On Monday, Cadence Design Systems (NASDAQ:CDNS) discussed first-quarter financial results during its earnings call. The full transcript is provided below.
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View the webcast at https://events.q4inc.com/attendee/818860995
Summary
Cadence Design Systems reported a strong Q1 2026 with 19% year-over-year revenue growth, driven by demand for their AI-enabled solutions, resulting in a record backlog of $8 billion.
The company raised its full-year 2026 revenue growth outlook to 17%, reflecting confidence in their expanding agentic AI offerings which are expected to drive increased EDA consumption.
Cadence continues to lead in the semiconductor design transformation with new AI superagents (VitaStack, InnoStack) and a strategic collaboration with Google Cloud, enhancing their cloud-native platform capabilities.
The IP business showed a 22% year-over-year growth with significant competitive wins, while the core EDA business grew 18%, showcasing strong customer adoption of their AI-driven solutions.
Management highlighted robust opportunities in physical AI and emphasized ongoing strategic investments in R&D and go-to-market capabilities, despite short-term dilution from the Hexagon acquisition.
Full Transcript
Abby (Operator)
Ladies and gentlemen, good afternoon. My name is Abby and I will be your conference operator today. At this time, I would like to welcome everyone to the Cadence first quarter 2026 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 and then the number one on your telephone keypad. Thank you. And I will now turn the call over to Richard Gu, Vice President of Investor Relations for Cadence. Please go ahead.
Richard Gu (Vice President of Investor Relations)
Thank you, operator. I'd like to welcome everyone to our first quarter of 2026 earnings conference call. I'm joined today by Anirudh Devgan, President and Chief Executive Officer and John Wall, Senior Vice President and Chief Financial Officer. The webcast of this call and a copy of today's prepared remarks will be available on our website, cadence.com today's discussion will contain forward looking statements including our outlook on future business and operating results. Due to risks and uncertainties, actual results may differ materially from those projected or implied in today's discussion. For information on factors that could cause actual results to differ, please Refer to our SEC filings, including our most recent Forms 10K and 10Q, CFO commentary and today's earnings release. All forward looking statements during this call are based on estimates and information available to us as of today and we disclaim any obligation to update them. In addition, all financial measures discussed on this call are non GAAP unless otherwise specified. The non GAAP measures should not be considered in isolation from or as a substitute for GAAP results. Reconciliations of GAAP to non GAAP measures are included in today's earnings release. For the Q and A session today, we would ask that you observe a limit of one question only. If time permits, you can re queue with additional questions now. I'll turn the call over to Anirudh.
Anirudh Devgan
Thank you, Richard. Good afternoon everyone and thank you for joining us today. I'm pleased to report that Cadence had a strong start to 2026 with accelerating AI demand and disciplined execution delivering one of the best Q1s in company's history. Our record backlog of of $8 billion was ahead of plan, reflecting strong customer confidence in our AI driven portfolio and its pivotal role in enabling delivery of their increasingly complex chip and system design roadmaps. Given the accelerating momentum of our business, we are raising our 2026 revenue growth outlook to 17% and expect to achieve the rule of 60 for the first time. Sean will provide more details in a moment. Agentic AI era is here, and Cadence is leading the transformation of semiconductor and system design. At Cadence live Silicon Valley 2026, we took a major step towards fully autonomous chip design, pioneering the industry's most advanced and comprehensive Agentic full flow platform. We introduced AgentStack, the head agent framework for our AI super agents which enables knowledge sharing across the design flow and extend autonomous designs from chips to three DIC to systems. Building on our revolutionary chip Stack AI Super Agent for RTL design and verification, we introduced two new breakthrough AI superagents, Vita Stack for analog and Custom Design and InnoStack for digital implementation and sign off. Together, these solutions span the entire chip design flow, creating a connected continuous learning platform that brings the industry closer to comprehensive automation. As the industry begins transitioning to Agentic AI, the need for physically accurate and highly mathematical EDA solutions become even more critical. Our AGENTI AI solutions are built on decades of domain expertise, proprietary data and tightly integrated physically accurate engines delivering high fidelity results. We continue to view our platform as a three layer cake with accelerated compute and data as the base layer, principle, simulation and optimization as the critical middle layer and Agentic AI as the top layer. As I've said before, we believe the greatest value comes from the tight coupling of these layers reinforcing each other to deliver much better results. As these super agents invoke our simulation, verification and implementation engines at scale, we expect them to materially expand to EDA consumption and drive higher usage across our platforms. We announced a strategic collaboration with Google to optimize the chip stack AI Super Agent with Gemini on Google Cloud by combining LLM Reasoning with GCP Scalable Compute. This collaboration delivers a cloud native platform for next generation chip development. In Q1, we furthered our long standard partnership with MediaTek through a wide ranging expansion across our new Agentic AI offerings and core EDA3 DIC and system analysis solutions. Physical AI is emerging as the next big wave of intelligence as AI moves into autonomous systems, autos, drones and robotics, and Cadence is uniquely positioned to lead this transition. The addition of Hexagon's DNE leading structural and multibody dynamics technologies transforms our system analysis portfolio to a leadership position in physical AI, enabling customers to build and train fundamentally new AI world models by narrowing the critical Sim 2 real gap. At cadence Live Silicon Valley, we announced an expanded partnership on AI and robotics with Nvidia. By combining our Agentic AI driven solutions with Nvidia's advanced technologies, we are accelerating engineering workflows and boosting productivity across chip design, physical AI systems and hyperscale AI factories. Now let me provide an update on our businesses. Our IP business continued its strong momentum with 22% year over year revenue growth driven by accelerating demand of AI, High Performance Computing (HPC) and automotive workloads. Growing complexity of advanced node designs and chiplet based architectures is driving strong demands of our differentiated star IP portfolio. Across interface, memory and foundation IP we achieved meaningful competitive wins and customer expansions at marquee accounts reflecting the breadth of our portfolio and more importantly the differentiated performance of our solutions. We closed a record deal with a leading global foundry marking our largest IP engagement with this customer to date and reinforcing our leadership at the most advanced nodes. With strong market tailwinds, focused strategy and expanding customer proliferation, we remain very well positioned for continued growth in ip. Our core EDA business delivered another strong quarter with revenue growing 18% year over year driven by increasing proliferation of our solutions at market shaping customers. Our AI driven solutions and increasingly our Agentic offerings are becoming an important part of customer renewals and expansions. Demand for a hardware accelerated in Q1 resulting in our best quarter ever led by AI, High Performance Computing (HPC) customers and increasing demand in automotive and robotics. Palladium Z3 continues to be the gold standard for emulation and drove multiple competitive displacement. Momentum on verification software grew particularly in Excelium and Verisim. Sim AI and chip stack generated tremendous customer interest with a large number of evaluations underway led by AI driven cadence cerebral solution. Our digital platform continues to gain share especially at the most advanced nodes. A global semiconductor design leader significantly increased their innovus usage and adopted our digital sign off solutions and a marquee AI infrastructure company expanded their usage of our sign off solutions and their leading edge ASIC designs in custom and analog. Our AI driven virtuoso studio continued its strong momentum in design migration and layout automation as it gets increasingly deployed by analog and mixed signal leaders seeking greater productivity. Our system design analysis business delivered 18% year over year revenue growth as AI driven multiphysics simulation and 3D IC become essential to addressing growing system challenges. We have strong momentum in 3Dic where our unified multi die integrated design to analysis flow is helping customers address their rising chiplet and advanced packaging complexities. We also saw strong momentum, insigrity and clarity with multiple memory and advanced IC packaging customers expanding their deployments as they move to higher speed interfaces. Customer adoption is increasing as they look to address signal integrity, power integrity and thermal challenges earlier in the design flow through deployment of a full cadence sign off flow. In closing, I'm pleased with our strong execution and the broad based momentum of our business. As the Agentic AI era unfolds, Cadence is leading the charge to realizing much higher design productivity. Increasing design complexity and the growing need for productivity is creating a compelling long term opportunity for Cadence. With our differentiated solutions and expanding agentiq AI portfolio, I believe we are very well positioned to lead this transition and continue delivering meaningful innovation and value to our customers. Now I will turn it over to John to provide more details on the Q1 results and our updated 2026 outlook.
John Wall (Senior Vice President and Chief Financial Officer)
Thanks Anirudh and good afternoon everyone. I'm pleased to report that Cadence delivered excellent Results for the first quarter of 2026 with accelerating momentum and broad based strength across all our businesses. Robust design activity coupled with our Solid execution drove 19% year over year Revenue growth and 45% operating margin for Q1 first quarter bookings were ahead of expectations, resulting in record backlog of $8 billion. Here are some of the financial highlights from the first quarter, starting with the P and L total revenue was $1,474,000,000. GAAP operating margin was 29.3%, non GAAP operating margin was 44.7% GAAP EPS was $1.23 and non GAAP EPS was $1.96. Next, turning to the balance sheet and cash flow. Our cash balance was $1,407,000,000, while the principal value of debt outstanding was $2,925,000,000. Operating cash flow was $356,000,000. DSOs were 67 days and we used $200,000,000 to repurchase Cadence shares. Before I provide our updated outlook, I'd like to highlight that it contains the usual assumption that export control regulations that exist today remain substantially similar for the remainder of the year. For our updated outlook for 2026, we expect revenue in the range of $6,125,000,000 to $6,000,000,000 and $225,000,000 dollars. GAAP operating margin in the range of 27.5 to 28.5% non GAAP operating margin in the range Of 43.5 to 44.5% GAAP EPS in the range of $4.39 to $4.49 non GAAP EPS in the range of 7.85 to $7.95 operating cash flow in the range of 1.875 to $1.975 billion and we expect to use approximately 50% of our free cash flow to repurchase Cadence shares in 2026. With that in mind, for Q2, we expect revenue in the range of $1,555,000,000 to $1,595,000,000 GAAP operating margin in the range of 28.5 to 29.5% non GAAP operating margin in the range Of 44.5 to 45.5% GAAP EPS in the range Of $1.07 to $1.13 and non GAAP EPS in the range of $2.02 to $2.08. And as usual, we published a CFO commentary document on our investor relations website which includes our outlook for additional items as well as further analysis and GAAP to non GAAP reconciliations. In conclusion, Cadence is off to a strong start for the year. We are raising our 2026 revenue outlook to approximately 17% year over year growth. As always, I'd like to thank our customers, partners and our employees for their continued support and with that operator we will now take questions.
Abby (Operator)
Thank you. At this time I would like to remind everyone who wants to ask a question to please press STAR and then the number one on your telephone keypad. As a courtesy to all participants, we ask that you please limit yourself to one question. We will pause for just a moment to compile the Q and A roster. And our first question comes from the line of Charles Shih with Needham. Your line is open.
Charles Shih (Equity Analyst)
Hi, good afternoon. Thanks for taking my question. Anirudh, I think I have a pretty high level question, but this is probably top of the mind for a lot of investors. We obviously learned agentic AI is probably good for EDA, good for license, consumption, etc. But we're still hearing some concerns around AI's ability to actually write the software. And there are some doubts around whether AI can actually write better EDA based tools like Based Tool, I mean Virtuoso Universe, those kind of tools. And obviously there are always many EDA startups happening at the same time. And so the question is AI's ability to write software worries you about the defensibility of the EDA based tool business? Obviously, once again we understand that agentic AI is good for consumption of the base tool business, but want to get your thoughts? Thank you.
Anirudh Devgan
Yeah, hi Charles, thanks for the question. So I mean there are multiple parts to this. Of course I'm super excited about agentic AI applied to chip design and eda. And your question is more specific to the base tool and whether AI can write those base tools. So first of all, I'm very confident in our position in the base tool and our competitive advantage. And just to remind everyone, I mean we have about 15,000 people now in cadence. About 10,000 are in R and D. We have more than half of them have advanced degrees. I think more than thousand of them have PhDs from the top universities. So we will anyway deploy AI internally like we are to write our software better. But I'm not worried that some other party will be able to write any better base tools. And our competitor of the base tool is anyway best in class. And I don't see any reason that will change going forward. Okay, now what I'm super excited that we launched in CadenceLIVE is the agentic part and the interplay of the agentic tools with the base tools, the AI orchestration combined with physical accurate based tools. And that creates new opportunities for us both in terms of TAM expansion. Because what agentic AI allows us to, is to sell products in spaces we didn't have products before, like RTL generation, verification, plan generation. And those products I think will be consumed more on a subscription plus consumption model. So this is entirely a new category for Cadence. And then in turn, like you said, agentic AI will drive more of our base tools. So I feel pretty good about this kind of three layer framework we have talked about and confident going forward.
Abby (Operator)
And our next question comes from the line of Jason Salino with Keybanc Capital Markets. Your line is open.
Jason Salino (Equity Analyst)
Great, thank you so much. Maybe just a clarifying question. So I noticed that the operating margin guide, you know, it's coming down, you know, by a little bit curious if, if like what are the main drivers of that? John and I know we're layering in kind of the Hexagon acquisition, but on like an absolute basis it's, it's relatively small layering in that, that opex. So maybe you can just help, help us understand the, the guide on the margin. Thank you.
John Wall (Senior Vice President and Chief Financial Officer)
Yeah, sure, Jason, thanks for the question. Yeah. What you're seeing there is primarily the impact of including the hexagon design and engineering business in the current outlook. The strategic opportunity there is very large. But the 2026 PNL reflects the timing of integration that the, we announced in the press release when we, when we closed the deal that we expect 160 million of revenue this year. That's, that's in the guide now. We expect it to be dilutive by about 28 cents. The margin impact on the 160 million is kind of in the 5 to 10% range. But, but the dilution comes from, because we paid 30% of the acquisition price in shares and 70% in cash. So the interest component or the loss interest income on the cash causes a lot of the dilution impact in the short term. We'd expect it to be accretive in 2027. So I think the way to think about it is financially 2026 is an integration year and the guide includes the acquired cost base, the financing impact, the acquisition related integration costs and kind of near term dilution. And that's why revenue moves higher while EPS and operating margin are lower than the February guide. So yeah, it's 160 million. And I think in Q1 the impact was slightly less on the EPS that we had about 20 million of revenue from Q1 from Hexagon, so only about $0.01 kind of dilution impact. So EPS would have been like $0.01 higher if we didn't have Hexagon.
Abby (Operator)
And our next question comes from the line of Vivek Arya with Bank of America securities. Your line is open.
Vivek Arya (Equity Analyst)
Thanks for taking my question. You know, Aniruddh, in the last year all we have been hearing nonstop are different news about chip shortages and growing kind of price of chips and just, you know, the pricing power that many of your customers have. And my question is what effect do shortages and the fact your customers have more pricing power, what effect does that have on their engagement with cadence? You know, does it restrict Chip start? Does it shift them towards higher ASP products? Just, just what impact do semiconductor shortages have on your growth and engagement trajectory? What, what has changed and what are you observing in your customer behavior? Thank you, thank you.
Anirudh Devgan
Yeah, thanks Vivek for the question. So I would say a few things. So first of all, I mean the environment is pretty healthy both for the system companies and semi companies. So that's always good. Like, you know, I mean some of the hyperscalers and AI semi companies were already doing well last year, but now the memory companies are doing well. Even analog big companies are doing well. So we of course want to see our customers doing well and that creates a positive environment for engaging, especially with these new solutions we have. So that's actually a pretty marked improvement over the last three to six months. So that's number one. Number two, the shortage is, you know, it doesn't directly. I mean the customer is still committed to long term R and D roadmaps and sometimes they may do like I've seen, in few cases the customers for example, may do multiple foundries or nodes to make sure there is capacity at a particular node or foundry. So that would directly lead to more design activity for us. So in general, if the customer is healthy because the revenue is going up, they will do not only more in the current designs to accelerate them, but also may start new designs. I think that's the second thing I would say. And third thing which is more exciting for us is as we have these agentic solutions, it can give more productivity for our customers and we can deliver more value ourselves. And the more value we deliver, the more opportunity we have to capture part of that value. The customers are very open to those discussions as there is more automation, like I mentioned, there's a lot of engagement with Chip Stack and, and also the new Agent Stack, Inner Stack, Vera Stack. There is no pushback at all. If we can deliver productivity, the customer is more than willing to engage. So that's, I would say Vivek are at least the three broad areas I see in the current environment.
Abby (Operator)
And our next question comes from the line of Jim Schneider with Goldman Sachs. Your line is open.
Jim Schneider (Equity Analyst)
Good afternoon. Thanks for taking my question. I was wondering if you could maybe unpack your commentary on the Agentix solutions specifically around your indication they would drive increased consumption for base tools. Can you maybe talk a little bit about the pricing for those tools, how the Agentix solutions are being priced specifically and then on net how if you could frame for us maybe how you might be able to capture more revenue value overall on net between AgentIQ and conventional licenses. Thank you.
Anirudh Devgan
Yeah, thanks for the question. So I think the opportunity is significant, I believe, and especially with AgentIQ because what, you know this and this happened over the last, let's say 6 to 12 months in my opinion and more so in 6 months is not only the AgentIQ tools have evolved, but agentic tools are able, we can embed skills in them so they can do a lot more automation. For example, we launched Vita Stack, which is analog automation. Analog has been a long problem to automate, very difficult to automate. But now with these agentic flows and skills we can automate that. So what does that mean in terms of pricing or how these things are consumed? First of all, like I said, this kind of automation was not possible before. So all this work used to be done by the customers themselves. Right. And in that case also I talked to one big customer. Like for example, they said for analog or even for digital, every new Design they require 2x more engineers. And anyway it's not, it's like unrealizable headcount growth because they can't hire 2x more engineers every time. So the way we plan to monetize and the early signs are positive is that first of all we'll sell new tools that we never sold which is more like this was manually done by customers like doing analog design or doing rtl. So that will be priced as a subscription plus consumption model very similar to other kind of leading AI tools. So that's a completely new category for cadence and that will kind of bend the headcount curve for our customers. But the expected headcount curve was never realizable anyway. So this is the history of automation. As you know in eda you know we always need to do that but this way, this time we can do that with the agentic kind of AI flow. And then once the agent runs, you know like when a user designs a chip and this is pretty, pretty common, right? Like let's say their chip has 100 blocks just to keep it simple and there are 100 engineers, you know one engineer is running one block. So one engineer will run like one or two experiments, you know, he or she to see you know which which settings or which design is better. But when the agent runs those blog they may try 10 or 100 variations of those things. And anyway AI does a lot more exploration than a human would do. So not only agent can make give more productivity if by nature runs more of the base tool. So that's why if you look at our usage of bay stool it's going up pretty significantly in this kind of environment. So these are the two ways and in those environments as a traditional business model, but in the base tools but there'll be more demand for it and then the new business model which is more automating which was manual with agentic flows.
John Wall (Senior Vice President and Chief Financial Officer)
Yeah, and I would just add Jim that what we saw from Q1 was the overall pricing environment has improved. Pricing obviously remains value based with us. We provide tremendous value to our customers especially with our agentic flow and we stand to benefit from our customer success in that area. Also any shift that you see from customers labour spend to automation that's likely to be irreversible and likely to accelerate over time.
Abby (Operator)
And our next question comes from the line of CT Panigrahi with Mizuho. Your line is open.
CT Panigrahi (Equity Analyst)
Great, thank you. I want to switch to the IP business. Aniruddh, you talked about IP entering now third year of strong growth. Could you give an update like what you saw in Q1 and are there's HBM, LP, DDR6 and all that remaining still the key drivers and the new foundry like Rapidus, Intel Foundry, are they contributing meaningfully to the IP demand yet? And John, just to clarify Also on your EPS guidance you said 28 cents dilution, but you lowered only 20 cents. Just want to clarify that your organic basis you raised by 8 cents EPS. Thank you.
John Wall (Senior Vice President and Chief Financial Officer)
I'll take the last part first. Yes, yes we did. We raised by 8 cents
Anirudh Devgan
and it is a great start to the year. Okay. And not just in IP across the board. And I was looking at with our team, I think this is one of the strongest raises we have had in Q1. You know, we only gave you guidance in February, so two months later, I think this is one of the strongest raises we have had. Now all the businesses are doing well and especially IP is off to a great start. Okay. And I think it will do well going forward from what I think I see. And there are at least three big reasons in my mind for IP growth. And like I said, it's the third year now, so we don't like to talk about things too early. But after three years of strong growth, I think that that is a good trend. So the first thing is our IP quality and performance is just better. We have a new team, just the performance, just because these things are standard based IPs like DDR or PCIe, so the spec is same. But if our power area is better than the competitor or what the customer can do, then they will buy our ip. So the most promising thing to me is because the strength of our R and D team, our PPA is better and that is leading to a lot of competitive wins at pretty significant major customers. And I highlighted some of them in Cadence Live. So these are really big kind of marquee names. So that gives me strength that the team is operating well. So that's number one. Number two, our portfolio is expanding like we have highlighted with hbm. And some of it is organic, some of it is acquired like HBM we acquired from Rambus and then we improved it. But ucie, which is a critical chip to chip technology, was all developed organically. So the second reason is that our portfolio is expanding. The third reason is these new foundries. Okay. And it's very encouraging to see. Of course we want to make sure we are best in class in tsmc, which is the leading foundry. But now there are at least three other major foundries, as you know, Samsung, intel and Rapidus at advanced nodes and then Global and others at mainstream nodes. So the amount of design activity with AI and number of increasing foundries, that requires more ip. So that's why I'm actually pleased to note today, like in the, in the prepared remark that we had A pretty significant IP deal, one of the largest ones at a leading global foundry. Okay, and, and, and just to clarify, you know, that is not. Not Intel. Okay. We are actually pleased with our discussions with Intel. You know, with Libyan team on 18A and especially on 14A. I think intel realizes they need to invest more in 14A and this time be more ready, you know, because availability of IP and EDA solutions as 14A is critical as they go talk to their customers. So we are making very good progress with intel and we'll have, you know, soon we'll have more to say on our engagement with intel, but I'm also pleased with this engagement with the other global foundry. So overall, you know, IP growth seems robust and I'm very pleased where we are. And we're already always very strong in eda. But historically, last few years, you know, we have not done as well in ip. But right now I think we are very well positioned and also well positioned in sda.
Abby (Operator)
Our next question comes from the line of Joe Quatrocchi with Wells Fargo. Your line is open.
Joe Quatrocchi
Yeah, thanks for taking the question. Maybe just to kind of follow up on the discussion earlier on eda. I mean, I guess when you take a step back and you think about, you know, EDA's share of R and D expense, and clearly we're seeing an acceleration of R and D expense across a number of different companies. How should we think about, you know, eda's contribution to that or percent of that? And where could that go, given the value maybe you're providing from AI? Because we're also seeing. Right. Memory costs are increasing, things like that that also need to flow through that R and D line.
Anirudh Devgan
Yeah, good question. And we have to observe it closely. Right. You know, as we rather like print things than kind of predict what will happen, because it's better to show than to. But, you know, as you know, historically we have said EDA used to be 7% of R&D and now it's more like 11% of R& D. So it has gone up and R and D spend itself will go up significantly. But I think there is a real potential, especially with agentic AI, for that 11% to go up. And all the big CEOs I talk to, they're not only willing, they want to see that happen, they want to invest in more automation and compute to make it happen. So I'm pretty sure right now, I think it will go up. Now, how much it will go up, we will see. But I think there is a meaningful opportunity for Automation to be a higher percentage of R&D R&D itself to go up.
Abby (Operator)
Our next question comes from the line of Ruben Roy with Stifel. Your line is open.
Ruben Roy (Equity Analyst)
Yeah, thank you, John. I want to go back to the operating margin discussion. It's great to see that you guys are targeting rule of 60 by the end of the year here. Just thinking about that, though. It's driven on revenue acceleration. Obviously we've got the Hexagon integration costs here, but are you thinking about the operating model relative to operating margin? As you get over 6 billion in revenue, does the operating model look a lot different than it did at 5.3 billion? Is this sort of 43 to 45% range how we should be thinking about the operating margins? And I asked that because obviously you're investing in agentic, AI and other sort of new product areas. Just wondering if you can give us a little bit of an idea of how you're thinking about the operating margin structure at this revenue run rate, you know, longer term, as you integrate Hexagon. Thank you.
John Wall (Senior Vice President and Chief Financial Officer)
Yeah, sure, Ruben. Thanks for the question. Yeah, I think when we look at our, like organic incremental margin is closer to 60% these days than 50%. And, you know, as we get our arms around these acquisitions, it typically takes us 12 to 18 months to. To improve the profitability up to kind of something close to two to our expectations. That cadence, that. And I would liken the profile to the way Beta, So. So in 24 and 25, you kind of had an operating margin profile where we had the dilutive impact of the beta acquisition in 24. But then, you know, margins improved dramatically in 25 as we got the synergies and we got the benefits of making that more profitable. I would expect a similar pattern for 26 and 27 when it comes to Hexagon, we have a slight headwind in the short term, but there's plenty of opportunities to improve the profitability there. And also with the benefits that we're seeing in terms of customer engagement accelerating on the agent I front, I think there's. There's even more opportunities to stretch that incremental operating margin going forward.
Abby (Operator)
Our next question comes from the line of Harlan sir with JP Morgan. Your line is open.
Harlan Sir
Yeah, good afternoon. Thanks for taking my question. If I take your 2Q guidance and look at your implied second half guidance, the average quarterly revenue run rate in the second half is actually both slightly below the 2Q level. Is there some lumpiness in the Hexagon business in the second half? Maybe Moving customers to multi year license agreements? Or is it due to some lumpiness in the core business? Maybe a more first half weighted hardware or IP shipment profile?
John Wall (Senior Vice President and Chief Financial Officer)
Yeah, thanks for the question, Harlan. Yes, surely. Look, the first half is very strong and the second half I describe as containing appropriate prudence. Your comment on Hexagon, Hexagon's D and E business is correct. They are more kind of first half weighted in terms of their profile. When I looked at last year's revenue for hexagon, I think Q3 and Q4 were their worst 2/4 of the year. They tend to have a lot of early year kind of dated contracts. But, but overall I think the second half, I mean it doesn't, Hexagon doesn't impact the first half, second half that much. It's, it's really, I think we had, such as Andrew said, Q1 guide represents one of the highest raises we've had at this time of the year. And we normally like to wait until, you know, we had two quarters under our belt to raise the guide. We couldn't help but raise the guide given the strength of Q1 bookings and the strength we saw across the board. So we just wanted to wait until July to update the second half.
Abby (Operator)
Our next question comes from the line of Lee Simpson with Morgan Stanley. Your line is open.
Lee Simpson (Equity Analyst)
Great, thanks for squeezing me in. I just wanted to ask about physical AI. I mean you've made some pretty good acquisitions. You're now announced collaborations especially with Nvidia. So I'm just trying to get a sense for the momentum here and what really is still the early years in this breakout and I think in particular, you know, the take up of your emulation tools, especially as it relates to closing the sim to real gap in robotics and probably even self driving chips as well. Whether or not that's going to really lead to an outsized value capture for cadence. And when do we actually see this in the numbers as well? Thanks.
Anirudh Devgan
Yeah, thanks for the question, Lee. So I mean, you know, like I talked about it forever, now that we look at this thing as a three layer cake, right? And there are multiple slices of the cake. And the first slice was data center AI or infrastructure AI and the second big slice is physical AI. And of course I've said this for five years now where I believe physical AI will be bigger than data center AI by a long shot because you're talking about like trillions of dollars of product opportunity. And it will reconfirm the data center layer. Data center slice because to Deploy e.g. aI model in the car you need to train it on the data center anyway. So I think it will even help the data center slice. Now for our portion, yes, we made this acquisition we are super excited about and we have this now training flow forward models and also more complete simulation environment. So what is exciting about Hexagon is with combination of our previous technologies like Millennium and Cascade and Beta, we do have finally a complete solution for physical AI in the middle layer, kind of principle simulation and optimization layer. And then that can be used to to do these word models which will be different in the top layer. But the other thing I want to emphasize apart from the SDNA and the AI part that physical AI itself will drive a lot of silicon design. So it is also good for EDA and ip. And this is. You're starting to see that of course companies like Tesla mentioning that they don't have enough silicon because of physical AI. So physical AI not only is good for SDN AI, it is also really good for silicon and it also is the sweet spot of Cadence because Cadence always had both analog and digital solutions. And that's why we are always good with all the major semiconductor companies for automotive and now with all the system and OEM companies for automotive. And as that translates to drone and robots, it will also turbocharge the silicon business. That's why I have always been excited about physically, not just for the AI and SDA part, but also for EDA and ip.
Abby (Operator)
Our next question comes from the line of Gianmarco Conti with Deutsche Bank. Your line is open
Gianmarco Conti (Equity Analyst)
Yeah, thanks for squeezing me into perhaps on hardware, another strong cause of course. But as we think about the next refresh cycle for Palladium and Proteom, historically you've roughly been on a two year cadence. Should we expect Z4X4 within the next 12 to 18 months or is the bar to upgrade higher now given how recently customers absorbed the first generation and perhaps related, are you seeing any of
Anirudh Devgan
your own Agent Ki tooling materially compress the internal hardware development timelines to the same extent that customers are reporting that same 10x productivity on RTL? Thank you. Yeah, absolutely. Great question. So first of all, like I said, we have most of our headcount is engineering, whether it's R and D or customer support. So we always want to use our own products in both our hardware groups, which is the significant design team. We do both software, hardware and all the system design in Palladium and Proteom. And also just to remind you in our IP team, you know, it's a great, you know, they're working very well together, our IP team and EDS teams because ip, you know, we have so much demand and you know, instead of again increasing headcount, we are always sensitive about how much headcount we'll increase. And we are increasing headcount in all areas including ip. But we can make them a lot more productive with agentic AI. Now on the hardware part, yeah, we have. I'm very pleased. I mean it's a remarkable start to the year. Our competitive position is amazing. We are the only company that does its own chip. As you know, we have at least a 10 year lead in that in Palladium. And then Proteome also is doing now in which we use the FPGA solution. Now just to be clear, we always design next generation systems, you know. And because we control the whole stack including the system design and silicon design, one thing to remember is we will do it much faster than what the FPGA cadence will be. FPGA companies will also do next generation FPGA designs. But because we are own chip, we do our own design, it will be much faster than fpga. So what that means is the lead of Palladium over FPGA systems will only continue to increase as we introduce new products. But I'm not going to get into like when we're going to introduce new products because the current products are doing amazingly well. Of course we are designing Z4 and Z5. But what you have to remember is the current Z3 system has the capability to design 1 trillion transistor systems. And right now the biggest systems in the world are 100 to 200 billion transistors. So. So we have a lot of leeway. The industry is supposed to reach 1 trillion transistors by 2030. One thing I'll assure you is we'll have a Z4 system before 2030. So there is no issue of whether Z3 can handle the capacity and requirements. So we're just happy to work with our customers. At the same time, we want to assure our investor and customers we have a very, very good roadmap on hardware systems.
Abby (Operator)
Our next question comes from the line of Jay Fleeshauer with Griffin Securities. Your line is open.
Jay Fleeshauer (Equity Analyst)
Good evening. Anirud. Now that you've completed Hexagon MSC acquisition, it would appear that you are the fourth largest non EDA simulation company, let's call it Industrial simulation with Multiphysics. Your share is perhaps 1/10 of that total market. Again, aside from EDA simulation. So the question is now that You've assembled all these pieces, invested over 5 billion over the last five or six years. Can you speak in some detail about what your principal technical and or go to market objectives or executables are going to be for the next year or so? Synopsys talked about what they're doing with Ansys. Perhaps you could do the same for your pieces. It also seems you're becoming a little bit more vertically integrated in go to market with the acquisition of a longtime channel partner. So maybe talk about some of those critical elements here to grow your revenues and share in that business.
Anirudh Devgan
Yes, Jay, that's a lot there, right? There's a lot there. So let me try to unpack some of it. I'm sure we can talk more if I don't get to all the pieces there. Well, first of all, we are satisfied with the scope of our SDA business now after this acquisition. So I mean this is rough numbers. So I think it will be roughly a billion dollars of run rate. And what is more exciting to me is that it is focused in the two important areas of sda. I'm a fan of SDA for a while now, I don't know, maybe eight years now, but. But not all SDA is created equal. Okay. To me, you know, we want to do the part of SDA that is either growing well or is closely related to eda. So the part of SDA that is closely related to EDA is of course 3Dic. So we have an inevitable position in 3Dic, with allegro being the leading packaging platform. And then we completed that with clarity and security and Celsius, so all the thermal electromagnetics and integrity. So I'm pretty happy with the 3DIC portion, which is like the closest to chip design, the part of SDA that is closest to chip design and the part that is growing the most because of AI. Now the other part now with Hexagon is all this physical AI and for design of cars and robots. So that with this acquisition is complete and we can do a much better integration of that part of sda. And there are multiple things happening there. There are at least two, three key things. So first thing is we will integrate the whole solution. I know you asked me this before, when will you integrate? So I think now that we have all the pieces of critical mass, this is the right time to integrate because we have CFD now, we have structural, we have multibody dynamics, we have pre and post. Okay. So we have a lot of effort to make a full flow solution, integrate them and you Know, I kind of hinted at that at Cadence Live. The other thing, the way to integrate these solutions, which is true for EDA, but will be true in this area, is agentic flow. So you will see from us agentic flow to do system design and that part of the market has not seen that much is even worse automation than chip design. That I had a lot of automation. But there will be agentic flow which will integrate all these things in a better way. The second thing we will do is that there is a lot of room for improvement of these solvers, especially in our history of improving the base solvers, adding GPU acceleration, adding phys, AI or AI surrogate models. So for example, there's a potential for at least the order of magnitude improvement of performance of these new solvers. So that's the second thing we'll do in terms of R and D. And third thing, what I'm also pleased with Hexagon is we did get a good Go to Market team. That's one area we have not been as strong because most of the others was mostly organic. And we did move some of our people into Go to Market. But with Hexagon D and E business we get a much stronger go to Market team. And then as you mentioned, we also acquired some resellers to strengthen Go to Market. At this point I'm very confident of our R and D solution and it will get improved by Gentex Solutions. It will get improved by speeding up the solvers. But we also need to invest in Go to Market and Hexagon gives us a good start. So you will see that too. So these are the three kind of focus areas of improvement of sda.
Abby (Operator)
Our next question comes from the line of Kelsecia with Citigroup. Your line is open. Hi, thank you and good afternoon. Anirud, you mentioned that the Agent Stack helped address talent gaps for chip designers. It sounds like the Agent Stack adoption just accelerating from here. Based on your conversation, is that the case or are you seeing cases where customers prefer to build or use their own agency stack versus adopting Cadences? And so is Cadence able to sort of charge for Agent Stack or the increased base licenses as an incremental add on within an existing three year contract or is that monetization type to renewals?
Kelsecia
There's a lot of good questions there. Okay, so make sure I and I'll start and John John can add to that. Now first of all, I think just to be clear, the customers will always write their own agents as well. If I understand the first part of your question, even in our pre agentic flow, you know, we would have given a lot of flexibilities to, to our customers. You know, we had a tickle or a Python interface to our tools and they would always have their own flows. I mean this is natural for big customers. I mean these are who's who of tech companies. So they always want to have some differentiation from one flow to the other and that will happen in the agent world itself. So I think most of our customers are writing some of their own agents. But the key thing is that the critical agents, okay, like these big super agents we talked about like RTL design and verification, analog design and physical design, these are like super categories. And also the value of the agentic
Anirudh Devgan
flow is not just in the agent itself.
John Wall (Senior Vice President and Chief Financial Officer)
It's always the coupling of the agent with the base tools because we operate the agent at a much lower level of interaction. This API call which is not possible for customers to do. So what has happened? As an example, as we showed Innostack or Vera Stack and Chip Stack to our customers, they realize, oh, there's no point writing these kind of agents, okay? So they would rather use the super agents we have because not only we are good in agentic flow, we are good in the coupling to the base tools. Now they will still write some agents to customize things which are specific to them and we naturally welcome that. And the agents tag allows the environment for the customer to write its own agent, but also the customer to write its own skills. You know, we want the customers to write their own skills in innostack which may be specific for a part of design. So this has always been our strategy to be more open to customer kind of customizing their own environment. Okay, and I think the second question is on renewals versus new. I mean it's a combination of that always. John, maybe you want to comment? Yes. Yeah, thanks Anirud and thanks Kelsey. Our subscription model remains the anchor arrangement with our customers. The add on monetization then comes incrementally through agentic workflow products that are kind of usage based or consumption based for capacity and through our token and card models. What's different about agentic AI is that it doesn't replace the core EDA engines. It calls them more often and it calls them intelligently. So the monetization opportunity is twofold really. So you've got like the new agentic workflow products and then you've got the increased usage of the underlying base tools through more exploration, more verification, more optimization and more compute. Now, that said, we're obviously being disciplined in our 2026 outlook. We're not assuming a sudden step function in AI monetization in the guide, but we do believe Agentic AI expands the long term growth opportunity for Cadence.
Abby (Operator)
Our next question comes from the line of Andrew d' Gaspari with BNP Paribas. Your line is open.
Andrew d' Gaspari (Equity Analyst)
Thanks for fitting me in. I just had a two part question. One is marquee. I think you called out in prepared remarks that a marquee AI infrastructure company expanded the use of sign off solutions. I just want to clarify, was this a cloud provider? And then second, at Cadence Live you discussed about physical AI in terms of the timeline of adoption being around two years, but yet you called out that automotive and robotics companies have adopted hardware. I was just wondering, does this mean that that physical AI timeline has been brought forward or is this just a natural evolution of how these new markets will adopt eda? And if so, when do we see that kind of software benefiting from that? Thank you.
Anirudh Devgan
Yeah, I think you know, with physical AI and also agentic AI in general, I mean as I've said for a long time, two contract cycles. And that is generally true though I think because of this new category of time expansion which is more labor productivity related along with the base tools, I think there is a potential that the monetization of agentic AI could happen sooner than two contract cycles. Okay. I don't want to, you know, predict too much and like John said, we are not putting it in our guide. But I think definitely the more opportunities there because of all the shortages, because all the build outs because of physical AI. And like the previous question, you know, we always can add in the renewal but we always have capability to do add ons which we have already seen. Okay, so that's what I would like to say on the sign off. You know we are very happy. You know Innovas has been the leading solution for implementation, especially at TSMC and now increasingly with Samsung, intel and rapidus. But sign off is coming on strong at TSMC and other customers and we are working with all the leading AI players. And I think the one we mentioned specifically is a major kind of AI infrastructure ASIC company. And we are glad to see that adoption.
Abby (Operator)
Yep. Our next question comes from the line of Gary Mobley with Loop Capital. Your line is open.
Gary Mobley (Equity Analyst)
Hi guys. Thanks so much for fitting my question in. John. I think if I'm not mistaken, 2026 is going to be a low renewal period. By that I mean existing longtime customers scheduled to renew this year kind of like 2022 was. And so was the strong bookings in the first quarter reflection of some add on sales as salespeople trying to meet their quota. And do we expect that type of behavior to last through the balance of the year?
John Wall (Senior Vice President and Chief Financial Officer)
Thanks for the question, Gary. Yes, I mean 2026 is kind of lighter than 2025 for actual renewals on an annual value basis. But what we often see that that's the, that those are some of the strongest growth years for us because of all the add on activity. Yeah, we were really, really pleased with the, with the Q1 booking strength and it was right across the board, across all lines of business. So yeah. So Gary, I mean it bodes well for the year. But, but look it's, it's just one quarter. As you know, we like to wait for a couple of quarters before taking up the guide in the second half. And although the last few years Q1 has been strong and this, this one has been very, very strong. So we had to take up the guide at the end of Q1.
Abby (Operator)
Our next question comes from the line of Clark Jeffries with Piper Sandler. Your line is open.
Clark Jeffries (Equity Analyst)
Hello. Thank you for taking the question. I just wanted to ask around. The largest IP arrangement today with the Global Foundry was really the extension of that agreement to additional nodes. The scope of more content or the addition of agent ready AI flows that made the biggest difference to get that to the the largest arrangement you've ever seen.
Anirudh Devgan
Yeah, that's a particularly IP contract. So that one particular is focused on IP and the two things that drove it is that it is a new node, new advanced node. More specifically 2 nanometer and more content in IP because we have a much broader portfolio.
Abby (Operator)
Our next question comes from the line of Joshua Tilton with Google Research. Your line is open.
Joshua Tilton (Equity Analyst)
Hey guys, thanks for sneaking me in here. Maybe just a two parter, a little unrelated so I apologize but anything to call out on what drove such a strong quarter for China. And then maybe just a second part to that. Can you help us just bridge what is driving such a great organic raise to the full year relative to the organic beats in the quarter. I know you mentioned, you know, the record backlog, but is there anything one level deeper you can give us especially in the context of. It sounds like you're trying to tell us that even though you raised by a pretty solid amount that there still seems to be some conservatism in the guide for the second half. So any help there would be greatly appreciated. Thanks guys.
John Wall (Senior Vice President and Chief Financial Officer)
Sure. Josh thanks for the question. I'll take this one. So, Josh. Yeah. China, it was 13% of Q1 revenue.
Abby (Operator)
The. And that was just kind of broadly consistent with what we were expecting. Yeah. We'd still expect China to be about 13% for the year. The. I think it can be lumpy from quarter to quarter. So I think the year over year comps probably look generous because Q1 in 2025 wasn't that good in China. So the. It being 13% revenue in Q1, probably the growth rate looks strong but. But it's just. It's a really important region for us that. Yeah. And we were very, very pleased with. With the 13%. The. In relation to the guide. Yeah, I mean we were. Look, the Q1 was a very strong start to the year. We exceeded all our metrics and the. And I guess when we, when we back out the hexagon, the 160 million of hexagon and the $0.28, we're basically raising the year by 65 million at the midpoint for revenue and about $0.08 for EPS. Also on the cash flow front, that's operating cash the way we paid for Hexagon. The reported guide includes approximately 180 million of pre close hexagon tax liabilities that are economically part of the acquisition consideration but are classified in operating cash flow. I think just the geography and the accounting forces us to put it through operating cash. If you adjust our operating cash guide for that underlying. For that pre closed hexagon tax liability that we're paying. The, the. The operating cash flow outlook is approximately 2.1 billion which would be about 100 million above our original guide. So, so there's, there's a lot of strength we saw across the businesses. So the 65 million, you know, it's what we took revenue up by. But we're seeing 100 million extra in cash. But there's potentially strength in the second half. But we thought it was too early to raise the second half right now. And our final question comes from the line of Blair Abernethy with Rosenblatt Securities. Your line is open.
Blair Abernethy (Equity Analyst)
Thanks very much for squeezing me in, guys. Just want to ask about the Millennium Platform. How's the adoption going there on a route and, and just in general the health in some of your non semi verticals like automotive, aerospace, industrial equipment, so forth. Just any commentary around that would be great.
Anirudh Devgan
Yes, absolutely. So yeah, Millennium is doing great. I don't know if you saw Jensen was there at Cadence Live and did a nice autograph on Millennium Box. So we are Pleased with the partnership with Nvidia there. And I mean there are two ways to two kind of high level applications. And we are working on this kind of CFD or SDA application for a while and that's going well, especially in auto and also in drones. Okay. There's a lot of, you know what? Cascade acquisition we made is very good at very high accuracy CFD which also applies to aerospace and defense. So there is autos but also and is Millennium uptake. And we have several customers. Some we can talk about, some we can't. Okay. So that's in the traditional Millennium and the other part this year, like I mentioned in Cadence Live, we have all kinds of EDA application now on Millennium. It's super exciting. And the most exciting part of EDA application in Millennium is three DIC sign off. Because right now the biggest issue is the complexity of these three DIC systems. Not just to design them, which we can do in Integrity and Innovas, but to sign them off. So there's this huge system that need to do thermal simulation, electromagnetic simulation, power delivery simulation, and they are more naturally like a matrix without getting too technical. They're closer to a matrix multiply numerical solver which is great for GPU acceleration. So right now I see Millennium as applying to more traditional areas like autos and then new areas like, like aerospace and drones and then applying to three DIC sign off. So we are super excited about the Millennium opportunity along with our traditional hardware systems.
Abby (Operator)
And I will now turn the call back to Anaru Devgan for closing remarks.
Anirudh Devgan
Thank you all for joining us this afternoon. It's an exciting time for Cadence as we begin 2026 with product leadership and strong business momentum. And on behalf of our employees and our board of directors, we thank our customers, partners and investors for their continued trust and confidence in Cadence.
Abby (Operator)
And ladies and gentlemen, thank you for participating in today's cadence first quarter 2026 earnings conference call. This concludes today's call and you may now disconnect. Goodbye.
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