1Q26 operating profit exceeded expectations, with AI-related shipments driving growth

Overview

This report is Morgan Stanley’s commentary on Foxconn Industrial Internet Co. Ltd.’s 1Q26 results. The firm believes the company’s operating profit beat underscores its execution prowess and scale benefits, while growing exposure to AI-related revenue underpins earnings upside, justifying a reiteration of the Overweight rating. In 1Q26, revenue reached Rmb251bn, up 57% year over year but down 16% quarter over quarter; operating profit totaled Rmb15,592mn, up 137% year over year—above both forecasts and consensus—but non-operating losses eroded core profitability, resulting in net profit and EPS below Morgan Stanley’s projections.

Core views

Key takeaways include: First, AI-related shipments are the primary driver of revenue growth, despite some CSP customers shifting new orders from buy‑sell arrangements to consignment accounting. Second, gross and operating margins continue to improve, reaching 7.9% and 6.2%, respectively, signaling the realization of scale effects. Third, cloud equipment and high‑speed networking products performed strongly, with significant year‑over‑year increases in shipments of AI GPU cabinets, AI ASIC servers, and 800G and higher‑speed switches. Fourth, operating cash flow remained positive, rising to Rmb25bn, while inventory turnover days shortened to 52, an improvement versus 4Q25 and the prior year.

Analysis framework

The report compares 1Q26 actual results with Morgan Stanley’s forecasts and market consensus, focusing on revenue, gross profit, operating profit, net profit, EPS, margins, inventory, cash flow, and key business shipments. Valuation is conducted using a multi‑stage residual income model, incorporating assumptions for cost of equity, growth rates, and terminal growth to derive the base‑case target price.

Methodology notes

• Valuation methodsMulti‑stage Residual Income (RI) Model

  Multi‑stage valuation based on residual income

  The base‑case target price is derived from a multi‑stage residual income model, with key assumptions including a 10% cost of equity, an 18% mid‑term growth rate, and a 5% terminal growth rate.

• Performance comparisonActual vs. forecast and consensus

  Analysis of performance above/below expectations

  The report compares 1Q26 actual revenue, operating profit, net profit, EPS, and margins against Morgan Stanley’s forecasts and market consensus to assess performance quality and gauge shifts in investment views.

Asset mapping & comparison

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

• Foxconn Industrial Internet Co. Ltd. (601138.SS)

  The core subject of this report, belonging to the Greater China Technology Hardware sector.

  Strengths

  Increasing exposure to AI‑related revenue, doubling of cloud equipment revenue, rapid growth in AI GPU cabinet and AI ASIC server shipments, robust 800G and higher‑speed switch shipments, continued margin improvement, and positive operating cash flow.

  Weaknesses

  Some CSP orders booked via consignment accounting affect revenue recognition; non‑operating losses weigh on net profit and EPS, leaving net profit below Morgan Stanley’s forecast.

  Comparison

  1Q26 operating profit exceeded Morgan Stanley’s forecast by 7% and consensus by 14%; however, net profit lagged behind Morgan Stanley’s projection by 17% and consensus by 14%.

  Risks

  IIoT project progress slower than expected, intensifying competition in the manufacturing segment, weaker-than‑expected demand for 5G and data centers, and a weakening macro environment.

Key data

• 1Q26 revenueRmb251bnUp 57% year over year and down 16% quarter over quarter, largely driven by strong AI‑related shipments.
• 1Q26 operating profitRmb15,592mnUp 137% year over year—7% above Morgan Stanley’s forecast and 14% above consensus.
• 1Q26 net profitRmb10,595mnWeighed down by non‑operating losses, 17% below Morgan Stanley’s forecast.
• 1Q26 EPSRmb0.53Below Morgan Stanley’s forecast of Rmb0.64 and consensus of Rmb0.62.
• Gross margin7.9%Above the 7.3% forecast and 7.0% consensus.
• Operating margin6.2%above the 5.4% forecast and 4.5% consensus.
• Cloud equipment revenuedoubled year over yearAI GPU cabinet shipments surged 3.8x year over year, and AI ASIC server shipments increased 3.2x.
• Shipments of 800G and higher‑speed switchesup 1.6x year over year and 46% quarter over quarterCPO switches have begun sampling to key customers.
• InventoryRmb167.3bnup 39% year over year and 11% quarter over quarter, with inventory turnover days falling to 52.
• Operating cash flowRmb25bnremained positive in 1Q26 and continued to grow.
• Target priceRmb82.80compared to a closing price of Rmb68.20, implying a 21% upside.

Impact & implications

The report carries a generally positive investment implication: the operating profit beat and margin expansion bolster market confidence in FII’s ability to execute at scale within the AI hardware supply chain; advances in AI cloud equipment, 800G switches, and CPO developments provide support for future revenue growth. However, net profit, dragged down by non‑operating losses, came in below forecast, reminding investors to monitor the stability of core profit translating into net profit.

Risks

• IIoT solution project bid wins progressing more slowly than anticipated.
• Intensified competition in the manufacturing business.
• Demand for 5G and data centers falling short of expectations.
• Weakening macroeconomic outlook.
• Non‑operating losses potentially continuing to impact net profit and EPS performance.

What to watch

• Whether AI‑related orders and shipments can sustain their rapid growth.
• The impact of CSP consignment accounting on revenue recognition and margins.
• Progress in shipments of AI GPU cabinets, AI ASIC servers, 800G and higher‑speed switches, and CPO switches.
• Continued improvement in gross, operating, and net profit margins.
• Maintaining healthy inventory turnover and operating cash flow.
• Progress on securing IIoT solution project bids, as well as changes in 5G and data center demand.