Coherent Corp.

Greetings and welcome to the Coherent First Quarter Fiscal Year 2026 Earnings Call. It is now my pleasure to introduce your host, Mr. Paul Silverstein, Senior Vice President of Investor Relations for Coherent. Please go ahead.

Thank you, Operator, and good afternoon, everyone. With me today are Jim Anderson, Coherent CEO, and Sherry Luther, Coherent CFO. During today's call, we will provide a financial and business review of the first quarter of fiscal 2026 and the business outlook for the second quarter of fiscal 2026. Our earnings press release can be found in the investor relations section of our company website at coherent.com. I would like to remind everyone that during our conference call today, we may make projections or other forward-looking statements regarding future events or the future financial performance of the company. We wish to caution you that such statements or predictions based on information that is currently available and that actual results may differ materially. We refer you to the documents that the company files with the SEC, including our 10-Ks, 10-Qs, and 8-Ks. These documents contain and identify important risk factors that could cause the actual results to differ materially from those contained in our projections or forward-looking statements. This call includes and constitutes the company's official guidance for the second quarter of fiscal 2026. If at any time after this call we communicate any material changes to this guidance, we intend that such updates will be done using a public forum such as a press release or publicly announced conference call. Additionally, we will refer to both GAAP and non-GAAP financial measures during this call. By disclosing certain non-GAAP information, management intends to provide investors with additional information to permit further analysis of the company's performance and underlying trends. For historical periods, We've provided reconciliations of these non-GAAP financial measures to GAAP financial measures in our earnings release and investor presentation that can be found on the investor relations section of our website at coherent.com. Let me now turn the call over to our CEO, Jim Anderson.

Thank you, Paul, and thank you, everyone, for joining today's call. Coherent is the world's leading innovator and provider of photonic technology and solutions. Photonics is critical to growing applications in AI data center networks, communications, and a wide range of industrial applications. We're well positioned for long-term growth across all these applications, and especially in AI data centers, where we're experiencing unprecedented demand for our optical networking products. In particular, we expect continued strong sequential revenue growth throughout this fiscal year, given the record level of orders we are receiving from our customers and the continued expansion of our production capacity. In addition, we continue to streamline our portfolio and ensure that our investments are focused on the areas of greatest long-term growth and profitability for the company in order to drive sustained shareholder value creation. Turning to our Q1 operating results, revenue increased by 6% sequentially and 19% year-over-year on a pro forma basis, which excludes revenue from our recently divested aerospace and defense business a sale that enhanced our portfolio focus and accelerated deleveraging. Non-GAAP gross margin expanded by 70 basis points sequentially and 200 basis points year-over-year. The combination of revenue growth and gross margin expansion drove non-GAAP EPS growth of 16% sequentially and 73% year-over-year. I'll now provide some highlights from our two operating segments. We'll begin with our data center and communication segment, which is our largest and fastest growing business. Q1 revenue grew by 7% sequentially and by 26% year-over-year, driven by growth in both our data center and communications markets. In our data center business, Q1 revenue grew 4% sequentially and 23% year-over-year. Our data center growth in Q1 was constrained by the supply of indium phosphide lasers. However, we expect data center growth to accelerate to approximately 10% sequential growth in the current quarter, followed by strong sequential growth through the balance of this fiscal year, given very strong demand and improving supply. I'd like to provide some additional color on both the demand and supply picture within our data center business. First, we are experiencing an exceptionally strong level of demand. In our fiscal Q1, we received record bookings that represent a step function increase in already strong customer demand. We're seeing strong demand for both our 800 gig and 1.6T transceivers with broad adoption of our 800 gig transceivers and accelerated adoption of our 1.6T transceivers. A significant portion of the sequential growth we expect in the current quarter is driven by 1.6T adoption. As a reminder, earlier this year at OFC, we were the only company to demonstrate three different types of 1.6T transceivers based on three different types of laser sources, silicon photonics, EML, and VIXL. Our 1.6T transceivers based on silicon photonics and EMLs are ramping first, and we expect our 1.6T transceivers based on our 200 gig VIXLs to ramp next calendar year. We see strong demand for 1.6T transceivers across multiple customers and expect both 800 gig and 1.6T to grow significantly in calendar 2026. Our deep portfolio of optical networking technology combined with our vertical integration and diversified supply chain are key competitive advantages with our customers and uniquely positioned coherent within the industry. On the supply side, given the strong demand growth we are seeing, We are continuing to expand our production capacity for transceiver modules and the key optical components used in those modules. For example, one of the key constraints across the industry is indium phosphide laser capacity. Over the course of Q1, we saw improving EML supply, and we expect both internal and external EML supply to improve significantly in the current quarter and throughout the balance of this fiscal year. In particular, we continue to expand our internal Indium Phosphide production capacity. We are aggressively ramping six inch capacity because a six inch wafer compared to a three inch wafer will produce more than four times as many chips at less than half the cost. This will provide increasing benefit to our gross margin as we continue to ramp production. Our six inch Indium Phosphide line in Sherman, Texas, which is the world's first six inch Indium Phosphide production line, began production last quarter and continues to ramp well. I am very pleased to share that our initial six-inch indium phosphide production yields are actually higher than our current three-inch indium phosphide yields. This is an outstanding accomplishment by our production team and also a testament to the tremendous experience that we've gained over the past five years producing almost two billion Vixil devices on our six-inch gallium arsenide technology. Given the healthy yields we are seeing with 6-inch production, we began production of 6-inch indium phosphide at a second site in Jarfalla, Sweden. Ramping at two sites in parallel will significantly accelerate our production capacity ramp. Additionally, we are in production on three different types of key transceiver components on 6-inch indium phosphide, EMLs, CW lasers, and photodiodes. With a ramp of 6-inch production at two sites in parallel, We expect to roughly double our total internal production capacity of indium phosphide over the next year. We also expect to continue to supplement our internal indium phosphide capacity with sourcing from external suppliers. We expect our external supply of EMLs to increase sequentially this quarter and next calendar year through continued partnership with our key external suppliers. In addition to critical laser production capacity, we are also expanding transceiver module assembly capacity. While we continue to expand production at our existing site in Ipoh, Malaysia, we will now be expanding production capacity in parallel at a new transceiver production facility that we recently opened in Penang, Malaysia. In addition, we will be adding transceiver production capacity at our existing site in Vietnam, which already produces transceiver components. This additional production capacity allows us to continue to rapidly ramp module capacity to support the demand growth in front of us. I'd like to pivot to some technology developments that we expect to further benefit our data center business over the long term. We continue to make progress on LPO, LRO, CPO, and MPO related products and technologies with strong engagements across a wide range of customers. For example, we've shipped both LPO and LRO 800 gig and 1.6T transceivers to customers. Also in September, we announced that we have commenced sampling of our 400 milliwatt CW lasers designed for CPO and silicon photonics applications. We expect to address a broad range of CPO form factors for both scale out and scale up data center applications with this new product. We also continue to see significant customer engagement around our 200 gig VIXL based solutions for NPO applications. Multiple customer engagements on integrated optics applications reinforce our view that the incremental market opportunity for optical solutions in the scale up portion of the AI data center networks will be very compelling. And we believe Coherent is well positioned to address these applications using both CW and VIXL based solutions. We continue to expect to see initial CPO deployments in calendar 2026 with growth continuing in the following years while pluggable form factor continues to grow in the scale out portion of the network. Another area of new growth is our optical circuit switch platform, which continues to progress well with expanding customer engagement. We believe this product line adds over 2 billion of addressable market opportunity over the coming years. Both the breadth of customers and the range of applications are wider than our initial expectations. The underlying technology in our OCS system is a non-mechanical field-proven liquid crystal technology, which has been successfully deployed for many years in demanding telecom applications and has a significant competitive advantage over other solutions. To date, we've shipped systems to seven customers and expect that number to continue to expand this quarter. Shipments have included both 64 by 64 and 320 by 320 system sizes. Both revenue and backlog for OCS grew sequentially in our fiscal Q1, and we expect it to grow again in the current quarter. Our current backlog includes both 64 by 64 and 320 by 320 systems, with the majority of the backlog weighted toward the larger system size. Given the strong customer demand and backlog, we are aggressively ramping production for both small and large capacity systems, and we expect revenue to ramp throughout calendar 2026. Given the multiple growth vectors across pluggable transceivers, CPO, and OCS, we are very excited about the opportunities ahead of our data center business. Turning to our communications market, in Q1 revenue grew 11% sequentially and 55% year-over-year. Growth was driven by products for data center interconnect, but we also saw strong growth in traditional telecom applications. We expect our communications business to grow sequentially again in the current quarter and throughout the balance of this fiscal year. In hyperscale DCI, we continue to see strong growth in customer demand for our ZR, ZR+, DCI-focused products. Our product lineup, which includes 100 gig, 400 gig, and 800 gig ZR, ZR+, coherent transceivers, is growing quickly, and we expect these products to continue to ramp throughout the course of this fiscal year. We also continue to see steady recovery in our telecom business. In addition to market recovery, we've introduced multiple new industry leading telecom platforms for which we are seeing significant customer interest and expect strong future revenue contribution, such as our new award-winning multi-rail technology platform. This platform is a breakthrough solution that amplifies multiple fiber pairs while operating within the physical and electrical constraints of existing infrastructure. Customer engagement on this new platform is very strong, and we see this as one of many growth factors for our communications business in both the near and long term. Turning now to our industrial segment, revenue grew 2% quarter over quarter and 4% year over year on a pro forma basis, excluding revenue from the recently divested aerospace and defense business. While we maintain a cautious outlook on near-term demand, given the macroeconomic backdrop and ongoing tariff and regulatory uncertainty. We were pleased to see growth in our first fiscal quarter, and we expect the industrial business to be stable to slightly up sequentially in our current quarter on a pro forma basis. Within our industrial segment, there are several key growth areas. For example, we expect ongoing strong demand into state capital equipment driven by OLED screen adoption expanding to larger format devices like tablets and laptops. We also expect growth over the long term in our semi-cap equipment market, given the industry wide expansion in semiconductor production. Another promising growth opportunity that I'd like to highlight is our advanced materials for thermal management and cooling. Traditionally, these materials are used in a wide range of applications in our industrial markets. However, the rapid expansion of AI data centers has created a significant growth opportunity. We see potential widespread adoption of these materials to address the thermal and power challenges posed by ever larger AI data centers. For example, our proprietary Thermodyte material moves heat twice as effectively as copper, which is a tremendous advantage in data center cooling applications. We're engaged with multiple hyperscaler customers on this new emerging application of our materials technology. Lastly, I'd like to give an update on our portfolio optimization initiative. As a reminder, we are focused on streamlining our portfolio and concentrating our investments in the areas of greatest long-term growth and profitability. We are shifting investment from non-core areas and relining our footprint to drive better asset composition and utilization efficiency across the organization. We completed the sale of our aerospace and defense business at the beginning of September. The proceeds of the sale were used to pay down debt and the sale is immediately accretive to both gross margin and EPS. In addition, we recently announced the sale of our product division based in Munich, Germany that makes tools for materials processing and is part of our industrial segment. We made the decision to sell this product division because it was not aligned to our long-term strategic focus areas and it did not support our long-term financial goals. This transaction is expected to close in our fiscal Q3. The proceeds of this transaction will be used to reduce debt and the sale is expected to be immediately accretive to both gross margin and DPS. In addition to streamlining the product portfolio, we are also continuing to streamline our physical footprint. Since the beginning of our last fiscal year, roughly five quarters ago, we have sold or exited 23 sites and we plan to continue to streamline our footprint and exit additional underutilized or unnecessary sites over the coming quarters. While I'm pleased with the progress we've made streamlining our portfolio, we still have more work to do. I view portfolio optimization as an evergreen process and we will continue to reevaluate our asset portfolio to streamline and focus on the areas of greatest profit growth and ensure we are optimizing our return on invested capital. In summary, we delivered strong revenue and EPS growth in Q1 and are on track for strong sequential growth over the coming quarters. driven by exceptionally strong demand in our data center and communication segment, along with continued expansion in our production capacity. I want to thank the coherent team for all their hard work and dedication. I'll now turn the call over to our CFO, Sherry Luther.

Thank you, Jim. We are pleased with our first quarter 2026 results and execution. We continue to drive strong double-digit year-over-year revenue growth, gross margin improvement, and enhanced profitability. We significantly paid down our debt, reducing our interest expense, and further strengthening our balance sheet. At the end of the quarter, we successfully completed our debt refinancing, lowering our cost of capital and improving our financial flexibility. I will now provide a summary of our Q1 results. First quarter revenue was a record $1.58 billion, up 3% sequentially from the fourth quarter, and up 17% year-over-year, driven by growth in AI data center and communications demand. In our Q425 earnings call, we announced an agreement to sell our aerospace and defense business. As expected, this transaction closed in Q126. On a pro forma basis, excluding $33 million of aerospace and defense revenue for Q1, revenue increased 6% sequentially and 19% year-over-year. Our Q1 non-GAAP gross margin was 38.7%, a 70 basis point improvement compared to the prior quarter, and a 200 basis point improvement as compared to the year-ago quarter. I am especially pleased with the progress we have made on gross margin expansion, driven by the cost reduction and pricing optimization initiatives that we continue to focus on as we drive to our target model of greater than 42%. The sequential and year-over-year increases in gross margin were driven by cost reductions in product input costs, as well as yield improvements, primarily in our data center and communications segment. Pricing optimization contributed meaningfully in both the industrial segment and the data center and communications segment. First quarter non-GAAP operating expenses were $304 million compared to $307 million in the prior quarter and $278 million in the year-ago quarter. Operating expenses as a percentage of revenue declined to 19.2% as compared to 20.1% in the prior quarter and 20.6% in the year-ago quarter. The reduction in operating expenses as a percentage of revenue is due to the continued focus on driving efficiencies and greater leverage in SG&A. We have made good progress on these initiatives with the benefits expected to kick in at various points in time. The year-over-year increases in R&D were primarily in the data center and communications segment, as we continued to focus on investments with the highest ROI that drive the future growth of the company. The sequential decline in R&D was driven by the timing of these investments, which can fluctuate on a quarterly basis. Our first quarter non-GAAP operating margin was 19.5% compared to 18% in the prior quarter and 16.1% in the year-ago quarter. First quarter non-GAAP earnings per diluted share was $1.16 compared to $1 in the prior quarter and 67 cents in the year-ago quarter. From a capital allocation perspective, we paid down $400 million in debt, significantly reducing our debt leverage ratio to 1.7 times, down from 2.4 times in the year-ago quarter. As mentioned in our Q425 earnings call, we used the proceeds from the sale of the aerospace and defense business to make this debt payment. We also completed the refinancing of our debt at the end of the first quarter, reducing our interest rate by 60 basis points and doubling the amount of our revolving credit facility to $700 million. We will use the revolving credit facility to increase liquidity and provide greater flexibility. As Jim noted, we plan to use the proceeds from the sale of our product division in Munich, Germany, to further reduce our interest expense by paying down additional debt, which will be immediately accretive to our gross margin and EPS. For reference, over the past four quarters, this business contributed average quarterly revenue of $25 million, with a gross margin well below Coherent's corporate gross margin. The sale will reduce our employee headcount by approximately 425 employees. I will now turn to our guidance for the second quarter of fiscal 2026. We expect revenue to be between 1.56 billion and 1.7 billion. We expect non-GAAP gross margin to be between 38% and 40%. We expect total operating expenses of between 300 million and 320 million on a non-GAAP basis. We expect the tax rate for the quarter to be between 18% and 20% on a non-GAAP basis. We expect EPS of between $1.10 and $1.30 on a non-GAAP basis. In summary, I'm very pleased with the solid progress we made in Q1. Looking ahead, we're seeing exceptionally strong demand in our data center and communications segment. To meet this robust momentum, we are ramping capacity and investing strategically in the business. We remain focused on disciplined execution against our long-term financial target model. These dynamics reinforce our confidence in driving long-term growth and durable value creation for our shareholders. That concludes my formal comments. Operator, please open the call for Q&A.

Thank you. Ladies and gentlemen, we will now be conducting a question and answer session. If you would like to ask a question, please press star and 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star and two if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys.

Ladies and gentlemen, we will wait for a moment while we poll for questions. Our first question comes from Samik Chatterjee with JPMorgan Chase.

Please go ahead.

Hi, thanks for taking my question. Jim, maybe if I can start on the demand side, you do mention the strong demand you're seeing as well as record orders in some cases. Maybe if you can flesh that out a bit more, like how broad based is this demand? What are you seeing in terms of or hearing from customers in terms of demand drivers and how broad based across the portfolio is the demand across your communications portfolio? And I have a follow up. Thank you.

Yeah, thanks. I mean, yeah, I would call it very broad based. So very strong demand across both data center and communications. When I look back at our fiscal q1 really saw record record level of bookings in that quarter, and bookings not just for near term quarters, but bookings further out in time than we normally would see. So Bookings leading out, uh, in some cases over a year, uh, over a year from now. Right. So we see that as a very good, uh, very good sign. That's customers placing orders well ahead of time that gives us great visibility, um, really allows us to do really good mix planning and product mix and capacity planning. But, um, also, as I said, broad-based, um, definitely saw strong orders for data center. Strong orders in particular for 800 gig and 1.60 transceivers. We're seeing the adoption of 1.60 transceivers accelerate, and so we're seeing certainly strong orders there. But also on the communications part of our business, very strong orders in DCI, the data center interconnect portion. This is our ZRZR Plus product lineup of transceivers. And then also really pleased to see strong orders in what I call kind of traditional telecom as well. And so in particular in that communication segment, we've seen now five quarters of sequential growth in that segment, really good grower last quarter of 11% sequential and 55% year over year. But we've seen now five sequential quarters of growth and not just DCI, but also in traditional telecom and we're expelling, expecting that communication segment to grow sequentially this quarter and through the balance of this fiscal year.

Got it, got it. Indium phosphate capacity, I mean, that's been quite a talking point this quarter for you guys. You outlined you're doubling the capacity over the next 12 months, but maybe if you can just flesh out for investors what are the milestones to watch on that front and how to think about the roadmap beyond even a 12-month horizon and where would that leave you from an EML mix perspective in relation to sort of internal versus external capacity?

Sure. Thanks, Samik. So first of all, I just want to thank the Coherent team for the outstanding job they've done in getting six-inch indium phosphide up and running. This is something when I joined the company that I asked the team to significantly accelerate their timeline. And I just want to take the opportunity to thank the team for the outstanding job they've done. We started production of six-inch indium phosphide in the September quarter and started it at our Sherman, Texas facility and really pleased with that ramp as I mentioned in the prepared remarks of one of the big milestones that we achieved is the initial yields of that six inch indium phosphide are actually higher than our three inch indium phosphide lines and keep in mind that those three inch lines are very mature, you know, full production lines. So that's a very positive milestone and a positive signal for us on yields of six inch. And that's exactly why we decided to double down on the ramp of six inch and begin six inch ramp at a second facility, one of our second, our other Indian phosphide facilities, which is in Jarfalla, Sweden. And so now we're ramping at two sites in parallel. And so that's what really allows us to hit that 2x capacity goal about a year from now. And I think, you know, milestones along the way will certainly be, you know, will certainly share our progress along the way. But beyond the next 12 months, we expect to continue to expand capacity even beyond that 12-month goal. The demand that we're seeing from our customers is, I would call it extremely strong. And with some of our big customers, they're showing now their forecasts out through calendar 2028. And given that demand signal that we're seeing, not just for next calendar year, but now for 27 and 28, our plan is to continue to ramp Indian phosphide capacity beyond the next 12 months as well. And certainly we'll share more thoughts on the rate and pace of that ramp over the next year over the next 12 months.

Got it. And I'll just squeeze one quick one in. You're guiding Datacom 10% quarter-over-quarter growth. Just wondering what supply-demand gap that you see, what could that number be if you were sort of more flexible on supply or had more supply available relative to sort of the constraints on that front?

Yeah, we were certainly, when I look back at the prior quarter, you know, data center grew about 4% sequentially. That was certainly constrained by indium phosphide laser supply. And what we saw is the unmet backlog that we had in Q1 rolled into Q2. So that backlog is now in Q2 and we're servicing that in Q2. But on top of that, we had record bookings on top of that for as I mentioned 800 primarily 800 gig of 1.6 T transceiver and so the demand continues to grow now one of the really good things as we move into the current quarter is we're seeing Indian phosphide supply both internal and external grow sequentially from prior quarter to current quarter and we're expecting both external and internal supply to grow again from this quarter into our fiscal Q3 as well. So we're seeing kind of steady, you know, good improvement in indium phosphide capacity. And again, that's a combination of external, but especially internal capacity expansion as well.

Thank you. Thanks for taking my questions.

Thank you. Our next question comes from Simon Leopold with Raymond James. Please go ahead. Thanks for taking the question.

I wanted to follow up on your discussion around the OCS optical circuit switches. There was quite a buzz at the ECOC show about this, and you certainly sounded upbeat tonight. I guess what I'm looking for a little bit more help is understanding how to think about maybe let's call it calendar 2026, where one of your peers also participating in the market has sort of laid out a trajectory to get to 100 million a quarter. How do you think about your trajectory and your place in the OCS market?

Yeah, thanks, Simon. So, first of all, we feel really good about our place in the market. It starts with, of course, the technology. We feel really good about the technology differentiation that we have. We have a non-mechanical – our OCS is based on a non-mechanical liquid crystal technology that has really superior reliability and performance and our customers recognize that. I would say that we continue to see the opportunity around OCS, the total available market, continue to be bigger than what we may have originally thought. Just the number of customers is broader than we thought that are interested in the technology, but also the number of applications that they're considering deploying it in. As I mentioned in the prepared remarks, we've now shipped systems to seven different customers. If I look at last quarter, both our revenue and our backlog grew last quarter. We expect revenue and backlog to grow again this quarter. But I think a more meaningful revenue contribution will come in next calendar year, probably we'll see a steady ramp of revenue throughout calendar year. So it'll be certainly more weighted towards the second half of calendar year. But we feel really good about the progress, the backlog that we have, and the revenue ramp in front of us. And as we get into next calendar year, I think we'll share more details about kind of the rate and pace of revenue that we see ahead of us.

Thanks. And then you talked a lot about the progress you've shown on the indium phosphide I've been fielding investor questions that I find a bit puzzling. But maybe you could help us shake this out in that there's been sort of this narrative that the indium phosphide's producing photodiodes and hasn't helped you with laser production. But your outlook, your commentary on 800 gig, 1.6T, certainly suggests that you're producing more lasers, both CW and EML. Can you explain maybe how people might have been confused or whether I'm confused? Can you give us some clarification on this debate? Thank you.

Yeah, thanks, Simon. I'll try to un-confuse. I don't know where the confusion is coming from, but I'll just kind of reiterate what I said in the prepared remarks. So as I said, we're ramping production now in two sites, Sherman, Texas, and Jarfalla, Sweden. And across those two sites, we're ramping production of three different types of products based on indium phosphide, right? So the EML lasers, certainly, CW lasers as well, and then photodiodes. And all three of those are very critical, as you know, Simon, very critical components to our transceivers. And so really pleased to be ramping production of all three of those devices across those two facilities.

Thank you very much.

Thanks.

Thank you. Our next question comes from George Norder with Wolf Research. Please go ahead.

Hi, thanks very much, guys. I'm just curious on... Interesting to hear your remarks on sort of the manufacturing moves and then the real estate footprint. Really, really great to see that. I guess I'm just curious on how much more opportunity is there? I know you're standing up capacity. I think in Penang you said, are there more moves for you to make in manufacturing, perhaps in industrial lasers? Is there more real estate consolidation left? Any more you could say would be great. Thanks.

yeah thanks George, so I would say definitely a lot of activity that we have going there and it's kind of interesting because it's on one hand we're increasing capacity and expanding and, on the other hand, what we're trying to do is. consolidate and reduce footprint in certain areas and so we're in both of those activities that are happening in parallel, so if I start with. If I start with the consolidation. If we look at over the last roughly five quarters since the beginning of our fiscal 25, we've either sold or exited 23 sites. And I think that's great progress. We're really pleased with that, but we definitely have more work to do. I think both Sherry and I are focused on making sure we maximize return on investment capital and we're driving efficiency and productivity across our physical footprint. And so we both believe there's there's significant opportunity to continue to consolidate. And so we'll continue to exit and downsize any site that we view as unnecessary or underutilized. And so definitely more work to do there, and I would say stay tuned on that. And then on the increase side, certainly, especially for data center and communications, we're certainly increasing capacity We talked a little bit already about Indium Phosphide capacity, but if we talk about module capacity, so this is transceiver module capacity, we're expanding capacity at our existing facility, our primary facility in Malaysia, which is in Ipoh, Malaysia. But now in parallel, we're expanding capacity at a new transceiver facility that we've recently opened, which is already in production on transceivers. We're going to be expanding and accelerating capacity at that Penang facility. And then what we're also doing is adding transceiver module capacity at our Vietnam site. So the great thing is our Vietnam site already exists, and it's already building components for transceivers, and we have capacity and room there to add now transceiver production in addition to component production And we're excited about that, too. And so all of those capacity expansions we're driving in parallel. And that's really to support the strong demand that we see ahead of us for both data center and communications based on the customer, not just ordering that we're seeing, but the forecasts that we're getting.

Got it. Any manufacturing moves on the industrial side of the business? Thanks a lot, guys.

Yes. Yeah, a number of the consolidations that we've done, the 23 sites of sales exits, some of those have been on data center and communications side, but many of those have been on the industrial side. And so I think we still see opportunity for consolidation on, I would say, both data center and comms and industrial. But there are places within the industrial segment where we are investing and expanding in facilities as well. But it's all about trying to make sure that the footprint is optimal in terms of driving the maximum productivity and efficiency of the facility.

Thank you.

Thank you. Our next question comes from Blaine Curtis with Jefferies. Please go ahead.

Hey, good afternoon, guys. Thanks for my question. I want to go back to the data center guide plus 10%. Is there a way to think about how much that is still capacity constrained, and is there anything beyond EMLs that is constrained in that?

No, Blaine, I would say the primary constraint we've hit, for instance, last quarter is, as I said, it's indium phosphide capacity, specifically EMLs. That was what was constraining us. Significant improvement from prior quarter into current quarter. as I said, in terms of both external and internal supply. I would say we still are constrained to some degree even in the current quarter, but we also expect indium phosphide laser supply to increase again from current quarter into next quarter and really the supply to continue to improve sequentially throughout the next calendar year. given external capacity that we've secured, but especially the internal capacity ramp that I talked about earlier.

Thanks. Actually, maybe I'll follow up on that. I'm curious. You're doubling capacity, but it takes time to get your lasers in and qualified. So is there a way to think about the timing, and is there any difference between EMLs and CWs in terms of the timing of recognizing revenue from those lasers throughout the fiscal year?

Yeah. Yeah, I would say not a big difference between EML and CW on the time to get it to production and fully qualified. By the way, you mentioned recognized revenue. Just to clarify, all of our EMLs and CWs are made for internal consumption, right? So we don't sell indium phosphide in the open market. The reason for that is all of our capacity is 100% consumed by our own transceiver capacity. I meant within the transceiver.

Sorry.

All right. I just wanted to make sure I clarified that. But within a transceiver, what I would say is that once a laser is qualified or a photodiode within a facility, expanding capacity on a parallel line or on an existing line, Um, is, is a pretty normal occurrence, right? No special qualification required, or at least the, you know, qualification, very straightforward. Right. So, um, I think now that, you know, we're in production across, um, you know, multiple products across multiple facilities, um, look that, uh, that production capacity is going to be, as we expanded over the course of the next year is going to be incredibly valuable. And certainly our customers are very motivated. to help make sure we get anything qualified into production as quick as possible.

Thanks, Jim. Thank you.

The next question comes from Tom O'Malley with Barclays. Please go ahead.

Hey guys, just to answer my questions. First one's a little more short term. So you gave the sequential into December on Datacom up 10%. Could you maybe help us understand what was the driver in the September quarter? I think you called out Datacom as maybe being a little bit more of a driver, but any color on the telecom side or the relative vectors of both then into the December quarter, what are you seeing from the telecom business?

Yeah, and maybe I'll just recap the prior quarter first. So on the prior quarter, Data center we saw grow 4% sequentially, 23% year-over-year. Communications, which is telecom and DCI, in the prior quarter was 11% sequential growth and 55% year-over-year. And into the current, into the December quarter, we expect the data center growth to accelerate from that 4% prior quarter to about 10% sequential growth in the current quarter. And then comms, again, up sequentially. I would expect it to be a little bit less than what it was in the prior quarter. Comms would be up sequentially in the single digits. And then just to round it out and give you the full picture, on the industrial part of our business, we expect that in the current quarter for that to be sequentially stable, maybe slightly up.

Helpful.

And then just a longer-term question, just on the six-inch production, answered a couple questions on it here, but for us to tie production coming out of that six-inch facility with margin improvement over the year, it sounds like things are accelerating pretty materially past the extension sign in the first half. I think you had previously kind of talked about first kind of die moving into modules in late calendar year 2025, but As the kind of progress, like you look at what gross margins have done, you would imagine that accelerate a bit anyway for us to link the percent of the production amount of production to how much gross margin expansion. Thank you.

Yeah, maybe I'll kick it off and at least talk about a qualitative qualitatively. And then if Sherry wants to add anything to it, I think, given that we just started production. in the prior quarter, actually this quarter will be our first quarter, our first full quarter of production. We started production last quarter, kind of mid-quarter. The actual impact to gross margin in the current quarter is pretty minimal. But as we move into next calendar year, that's where we'll start to see the benefits of the six-inch production moving into our gross margin. And as you would expect, as we ramp production the impact of gross margin is more meaningful as we move throughout the calendar year. And so you should expect it to be more meaningful as we move through each sequential quarter. And Sherry, is there anything you'd add to that?

Yeah, I'd just add that when you look at the six-inch Indian phosphide and the fact that it's less than half the cost of three-inch, that will be beneficial to growth margin over time. It's sort of looking at a cost structure. It's improving a cost structure, the six-inch Indian phosphide is. Other examples of that would be with new products, like 1.6T. That's going to be beneficial to growth margin, as well as when we ramp capacity. Those types of things will help improve the growth margin over time.

We're certainly focused on six inches. I guess I'd recap it by saying six inches, one of the gross margin tailwinds. But there's certainly a wide range of other things we're focused on across the company to drive towards Sherry's 42% gross margin target that she gave us. There's a number of other, I just highlight in the industrial business, although the growth is, you know, it's relatively stable. We're not seeing a tremendous amount of growth in the industrial business at this time. we're certainly focused on driving gross margin expansion within that business. And so that's another area that we expect gross margin to continue to improve for the company.

Thank you. Our next question comes from Papasila with Citigroup.

Please go ahead.

Thank you for taking my question, and congrats on the based on results. Jim, I was hoping you can double-click a little bit on the uptake. You're expecting the December quarter coming from 1.60. I understand you are quite flexible between EML, SIFO, or even the Excel, but in terms of kind of percentage or even qualitatively, where are you seeing perhaps the largest demand between those three, and do you expect that to change in 2026?

Yeah. Thanks for the question. So, um, with the, yeah, as I mentioned in the prepared remarks, the sequential growth in data center, a good chunk of that is, um, driven by 1.6 T uh, revenue. And then within that, um, you know, that early wave or first wave of 1.6 T revenue, it's really a combination of, uh, we expect a combination of Silicon photonics, which uses obviously CW lasers. but also EML-based 1.60 transceivers. So the first adoption in that first wave of, or the beginning of the ramp of 1.60, that'll primarily be driven by a mix of silicon photonics and EML. And then later, we'll start to see, we believe, adoption of Vixel-based 1.60 transceivers. So those use our 200-gig Vixel technology, which we demonstrated at, I believe, OFC earlier this year, we would expect that to begin to go into production in, I would say, mid-calendar 2026. So it would start to generate revenue in kind of the second half of calendar 26. So definitely the early ramp or the first part of the ramp is driven by a combination of EML and silicon photonics.

Got it. That's very clear. And for my follow-up, Jim, I'm curious on how you are thinking about allocation of your angiophosphate capacity between EML, CW, and photo diet. I guess how far ahead do you need to make the decision and perhaps what are the factors that go into the decision? Is the priority mainly kind of feeding where demand is strongest or is there a profitability angle as well?

Yeah, it's a good question. Let me talk about the tradeoff between, first of all, EML and CW. I would say there's no, from our perspective, there's no significant profitability tradeoff between those two. Really what drives the mix of our production mix of EML versus CW is purely the demand from our customers, right? So if it's more silicon photonics-based transceivers than EML, that will allocate more capacity to CW lasers. If it's more EML, we'll allocate it to EML. And I think in general, we can make those choices certainly six months ahead of time. We can even make those choices even four months ahead of time. So I would say somewhere to the kind of four to six months ahead of time, we have to do the capacity planning between EML and CW. And the good thing about the indium phosphide capacity is it's fungible. We can move the capacity to either YML or CW. And then for photodiode, that's just the receiver for the laser. So we just build the number of photodiodes that are needed to receive the laser signal. So that's a pretty straightforward calculation. So that's kind of how we do the capacity planning. Ultimately, it's really driven by the mix that our customers want in terms of EML versus silicon photonics transceivers. And we have both. So, you know, we're happy to support the customers in whichever version that they need for their application.

That is very helpful. Thank you.

Thank you. The next question comes from Michael Manny with Bank of America. Please go ahead.

Hi, this is Michael Mani on Preview Act ARIA. Thank you so much for taking our questions. As you look out over the next year, what's your confidence level and your ability to expand your share in 1.60 over 800 gig? And could you also talk about the 1.60 ramp from a customer breadth perspective? Is this a ramp that's very concentrated with a few customers or are you seeing more of a balanced ramp into next year? Thank you.

Yeah, thanks, Michael. Maybe I'll answer the second part first and come back to the first part of the question. On the second part of the question, we're seeing 1.6T ramp across multiple customers. So we have multiple customers that are engaged in 1.6T, and we expect to ramp with multiple in parallel. And I would say that the other color I would add is That, uh, number of customers are accelerating, uh, their time and their ramp on 1.6 T and we view that all as, as a good thing, right? We view that as positive. We have really, um, proud of the lineup of 1.6 T transceivers that we have at, uh, just as a reminder at OFC, uh, earlier this year, we were the only company that demonstrated, um, 1.6 T transceivers using three different technologies, Silicon Photonics, CML and Vixel. So I think we have a great product lineup. We have good customer position. We've seen acceleration of 1.60, and we feel we're certainly well positioned for that. So I guess to the first part of your question, yeah, we feel really well positioned on 1.60. I think as we enter the calendar 2026, we expect both on a year-over-year basis, we expect 800 gig will still grow significantly. on a year-over-year basis. We're seeing very strong demand on 800 gig, but on top of that, we expect 1.6T to ramp at a very healthy pace.

Great. Thank you. And for my follow-up, I just wanted to ask about your progress on portfolio optimization and specifically pricing. So it seems like there's been a good amount of progress there in the last couple quarters, but Uh, how much, uh, how much left, uh, is there in terms of these pricing tailwinds? You can recognize. Whether, um, you know, whether it's from the core data comp side or industrial and, um, maybe more specifically as well, just what are you seeing from a pricing perspective, uh, for, uh, for transceivers, uh, if you could talk about that environment.

Maybe I'll answer the last part of the question on transceivers, but I'll let Sherry also comment on pricing as it relates to gross margin. I would say on pricing of transceivers, pricing dynamic very much as we would expect. So I don't think we're seeing anything unexpected with respect to pricing. And then of course, in a more supply constrained market in general, that's certainly always a positive dynamic for pricing. And then kind of in the first part of your question, just sort of pricing optimization in general and how it relates to gross margin, I'll ask Sherry to answer that part.

Sure. Thanks, Michael. So from a pricing optimization perspective, I was really pleased to see that during the quarter, part of the improvement in gross margin, the 70 basis points improvement sequentially and the 200 basis points year over year, part of that was due to pricing optimization. pricing optimization in our, you know, where we saw benefits in the industrial side of our business as well as in the data center and communications part of our business. So pricing is an area where we tend to expect that the greater magnitude would come from the industrial part of our business, but we do see benefits, you know, as well in the data center and communications part of our business. And, you know, pricing is really, you know, pricing our products for the value they provide. And in the industrial part of our business, that's the part of our business where, you In many cases, we are the only provider of those products, and so our customers certainly value the products that we provide to them and how we help them differentiate. So that's one key part of the improvement that we saw during the quarter. The other part, just to round out the commentary on the gross margin, we also saw improvements from cost reductions, and so that was an area where We saw benefits in yield, which, if you recall, for the past so many quarters, we've been talking about yield improvements. We continue to focus on that, and we saw those benefits in data center and the communications part of our business, as well as lower product input costs. So those are two main levers that we're really focused on to drive to our long-term target model of over 42%. So I was really pleased to see those results.

Thank you. Thank you.

Our next question comes from Mehta Marshall with Morgan Stanley Investment Management. Please go ahead.

Great. Thanks. A couple of questions. Sherry, last quarter you called out kind of FX headwinds to gross margins. And just given some of those currencies have remained stronger, just wanted to kind of get some context of whether there was additional kind of headwinds this quarter on gross margins. And then second, you know, noted that you guys are ramping the ZR kind of capacity, but just how you guys are thinking about kind of intersecting some of the scale across demand that we're seeing, you know, whether that'll kind of, the ZR will layer into that or just how you guys are kind of ramping capacity there. Thanks.

Yes, I met on the first part of your question regarding FX and the impacts to gross margin. Did we have any headwinds? during the quarter. Nothing material, certainly no incremental headwinds in terms of a negative impact from the prior quarter, but nothing significant during the quarter to note on FX.

On the second part of the question, on the scale across demand, I would characterize this demand as exceptionally strong. Obviously, that's driven by These are the optical connections between the data centers where we're seeing these AI workloads that are spanning multiple data centers, and that's driving the need for an expansion and high-speed optical networking between these data centers. Our portfolio of products, our ZR, ZR Plus portfolio of products are just a really great match for this application. We're seeing very good demand there, and we have 100 gig, 400 gig, and 800 gig ZR, ZR Plus transceivers. We're certainly ramping capacity as quickly as we can on those transceivers. The other way we participate in that market, though, is we're a module vendor for ZRZR Plus, but we also sell components into all sorts of DCI equipment and applications. And I would say there, again, the demand on the components right now is extremely strong. And we are also ramping capacity for all of the components that go into DCI applications and any related telecom application. So we're seeing, just as one example, the pump lasers that we produce, we're seeing just very strong demand on those pump lasers.

Great. Thank you. Thank you. Our next question comes from Ruben Roy with TFL.

Please go ahead.

Yeah, thanks. Jim, maybe a follow-up on the OCS commentary. With the shipments to seven different customers, great to see the diversification of customers there. In terms of applications, you talked about sort of getting or talking through engagements on a broader number of applications. How would you characterize the kind of the wins that you have today? Are those I think, you know, the industry has been talking about redundancy, you know, the use of OCS for redundancy and maybe even, you know, packet switch replacement. Should we think about those as being sort of the initial applications, or are you starting to see a broadening today of some of the other applications that you can address? And are there, you know, technical advantages of using a non-mechanical in some of these new applications that you guys are talking about? Thank you.

Yeah, thanks, Ruben. A great question. No, I I would say that the initial adoption in terms of the backlog and initial production ramp adoption is very much the way you summarized it in redundancy applications or spine switch applications in more of what we've seen historically as traditional applications for OCS. I think further out, though, what we've been surprised about is if you look beyond just kind of the near-term demand as we've engaged with a broader set of customers is, you know, there's applications beyond that that customers are talking about and engaging with us on. You know, all the way from, you know, some customers were talking about even using an OCS switch in a scale-up network, right, where the connections are now optical and there's an OCS switch within that. And then on the other end of the spectrum, customers talking about using OCS switch even within DCI networks. So we've been surprised as we've engaged with customers by the real broadening of potential applications that they're exploring. And I would say that's a little further out in time, but we view that as a great indicator that the TAM may be you know, significantly larger than what we first thought.

Perfect. Thanks, Jim. And a really quick question, I hope, for Sherry. And apologies if I missed this, Sherry, but with the aerospace and defense divestiture and the leverage coming down below too, which is great to see, is there an update on the way you're thinking about debt on the balance sheet or capital allocation? Thank you.

Yeah, so Ruben, really pleased that we were able to reduce our debt leverage down to 1.7 times for the quarter after the $400 million debt pay down that you referenced from the sale of the A&D business. So I'm really pleased with that. And then we also mentioned that with the Munich division, product division, that we announced that we would take the proceeds from the sale of that to pay off debt as well. That's expected to close a little bit later. And so once we do that, we'll take the proceeds from that as well. So Certainly debt reduction is a priority, but I would say the number one priority now continues to be making sure that we're investing for the long term in the business from an R&D perspective, from a CapEx perspective, and making sure that we're really driving investing for the long-term growth. So that's the number one priority. And then certainly debt reduction, we'll continue to focus on that, but a close second priority.

Operator, we'll take one more question. Thank you.

Our next question comes from Carl Ackerman with BNP Paribas Asset Management. Please go ahead.

Yes, thank you for squeezing me in. Just one for me. Jim, you spoke of record transceiver module bookings and datacom, but what about transceiver components for telecom? And as you address that, can you quantify the level of order visibility with your customers, maybe in terms of quarters, as you and your peers seek to add both laser and transceiver capacity and fulfill customer demand?

Yeah, thanks, Carl. Yeah, we definitely saw very strong record bookings on transceivers. But, yeah, I'm glad you asked about for components going into, you know, a number of our communications applications, DCI and telecom, I would say same story. You know, record level of bookings there, too. I mean, just tremendous bookings across both data center and communications applications. And on the second part of your question around visibility, so what we're seeing in those bookings is the normal bookings of booking out in kind of the nearer term, but we're also seeing customers on top of that book further out in time where they're ordering, they're putting orders in place a year plus in advance. And I think that's really about they're seeing such strong increases in their demand and their supply needs that they want to get those bookings in place to get the supply coverage. And then the other very good trend from our perspective is, as I mentioned early in the call, a number of our large customers now giving us very good forecast visibility not just next year or the following year, but out into 2028. So very large customers providing us with visibility three years out, which is very, very helpful for our business.

Thank you very much.

Thank you. Ladies and gentlemen, as we have come to the conclusion of the allotted time for today's call, I will now turn the floor back to Coherent CEO, Mr. Jim Anderson, for closing comments.

Yeah, first thanks everybody for being on the call today. I feel like we're off to a very strong start for our fiscal year with almost 20% pro forma revenue growth and over 70% DPS growth in Q1 on a year-over-year basis, off to a really strong start. And again, we expect this fiscal year to be a really strong growth year for the company. I'd like to, once again, I just want to thank all of my coherent teammates for all of their their great hard work, their dedication. Thank you very much. And thanks, everyone, for your support. Operator, that concludes our call.

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.