Guosheng: The three major expectations have resonated with each other, and the turning point for passive components has arrived.

Guosheng released a research report stating that for a long time, passive component manufacturers have been unable to achieve sustained breakthroughs in performance due to reasons such as a single product category, low production capacity ceilings, and a dispersed customer structure. Currently, the bank believes that the turning point for passive components has arrived, with expected differences in category expansion, production capacity release, and customer structure optimization, which could usher in a new stage of performance breakthroughs. Guosheng's main points are as follows: I. Why has the performance of passive components been unable to break through in the past? Looking back at the historical performance of passive component enterprises, achieving over 100 million profits in a single quarter was a ceiling that was difficult to break through in the long term. Leading companies such as T&S Communications, Henan Shijia Photons Technology, and EverProX Technologies have all reached the level of over 100 million profits in a single quarter, but have consistently failed to achieve sustained breakthroughs. The root cause of this performance ceiling bottleneck lies in three structural issues: First, a single product category, limited value per item. Passive components have a variety of categories, but in the past, passive component companies often specialized in a specific small component, where the value of a single component in the optical communication industry was relatively low, and the market space ceiling was clearly visible. Second, cautious capacity expansion, lack of flexibility. Passive component manufacturing requires high precision processing capabilities, and capacity expansion involves equipment procurement, yield improvement, and other processes. In the past, industry enterprises generally followed a "catch-up" strategy, with capacity expansion lagging behind demand surges. Third, customer structures are mainly indirect suppliers, with weak bargaining power. Most passive component manufacturers supply indirectly through network equipment manufacturers or optical module manufacturers, with multiple layers separating them from the end customers (CSP cloud manufacturers), resulting in limited bargaining power and difficulty in gaining first-hand information on demand. II. Three expected differences resonate, reshaping the growth logic of passive components Driven by AI algorithm construction, the complexity and density of optical interconnects are exponentially increasing, redefining the value of passive components in the system. Currently, there are significant expected differences in the passive component sector in three areas: Expected difference one: Category expansion - moving from "single category" to "platformization." Passive component companies are accelerating the expansion of their product matrices, transitioning from single-category focus to multi-category collaborative platform layouts, progressing simultaneously in breadth and depth. In terms of breadth, passive component companies are accelerating their evolution from traditional single favored products towards a platform layout with multiple categories. In terms of depth, leading companies are extending both upstream and downstream of the industry chain - penetrating into core materials and chip segments upstream, such as T&S Communications promoting the self-production of MT plug cores to bridge key supply chain gaps; and expanding downstream to device and module-level solutions. Expected difference two: Orderly release of production capacity. Due to the continued strong demand brought by the volume of 800G/1.6T high-speed optical modules, the construction of new production capacity by leading manufacturers is progressing orderly. Domestic and foreign production bases are simultaneously expanding production, new capacity is gradually being put into operation and the yield is climbing, leading to a concentrated ramp-up period for the production and delivery capabilities of passive component manufacturers and flexibility in production capacity will open up space for performance realization. Expected difference three: Customer structure optimization. Against the backdrop of sustained strong demand for optical modules and upstream material shortages, leading passive component manufacturers are fully entering the supply chain of major optical module manufacturers, optimizing customer structures. Simultaneously, passive component enterprises have long been positioned as secondary or even tertiary suppliers in the industrial chain, indirectly serving end customers such as CSP cloud manufacturers through communication equipment manufacturers or optical module manufacturers, with profit margins compressed by intermediate layers. With the arrival of the CPO/NPO era, the value and importance of passive components in optical communication is increasing, and passive component manufacturers are expected to achieve a "status transition" similar to that of optical module manufacturers, becoming direct suppliers (Tier1) to customers such as CSP cloud manufacturers. With the resonance of the three expected differences in category expansion, production capacity release, and customer structure optimization, we believe that the quarterly profits of passive component companies are expected to cross from "over 100 million" to "over 200 million", and it will no longer be a short-term pulse of prosperity for a single season, but a systematic and sustainable performance breakthrough growth formed under the overlap of expanding category boundaries, releasing production capacity systematically, optimizing and expanding customer structures. We recommend focusing on passive component related targets such as Suzhou TFC Optical Communication, T&S Communications, Hubei DOTI Micro Technology, Henan Shijia Photons Technology, East Point, EverProX Technologies, Optowide Technologies, etc. We continue to favor the combination of optics, liquid cooling, and space computing power, with the corresponding risk appetites increasing according to the development stage of the industry. We continue to recommend companies in the computing power industry chain such as optical module industry leader Zhongji Innolight, Eoptolink Technology Inc., etc., and also recommend focusing on the "one large and five small" passive component companies Suzhou TFC Optical Communication+Henan Shijia Photons Technology/T&S Communications/EverProX Technologies/Wuxi Taclink Optoelectronics Technology/Hubei DOTI Micro Technology, PIC design Suzhou K-Hiragawa Electronic Technology, and suggest focusing on the domestic computing power industry chain, including the liquid cooling sector such as Shenzhen Envicool Technology, Guangdong Hec Technology Holding, etc. III. Risk Warning: AI development falls short of expectations, computing power demand falls short of expectations, and market competition risks.