Coherent Corp Q3 Revenue Exceeds Expectations, Gross Margin Improves But Slightly Below Estimates

Overview

This report provides Morgan Stanley’s review of Coherent Corp (COHR.N)’s third-quarter fiscal year 2026 results. The report finds that the company’s overall execution is on track, with accelerated revenue growth driven primarily by strong demand in data center and communications businesses, though gross margin expansion has been slightly below investor expectations. Although the stock price may face digestion pressure in the short term due to its previous sharp rise, the firm remains optimistic about the company’s long-term ability to capture AI opportunities, and accordingly raised its earnings forecast and target price while maintaining an “Equal-weight” rating.

Core views

Revenue growth accelerates, with data center business performing strongly. Coherent Corp’s Q3 revenue grew 7.1% sequentially and 20.5% year-on-year, accelerating from Q2. Among them, data center and communications businesses grew 41% year-on-year, serving as the main driver. Management views June as a new inflection point for revenue growth, benefiting from robust demand and improved supply. In particular, InP (indium phosphide) capacity is expected to double by year-end, one quarter ahead of schedule, helping the company capture larger AI market opportunities. Gross margin steadily improves, though at a slightly slower pace than peers. Q3 non-GAAP gross margin rose to 39.6%, up 60 basis points sequentially and 105 basis points year-on-year. The improvement was driven by expanded 6-inch InP production scale, higher yields, and optimized pricing. However, this increase was slightly lower than some investors had expected, mainly because the company still needs to purchase large quantities of external lasers, whose prices have risen significantly. The report notes that as the proportion of 6-inch capacity increases further, there is still room for gross margin to rise in the future, though short-term stock price volatility could result from expectation gaps. Industrial segment remains weak, with no bottlenecks in other businesses. Industrial segment revenue declined slightly both sequentially and year-on-year, reflecting broader industrial market weakness, despite some improvement in semiconductor capital equipment orders. Notably, apart from InP—a key industry constraint—the company has not encountered significant bottlenecks in other businesses (such as OCS optical circuit switches), contrasting with challenges faced by some peers. Earnings forecast raised, valuation logic reshaped. Based on faster-than-expected InP capacity ramp-up, Morgan Stanley raised its revenue and non-GAAP EPS forecasts for Q4 FY24 and FY27. The new forecasts show FY27 revenue reaching $9.46 billion and EPS at $8.14. The target price was raised from $290 to $330, based on FY28 earnings of around $11.5 and a P/E multiple of 28-30 times. This multiple is above historical averages, reflecting the company’s exposure to and premium placed on the AI sector.

Analysis framework

The firm adopts an ‘volume-price breakdown + capacity cycle’ analytical framework. First, by dissecting the revenue structure, it identifies data center and communications businesses as the core growth drivers, while the industrial segment is a drag. Second, it closely tracks the progress of InP capacity expansion and its marginal contribution to gross margin, using the ramp-up pace as a key leading indicator of profitability improvement. Finally, combined with the high prosperity of the AI industry, it assigns the company a valuation multiple above historical averages, while assessing stock price potential under different scenarios through a risk-return model (Bull/Base/Bear Case), emphasizing buying opportunities when double-digit pullbacks occur.

Methodology notes

• Industry/sector analysis frameworkSupply-demand framework

  InP capacity constraints and release

  In the optical communications and AI hardware sectors, upstream core material supply (such as InP) often determines industry growth rates. By tracking the company’s earlier-than-planned doubling of InP capacity, the report judges that its supply bottleneck has been lifted, supporting revenue growth and market share gains.

• Company fundamentals and financial frameworkOperating/financial leverage analysis

  Gross margin improvement driven by scale effects

  As the proportion of 6-inch InP wafer capacity increases, fixed costs are diluted, yields improve, driving structural gross margin growth. The report uses this logic to project future profit margin improvement paths.

• Valuation methodPE/PEG valuation

  PE multiple expansion based on AI premium

  Given the company’s deep integration with AI data center construction, the report assigns it a FY28 PE of 28-30 times, above historical averages, reflecting the market’s willingness to pay a premium for high growth and certainty.

Asset mapping & comparison

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

• Coherent Corp (COHR.N)

  Direct beneficiary, core supplier of AI data center optical modules and materials

  Strengths

  Earlier-than-planned InP capacity expansion, rapid growth in data center business, no expansion bottlenecks in OCS

  Weaknesses

  Weak industrial segment, rising external laser costs pressuring short-term gross margin

  Comparison

  Compared to peers, its expansion in OCS is smoother, but gross margin growth pace is slightly slower

  Risks

  Reversal in AI ecosystem valuation, EML chip supply constraints

Key data

• Q3 revenue sequential growth rate7.1%Accelerated from Q2’s 6.6%
• Q3 revenue year-on-year growth rate20.5%Data center and communications businesses grew 41%
• Q3 non-GAAP gross margin39.6%Up 60 bps sequentially, up 105 bps year-on-year
• FY27 revenue forecast$9.46 billionPreviously forecast at $8.73 billion
• FY27 non-GAAP EPS forecast$8.14Previously forecast at $7.47
• New target price$330Previously $290, implying FY28 28-30x PE

Impact & implications

The report believes Coherent Corp is executing its strategy on track, especially in capturing opportunities from AI infrastructure upgrades. Although short-term gross margin growth is constrained by external laser costs, in the long run, as self-produced InP capacity is released, profitability will continue to improve. For investors, the current stock price already reflects some optimism; if there’s a double-digit pullback, it would be a good entry opportunity. Whether the company can gain a larger share in OCS and CPO (co-packaged optics) segments will be key to further valuation expansion in the future.

Risks

• Reversal in AI ecosystem valuation
• Constraints in EML (electro-absorption modulated laser) supply
• Macroeconomic headwinds or tariffs causing pricing difficulties
• Intensified competition in SiC market
• Accelerating domestic substitution process in mainland China

What to watch

• Progress of InP capacity ramp-up and increase in 6-inch wafer proportion
• Whether gross margin can break through 42% and approach analysts’ targets
• Sustainability of improvement in semiconductor capital equipment orders in the industrial segment
• Market share acquisition of OCS and CPO products
• Speed of decline in net interest expense and progress in deleveraging