Someone's numbers do not make sense

Just a day after the news of the proposed acquisition by Synopsys, Magma reported results for its second quarter of the fiscal year (May to April). The data shows a company that is rebounding well from its 2009 fiscal year low. The significant dip in Magma's performance for fiscal 2008 and 2009 has been attributed by almost all analysts to the marketing and sales problems the company experienced while embroiled in the legal battle with Synopsys over intellectual property rights.

Results for the first half of 2011 show a very good increase in revenue with an healthy reduction in cost of revenue, yielding greater profits. Operating expenses f or the first six months were a higher by approximately $2 million due mostly to increase spending in R&D and a $0.5 million restructuring charge. All of the traditionally measured financial results were better than guidance and the corporate balance sheet shows an increase of about $7 million in stockholders equity or over 33%.

Magma's Numbers

Let me highlight a few points from the quarter:
• Revenue for Q2 was $38.3 million exceeding our guidance range of $37.5-$38 million and higher than our prior quarter at $35.3 million.
• Q2’s non-GAAP operating margin was 20%, exceeding our guidance range of 17.5%-18% and higher than our previous quarter of 17%.
• Q2’s Earnings Per Share was $0.10, exceeding our guidance range of $0.08-$0.09 and higher than our previous quarter at $0.07.
• Magma generated $2.4 million in operational cash during the quarter, this represents our eleventh consecutive quarter of positive cash flow.
• Cash and investments at $50.8 million were essentially flat with $51 million in Q1. The company spent about $2 million repurchasing shares during the quarter as well as another $0.6 million paying down debt. This usage of cash offset the positive cash flow achieved during the quarter.

Statistical Manipulation

One of the first principles thought in a statistical analysis course is the difference between precision and accuracy. Precision is the result of using proper mathematical tools to analyze a given data. Accuracy is the result of proper judgment in selecting the data.

Given the result I found Mike Demler's piece on http://www.eedailynews.com/ to be inaccurate. To be fair, Mike's calculations are precise, but not accurate. One can do almost anything with numbers, and Mike's goal seems to be to show that either Synopsys underpaid for Magma or Magma is a company destined for oblivion. In fact although the negative 5% growth rate of Magma's income for the last five years is precise. But it lacks in accuracy since it fails to include the reason for the drastic drop in Magma's income for the 2008 and 2009 fiscal years. When projecting the future one must exclude anomalies. It is the same if I predicted, based on the last six years, that Florida will never experience another hurricane since there has not been one during the period. it would have been much better if Mike had compared Magma's growth between 2000 and 2007 to the one experienced in 2010 and 2011 and projected the future based on these results. Thus the ROI calculation presented by Mike for the Synopsys investment in Magma is highly flawed, although, once again, it is precise.

Synopsys ROI from the Magma acquisition cannot be compared with the ROI of Ansys' purchase of Apache, since the latter is an acquisition a of a totally new product line. It is also quite predictable that the growth of the power analysis market will slow down, on a percentage term, thus the revenue growth of the Apache products in Mike's calculation is overly optimistic.

My View

The bottom line is that I do not have the internal Synopsys data to judge whether or not the $115 million premium paid for Magma is justified or not. But I think that in an environment where the credit and investment markets are highly volatile and likely to remain this way for some time, the premium received by Magma justifies their acceptance of the acquisition at the negotiated price.

The market for tools addressing the leading edger semiconductor fabrication will shrink as fewer companies will be able to afford the NRE cost associated with it. Even a CAGR of 10% for Magma would require too many years to get to a point where it can challenge for number three position in the industry. Small companies will find growth opportunities to be much more limited than in the past as closer collaboration among all the development chain participants increases. I am convinced that Magma has seen a window of opportunity to liquidate the investment and has taken advantage of it.