Demand Is Strengthening Across Lumentum's Businesses, with Potential NPO Orders in the Coming Months

Overview

This report summarizes Morgan Stanley's key conclusions following its August 18, 2026 meeting with Lumentum Head of Investor Relations Kathy Ta. The report believes that data center investment is expanding Lumentum's avenues for participating in the optical interconnect market, with NPO, CPO, OCS, and laser businesses all showing strong demand signals. However, the valuation already reflects an AI growth premium above historical levels, and the stock remains rated Equal-weight.

Core views

The report first focuses on opportunities arising from the expansion of data center optical architectures into scale-up. Investors are focused on differences in content value between NPO (near-packaged optics) and CPO (co-packaged optics), while the company indicated that although implementation methods vary, overall content value is broadly comparable. NPO using ELS external laser sources still requires UHP lasers, so its content value can generally be similar to CPO. NPO implementations located more internally within the chassis may use lower-power, less expensive lasers, but if Lumentum provides customers with more optical-engine packaging content, total content value could be equal or even higher. The company expects all these NPO implementations to generate margins above the company average and indicated that it may sign a deal in the "coming months," potentially sooner than expected based on its comments during the FQ4 earnings call. Demand signals for CPO and OCS are also improving. CPO upside is primarily coming from scale-out applications, so some incremental demand may materialize later in 2026. In OCS, a core customer continues to increase order volumes, but the company cannot yet determine whether this is because it resolved certain production issues and gained share or because the customer's underlying demand increased overall. Regarding competing solutions, the company did not provide additional information on recent media reports, but it hopes the market will ultimately develop a multi-vendor ecosystem. This indicates that OCS order growth has tangible support, although its source and the competitive landscape still require further confirmation. Potential FCC rules represent an important supply-chain variable. The company has engaged with the FCC regarding potential rules and indicated that the relevant measures would need to be implemented gradually; otherwise, they could cause a significant market supply-demand mismatch because Chinese suppliers currently provide 60% to 65% of transceivers. The company also noted that simply increasing standalone transceiver production is not a particularly attractive business under the current pricing structure. This means that if the rules are implemented, their timing and scope will affect industry supply-chain restructuring, but Lumentum will not expand capacity unconditionally merely to fill a transceiver volume shortfall. Product pricing and supply elasticity vary by category. For UHP and pump lasers, which primarily serve telecom and CPO opportunities, the company has long-term agreements that can limit price volatility caused by increased competitive supply. The CW market offers greater upside: competitors have withdrawn supply commitments, while Lumentum has improved its own supply by reducing chip size, enabling the company to fulfill incremental demand and charge "expedite fees." However, the company's current demand mix is approximately 90% EML and 10% CW and is expected to be approximately 80% EML and 20% CW in several quarters. Its observations therefore still primarily reflect the EML market, making it difficult to draw a comprehensive conclusion about the EML and CW industries. Earnings forecasts reflect expectations for rapid business growth. Under the Morgan Stanley ModelWare methodology, EPS for the fiscal years ending June 2026, June 2027, June 2028, and June 2029 is 6.55, 19.17, 32.78, and 44.25, respectively; under the consensus methodology, it is 8.68, 21.10, 34.64, and 46.05, respectively. The quarterly data lists EPS of 1.10, 1.67, 2.37, and 3.23 for Q1 through Q4 of 2026; estimates of 4.22, 4.96, 5.55, and 6.33 for 2027; and estimates of 7.49, 8.62, 8.98, and 9.53 for 2028. Regarding valuation, the report applies an approximately 25x calendar-year 2028 P/E multiple to an earnings base of approximately $40, resulting in a price target of approximately $1,000. The approximately 25x multiple is above Lumentum's historical trading range, with the report attributing this premium to the AI growth outlook. Upside scenarios include a Datacom ramp and revenue mix exceeding expectations, a rapid OCS ramp that adds revenue and profit sources, sustained strength in AI demand that drives the EML business and earnings above expectations, and a faster-than-expected CPO or NPO ramp. Downside risks include weaker AI demand causing excess EML supply and price declines, CW taking share from EML, Cloud Light weighing on margin improvement, and delays in CPO deployment. Despite positive operating demand signals, the report maintains an Equal-weight stock rating, an In-Line industry view, and a $1,000 price target.

Analysis framework

Morgan Stanley begins with its August 18, 2026 meeting with Lumentum's Head of Investor Relations, comparing management's comments on NPO, CPO, OCS, regulation, and laser supply and demand with information from the FQ4 earnings call. It then analyzes the content value, margins, and timing of demand realization for different optical implementations, before using ModelWare earnings forecasts and a calendar-year 2028 P/E framework to derive the price target and outlining operating upside and downside scenarios.

Methodology notes

• Valuation MethodologyPE/PEG valuation

  Calendar-Year 2028 P/E Valuation

  The report applies an approximately 25x calendar-year 2028 P/E multiple to an earnings base of approximately $40, resulting in a price target of approximately $1,000. This multiple is above the historical trading range, with the premium based on the AI growth outlook.

• Company Fundamentals and Financial Framework

  Morgan Stanley ModelWare Framework

  The report uses Morgan Stanley ModelWare as its primary financial forecasting methodology and also provides EPS data based on the consensus methodology to illustrate the earnings trajectory for fiscal years 2026 through 2029 under different methodologies.

• Industry/Sector Analysis FrameworkVolume-price decomposition

  Product Mix, Content Value, and Pricing Analysis

  The report separately examines the per-system content value of NPO and CPO, the EML and CW demand mix, the extent to which long-term agreements limit price volatility, and the contribution of expedite fees to revenue upside in the CW business.

Asset mapping & comparison

Structured mapping from thesis to named assets (strengths, weaknesses, peers, risks).

• Lumentum Holdings Inc (LITE.US)

  The company is exposed to AI data center optical interconnect investment, encompassing opportunities in NPO, CPO, OCS, EML, CW, UHP, and pump lasers.

  Strengths

  NPO content value can be comparable to CPO and is expected to generate above-company-average margins; CPO and OCS demand is increasing; long-term agreements limit price volatility for certain lasers; and improved CW supply can support incremental orders and expedite fees.

  Weaknesses

  It remains unclear whether OCS order growth is driven by share gains or expansion in end demand; approximately 90% of the company's related demand comes from EML, making it difficult to provide a comprehensive assessment of the EML and CW markets; and the standalone transceiver business has limited appeal under the current pricing structure.

  Comparison

  When NPO uses ELS, its content value is generally similar to CPO. Although in-chassis NPO may use lower-power lasers, its content value could be equal or higher if the company provides more optical-engine packaging.

  Risks

  Excess EML supply and price declines, CW substitution for EML, Cloud Light weighing on margins, and delays in CPO timing.

Key data

• Stock RatingEqual-weightThe industry view is In-Line
• Price Target$1,000.00Based on an approximately 25x calendar-year 2028 P/E multiple and an earnings base of approximately $40
• Closing Price$866.71August 21, 2026
• Market Capitalization$75,165 mmCurrent market capitalization as listed in the report table
• 52-Week Price Range$1,085.68-$115.21Order as originally presented in the report
• Share of Transceivers Supplied by Chinese Vendors60%-65%Based on this figure, the company believes potential FCC rules need to be implemented in phases
• Current EML/CW Demand Mixapproximately 90%/approximately 10%Expected to reach approximately 80%/approximately 20% in several quarters
• ModelWare Fiscal-Year EPS6.55 / 19.17 / 32.78 / 44.25Corresponding respectively to the fiscal years ending June 2026, June 2027, June 2028, and June 2029
• Consensus-Methodology Fiscal-Year EPS8.68 / 21.10 / 34.64 / 46.05Corresponding respectively to the fiscal years ending June 2026, June 2027, June 2028, and June 2029
• Valuation Multipleapproximately 25x CY28 P/EAbove the historical trading range, which the report attributes to the AI growth outlook

Impact & implications

The report believes Lumentum's participation in AI data center investment is expanding from traditional optical components into NPO, CPO, and OCS, with attractive potential content value and margins. Long-term agreements provide a degree of price stability for UHP and pump lasers, while improved CW supply creates opportunities to charge expedite fees. However, the price target uses a valuation multiple above the historical range, and the speed of demand realization, product substitution, and margin performance will still determine whether growth can justify this premium.

Risks

• If AI demand weakens and causes excess supply, EML prices may decline.
• CW products may take market share from EML.
• Cloud Light may hinder the company's margin improvement.
• CPO commercialization or volume ramp timing may be delayed.

What to watch

• Monitor whether the company can sign an NPO deal in the "coming months."
• Monitor whether incremental scale-out demand for CPO materializes later in 2026.
• Monitor continued order increases from the core OCS customer and whether the incremental demand comes from share gains or expansion in underlying demand.
• Monitor the implementation timeline of potential FCC rules and their impact on transceiver supply and demand.
• Monitor whether the EML/CW demand mix shifts from approximately 90%/10% toward approximately 80%/20%.
• Monitor the ramp pace and margin performance of Datacom, OCS, EML, and CPO/NPO.