AAOI FY2026 Q2 Earnings Call Transcript
Date: 2026-08-06
Source: Financial Modeling Prep

Operator: Good afternoon. I will be your conference operator. At this time, I would like to welcome everyone to Applied Optoelectronics Second Quarter 26 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. And then also please note that this call is being recorded. I would now like to turn the conference over to Lindsay Grant Savarese, Investor Relations for AOI. Ms. Savarese, you may begin.
Lindsay Grant Savarese: Thank you. I am Lindsay Savarese, investor relations for Applied Optoelectronics. I am pleased to welcome you to AOI's second quarter 2026 financial results conference call. After the market closed today, AOI issued a press release announcing its second quarter 2026 financial results and provided its outlook for the third quarter of 2026. The release is also available on the company's website at ao-inc.com. This call is being recorded and webcast live. A link to the recording can be found on the Investor Relations section of the AOI website and will be archived for 1 year. Joining us on today's call is Dr. Thompson Lin, AOI's founder, chairman, and CEO, Dr. Stefan J. Murry, AOI's chief financial officer and chief strategy officer. Thompson will give an overview of AOI's Q2 results, and Stefan will provide financial details and the outlook for the third quarter of 2026. A question-and-answer session will follow our prepared remarks. Before we begin, I would like to remind you to review AOI's safe harbor statement. On today's call, management will make forward looking statements. These forward looking statements involve risks and uncertainties. As well as assumptions and current expectations. Which could cause the company's actual results levels of activity, performance or achievements of the company or its industry to differ materially from those expressed or implied in such forward looking statements. In some cases, you can identify forward looking statements by terminology, such as believes, forecasts, anticipates, estimates, suggests, intends, predicts, expects, plans, may, should, could, would, will, potential, or thinks. Or by the negative of those terms or other similar expressions that convey uncertainty of future events or outcomes. The company has based these forward looking statements on its current expectations, assumptions, estimates and projections. While the company believes these expectations, assumptions, estimates and projections are reasonable, Such forward looking statements are only predictions. And involve known and unknown risks and uncertainties. Many of which are beyond the company's control. Forward looking statements also include statements regarding management's beliefs and expectations. Related to the expansion of the reach of its product into new markets and customer responses to its innovation. As well as statements regarding the company's outlook for the third quarter of 2026 and for the full year of 2026. Except as required by law, AOI assumes no obligation to update these forward looking statements for any reason after the date of this earnings call. To conform these statements to actual results, or to changes in the company's expectations. More information about other risks that may impact the company's business are set forth in the Risk Factors section of AOI's reports on file with the SEC. Including the company's annual report on Forms 10-Ks and quarterly reports on Form 10-Q. Also, all financial results, and other financial measures discussed today are on a non GAAP basis unless specifically noted otherwise. Non GAAP financial measures are not intended to be considered in isolation as a substitute for results prepared in accordance with GAAP. A reconciliation between our GAAP and non GAAP measures as well as a discussion of why we present non GAAP financial measures is included in the company's earnings press release. That is available on our website. Before moving to the financial results I would like to note that AOI management is attending Rosenblatt's 6th annual technology summit virtually on August 18. This discussion will be webcast live, and a link to the webcast will be available on the Relations section of the AOI website. Lastly, I would like to note that the date of AOI's third quarter 2026 earnings call currently scheduled for 11/5/2026, Now I would like to turn the call over to Dr. Thompson Lin. AOI's founder, chairman, and CEO. Thompson?
Chih-Hsiang Lin: Thank you, Lindsay, and thank you for joining our call today. We are pleased to deliver solid second quarter results in line with or better than our expectations. Driven by robust demand in both our data center and CATV business. We generated our 5th consecutive quarter of record revenue and we achieved an important milestone as we return to non-GAAP profitability in the quarter. Demand to support next generation AI infrastructure remains so robust that our near term revenue is bounded almost entirely by production capacity and key component availability. Because of this, we continue to anticipate steady sequential revenue growth this year and continue non GAAP profitability. During the second quarter, we delivered revenue of $191.9 million and non GAAP gross margin of 29.8%. In line with our expected guidance range and our non GAAP income per share of $0.06. Came in above our expectations. Importantly, during the quarter, we saw continued robust customer engagement around our 800G and 1.6T products, in line with our expectation, we saw a strong volume ramp of our 800G door product in Q2. Which more than doubled sequentially. Looking ahead, forecast demand continue to outpace our production capacity through mid 2027. We are working hard to add additional capacity to meet this demand. We continue to believe our 2026 revenue will be around $1.1 billion this year. With that, I will turn the call over to Stefan to review the details of our Q2 performance and outlook for Q3, Stefan.
Stefan J. Murry: Thank you, Tim. As Thompson mentioned, we are pleased to deliver solid second quarter results that were in line with or better than our expectations. We generated our 5th consecutive quarter of record revenue, and we achieved an important milestone as we returned to non GAAP profitability in the quarter. Our performance continues to be anchored by robust demand across both our data center and CATV businesses validating the power of our dual growth strategy and diversified revenue streams Demand to support next generation AI infrastructure remains so robust that our near term revenue is bounded almost entirely by our production capacity and key component availability. Because of this, we continue to anticipate steady sequential revenue growth and continued non GAAP profitability this year. As more capacity comes online. In Q2 we delivered revenue of $191.9 million which was in line with our guidance range of $180 million to $198 million We recorded non GAAP gross margin of 29.8% which was in line with our guidance range of 29% to 30%. And our non GAAP income per share of $0.06 was above our guidance range of a loss of $0.03 to earnings of $0.03. Notably, we continued to make progress on our key priorities in the second quarter, which included: 1, scaling our next generation data center products, including both our 400G and 800G solutions, by expanding our production capacity in a disciplined manner. 2, diversifying our revenue base. And 3, strengthening operational execution to improve our margins and position us for long term profitability. And that execution is directly translating into tangible business momentum. During Q2, we continued to see robust customer engagement around our 800G and 1.6T products, particularly as AI driven data center investments accelerate. In line with our expectations, we saw a strong volume ramp of our 800G products in the second quarter 800G revenue of $12.8 million or 11.9% of our total data center revenue increased more than 10x year over year and more than doubled sequentially in Q2. Looking ahead, expect revenue from our 800G products to grow by nearly 5x in the third quarter, and expect continued strong growth gated by our production capacity and component supply in the fourth quarter. During the quarter, in line with our expectations, we saw continued strength in our 400G business. 400G revenue of $48.4 million or 45% of our total data center revenue increased more than 4x year over year and 27.4% sequentially in the second quarter. In Q1 we announced that we received our first volume order for our 1.6T transceivers. From another 1 of our long term major hyperscale customers. We also announced that we had received 2 new volume orders from this customer for our 800G single mode transceivers. We began delivering these 800G orders in Q2 and we expect full qualification of our first 1.6T product by this customer within the next couple of weeks followed by shipments of 1.6T beginning later this quarter. We continue to expect that shipments of these orders will return this customer as a 10%+ customer for us in Q3. Looking ahead, forecast demand for 800G and 1.6T modules are projected to continue to exceed our production capacity through mid 27. We are working to add additional capacity and secure necessary key components to meet this demand. During Q2, we continued to make solid progress on our production capacity ramp. Particularly for our 800G and 1.6T products. Once complete, we continue to believe that we will have the largest AI focused data center transceiver production capacity in The United States. As a reminder, our US manufacturing footprint is anchored in Sugar Land, just outside Houston. Through a combination of real estate acquisition and leases, we have expanded our Texas manufacturing footprint significantly to over 1.6 million square feet in the greater Houston area, which are in various stages of development. During the quarter, we made further progress building out our 210 thousand-square-foot facility which is just a few hundred yards away from our headquarters. We continue to expect to begin initial production in this facility late in the third quarter. As a reminder, this facility will be entirely dedicated to the manufacturing of 800G and 1.6T transceivers. While this will not directly increase our indium phosphide wafer capacity, we plan to move the existing transceiver production from our current headquarters facility to this new building which will allow expansion of our indium phosphide capacity. The facilities in Pearland and Houston will be built out to expand our production capacity for 800G and 1.6T transceivers. We began construction on these facilities in Pearland recently, and we are proud to have received strong local support meet our manufacturing needs. We are excited to expand our presence in an area with such a strong workforce excellent infrastructure, and room to scale our operations and continue to expect these facilities to come online in early 2027. Currently, our total manufacturing capacity is approaching 200 thousand units per month, up from nearly 100 thousand units per month of 800G and 1.6T capacity at the end of Q1, Looking ahead, we continue to expect by the end of this year that we will be capable of producing over 650 thousand 800G and 1.6T products per month. By the end of 2027, we continue to expect to grow our production capacity to be able to produce over 930 thousand of 800G and 1.6T products per month with over half of that output coming from Texas. These investments reflect measured scaling of our footprint while aligning with strong and growing customer demand and qualification progress across both 800G and 1.6T products. it is important to note, as a reminder, our 800G and 1.6T products can be manufactured on the same production line with the same process. While our 1.6T products will require a different final testing, our 800G automated manufacturing lines have been developed with an architecture that will allow us to support future high speed products as customer demand materializes and evolves over time. Our automated manufacturing lines are engineered to scale efficiently from 800G to 1.6T with minimal incremental investment. This structural flexibility provides a powerful dual advantage. It accelerates our time to market for AI customers, while expanding our long term margin potential. Looking ahead, we continue to believe that our 800G products will drive our near term data center ramp. Followed by our 1.6T products, which are on track to begin to contribute to our overall revenue later this year, with a bigger ramp beginning in 2027. At OFC, we also discussed our plans to increase our manufacturing capacity for our ELS, or External Laser Source Pluggable Form Factor. that is for co-packaged optics, or CPO. This utilizes the ultra narrow line width high power laser that we announced late last year. We have very limited production of these modules now, but we anticipate ramping production later this year and into 2027 ultimately culminating in about 400 thousand pieces per month. in 2028. We believe our in house laser capabilities continue to be a strategic advantage for the company. As we have mentioned before, we have been manufacturing lasers internally for many years. This has allowed us to avoid some of the shortages that have affected others in the industry. As we continue to expand our footprint in Texas, our in house laser manufacturing positions us well to support both near term customer needs and longer term growth. We believe that in the future, CPO will continue to drive increased demand for high power lasers and we plan to continue to expand our laser manufacturing capacity in Texas in order to accommodate these future growth drivers. Notably, our expansion planning has been underway for several years. We have already secured orders for long lead equipment and are partnering closely with vendors on delivery. Crucially, our reliance on proprietary in house developed machinery heavily insulates us from the broader equipment supply bottlenecks in the industry. There are exceptions to this, of course, but overall, we feel that our in house developed technologies give us an edge in ensuring reliable supply of production equipment. During the quarter, direct tariffs had a $1.9 million impact on our income statement. With the overturn of the IEPA tariffs, we have received a refund of approximately $5.7 million We are still evaluating the potential impact of the new tariffs recently announced in The US, but at the present time, we do not expect any material change from tariffs as a result of this announcement. Turning to our second quarter results. Our total revenue was a record $192 million which increased 86% year over year and increased 27% sequentially off a strong Q1 and was in line with our guidance range of $180 million to $198 million During the second quarter, 56% of revenue was from data center products. 42% was from CATV product, and the remaining 2% was from FTTH, telecom, and other. In our data center business, Q2 revenue of $107.7 million increased 140.4% year over year and 32.3% sequentially. Sales of our 100G products increased 31.3% year over year, while sales for our 400G products increased more than 4x year over year, and sales of our 800G products increased more than 10x year over year. In the second quarter, 38.3% of data center revenue was from 100G products, 45% was from 200 gs and 400G transceiver products, 11.9% was from 800G transceiver products. And 4.4% from 10G and 40G transceiver products. We currently expect to see a decline in 100G business in Q3 due to 1 of our customers' inability to source sufficient 100G switches to meet their initial forecast. We believe that the shortage of switches is related to memory shortage and expect that 100 g weakness will persist until the memory supply recovers. Even with this temporary weakness in 100 gs, we continue to believe that by mid 2027, 100G and 400 g revenue will be approximately $90 million. 800G revenue will be approximately $217 million. And 1.6T revenue will be approximately $164 million monthly. In total, this is about $471 million per month of data center transceiver revenue. In our CATV business, we saw record CATV revenue of $80.6 million which was up 43.8% year over year and 20.6% sequentially and was slightly above our expectations of $75 million and $80 million. Similar to the last couple of quarters, we shipped a significant quantity of 1.8 GHz amplifiers to our largest CATV customer in Q2. We also continued to see momentum with the newer set MSO customers, that we have talked about on our prior few earnings calls. We continue to see a broad based appeal of our amplifiers and Quantum Link software across our potential customer base. During the quarter, we announced that Mediacom selected AOI as primary vendor to accelerate its DOCSIS 4.0 network upgrades. Driving multi operator commercial adoption of AOI's next generation 1.8 GHz quantum bandwidth smart amplifiers and software solutions. We are excited to partner with Mediacom to deliver more reliable service while lowering operational costs. Looking ahead to Q3, we expect our CATV revenue will be between $100 million and $110 million Looking further ahead, we continue to expect to generate over $325 million annually in CATV. While the vast majority of our CATV revenue expectations for this year are related to our amplifiers, we do anticipate that we will generate some revenue from our software solutions this year. For the second quarter, our top 10 customers represented 99% of revenue compared to 98% of revenue in Q2 of last year. We had 3 greater-than-10% customers, 1 in the CATV market which contributed 42% of total revenue, and 2 in the data center market, which contributed 26%, 24% of total revenue, respectively. In Q2, we generated non GAAP gross margin of 29.8%, which was in line with our guidance range of 29% to 30% and compared to 29.2% in Q1 2026. and 30.4% in Q2 2025. As we discussed on our last quarterly earnings call, while we do expect continued gradual improvement in gross margins, we continue to expect that the revenue mix in data center in the short term will be a slight headwind. We remain committed to our long term objective of returning non GAAP gross margins to around 40% and believe that this goal is achievable as our mix shifts toward higher margin products and as we capture additional efficiencies across our operation. The revenue figures presented above are net of a contra revenue amount due to the accounting for warrants provided to customers. As a reminder, this amounts to approximately 2.5% of revenue derived from certain customers to whom AOI has provided warrants, in exchange for future revenue. In Q2, the amount of this contra revenue was $1.2 million. Total non GAAP operating expenses in the second quarter were $67.6 million, or 35% of revenue. Which compared to $42.1 million, or 41% of revenue in Q2 of prior year. Our OpEx this quarter was higher than expected due mainly to higher shipping costs associated with the rapid ramp in CATV revenue in the quarter combined with higher than expected R&D spending, as we have been asked by customers to qualify new 800G at 1.6T products in the quarter. We believe that R&D spending will continue to be elevated however we do not expect additional shipping costs to recur in Q3 or subsequent quarters. Looking ahead, we expect non GAAP operating expenses to be in the range of $70 million to $80 million per quarter. Non GAAP operating loss in the second quarter was $10.3 million compared to an operating loss of $10.8 million in Q2 of the prior year. GAAP net loss for Q2 was $22.8 million or a loss of $0.28 per basic share. Compared with a GAAP net loss of $9.1 million or a loss of $0.16 per basic share. In Q2 of the prior year. On a non GAAP basis, net income for Q2 was $5.5 million or $0.06 per diluted share, which was above our guidance range of a loss of $2.5 million to income of $2.8 million or non GAAP income per share in the range of a loss of $0.03 to earnings of $0.03 This was largely due to foreign tax benefits and modest government subsidy income, which we expect to continue in subsequent quarters. This compares to a non GAAP net loss of $8.8 million, or $0.06 per share in Q2 of the prior year. The weighted average fully diluted shares outstanding used for computing the earnings per share in Q2 were 88.1 million. Turning now to the balance sheet. We ended the second quarter with $508.8 million in total cash equivalents short term investments, and restricted cash. This compares with $449.4 million at the end of the first quarter of 26. We ended the second quarter with total debt, excluding convertible debt, of $92.8 million, which compared to $77 million at the end of last quarter. As of June 30, we had $278.8 million in inventory which compared to $206.2 million at the end of Q1. The increase in inventory is primarily due to increased inventory of raw materials for near term production as we ramp capacity. As we disclosed in May, we initiated a new ATM offering. To date, we have raised $538.8 million net commissions and fees under this new program. We intend to use these proceeds to continue to make investments in the business including new equipment and machinery for production and research and development use. We made a total of $565.5 million in capital investments in the second quarter. including $280 million in prepayments on equipment we have on order. These expenditures are mainly for manufacturing capacity expansion for our 400G, 800G, and 1.6T transceiver products. We expect CapEx intensity in the second half of the year will be higher than in the first half as we prepare for increased 400G, 800G, and 1.6T data center production. We expect to finance these investments through a combination of cash on hand, cash generated from operations, and some equity sales, along with additional debt. Looking ahead, we believe we are uniquely positioned to capture 2 distinct growth engines: The rapid AI driven demand acceleration in our data center business, alongside a robust runway in our CATV business Our current capital investments are designed to scale our advanced manufacturing footprint structurally lower our long term production costs, and enable our path towards sustained profitability. Moving now to our Q3 outlook. We expect Q3 revenue to be between $255 million and $290 million representing 130% year over year growth at the midpoint. We expect non GAAP gross margin to be in the range of 29% to 30.5%. Non GAAP net income is expected to be in the range of $10.1 million to $24 million and non GAAP earnings per share between $0.11 and $0.26 per share using a weighted average diluted share count of approximately 92.8 million shares. Looking more broadly at 2026, we believe our 2026 revenue will be around $1.1 billion As we have discussed previously, this revenue level is limited by our production capacity and supply chain. Not market demand. Which we believe is much larger. With that, I will turn it back over to the operator for the Q&A session. Operator?
Operator: Thank you. We will now begin the question-and-answer session. If you are using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then 2. And our first question today will come from George Notter with Wolfe Research. Please go ahead.
George Notter: Hi, guys. Thanks very much. I wanted to ask about all the stuff that is been in the news of late around the transceivers and the potential for US ban on those transceivers being shipped into The US. Could you just talk about your perspective on that? What are you seeing, hearing? How might that affect AOI? Does that change anything in terms of your capacity planning? Does it change anything with your conversations with customers? Any insights would be great. Thanks.
Stefan J. Murry: it is a little early to say. That report that came out a couple of days ago was, you know, obviously, somewhat speculative in terms of the fact that this ban or whatever it ultimately turns out to be is not, you know, in place yet, and the details are not really out there. I think AOI's, US manufacturing presence has been a very important, probably the most important element of our appeal to our customers. And, clearly, that announcement you know, heightens that appeal. As we said in our prepared remarks earlier, we believe that we are and expect to remain Certainly anything that the largest manufacturer domestically of optical transceivers for AI. you know, would heighten interest in that is good for us. But I it is hard to point to any specific, you know, ramifications at this point since it is still kind of early.
Chih-Hsiang Lin: Within the this is really not news at all. I said, I am just kind of discussion for quite a while. So this as I mentioned, we have been working very close with 3 customer for a long term agreement. Especially know, AOI making our own laser, and we are maybe the only 1 company commit to really invest heavily in US or US manufacturer not only later including the transceiver. So with some early I would say, early feedback. I would say customer are more aggressive. Will give us much more share. Okay, especially, for US manufacturer. Yeah. But how serious or how big it is, we will not because, as I said, right now, our capacity is complete book already. From now until Q2 next year. The best we can do is maybe we can more aggressive, adding more capacity, maybe from Q3 next year, especially for The I Would Say US manufacturer.
George Notter: Got it. Okay. And then just as a follow-up, I was just curious about the ramp in 800G. It looks like the growth in the business right now is coming from you know, 100, 200, and 400 just based on your comments about the mix of transceivers in the quarter. It seems like at this point, 800G has gotta be the driver on the growth in data center. And so I am kind of wondering, exactly where you guys are. You know, is all that tooling fully installed and ready? Are those laser datacom chips, you know, built and sitting on the shelf? Need to get qualifications on any of this? More you can tell us on the ramp and readiness would be great. Thanks.
Stefan J. Murry: No. I mean, as we said in our prepared remarks, look, our ability to deliver revenue in general and specifically when it comes to 800G products, is limited by our production capacity right now. So if we could produce more, we could ship more right now. To answer your question directly, no. Not all the manufacturing capacity that we have or expect to have is online at this point. In fact, we are gonna continue to add you know, more and more capacity, really, you know, most likely through next year, but certainly, you know, into next year. We have only begun, as we mentioned in our prepared remarks, we have 1.6 million square feet of manufacturing space here in Houston. A year ago at this time, we had about 65 thousand square feet. So clearly, all of that manufacturing space has not been built out. It does not have equipment in it yet. So there is tremendous room for expansion, and we plan to expand. However, over the next couple quarters, the first increment of that manufacturing does start to come online, which will increase our manufacturing capacity from roughly 200 thousand pieces a month, as we mentioned, earlier, about 650 thousand pieces a month by the end of the year. that is all 800G and 1.6. that is not and most of that is gonna be 800G. Given the demand that we are seeing. So that is all incremental new capacity that does not exist today. And then, you know, growing from there. So, no, there is significant room for expansion, and we are only kind of getting started on the 800G ramp now.
Chih-Hsiang Lin: But by the way, I think I want to emphasize 1 thing. Right now, the Q3, you can see compared to Q2. Average, you get to 140% growth. Okay. Something like that. Okay? 3.54 thousand% growth. But the growth is mainly from 800G. At the same time, in the screen, we already mentioned because of memory issue, for the switch. Okay? Actually, the 100G would decrease by $20 million to $25 million. Otherwise, it would be you know, the cost should be more than 50%, as I have mentioned. So but this is short term effect. We believe the 100 demand will come back to normal within a few months. Okay, either by end of this year or next year. Alright? And do not forget and we mentioned by June, July, the overall transceiver rate will increase from today's number to $471 million. Per month. there is huge growth. And our growth actually from 800G and 1.6T, and 100G will go down. And all this is because the additional capacity we are building not only in Asia, Most of the increased capacity will be in US. But even so, let me say that like, I keep emphasize. Lead is not good enough for customer demand. The cost demand is 20% to 40% higher. Alright? And, actually, we are getting discount demand from several customers almost every week, every month. Speed up our delivery schedule. And we are doing everything we get The other is working very close with our key supplier. Because, you know, as in the, like, DSP, TIA, Good news. They are making our laser. Other lasers because it is bothering them right now. For the transceiver business. But this is not the only 1. Okay? that is why we are working with very several key suppliers to increase the volume in the next few quarters to meet in our demand.
George Notter: Great. Thank you very much.
Operator: And our next question will come from Simon Matthew Leopold with Raymond James. Please go ahead.
Simon Leopold: I appreciate you have given us a lot of guidance commentary and some quick arithmetic suggests that in the fourth quarter, you are anticipating the combination of 800 gig and 1.6 T. Revenue in the neighborhood of $330 million I wanna make sure that I am thinking about this correctly. First, and then I have got a follow-up.
Stefan J. Murry: Yeah. that is about that is about right, directionally. Mhmm.
Simon Leopold: Great. And then I recall in the spring, that you were talking about the 1.6T ramp and having a commitment for $200 million through an order And I am trying to get a better sense of how to think about the timing of that particular project in that it sounds like it may start in the fourth quarter of this year, but maybe the majority of it is a 2027 event. How should we think about that $200 million order you would talked about for 1.6T in the past?
Stefan J. Murry: So actually, we will start deliveries on that probably very late in the third quarter. And then ramp into the fourth quarter. I think the bulk of it should get delivered in the fourth quarter. And then there may be, you know, there may be a tail into the first quarter. But the important part about that is that is just the first the beginning of what we expect to be significant orders from this customer for 1.6T for you know, for the foreseeable future. So I would not you know, get too wrapped up on that particular order. that is just the very beginning of it.
Simon Leopold: Great. And then I wanna ask a different China related question Apart from the potential regulatory issues, there is been we have been getting a lot of questions about, the suggestion that there will be new manufacturing of lasers coming out of China. And just trying to get a sense of how you are thinking about that potential and if that were to occur, if new Chinese manufacturing came online to make lasers, What could that possibly mean to your business? Thank you.
Chih-Hsiang Lin: Let me answer the question. Okay? I think the investor maybe for our estimate, how big this laser market is. Let me say that. Right now, for the CPO laser, okay, using the ESAP, it is a 300 milliwatt laser. Compared to the 70 milliwatts used in an 800G transceiver and 100 milliwatt used for the 1.6T transceiver. But people do not understand not only the power is made several times bigger. But the size okay. The size is about 6 times or even high or even more. but the yield is lower. So, overall, you are talking about to meet the demand just for the I would say the phase 1, the ESP is the only the 1.31 thousand nanometer, okay, for wavelengths. But I think the next generation ESP will be using d w d n. So let me because wave length is so tight, I think the yield loss would be easily, okay, 40 to 50%. Compared to 1.31 thousand. Okay? So that means to meet the demand for the CPO market, the operator market need to be 8x to 10x bigger. Compared to today. This 1 only AOI, domain and coedon, Brocam, everybody We invest huge money to meet the demand. in the next few years. Because for laser, from today by order of equipment, it will take minimum 21 months to 24 months. Start of medication in high volume. Okay? that is how long it take. It was the semiconductor process. due to the long lead time of me of the equipment. So I think it is yes. There will be some new supply in China We are not we are not surprised because that is what market need. But most of them, they are working maybe 70 milliwatts or very few can really do 100 milliwatts. But For a 300-milliwatt laser, especially the performance and spec, We do not see that. at least not in the next 2-3 years. Especially the demand is so big. Okay? Even the combined AOI, Rubellian, Coedon program altogether, it is still very tough to meet the customer demand in the next few years. And we are doing everything to speed up the process. To expand our capacity. So I think that for me, I think no effect at all because the demand is much bigger. Than the worldwide capacity, even including our company in Taiwan, China, or other countries. Like Japan.
Simon Leopold: Okay. Thank you for taking the questions.
Stefan J. Murry: Thanks, Simon.
Operator: Our next question will come from Ryan Boyer Koontz with Needham and Company. Please go ahead.
Ryan Koontz: Great, thanks. Maybe just following up on the question about laser supply, and thinking about your own constraints there. For indium phosphide, you know, how are you guys feeling about substrates and other raw materials that you need to ramp? And is that a current bottleneck for your products and, you know, which products are the most challenging for you to ramp at the moment?
Stefan J. Murry: No. I mean, as Thompson mentioned on our last earnings call, and then the situation has not changed. I mean, we have secured supply out into next year, so we are not currently limited by you know, substrate capacity and we have had a lot of, discussions with substrate suppliers you know, going back into last year and continuing even till very recently, we feel pretty good about the substrate supply situation. I would say it is incrementally better than it was, you know, last earnings call and prior to that. So things I think are getting somewhat better. But we are feeling you know, pretty good at least as far as we could see into the future for the substrate supply.
Chih-Hsiang Lin: Yeah. I think the especially right now, AOI, we just move into a 4-inch substrate while in manufacture. As I mentioned, we already had 2 suppliers in Europe, 2 suppliers in Japan, plus 3 suppliers in China, So right now, we are very aggressive to have some kind of partnership with 2 or 3 suppliers. Even maybe the possible I would say, joint venture Okay? Because as you can see, much the laser capacity AOI will increase in the next few year. it is let me say that. it is much, much more than our competitors. Okay? To, especially for the CPO laser market. So I would say right now, we are in our inventory. We are enough supply until end of next year but what we are looking for is the I would say, the volume we will need in, I would say, 2028 and 2029. that is why we are very careful and very aggressive to working with all the supplier for the expansion.
Ryan Koontz: Great. Really helpful. And then maybe following up on George's question earlier about 1.6 t. How are you feeling about you know, with your broad market traction with that product? Obviously, we are expecting a pretty big uptick in demand with Tomahawk 6 at the end of the year. Yeah. How are you feeling about your traction with other customers besides the 1 order you have in hand now?
Stefan J. Murry: No. I think we have pretty broad based interest among customers. I think as Thompson mentioned, and we have talked about pretty extensively, we are still in the process of adding capacity Until we have sufficient capacity, to service multiple customers, you know, we have to be careful about taking too many too many orders. So, you know, we are trying to balance the capacity additions against customer demand. As Thompson mentioned, the customer demand is a lot bigger than what we can provide, especially in the short term. As we get further out, then, you know, our capacity expands, and we have a little more breathing room, if you will, with respect to new customer orders. But we are trying to be, you know, careful in what we definitely do not wanna overpromise, you know, what we can actually deliver. So we are we are being appropriately, circumspect when we do that.
Chih-Hsiang Lin: And let me say we always say I said, as of today, I think AOI will be the 4th supplier qualified by 1 big hyperscale datacenter customer. For 1.6 terabit transceiver. And right now, I think that we will finish most of the qualification. Only the late stage, we should be I think it should be finished within maybe, I would say, 3 weeks. So we can start to deliver, I would say, by end of this quarter. And as you know, right now, have more than a $200 million order in hand. So I would say right now, our target is to finish all the order by sometime in Q2. How much we can deliver in Q4 is I would say, the yes. I think good news we have already At the same time, we are working very close. With our DSP and TIS supplier. But even so, we still believe we can deliver more than, I would say, $17 million in revenue in Q4 for 1.6T transceiver. For shortcut, for just 1 customer. So right now, we are doing everything to speed up. So I think 1 of the big concern in Q4 1 point 6 terabit transceiver is the material supply. I think our manufacturing capacity should be already, I would say, within the I would say, 2-3 weeks. But the OVA team is very big. Right now, it is an OVA. Based on the customer feedback. The volume they are talking about is more than 500 thousand transceivers. Per month by end of next year. So then you talk about how much money per month. I would say, $300 million to $350 million. Yeah. But as I said, we are working very closely with the customer based on their schedule. We do not wanna overpromise. And we do not want to be careful And quality is very important, especially muscle expansion in US. It takes time. But I just say the demand is so big, especially right now, not only the not only the, I would say, the over industry may so big because AI. The other factor, for sure, is, US manufacturer. that is very important factor for the customer. Okay?
Ryan Koontz: Yep. So much.
Operator: Our next question will come from Michael Edward Genovese with Rosenblatt. Please go ahead.
Michael Genovese: Great. Thanks so much. Guys, you know, the guide for the full year is on track, and the model for next year seems to be on track, but they are Has been a push out this year into Q4. So could you just give us a little bit more color on the challenges of ramping up capacity that were, like, different than what you expected 3 months ago and that, you know, clearly are going to keep getting better as we go forward. But what are some of these specific challenges where 800G for Instance, was not quite as big as you thought it would be in Q2?
Chih-Hsiang Lin: Right now, let me say this. Okay. As I mentioned, because the memory issues. Okay? So the Q3 I think we lose about 20 to $25 million. Of revenue for 100G single-mode transceiver. In Q4, I think based on your capacity, we should able to deliver, I would say, more than $500 million in revenue. Okay? So you can see how big our growth will be. it is, like, 60% of growth from Q3 to Q4. But right now, the big challenge, as I say, is the DSP and TIA. Okay? For 800G and 1.6T transceiver. And that is why we are working very close with the supply. Especially 1.6T I think the whole supply chain is very tight. But good news is that is that the supplier put is putting AOI in first priority. And it is a I think long term partnership So we have a very close discussion with all the key supplier almost every week. Or twice a week. Okay.
Michael Genovese: Perfect. that is very helpful.
Chih-Hsiang Lin: AOI is much better than other competitor. Because the other competitors, their number 1 issue is not the DSPs and lasers, and we do not have this problem. Okay? Because AOI is making our own lasers. And that is why the customer come to AOI. Especially with our aggressive expansion plans in the next few years. Now this is on top of, including the CPO, including ESFP, Right now, we already have. About 5 customer. They all come up some kind of very aggressive demand for the next 3-4 years. And that is why our CapEx is so big. Because I say, if I want if I promise any customer the laser, like Q3, Q4, 2028 I need to start to spend the money buy the equipment, buy the building, and. And that is that is that is the reason. Our CapEx is increased so fast.
Michael Genovese: Okay. Great. That was great color. Thank you so much. I guess, my next question would be, given that 1.6 will be a lot more in the mix in the fourth quarter, do we still expect to exit the year in the mid 30s of gross margin?
Chih-Hsiang Lin: The gross margin, for sure will be will still better. But because we needed to pay some extra tax fee, for some key supplier, I would say be I would say I do not know. 32-33%. The most important factor is how much is the 1.6T because it is a high Gross margin product. The more we deliver, for 1.6 feet, the higher the gross margin it will be. For sure, by Q3, Q4, next year, when we start to deliver The CPO laser or ESFP module to different customers. The gross margin will be even higher because the gross margin for this is about 55 to 65%. For ESFP, the gross margin should be more than 50%. But this is more like Q3 or Q4 of next year. But in the short term, the gross margin improvement for sure, the most important factor is the percentage of 1.6T transceiver. Because gross margin is very good. So that is why I say it will start to improve and will start ramping of 1.6T transceiver. in Q4, and especially Q1 of next year. As I said right now, even if the customer wants everything in Q4, but right now, what we can commit is maybe, I would say, $70 million to $80 million in Q4. Not because of capacity, because, I would say, material constraint. Q4 should be much better. Q1 next year should be much better. Okay. If it doubles, I would not be surprised, therefore, I wanna be surprised, therefore, Q1 revenue. Oh, not for over revenue. For 1.6T transceiver revenue. Q1 next year. will double Q4, Or more than double. Yeah. that is our target right now.
Michael Genovese: Okay. You know, final question for me to just kind of on what you said about CPO. You know, I do not think that all the investors you know, kind of know exactly that you are in the CPO market or know, necessarily have high expectations for you guys in CPO. So any kind of additional update in terms of you know, number of customers that you are talking to and status that you are at with that program I think would be helpful. And that is that is it for me. Thank you.
Chih-Hsiang Lin: Come on. AOI is a laser company since day 1. Okay? Maybe AOI in compared to other supplier in US AOI is a pure laser supplier since day 1 since 2 thousand. This is our it is our major technology, the core technology. We have been working very close with 1 at least 5 customers. If we talk about high-volume manufacturing, I would say more like next year. As you can see right now, we are adding a lot more CBD, EP and steppers, everything, in Houston. We even have a Fab 2. And the size of the current fab will increase, I would say, the overall capacity will increase by almost 300%. By Q3 next year. But that is not enough, so that is why we are building a cleanroom for the second phase In Houston area. The size will be about 4x of the current facility. Just give you some rough idea how aggressive is our expansion plan. But let me say, even so, it is not good enough for the customer. Demand in the next few years. So we are still working very hard to expand our laser, including the manufacture of ESFP module. Based on customer demand. Yeah.
Stefan J. Murry: Mike, can I just interject there? I mean, we have talked to several of the major CPO customers, they love our laser. We just cannot make enough of them to be to be involved in their current first generation deployments because there is just not enough capacity. We have to prioritize our ability to make lasers for our own transceivers first And then as we expand the fab, like Thompson mentioned, then we will have more capacity for the ELSFP for the CPO type laser. So it is has nothing to do with customer engagement. It has nothing to do with you know, performance of the laser or not having the design All those things are very good. In fact, I would argue our high-power, narrow-linewidth laser is the best in the industry, the best in the world now. But we just cannot make enough of it and still manufacture enough lasers for transceivers, which has to be the priority. So you know, again, it is all about same story as we had on the transceiver side of things. it is all about our ability to add capacity, and Thompson just outlined, you know, kind of our plans on that. On that.
Chih-Hsiang Lin: So I think the investor maybe can understand AI has been working on high power laser. I would say, 6-7 years ago for LIDAR. The linewidth, the mass spec, is even much higher than CPO laser. And that is why it is not tough for us to get into CPO laser market. So right now, I would say for 1.31 thousand-nanometer CPO lasers and ELSFPs, several customers have qualified AOI. But the focus, as I said, is a d w d m. And right now, this is what customer we want to focus on because it would be very challenging For DWDM CPO lasers, the CPO module, like we call ELSFP. I would believe only a few companies in US can do that. Because very high spec. A lot of challenges. Maybe some companies can do it, but I do not believe that year performance will be as good as, like, AOI or Lumentum. Okay? So I think that is very important and that is it. Additionally, is your capacity.
Michael Genovese: Let me sneak in 1 more quick question. I am sorry to interrupt, did you think how far away do you think the Chinese are from having 350-milliwatt lasers? And do you think they will ever have them or how many years away do you think they might be from having CPO lasers out of China?
Chih-Hsiang Lin: If you are talking about reasonable yield and no quality issue or performer issue, I would say easily at least 2-3 years or even longer.
Michael Genovese: I should let someone else ask a question. So thanks so much. That was great. Thompson and Stefan, thank you.
Stefan J. Murry: Alright. Thank you.
Operator: And this will conclude our question-and-answer session. I would like to turn the call back over to doctor Thompson Lin for any closing remarks.
Chih-Hsiang Lin: Okay. And thank you for joining us today. As always, we want to extend a thank you to our investors, customers, and employees for your continued support. It is an exciting time for our industry and for AOI. We continue to believe the fundamental drivers of long-term demand for our business remain robust, and we are in a position to drive value from our rich opportunity set. We look forward to seeing many of you at upcoming investor conference. Thank you.
Operator: The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your lines at this time.