnect business, which includes PCB, Sigrity system analysis, and IP packaging tools, again delivered strong growth with revenue up 9% year-over-year. Our Allegro system in package technology now supports TSMC Integrated Fan-Out packaging technology, also known as InFO. InFO advanced wafer-level packaging technology provides cost-effective system scaling to increase bandwidth and will be our ideal solutions for mobile and IoT applications. In summary, Cadence continued to deliver strong operating results in an environment that remains challenging. The system design enablement strategy is bringing more innovation and an increased vertical focus to our business and solutions. In digital and sign-off, we saw continuous innovation, adoptions, and proliferation of our new products.
We are steadily introducing new products and gaining customers in IP. We have started shipping our next generation emulation platform, and our PCB system analysis and packaging solutions host another strong quarter of growth. I will turn the call over to Geoff to review financial results and provide our outlook.
Thanks, Lip-Bu, good afternoon, everyone. As Alan mentioned at the start of our call, we introduced our CFO commentary this quarter. As a result, I will be focusing on the quarter highlights and operational drivers in my prepared remarks. You will find all the numbers in the CFO commentary, which are included in our 8-K filing today, and is also available on our website. The CFO commentary should be referenced in conjunction with both my remarks and the earning press release issued today. For the Q3 results. As Lip-Bu discussed, the environment remains challenging, the pace of customer consolidation seems to continue unabated. I'm especially proud of the way we've been able to achieve good results in this environment. Total revenue was $434 million, up 8% year-over-year. Revenue exceeded our expectations due to the timing between Q3 and Q4 of certain transactions.
As Lip-Bu said, we began shipping our next generation emulation platform. We expect to begin recognizing revenue in Q4. Total costs and expenses on a non-GAAP basis were $316 million, up 9% year-over-year. As previously discussed, the growth in expenses this year reflects the investments we are making in R&D and technical customer support. Non-GAAP operating margin was 27%, unchanged from 2014. Results exceeded our expectations due both to higher revenue and better expense management. GAAP net income per share was $0.25. Non-GAAP net income per share was $0.28, up 8% year-over-year. In addition to higher revenue and better expense management, lower than assumed interest expense contributed to the better-than-expected non-GAAP EPS. Operating cash flow was $87 million, compared to $88 million for Q3 2014. Cash and short-term investments were $711 million at quarter end, compared to $744 million at the end of Q2.
DSO were 28 days. Our new stock repurchase program is off to a strong start. We repurchased 5.9 million shares of stock in Q3 for $120 million. Our program target remains $1.2 billion by the end of 2016, and we expect the pace of repurchases to pick up in Q1 2016 after the final settlement in December of the warrants associated with the convertible debt we retired in June 2015. Now, let's turn to our outlook for the fourth quarter. We expect revenue in Q4 to be in the range of $434 million-$444 million. This expectation takes into account the timing of certain transactions between Q3 and Q4. Also, please recall that Q4 2014 included an extra $15 million of revenue due to the extra week in our fiscal 2014.
This is also a good time to remind everyone that while our software and maintenance revenue is highly predictable, revenue for both hardware and IP is lumpier, which may contribute to increased variability in quarterly revenue as these businesses grow. Non-GAAP operating margin is expected to be in the range of 27%-28%. GAAP EPS for the fourth quarter is expected to be in the range of $0.20-$0.22. Non-GAAP EPS for the fourth quarter is expected to be in the range of $0.28-$0.30. Now for our fiscal 2015 outlook. Bookings are projected to be in the range of $1.87 billion-$1.93 billion, unchanged from last quarter. Revenue is expected to be in the range of $1.695 billion-$1.705 billion. The midpoint is unchanged from last quarter, and hardware revenue is expected to increase in 2015 compared to last year.
Non-GAAP operating margin is expected to be in the range of approximately 26%-27%. This is up from our prior expectation of 25%-26% due to strong execution and expense management. As we discussed last quarter, remember as you think about the next year that our investments in hiring for R&D and technical customer support have ramped throughout the year and will continue to do so in Q4. Hence, we will exit 2015 at a higher expense run rate than we are at present. GAAP EPS is now expected to be in the range of $0.75-$0.77. Non-GAAP EPS is now expected to be in the range of $1.06-$1.08, which is up $0.07 at the midpoint from our initial guidance for 2015 due to strong execution and expense management. We expect operating cash flow to be approximately $360 million, unchanged from last quarter.
You will find additional guidance for the additional items in the CFO commentary. With that, operator, we will now take your questions.
At this time, I would like to remind everyone, in order to ask a question, please press star, then 1 on your telephone keypad now. We will pause for a moment to compile the Q&A roster.
Your first question comes from Gary Mobley from Benchmark.
Hi, guys. Thanks for taking my question. This is my first question on your call, hopefully I don't ask it in the wrong way or offend anybody. I wanted to start out by asking about the sequential decrease in deferred revenue. Is there anything to read into that as far as customer licensing activity?
No. For us, deferred revenue is really just cash that we've collected upfront, and we work very hard to match our cash collections with our revenue. That's nothing. It was just a normal variability with that.
Okay. I appreciate the fact that you haven't changed your outlook for total bookings for the year, have you seen any early indication as to how your customer consolidation, in particular on the semiconductor side, has impacted the licensing pipeline? Whether it be shorter license duration or maybe just in general hesitation on your customers' parts to commit to licensing activity.
This is Lip-Bu. Clearly, the environment, the semiconductor business condition continues to be challenging, as I mentioned. Clearly, the softer semiconductor growth for the year seems likely. Saying that, I think clearly the ongoing consolidation in our customer base will continue. That potentially will have challenge in the longer term, but we do not expect any material impact in the short term. Overall, I think we see consolidation will continue and the pace will continue. Meanwhile, I think it's a great opportunity for us to continue driving new product, new solutions that meet the customer challenging requirement in terms of design. Also we see a new breed of system company that are engaging heavily with us. That's a great opportunity in some of the verticals. Overall, we don't see any significant change in some of their behavioral patterns.
Geoff, anything to add to that?
Okay, I appreciate the response. As an extension to that response, I'm not asking you to name any specific licensing opportunities with the system OEM, but could you share with us your opinion as to how the consolidation in the semiconductor industry might increase verticalization amongst your system OEMs? In other words, taking on more responsibility for SoC design as a part of overall system design, and how that impacts your business long term.
Yeah, good question. Let me try to answer. Clearly, I think the consolidation, the increase in the system OEM, the system company, those are great opportunities for us, because we have a whole suite of product and offering that is meeting their requirement. First of all, I think clearly our much improved digital flow, we can talk more about it. Secondly, our custom analog have been continued to be moving to the advanced node. Our IP portfolio has been increasing substantially and in the system engagement. Also our PCB Sigrity system analysis, hardware-software co-design, co-verification. We kind of call it the system design enablement that we provide, turned out to be a very welcome solution from the system company. They want to look at the entire set, beside the tool, beside the IP, and also the hardware-software design.
Their time to market will be critical success for them, and we have the key solutions they're looking for, and that's something that we are very excited about.
Okay. That's it for me. Thank you.
The next question comes from Richard Valera from Needham & Company.
Thank you. Lip-Bu, I just wanted to clarify your comments on the impact of M&A. You're saying you're not seeing anything short term. What is it that you're thinking you're going to see long term? Are you just saying it could be a headwind to the industry in general? I just wanted to clarify what you were saying about the longer term potential impact from semiconductor M&A.
Sure. I think it's a very good question. Clearly, as I indicated earlier, we don't see any short-term behavior changes. I think it's more the impact in the longer term. The main reason I think that because it's a longer term, the EDA is very complex, very difficult to predict. We're clearly seeing that more consolidation and the customer have a greater economic power, that also have the energy and engineering synergy that will result with the fewer EDA seats. Saying that, clearly it's a great opportunity for us when we have the whole portfolio of solution that we can provide them. To them, it's very important, it's time to market, help them to solve their most complex design in the 16, 14, ten, and seven nanometer.
We believe we have the right solution, the best product in the marketplace to provide that solution for them to meet their time to market challenges, especially in the hardware, software, packaging, system design envelope that they can analyze. The power is critical, some of the massive parallelism is critical for their success, that's where we plan to shine.
Great. Thank you for that. I had a couple questions on your emulation box, the shipping the new box. Congratulations on that. One, I just wanted to get a sense of how you see the manufacturing ramp for that going, where you stand with your contract manufacturing partner. Are they up to speed? How you think that trajectory goes. If you can talk at all about what kind of order book you have for that new box and when do you think you maybe catch up with that production, assuming you do have some backlog already built up?
Yeah, good question. We are extremely pleased with Q3 that we are able to have begun shipping our next generation emulation platform. We expect to recognize the first revenue in Q4. We are delighted to see the bookings building up. I think as we expected and predicted, that we organized the team with a very strong operation with contract manufacturing in place. This time around, we were able to scale in a more efficiently. I think to answer your question, we have the right management team in place for the manufacturing ramp. The order is coming in very nicely. We're happy with that. Our first recognition of revenue will be in Q4.
This expected revenue is already included in our guidance.
Great. Geoff, would you be willing to say anything at this point? One, I'm guessing no, but would you say if you think emulation revenue is up sequentially in Q4 versus Q3? Any thoughts on emulation revenue in 2016 versus 2015 at this point?
Sure. The things that we've said is we expect emulation revenue to be up in 2015 versus 2014, which we already said. At this stage, we're not ready to guide 2016, of course. We'll do that in the Q4 earnings call.
Okay. That's it for me. Thanks, gentlemen.
Thank you.
The next question is from Jay Vleeschouwer from Griffin Securities.
Thank you. Good afternoon. A couple of short-term product questions first. Following up on Rich Valera's question just now about emulation. For the business to be up year-over-year, which you reiterated would be the case, would it be fair to say that in Q4, you would probably have to have a record quarter ahead of what you did with emulation in Q4 of 2012 and Q4 of 2013 to eke out some gain for the year? Second product question is at your CadenceLIVE customer event in Boston early last month, it was mentioned that in October, the month just ending, of course, that Genus would become generally available commercially and that you would ship a new version of Innovus, 15.2, as well. Could you talk about whether either of those two events for Genus and Innovus occurred?
I'll take the emulation question. Jay Vleeschouwer, I think what we're going to say is 2015 is up over 2014 for emulation. That's all we're going to say at this particular point in time.
On the digital question that you have, first of all, we are very delighted with our Innovus penetrations. Only six months since we launched the product, as I mentioned in my remarks, over 30 customers using the Innovus for advanced node productions design, includes 7 of the industry top 10 semiconductor companies, they have increased significantly with us. Back to your question on the Genus side. Three months since launch, we have over 40 customers evaluating on our solution, quite a few of them already have multiple purchase with us, we are delighted with the progress that it's making. The other part, we are really excited, the imec, the 5-nanometer test chip and are using Innovus. Innovus clearly is proliferating very rapidly across all the top customers, we're delighted to hear that.
I think all in all, I think clearly we are working on the Innovus, as mentioned, the 2.0. We never stop. We continue to work on it. The time come we're going to launch, we will announce that, we continue to really make sure that the tool is well received by the customer in the most advanced nodes, make sure it's stable, make sure that it's really working well, the customer can proliferate across all the product line, all the engineering team.
Okay. Maybe we can talk about the issue of semi customer consolidation in the context of EDA consolidation. Over the last number of years, as you know, EDA has become increasingly consolidated. The Big 3, including yourselves, now have well over 80% of total industry revenue. Was not that long ago, about 75% or so. Your increase in consolidation has occurred as your customers have become increasingly consolidated. Now the question becomes how much more consolidation can there be in EDA to perhaps help offset the consolidation among your customers? When you break down the remaining, let's call it $900 million or so of EDA revenue that is not Cadence, Synopsys, and Mentor, four or five companies account for the bulk of that. Ansys, Zuken, Keysight, Altium, and of course Atrenta is gone now.
That leaves you lots of little companies that probably wouldn't be all that material if you were to acquire them among the remaining non-Big 3 companies. I guess the question is, how are you thinking about further consolidation that would be meaningful from a revenue and technology standpoint for you in EDA? Perhaps where did that then lead you to perhaps doing something outside of EDA, as Synopsys has done with Coverity?
Good question. Clearly, our customer is consolidating, but this is a great opportunity for us. As I mentioned earlier, we continue to double, triple down on our product development. I'm very pleased and very proud of my team. The last two years, we have 12 new products organically developed. Clearly, we're going to continue driving the innovation culture within Cadence nonstop. We continue to drive the innovation culture and then development within time. Saying that, clearly, we continue to look outside. Clearly, the M&A, we really focus on the disciplined approach to our M&A. We really have to fit our culture, our strategy that we plan to build in that system design and enablement strategy we already lay out. Clearly, have to have a differentiated technology.
Clearly, we can bring in top talent management team and the technical talent that can augment our current team, and of course, have to be really providing a return on investment that is attractive to us. All in all, I'm saying is that continue focus on our internal development, work closely with the tier 1 customer, that we can learn from them and drive the solution that they need. The other part is using the M&A to augment and supplement our internal development when it makes sense. I think overall, we have this very balanced approach. We review with our board, with our management team, make sure that every investment acquisition we make has a synergy and execute well for us. We're not just buying for revenue.
That we really focus on the product, the technology, and the customer needs.
Last one from me, if I may, for Geoff. Would it be fair to say that the larger than expected revenues in Q3 owing to the timing effects was related to IP and specifically IP services engagements?
No, I think what we're going to say is that there was timing of certain transactions between Q3 and Q4 that allowed us to exceed in Q3 and still keep the second half of the year unchanged.
Okay. Thank you.
Thank you.
Your next question comes from Gus Richard from Northland.
Yes, thanks for taking my question. It looks like R&D expenses are coming down a little bit in the second half. Is that a function of the maturing of your new digital tools that you're supplying?
If they are coming down, it's because of shutdowns and vacations and those types of things. We are continuing to make investment, as I think I said in my prepared remarks, which will lead to our run rate and expenses being higher by the end of Q4 than they currently are right now, and certainly higher than they were at the beginning of the year.
Okay, got it. Then, in terms of the emulation products, can you just describe what triggers rev rec in the fourth quarter? You've obviously shipped some tools. Are you waiting on customer acceptance or how is that going to work for you since it's capital equipment?
Yeah, I think, again, it's great news that we're shipping our next generation emulation platform. We expect to recognize revenue starting in Q4. There is, of course, acceptance criteria that has to be met for revenue accounting that hardware.
Okay. After the first article, does that rev rec change going forward, and it'll be a little bit smoother in terms of recognizing revenue?
The acceptance criteria remains very similar.
Okay. All right. Could you just talk a little bit about the growth of overall EDA as you see it over the next 2 years? It looks like the core digital implementation has grown about 4%. Is that kind of what you think the industry growth rate's going to be? How do you think you can do vis-a-vis that in terms of market share?
Yeah, because of how we round in those schedules, it looks like it's 4%, but digital revenue was actually up 7% year-over-year. As always, there's a lot of noise in quarterly revenue at the product group level. It's up 7% year-over-year, and we're of course, not commenting on long-term EDA growth.
Gus, just to add on to what Geoff Ribar mentioned earlier. Clearly, our customer is facing a lot of challenges in terms of the complexity of design, when they move down the geometry to 14, 16, some of them are moving to 10 and 7. Double, triple patterning needed. EDA becomes so essential for their design. That's where we see the opportunity, and we need to triple down in terms of some of our solutions to provide the needed solution they're looking for. Partners are looking for us as opportunity.
Okay, got it. Thank you so much for taking my questions.
Sure.
Your next question comes from Monika Garg from Pacific Crest Securities.
Hi, thanks for taking my question. Since you've released the new emulation platform, could you maybe talk about how do you expect the benefit on your operating margins with the new platform?
Yeah, obviously, Monika, we're not going to be guiding individual product categories and product gross margin at this stage.
Okay. Geoff, you still have more than $1 billion left in share repurchase, which you announced last quarter. Maybe could you talk about how do you plan to finance the same?
Sure. We've been consistent in saying that the repurchase program will be funded by US cash on hand, future US cash flow, and additional debt. There's, of course, a lot of time between now and the end of 2016. Don't forget, we have a $250 million undrawn credit facility also at the time.
Got it. Thanks.
The repurchase program.
The last one here, the service revenue has ramped in 2015 almost up 30% plus year-over-year. Maybe can you talk about any particular reasons for that?
No. Services revenue is going to be just based on business demand and how the business demand comes out. We're quite happy with our business there, and they're doing quite well with that business.
All right. Thank you so much.
Your next question comes from Sterling Auty from J.P. Morgan.
Yeah, thanks. Hi, guys. Wanted to start with, can you actually quantify for us the timing impact in terms of the revenue? How much revenue came into the third quarter from the fourth quarter?
We kept the year unchanged, Sterling. I think that's probably the best way to look at it, right? How the numbers played out were based on timing between Q3 and Q4. We're not going to specify which, how much.
There was a question a little bit earlier, but I just want to ask it this way. When you look at the last Palladium cycle, how many quarters does it take to get to either peak revenue or fully ramped revenue?
I think that the key point is how we did in the last time, 2010 and 2011, was materially different than we are this time. The cycle is clearly different based on the fact in 2010 and 2011, we were coming out of the Great Recession. We also had when emulation first became a requirement once you get under 40 nanometer. We expect this cycle to be different, of course, than that cycle was. We are seeing strong customer demand, building a good backlog. We expect healthy adoption rates, we want you to keep that in mind.
Okay. Can you give at least some qualitative color as to, you talked about the strength in the IP business in the quarter, how much of that would have been stuff that benefited primarily the third quarter versus a lot of your IP business is still ratable as well. How much benefit would we see in the fourth quarter and into 2016 from the strength in the IP business this quarter?
Yeah. The IP business was up about 27% year-over-year from the prior Q3. That business is lumpy, as I mentioned in my prepared remarks, and will likely continue to be lumpy. There is some part that's recurring, and there's some part that's lumpy, and so the revenue will fluctuate more as we continue to grow that business. Maybe that's a little bit of a qualitative comment. Hopefully, that helps.
Okay. Last one from my side. The warrant settlement in December, the last part of the bond. Just because there's been lots of questions around it, can you go ahead and give just some color around what the logistics around that look like in terms of how it settles, any cash impact, if any, et cetera?
Sure. The warrants would settle from the early part of September to the early part of December. They're net share settled, so no cash involved with that, and a potential dilution is already in the share count. I think those are probably the main points, Sterling.
Thank you.
Your next question comes from Tom Diffely from D.A. Davidson.
Yes, good afternoon. First, I guess, Lip-Bu, is there some way you can give us a little more color on the capabilities of the new emulation tool as per the previous version or the competitive landscape?
Sure. Clearly, we continue to improve on our performance and the power, and most important, clearly, we will provide you more detail when we announce the new platform in Q4.
Okay. Is there a certain customer type or chip type that it's designed for initially, or is it a fairly broad, all-encompassing tool?
Pretty broad. Clearly, I think not just the semiconductor company in the high-performance complex design, they need this hardware emulation. The system company really appreciate that because they can find the bugs earlier. That can help them tremendously in the time to market. Anything that below 40 nanometer complex design, this is almost a must-have, and we have a very strong footprint. Clearly, our product development, all our clear leading customers have exposed to it. They love it. We'll continue to build out the booking.
Okay. I guess switching gears then. When you look at IoT as a potential driver going forward, obviously they'll be simpler chips, but very high units. How do you view IoT as a potential incremental driver for EDA?
Good question. I think clearly IoT is very exciting. I think a couple of factors will drive the growth. One is IoT, a lot is connecting and collecting data, and then mostly go to the cloud. That whole cloud, big data infrastructure, and that is our stronghold, and we are delighted in a lot of our digital and verification portfolio that we can provide and helping our customers to succeed on that. On the IoT side, really the low power is critical, and also clearly the IP block become very important to them. We announced the new Tensilica Vision P5.
Tensilica being a programmable engine, clearly have a huge opportunity for IoT application because it's something that you can program and then see what stick and then what really providing the solution, the diagnostic or monitoring the data that can collect from human being and then go out to the cloud. That kind of high-speed connectivity, wireless capability will be critical. Our design IP benefit from it. Clearly our digital, a lot of those design are mixed signal. Clearly the mixed signal analog become critical, and of course, all have to be within the power envelope, and that's where our packaging become very exciting. A lot of customers are using our PCB and then also our Sigrity.
Sigrity can able to analyze the system level so that you don't have to do the re-spin, because you can predict the power and the performance more accurately. Same thing with our new product called Joules, that can provide that whole RTL power estimation that is critical for IoT. I think all in all, some of this vertical market, we are very excited because we are building up all the building blocks needed, providing the solution to our customers.
Okay. How long do you think it takes for that to really get hot?
How long can you get what?
How long until this market really is a robust market for you? It sounds like you're putting all the pieces in place, at what point do you think both the units and also the infrastructure is going to create a big business for you?
Yeah, I think clearly, it's just in the early stage of evolution. Clearly, if you look at Fitbit and then some of this Gear 2 from Samsung and Apple Watch, they are all starting into the flow of getting the data that can be useful for data analytics. Frankly speaking, I think the business model need to be clearer. My personal belief that data analytics or big data will be the big driver. I think you're going to see that proliferating very rapidly in terms of healthcare, in terms of the fitness. Over time, people are going to come up with a better solution to give us more aware of our wellbeing, and also more connected to our community, our family members. To me, that is a very holy grail of moving that.
The other part is also the IoT link up to some of the, not just the smart devices, connected device, and also some of the dumb devices can be connected. That low power is critical. That's where I think Cadence solution will be shining and then providing to the customer in the low power environment, providing the relevant data that they need.
Okay. That's helpful. Geoff, over the next couple years, when you see an increase in your business moving towards IP and hardware, how do you view that impact on the margin structure?
Tom, it's a good question, and it's something we think about all the time, but right now we're not guiding beyond 2015. We'll let you know a little bit more when we guide 2016 in January, February timeframe.
Okay, thanks.
Your next question comes from Mahesh Sanganeria from RBC Capital Markets.
Yes, thank you. Geoff, you're increasing the operating margin guidance by 100 basis points. That's pretty significant. Can you talk about a little bit what is driving that? One of the things you talked about vacations and time off or shutdowns, but I'm pretty sure that's not the only thing. Is it timing of your projects are moving out or what drove that upside?
I think the timing of our projects remain on track. I think it's been strong execution, foreign exchange, and expense management have clearly contributed. We will continue to ramp expenses in R&D and in technical customer support through the year and obviously into Q4 also. Just remember that we will exit 2015 at a higher expense run rate than we currently are running. Again, for us, it's been strong execution thus far, foreign exchange, and expense management.
In terms of your expense ramp, would you be done by end of 2015 or the pace will continue into 2016 in terms of?
Yeah, we're not guiding 2016 at this stage.
Okay. Then in terms of the revenues, if I look at the segment, of course, there is rounding issues, but this year, you're doing strongest in IP up to about 20% and followed by functional verification more than 10%. Is that how we should be looking at going forward? Are those the strongest growth segments for you?
Again, a couple points. We don't guide individual segments, Mahesh. It's just something we don't do. Clearly right now, we're not guiding 2016 at this stage either. Stay tuned for January, February timeframe.
Okay, let me try asking different way. You've talked about a potential significant market share gain in digital design. The question is, when do we see that in numbers? Because of the way you recognize the revenue, should we be seeing that two years down the road, three years down the road? When do we see those in the numbers from the current growth rate?
Yeah. There's always going to be a lot of noise in the quarterly revenue at the product level group. Fundamentally, winning and proliferating will precede the revenue growth and revenue ramp in digital. Just to give you the numbers again, we were up 7% year-over-year in digital, so quite happy with how we're doing.
Okay. Thank you.
Thank you.
Your next question comes from Krish Sankar from Bank of America.
Yeah. Hi, thanks for squeezing me in. I had two quick questions. One for Geoff. On the mechanics of the buyback, with the warrant settling between September 10 and December 10, is it fair to assume the $120 million in buyback in Q3 was done before September 10, and any buyback in Q4 will start after December 10?
No, Krish. We pretty much buy on a regular basis. We do not want to have us being in the market impact the warrant settlement, but we pretty much buy on a steady basis on a VWAP on a daily basis when business is open.
Okay. All right. Another question for Lip-Bu. I think it's been spoken about quite a bit now about semi-consolidation impacting maybe in the long run, you guys. We're trying to figure out, if you look at it, some of these M&A deals that have been announced have not yet completed yet. Is it fair to assume, based on the time lag, any impact on EDA budgets would be more of a 2017 event, not a 2016 event? Is this the right way to think about it?
I think that's a good question. I think the consolidation I mentioned earlier are getting bigger and bigger, clearly, we watch that carefully, and we are very proactive. We continue to engage with the acquiring company and also being acquired company and make sure that we have a very strong footprint going forward. Clearly, some of this consolidation, the first thing they cut to drive efficiency in terms of G&A, that will be obvious. Then in some of the engineering side, we watch carefully in terms of how they are locating the resources. That's usually the last thing they want to change. Even if they let go of some of the engineering talent, it will be grabbed by somebody else if it's good talent.
I think we're kind of keeping track of the talent, where they go to, make sure that we continue to engage, and then providing the solution to them. I think it's very hard and very complex to predict, but we keep a very close eye and proactively, we're reaching out to the acquired company and also making sure that we continue to increase our footprint and providing the best solution. Clearly, they're going to drive some of the engineering synergy, and then it may result in a fewer EDA shift, but hopefully, not at our expense. Hopefully, we will continue to increase because we have a best solution for them to design the most complex chip, and they can depend on us.
Got it. If I could just squeeze in one last. How many contract manufacturers do you have for the current new emulation platform?
Yeah. We don't provide that, because purely from the competitive point of view. We have a very strong leader that's driving the whole supply chains. Clearly, we have the whole mapping out, even when we started developing of the product. We are very strong in terms of plan and execution, and I have very regular update from him. I think clearly, all in good places. Of course, we're also managing the risk associated with it. I think you can read between the lines. We have a very strong plan in place for the manufacturers.
Got it. Thanks a lot, gentlemen. Thank you.
Thank you.
Our final question comes from Farhan Ahmad from Credit Suisse.
Thanks for taking my question. I just had a very high-level industry question. Lip-Bu, you kind of highlighted some of the concerns around more and more M&A in the semi space. I wanted to get some insight into how much of your revenues are coming from semi customers versus some of the new systems company that are doing semiconductor design. You kind of started the call by highlighting some of your wins in aerospace, autos, and biomedical. I just wanted to see if there is an offsetting effect to the M&A in terms of systems companies becoming bigger and bigger part of the overall semi design. That's something that's not captured in these semi revenues. I just wanted to understand if you could provide some commentary around that. That would be really helpful.
I think there's a couple of things, Farhan. I think as I mentioned earlier, consolidation will be continuing. Meanwhile, we have been emphasizing on this system design development, the enablement, and that basically providing the entire vertical solution stack, and then from IP tool and PCB and the whole system design and verification. We strongly believe that it's a strategy important and successful going forward to meet the requirement on some of this vertical that you mentioned earlier. We are very excited about some of this vertical. As I mentioned earlier, the IoT, the cloud infrastructure, and then the massive cloud infrastructure building up, and then the automotive is part of the connected devices. Some of the medical field and DNA sequencing and then all this big data required in terms of cancer treatment and a few others.
Those can be a clear application for some of our IP portfolio and then some of our EDA flow, and also some of our hardware PCB and system analysis requirement. All these tie in really well and synergistically providing a solution to address some of this vertical. To answer your question, the system company right now is more than 40% of our business. Some of that is very hard to categorize because some of the system company also have a semiconductor subsidiary, and so we have to be very careful how to quantify that. Overall, in general, it is fast-growing, increasing, and also we have the right choice of platform for a lot of system company. We mentioned one in our remarks, is the GE Aviation.
That is a very good example of EDA and then the hardware emulation and even some of the high-end system-level design services that we can provide a solution to them, and that is critical for some of these vertical markets.
Thank you. That's all I have.
I will now turn the call over to Cadence President and CEO, Lip-Bu Tan, for closing remarks.
In closing, I'm very proud to highlight that the Great Place to Work Institute has recognized Cadence and our hardworking employees by including Cadence in their 2015 list of World's 25 Best Multinational Workplaces. I would like to thank all our employees, shareholders, customers, and partners for their support. Thank you all for joining us this afternoon.
Thank you for participating in today's Cadence Design Systems third quarter 2015 earnings conference call. This concludes today's call. You may now disconnect.