China Galaxy Securities: The actual production capacity of phosphorization is more than 50% greater than demand, with stronger upstream elasticity in the optical device industry chain.

China Galaxy Securities issued a research report stating that the production capacity of phosphorus gallium is severely limited, with global device demand reaching 2 million pieces by 2025, and the actual production capacity supply-demand gap exceeding 50%. Capital expenditure guidance suggests that future growth expectations remain high, with component price increases, shortage of computing power, and continued demand expansion driving a capital expenditure competition that is far from peaking. The bank believes that AI investment has officially entered the return period; expected realizations will boost overall confidence in the industry chain, but high capital expenditure will put significant pressure on cash flow; downstream capital expenditure will have a structuring effect on the optoelectronics industry. They recommend focusing on relevant leading stocks, such as optical module/optical communication-related stocks. Key points from China Galaxy Securities: AI computing power growth drives demand for optoelectronic devices, and the supply-demand gap for phosphorus gallium chips is facing major changes With the rapid deployment of cloud computing workloads, AI training clusters, and 5G backhaul infrastructure, network operators and hyperscale cloud service providers are accelerating the deployment of optical interconnection solutions. At the same time, data traffic is growing exponentially at a double-digit annual growth rate, and the data rate of optical modules is accelerating towards 400G, 800G, and 1.6T. Furthermore, global broadband expansion plans are driving new demand for coherent optical modules in metropolitan and long-haul transmission sectors. The global optical module market size is expected to reach $39.6 billion by 2034, with a ten-year CAGR of 11.5%. Currently, the production capacity of phosphorus gallium is severely limited, with global device demand reaching 2 million pieces by 2025, and the actual production capacity supply-demand gap exceeding 50%. Supply shortage brings high prosperity to the optoelectronic industry, with stronger elasticity in the upstream industry chain According to the latest financial reports, the combined capital expenditure guidance of the four major U.S. CSPs Google, Amazon, Microsoft, and Meta is close to $725 billion, an increase of about 165% from approximately $245 billion in 2024, and future growth expectations remain high, with component price increases, computing power shortages, and continuous demand expansion driving a capital expenditure competition that is far from peaking. The bank believes: 1)AI investment has officially entered the return period, with high-speed growth in cloud and AI-related revenue for the four major CSPs, indicating that AI investment is stabilizing into profits; 2)Expected realizations will boost overall confidence in the industry chain, with continued expectations of high capital expenditure, completely dispelling concerns that AI capital expenditure will peak and fall back, but high capital expenditure will put significant pressure on cash flow. 3)Downstream capital expenditure will have a structuring effect on the optoelectronics industry: on the demand side, the rigid demand for high-bandwidth, low-power interconnection from AI clusters is accelerating the migration of technology pathways from traditional pluggable optical modules to higher-integration solutions such as CPO and OCS, directly driving demand for phosphorus gallium (InP) chips, silicon optics, and advanced packaging technologies; on the supply side, the scale and continuity requirements of capital expenditure demand upstream suppliers to have large-scale, high-consistency delivery capabilities, industry differentiation is expected to intensify, vertically integrated leading manufacturers will receive more LTA orders, while small and medium-sized specialized design companies may face capacity constraints or be forced to seek merger integration. 4)CSP providers will become the driving force of the technology ecosystem, CSP providers as end-users are deeply involved in standard-setting, promoting interface openness and decoupling, possibly reshaping the value distribution of the industry chain, further increasing the proportion of core chip and advanced packaging values. 5)In the short term, the supply-demand gap may support device prices and increase the bargaining power of leading manufacturers, with global key materials such as phosphorus gallium facing shortages, a capital expenditure competition will trigger a new round of capacity arms race, but the expansion cycle is long and the technological barriers are high. Overall, optoelectronic devices are transitioning to a high prosperity driven by AI infrastructure investment, with a competitive landscape centered on technological leadership and ecosystem synergy capabilities. Analysis of typical companies Lumentum is a leading optoelectronic IDM with full-stack vertical integration capabilities from chip design, phosphorus gallium wafer manufacturing, chip packaging testing to optical module packaging, OCS optical switches, and system solutions. The company's 400mW/800mW ultra-high power (UHP/SHP) lasers for CPO have received orders worth hundreds of millions of dollars and are expected to be delivered in the first half of 2027, its ocS products based on MEMS technology have a backlog of over $400 million in orders and are expected to surpass $1 billion in sales in 2027, while the 1.6T/3.2T optical modules and CPO technologies are advancing synergistically, forming a clear future growth curve. Investment advice It is recommended to focus on relevant leading stocks, such as optical module/optical communication-related stocks: Lumentum (LITE), Coherent (COHR), Fabrinet (FN), Corning Inc. (GLW), Applied Optoelectronics (AAOI), etc., and pay attention to the dual trends of profitability and valuation growth. Risk warning 1. The risk of demand fluctuations due to downstream capital expenditure falling short of expectations; 2. The risk of phosphorus gallium production capacity expansion progressing slower than expected; 3. The risk of slow improvement in the yield of CPO technology; 4. The risk of high customer concentration and changes in orders from a single customer.