Bpb, for your reading pleasure from Barrons.
Regards,
Tom
interactive.wsj.com
Hsu Gets Last Laugh at Scandal-Plagued Avant!
By Eric J. Savitz
Last week saw the spectacular final act of Gerry Hsu, the scandal-tainted
chairman of Fremont, California-based Avant!, a key player in electronic
design automation software. In what stands to be the EDA sector's biggest
deal ever, Avant! (pronounced ah-VAN-tee and using an exclamation point
as an upside-down "i") agreed to be acquired by Mountain View,
California-based Synopsys for $781 million in stock. Hsu will be sent
packing, but with a nifty consolation prize: more than $40 million in cash. Not
bad for a guy who a few months ago came very close to going to jail.
To understand the ramifications of the Synopsys-Avant! deal -- and make no
mistake, this is a huge development for both chip-design software companies
and the semiconductor makers they serve -- it helps to review a little history.
In the early 1990s, Hsu was an executive at Cadence Design Systems, a
long-time EDA leader. In 1994, he jumped to a new company called ArcSys,
which in 1995 merged with another startup called Integrated Silicon Systems
to form Avant!.
In late '95, Cadence sued Avant!, alleging that Hsu and other former Cadence
staffers had stolen crucial software code for use at Avant! ("Spy vs. Spy,"
May 6, 1996). In 1998, criminal charges for the same matter were filed by
the district attorney of Santa Clara County, California. The case was resolved
last May, with Avant! and six of its employees pleading no contest to various
criminal charges. The company agreed to pay $27 million in fines, plus $195
million in restitution to Cadence. Six Avant! employees were hit with
individual fines, which were reimbursed by the company.
Four of the defendants in the case received prison terms. Hsu pled "no
contest" to conspiracy to misappropriate trade secrets, failure to return stolen
property, and a violation of California corporate securities law. He agreed to
pay a $2.7 million fine and received no jail time. On the day he was
sentenced, Hsu resigned as president and CEO, but remained chairman and
became "chief strategist."
The litigation with Cadence has over-shadowed Avant! almost from the day it
was born. Hsu nonetheless built the company into an important EDA
company. Widely regarded as a leader in the segment known as "place and
route" software, Avant! had revenues for the last 12 months just shy of $400
million, and counts many leading electronics firms as customers. But the
litigation nonetheless has hindered the company's progress both on the Street
and in the Valley.
And there's plenty of litigation ahead. Synopsys, in fact, is paying $335 million
for an insurance policy covering up to $500 million of damages in Cadence's
still- pending civil case against Avant! (boosting the deal's cost to about $1.1
billion).
At least three shareholder derivative suits have been filed since the completion
of the criminal case; those cases are separate from two class-action suits
settled in March for $47.5 million.
The risk posed by Hsu himself, at least, will be eliminated. But he's not going
cheaply. Hsu's $40 million settlement consists of severance under a recent
employment contract plus the acceleration of in-the-money stock options.
Hsu also owns 390,023 Avant! shares, worth another $7.8 million, before
any of his options are exercised.
And there's more. Avant! sells software in Japan through a company called
MainGate Electronics. Avant! owns 18.8% of MainGate; Hsu has 50%, and
others related to Avant! own the rest. In its latest 10-Q, Avant! disclosed a
pact to pay MainGate a termination fee in the event of a "material change in
control," a definition that includes Hsu's removal as Avant!'s chairman.
Under the agreed-upon formula, that fee at September 30 would have been
$117 million. Avant! struck a similar arrangement with Davan Tech, the
company's South Korean distributor, in which Hsu also holds a stake.
Davan's termination fee at September 30 would have been $24 million.
In the end, even Hsu couldn't get those deals to fly -- they've been cancelled.
But shed no tears. Avant! has agreed to buy the stake in MainGate that it
doesn't already own. Synopsys and Avant! officials say the net cost to absorb
MainGate will be zero -- which is not to say MainGate holders will get
nothing. An SEC filing shows Avant! will pay up to $14 million for the rest of
MainGate, based on a complex formula involving outside appraisals and
MainGate's cash and book value. And whatever the payout, Hsu gets more
than half, since he owns most of the 81.2% of Maingate not held by Avant!
Terms for folding Davan haven't been disclosed.
Does any of this bother Wall Street? Not really. For Avant! holders, it's a
windfall. Each Avant! share will be exchanged for 0.371 Synopsys shares.
That puts the value a little north of $20 a share -- not quite double the 10.95
closing price last Monday, before the deal was announced. As recently as late
September, the stock traded for less than $3 a share, before getting a lift the
following month from a better-than-expected earnings report.
Synopsys holders are happy, too. After a brief dip, the stock is higher than it
was before the deal. Paul Wick, portfolio manager of Seligman
Communications & Information fund, the largest Synopsys holder, calls
buying Avant! "a brilliant move."
"Avant! has been extremely profitable, with 30% operating profit margins, and
their place-and-route software is viewed as best of breed," Wick says. "But
the legal cloud dissuaded some companies from buying their products.
Synopsys has been trying to offer a full suite of products, and the place they
were weak is in place and route.
"Buying Avant! gives them great intellectual property and a terrific installed
base," Wick continues. "And they got it at a very cheap price, about 10 times
earnings. On a cash basis, it will be extraordinarily accretive. Look out to
2003, and Synopsys will have earnings power of over $4 a share. It's a home
run deal." Wick thinks Synopsys could double or triple in 18 months.
Jessica Kourakos, an analyst with Goldman Sachs, is similarly enthusiastic.
"There are obvious synergies," she says. "They are much more powerful as a
combined company than on a stand-alone basis. Cadence has a huge vested
interested in not having this deal go through."
She's not the only one who thinks so. Analysts at Robertson Stephens,
Needham and D.A. Davidson dropped their ratings on Cadence last week,
citing a rich stock price and the threat from a bulked-up Synopsys. Says
Robertson's John Barr: "The advantage Cadence got from Avant!'s legal
troubles will moderate now."
Cadence CEO Ray Bingham insists the deal doesn't hurt his company. "I'm
surprised at the notion that this is negative for us," Bingham said in an
interview with Barron's last week. "But the deal poses a lot of risks for
Synopsys. To spend $1 billion on this company and still have the exposure
they do from litigation strikes me as very questionable."
In any case, Bingham says Cadence will press on with its suit against Avant!
"This doesn't affect the civil litigation, other than providing us a larger balance
sheet from which to extract restitution." How much do they want? "The
experts are on record as saying the exposure is over $1 billion, before any
punitive damages," he says.
Despite Bingham's denials, it's hard not to think Cadence is getting a raw deal.
"This is going to encourage Cadence to push the lawsuit to the limits," says
Robertson's Barr. "Think of it from their perspective. They were wronged
when the code was stolen, then the plea showed Avant! had done bad things.
[Avant! was] penalized one time monetarily. And then, lo and behold, the
company that was started with [Cadence's] technology ends up in the hands
of its fiercest competitor. Cadence has clearly been wronged here, and now
it's been magnified."
In a conference call with analysts, Synopsys CEO Aart de Geus said he knew
Avant! had done wrong in the past, but that he is "convinced what we are
acquiring today is clean."
Well, maybe. But if the civil suit results in an award of under $500 million,
then ultimately Hsu wins and Cadence loses. The sad lesson would be that in
Silicon Valley, money can overcome anything in the long run -- including
criminal law and a sense of fair play. And that's a disturbing development. |
