Morgan Stanley: Coherent earnings preview: Optical communications demand outstrips supply, while six-inch expansion is unlikely to catalyze gross margin gains in the near term

Demand is strong, so why is Morgan Stanley cautious about an earnings catalyst?

Morgan Stanley believes industry demand continues to exceed supply, supporting optical communications growth and pricing from 2027 to 2028. Substrate supplier AXTI says indium phosphide demand exceeds supply, customers are requesting allocations of 2 to 3 times current levels, and lead times are lengthening.
However, the bank expects no meaningful improvement in Coherent's yields and is therefore more neutral on whether the report will be a major positive catalyst. The company will report its fiscal first-quarter 2027 results after the US market closes on 4 November 2026.

Morgan Stanley believes buy-side revenue expectations for the first quarter of fiscal 2027 are about 2.38 billion dollars, above consensus of about 2.31 billion dollars. Buy-side expectations for non-GAAP earnings per share are 2.12 dollars, versus consensus of about 1.98 dollars.
Margin expectations are also high: The buy side expects a non-GAAP gross margin of about 40.8% and an operating margin of about 23.4%, above consensus of 40.6% and 22.9%, respectively.
For second-fiscal-quarter revenue guidance, Morgan Stanley expects 2.6 billion to 2.65 billion dollars, with the degree of outperformance versus expectations returning to normal from the prior quarter's guidance. The bank expects gross margin to improve by only about 20 basis points quarter over quarter.

Morgan Stanley lowered its expectations for a near-term gross margin boost from six-inch substrate capacity expansion. The low initial production efficiency and gradual ramp described by AXTI leave the bank uncertain about when and to what extent benefits will emerge.
Manufacturing efficiency, yield improvements and operating leverage could still drive margins higher. As optical communications capacity continues to expand, the key question for the earnings report is whether the company can sustain quarter-over-quarter gross margin improvement and explain how it will progress toward its long-term 42% target.

Morgan Stanley believes certification of high-power lasers for co-packaged optics (CPO) could be a positive catalyst. The company previously suggested certification could occur in the fourth quarter of 2026.
The bank maintained its Equal-weight rating and lowered its price target from 375 dollars to 325 dollars. The cut reflects a reduction in the valuation multiple from about 28 times to about 25 times, while its fiscal 2028 earnings-per-share forecast remains unchanged at about 13 dollars.
Morgan Stanley believes AI exposure and capacity-driven earnings growth still support a valuation premium, but reaching the price target requires more evidence of gross margin improvement and high-power laser certification. Slower capacity execution, continued EML supply constraints and a broad adjustment in AI valuations are the main risks.