ZTE's server business drives revenue growth, but the low-margin product mix continues to weigh on earnings

Overview

This report evaluates ZTE's 1H26 and 2Q26 results and discusses the outlook for revenue and margins in 2H26. Nomura believes the server business and AI infrastructure investment by leading Chinese cloud service providers can support a revenue recovery, but the rising share of low-margin servers and controlled capital expenditure by domestic carriers will continue to weigh on profitability.

Core views

ZTE announced its 1H26 results after market close on August 21, 2026. The report body states that 1H26 revenue increased 6% YoY, while the results table shows revenue of CNY 78,025mn, up 9% YoY; 2Q26 revenue was CNY 43,037mn, up 11.5% YoY（approximately 12% in the report body）and 23% QoQ. Revenue growth did not translate into comparable profit growth: 1H26 net profit attributable to shareholders was CNY 2,753mn, down 46% YoY; operating cash flow declined 110% YoY to -CNY 126.6mn. 2Q26 net profit attributable to shareholders was CNY 1,442mn, down 44.6% YoY（approximately 45% in the report body）but up 10% QoQ. Nomura mainly attributes the earnings decline to a deterioration in the product mix. The low-margin server business grew significantly faster than traditional businesses, causing the 1H26 gross margin to fall to 25.5%, down 7.0 percentage points YoY; the 2Q26 gross margin declined further to 23.2%, down 7.7 percentage points YoY and 5.1 percentage points QoQ. 2Q26 gross profit was CNY 9,991mn, down 16% YoY and up only 1% QoQ, indicating that the decline in gross margin substantially offset the revenue expansion. Selling and administrative expenses during the period were CNY 9,015mn, up 176% YoY and 12% QoQ; R&D expenses were CNY 6,023mn, down 10% YoY and up 23% QoQ. 2Q26 EBIT was -CNY 5,107mn, with an EBIT margin of -11.9%, down 15.8 percentage points YoY and 1.7 percentage points QoQ; pre-tax profit remained at CNY 1,636mn, down 40% YoY and up 9% QoQ, while the net margin was 3.4%, down 3.4 percentage points YoY. By business segment, 1H26 carrier network business revenue declined 9% YoY, mainly due to continued weakness in the domestic telecommunications market, with growth in overseas telecommunications operations providing only a partial offset. Government and corporate business revenue increased 44% YoY, primarily driven by strong demand from data center customers for servers and storage equipment. Consumer business revenue increased 8% YoY, driven by growth in handsets and mobile internet products. The resulting business mix increased overall revenue growth on the one hand, but continued to dilute the group's gross margin on the other because the server business has lower margins. Looking ahead to 2H26F, Nomura expects the domestic carrier business to continue facing challenges because domestic telecommunications carriers remain focused on controlling capital expenditure. AI servers represent a relatively positive growth driver: the report expects AI server momentum to continue, while accelerated AI infrastructure investment by leading Chinese cloud service providers should support a recovery in ZTE's revenue growth. However, this growth will still come mainly from lower-margin products, and the structural change in the product mix means gross margin pressure is unlikely to dissipate quickly. Therefore, the report depicts a combination of revenue recovery and continued earnings pressure, rather than revenue growth directly leading to a corresponding improvement in profit. On valuation, Nomura maintains its Neutral rating and HKD 39.00 target price. The target price is based on a 19x FY26F P/E multiple and an FY26F EPS forecast of CNY 1.88, with the valuation multiple considered consistent with the FY25-27F earnings compound growth trend. The report states that the stock was then trading at 11.6x FY26F EPS, with the Hang Seng Index serving as the rating benchmark; Neutral indicates that the stock is expected to perform broadly in line with this benchmark over the next 12 months.

Analysis framework

The report first reviews 1H26 and 2Q26 revenue, profit, cash flow, and margins on a YoY and QoQ basis, and then breaks down the sources of growth across the carrier network, government and corporate, and consumer businesses. Nomura subsequently links growth in the server business to the decline in gross margin and assesses the direction of 2H26 revenue and margins based on domestic carriers' capital expenditure controls and cloud service providers' AI infrastructure investment. Finally, it determines the target price using FY26F EPS and a P/E multiple.

Methodology notes

• Corporate Fundamentals and Financial FrameworkEarnings Quality Analysis

  Integrated analysis of revenue growth, product mix, and margins

  The report examines not only revenue growth but also gross profit, gross margin, EBIT, and net profit, concluding that the rising share of the low-margin server business has reduced the conversion of revenue growth into earnings.

• Industry/Sector Analysis FrameworkUpstream-Midstream-Downstream Industry Chain Transmission

  Transmission of downstream capital expenditure into equipment demand

  The report links domestic telecommunications carriers' capital expenditure controls to pressure on the carrier network business, while associating accelerated AI infrastructure investment by leading cloud service providers with server demand and revenue recovery.

• Valuation MethodPE/PEG valuation

  P/E valuation based on forecast earnings per share

  Nomura derives its HKD 39.00 target price by applying a 19x FY26F P/E multiple to its FY26F EPS forecast of CNY 1.88, using the FY25-27F earnings compound growth trend to support the multiple.

Asset mapping & comparison

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

• ZTE Corp（0763.HK）

  Demand for AI servers, data center servers, and storage equipment supports revenue growth, but the rising share of low-margin products and weakness in the domestic carrier business weigh on margins.

  Strengths

  The government and corporate business is growing strongly, while AI server demand and AI infrastructure investment by leading Chinese cloud service providers can support a revenue recovery; the consumer business is also maintaining growth.

  Weaknesses

  Carrier network business revenue declined, changes in the product mix caused a significant contraction in gross margin, operating cash flow turned negative, and EBIT recorded a loss.

  Comparison

  The stock rating uses the Hang Seng Index as its benchmark; the report does not provide specific operating comparisons with peers.

  Risks

  A slower-than-expected recovery in carriers' 5G infrastructure spending and an escalation of China-US trade tensions in the technology sector.

Key data

• 1H26 RevenueCNY 78,025mnThe results table shows 9% YoY growth, while the report body states 6% YoY growth
• 2Q26 RevenueCNY 43,037mnUp 11.5% YoY（approximately 12% in the report body）and 23% QoQ
• 1H26 Net Profit Attributable to ShareholdersCNY 2,753mnDown 46% YoY
• 2Q26 Net Profit Attributable to ShareholdersCNY 1,442mnDown 44.6% YoY and up 10% QoQ
• 1H26 Operating Cash Flow-CNY 126.6mnDown 110% YoY
• 1H26 Gross Margin25.5%Down 7.0 percentage points YoY
• 2Q26 Gross Margin23.2%Down 7.7 percentage points YoY and 5.1 percentage points QoQ
• 2Q26 EBIT-CNY 5,107mnEBIT margin was -11.9%
• 1H26 Carrier Network Business Revenue Growth-9% YoYThe domestic telecommunications market remained under pressure, partially offset by overseas growth
• 1H26 Government and Corporate Business Revenue Growth+44% YoYDriven by demand for data center servers and storage equipment
• 1H26 Consumer Business Revenue Growth+8% YoYDriven by growth in handsets and mobile internet products
• FY26F Earnings per ShareCNY 1.88The target price applies a 19x FY26F P/E multiple
• Target PriceHKD 39.00Both the rating and target price remain unchanged
• Current Valuation11.6x FY26F EPSTrading valuation stated in the report

Impact & implications

The report believes ZTE's growth focus is shifting toward demand related to servers and AI infrastructure, which supports a revenue recovery but weakens earnings conversion because server margins are lower than those of traditional businesses. Domestic carriers' capital expenditure controls also limit the scope for recovery in the traditional carrier network business. Therefore, while AI demand continues, whether margins can improve remains crucial to earnings performance and the realization of the target price.

Risks

• Slower-than-expected carrier spending on 5G infrastructure could further weigh on the carrier network business and the realization of the target price.
• An escalation of China-US trade tensions in the technology sector could pose downside risks to the company's operations and valuation.

What to watch

• Monitor whether domestic telecommunications carriers' capital expenditure controls continue to weigh on the carrier network business in 2H26.
• Monitor AI server momentum and the progress of AI infrastructure investment by leading Chinese cloud service providers.
• Monitor whether gross margin can stabilize amid changes in the product mix and whether revenue growth can translate into improved profit.
• Monitor whether demand from telecommunications carriers recovers faster than expected.
• Monitor whether margins in the government and corporate and consumer businesses improve more than expected.