Earnings Call Transcript - CDNS Q4 2022

Operator, Operator

Good afternoon. My name is Julianne, and I will be your conference operator today. At this time, I would like to welcome everyone to the Cadence Fourth Quarter and Fiscal Year 2022 Earnings Conference Call. Thank you. 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 would like to welcome everyone to our fourth quarter of fiscal year 2022 earnings conference call. I am 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 10-K and 10-Q 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, we will present certain non-GAAP measures, which 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. Today’s earnings release for the fourth quarter of fiscal 2022, related financial tables, and CFO commentary are also available on our website. Now, I will turn the call over to Anirudh.

Anirudh Devgan, President and CEO

Thank you, Richard. Good afternoon, everyone, and thank you for joining us today. I am pleased to report that Cadence delivered record results for 2022 as we exceeded our guidance yet again, achieving 19% revenue growth and over 40% non-GAAP operating margin. Cadence’s innovative solutions are essential and especially relevant in the current environment, enabling customers to achieve their increasingly challenging design goals. Secular megatrends such as 5G, hyperscale computing and AI/ML that are driving sustained long-term semiconductor and system growth remain unchanged. Amid ongoing macroeconomic uncertainty, companies continue making significant investment in their next-generation products, resulting in robust design activity. We expect our pioneering solutions to continue fueling broad-based business momentum in 2023, driving strong revenue growth and profitability. John will provide more details in a moment. Our Intelligent System Design strategy greatly broadens our total available market and leading end-to-end EDA IP, hardware, and expanding system analysis portfolio uniquely positions us to capture a wide range of market opportunities. During the year, we introduced 9 significant innovative products across all of our business groups, and we expect these to be key drivers of our future growth. The age of AI is upon us, and Cadence provides several groundbreaking computational software-driven generative AI technologies at both the chip and system level unified by JedAI, our differentiated big data analytics platform. Our customers are seeing dramatic results, with these solutions delivering highly optimized designs and unprecedented efficiency gains. Additionally, by automating repetitive tasks and producing new ideas, our generative AI frees up engineers to focus on more advanced high-value activities, opening up more opportunities for innovation. During the year, we also materially expanded our core EDA, IP, and system solutions footprint and market-shaping customers. In Q2, we extended our collaboration with AMD to a far-reaching commitment to our innovative core EDA hardware, design IP, and system software solutions. In Q3, we deepened our partnership with BAE Systems across our core EDA and systems portfolio, including proliferation of our digital full flow and analog products and a broad expansion of our PCB and multi-physics system analysis solutions. And in Q4, we have broadened our relationship with a global leader in memory and storage solutions through an extensive proliferation of our custom, digital, and system solutions. We also expanded our strategic partnership with a global leader in networking and telecommunications through their renewed commitment to our core EDA, IP, and system solutions. In addition, we furthered our partnership with leading foundry, IP and cloud service providers and won six Open Innovation Platform Partner of the Year awards from TSMC. Now, let’s talk about some of the product highlights for both Q4 and 2022. Our digital IC business finished another strong year, with 17% revenue growth. Deployment of our digital full-flow delivering industry-leading quality of results at the most advanced nodes continued to accelerate, with nearly 50 additional customers adopting it during the year. Our digital software is now deployed in all top 20 semiconductor companies. We are pleased with the accelerating growth of our front-end Genus and Joules Tools and signoff products such as Tempus and Qantas, complementing the broad proliferation of Innovus. Our transformative Cadence Cerebrus AI-driven solution continued to deliver impressive PPA and productivity gains across a wide range of designs, resulting in broader adoption and accelerating proliferation. Among others, it is now deployed at 10 of the top 20 semiconductor companies, including 7 of the top 10 semis and at several major hyperscalers. In Q4, GUC successfully delivered an advanced HPC design and a CPU design using our digital full flow and Cadence Cerebrus on TSMC N5 process technology, delivering 8% reduced power and a 9% area improvement while significantly improving engineering productivity. In 2022, several market-shaping customers, including Intel, NVIDIA, Broadcom, Samsung, and Renesas shared their remarkable successes with Cadence Cerebrus at our CadenceLIVE user conferences. Escalating system and software bring-up complexities, combined with relentless first-pass silicon requirements, continued to drive strong demand for our essential Functional Verification solutions. Our Verification business grew 28% year-over-year, fueled by secular trends for hardware, which had another record year. Our dynamic duo of Palladium Z2 and Protium X2 platforms, providing best-in-class system verification and software bring-up solutions, saw accelerated growth and strong momentum across mobile, hyperscale, HPC, and increasingly, the auto EV segment. Our hardware family added 30 new customers and over 160 repeat orders during the year. Due to the compelling value offered by common front-end compiler, demand for the pair greatly exceeded our expectations, with more than two-thirds of the orders in the year, including both platforms. Our new Cadence Verisium AI Verification Platform enables dramatic improvements in debug productivity. And in early production usage at several market-shaping customers, Verisium delivered up to a 30x improvement in efficient root cause analysis. Our custom IC Virtuoso and Spectre franchise solutions tackled the toughest challenges in analog, mixed signal, RF design, and circuit simulation. As electrification and digital transformation trends gain momentum, they are becoming increasingly crucial to our customers. Building on our market leadership, our custom IC revenue grew 13% year-over-year in 2022, with Virtuoso growth spurred by demand in advanced nodes, heterogeneous integration, and the emerging silicon photonics segment. We added 200 new Virtuoso logos and more than 150 logos for Spectre, with Spectre FX making strong headway in FastSPICE memory applications. Increasing usage of preconfigured IP blocks to reduce risk and time to market, coupled with our star IP portfolio, led to a strong year for our IP business, which grew 12% year-over-year in 2022. Demand was particularly strong in HPC, 5G, and automotive segments, with our silicon proven, high-performance PCIe Gen 5, LPDDR5, and Ethernet interfaces helping secure key wins in advanced node designs. Our Tensilica DSP portfolio continued expanding its footprint in smart speakers, True Wireless Stereo headsets, imaging, and machine learning applications. Rising system complexity and challenges stemming from the growing hyperconvergence of the electrical, mechanical, and physical worlds are driving the strong need for a seamless platform solution across design, packaging, simulation, and analysis. Our System Design and Analysis business that is expanding our TAM beyond EDA continued its strong momentum, delivering 27% year-over-year growth. Industry interest in advanced packaging solutions notably spiked in 2022, with customers embracing our revolutionary Integrity 3D-IC solution, the industry’s only comprehensive platform providing tightly integrated system planning, implementation, and analysis technologies. Our multi-physics portfolio comprising leading electromagnetic, electrothermal, signal and power integrity, and CFD solutions continued ramping strongly across multiple end-markets. Our in-design analysis solutions had several significant wins with HPC and hyperscaler customers, while our CFD Fidelity platform proliferated with market-shaping aerospace and defense customers. During the year, Fidelity CFD’s software meshing capabilities were chosen by Toyota Motor Europe to be their standard workflow for CFD preprocessing. In numerous customer engagements, Optimality Explorer, the industry’s first AI-driven multidisciplinary system analysis and optimization solution has demonstrated up to a 10x efficiency improvement in design space exploration, leading to faster time to results. Lastly, in keeping with our transition plan, Lip-Bu Tan has notified the Cadence Board that he will not seek reelection at our upcoming 2023 Annual Stockholders’ Meeting in May. He will continue to serve as an advisor to me. We will return to an independent chair structure with ML Krakauer becoming our next Board Chair following that meeting. The rest of the Board and I look forward to working closely with ML in her new role. In closing, we are pleased with our strong execution in 2022 and are thrilled by the business momentum and market opportunities ahead of us in 2023. Now, I will turn it over to John to provide more details on the Q4 results and our 2023 outlook.

John Wall, CFO

Thanks, Anirudh, and good afternoon, everyone. I am pleased to report that we exceeded all of our key financial and operating metrics for the fourth quarter and 2022. Robust customer design activity and demand for our strong technology portfolio continued to drive growth across all of our businesses. Cadence had an excellent 2022, and we began 2023 with a lot of confidence and strong momentum on the back of the stability and resilience you would expect from a predominantly recurring revenue model. Here are some of the financial highlights from the fourth quarter and the year, starting with the P&L. Total revenue was $900 million for the quarter and $3.562 billion for the year. GAAP operating margin was 23.5% for the quarter and 30.1% for the year. Non-GAAP operating margin was 35.6% for the quarter and 40.3% for the year. GAAP EPS was $0.88 for the quarter and $3.09 for the year, and non-GAAP EPS was $0.96 for the quarter and $4.27 for the year. Next, turning to the balance sheet and cash flow. Our cash balance was $882 million at year end, while the principal value of debt outstanding was $750 million. Operating cash flow in the fourth quarter was $264 million and $1.24 billion for the full year. DSOs were 49 days, and we repurchased $1.05 billion worth of Cadence shares during the year. Before I provide our outlook for Q1 and 2023, I’d like to share a few comments. Our most recent fiscal year ended on December 31, 2022. This fiscal year will also end on December 31, as we have now moved our fiscal year to a calendar year. Approximately 15% of our annual revenue for fiscal 2022 was upfront with 85% recurring. At the midpoint of our 2023 revenue outlook, we are expecting a similar revenue mix for the year. Our outlook for 2023 assumes export control regulations remain substantially similar for the remainder of the year. In our outlook for 2023, we expect revenue in the range of $4 billion to $4.06 billion, GAAP operating margin of 30.5% to 32%, non-GAAP operating margin of 40.5% to 42%, GAAP EPS in the range of $3.24 to $3.34, non-GAAP EPS in the range of $4.90 to $5, operating cash flow in the range of $1.3 billion to $1.4 billion. We expect to use approximately 50% of our free cash flow to repurchase Cadence shares in 2023. For Q1, we expect revenue in the range of $1 billion to $1.02 billion, GAAP operating margin in the range of 31% to 32%, non-GAAP operating margin of 41% to 42%, GAAP EPS in the range of $0.84 to $0.88, and non-GAAP EPS in the range of $1.23 to $1.27. As usual, we published the 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, I am pleased that we achieved double-digit revenue growth across all of our businesses, increased 3-year revenue CAGR into the mid-teens. I am especially pleased that we continue to expand annual operating margins. As always, I’d like to thank our customers, partners, and our employees for their continued support. With that, operator, we will now take questions.

Operator, Operator

Our first question comes from Charles Shi from Needham & Company. Please go ahead. Your line is open.

Charles Shi, Analyst

Hi, thank you for taking my questions. Maybe the first one is kind of like a two-part question. Maybe this is to John. John, your fiscal year and Q1 guidance seem to imply a relatively flat revenue profile through the year. And I am sure you heard – it will appear there seems to be seeing a slightly upward trending profile through their fiscal year. Although I know the fiscal year, yours and theirs end slightly different months. Is the difference just a matter of more conservatism on your side, or is it a matter of different end market mix or product mix? Maybe let me ask the second part. I think they are kind of related. I will ask all at once. I think one quarter ago, you were cautious about your hardware sales into fiscal ‘23 because, like you just said, it’s a record year for the hardware sales. So what is your assumption in the full-year guidance for fiscal ‘23 on your hardware revenue profile in the year? Is it flat? Or is it that – are you assuming there is some recovery in the second half of the year? Thank you.

John Wall, CFO

Hi, Charles. Thanks for the questions, those are excellent questions. Yes, we’re expecting another strong start to the year as we continue to see strength in our hardware business. You did pick up some caution ahead of, I think, the last quarter because hardware was proving not to be discretionary at all for our customers, and hardware demand was outpacing our ability to produce the hardware. And that was the case for the entirety of last year. We were not able to keep up with demand. Demand is really, really strong as we head into the new year for 2023. But we’ve increased our production capacity and we feel more confident in our ability to meet that demand for 2023. As you can see from the outlook, we’re expecting that last year, the 85-15 split in recurring revenue to upfront revenue mix, we expect that to continue. Now the second half of the year is harder to predict for hardware, so typically, I wait until the middle of the year. If we see continued strength into the second half of the year, we can increase the second half later. I think that impacts the quarterly profile because you started your question with why the year felt a little bit flat. That’s because we expect to deliver a lot of hardware in the first half of the year. In the second half of the year, we’ve kind of de-risked the second half of the year for hardware. If we see continued demand at this pace, we will have to take the second half up.

Charles Shi, Analyst

Thank you. That’s excellent. Maybe my second question, maybe this is for Anirudh. I think some investors are worried about hyperscaler spending on EDA, I mean, both on a near-term and a long-term sense. In the near-term, I mean, obviously, the layoffs in tech, well, some people think it could reduce the chip design projects and lost jobs for design engineers. And in the long-term, I mean, there is a smaller portion of the investors are kind of worried about the sustainability of the hyperscale spending strength, although I think chatter around AI recently seems to suggest that that strength is probably not going to – going down but probably going to accelerate. So can you share your observation or any insights into the real demand coming from the hyperscaler side? And what’s your thought – what’s your current outlook going into like a 2-3 year horizon? Thank you.

Anirudh Devgan, President and CEO

Yes. Hi, Charles, thanks for the question. Our demand is broad-based, right, across both our semiconductor customers and our system customers. As we mentioned before, right now, about 45% of our business is coming from system companies. That includes hyperscaler and other kinds of system companies. I’m very cautiously optimistic that this trend will continue for a long time, okay? Because I think some of these trends are irreversible, with system companies doing silicon design. They are already having a lot of success. If you look at social media companies, phone companies, data center companies, or car companies, they have multiple design projects in different stages of development. Overall, we see strong design activity on the systems side and on the semi side. There are always some reports here and there. This is not a straight line, right? Some customers may do more; some customers may do less. But overall, there will be more and more designs done by system companies. As you know, the other part of our interaction with system companies is also expanding our portfolio to include System Design & Analysis products, our SDA segment. So we are working with system companies, not just on the silicon side but on the system side, whether it’s 3D-IC or thermal simulations or CFD. You can see that part of our business is also growing very strongly. Last year, we reported about 27% growth in the system business, which is beyond our traditional EDA business. Overall, I am quite pleased, and I think design activity remains very strong, driven by 3-nanometer and other things and the expansion of our portfolio to System Design & Analysis.

Charles Shi, Analyst

Thank you, Anirudh. Thank you, John.

Operator, Operator

Our next question comes from Jason Celino from KeyBanc Capital Markets. Please go ahead. Your line is open.

Jason Celino, Analyst

Great, thanks and good quarter. When I look at the guidance, 12% to 14% growth to start the year, best growth guidance I’ve seen, and you invest last year’s on a much tougher comp. John, any change to philosophy in terms of how you set guidance?

John Wall, CFO

That’s a great question, Jason. No, we’ve approached guidance the same way we normally do. Last year, if you recall, we wanted to wait until we had increased visibility into the hardware pipeline, so we were a bit more conservative about the second half for hardware. We’re approaching this year very similarly, but we just finished with really, really strong momentum through the year. The guide, I mean, there is so much of it coming out of backlog, we feel very confident in the year.

Jason Celino, Analyst

Okay. And then I think you mentioned on the hardware side, you increased capacity. How hard is it to toggle that up and down? I’m just trying to understand what this means in terms of confidence level and pipeline? Thanks.

John Wall, CFO

Yes, Jason. It’s – we’ve got access to more production capacity now. We have added additional lines to build the hardware. For the last year, we couldn’t build it fast enough. We did ramp up production capacity, I think, 40% last year, but we sold more than that, so we didn’t keep up with demand. We ramped up production capacity again for 2023, and we feel very confident that we have access to the inventory and the components we need to meet that production demand. Also, to the extent that we can produce extra systems, we have a number of underserved or unserved customers that want access to our hardware in the cloud. Any excess capacity we can generate or any excess production we can generate, we can put into the cloud for that offering.

Operator, Operator

Our next question comes from Gary Mobley from Wells Fargo Securities. Please go ahead. Your line is open.

Gary Mobley, Analyst

Hey, guys. Thanks for taking my question. I want to ask about JedAI and all the related machine learning and AI-enabled tools. We’ve been getting a lot of questions from investors in terms of how to think about how that becomes accretive to your growth rate and how it becomes accretive to your average deal size. Maybe if you can just share with us where you’re at in this price discovery phase and how you plan to, I guess, mass market price it? If I’m not mistaken, this will all be included in digital IC, which according to the finish to the year was dilutive to your overall revenue growth. So how should we read into that? Is AI/machine learning simply just not impacting that line item yet?

Anirudh Devgan, President and CEO

Hi Gary, great question. First of all, I’m very optimistic about AI, and we always have talked about applying AI for optimization. I mean, in EDA or in chip design or system design, it’s more about automating the design process and producing better results. Even if you look at – the way I look at it, even if you get it right now, some of these chips have 100 billion transistors on 1 inch by 1 inch. If you look at by 2030, they will have 1 trillion transistors, okay? So just in terms of size, it will be 10x more. And then the chips are more complicated and then you add software on top of it. The design complexity that our customers need to do will go up by at least 20 to 30 times in the next 5 to 7 years. The only way to meet that is by more automation. That’s the history of our industry. The best way to do more automation right now is using AI, okay? We have done other ways to do automation in our industry. We started by doing more higher-level design, moving from transistor level to gate level. Over the last 5-10 years, we’ve done a lot of massive virilism, running things on more CPUs, using the cloud. But going forward, one of the biggest ways to improve productivity is using AI. You see that across our product portfolio. The real benefit is that a lot of the mundane tasks can be done by AI, so the designer can move to more higher-value tasks. We apply it methodically to applications across our business.

Gary Mobley, Analyst

Thank you for that, Anirudh. A quick follow-up for John, backlog up again. Nice job on that, up 32% in the year, next 12-month backlog up 26% on the year. Was there a large deal or renewal that came into the fray in the fourth quarter? Or maybe you could just speak in terms of the diversity of that growth?

John Wall, CFO

Yes, Gary, great question. I mean, we had a really strong finish to the year. As you know, contract timing typically impacts the cRPO in any one quarter. If you look over a typical contract cycle, you’ll see that we’re particularly pleased with the 3-year CAGR on cRPO. It’s tracking to mid-teens growth now, and that’s very consistent with the mid-teens growth we achieved over the last 3 years to 2022 and the mid-teens growth that’s implied at the midpoint of our guidance for 2023.

Operator, Operator

Our next question comes from Jay Vleeschhouwer from Griffin Securities. Please go ahead. Your line is open.

Jay Vleeschhouwer, Analyst

Thank you. Anirudh, a wise man once said that silicon companies are becoming increasingly like systems companies, and systems companies are becoming increasingly like semiconductor companies. You alluded earlier to some of the additional opportunities that systems companies represent for you, for example, in CFD and so forth. In what other ways would you say that these two classes of customers do still remain different or different enough for you, even though they are becoming more alike? And then the second question is if you could talk about where your R&D priorities go from here? The last number of years, you and for that matter, Synopsys have significantly ramped up your investments in synthesis, verification, and AI, you mentioned, of course. From here, how are you thinking about the R&D priorities in areas like custom, CFD, and of course, in AI?

Anirudh Devgan, President and CEO

Yes. Thanks, Jay. Very valid questions. Great point that system companies are becoming semi companies and semi companies are becoming system companies. Like I said before, this is an irreversible trend, okay? For us, we invest heavily in R&D, as you know. About 35% of our revenue is invested in R&D, one of the highest percentages of any S&P 500 company. We have 10,000 people in the company; 9,000 are engineers or computer scientists. We always ensure that the core is good because the core has to be best-in-class. Whether that is synthesis or verification, making sure that the core is best in class is a given. On top of that, there are thematic things that we are investing in. The three that I want to highlight will be thematic for years to come. One is of course AI. AI will have a significant effect on both semiconductors and system companies. Second is 3D-IC, the emergence of chiplets and heterogeneous integration, and Cadence is best positioned to take advantage of this. The third area is this move to systems, system design, and analysis. Our engagement with system companies is similar to semi companies. Everybody wants to do more with less now. The benefits of AI and productivity are there for both sets of customers. Our emerging portfolio in system design and analysis provides unique value to our system companies because we are no longer talking to just chip designers. This convergence is going to happen between system and semi, between electrical and mechanical. No other company is better positioned than Cadence to take advantage of this.

Operator, Operator

Our next question comes from Harlan Sur from JPMorgan. Please go ahead. Your line is open.

Harlan Sur, Analyst

Yes, good afternoon. Thanks for taking my question. So on hardware verification, you guys have, sounds like, very good visibility to the first half of the year. I know the team still has some concerns on maybe more discretionary-type spending pullback here. But we’ve also talked about how these hardware platforms are becoming a need-to-have, not a nice-to-have. We’re well into the semiconductor industry downturn. I would have assumed that you would have already seen some cancellations in orders or pushouts in hardware shipments if customers were concerned. Has the team seen any of this type of activity? I’m trying to figure out what’s driving the conservatism here on hardware.

Anirudh Devgan, President and CEO

Thanks for the question. You said it. The hardware is no longer a discretionary spend for our customers. Any chips that are designed today, any complex chips, you have to use these hardware platforms to verify them. If you don’t verify them properly, then you spend all this money, and the chips come back and don’t work. That’s a big no-no, delays the whole product, and is expensive. Hardware platforms, both Palladium and Protium are no longer nice-to-have. They are essential. We've strengthened our portfolio by not just chip verification but software bring-up. So far, the demand is strong. We had a record year last year, and we see continued growth in hardware. We are very pleased with our competitive position in hardware. It’s no longer discretionary.

Harlan Sur, Analyst

Perfect. My follow-up, the team has done a great job integrating machine learning-based methods into your customer’s digital SoC design and verification. Is your custom cell and IT design, analog simulation, and verification working with integrating ML into Virtuoso and other parts of the analog and custom portfolio?

Anirudh Devgan, President and CEO

That’s a very good point. AI is inherently computational software; it is computer science plus math, which is what we’re very good at. You can assume that we are working throughout our design flow. We announce products in a more conservative way. We want to ensure they work with several customers, with different end markets, before we announce them. Last year, we talked about digital implementation; the year before, we talked about JedAI. I think this year, you will hear more from us in other parts of the business. The analog custom business is ripe for more automation and packaging PCB. We are applying AI wherever it is possible.

Operator, Operator

Our next question comes from Joe Vruwink from Baird. Please go ahead. Your line is open.

Joe Vruwink, Analyst

Hi Anirudh. I wanted to go back quickly to the current RPO topic. Fourth quarter was very good, finished north of 25% growth. Even if I appreciate that probably has some hardware in it, John, as you said, the trend growth is closer to a mid-teens type number now. Can you just help reconcile that mid-teens growth with the implied outlook for recurring revenue? I think it would be more like 12% or 14% growth. It does seem like starting visibility to come from backlog is higher than usual. Is there an implicit bookings assumption in 2023 that’s factoring into this, or the conservatism that applies to hardware may also be applied to software bookings entering the year?

John Wall, CFO

Great question, Joe. We had a really strong finish to the year, and particularly hardware was very strong as we closed out the year in terms of bookings. Our hardware systems are essential. As Anirudh said earlier, they have become an indispensable part of our customer spend on the R&D side. People wanted to get their orders in before the end of the year. Our cRPO growth for the last year is probably up closer to 20%. But if you look over 3 years, it's mid-teens. And our revenue CAGR is mid-teens, and we guide to mid-teens for 2023. You can take out some of the noise by looking over a 3-year average period.

Joe Vruwink, Analyst

Okay. That’s helpful. One last question on the AI side. Cadence is already leveraging a lot of reinforcement learning in your design flow and verification. Any thoughts on the attention around large language models? You have started to see some experimentation with RTL code generation. Does this supplement what you are already doing, or does it have the potential to bring about entirely new products?

Anirudh Devgan, President and CEO

Yes, good point. We look at all the AI technologies. We have a pretty talented team, and for us, the biggest application is simulation plus optimization because you can generate much better results for the customers. We are using reinforcement learning and other ML techniques for a while now. Some of the results we are seeing, the PPA can improve by 10% to 15%. That’s a lot of improvement. You see this improvement from one node to the next, spending billions of dollars. Some of the language models could have other applications, especially with the interface of our tools for customer support. The main customer-facing applications give better productivity, which we are already doing in multiple ways.

Operator, Operator

Our next question comes from Vivek Arya from Bank of America Securities. Please go ahead. Your line is open.

Vivek Arya, Analyst

Thanks for taking my question. Anirudh, when I look at the relative growth in your different segments, the System Design and Analysis seems to be the fastest-growing segment, obviously, off a lower base over the last 5 years. What do you think has driven that outperformance? And as you get bigger in that market, does the competitive landscape change? Can you continue to outgrow the market, or just how do you think about that particular aspect of your growth drivers?

Anirudh Devgan, President and CEO

Yes. Hi Vivek. First, I want to point out that all businesses are doing great. If you look at even our analog business, that grew 13%. Digital business grew 17%, verification business grew 28%. These are remarkable numbers. I think we focus on growth and profitability. The systems had a very strong year with 27% growth because our products are just better, and customers want this integration. I think this is an irreversible trend. There is a strong need for thermal analysis in 3D-ICs. Our products will run 10x faster and have higher performance. I don’t see anything changing that in the near term. We’ll continue to grow, and we are expanding to other areas using our expertise.

Vivek Arya, Analyst

Understood. My follow-up, John, not complaining, but when I look at the implied incremental EBIT margin for this year, it seems somewhat lower than the average incremental margins that you have managed to achieve over the last few years. Just wanted to make sure we are not missing anything from a cost perspective that could restrain incremental EBIT leverage this year.

John Wall, CFO

That’s a great question, Vivek. We are pleased that in 2022, we achieved over 50% incremental margins. The range we achieved over the last 6 years has ranged from 52% to 58%. Starting this year, the guide for implies 48.5% incremental margin, the largest starting guide for any of the last 7 years. We aim for sustainable revenue growth to improve margins throughout the year.

Operator, Operator

Our next question comes from Blair Abernethy from Rosenblatt Securities. Please go ahead. Your line is open.

Blair Abernethy, Analyst

Thanks very much and great quarter, guys. I wanted to see if there is anything to update on the Future Facilities acquisition last summer. You have had it for a couple of quarters now. How is that trending? Are you seeing opportunities to cross-sell your other simulation software into that space?

Anirudh Devgan, President and CEO

Yes. Great point. We’re very excited about Future Facilities because differentiation in the system space is also through vertical offerings. If you look at the simulation space, there are only a few known algorithms. There are many end markets. One way to differentiate CFD is by our compute power. With Future Facilities, not only is the thermal simulation good, but we can couple it with the rest of the CFD products. They have built a lot of models for components like AC vents or systems. The technology can be applied to any building, not just data centers. We are optimistic about the new engagements that have picked up since we acquired Future Facilities. You will see more from us in this space.

Operator, Operator

Our next question comes from Ruben Roy from Stifel Financial. Please go ahead. Your line is open.

Ruben Roy, Analyst

Thank you. Anirudh, you got a bunch of questions on hardware, and I think Carlin’s question hit on most of the things that I wanted to ask about. But I guess one thing that stood out to me from your commentary was that two-thirds of your new orders in ‘22 were for both Palladium and Protium. That was interesting to me because it seems like as we are moving to more SSD designs, more firmware and software in those designs, selling Palladium and Protium together is likely to move up. If you could just comment on that and how you are thinking about that as either TAM expansion or a revenue growth driver longer term behind hardware, that would be interesting.

Anirudh Devgan, President and CEO

Yes, absolutely. The thing with hardware is in a secular growth trend like we mentioned, but it’s essential to have multiple products. The addition of Palladium and Protium, which are complementary but address different parts, both of them are growing, also provides more predictable growth for our business. Customers now utilize these systems, and as you mentioned, the designs are increasingly software-defined hardware. There is much back and forth between software bring-up and chip design. Having a common compiler provides a unique value that allows seamless movement between the two platforms. We are well positioned to take advantage of this.

Ruben Roy, Analyst

If I could just ask a quick follow-up for John, I don’t think you were asked on the pricing environment. In light of the macro, etcetera, if you are able to share how you're thinking about pricing in the context of the guidance that you have given for ‘23?

John Wall, CFO

Yes, Andrew. Our approach for capital allocation hasn’t changed, and share repurchases, we expect to use 50% of our free cash flow to repurchase shares. You usually don’t guide this, but if our opportunistic repurchase program kicks in, we will buy back more.

Anirudh Devgan, President and CEO

That’s a good point. Typically, when moving from one node to another, for example, we have like 10 years of node migration ahead of us. Anytime you go from one node to the next, the number of transistors effectively doubles. For the same chip, this means it has more in it, requiring more use of our software and hardware. We are entering a phase of sustained growth driven by market demand for complex chips.

Operator, Operator

I will now turn the call back over to Anirudh Devgan for closing remarks.

Anirudh Devgan, President and CEO

Thank you all for joining us this afternoon. It’s an exciting time for Cadence as we enter 2023 with strong business momentum and robust design activity offering tremendous market opportunities. Our exceptional execution of the Intelligent System Design strategy, customer-first mindset, and a high-performance and inclusive culture are driving accelerating growth as we grow our core EDA business while expanding our portfolio with new innovative solutions. Fostering sustainable innovation is a top priority, and we are thrilled to have been included in the newly released 2023 top-rated ESG Company List, ranking number 18 out of over 1,000 companies in the software and services group. 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.

Operator, Operator

Thank you for participating in today’s Cadence fourth-quarter and fiscal year 2022 earnings conference call. This concludes today’s call. You may now disconnect.