-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, C1Smbt4B9mHOFcVdCnK0A/clTtMn2axkXiFaFxeNsQuMMWewlckF6F5/8RVpC/Th znDLk25y+V+Cj6/75TJvuA== 0001047469-98-039203.txt : 19981105 0001047469-98-039203.hdr.sgml : 19981105 ACCESSION NUMBER: 0001047469-98-039203 CONFORMED SUBMISSION TYPE: SC 14D1/A PUBLIC DOCUMENT COUNT: 5 FILED AS OF DATE: 19981104 SUBJECT COMPANY: COMPANY DATA: COMPANY CONFORMED NAME: QUICKTURN DESIGN SYSTEMS INC CENTRAL INDEX KEY: 0000914252 STANDARD INDUSTRIAL CLASSIFICATION: INSTRUMENTS FOR MEAS & TESTING OF ELECTRICITY & ELEC SIGNALS [3825] IRS NUMBER: 770159619 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: SC 14D1/A SEC ACT: SEC FILE NUMBER: 005-43785 FILM NUMBER: 98737919 BUSINESS ADDRESS: STREET 1: 55 W TRIMBLE ROAD CITY: SAN JOSE STATE: CA ZIP: 951311013 BUSINESS PHONE: 4089146000 MAIL ADDRESS: STREET 1: 55 W TRIMBLE ROAD CITY: SAN JOSE STATE: CA ZIP: 95131-1013 FILED BY: COMPANY DATA: COMPANY CONFORMED NAME: MENTOR GRAPHICS CORP CENTRAL INDEX KEY: 0000701811 STANDARD INDUSTRIAL CLASSIFICATION: SERVICES-COMPUTER INTEGRATED SYSTEMS DESIGN [7373] IRS NUMBER: 930786033 STATE OF INCORPORATION: OR FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: SC 14D1/A BUSINESS ADDRESS: STREET 1: 8005 SW BOECKMAN RD CITY: WILSONVILLE STATE: OR ZIP: 97070 BUSINESS PHONE: 5036857000 SC 14D1/A 1 14D1/A - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ AMENDMENT NO. 20 TO SCHEDULE 14D-1 TENDER OFFER STATEMENT (PURSUANT TO SECTION 14(D)(1) OF THE SECURITIES EXCHANGE ACT OF 1934) QUICKTURN DESIGN SYSTEMS, INC. (Name of Subject Company) MENTOR GRAPHICS CORPORATION MGZ CORP. (Bidders) COMMON STOCK, PAR VALUE $.001 PER SHARE (including the Associated Rights) (Title of Class of Securities) 74838E102 (CUSIP Number of Class of Securities) ------------------------ WALDEN C. RHINES PRESIDENT AND CHIEF EXECUTIVE OFFICER MENTOR GRAPHICS CORPORATION 8005 S.W. BOECKMAN ROAD WILSONVILLE, OREGON 97070-7777 (503) 685-1200 (Name, Address and Telephone Number of Persons Authorized to Receive Notices and Communications on Behalf of Bidders) COPY TO: JOHN J. HUBER, ESQ. CHRISTOPHER L. KAUFMAN, ESQ. LATHAM & WATKINS LATHAM & WATKINS 1001 PENNSYLVANIA AVENUE, N.W. 75 WILLOW ROAD WASHINGTON, DC 20004 MENLO PARK, CALIFORNIA 94025 (202) 637-2200 (650) 328-4600 - -------------------------------------------------------------------------------- - -------------------------------------------------------------------------------- MGZ Corp., a Delaware corporation ("Purchaser"), and Mentor Graphics Corporation, an Oregon corporation ("Parent"), hereby amend and supplement their Tender Offer Statement on Schedule 14D-1 filed on August 12, 1998 (the "Statement"), as amended, with respect to the offer by Purchaser to purchase all outstanding shares of Common Stock, par value $.001 per share, of Quickturn Design Systems, Inc., a Delaware corporation, for a purchase price of $12.125 per share, net to the seller in cash, without interest thereon, as set forth in this Amendment No. 20. Capitalized terms used herein and not defined have the meanings ascribed to them in the Statement. ITEM 10. ADDITIONAL INFORMATION. Item 10(f) of the Statement is hereby amended and supplemented by the following: 1. On November 3, 1998, Parent and the Company entered into a Stipulation regarding the public disclosure in redacted form of certain expert reports, a copy of which is attached hereto as Exhibit (a)(38) and is incorporated herein by reference. 2. On November 4, 1998, Parent issued a press release, a copy of which is attached hereto as Exhibit (a)(39) and is incorporated herein by reference. 3. Redacted Interim Supplemental Expert Report of James Mack Folsom, dated October 5, 1998, a copy of which is attached hereto as Exhibit (a)(40) and is incorporated herein by reference. 4. Redacted Supplemental Report of Blaine F. Nye, Ph.D., dated October 22, 1998, a copy of which is attached hereto as Exhibit (a)(41) and is incorporated herein by reference. ITEM 11. MATERIAL TO BE FILED AS EXHIBITS. (a)(38) Stipulation dated November 3, 1998. (a)(39) Press Release dated November 4, 1998. (a)(40) Redacted Interim Supplemental Expert Report of James Mack Folsom dated October 5, 1998. (a)(41) Redacted Supplemental Report of Blaine F. Nye, Ph.D. dated October 22, 1998. 2 SIGNATURES After due inquiry and to the best of my knowledge and belief, I certify that the information set forth in this statement is true, complete and correct. Dated: November 4, 1998 MENTOR GRAPHICS CORPORATION By: /s/ GREGORY K. HINCKLEY -------------------------------------- Name Gregory K. Hinckley Title: Executive Vice President, Chief Operating Officer and Chief Financial Officer MGZ CORP. By: /s/ GREGORY K. HINCKLEY -------------------------------------- Name: Gregory K. Hinckley Title: Secretary and Chief Financial Officer
3 EX-11.(A)(38) 2 EXHIBIT 11(A)(38) STIPULATION DATED 11/3 ATTORNEYS LISTED ON NEXT PAGE UNITED STATES DISTRICT COURT DISTRICT OF OREGON MENTOR GRAPHICS CORPORATION, an Oregon corporation, CASE NO. C96-00342-RE Plaintiff, STIPULATION v. QUICKTURN DESIGN SYSTEMS, INC., a Delaware corporation, Defendant. META SYSTEMS, a French corporation, Plaintiff, v. QUICKTURN DESIGN SYSTEMS, INC., a Delaware corporation, Defendant. 1 LYON & LYON LLP A Limited Liability Partnership Including Professional Corporations JAMES W. GERIAK JAMES C. BROOKS STEVEN D. HEMMINGER LAWRENCE R. LAPORTE THEODORE S. MACIEKO JONATHAN T. LOSK 633 West Fifth Street, Suite 4700 Los Angeles, California 90071-2066 (213) 489-1600 ALAN T. McCOLLOM (OSB NO. 79080) MARGER, JOHNSON & McCOLLOM, P.C. 1030 S.W. Morrison Street Portland, Oregon 97205 (503) 222-3613 Attorneys for Defendant QUICKTURN DESIGN SYSTEMS, INC. James T. McDermott (Oregon Bar No. 93359) BALL JANIK LLP One Main Place 101 Southwest Main Street, Suite 1100 Portland, Oregon 97204 (503) 228-2525 David A. York (CSB No. 89942) Steven M. Bauer (CSB No. 135067) Sanjay Bhandari (CSB No. 181920) LATHAM & WATKINS 75 Willow Road Menlo Park, California 94025-3656 (650) 328-4600 Marc W. Rappel LATHAM & WATKINS 633 West Fifth Street, Suite 4000 Los Angeles, California 90071 (213) 485-1234 Attorneys for Plaintiffs MENTOR GRAPHICS CORPORATION and META SYSTEMS 2 The parties hereto stipulate and agree as follows: 1. In Civil Action No. C96-00342-RE, the Interim Supplemental Expert Report of James Mack Folsom, dated October 5, 1998 (including all Exhibits thereto), can be publicly disclosed by either party and otherwise used as if it was not designated confidential information subject to protective order in this litigation, immediately upon signature of this stipulation by both parties, provided the information identified below as "REDACTED" is redacted: a. Page 7, paragraph 18
------------------------------- --------------------- --------------------- --------------------- Customer Total Price Equipment Annual Service ------------------------------- --------------------- --------------------- --------------------- Bull REDACTED REDACTED REDACTED --------------------- --------------------- --------------------- UB Networks REDACTED REDACTED REDACTED --------------------- --------------------- --------------------- Radix REDACTED REDACTED REDACTED --------------------- --------------------- --------------------- Motorola REDACTED REDACTED REDACTED --------------------- --------------------- --------------------- National Semiconductor REDACTED REDACTED REDACTED ------------------------------- --------------------- --------------------- ---------------------
b. Page 9, paragraph 22 For UB Network (including its parent Tandem), Quickturn estimated that it would have sold the company $REDACTED in equipment in the first quarter of 1997 and $REDACTED in the first quarter of 1998. (See Table 10 attached at Exhibit 12.) For Motorola, Quickturn estimated that the repeat sales would have been $REDACTED per quarter after Motorola had a quarter to become accustomed to the Quickturn equipment. * * * For National Semiconductor, Quickturn estimated that, after the one quarter lag, National Semiconductor would have purchased $REDACTED per quarter. c. Page 11, paragraph 25 In the year before Mentor began its infringement (Q3`94 through Q2'95), the average price per gate was REDACTED CENT. In the next year the average price fell slightly to REDACTED CENT. * * * 3 Thus, when one compares the price drop from the year before Mentor to the year that Mentor began to sell actively, there was little impact on Quickturn's average price because Mentor won most of the competitive situations. The price per gate fell by REDACTED cents. d. Page 11, paragraph 25, footnote 10 Quickturn indeed offered SGS a greater than REDACTED% discount off list but still lost the sale. e. Page 11, paragraph 26 As a result of this pricing change, the average prices per gate in the year, Q3'96 to Q2'97, fell to REDACTED cents, a drop of REDACTED cents per gate from the previous year. In the next year, prices stabilized at this low level and assumed their more normal rate of decrease, dropping by REDACTED cents per gate. f. Page 12, paragraph 27 In calculating the losses from price erosion, I have assumed that prices would have dropped from REDACTED cents per gate to 85 cents for the year beginning with Q3'96. I assume that the "normal" price would have declined to 83 cents per gate in the next year. g. Page 12, paragraph 28, footnote 11 For example, in Table 18, we see that when the share in the U.S. fell from REDACTED% to REDACTED%, the price per gate rose from REDACTED cents to REDACTED cents and when the share in the U.S. increased from REDACTED% to REDACTED%, the price per gate fell from REDACTED cents to REDACTED cents. The pattern is repeated in the next quarter. The domestic share fell from REDACTED% to REDACTED% and the price per gate rose from REDACTED cents to REDACTED cents. h. Page 13, paragraph 29 In making this calculation, I noted that the impact of price erosion shown in Table 18 was that the amount of the price erosion declined REDACTED% from the first year (Q3'96-Q2'97) to the second year (Q3'97-Q2'98). 4 i. Exhibit 12, Table 2 LOST PROFITS ON ACTUAL SALES AND MAINTENANCE
Equipment Sales Sales --------------- ----- UB Network REDACTED Radix REDACTED National Semiconductor REDACTED Motorola REDACTED Bull REDACTED ---------- $4,950,000 70% Margin Lost Profit $3,815,000 $3,468,000 Maintenance Sales Sales ----------------- ----- UB Network REDACTED Radix REDACTED National Semiconductor REDACTED Motorola REDACTED Bull REDACTED ---------- TOTAL: $1,474,900 ---------- ---------- 70% Margin Lost Profit $1,032,400 j. Exhibit 12, Table 3 RADIX-MAINTENANCE SALES ----------------------- Radix Q2'96 Equipment Sales: $REDACTED - ----------- ---------------- Maintenance Sales Q3'96 $REDACTED Q3'97 $REDACTED Q3'98 $REDACTED ---------- Lost Maintenance: $REDACTED $4,950,000 k. Exhibit 12, Table 4 NATIONAL SEMICONDUCTOR-MAINTENANCE SALES National Semiconductor Equipment Sale: $REDACTED - ---------------------- --------------- Maintenance Sales Q2'97 REDACTED Q3'98 REDACTED Q2'99 REDACTED ---------- Maintenance Sales Lost $REDACTED NPV of Sales Lost $REDACTED
5 l. Exhibit 13, Table 15 UB NETWORK-MAINTENANCE SALES
UB Network Equipment Sale: $REDACTED - ---------- --------------- Maintenance Sale Q3'96 REDACTED Q3'97 REDACTED Q3'98 REDACTED ---------- Maintenance Sales Lost $REDACTED NPV of Sales Lost $REDACTED m. Exhibit 12, Table 6 BULL-MAINTENANCE SALES Bull Maintenance Equipment Sale: $REDACTED - ---------------- --------------- Maintenance Sale Q3'95 REDACTED Q3'96 REDACTED Q3'97 REDACTED ---------- Maintenance Sales Lost $REDACTED NPV of Sales Lost $REDACTED n. Exhibit 12, Table 7 MOTOROLA MAINTENANCE SALES Equipment Sale: $REDACTED --------------- Maintenance Sale Q1'97 REDACTED Q1'98 REDACTED Q1'99 REDACTED ---------- Maintenance Sales Lost $REDACTED NPV of Sales Lost $REDACTED o. Exhibit 12, Table 8 QUICKTURN DESIGN SYSTEMS AVERAGE PRICE PER GATE Period Average Price ------ ------------- Q3 `94-Q2 `95 REDACTED CENT Q3 `95-Q2 `96 REDACTED CENT Q3 `96-Q2 `97 REDACTED CENT Q3 `97-Q2 `98 REDACTED CENT
6 p. Exhibit 12, Table 9 QUICKTURN'S LOSSES ON FUTURE SALES OF EQUIPMENT AND MAINTENANCE CAUSED BY MENTOR GRAPHICS' INFRINGEMENT
MPV Of Lost Profit On NPV Of Lost Profit On Equipment Sales Maintenance Sales ---------------------- --------------------------- UB Network $REDACTED $REDACTED Bull REDACTED REDACTED Motorola REDACTED REDACTED National Semiconductor REDACTED REDACTED TOTAL: $20,965,000 $5,508,300 q. Exhibit 12, Table 10 QUICKTURN'S LOST PROFIT ON FUTURE EQUIPMENT SALES TO UB NETWORK (TANDEM) CAUSED BY MENTOR GRAPHICS' INFRINGEMENT Equipment Sales --------------- Q1 `97 $REDACTED Q1 `98 REDACTED ---------- $REDACTED 70% Margin Lost Profit $REDACTED r. Exhibit 12, Table 11 QUICKTURN'S LOST PROFIT ON FUTURE MAINTENANCE SALES TO UB NETWORKS CAUSED BY MENTOR GRAPHICS' INFRINGEMENT NPV Maintenance Sales --------------------- Q2 `97 $REDACTED Q2 `98 REDACTED Q2 `99 REDACTED Q2 `00 REDACTED ---------- $REDACTED 20% Margin NPV Lost Profit $REDACTED
7 s. Exhibit 12, Table 12 QUICKTURN'S LOST PROFIT ON FUTURE EQUIPMENT SALES TO MOTOROLA CAUSED BY MENTOR GRAPHICS' INFRINGEMENT
Equipment Sales --------------- Q2 `97 $REDACTED Q3 `97 REDACTED Q4 `97 REDACTED Q1 `98 REDACTED Q2 `98 REDACTED Q3 `98 REDACTED $REDACTED ---------- 70% Margin Lost Profit $REDACTED t. Exhibit 12, Table 13 QUICKTURN'S LOST PROFIT ON FUTURE MAINTENANCE SALES TO MOTOROLA CAUSED BY MENTOR GRAPHICS' INFRINGEMENT NPV of Maintenance Sales ----------------- Q3 `97 $REDACTED Q4 `97 REDACTED Q1 `98 REDACTED Q2 `98 REDACTED Q3 `98 REDACTED Q4 `98 REDACTED Q1 `99 REDACTED Q2 `99 REDACTED Q3 `99 REDACTED Q4 `99 REDACTED Q1 `00 REDACTED Q2 `00 REDACTED Q3 `00 REDACTED Q4 `00 REDACTED ---------- $REDACTED 70% Margin NPV of Lost Profit $REDACTED
8 u. Exhibit 12, Table 14 QUICKTURN'S LOST PROFIT ON FUTURE EQUIPMENT SALES TO NATIONAL SEMICONDUCTOR CAUSED BY MENTOR GRAPHICS' INFRINGEMENT
Equipment Sales --------- Q3 `97 REDACTED Q4 `97 REDACTED Q1 `98 REDACTED Q2 `98 REDACTED Q3 `98 REDACTED $REDACTED ---------- 70% Margin Lost Profit $REDACTED v. Exhibit 12, Table 15 QUICKTURN'S LOST PROFIT ON FUTURE EQUIPMENT SALES TO NATIONAL SEMICONDUCTOR CAUSED BY MENTOR GRAPHICS' INFRINGEMENT NPV of Maintenance Sales ----------------- Q4 `97 $REDACTED Q1 `98 REDACTED Q2 `98 REDACTED Q3 `98 REDACTED Q4 `98 REDACTED Q1 `99 REDACTED Q2 `99 REDACTED Q3 `99 REDACTED Q4 `99 REDACTED Q1 `00 REDACTED Q2 `00 REDACTED Q3 `00 REDACTED Q4 `00 REDACTED ---------- $REDACTED 70% Margin NPV of Lost Maintenance Sale $REDACTED
9 w. Exhibit 12, Table 16 QUICKTURN'S LOST PROFIT ON FUTURE EQUIPMENT SALES TO BULL CAUSED BY MENTOR GRAPHICS' INFRINGEMENT
Equipment Sales ----- Q1 `97 $REDACTED 70% Margin Lost Profit $REDACTED x. Exhibit 12, Table 17 QUICKTURN'S LOST PROFIT ON FUTURE MAINTENANCE SALES TO BULL CAUSED BY MENTOR GRAPHICS' INFRINGEMENT NPV of Future Maintenance Sales ----------------- Q2 `97Q4 `97 $REDACTED Q2 `98 REDACTED Q2 `99 REDACTED $REDACTED 70% Margin NPV of Lost Profit $REDACTED
y. Exhibit 12, Table 18 QUICKTURN'S LOSSES FROM PRICE EROSION CAUSED BY MENTOR GRAPHICS' INFRINGEMENT
Expected Actual No. of Domestic Domestic Price Period Price Price Gates Share Erosion Loss ------ ----- ----- ----- ----- ------------ Q3 `96 $0.85 REDACTED REDACTED REDACTED $4,415,800 Q4 `96 0.85 REDACTED REDACTED REDACTED 1,781,300 Q1 `97 0.85 REDACTED REDACTED REDACTED 2,968,200 Q2 `97 0.85 REDACTED REDACTED REDACTED 641,600 Q3 `97 0.83 REDACTED REDACTED REDACTED 930,100 Q4 `97 0.83 REDACTED REDACTED REDACTED 2,294,200 Q1 `98 0.83 REDACTED REDACTED REDACTED 510,700 Q2 `98 0.83 REDACTED REDACTED REDACTED 5,756,500 --------- TOTAL: $19,298,400
10 z. Exhibit 13, Chart (partial)
Quickturn's Average Price Per Gate in Years Ending in the Second Quarter, 1995-1998 - --------------------------------------------------------------------------------------------------------------------- - --------------------------------------------------------------------------------------------------------------------- R E D A C T E D - ------------------- ------------------------------------------------------------------------------------------------- Q2'95 Q2'96 Q2'97 Q2'98 - ------------------- ---------------------- ---------------------- ----------------------- ---------------------------
aa. Exhibit 14, Expert Report of James Mack Folsom, page 9, P. 12. The variable sales cost is commissions on sales which were planned to be REDACTED percent of sales in 1996. bb. Exhibit 14, Expert Report of James Mack Folsom, page 14, P. 15. In 1995, Quickturn's two largest customers in the U.S. purchased in excess of REDACTED million dollars ($REDACTED million) each of emulation equipment and the accompanying service - indicating that customers place a high value on the equipment. 2. In Civil Action No. C96-00342-RE, the Supplemental Report of Blaine F. Nye, Ph.D., dated October 22, 1998 (including all Exhibits thereto), can be publicly disclosed by either party and otherwise used as if it was not designated confidential information subject to protective order in this litigation, immediately upon signature of this stipulation by both parties, provided the information identified below as "REDACTED" is redacted: a. Page 22, Section IV, C.2 Mr. Folsom assumes that a "normal" price per gate was $REDACTED in 1995 and $0.85 in 1996 and that price per gate would normally drop $REDACTED per year. * * * He testified that Quickturn's price per gate declined from $8 per gate in 1991, to $6, to $4, and then to $2 by late 1994, then to $REDACTED by 1996. b. Page 28, Section V.A.
- ----------------------------- ----------------------------- ---------------------------- ---------------------------- Customer Sale Amount Royalty Rate Total Royalty - ----------------------------- ----------------------------- ---------------------------- ---------------------------- Radix $REDACTED 7.8% $REDACTED - ----------------------------- ----------------------------- ---------------------------- ---------------------------- Motorola $REDACTED 7.8% $REDACTED - ----------------------------- ----------------------------- ---------------------------- ---------------------------- UB Networks $REDACTED 7.8% $REDACTED - ----------------------------- ----------------------------- ---------------------------- ---------------------------- Bull HN $REDACTED 7.8% $REDACTED - ----------------------------- ----------------------------- ---------------------------- ---------------------------- TOTAL $4,454,000 7.8% $347,412 - ----------------------------- ----------------------------- ---------------------------- ----------------------------
c. Exhibit I, LaPorte to Bhandari Letter, 8/12/98, p.4
- --------------------------------------- -------------------------------------- -------------------------------------- CUSTOMER LIST PRICE DISCOUNT - --------------------------------------- -------------------------------------- -------------------------------------- CPI $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- C-Cube $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- TI $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- AMD $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- Number Nine $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- DEC $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- SAI $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- DOD #2 $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- TI $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- ATT $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- Cabletron $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- Motorola $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- 10,511,188 3,683,174 (Mentor present) - --------------------------------------- -------------------------------------- -------------------------------------- 25% Discount (Mentor absent) 2,627,797 - --------------------------------------- -------------------------------------- -------------------------------------- Price Erosion 1,055,377 (net price erosion) - --------------------------------------- -------------------------------------- --------------------------------------
d. Exhibit I, LaPorte to Bhandari Letter, 8/12/98, p.5 (c) REDACTED (d) REDACTED e. Exhibit M, Bhandari to LaPorte Letter, 9/12/98, attach. (partial)
- --------------------------------------- -------------------------------------- -------------------------------------- CUSTOMER LIST PRICE DISCOUNT - --------------------------------------- -------------------------------------- -------------------------------------- Cardiac Pacemakers $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- C-Cube $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- TI $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- AMD $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- Number Nine $REDACTED $REDACTED - --------------------------------------- -------------------------------------- --------------------------------------
12 DEC $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- SAI $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- DOD #2 $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- TI $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- AT&T $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- Cabletron $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- Motorola $REDACTED $REDACTED - --------------------------------------- -------------------------------------- -------------------------------------- $8,681,480 $2,641,363 - --------------------------------------- -------------------------------------- -------------------------------------- Average Discount with Mentor Absent (25%) $2,170,370 - ------------------------------------------------------------------------------ -------------------------------------- TOTAL PRICE EROSION (Actual - Average) $470,993 - ------------------------------------------------------------------------------ --------------------------------------
3. In both Civil Action No. C96-00342-RE and United States International Trade Commission Proceedings, Investigation No. 337-TA-383, the deposition transcripts and exhibits thereto of Guenther, Giordano, Bull and its employees; Daniel Schumacher, Tim Parker, Motorola and its employees (when, and if, taken); and National Semiconductor (when, and if, taken) shall not be designated as confidential information subject to protective order in this litigation (and may be publicly disclosed) by either plaintiffs or defendant to the extent any of the witnesses' testimony concerns actual or potential purchases of emulation equipment or any other matters relating to damages in this action, immediately upon signature of this stipulation by both parties. Additionally, the parties agree that neither party will disclose either the Folsom or Nye reports to any non-party damages witnesses. 4. The following pleadings from the United States International Trade Commission Proceedings, Investigation No. 337-TA-383, excluding the portions thereof that contain a detailed description of machine function, shall not be designated as confidential information subject to protective order and may be publicly disclosed by either party, immediately upon signature of this stipulation by both parties: a. Order No. 34, Initial Determination, dated July 8, 1996; b. Final Initial and Recommended Determinations, dated July 31, 1997; c. Opinion on Remedy, The Public Interest and Bonding, dated April 1, 1998; 13 d. Commission Investigative Staff's Post-Hearing Reply Brief on Permanent Relief, dated May 30, 1997; e. Commission Opinion on Petition to Modify to Temporary Relief Bond, dated October 28, 1997; f. Commission Opinion on Remedy, The Public Interest and Bonding, dated August 12, 1996; and g. Order No. 96, dated July 31, 1997. 14 IT IS SO STIPULATED: LYON & LYON LLP Dated: November 3, 1998 By /s/ Theodore S. Maceiko ----------------------- Theodore S. Maceiko 633 West Fifth Street, Suite 4700 Los Angeles, California 90071-2066 (213) 489-1600 Alan T. McCollom MARGER, JOHNSON & McCOLLOM, P.C. 1030 S.W. Morrison Street Portland, Oregon 97205 (503) 222-3613 Attorneys for Defendant QUICKTURN DESIGN SYSTEMS, INC. LATHAM & WATKINS Dated: November 3, 1998 By /s/ Marc W. Rappel ------------------ Marc W. Rappel 633 West Fifth Street, Suite 4700 Los Angeles, California 90071 (213) 485-1234 David A. York (CSB No. 89942) Steven M. Bauer (CSB No. 135067 Sanjay Bhandari (CSB No. 181920) LATHAM & WATKINS 75 Willow Road Menlo Park, California 94025-3656 (650) 328-4600 James T. McDermott (Oregon Bar No. 93359) BALL JANIK LLP One Main Place 101 Southwest Main Street, Suite 1100 Portland, Oregon 97204 (503) 228-2525 Attorneys for Plaintiffs MENTOR GRAPHICS CORPORATION and META SYSTEMS 15 EX-11.(A)(39) 3 EXHIBIT 11(A)(39) MENTOR GRAPHICS CALLS QUICKTURN'S PATENT DAMAGES CLAIMS "GROSSLY INFLATED" WILSONVILLE, OR, NOVEMBER 4, 1998--Mentor Graphics Corporation (Nasdaq: MENT) today called the amount of damages being sought by Quickturn Design Systems, Inc. (Nasdaq: QKTN) in its patent infringement litigation with Mentor "grossly inflated." Mentor stated its belief that the actual damages suffered by Quickturn, if Quickturn succeeds in proving infringement, are at most approximately $1 million (or up to a total of $3 million if the damages are trebled)--not $75 million (or $225 million if trebled) as recently claimed by Quickturn. Mentor stated that the report submitted by its damages expert in the patent case of "at most $1,091,724" of actual damages before any trebling is consistent with Quickturn's prior willingness to enter into a stipulation limiting its damages before any trebling to $3.5 million. Mentor further stated that Quickturn, after strongly opposing the public release of the Mentor and Quickturn experts' reports, has finally agreed to the release of redacted versions of the two reports, exhibits to the reports and the correspondence relating to the proposed cap on damages. Mentor is making both experts' reports available today on a special Mentor Web site at http://www.mentorg.com/file and intends to add the exhibits and correspondence to this Web site at a later date. Dr. Walden C. Rhines, President and Chief Executive Officer of Mentor Graphics, said: "We have always believed that Quickturn's damages claims were grossly inflated and that the claims were only made to try to mislead Quickturn stockholders into rejecting our $12.125 per share, premium, cash tender offer for all outstanding shares of Quickturn common stock. "Quickturn has finally stopped trying to prevent the Quickturn stockholders from seeing the so-called bases for Quickturn's damage claims. We are confident that Quickturn stockholders will conclude that the report of Mentor's damages expert, who stated that damages -- in the event that Quickturn actually proves that Mentor infringed its patents --are 'not more than $548,336, and at the very most, $1,091,724,' is grounded in reality. In our view, Quickturn's damage claims are nothing more than a red herring in the context of Mentor's all-cash premium offer." Dr. Rhines called attention to these excerpts from the Mentor damages expert's report: - "First, it is simply inherently incredible to claim, as [Quickturn's expert] does, that Quickturn has and will lose $93,000,000 in profits in the period 1996-2003 because Mentor sold five items of equipment having a gross value of $3.5 million during the period 1995-1997. No credible analysis can reach those damage numbers based on Mentor's limited sales." - "Second, [Quickturn's expert's] 'lost profits' damages with respect to projected sales of equipment and maintenance to Bull, UB Networks, Radix, Motorola, and National Semiconductor, which he states are $30,973,700 (even after discounting to present value), completely ignores sworn third party testimony from the purchasing authorities of four of the five companies that they WOULD NOT have purchased Quickturn's products. One simply cannot base a rational lost profits claim on sales of equipment that the purchaser states it would not have bought." - "Third, [Quickturn's expert's] 'price erosion' claim (which yields additional lost profits of $62,208,300 before discounting) is based on a theory that (a) Quickturn would have been able to keep its prices substantially the same as it charged in 1996 (in spite of the common observation that electronics and computer equipment prices fell dramatically over the same period), and (b) Mentor's limited presence in the market in 1995-1997 caused and will cause Quickturn to dramatically reduce its prices over a seven year period--including a six year period after Mentor disappeared from the United States market." - "Fourth, [Quickturn's expert] ignores some basic data points concerning the behavior of the parties during this litigation that cast his numbers into great doubt, including the facts that (a) Quickturn stipulated, and the ITC [International Trade Commission] agreed, that its damages with respect to Mentor's late 1996 and 1997 imports (which include the Motorola and National Semiconductor sales) were only $425,000, and (b) Quickturn was apparently willing to stipulate in August-September 1998 that its damages in the Portland case were $3.5 million. There is no way to reconcile a number in the tens of millions with this conduct." As previously announced, the Dealer Manager for the Mentor Graphics Offer is Salomon Smith Barney. MacKenzie Partners, Inc., which is acting as proxy solicitor for the Special Meeting and as the Information Agent for Mentor's Offer, can be reached toll-free at 800-322-2885 or by collect call at 212-929-5500. Mentor Graphics' Offer to Purchase and ancillary documents are available on a Mentor Graphics World Wide Web site at http://www.mentorg.com/file. Contacts: Anne M. Wagner Roy Winnick/Todd Fogarty Vice President, Marketing Kekst and Company 503/685-1462 212/521-4800
2 EX-11.(A)(40) 4 EXHIBIT 11(A)(40) LYON & LYON LLP A Limited Liability Partnership Including Professional Corporations JAMES W. GERIAK JAMES C. BROOKS LAWRENCE R. LaPORTE ARMAND F. AYAZI 633 West Fifth Street, Suite 4700 Los Angeles, California 90071-2066 Telephone: (213) 489-1600 MARGER, JOHNSON & McCOLLOM, P.C. ALAN T. McCOLLOM, OSB No. 79080 1030 S.W. Morrison Street Portland, Oregon 97205 Telephone: (503) 222-3613 Attorneys for Defendant QUICKTURN DESIGN SYSTEMS, INC. UNITED STATES DISTRICT COURT DISTRICT OF OREGON MENTOR GRAPHICS CORPORATION, an ) Civil No. C96-00342-RE Oregon Corporation ) Plaintiffs, ) CONSOLIDATED CASES ) v. ) INTERIM SUPPLEMENTAL EXPERT ) REPORT OF JAMES MACK FOLSOM QUICKTURN DESIGN SYSTEMS, INC., a ) Delaware corporation, ) Defendants. ) ) ) ) - ------------------------------------------- ) META SYSTEMS, a French corporation, ) ) FILED UNDER SEAL Plaintiff, ) ) CONTAINS CONFIDENTIAL v. ) INFORMATION SUBJECT TO ) PROTECTIVE ORDER QUICKTURN DESIGN SYSTEMS, INC., a ) Delaware corporation, ) Defendant. ) ) ) - ------------------------------------------- INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 1
TABLE OF CONTENTS PAGE ---- I. BACKGROUND MATERIAL STUDIED AND SUMMARY..................................................................4 II. QUICKTURN'S LOST PROFIT ON SALES THAT MENTOR MADE -- LOST SALES..........................................6 A. Past Lost Sales.................................................................................6 1. Capacity and Substitutability..........................................................9 2. Lost Profit on Equipment..............................................................11 3. Lost Profit on Service/Maintenance....................................................12 B. Lost Future Sales (Repeat Sales)...............................................................13 1. Equipment.............................................................................13 2. Service/Maintenance...................................................................15 C. Price Erosion..................................................................................15 1. Past Price Erosion....................................................................17 2. Future Price Erosion..................................................................18 III. SUMMARY.................................................................................................19
INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 2 1. My names is James Mack Folsom. As I have previously indicated in my Expert Report, dated July 1, 1997 (attached as Exhibit 14), I am an economist with almost four decades of experience in analyzing the impact of actions by one firm or a group of firms on the income of other firms. This Interim Supplemental Expert Report supplements my earlier expert report. My educational background and experience are detailed in my earlier report at PARAPARA1-4. I left my employ at Glassman-Oliver Economic Consultants, Inc. after I completed the earlier report and now manage my own independent consulting firm, Mack Folsom, Inc. 2. My updated resume is attached as Exhibit 1 and presents an updated list of expert testimony I have given during the past four years. There has been no change in the publications. Charges for my time are $325 per hour. I. BACKGROUND MATERIAL STUDIED AND SUMMARY 3. This Interim Supplemental Expert Report analyzes the lost sales (including service), lost future sales (including service), and generalized price erosion (past and future) caused by Mentor's aggressive sales and marketing efforts since June 1996 to the present in view of documents recently produced by Mentor Graphics Corporation(1) ("Mentor"). 4. Since completing the earlier report in July 1997, 1 have obtained additional information on sales and marketing activities of Mentor, which information shows the wide range of their marketing and sales activities in the United States. Since the first International Trade Commission ruling adverse to Mentor, the documents that Mentor has provided indicate that Mentor significantly accelerated its sales and marketing efforts with respect to its infringing emulation products in the United States. (I am advised that Mentor has not provided information - ------------------------------ (1) Mentor designates either or both Mentor and Meta. INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 3 sufficient to assess its foreign sales and marketing activities.). The quotes to customers indicate a big increase in selling activity after the first International Trade Commission hearing. Mentor documents that have been produced appear to indicate that Mentor submitted price quotes on four emulation projects in the United States prior to June, 1996. Between June and December, 1996, quotes were submitted on 13 jobs and in the first nine months of 1997 quotes were made on another 13 jobs. (See letter 8/7/98 from Sanjay Bhandari to Lawrence LaPorte (Exhibit 2), and attachments thereto (Exhibit 15).) I have also obtained data from Quickturn Design Systems, Inc. ("Quickturn") which allows me to measure the impact of Mentor's unrelenting marketing and sales activities on the prices charged by Quickturn and on lost future sales. 5. My earlier report indicated that Mentor's infringement of Quickturn's patent and Mentor's attempts to sell emulation products in the United States had caused several categories of damage to Quickturn. Among them were (1) the loss of the actual sale of equipment when Mentor made a sale, (2) the loss of the sale of the service associated with that equipment, (3) the loss of future sales of equipment to that customer, (4) the loss of service associated with the sale of the equipment sold in the future, (5) the possible loss of sales outside the United States because of the sales lost in the United States,(2) (6) delays in purchasing which may decrease earnings, adversely impacting impacting on stock prices and, thus, raising the cost of potential acquisitions,(3) (7) increases in the cost of selling because of Mentor's presence and (8) price - ------------------------------ (2) I am advised Mentor has produced little or no information with respect to its foreign sales efforts, and I reserve the right to supplement my report if such information becomes available. (3) Mentor has recognized Quickturn's need to add to their product portfolio, saying: "Recently, Quickturn. announced a merger with SpeedSirn, a cycle-based simulator provider. This merger is a clear indicator that Quickturn is feeling pressure to offer a more comprehensive verification environment. In fact, a quote from the release (announcing the merger) states `Quickturn is changing from being an emulation company to be a design INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 4 erosion caused by Mentor's selling activities. (See paragraph 9 of my original report, Exhibit 14.) 6. With the information now available, I am able to measure the impact on Quickturn's profits from the sale of infringing equipment and service by Mentor. In addition, I have used the data to calculate Quickturn's lost profits from future sales of equipment and service that Quickturn would have made if Mentor had not sold an infringing product.(4) Finally, I have used the information available to measure the price erosion, both past and into the future, caused by Mentor's sales and marketing of its infringing products. Due to inadequate information provided by Mentor, I am still unable to quantify the impact of domestic sales activity by Mentor on Quickturn's foreign sales. II. QUICKTURN'S LOST PROFIT ON SALES THAT MENTOR MADE -- LOST SALES A. Past Lost Sales 7. As indicated in my earlier report, the appropriate measure of damages to a firm whose patent has been infringed is lost profits on the sales it would have made but for the infringement, that is, the difference between the sales the patentee would have made and the costs it would have incurred. In my earlier report, I presented details which demonstrated that Quickturn's profit rate (over its variable costs of manufacturing and selling the products and service) is approximately 70%. (See Exhibit 14 at paragraphs 11 - 12.) In order to determine - -------------------------------------------------------------------------------- verification company.' The SpeedSirn acquisition is a very limited step in the right direction of providing a more comprehensive verification solution." (Emphasis added.) (MGDC 002874), attached at Exhibit 16. (4) As indicated in my earlier report, for the purposes of damages analysis, I assume Mentor infringed Quickturn's patents. INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 5 Quickturn's lost profits, we must multiply this profit margin by the dollar volume of sales Mentor took away from Quickturn. 8. Mentor admits making five sales where the product wound up in the United States according to the information originally furnished to us. The first lost sale was to Bull in 1995. The product was purchased to be used at the Bull facility in Arizona.(5) Quickturn actively competed with Mentor in this lost sale. 9. The second lost sale was to UB Networks in the second quarter of 1996. (Pulini Deposition Exhibit 16 (purchase order) attached at Exhibit 3.) Quickturn and Mentor were head to head competitors for this sale.(6) 10. The third lost sale was to Radix Technologies, again in the second quarter of 1996. (The purchase order was signed on 5/16/96 and is attached hereto at Exhibit 4, p. 2.) Quickturn actively competed for this sale. 11. The fourth lost sale was to Motorola in Austin, Texas. It is described as a lease in an attachment to Mr. Bhandari's August 7, 1998 letter to Mr. LaPorte (Exhibit 15, p. 1) which indicates that the value of the lease was $158,466. No information has been presented as to whether this equipment was returned to Mentor at the end of the three months (although it does not appear to be included in Mentor's inventory report -MGDC 002691, Exhibit 11) or whether the lease was extended. Further, no mention is made of the purchase by Motorola of two months of service for $105,000. (Motorola purchase order, issued on the same day as the order for the - ---------------------------------------- (5) It is my understanding that, as a part of the deal, Bull agreed to be a reference account for Mentor in the United States. (6) Mentor made two additional sales to UB Networks. The first was for spare parts, 9/18/96, in the amount of $8,900 (MGDC 002359) and the second on the same date was for a design memory card in the amount of $17,900 INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 6 equipment, attached hereto at Exhibit 4, pp. 6-9.) Aside from that, Mentor appears to be playing with the numbers. At $52,500 per month for service, the charge for one year of service would be $630,000. At 13.5% of the equipment price for annual service, the implied selling price of the equipment would be $4,667,000. (See Mentor offers in MGDC 002328 - MGDC 002329, Exhibit 17.) Mentor and Quickturn competed vigorously for this sale. 12. The fifth lost sale was to National Semiconductor in the first quarter of 1997. (See National Semiconductor purchase order, attached hereto at Exhibit 4, pp. 4-5.) Quickturn actively competed for this sale. 13. By his letter of August 7, 1998 (Exhibit 2, pp. 1-3), Mr. Bhandari furnished additional information relative to the marketing and sales activities of Mentor in the emulation area. He also provided a summary table (attached at Exhibit 15, pp. 1-2) indicating when quotes had been made and whether a sale had occurred. Among those quotes was one to Lucent Technologies on 8/23/96 and an indication that no sale was made. However, MDGC 002680 (attached at Exhibit 5) is a letter from Sanjay Kasturia, Director, GWPG, Core Technology Group, Lucent Technologies to Bob Mareiniss of Mentor Graphics Corporation which states: Please use Lucent Purchase Order # xxx in reference to the Mentor Corporate Agreement #1214 (Lucent # G17959DE). Mentor Graphics SimExpress emulation product (Base system without options A or B) referenced by Quotation # 60908 which totals $265,413.00 is requested to be shipped immediately to Lucent Technologies. Further evidence that this sale occurred is found in a letter from Mr. Mareiniss to Lucent Technologies (Exhibit 6), Attention: Sanjay Kasturia, October 10, 1996, which states in part: - -------------------------------------------------------------------------------- (MGDC 002360), both invoices attached at Exhibit 18. No information was found on maintenance sales to UB Network.. INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 7 Thank you for your commitment to purchase Mentor Graphics SimExpress emulation product (Mentor Graphics Customer Quotation No. 60908). This letter confirms that the shipment has been delivered per your request dated October 3, 1996. (Emphasis added.) (MGDC 002683) This sale, which was never mentioned by Mentor, was discovered on October 2, 1998 as drafting of this Interim Supplemental Expert Report was being completed. Accordingly, I am not convinced that Quickturn has been provided with the full picture of Mentor's sales taken away from Quickturn. I reserve the right to supplement, alter or change this Interim Supplemental Expert Report should further information come to light. 1. Capacity and Substitutability 14. The party who claims lost profits because an infringer has taken sales away should be able to demonstrate that it had the capacity to produce and sell the product and that, but for the infringer, it would have gotten the sale. Since Quickturn was already trying to sell the customers that Mentor won, there does not appear to any question that Quickturn had the capacity to sell the product. Further, because of quarter to quarter variations in demand, Quickturn has the capacity to expand production substantially without having to expand its production facility. It is also my understanding that Quickturn would not have any problem in obtaining the additional inputs which would be required if production were increased. 15. Since Quickturn had the capacity to produce and sell the product, the relevant question becomes whether Quickturn could have been expected to get the sale if Mentor had not been in the market with an infringing product. It is my conclusion that Quickturn would have gotten each of these sales in the absence of Mentor. First, Quickturn and Mentor were the only two firms which were offering for sale equipment which was allegedly comparable in both price INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 8 and quality. VMW was offering equipment at prices substantially below those of Quickturn and Mentor and had never made a sale. Zycad, which in the past had sold emulation equipment, was in the process of withdrawing from selling emulation equipment. IKOS, it is my understanding, also had not sold any product when the infringement began. Aptix was just beginning to attempt to sell emulation equipment and the capacity of the equipment which it was offering to sell was less than 100,000 gates at the time the infringement began. Aptix could not be considered as a serious competitor of either Quickturn or Mentor, both of which were offering equipment that had capacities of a million or more gates or as offering a reasonable substitute for any of the five equipment sales that Mentor admits to making since all of those were for equipment with a capacity substantially in excess of 100,000 gates. This all means that we have essentially a two-supplier market insofar as the sale of emulation equipment capable of verifying large chip designs is concerned. This conclusion is also supported by the testimony of Moore and Cibulski at the ITC hearings. 16. I now turn to the information with respect to the customers and Mentor's perception of its competition. The extent of the competition in the UB Network's situation is summarized in a memorandum from Matthew Fisch to Steve Duffett (both of Mentor) (4/l/96 - MGDC 002465 - MGDC 002466, attached at Exhibit 7). "We took UB to Paris for a corporate visit to help overcome and address all of the outstanding questions and concerns which Quickturn has raised." Although Mentor has recently procured biased third-party statements to the effect that Quickturn was not the most likely supplier other than Mentor in some of the above lost sales, Mentor's own documents indicate the contrary - Quickturn was the only other candidate in these lost sales (and these are the lost sales that Mentor has disclosed thus far). In INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 9 fact, the only instance that I found where another emulator producer is mentioned as competing with Mentor for a specific sale is one involving Ericsson where Mentor did not make the sale. Quickturn was not perceived as involved in that sale. The competitors mentioned are IKOS and Aptix. (MGDC 002882, attached at Exhibit 8.) On the other hand, there are a large number of references to Quickturn as a competitor, including comments about Quickturn's pricing (See, for example, MGDC 002503, attached at Exhibit 9) and comments like "Quickturn is going to fight us to the death on these three sales campaigns" (3Com-Chipcom, Cabletron and Digital). (MGDC 002466, attached as Exhibit 10.) 17. It is axiomatic in the emulation industry that once a firm purchases equipment from a supplier, it goes to that same supplier for service/maintenance. Therefore, there is no question that Quickturn would have been the firm to provide the service if it sold the equipment. It also follows that if Quickturn made the original sale, it would generally be the supplier of choice for future equipment sales, provided its equipment performed properly. It is my opinion that this information all supports the conclusions reached in this report about the sale of equipment and service which Quickturn would have enjoyed, absent the presence of Mentor selling an infringing product. 2. Lost Profit on Equipment 18. The next step in calculating the damages to Quickturn from losing the particular sales to Mentor was to determine the prices at which Quickturn would have made these sales. I relied upon information provided by Mr. Ostby (Quickturn's CFO and Vice-President of Finance) and Mr. Jordan (Quickturn's Vice-President of U.S. Sales) in that respect. The price information that I have been furnished was for the equipment and one year of service. I INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 10 separated the items using Quickturn's typical rule that service charges for a year equal to 10% of the price of the equipment. The results for the five lost sales that Mentor took away from Quickturn are:
- -------------------------------- --------------------------- ---------------------------- --------------------------- Customer Total Price Equipment Annual Service - -------------------------------- --------------------------- ---------------------------- --------------------------- Bull REDACTED REDACTED REDACTED UB Networks REDACTED REDACTED REDACTED Radix REDACTED REDACTED REDACTED Motorola REDACTED REDACTED REDACTED National Semiconductor REDACTED REDACTED REDACTED - -------------------------------- --------------------------- ---------------------------- ---------------------------
With the prices for the equipment and the 70% profit rate calculated earlier, I have calculated Quickturn's lost profit on the sale of the equipment and report it at Table 2 attached at Exhibit 12. Table 2 contains the details of the calculation. Quickturn's lost profit on the sales of $4,954,000 of equipment was $3,468,000. (If the $275,000 sale to Lucent is included, Quickturn's lost profit would increase to $3,660,000.) 3. Lost Profit on Service/Maintenance 19. I then calculated Quickturn's losses from the sale of services that would normally have been associated with the above equipment sales.(7) Based on my discussions with Mr. Ostby and Mr. Jordan regarding Quickturn's actual experience with their customers, Quickturn would have expected large customers like those above to purchase service for three years. The typical situation is that a customer purchases and pays for the service in annual increments of one year, payable at the beginning of the year. Accordingly, in preparing the data on lost service sales, I assumed that Quickturn would have been paid for the service in three annual payments beginning INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 11 in the quarter after the equipment was purchased. I, therefore, discounted to net present value any sales after September, 1998 using a discount rate of 20% (which discount rate is consistent with industry estimates). Tables 3 - 7 attached at Exhibit 12 contain the details of the lost sales of service and Table 2 shows the lost profit on the sales to be $1,032,400 (again based on a 70% profit margin). B. Lost Future Sales (Repeat Sales) 20. Having calculated the lost profits on equipment and service, based on the sales which Mentor actually took away from Quickturn, I then examined the question of lost future sales caused by the sales which Mentor actually made. Within the emulation industry, it is generally recognized that once a firm has purchased a particular company's emulator, it will be reluctant to "switch" brands. Switching means retraining personnel and learning to operate the new system. Thus, it follows that once a sale is made, the customer is likely to come back to the same emulator manufacturer to purchase additional equipment and service. The importance of this is reflected in the facts mentioned in my earlier report (Exhibit 14, paragraph 9d) finding that approximately three-fourths of Quickturn's sales are repeat purchases. 1. Equipment 21. I first estimated what the dollar volume of sales to the particular lost customer(s) would have been anticipated after the initial lost sales. I relied upon Mr. Ostby and Mr. Jordan for these estimates. Because Quickturn is optimistic that it will get these customers back - -------------------------------------------------------------------------------- (7) The discount rate for the median firm in the industry in which Quickturn operates is shown by Ibbotson as being slightly less than 20%. INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 12 eventually, no repeat sales losses on equipment are claimed beyond the present time.(8) The sales for the individual customers were individually estimated and reported to me by Mr. Ostby and Mr. Jordan. I am advised that the estimates were based upon factors including the size and emulation needs of the particular customer, the volumes of sales made to that particular customer as well as Quickturn's experience with other customers. In my view, these estimates were appropriate in light of the facts available. 22. For Radix, Quickturn did not believe that it had a reasonable expectation of additional sales and claimed none. For UB Network (including its parent Tandem), Quickturn estimated that it would have sold the company $REDACTED in equipment in the first quarter of 1997 and $REDACTED in the first quarter of 1998. (See Table 10 attached at Exhibit 12.) For Motorola, Quickturn estimated that the repeat sales would have been $REDACTED per quarter after Motorola had a quarter to become accustomed to the Quickturn equipment. The estimate for Motorola is appropriate because Motorola is, I was informed, one of the larger designers of application specific integrated circuits ("ASICs") and customers like Fujitsu and Intel which are not as large have purchased more than Motorola's estimate on emulation on an annual basis. (See Table 12 attached at Exhibit 12.) For National Semiconductor, Quickturn estimated that, after the one quarter lag, National Semiconductor would have purchased $REDACTED per quarter. This would have put Quickturn's sales to National Semiconductor on par with its sales to Fujitsu which Quickturn believes is substantially smaller than National Semiconductor in designing ASICs. (See Table 14 at Exhibit 12.) Quickturn would also have made an additional - -------------------------- (8) This is based on the assumption that there will be a quick resolution of this matter. If that does not occur, I reserve the right to modify my Interim Supplemental Expert Report. INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 13 sale to Bull in the first quarter of 1997. Once again, the estimate is conservative in that it takes into account Quickturn's expectation that the price would be lower because of the general downward trends in price per gate. (See Table 16 attached at Exhibit 12.) The lost profits on the lost repeat sales to the above-mentioned individual customers are shown in Tables 10, 12, 14 and 16 (attached at Exhibit 12). Table 9 (attached at Exhibit 12) contains the summary which shows that Quickturn's lost profit on additional (repeat) sales that it would have expected to make to the customers which purchased infringing product from Mentor totaled $20,965,000 through September, 1998. 2. Service/Maintenance 23. As for services associated with the equipment which Quickturn estimated it would have sold but for Mentor's infringement which allowed Mentor to sell the only emulation product that was a realistic competitor of Quickturn's product, Mr. Ostby's and Mr. Jordan's experience was that repeat customers of this size continue to purchase three annual service contracts with repeat equipment sales. Tables 11, 13, 15 and 17 of Exhibit 12 contain the details of the calculation of lost service sales. Once again, sales made after the third quarter of 1998 are discounted back to their present value at a discount rate of 20%. Table 9 presents a summary of the information on lost service associated with repeat sales and shows that Quickturn's lost profits on these services were approximately $5,508,000. C. Price Erosion 24. The final elements of damages that I address in this report are past and future price erosion caused by Mentor's infringement. By past price erosion, I mean the reduction in sales prices (and profits) of Quickturn on sales Quickturn made prior to July 1, 1998. In contrast, INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 14 future price erosion constitutes the reduction in sales prices (and profits) of Quickturn for a limited (five-year) time period after June 30, 1998. 25. Quickturn's collected data regarding its average price per gate are presented in Table 8. They show that Quickturn's average price per gate has been falling over time. (See Table 8, attached at Exhibit 12.) In the year before Mentor began its infringement (Q3'94 through Q2'95), the average price per gate was REDACTED(cent). In the next year the average price fell slightly to REDACTED(cent). This was the year that Mentor began to market its emulation products, not only in the United States, but world wide. As revealed in the ITC hearings, Quickturn's initial strategy in selling its emulation system was to offer a price which was close to list and then discount an additional amount, as necessary, to close the sale. However, once the customer saw the price offered by Mentor, they were not responsive to additional Quickturn price offers, even those lower than Mentor's.(9) (UB Networks is an example and SGS Thompson is another example.) Large offered discounts have no impact on average prices of sales actually made if the large discounts are not accepted.(10) Thus, when one compares the price drop from the year before Mentor to the year that Mentor began to sell actively, there was little impact on Quickturn's average price because Mentor won most of the competitive situations. The price per gate fell by REDACTED cents. 26. As a result of the lack of success of its pre-Mentor pricing era, Quickturn revised its pricing policy. It realized that it had to respond to the potential of Mentor as a competitor and had to assume that Mentor would show up in the competitive battle for most if not all of its - ----------------------------------- (9) Quickturn sales principals were told (or otherwise were led to believe) that the customers thought Quickturn was trying to gouge them on price after the customers had seen Mentor's low competing prices. (10) Quickturn indeed offered SGS a greater than REDACTED% discount off list but still lost the sale. INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 15 customers. Since Quickturn could not know the specific customers that Mentor would target, it chose a policy of offering lower prices to most of its customers. As a result of this pricing change, the average prices per gate in the year, Q3'96 to Q2'97, fell to REDACTED cents, a drop of REDACTED cents per gate from the previous year. In the next year, prices stabilized at this low level and assumed their more normal rate of decrease, dropping by REDACTED cents per gate. (See Table 8.) Attached at Exhibit 13 is a chart that clearly demonstrates the evolution of Quickturn's price per gate over time. This chart clearly shows that Mentor's infringement has irreversibly depressed the price per gate of Quickturn. 1. Past Price Erosion 27. In calculating the losses from price erosion, I have assumed that prices would have dropped from REDACTED cents per gate to 85 cents for the year beginning with Q3'96. I assume that the "normal" price would have declined to 83 cents per gate in the next year. My assumption regarding the average price per gate in the absence of Mentor is conservative because it allows for a reduction consistent with (and even larger than) pre-Mentor pricing patterns (due for example to economies of scale). Table 18 shows the details of the calculations. 28. In order to calculate the price erosion (past and future), I then multiplied the difference between the expected per-gate price and the actual per-gate price by the total volume of gates sold by Quickturn (reduced to their domestic U.S. share). The results are tabulated in Table 18 (post price erosion) and Table 19 (future price erosion) (attached at Exhibit 12). The erosion in prices was then allocated to the United States on the basis of the domestic share of INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 16 gates sold.(11) The calculation in Table 18 shows that the impact of past price erosion has been $19,298,400. 2. Future Price Erosion 29. With respect to the future, it is well understood that businesses are generally aware that it is difficult to increase the price to customers once you have sold to them at lower prices -- lest you be viewed as a gouger. Table 18 precisely reflects this fact. Thus, even after Mentor was preliminarily enjoined by this Court, the gate prices never recovered. That is classic price erosion. Even though Mentor was no longer selling in the United States in the second quarter of 1998, the average price per gate remained and stabilized at this low point. For that reason, I have calculated the price erosion impact for a limited five-year period after June 30, 1998 on Quickturn. Table 19 shows the calculations. In making this calculation, I noted that the impact of price erosion shown in Table 18 was that the amount of the price erosion declined REDACTED% from the first year (Q3'96 - Q2'97) to the second year (Q3'97 - Q2'98). In terms of the limited five-year period into the future, I continued that same rate of decline. Further, since this impact on profits is in the future, I discounted the losses by 20% per year to take into account that Quickturn will be getting the money early. Table 19 shows that the expected loss from price erosion for the next five years is $28,440,000. - ---------------------------- (11) I believe that this methodology, if it has any effect, understates the price erosion in the United States. The reason is that the price per gate outside the United States is higher than the price per gate in the United States. For example, in Table 18, we see that when the share in the U.S. fell from REDACTED% to REDACTED%, the price per gate rose from REDACTED cents to REDACTED cents and when the share in the U.S. increased from REDACTED% to REDACTED%, the price per gate fell from REDACTED cents to REDACTED cents. The pattern is repeated in the next quarter. The domestic share fell from REDACTED% to REDACTED% and the price per gate rose from REDACTED cents to REDACTED cents. INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 17 III. SUMMARY 30. Table 1 (attached at Exhibit 12) provides a summary of the losses that I have estimated in this report. The damages from lost sales of product, both past and future, were $24,433,000. The damages from lost sales of service, both past and future, were $6,541,000. The damages from past price erosion were $19,298,000 and the damages from future price erosion for the next five years will be $28,444,000. Total damages to Quickturn from these factors are approximately $78,716,000. 31. The analysis and calculation provided here are based on information made available to me thus far and I reserve the right to supplement, amend or revise this report as discovery proceeds further in this case. ----------------------------------- James Mack Folsom INTERIM SUPPLEMENTAL EXPERT REPORT OF JAMES MACK FOLSOM Civil No. C96-00342-RE Page 18 EX-11.(A)(41) 5 EXHIBIT (A)(41) UNITED STATES DISTRICT COURT DISTRICT OF OREGON Mentor Graphics Corporation and Meta Systems v. Quickturn Design Systems, Inc. SUPPLEMENTAL REPORT OF BLAINE F. NYE, Ph.D [Responding To "Interim Supplemental Report" Of John Mack Folsom] Pursuant to FRCP 26(a) 10/22/98 Confidential-Outside Counsel Only Pursuant to the Protective Order entered in this action. Case No. C96-00342-RE TABLE OF CONTENTS I. EXECUTIVE SUMMARY A. Mr. Folsom's Report Has Four Fundamental Problems That Impeach The Credibility Of His Entire Analysis. B. The Appropriate Damages Amount Is In The Range of $ 550,000. II. QUALIFICATIONS AND TASKS ASSIGNED A. Qualifications. B. Tasks Relating To The Folsom Reports. C. My Own Opinion Regarding Quickturn's Damages. D. Materials Relied Upon. E. Assumptions. III. PRELIMINARY OBSERVATIONS A. Inherent Incredibility. B. The Recent Analysis Is At Odds With the ITC Proceeding. 1. Quickturn Apparently Has Agreed To Damages With Respect To Mentor's Sales To Motorola And National Semiconductor. 2. The Methodology Used To Calculate The Damages For The Motorola And National Semiconductor Sales Would Seem Applicable To The Other Three Mentor Sales. C. The Recent Analysis Is Apparently At Odds With Positions On Remedies Taken By Quickturn Throughout The Case. IV. SPECIFIC CRITICISMS OF FOLSOM'S REPORT A. Deficiencies In The "Past Lost Sales" Analysis. 1. The "Past Lost Sales" Analysis Ignores The Testimony Of The Customers Who Said They Would Not Have Bought. 2 2. There Is No Analysis Of, Or Backup To, The Hypothetical Quickturn Sales With Respect To Price Or Profit. B. Deficiencies In The "Lost Future Sales (Repeat Sales)" Analysis. 1. The "Lost Future Sales (Repeat Sales)" Ignores The Testimony Of The Customers Who Said They Would Not Have Bought. 2. There Is No Analysis Of What The "Lost" Customers Actually Did With Respect To Emulation During The So-Called "Future" Period. 3. There Is No Analysis Of, Or Backup To, The Hypothetical Quickturn Sales With Respect To Price Or Profit. C. Deficiencies In The "Price Erosion" Analysis. 1. No Analysis Of Legitimacy Of Price Per Gate As Proxy For Product Pricing. 2. No Analysis Of Appropriateness Of Baseline Price. 3. No Support For Assumptions of Number of Gates Sold In the Future. 4. No Analysis Of Potential Causes of Price Per Gate Decline. 5. No Analysis Of Relationship Between Decline In Price Per Gate And Loss Of Profit. 6. Complete Failure To Analyze Future Price Erosion. D. Deficiencies In The Reasonable Royalty Analysis. V. A REALISTIC ASSESSMENT OF DAMAGES TOTALS NO MORE THAN $ 550,000. A. Reasonable Royalty Is the Appropriate Measure For Four Of The Five Emulator Sales. B. Lost Profits May Be An Appropriate Measure For The Lost Sale To National Semiconductor. C. There Is No Evidence To Support Any Other Form Of Damages. 3 I. EXECUTIVE SUMMARY After reviewing the October 5, 1998 Interim Supplemental Expert Report of James Mack Folsom, and a variety of other materials discussed below, I have come to the following conclusions. A. Mr. Folsom's Report Has Four Fundamental Problems That Impeach The Credibility Of His Entire Analysis. First, it is simply inherently incredible to claim, as Mr. Folsom does, that Quickturn has and will lose $93,000,000 in profits in the period 1996 - 2003 because Mentor sold five items of equipment having a gross value of $3.5 million during the period 1995 -1997. No credible analysis can reach those damage numbers based on Mentor's limited sales. Second, Mr. Folsom's "lost profits" damages with respect to projected sales of equipment and maintenance to Bull, UB Networks, Radix, Motorola, and National Semiconductor, which he states are $30,973,700 (even after discounting to present value), completely ignores sworn third party testimony from the purchasing authorities of four of the five companies that they would not have purchased Quickturn's products. One simply cannot base a rational lost profits claim on sales of equipment that the purchaser states it would not have bought. Third, Mr. Folsom's "price erosion" claim (which yields additional lost profits of $62,208,300 before discounting) is based on a theory that (a) Quickturn would have been able to keep its prices substantially the same as it charged in 1996 (in spite of the common observation that electronics and computer equipment prices fell dramatically over the same period), and (b) Mentor's limited presence in the market in 1995 - 1997 caused and will cause Quickturn to dramatically reduce its prices over a seven year period -- including a six year period after Mentor disappeared from the United States market. 4 Fourth, Mr. Folsom ignores some basic data points concerning the behavior of the parties during this litigation that cast his numbers into great doubt, including the facts that (a) Quickturn stipulated, and the ITC agreed, that its damages with respect to Mentor's late 1996 and 1997 imports (which include the Motorola and National Semiconductor sales) were only $425,000, and (b) Quickturn was apparently willing to stipulate in August-September 1998 that its damages in the Portland case were $3.5 million. There is no way to reconcile a number in the tens of millions with this conduct. B. The Appropriate Damages Amount Is In The Range of $ 500,000. I believe that the appropriate amount of potential damages in this case is in the range of $550,000 (or at most, approximately $1,000,000), consisting of approximately $350,000 in reasonable royalties and $200,000 in lost profits. II. QUALIFICATIONS AND TASKS ASSIGNED A. Qualifications. I am President of Stanford Consulting Group, Inc., which provides research and consulting services in financial economics and related areas to clients, including government agencies, corporations, and law firms. I have a B.A. degree in physics from Stanford University, an M.S. degree in physics from the University of Washington, an M.B.A. degree from Stanford, and a Ph.D. in finance from Stanford. I have served as a consultant or expert witness on the subjects of lost profits, and general damages in a number of actions. My curriculum vitae is attached as Exhibit A. During the past four years I have provided expert testimony in trial or by deposition in the matters listed in Exhibit B. My publications during the past ten years are listed in my curriculum vitae, Exhibit A. 5 B. Tasks Relating To The Folsom Reports. I was asked by Mentor to review Mr. Folsom's recent report and to provide general and specific comments with respect to the following issues: (1) "Actual" lost profits to Quickturn for equipment and service sales to Bull, UB Networks (Tandem), National Semiconductor, Motorola, and Radix relating to the equipment Meta actually sold to these companies. (2) Predicted lost "repeat business" equipment and service sales to Bull, UB Networks, National Semiconductor, and Motorola supposedly resulting from Mentor's actual sales to these companies; (3) Generalized price erosion of emulation equipment sold by Quickturn from mid-1996 to July 1, 1998 as expressed by a supposedly measured decline in "price per gate" of Quickturn emulation products; (4) Generalized price erosion of emulation equipment beginning in July 1, 1998 and continuing for the next five years as expressed by a predicted decline in "price per gate" of Quickturn emulation products. (5) The reasonable royalty rate Quickturn would have received from Mentor for infringing emulation products sold by Mentor from 1996 to July 1, 1998. C. My Own Opinion Regarding Quickturn's Damages. I was also asked to express my own opinions with respect to the appropriate measure and amount of damage that could have been caused Quickturn by Mentor's alleged infringing activities in the United States during the period 1995 to August 1997. 6 D. Materials Relied Upon. In preparing this report and my previous report, I have reviewed all the material that I reviewed in connection with my previous report and the materials referenced in this report, including the declarations of Dan Schumacher, Chuong H. Nguyen, Tim Parker, and Russell W. Guenthner. E. Assumptions. I assumed that the five emulation products sold by Mentor during the period of June 1995 to July 1997 were, in fact, sales and infringed patents held by Quickturn, (although I understand that the magistrate in the federal court action in Portland, Oregon has recommended that the Court deny Quickturn's motions for summary judgment of infringement). III. PRELIMINARY OBSERVATIONS A. Inherent Incredibility. Quickturn has been a monopolist in the hardware emulation market since before 1990, selling over $80,000,000 of such equipment per year in the mid-1990s and over $100,000,000 per year in the past few years. Approximately 70-80% of these sales were in the United States. We also know that Mentor sold or leased only five emulation systems in the United States over the period 1995 to 1Q 1997 with a total value of approximately $3.5 million. Mentor's sales of more machines, and the support of the five existing machines, was enjoined in the United States in the beginning of 3Q 1997. Clearly, Quickturn's sales and marketing efforts with respect to hardware emulation equipment dwarfed Mentor's during the short period Mentor was able to sell the few machines that it did. In spite of these facts, Quickturn, with its complete market dominance, asserts that Mentor's five sales caused Quickturn to lose over $50,000,000 in profits -- not sales, but profits - 7 - - in the United States during the period 1996 - September 1, 1998. After claiming these astounding losses, Mr. Folsom predicts that even though Mentor disappeared from the United States market in August 1997, and Quickturn will maintain its monopoly position, Quickturn will lose another $43,000,000 in profits by the end of 2Q 2003 (which Mr. Folsom reduces to a present value of $28,400,000). Knowing not one other fact, any rational business person or economist must conclude that a claim that a company with the market dominance of Quickturn has lost and will lose $93,000,000 over a period of seven years because a minor competitor sold $3.5 million worth of equipment over a two year period is absurd. Knowing more facts, makes Mr. Folsom's analysis even more incredible. As just one example, over $30,000,000 of the claimed losses during the period 1996 to 1998 are attributable to just five customers -- UB Networks, Radix, National Semiconductor, Motorola, and Bull -- and are all based on the explicit, but completely unsupported, assumption that if these companies had not purchased a machine from Mentor (each purchased or leased one) they would have purchased from Quickturn then and in the future. Four of the five purchasing authorities from these companies, however, have submitted sworn declarations saying the companies would not have purchased from Quickturn (and the fifth will soon be deposed). Mr. Folsom dismisses these declarations as "biased third party statements" and performs no further analysis as to why Quickturn would have made the sales. 8 B. The Recent Analysis Is At Odds With the ITC Proceeding. 1. Quickturn Apparently Has Agreed To Damages With Respect To Mentor's Sales To Motorola And National Semiconductor. I have had an opportunity to review (a) deposition and trial testimony in the ITC proceeding, (b) some rulings by the ITC judge and the Commission on the issue of Mentor's need to post a bond to cover any Quickturn injury resulting from Mentor's importation of infringing equipment, along with statements by the ITC staff on the same topic, (c) a damages/bond forfeiture stipulation between Mentor and Quickturn, and (d) materials that show the Mentor emulation equipment sold to National Semiconductor and Motorola was imported under bond (a portion of which Mentor later agreed to forfeit to cover Quickturn's damages). I also reviewed what Mr. Folsom had to say concerning the ITC bond in his earlier report. I looked at these materials primarily as a form of "sanity check" on the analyses Mr. Folsom and I are performing. I have attached as Exhibits C-G the ITC materials I reviewed. It appeared from the materials I reviewed that after Mentor was preliminarily enjoined by the ITC in mid-1996 from importing the supposedly infringing emulators, the law allowed Mentor to continue to import the emulators but only if Mentor posted a bond in the amount to cover any damage caused to Quickturn by the machines imported. During the hearings on the temporary exclusion order, and later as well, the parties and their experts put on proof as to what the damage to Quickturn -- including lost profits, reasonable royalty, and price erosion -- would be if Mentor was allowed to import infringing emulators. Mr. Folsom, in fact, testified in those proceedings. Mentor initially was required to post a bond in the amount of 43% of the "entered value" (the value of the goods as imported as opposed to when they were sold to customers) of the emulators and associated equipment that Mentor would import. This was supposed to cover 9 all of Quickturn's injury from the imported goods. See August 12, 1996 Commission Opinion on Remedy, The Public Interest, and Bonding (Exhibit C). Later, in July 1997, the ITC judge recommended to the ITC Commission that the bond amount be increased to 180% of the entered value of Mentor's emulators in order to make sure that the bond covered all of Quickturn's injury resulting from the importation of infringing goods. See July 31, 1997 Final Initial and Recommended Determinations at 181-183, 363-367 (Exhibit D). I found it interesting that the judge's opinion determined that entered value was 22% to 34% of actual sales price of the equipment. What this means is that a bond of 180% of entered value is actually a bond equal to 39.6% to 61.2% of the sales price of the imported Mentor equipment and that, under the ITC's rulings, this would be sufficient to cover all of Quickturn's damage, including price erosion. I understand that Mentor did import equipment and did post a bond as required by the ITC's orders. At the conclusion of the ITC proceedings, it appears that Quickturn moved for a forfeiture of the bond to cover its damages caused by the imports and Mentor moved for a return of the bonds on the theory that the imports had not harmed Quickturn. In July of this year, Mentor and Quickturn stipulated to a bond forfeiture amount of $425,000. See Joint Motion, Etc. (Exhibit E). I found the ITC Staff's response to the stipulation very informative. In recommending that the ITC approve the stipulation, the Staff said: The statutory purpose of requiring such bonds is to protect Complainant from any injury due to importations and sales of infringing goods during the pendency of the investigation. 19 U.S.C. Section1337(e)(1). Complainant's agreement to the stipulated bond forfeiture amount is a compelling basis to concluding that Complainant is adequately protected from injury by Respondent's transactions. See Commission Investigative Staff's Response to Joint Motion, Etc. at 6-7 (Exhibit F). Finally, the ITC judge approved the stipulation, stating: 10 With respect to the dollar value of respondents' bond forfeiture, complainant's agreement to the stipulated bond forfeiture amount of $425,000 shows that complainant believes that amount is sufficient to protect it from any injury by any transactions of respondents Mentor Graphics Corporation and Meta Systems. July 22, 1998 Order No. 106 at 8 (Exhibit G). In order to put the $425,000 stipulated figure in perspective, I looked at what Mentor equipment was covered by the stipulation and orders. Attached as Exhibit H is a list of all the equipment that was imported under bond and I have been able to determine that the Motorola emulator, the National Semiconductor emulator, and some components sent to UB Networks were all covered by the $425,000 forfeited bond that the ITC determined was "sufficient to protect [Quickturn] from any injury by any transactions of respondents Mentor Graphics Corporation and Meta Systems." While I believe the $425,000 figure is a bit high as a measure of Quickturn's damages for these particular items of equipment, the figure is certainly within the ballpark of my analysis. Mr. Folsom's most recent analysis, however, pegs the damages attributable to just the Motorola and National Semiconductor sales in the tens of millions of dollars. Nowhere does he explain why his current figures are so radically different from the case presented to the ITC and what Quickturn stipulated to. Finally, it seems readily apparent that before an expert opines with respect to damages attributable to equipment that apparently has been the subject of a stipulated settlement, there ought to be some explanation as to why any recovery should be allowed and, if so, a thorough explanation as to why the requested recovery is so much larger than that presented at trial, the rulings at trial, and what the parties agreed to. My point here is not to opine one way or the other as to whether the stipulation and order is a bar to Quickturn's claim on the Motorola and National Semiconductor emulators, but I do believe that the ITC materials are a very good 11 indicator of the level of damages we should be talking about in this case -- hundreds of thousands of dollars and not tens of millions. 2. The Methodology Used To Calculate The Damages For The Motorola And National Semiconductor Sales Would Seem Applicable To The Other Three Mentor Sales. I understand that it is not in dispute that some of the Mentor emulation equipment was imported before it was subject to a bonding requirement - -- specifically the emulators sold to Bull, Radix, and UB Networks. It seems to me, however, that the methodology Quickturn used to prove the harm that would result from importation is just as applicable to the equipment that already had been imported. Indeed, I can see no reason why the appropriate methodology and analysis would be different -- price erosion, lost profits, etc. are the same no matter when a bonding order goes into affect. The bond, as I understand it, is to compensate for all injury, so the method used to determine the bond should be just as applicable to damages in general. When one applies the ITC-approved damages approach to the Bull, Radix, and UB Networks equipment --including the price erosion proof Quickturn advanced in the ITC -- the damages figures fall in the range of hundreds of thousands rather than tens of millions of dollars. This result provides solid confirmation that my approach to damages is much closer to the mark than Mr. Folsom's tens of millions. C. The Recent Analysis Is Apparently At Odds With Positions On Remedies Taken By Quickturn Throughout The Case. In addition to what happened in the ITC proceedings, I cross-checked Mr. Folsom's numbers, and mine, against positions the parties have taken earlier in the case. First, I read with great interest the correspondence between the lawyers for the parties in July - August 1998 as they appeared to attempt to reach a stipulated damage figure. See Exhibits I-N. Although the 12 numbers that were being exchanged, particularly those advanced by Quickturn, were much higher than I believe are appropriate for this case, they provide yet another reference point as to what the reasonable damages in this case might be. Quickturn was trying to obtain a stipulation in the low seven figures and Mentor was apparently willing to stipulate in the high hundreds of thousands or very low seven figures. These discussions provide confirmation that my estimate of damages is of the right order of magnitude, while Mr. Folsom's is truly excessive. I also found interesting in a pleading that was filed by Quickturn in September 1996. Quickturn was opposing a motion made by Mentor to have the damages issues tried separately from the patent liability issues and in the course of that opposition made it very clear that it thought that the damages case would be simple, short, and duplicative of the ITC damages case ("because virtually the same discovery is presently being taken in the ITC, and because the discovery is relatively straightforward and relates to a finite number of sales and offers to sell by Mentor, there are no real efficiencies to be gained by bifurcating the damages issues in this case"). August 30, 1996 Quickturn Opposition to Plaintiff's Motion to Bifurcate, Etc. (Exhibit O). The interesting aspect of this brief is that it is entirely consistent with a damages case that would consist of the application of a royalty percentage or a profit percentage to a small number of machines. The statements in the brief, however, are completely inconsistent with the notion of conducting discovery and trial for a case that would analyze (a) what potential emulation buyers would and would not have done in the absence of Mentor in the past and in the future, (b) price per gate as an adequate proxy for price and profit, (c) causes for movement in price per gate, and (d) numerous other issues raised by Mr. Folsom's claims. I am not stating that the brief was wrong, I am simply using the statements made in it as additional consideration that leads me to conclude that Mr. Folsom's damages report is at odds with reality. 13 IV. SPECIFIC CRITICISMS OF FOLSOM'S REPORT A. Deficiencies In The "Past Lost Sales" Analysis. I reviewed that portion of Mr. Folsom's report in which he opines that Quickturn lost $4,500,400 in profits it would have made on what he calls "past" equipment sales (and maintenance fees for such equipment) made by Mentor to Bull, UB Networks, Radix, Motorola, and National Semiconductor during the period 1995 through 2Q 1997. His analysis has at least the following deficiencies: 1. The "Past Lost Sales" Analysis Ignores The Testimony Of The Customers Who Said They Would Not Have Bought. A central point of Mr. Folsom's report is that if Mentor had not made the five sales to Bull, UB Networks, Radix, Motorola, and National Semiconductor, Quickturn would have. Mr. Folsom, however, provides no support for his central point and simple ignores the following testimony of four of the five purchasing authorities for those companies: I was the decision-maker at Motorola as to which vendor -- Mentor or Quickturn -- would be selected in this particular contract. The primary reason Quickturn was not selected was because I did not feel that their product would satisfy our project's needs. Therefore, if Mentor's SimExpress was not an option for Motorola, I would not have purchased any emulation system. July 9, 1998 Declaration of Chuong H. Nguyen (Exhibit P hereto). Ultimately, as a team, we decided that Quickturn's emulation system did not satisfy our project needs and would not likely be enhanced to meet our project needs within our timeframe. The deficiencies were mainly in terms of 1) compile time and 2) the cycle time that was achievable on the Quickturn system. We had absolute requirements on a lower limit for cycle time based on the lowest speed that the rest of our system would run. Our team based our conclusion that Quickturn's system could not satisfy our project needs based mostly upon 1) our own internal evaluation of the system, and 2) considerations from presentations by Quickturn personnel. Quickturn's system was rejected by our Bull even after Quickturn offered to reduce its price to approximately one-half the price of the Meta system. If importation of Meta's system had not been an option, our team would have not 14 recommended purchase of the Quickturn system. Rather, we would have chosen one of several other options. Two of those options were: 1) to keep the emulation aspects of our project in Bull's French facility (Les Clayes, France), or 2) to continue our design process using the ZyCad machines we already had in place in both Phoenix, Arizona and France. June 19, 1998 Declaration of Russell W. Guenthner (Exhibit Q hereto). I lead the technical committee that was given the responsibility at Radix of deciding which vendor -- IKOS, Quickturn, or Mentor -- would be selected. Overall, Quickturn placed third in our rankings, behind both Mentor and IKOS. Quickturn's third place ranking resulted primarily from the following factors. First, I had worked with Quickturn's emulation products before at Kaiser Electronics, and found the product to be unreliable also, Quickturn product support was poor at best. Second, Quickturn's team was unwilling and apparently unable to demonstrate that the product could successfully map our design. That is, they did not perform our benchmark mapping of a completed portion of our design into their emulation system. Hence, they did not run our benchmark verification vectors against the mapped design. Mentor was the only company that successfully mapped and verified our design benchmark. Third, they did not meet the final deadlines for quote and proposal. Our technical committee unanimously selected Mentor as the lead contender around the middle of 1996. IKOS was the second contender in my mind and the minds of the other committee members. June 24, 1998 Declaration of Tim Parker (Exhibit R hereto). I was the main purchasing decision maker at UB Networks as to verification technology. It was primarily my decision to purchase an emulation system from Mentor Graphics Corporation in April 1996. Had purchasing a Mentor systems not been an option for UB Networks, I would most likely have subcontracted our verification work out to a third party. I definitely would not have purchased an emulation systems from Quickturn Design Systems, Inc. In my judgment at the time, purchasing a Quickturn emulation system would have involved hidden costs and risks that UB Networks was too small to support. In my judgment, UB Networks would have had to purchase several additional workstations and budget substantial personnel time to support Quickturn's emulation system. Also, it is my view that the Quickturn emulation systems offered us at that time had technical flaws resulting in substantial problems to the user, such as hold-time violations. September 10, 1998 Declaration of Dan Schumacher (Exhibit S hereto). What these declarations demonstrate is that the assumption that Quickturn would have made any sales to these four companies is not supportable. Therefore, he has no basis to 15 conclude that Quickturn lost the "past" equipment and maintenance sales to these four customers (which total approximately $4,000,000). It is not clear from his report exactly how Mr. Folsom has chosen to deal with this evidence directly undercutting his major assumption. On the one hand, it would appear that Mr. Folsom was not given access to these statements, since he does not list this evidence as information he considered when arriving at his new opinion. On the other hand, Mr. Folsom makes a statement that appears to indicate that he has discounted these statements. At paragraph 18, he refers to unspecified third party statements offhandedly as "biased." There are two primary failings with his statement that third party customers are somehow biased. First, neither he nor I have been retained to opine on the credibility of third-party sworn testimony. It seems to me to be unreasonable for an expert witness to discount third party sworn testimony as "biased" while relying wholeheartedly on "data" and "information" from the party who has hired him. Second, it does not matter what Quickturn or Mentor thought with respect to who the competitors were or what the customer might or might not do. What matters is what the customers themselves say they would have done if Mentor did not get their business. Mr. Folsom apparently ignores these facts, which is per se unreasonable. Mr. Folsom's conclusion that Quickturn had the capacity to produce and to sell each of these five products is undercut by data which he apparently did not review, namely the testimony of Radix's representative Tim Parker. Mr. Parker stated that Mentor was unable to meet the bidding and product specifications on time, apparently because Quickturn was capacity restrained and could not bid these projects successfully. It would not be reasonable to conclude that Quickturn had the capacity to make these sales in light of the above information which directly indicates to the contrary. 16 In the context of lost service revenue on "lost" sales, Mr. Folsom errs by not considering the fact that Mentor was enjoined from making any service sales to these customers beginning in August 1997. Thus, Quickturn did not lose any service sales to Mentor after August 1997, since Mentor did not make any itself. If Quickturn sold maintenance services to these companies related to Mentor's products, then Quickturn clearly has no damages in this area. On the other hand, if the customers bought services from suppliers other than Quickturn, it shows that Mr. Folsom's assumption that all follow-up service sales would go to Quickturn is incorrect. 2. There Is No Analysis Of, Or Backup To, The Hypothetical Quickturn Sales With Respect To Price Or Profit. In addition to the assumption that Quickturn would have made the equipment and maintenance sales to begin with, Mr. Folsom's "past" lost profits numbers are based on (a) projected equipment prices Quickturn would have received, (b) projected 70% profits it would have received from sales at those prices, (c) projected three year maintenance agreements, (d) projected revenues from the maintenance agreements (10% of equipment sales), and (e) projected 70% profits it would have received from those revenues. My major concern about these numbers is that Mr. Folsom offers no analysis, support, or backup for any of these assumptions and figures -- he simply appears to adopt what Mr. Ostby told him. When I looked at Mr. Ostby's declaration, I did not see any verification or analysis there either. However, now that we are in October 1998 there is no need to assume, opine, or speculate about what Bull, UB Networks, Radix, Motorola, and National Semiconductor needed or did with respect to purchasing emulation machines or servicing them in 1996 - June 1998, or the profits Quickturn would have made if it had made these sales. One needs only to gather the existing data. 17 B. Deficiencies In The "Lost Future Sales (Repeat Sales)" Analysis. Under the category of lost "future" profits, Mr. Folsom opines that during the period 1Q 1997 to 3Q 1998, Quickturn lost $20,965,000 in profits with respect to equipment sales it would have made to just Bull, UB Networks, National Semiconductor, and Motorola if only Mentor had not made the four sales it did in 1995 - 1997. In addition to these losses, even after discounting his figures to present value, Mr. Folsom adds another $5,508,000 in lost profits Quickturn should make on servicing the machines it should have sold in 1Q 1997 to 3Q 1998. The "future" analysis is subject to the following deficiencies: 1. The "Lost Future Sales (Repeat Sales)" Ignores The Testimony Of The Customers Who Said They Would Not Have Bought. The two predicates to Mr. Folsom's lost "future" sales to Bull, UB Networks, National Semiconductor, and Motorola is that Quickturn would have made the sales Mentor did in 1995 - 1997, and then it would have obtained the repeat business Mr. Folsom now predicts. As I stated above, Mr. Folsom's conclusion is fundamentally undercut by the declarations of the purchasing authorities of Bull, UB Networks, and Motorola. 18 2. There Is No Analysis Of What The "Lost" Customers Actually Did With Respect To Emulation During The So-Called "Future" Period. There are two significant omissions from Mr. Folsom's analysis of "future" sales. The first is that Mr. Folsom is not talking about the "future" at all -- the years have passed and we do not need to speculate on what emulation equipment Bull, UB Networks, National Semiconductor, and Motorola would have purchased during 1Q 1997 - 3Q 1998. That time period is history, not future. Second, there is no recognition that Mentor was enjoined from selling any additional equipment or service since June 1997. Therefore, no customer has returned to Mentor for follow-up service or equipment sales. Since Quickturn asserts that it did not make any sales to these customers, we can assume that these customers did not buy millions of dollars worth of emulation equipment and services from either Quickturn or Mentor. These companies either got along with what they had previously purchased, bought from other suppliers, or stopped using emulation. Each of these three possibilities shows that Quickturn is very unlikely to have suffered damages for lost future sales. The hypothesis of "future" equipment and service sales has been effectively impeached by the history of no sales. The most reasonable assumption - -- and the one borne out by experience -- is that Quickturn has no damages for lost sales in future years. By the same token, Mr. Folsom points to absolutely no evidence supporting the claim that if these four companies had just tried one of Quickturn's machines, they would have purchased millions of dollars of Quickturn's product. There is also no proof that Quickturn even tried to make sales to these customers and was rejected after Meta was enjoined. Furthermore, there is no evidence at all that, after the temporary exclusion order, Quickturn tried to make any sales to these people and were rebuffed because of loyalty toward Meta. Finally, any sale eventually 19 made by Quickturn could just as easily be explained by Quickturn's finally having a product that the companies are interested in purchasing. My understanding is that it is Quickturn's burden to prove all of these issues and it has produced no evidence at all. 3. There Is No Analysis Of, Or Backup To, The Hypothetical Quickturn Sales With Respect To Price Or Profit. The comments that I made earlier in the "past" lost profits discussion with respect to the complete lack of support and analysis of the prices that would have been charged and profits that could have been made apply here as well because as of October 1998 we are speaking of the past when we refer to 1Q 1997 to 3Q 1998. There is simply no analysis provided by Mr. Folsom that supports any of his assertions with respect to prices or profits. C. Deficiencies In The "Price Erosion" Analysis. Another new category of damages in the "Interim Supplemental Report" is price erosion. Mr. Folsom hypothesizes that Mentor caused a price decline in every emulator sold between July 1996 and July 1, 1998, and another price decline for every emulator that will be sold for the next five years. He opines that the loss to Quickturn will be $42,909,900 (which he discounts to $28,440,000). This opinion is unreasonable and without factual support. Mr. Folsom's approach to the notion of seeking damages from Mentor for a decrease in emulator prices has changed drastically since his 1997 report, even though he points to no information or data supporting such a change. In 1997, he opined that Quickturn lowered its price to a few specific customers in response to competition from Mentor by approximately 25% more than it otherwise would have. He never pointed to specific customers. The lack of data and analysis supporting this turnabout, and Mr. Folsom's total inconsistency are sufficient reasons to view his new conclusions as insupportable. 20 1. No Analysis Of Legitimacy Of Price Per Gate As Proxy For Product Pricing. Mr. Folsom bases his assessment of price declines on a dubious calculation of "price per gate." Mr. Folsom gives no analysis or justification for why "price per gate" is an appropriate measure of emulator costs. Since he bases his entire theory on this yardstick, there should be some presentation as to why it is the appropriate yardstick. To the contrary, Mr. Ostby has testified that Quickturn does not use "price per gate" pricing: Q: Does Quickturn calculate the price of its hardware emulation systems on a per gate basis? A: We are aware of pricing on a per gate basis. We don't set our pricing on the per gate basis. It is metric that we have used, but it is not our pricing model. Ostby Testimony, p. 45. Indeed, it appears that price per gate is a particularly inappropriate way to measure emulator costs. Customers, for example, do not purchase emulators on a per gate basis, as if they were a fungible commodity. Rather, customers purchase entire emulation systems based on design specifications for a particular project. Quickturn itself does not price its emulation systems on a price per gate basis; "price per gate" is not quoted in the sales and marketing materials that I have reviewed of either Quickturn or Mentor. "Price per gate" is not a measure of any economic fact, including customer needs, cost of production, or marketing realities. Mr. Folsom's selection of "price per gate" has no justifiable basis. If Mr. Folsom had somehow justified the use of "price per gate," his conclusions nonetheless would suffer from the additional failing of identifying to what "gates" he is referring. Emulated gates are an ASIC design that a machine can emulate; physical gates could be simply 21 the number of transistor gates in the machine. Mr. Folsom does not identify which "gates" he is talking about or why he chose one type of gate over another. 2. No Analysis Of Appropriateness Of Baseline Price. Mr. Folsom assumes that a "normal" price per gate was $REDACTED in 1995 and $0.85 in 1996 and that price per gate would normally drop $REDACTED per year. These assumptions are wholly without support or analysis. For example, he does not indicate any price per gate figures before 1994. If he were to use a different year, his conclusions might be far different. He has not explained the basis, if any, for his selection of benchmark prices or of the time span he has selected. In fact, Mr. Ostby has admitted that per gate prices declined precipitously before Mentor ever entered the market. He testified that Quickturn's price per gate declined from $8 per gate in 1991, to $6, to $4, and then to $2 by late 1994, then to $REDACTED by 1996. Ostby testimony, p. 1605. This decline, of course, cannot be attributed to Mentor. It also reveals that the rate of decline apparently slowed when Mentor entered the market, a fact directly contrary to Mr. Folsom's numbers. Mr. Folsom also does not explain the volatility of price per gate except to attribute it to differences between domestic and foreign market share. He does not attempt to separate domestic prices from foreign price per gate, although this data surely must be available to him from Quickturn. His analysis also uses a price per gate figure that appears to blend domestic and foreign prices, even though Meta competes in foreign markets but not in domestic markets. 3. No Support For Assumptions of Number of Gates Sold In the Future. Mr. Folsom appears simply to assume a number of gates sold in the future at various assumed prices. He provides no support, analysis, or explanation for why it is reasonable to 22 make these assumptions. There is no discussion of changes in Quickturn's products that have occurred or that will occur. There is no discussion of how a change in the market or market prices could affect the number of gates sold. Indeed, there is so little explanation or analysis, there is no way to assess the reasonableness of his analysis or assumptions. He does not provide any reason to believe that his conclusions are reasonable. 4. No Analysis Of Potential Causes of Price Per Gate Decline. Without any substantial analysis, Mr. Folsom assumes that 100% of the decline in his benchmark pricing is attributable to competition from Mentor. This simplistic assumption is not reasonable. It is elementary economics that any decline in prices can be caused by a multitude of factors in our economy, including the demand for the products, the income and resources of clients, the capabilities of the products, marketing approaches, the availability and pricing of substitute products, changes in the national and global economies, individual negotiations, the collapse of demand for ASICs (which has crippled semiconductor equipment manufacturers such as Applied Materials), the rapid and continual decline in component prices (see, for example, the Form 10-K's of Quickturn's supplier Xilinx), currency fluctuations, increased component performance, and any other number of factors that dramatically affect the price of computer equipment. Assuming that Mentor's entering and exiting the hardware emulation market is the only factor affecting pricing is completely unreasonable and insupportable. Mr. Folsom completely misunderstands the notion of monopoly pricing. Monopolists do not charge any price (e.g. $.83 per gate) -- by definition, they charge a profit- maximizing price. A monopolist's inability to charge any price while holding the quantity demanded steady is not a reflection of past players in the market, it is the inevitable result of the downward sloping demand curve facing a monopolist. For example, if there was only one multinational oil 23 company, that monopolist would rationally charge a profit-maximizing price, which would imply a profit-maximizing quantity sold. If it charged a higher or lower price, there would be shifts in quantity demanded as more or fewer people walked, road bicycles, or gave up driving altogether and, of course, profit would be reduced because the new price would not be the profit-maximizing price. There is no support or analysis for Mr. Folsom's assumption that Quickturn, as the monopolist Mr. Folsom apparently claims it is, is unable to raise prices to a profit-maximizing level now that Mentor is out of the market. A monopolist can charge a profit-maximizing price. When a monopolist raises prices to a profit maximizing level, some customers will forego the product, i.e., the quantity sold may decline, but profits will increase to the maximum level. Once Mentor was out of the market, it could have had no causal affect on Quickturn's pricing or profits. 5. No Analysis Of Relationship Between Decline In Price Per Gate And Loss Of Profit. Mr. Folsom's price erosion theory does not address at all the critical item of inquiry: profit. He appears to confuse price per gate with profit by assuming that any difference in charges on a price per gate basis is 100% profit to Quickturn. He presents no justification for this assumption which, on its face, is implausible, since it assumes that Quickturn is now irrationally charging a nonprofit-maximizing price. Assuming Quickturn's prices are profit-maximizing, however, if Quickturn were to raise prices to the level suggested by Mr. Folsom, economic theory would predict reduced quantity sold and lower profits because the percentage increase in profit per unit would be more than offset by the percentage decrease in quantity sold. 6. Complete Failure To Analyze Future Price Erosion. 24 Mr. Folsom presents a single paragraph positing $42,909,900 (discounted to $28,440,000) in future price erosion. Without any real analysis, he takes his insupportable past price erosion theory (discussed above) and extrapolates it out for five years. This is apparently based on two assumptions: (a) that Quickturn cannot charge a profit-maximizing price in any future years because Mentor was once in the market; and (b) that the "benchmark" price of emulation systems will continue to decline after Mentor has left the market, and somehow will be attributable to Mentor. He does not attempt to justify these assumptions and indeed, they appear wholly unjustifiable. Mr. Folsom's report does not represent a serious attempt to examine the future emulation market. He does not project demand, costs of sales, product substitution, other sources of competition, product changes, market saturation, or any of the multitude of effects on the market for the next five years. D. Deficiencies In The Reasonable Royalty Analysis. Mr. Folsom's analysis here suffers from many flaws. The single biggest flaw is that he does not use the "willing licensor/willing licensee" standard. Instead, he specifically posits that Quickturn would be an unwilling licensor. He provides no analysis at all of what Mentor might be willing to pay, or could pay. This is not reasonable and is contrary to accepted reasonable royalty analyses. For example, a license fee that is more than the gross margin that the licensee could achieve selling the product would surely be one that a licensor would be willing to receive, but if the licensee could not pay it, the royalty, by definition would not be reasonable (because there would be no willing licensee). The reasonable royalty figure must contemplate that the licensee will have a realistic potential of making a profit after paying the license fee. Mr. Folsom never 25 addresses this. Instead, he looks at all the reasons Quickturn would not want to license the patents and then arrives at a license rate that would discourage or prohibit a licensee from licensing the patents. V. A REALISTIC ASSESSMENT OF DAMAGES TOTALS NO MORE THAN $ 550,000. A. Reasonable Royalty Is the Appropriate Measure For Four Of The Five Emulator Sales. As discussed earlier in this report, four of the five customers who purchased Mentor emulator equipment have declared that they would not have purchased Quickturn systems had Mentor's product not been available. (The evidence is not yet in regarding the fifth customer, National Semiconductor.) Because Quickturn would not have made the sales, Mr. Folsom cannot measure alleged damages by lost profits. Rather, the appropriate measure to employ is to determine what reasonable royalty a willing licensee would have paid a willing licensor to obtain the right to sell that product. My analysis leads me to conclude that a reasonable royalty rate would be 7.8% of the sales price of the design verification equipment. In determining what royalty would be reasonable, on sales that are defined as sales the licensor would not make, the most important factor is the operating margin of the licensee for design verification products. A licensee will not pay a royalty rate that is so high that it prevents the licensee from making a profit on the product. On the other hand, a hypothetical willing licensor would like to obtain a royalty as high as possible, but recognizes that without a license agreement, it would get nothing. The reasonable royalty arising from negotiations between the two parties lies somewhere between 0% and the licensee's operating margin, depending on the relative strengths of the parties positions. ("Operating margin" is the profit earned by the company after manufacturing and operating costs are subtracted from total revenue.) 26 It is my understanding that Mentor did not make a profit on its few sales of emulation equipment in the United States. Because Mentor's profit margin was so low, Mentor would have been unable and unwilling to pay a substantial royalty payment for its use of the technology. The portion of my analysis below uses this state of affairs as a working assumption. I also performed an analysis based on Quickturn's operating margin as a proxy for what Mentor's profits might have been had they been in the U.S. market. The sale of emulation equipment was not profitable to Quickturn from 1988 through 1993. Its first year of earning any profits from emulation equipment was 1994 and in that year, its operating margin was only approximately 6.2%. In 1995, Quickturn's operating margin was only 14.3%. In 1996, Quickturn's operating margin was only 15.6%. Any licensing negotiations between Quickturn and Mentor would have to have occurred in approximately 1995, near the commencement of infringement. In my opinion, based on the facts of this case, it is reasonable to conclude that the appropriate royalty in this case is 7.8%, the midpoint between 0% and Mentor's margin (approximated by Quickturn's margin). Applying a 7.8% reasonable royalty rate to the amounts of the four sales (using Quickturn's project sales numbers), lead to a total royalties as follows:
- ---------------------------------------------------------------------------------------------------------------- Customer Sale Amount Royalty Rate Total Royalty - ---------------------------------------------------------------------------------------------------------------- Radix $REDACTED 7.8% $REDACTED - ---------------------------------------------------------------------------------------------------------------- Motorola $REDACTED 7.8% $REDACTED - ---------------------------------------------------------------------------------------------------------------- UB Networks $REDACTED 7.8% $REDACTED - ---------------------------------------------------------------------------------------------------------------- Bull HN $REDACTED 7.8% $REDACTED - ----------------------------------------------------------------------------------------------------------------
27 - ---------------------------------------------------------------------------------------------------------------- TOTAL $4,454,000 7.8% $347,412 - ----------------------------------------------------------------------------------------------------------------
At this point, I should note that I could change the assumptions with respect to Mentor's profits and still obtain a total damages figure that is relatively low. For example, if I assumed that Mentor's operating margin was 40%, one could assume a reasonable royalty rate of 20%. Under these assumptions, the total damages for these four equipment sales would be only $890,800. As I have discussed, Quickturn should have data available indicating whether or not service and maintenance sales to the four customers above were made by Quickturn. They certainly were not made by Mentor, since Mentor was enjoined. In that situation, Quickturn would be entitled to no damages from Mentor. Of course, if those service and maintenance sales were made by Quickturn, it again would have no damages. It is possible that these customers performed their own service and maintenance, or that none was required. Mr. Folsom presents no data or reasonable assumptions to support any more detailed analysis of these alleged damages. B. Lost Profits May Be An Appropriate Measure For The Lost Sale To National Semiconductor. The only design verification product sale by Mentor that is potentially suitable for a lost profits analysis is Mentor's $590,952 sale to National Semiconductor, since on all other sales, the customers have declared that they would not have purchased a Quickturn system in any event. In calculating Quickturn's potential lost profits on that sale, one would apply Quickturn's incremental margin to the gross value of that sale. 28 I have reviewed the 10-K and annual reports of Quickturn during the relevant time period to assess its incremental profit rate, had it -- rather than Mentor -- made the sales to National Semiconductor. The proper incremental profit rate includes all costs that vary with the sales and production on an additional unit. In accounting terms, the incremental profit rate includes all manufacturing costs(1) that vary with the production of an additional unit and all operating costs(2) that vary with sale of an additional unit. Mr. Folsom uses gross margin(3) which only considers the manufacturing costs of producing an additional unit for his lost profits calculation. He does not consider increases in operating costs as the result of additional sales. Hence, Mr. Folsom does not use an incremental profit rate for his lost profits calculation. Mr. Folsom assumes that Quickturn's operating costs are fixed. A quick review of Quickturn's 10-K shows that this is not the case, operating costs clearly change as Quickturn's sales change, making some portion of Quickturn's operating expenses variable. I have performed a regression analysis on Quickturn's variable and fixed costs during the time period of 1989 through 1996. (I chose this time period because that was the data available at the time.) The results of my analysis are summarized in Exhibit T. I conclude that the appropriate incremental profit that Quickturn would have earned on a sale to National Semiconductor in 1996 is 34%. Therefore, any lost profits to Quickturn with respect to the National Semiconductor device would be 34% of $590,952, or approximately $200,924. - -------- (1) Manufacturing costs include raw material costs, direct labor costs, depreciation, and direct overhead. These costs are commonly referred to as Cost of Goods Sold. (2) Operating costs include marketing costs, selling costs, commissions, administrative costs, engineering costs, and research and development costs. (3) Gross Margin is defined as Total Revenue less Costs of Goods Sold (COGS) 29 Please note that the deposition of National Semiconductor has not yet occurred, and so, no conclusion can be drawn concerning whether or not lost profits or reasonable royalty is the appropriate measure of damages. C. There Is No Evidence To Support Any Other Form Of Damages. In this report and my previous report, I have discussed the various types of damages potentially available for an infringement of Quickturn's patents. For the Mentor sales where the evidence indicates that Quickturn would not have made the sale, a reasonable royalty is the appropriate damages measure. As discussed above, I have concluded that applying a reasonable royalty to the appropriate sales yields potential damages of approximately $347,416 (or at the outside, $890,800). For the Mentor sale where Quickturn might have made the sale, I have conservatively assumed that Quickturn would be entitled to its lost profits, which yields potential damages of approximately $200,000. No other categories of damages are appropriate in this case. I conclude that the damages to which Quickturn could be entitled to as a result of infringement of its patents by Mentor is not more than $548,336, and at the very most, $1,091,724. Dated: October 22, 1998 --------------------------- Blaine F. Nye, Ph.D 30 -----END PRIVACY-ENHANCED MESSAGE-----