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Mentor Graphics Announces Third Quarter Results; Reaffirms 2005 and 2006 Guidance

WILSONVILLE, Ore., October 20, 2005 - Mentor Graphics Corporation (Nasdaq: MENT) today announced record revenue for a third quarter of $164.8 million. Earnings were break-even on a GAAP basis, and $0.04 on a non-GAAP basis. Bookings increased to the highest level ever for a third quarter, and were up about 15% on both a year-on-year and a sequential basis.

"The expected Calibre rebound resulted in a strong booking quarter for Mentor. Bookings for our Design-to-Silicon family of tools were up about 50% sequentially and nearly double the third quarter of 2004," said Walden C. Rhines, CEO and chairman of Mentor Graphics. "Calibre usage continues to expand. For the third quarter, average dollar value of Calibre family bookings was up 60% versus the third quarter of 2004."

During the quarter, the company introduced enhancements to its wire harness product line, as well as launching its new full automotive design flow. The automotive products, including the Volcano product line, acquired in the second quarter of 2005, performed well in the quarter. Volcano won its first order from a major Chinese auto manufacturer. In addition, more than 40 customers purchased Mentor's advanced verification solution, Questa, which was launched in the second quarter of 2005.

"We saw positive signs of growth in demand from customers in the quarter. Four of our top ten transactions were renewals, and these deals grew in both absolute dollars and units," said Gregory K. Hinckley, president of Mentor Graphics. "Three years ago when these deals were signed, the market looked bleak and customer demand was down. As these deals are coming up for renewal, we believe our customers' businesses are in much better shape and demand is up. However, while the third quarter booking trend is positive compared to the prior year, total year-to-date bookings still lag the first nine months of 2004 due to first half weakness."

Revenue by region was 35% Americas, 35% Europe, 15% Japan and 15% Pacific Rim. By product line, revenue was 30% Design-to-Silicon, 30% scalable verification, 25% integrated system design and 15% new and emerging products.

Term bookings were 55% of total, perpetual was 35%, and subscription was 10%. Top ten accounts were 45% of total bookings, unchanged from the third quarter of 2004.

GAAP Results
On a GAAP basis, net income was $0.2 million for the third quarter of 2005, or $0.00 per share, compared to a net loss of $5.7 million, or ($0.08) per share for the same period in 2004.

Net loss on a GAAP basis for the nine months ended September 30, 2005 was $11.1 million, or ($0.14) per share, compared to a net loss of $36.4 million, or ($0.51) per share for the same period in 2004.

Non-GAAP Results
On a non-GAAP basis, net income was $3.4 million for the third quarter of 2005, or $0.04 per share, compared to net income of $3.0 million, or $0.04 per share for the same period in 2004.

Non-GAAP net loss for the nine months ended September 30, 2005 was $4.0 million, or ($0.05) per share as compared to net income of $18.0 million, or $0.24 per share for the same period in 2004.

2005 and 2006 Guidance
Mentor reaffirms its previous full year 2005 and 2006 guidance.

For 2005, Mentor expects revenue of approximately $700 million, GAAP earnings per share of $0.08 and non-GAAP earnings per share of approximately $0.40, all within previously guided ranges.

For the fourth quarter, Mentor expects revenue of approximately $216 million, GAAP earnings per share of $0.22 and non-GAAP earnings per share of $0.42.

For 2006, Mentor continues to expect revenue of approximately $755 million, GAAP earnings per share of $0.30 and non-GAAP earnings per share of approximately $0.50, representing, respectively, 8%, 275% and 25% growth from 2005. Mentor is not providing guidance per quarter for 2006 at this time.

For the fourth quarter non-GAAP earnings per share estimate, the dilutive impact from Mentor's convertible debt of approximately ($0.02) has been included. For all other earnings per share guidance, the convertible debt is anti-dilutive, and therefore was excluded from the calculations.

Discussion of Non-GAAP Financial Measures
Mentor Graphics management evaluates and makes operating decisions using various performance measures. In addition to our GAAP results, we also consider adjusted net income (loss), which we refer to as non-GAAP net income (loss). This measure is generally based on the revenues of our product, maintenance and services business operations and the costs of those operations, such as cost of revenue, research and development, sales and marketing and general and administrative expenses, that management considers in evaluating our ongoing core operating performance. Non-GAAP net income (loss) consists of net income (loss) excluding amortization of intangible assets, merger and acquisition charges, special charges and charges and gains which management does not consider reflective of our core operating business. Intangible assets consist primarily of purchased technology, backlog, trade names, customer relationships, employment agreements and stock options issued in connection with acquisitions. Merger and acquisition charges represent in-process research and development charges related to products in development that had not reached technological feasibility at the time of acquisition. Special charges consist of post-acquisition restructuring costs including severance and benefits, excess facilities and asset-related charges, and also include strategic reallocations or reductions of personnel resources. In addition, for purposes of comparability across other periods and against other companies in our industry, non-GAAP net income (loss) is adjusted by the amount of additional taxes or tax benefit that the company would accrue using a normalized effective tax rate applied to the non-GAAP results. In addition, during the nine months ended September 30, 2005, a $4.75 million purchase of technology that had not yet reached technological feasibility, a $957 thousand gain on the sale of a building and a $469 thousand gain on investment earnout income were excluded as management does not consider these transactions a part of its core operating performance. During the nine months ended September 30, 2004, investment earnout and holdback income of $745 thousand were also excluded.

Non-GAAP net income (loss) is a supplemental measure of our performance that is not required by, or presented in accordance with, GAAP. Moreover, it should not be considered as an alternative to net income, operating income or any other performance measure derived in accordance with GAAP, or as an alternative to cash flow from operating activities or as a measure of our liquidity. We present non-GAAP net income (loss) because we consider it an important supplemental measure of our performance.

Management excludes from its non-GAAP net income (loss) certain recurring items to facilitate its review of the comparability of the company's core operating performance on a period to period basis because such items are not related to the company's on going core operating performance as viewed by management. Management uses this view of its operating performance for purposes of comparison with its business plan and individual operating budgets and allocation of resources. Additionally, when evaluating potential acquisitions, management excludes the items described above from its consideration of target performance and valuation. More specifically management adjusts for the excluded items for the following reasons:

  • Amortization charges for our intangible assets are inconsistent in amount and frequency and are significantly impacted by the timing and magnitude of the company's acquisition transactions. We therefore consider our operating results without these charges when evaluating our core performance. Generally, the most significant impact to the company's net income (loss) is in the first twelve months following the acquisition.

  • Special charges are primarily severance related and are due to the company's reallocation or reduction of personnel resources driven by modifications of business strategy or business emphasis and by assimilation of acquired businesses. These costs are originated based on the particular facts and circumstances of business decisions and can vary in size. Special charges also include excess facility and asset-related restructuring charges. These charges are not specifically included in the company's annual operating plan and related budget due to the rapidly changing technology and competitive environment in our industry. We therefore exclude them when evaluating our managers' performance internally.

  • Merger and acquisition charges are in- process R&D charges, which are largely disregarded as acquisition decisions are made and which often result in charges that vary significantly in size and amount. Management excludes these charges when evaluating the impact of an acquisition transaction and our ongoing performance.

  • Income tax expense (benefit) is adjusted by the amount of additional tax expense or benefit that we would accrue if we used non-GAAP results instead of GAAP results in the calculation of our tax liability, taking into consideration the company's long-term tax structure. We use a normalized effective tax rate of 17%, which reflects the weighted average tax rate applicable under the various tax jurisdictions in which the company operates assuming current year forecasted geographic business mix. This rate is subject to change as the geographic business mix and statutory tax rates and their effect on the weighted average tax rate differ over time. Our GAAP tax rate for the nine months ended September 30, 2005 is 52% and assumes a pre-tax profit for the year overall resulting in a tax benefit in our 2005 nine month GAAP results. This tax rate is substantially impacted by minor changes in forecasted earnings as pre-tax income for the year is currently projected to be near break-even, which exacerbates the effect of certain mandatory payments in some jurisdictions on our overall expected tax rate. Our adjustment for tax related items in 2005 applies this normalized rate to our non-GAAP pre-tax loss, and thereby reduces the unusually large benefit for taxes reflected in our GAAP results. Our adjustment for tax-related items in 2004 primarily reflects the elimination of the additional tax charge associated with a one-time intercompany tax dividend of $120 million, in addition to the tax impact of other previously described non-GAAP adjustments.

Non-GAAP net income (loss) also facilitates comparison with other companies in our industry, which use similar financial measures to supplement their GAAP results. However, non-GAAP net income (loss) has limitations as an analytical tool, and you should not consider this measure in isolation or as a substitute for analysis of our results as reported under GAAP. In the future the company expects to continue to incur expenses similar to the non-GAAP adjustments described above and exclusion of these items in our non-GAAP presentation should not be construed as an inference that these costs are unusual, infrequent or non-recurring. Some of the limitations in relying on non-GAAP net income (loss) are:

  • Amortization of intangibles, though not directly affecting our current cash position, represent the loss in value as the technology in our industry evolves, is advanced or is replaced over time. The expense associated with this loss in value is not included in the non-GAAP net income (loss) presentation and therefore does not reflect the full economic effect of the ongoing cost of maintaining our current technological position in our competitive industry, which is addressed through our research and development program.

  • The company regularly engages in acquisition and assimilation activities as part of its ongoing business and therefore we will continue to experience special charges and merger and acquisition charges on a regular basis. These costs also directly impact available funds of the company.

  • The company's income tax expense (benefit) will be ultimately based on its GAAP taxable income and actual tax rates in effect, which may differ significantly from the 17% rate assumed in our non-GAAP presentation.

  • Other companies, including other companies in our industry, may calculate non-GAAP net income (loss) differently than we do, limiting its usefulness as a comparative measure.

About Mentor Graphics
Mentor Graphics Corporation (Nasdaq: MENT) is a world leader in electronic hardware and software design solutions, providing products, consulting services and award-winning support for the world's most successful electronics and semiconductor companies. Established in 1981, the company reported revenues over the last 12 months of about $700 million and employs approximately 3,950 people worldwide. Corporate headquarters are located at 8005 S.W. Boeckman Road, Wilsonville, Oregon 97070-7777. World Wide Web site: http://www.mentor.com/.

Mentor Graphics, Calibre and Catapult C are registered trademarks and Questa and Scalable Verification are trademarks of Mentor Graphics Corporation.

Statements in this press release regarding the Company's guidance for future periods constitute "forward-looking" statements based on current expectations within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. Such forward-looking statements involve known and unknown risks, uncertainties and other factors that may cause the actual results, performance or achievements of the Company or industry results to be materially different from any results, performance or achievements expressed or implied by such forward-looking statements. Such factors include, among others, the following: (i) the Company's ability to successfully offer products and services that compete in the highly competitive EDA industry including the risk that the Company's technology, products or inventory become obsolete; (ii) reductions in spending on EDA tools by the Company's customers due to cyclical downturns or initiatives to increase profitability, (iii) discounting of products and services by competitors, which could force the company to lower its prices or offer other more favorable terms to customers (iv) changes in accounting or reporting rules or interpretations, limitations on repatriation of earnings, licensing and intellectual property rights protection; (v) changes in tax laws, regulations or enforcement practices where the Company does business; (vi) effects of the increasing volatility of foreign currency fluctuations on the Company's business and operating results; (vii) effects of unanticipated shifts in product mix on gross margin and unanticipated shifts in geographic mix on the overall tax rate, (viii) effects of customer seasonal purchasing patterns and the timing of significant orders may negatively or positively impact the Company's quarterly results of operations, (ix) the Company's ability to successfully integrate and manage its acquisitions, all as may be discussed in more detail under the heading "Factors That May Affect Future Results and Financial Condition" in the Company's most recent Form 10-K or Form 10-Q. Given these uncertainties, prospective investors are cautioned not to place undue reliance on such forward-looking statements. In addition, statements regarding guidance do not reflect potential impacts of mergers or acquisitions that have not been announced or closed as of the time the statements are made. Mentor Graphics disclaims any obligation to update any such factors or to publicly announce the results of any revisions to any of the forward-looking statements to reflect future events or developments.

MENTOR GRAPHICS CORPORATION
CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except earnings per share data - Unaudited)

Three Months Ended
September 30,
Nine Months Ended
September 30,

2005

2004

2005

2004

Revenues:

System and software

$ 91,492

$ 89,933

$ 264,427

$ 282,545

Service and support

73,317

72,027

219,552

213,462

Total revenues

164,809

161,960

483,979

496,007

Cost of revenues:

System and software

3,166

2,615

12,729

11,800

Service and support

19,596

20,320

59,843

59,494

Amortization of purchased technology

3,076

2,672

8,489

7,642

Total cost of revenues

25,838

25,607

81,061

78,936

Gross margin

138,971

136,353

402,918

417,071

Operating expenses:

Research and development

51,563

50,990

159,066

147,695

Marketing and selling

64,728

63,304

197,627

191,055

General and administration

19,883

18,120

57,343

55,430

Amortization of intangible assets

1,059

916

3,153

2,488

Special charges

(48)

507

2,529

4,370

Merger and acquisition related charges

-

7,290

750

7,650

Total operating expenses

137,185

141,127

420,468

408,688

Operating income (loss)

1,786

(4,774)

(17,550)

8,383

Other income, net

4,144

2,479

10,601

5,699

Interest expense

(5,461)

(4,755)

(16,130)

(13,781)

Income (loss) before income taxes

469

(7,050)

(23,079)

301

Income tax expense (benefit)

310

(1,304)

(12,009)

36,665

Net income (loss)

$ 159

$ (5,746)

$ (11,070)

$ (36,364)

Net income (loss) per share:

Basic

$ -

$ (0.08)

$ (0.14)

$ (0.51)

Diluted

$ -

$ (0.08)

$ (0.14)

$ (0.51)

Weighted average number of

shares outstanding:

Basic

79,135

73,213

78,440

71,045

Diluted

80,077

73,213

78,440

71,045

MENTOR GRAPHICS CORPORATION
RECONCILIATION OF GAAP TO NON-GAAP CONSOLIDATED
STATEMENTS OF OPERATIONS

(In thousands, except earnings per share data-Unaudited)

Three Months Ended September 30, 2005

GAAP

Adjustments

Non-GAAP

Revenues:

System and software

$ 91,492

$ -

$ 91,492

Service and support

73,317

-

73,317

Total revenues

164,809

-

164,809

Cost of revenues:

System and software

3,166

-

3,166

Service and support

19,596

-

19,596

Amortization of purchased technology

3,076

(3,076)

(1)

-

Total cost of revenues

25,838

(3,076)

22,762

Gross margin

138,971

3,076

142,047

Gross margin percentage

84.3%

86.2%

Operating expenses:

Research and development

51,563

-

51,563

Marketing and selling

64,728

-

64,728

General and administration

19,883

-

19,883

Amortization of intangible assets

1,059

(1,059)

(2)

-

Special charges

(48)

48

(3)

-

Total operating expenses

137,185

(1,011)

136,174

Operating income

1,786

4,087

5,873

Other income, net

4,144

(469)

(4)

3,675

Interest expense

(5,461)

-

(5,461)

Income before income taxes

469

3,618

9,591

4,087

Income tax expense

310

385

(5)

695

Net income

$ 159

$ 3,233

$ 3,392

Net income per share:

Basic

$ -

$ 0.04

Diluted

$ -

$ 0.04

Weighted average number of

shares outstanding:

Basic

79,135

79,135

Diluted

80,077

80,077

(1) Amortization of purchased technology acquired in 16 separate acquisition transactions, three of which were completed in the last twelve months. Purchased technology is amortized over two to five years.
(2) Amortization of other identified intangible assets including tradenames, employment agreements, customer relationships and deferred compensation acquired in eight separate acquisition transactions, three of which were completed in the last twelve months. Other identified intangible assets are amortized over two to five years.
(3) Special charges consist of a $550 reversal of previously recorded non-cancellable lease payments related to a facility in North America due to an increase in the expected sublease income substantially offset by costs of $415 incurred for employee rebalances. These rebalance costs included severance benefits, notice pay and outplacement services. In addition, $87 represents other costs incurred to restructure the organization other than employee rebalances and excess leased facility costs.
(4) Investment earnout payment received related to a sale of stock in 2003.
(5) Non-GAAP income tax expense adjustment is based upon the assumption of a normalized effective rate of 17% on non-GAAP income (loss) before income taxes.

MENTOR GRAPHICS CORPORATION
RECONCILIATION OF GAAP TO NON-GAAP
CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands, except earnings per share data-Unaudited)

Three Months Ended September 30, 2004

GAAP

Adjustments

Non-GAAP

Revenues:

System and software

$ 89,933

$ -

$ 89,933

Service and support

72,027

-

72,027

Total revenues

161,960

-

161,960

Cost of revenues:

System and software

2,615

-

2,615

Service and support

20,320

-

20,320

Amortization of purchased technology

2,672

(2,672)

(1)

-

Total cost of revenues

25,607

(2,672)

22,935

Gross margin

136,353

2,672

139,025

Gross margin percentage

84.2%

85.8%

Operating expenses:

Research and development

50,990

-

50,990

Marketing and selling

63,304

-

63,304

General and administration

18,120

-

18,120

Amortization of intangible assets

916

(916)

(2)

-

Special charges

507

(507)

(3)

-

Merger and acquisition related charges

7,290

(7,290)

(4)

-

Total operating expenses

141,127

(8,713)

132,414

Operating income (loss)

(4,774)

11,385

6,611

Other income, net

2,479

(745)

(5)

1,734

Interest expense

(4,755)

-

(4,755)

Income (loss) before income taxes

(7,050)

10,640

9,591

3,590

Income tax expense (benefit)

(1,304)

1,914

(6)

610

Net income (loss)

$ (5,746)

$ 8,726

$ 2,980

Net income (loss) per share:

Basic

$ (0.08)

$ 0.04

Diluted

$ (0.08)

$ 0.04

Weighted average number of

shares outstanding:

Basic

73,213

73,213

Diluted

73,213

75,048

(1) Amortization of purchased technology acquired in twelve separate acquisition transactions, five of which were completed in the last twelve months. Purchased technology is amortized over two to five years.
(2) Amortization of other identified intangible assets including tradenames, employment agreements, customer relationships and deferred compensation acquired in seven separate acquisition transactions, three of which were completed in the last twelve months. Other identified intangible assets are amortized over two to five years.
(3) Special charges primarily consist of $534 in costs incurred for employee rebalances, which included severance benefits, notice pay and outplacement services, partially offset by a $27 reversal of previously recorded non-cancellable lease payments related to a facility due to an increase in the estimated expected sublease income.
(4) Merger and acquisition related charges consist of an in-process R&D charge related to the acquisitions of 0-In and Palmchip.
(5) Investment earnout and holdback payments received related to a sale of stock in 2003.
(6) Non-GAAP income tax expense adjustment is based upon the assumption of a normalized effective rate of 17% on non-GAAP income (loss) before income taxes.

MENTOR GRAPHICS CORPORATION
RECONCILIATION OF GAAP TO NON-GAAP CONSOLIDATED
STATEMENTS OF OPERATIONS

(In thousands, except earnings per share data-Unaudited)

Nine Months Ended September 30, 2005

GAAP

Adjustments

Non-GAAP

Revenues:

System and software

$ 264,427

$ -

$ 264,427

Service and support

219,552

-

219,552

Total revenues

483,979

-

483,979

Cost of revenues:

System and software

12,729

-

12,729

Service and support

59,843

-

59,843

Amortization of purchased technology

8,489

(8,489)

(1)

-

Total cost of revenues

81,061

(8,489)

72,572

Gross margin

402,918

8,489

411,407

Gross margin percentage

83.3%

85.0%

Operating expenses:

Research and development

159,066

(4,750)

(2)

154,316

Marketing and selling

197,627

-

197,627

General and administration

57,343

-

57,343

Amortization of intangible assets

3,153

(3,153)

(3)

-

Special charges

2,529

(2,529)

(4)

-

Merger and acquisition related charges

750

(750)

(5)

-

Total operating expenses

420,468

(11,182)

409,286

Operating income (loss)

(17,550)

19,671

2,121

Other income, net

10,601

(1,426)

(6)

9,175

Interest expense

(16,130)

-

(16,130)

Loss before income taxes

(23,079)

18,245

(4,834)

Income tax expense (benefit)

(12,009)

11,187

(7)

(822)

Net loss

$ (11,070)

$ 7,058

$ (4,012)

Net loss per share:

Basic

$ (0.14)

$ (0.05)

Diluted

$ (0.14)

$ (0.05)

Weighted average number of

shares outstanding:

Basic

78,440

78,440

Diluted

78,440

78,440

(1) Amortization of purchased technology acquired in 16 separate acquisition transactions, three of which were completed in the last twelve months. Purchased technology is amortized over two to five years.
(2) A charge of $4,750 for a purchase of technology that had not reached technological feasibility. This technology will be the basis for a new offering in the Calibre product family which is expected to be introduced in 2006.
(3) Amortization of other identified intangible assets including tradenames, employment agreements, customer relationships and deferred compensation acquired in eight separate acquisition transactions, three of which were completed in the last twelve months. Other identified intangible assets are amortized over two to five years.
(4) Special charges consist of (i) $2,763 of costs incurred for employee rebalances, which included severance benefits, notice pay and outplacement services, (ii) a $550 reversal of previously recorded non-cancellable lease payments related to a facility in North America due to an increase in the expected sublease income, (iii) a $91 charge for the abandonment of excess leased facility space, and (iv) $225 in other costs incurred to restructure the organization other than employee rebalances and excess leased facility costs.
(5) Merger and acquisition related charges consist of in-process R&D charges related to the acquisitions of Volcano Communications Technologies AB and Aptix Corporation.
(6) Investment earnout payment received related to a sale of stock in 2003 and the gain on sale of a building in the first quarter of 2005.
(7) Non-GAAP income tax expense adjustment is based upon the assumption of a normalized effective rate of 17% on non-GAAP income (loss) before income taxes.
MENTOR GRAPHICS CORPORATION
RECONCILIATION OF GAAP TO NON-GAAP CONSOLIDATED
STATEMENTS OF OPERATIONS

(In thousands, except earnings per share data-Unaudited)

Nine Months Ended September 30, 2004

GAAP

Adjustments

Non-GAAP

Revenues:

System and software

$ 282,545

$ -

$ 282,545

Service and support

213,462

-

213,462

Total revenues

496,007

-

496,007

Cost of revenues:

System and software

11,800

-

11,800

Service and support

59,494

-

59,494

Amortization of purchased technology

7,642

(7,642)

(1)

-

Total cost of revenues

78,936

(7,642)

71,294

Gross margin

417,071

7,642

424,713

Gross margin percentage

84.1%

85.6%

Operating expenses:

Research and development

147,695

-

147,695

Marketing and selling

191,055

-

191,055

General and administration

55,430

-

55,430

Amortization of intangible assets

2,488

(2,488)

(2)

-

Special charges

4,370

(4,370)

(3)

-

Merger and acquisition related charges

7,650

(7,650)

(4)

-

Total operating expenses

408,688

(14,508)

394,180

Operating income

8,383

22,150

30,533

Other income, net

5,699

(745)

(5)

4,954

Interest expense

(13,781)

-

(13,781)

Income before income taxes

301

21,405

21,706

Income tax expense (benefit)

36,665

(32,975)

(6)

3,690

Net income (loss)

$ (36,364)

$ 54,380

$ 18,016

Net income (loss) per share:

Basic

$ (0.51)

$ 0.24

Diluted

$ (0.51)

$ 0.24

Weighted average number of

shares outstanding:

Basic

71,045

71,045

Diluted

71,045

74,181

(1) Amortization of purchased technology acquired in 12 separate acquisition transactions, five of which were completed in the last twelve months. Purchased technology is amortized over two to five years.
(2) Amortization of other identified intangible assets including tradenames, employment agreements, customer relationships and deferred compensation acquired in seven separate acquisition transactions, three of which were completed in the last twelve months. Other identified intangible assets are amortized over two to five years.
(3) Special charges consist of (i) $1,998 in adjustments primarily related to previously recorded non-cancellable lease payments related to facilities in North America and Europe as a result of a reduction in the estimated expected sublease income, (ii) $1,997 in costs incurred for employee rebalances, which included severance benefits, notice pay and outplacement services, and (iii) $375 which represent other costs incurred to restructure the organization other than employee rebalances and excess leased facility costs.
(4) Merger and acquisition related charges consist of an in-process R&D charge related to the acquisitions of 0-In and Palmchip and Project Technology Inc.
(5) Investment earnout and holdback payments received related to a sale of stock in 2003.
(6) Non-GAAP income tax expense adjustment is based upon the assumption of a normalized effective rate of 17% on non-GAAP income (loss) before income taxes.

MENTOR GRAPHICS CORPORATION
RECONCILIATION OF GAAP TO NON-GAAP GUIDANCE
DILUTED NET EARNINGS PER SHARE

(In thousands, except earnings per share data-Unaudited)

The following table reconciles the specific items excluded from GAAP in the calculation of non-GAAP earnings per share for the periods shown below:

Q4 2005

2005

2006

Diluted GAAP net earnings per share

$ 0.22

$ 0.08

$ 0.30

Amortization of purchased technology (1)

0.05

0.15

0.15

Amortization of intangible assets (2)

0.01

0.05

0.05

Special charges (3)

-

0.04

-

Merger and acquisition related charges (4)

-

0.01

-

Purchased technology (5)

-

0.06

-

Other income and expense (6)

-

(0.01)

-

Income tax adjustment (7)

0.16

0.02

-

Dilutive effect of convertible debt (8)

(0.02)

-

-

Diluted non-GAAP net earnings per share

$ 0.42

$ 0.40

$ 0.50

(1) Excludes amortization of purchased technology acquired in 16 separate acquisition transactions. Purchased technology is amortized over two to five years. The guidance for Q4 2005 and 2006 do not assume any new acquisition transactions.

(2) Excludes amortization of other identified intangible assets including tradenames, employment agreements, customer relationships and deferred compensation acquired in ten separate acquisition transactions. Other identified intangible assets are amortized over two to five years. The guidance for Q4 2005 and 2006 do not assume any new acquisition transactions.

(3) Excludes special charges consisting primarily of costs incurred for employee rebalances, which included severance benefits, notice pay and outplacement services, partially offset by a reversal of previously recorded non-cancelable lease payments related to a facility in North America due to an increase in the estimated expected sublease income. The guidance for Q4 2005 and 2006 do not assume any new special charges.

(4) Excludes merger and acquisition related charges consisting of in-process R&D charges related to the acquisitions of Volcano Communications Technologies AB and Aptix Corporation. The guidance for Q4 2005 and 2006 do not assume any new merger and acquisition related charges.

(5) Excludes a charge for the purchase of technology that had not reached technological feasibility. This technology will be the basis for a new offering in the Calibre product family which is expected to be introduced in 2006. GAAP and non-GAAP results for 2006 will not include these costs. The guidance for Q4 2005 and 2006 do not assume any new purchases of technology.

(6) Excludes investment earnout income related to a sale of stock in 2003. In addition, the 2005 guidance includes the gain on the sale of a building which occurred in Q1 2005. The guidance for Q4 2005 and 2006 assumes no additional investment earnout income or gain or losses outside the normal course of business.

(7) Non-GAAP income tax expense adjustment is based upon the assumption of a normalized effective rate of 17% on non-GAAP income (loss) before income taxes.

(8) For purposes of calculating earnings per share, fourth quarter non-GAAP earnings are expected to reach a level which would require the inclusion of the dilutive effect of shares attributable to convertible debt in shares assumed outstanding, partly offset by an add back to income for interest expense and other debt related costs.

MENTOR GRAPHICS CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS

(In thousands - Unaudited)

As of September 30, 2005 As of December 31, 2004

Assets

Current assets:

Cash, cash equivalents and short-term investments

$ 102,098

$ 94,287

Trade accounts receivable, net

79,145

116,858

Term receivables, short-term

129,367

125,832

Prepaid expenses and other

28,842

28,457

Deferred income taxes

9,424

10,298

Total current assets

348,876

375,732

Property, plant and equipment, net

79,567

91,224

Term receivables, long-term

117,408

139,146

Intangibles, net

383,169

374,144

Other assets

37,141

41,661

Total assets

$ 966,161

$ 1,021,907

Liabilities and Stockholders' Equity

Current liabilities:

Short-term borrowings

$ 7,210

$ 9,632

Accounts payable

13,312

18,037

Income taxes payable

18,845

35,299

Accrued payroll and related liabilities

54,442

81,709

Accrued liabilities

34,484

37,098

Deferred revenue

106,599

103,336

Total current liabilities

234,892

285,111

Long-term notes payable

282,577

283,983

Other long-term liabilities

16,705

19,098

Total liabilities

534,174

588,192

Stockholders' equity:

Common stock

381,359

363,455

Deferred compensation

-

(508)

Retained earnings

28,647

39,717

Accumulated other comprehensive income

21,981

31,051

Total stockholders' equity

431,987

433,715

Total liabilities and stockholders' equity

$ 966,161

$ 1,021,907

MENTOR GRAPHICS CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands - Unaudited)

Three Months Ended September 30,
Nine Months Ended September 30,

2005

2004

2005

2004

Operating Cash Flows:

Net income (loss)

$ 159

$ (5,746)

$ (11,070)

$ (36,364)

Depreciation and amortization

11,043

11,465

33,128

32,278

Other adjustments to reconcile operating cash

(967)

1,185

(2,434)

34,110

Changes in working capital

681

14,463

5,712

7,137

Net cash provided by operating activities

10,916

21,367

25,336

37,161

Net cash used in investing activities

(26,116)

(27,060)

(46,131)

(50,289)

Net cash provided by financing activities

7,662

5,931

13,836

20,015

Effect of exchange rate changes on cash and cash equivalents

755

4

(1,936)

(49)

Net change in cash and cash equivalents

(6,783)

242

(8,895)

6,838

Cash and cash equivalents at beginning of period

65,804

74,929

67,916

68,333

Cash and cash equivalents at end of period, excluding short-term investments

$ 59,021

$ 75,171

$ 59,021

$ 75,171



MENTOR GRAPHICS CORPORATION
SUPPLEMENTAL FINANCIAL AND OTHER INFORMATION
(In thousands, except for days sales outstanding -Unaudited)


Three Months Ended September 30,
Nine Months Ended
September 30,

2005

2004

2005

2004

Geographic Revenue:

Americas

$ 61,702

$ 68,653

$ 203,901

$ 216,575

37.4%

42.4%

42.1%

43.7%

Europe

$ 54,583

$ 47,637

$ 140,616

$ 134,757

33.1%

29.4%

29.1%

27.2%

Japan

$ 22,989

$ 31,337

$ 79,074

$ 98,490

14.0%

19.4%

16.3%

19.8%

Pac Rim

$ 25,535

$ 14,333

$ 60,388

$ 46,185

Other Data:

15.5%

8.8%

12.5%

9.3%

Capital expenditures

$ 4,682

$ 7,887

$ 17,259

$ 16,833

Days sales outstanding

114

117

-

-

For more information, please contact:

Ryerson Schwark
Public and Investor Relations,
Director
503.685.1462
ry_schwark@mentor.com

Dennis Weldon
Investor Relations and Business Development,
Director
503.685.1462
dennis_weldon@mentor.com