Executive Summary / Key Takeaways

• Coherent Corp. is undergoing a strategic transformation under new leadership, leveraging its deep technological moat and leading position in high-growth markets like AI datacom to drive future value creation.
• The Networking segment, particularly AI data center transceivers (800G ramping, 1.6T expected in CY25), is the primary growth engine, demonstrating strong recent performance and robust demand signals, offsetting near-term softness in industrial and telecom markets.
• Management is focused on significant operational improvements, targeting non-GAAP gross margins sustainably above 40% through pricing optimization, cost reductions (including yield improvements), and disciplined capital allocation focused on high-ROI organic growth and accelerated debt reduction.
• A strategic portfolio review has identified non-strategic assets and product lines for divestiture or shutdown, aiming to enhance focus and concentrate investment on core growth and profit engines.
• While macroeconomic uncertainty and specific market softness (industrial, telecom) pose near-term risks, the company's technological breadth, supply chain resiliency, and strategic execution plan position it for long-term growth and profitability expansion.

A Photonics Powerhouse Undergoing Transformation

Coherent Corp., a global leader in materials, networking, and lasers, stands at a pivotal juncture in its over 50-year history. Known for its deep-rooted culture of innovation, the company has evolved significantly, notably through the transformative acquisition of Coherent, Inc. in July 2022. This merger expanded its technological breadth and market reach, positioning it as a vertically integrated manufacturer serving diverse industrial, communications, electronics, and instrumentation markets. However, it also resulted in a complex portfolio, prompting a strategic reassessment under new leadership.

Since assuming the CEO role around June 2024, Jim Anderson has initiated a focused strategic reset centered on three pillars: culture, strategy, and execution. This initiative aims to translate Coherent's foundational strengths – particularly its world-class innovation engine and significant market opportunities – into enhanced financial performance and shareholder value. A key outcome is the recently completed strategic portfolio review, which categorized the company's diverse businesses into Growth Engines, Profit Engines, Long-Term Bets, and Non-Strategic areas. This assessment now serves as the blueprint for future investment and capital allocation decisions, prioritizing areas with the greatest potential for growth and profitability while identifying underperforming or non-strategic elements for divestiture or shutdown.

Central to Coherent's competitive standing is its extensive and differentiated technological portfolio, particularly in photonics for high-speed optical data transmission. The company boasts in-house capabilities spanning VCSELs, EMLs, CW lasers, and silicon photonics. Its Indium Phosphide platform, a capability developed over 20 years, is a critical enabler for EML and CW lasers, essential components for high-speed transceivers and emerging technologies like Co-Packaged Optics (CPO). Management highlights that this capacity is expanding significantly, growing over 3x year-over-year in Q3 FY25, with a 6-inch platform expected to ramp next quarter, promising lower costs and higher volume production. This vertical integration provides a key competitive moat, offering customers enhanced supply chain resiliency and adaptability, a factor increasingly valued in the current geopolitical climate.

Beyond traditional transceivers, Coherent is innovating in next-generation technologies. Its new data center Optical Circuit Switch (OCS) platform, based on field-proven digital liquid crystal technology, represents a significant expansion of its addressable market. This technology offers distinct advantages over mechanical MEMS-based solutions, including much higher reliability and performance benefits by keeping data in the optical domain. The platform received its first customer order in Q2 FY25 and is expected to generate initial revenue in calendar 2025. Furthermore, the company is actively developing 1.6T and 3.2T transceiver technologies, demonstrating key milestones like the 400 gig per lane differential EML, the foundation for 3.2T. This multi-technology approach allows Coherent to deploy the most optimal solution for specific customer applications, reinforcing its position as a comprehensive optical networking technology provider.

In the competitive landscape, Coherent operates alongside rivals like IPG Photonics (IPGP), Lumentum Holdings (LITE), and MKS Instruments (MKSI). While IPGP holds a strong position in high-power fiber lasers, and LITE is a key player in optical components for telecom and datacenters, Coherent differentiates itself through the sheer breadth and depth of its photonic technology portfolio and its vertically integrated model. This enables Coherent to offer end-to-end solutions and greater supply chain control compared to more component-focused or less integrated competitors. While some competitors may hold advantages in specific areas like EML capacity (e.g., Lumentum noted as being significantly ahead by one analyst), Coherent's multi-technology approach and internal capacity expansion efforts aim to mitigate these gaps and capture market share, particularly in the rapidly growing AI datacom space where it is already ranked #2 globally in 800G transceivers after Innolight. The strategic focus on improving operational efficiency, particularly product costs and yields, is critical for Coherent to enhance its profitability metrics, which currently lag some peers, and better compete on cost structure while leveraging its technological edge for pricing optimization in less commoditized markets.

Performance Reflecting Strategic Shifts and Market Dynamics

Coherent's recent financial performance underscores the impact of both market opportunities and ongoing strategic adjustments. For the three months ended March 31, 2025 (Q3 FY25), the company reported revenues of $1.50 billion, a robust 24% increase year-over-year. For the nine months ended March 31, 2025, revenues totaled $4.28 billion, up 26% from the prior year period. This growth was predominantly fueled by the Networking segment, which saw revenues surge 45% year-over-year in Q3 FY25 to $897.3 million and 53% year-over-year for the nine-month period to $2.48 billion. This segment's strength was driven by ongoing strong demand from AI data centers (datacom) and sequential growth in telecom, particularly data center interconnect (DCI).

Despite the overall top-line growth, performance in other segments was mixed. The Materials segment experienced a slight revenue decrease of 1% year-over-year in Q3 FY25 to $236.7 million and a 3% decrease for the nine months to $717.6 million, primarily due to softness in consumer electronics and automotive end markets. The Lasers segment saw a modest 4% year-over-year revenue increase in Q3 FY25 to $363.9 million and a 5% increase for the nine months to $1.09 billion, reflecting healthy demand in display capital equipment (driven by OLED expansion) and semi-cap equipment, offsetting weakness in broad-based industrial applications like precision manufacturing.

Profitability showed notable improvement, albeit from a lower base. GAAP gross margin increased significantly by 491 basis points year-over-year in Q3 FY25 to 35.2%, while non-GAAP gross margin rose 490 basis points to 38.5%. For the nine-month period, non-GAAP gross margin was 35.0%, up 484 basis points year-over-year. These improvements were attributed to higher revenue volume, benefits from pricing optimization, cost reductions, and improvements in manufacturing yields, partially offset by unfavorable product mix. Segment profit, a measure reflecting operating expenses directly managed by the segments, saw substantial increases, particularly in Networking (+79% YoY in Q3 FY25) and Lasers (+123% YoY in Q3 FY25), indicating improved operational leverage within these core businesses.

Operating expenses reflected increased investment in key growth areas and costs associated with strategic restructuring. R&D expenses rose to $150.7 million in Q3 FY25 (10% of revenue) and $426.2 million for the nine months (10% of revenue), primarily due to continued investment in the datacom portfolio. SG&A expenses were $231.4 million in Q3 FY25 (15% of revenue) and $681.0 million for the nine months (16% of revenue). Restructuring charges, stemming from the 2023 and 2025 plans aimed at site consolidations, workforce reductions, and asset write-offs, totaled $73.8 million in Q3 FY25 and $106.2 million for the nine months, impacting reported earnings.

The company's focus on strengthening the balance sheet is evident in its debt reduction efforts. Coherent paid down $136 million in debt during Q3 FY25, bringing the fiscal year-to-date total debt payments to $386 million and reducing the debt leverage ratio (as defined in the credit agreement) to 2.1 times. This deleveraging is a key capital allocation priority alongside funding organic growth engines. The $1.0 billion investment received in Silicon Carbide LLC from Denso and MELCO is restricted for use by that subsidiary for capital expansion, indirectly supporting overall financial flexibility.

Outlook and Key Considerations

Looking ahead, Coherent's guidance for the fourth quarter of fiscal 2025 reflects a continuation of current trends, albeit with some near-term caution in certain markets. The company expects revenue to be between $1.425 billion and $1.575 billion. Non-GAAP gross margin is guided between 37% and 39%, indicating continued efforts towards the long-term target. Total non-GAAP operating expenses are projected between $290 million and $310 million, reflecting ongoing strategic investments. Non-GAAP EPS is expected between $0.81 and $1.01.

The underlying assumptions for the Q4 FY25 guidance include sequential growth in the data center and communications business, driven by the persistent strength in AI-related demand and expected continued sequential improvement in telecom. This growth is anticipated to be partially offset by a sequential decline in the industrial-related end markets, where management maintains a more cautious near-term view due to macroeconomic uncertainty and the potential impact of tariffs. While the guidance comprehends the current tariff policy environment, management does not expect a significant impact in the near term, citing the company's supply chain resiliency and global manufacturing footprint as mitigating factors.

Overall, Coherent expects fiscal 2025 to be a strong growth year, driven primarily by the momentum in its Networking segment. Beyond the near term, the company remains optimistic about its long-term growth prospects. The telecom market, despite current softness, is viewed as a key long-term growth area, particularly with the ramp of new ZR/ZR+ products and DCI opportunities. Similarly, the industrial market is expected to become an important long-term secular growth driver as broader macroeconomic conditions improve and new products gain traction.

However, investors should be mindful of several key risks. The successful execution of the strategic portfolio optimization plan, including the divestiture or shutdown of non-strategic businesses and the integration of acquired assets, carries inherent risks such as higher-than-anticipated costs, disruption to operations, and potential loss of key employees or customers. The company's exposure to international markets and geopolitical tensions, including the impact of tariffs and export restrictions, could create future headwinds despite current mitigation efforts. Furthermore, accurately forecasting demand in rapidly evolving markets like AI datacom and navigating cyclical downturns in industrial sectors remain challenges. The ability to consistently improve gross margins towards the 40%+ target will depend on the effective implementation of pricing and cost reduction initiatives, including achieving targeted yield improvements and optimizing manufacturing asset utilization. The pace of debt reduction, while a priority, is also subject to cash flow generation and potential proceeds from divestitures.

Conclusion

Coherent Corp. is actively reshaping its future under new leadership, strategically focusing its considerable technological prowess and operational efforts on the most promising growth vectors, particularly the burgeoning AI data center market. The company's deep expertise in photonic technologies, coupled with its vertically integrated manufacturing and expanding capacity in critical areas like Indium Phosphide, provides a robust foundation and a competitive edge in high-speed optical networking and other specialized markets. While near-term market dynamics present a mixed picture, with strong AI-driven growth offsetting softness elsewhere, the strategic portfolio optimization and operational efficiency initiatives are designed to enhance profitability and strengthen the balance sheet over time. The path to achieving sustainable gross margins above 40% and accelerating debt reduction is underway, albeit requiring diligent execution. For investors, Coherent represents an opportunity to participate in the growth of foundational technologies underpinning major secular trends like AI and advanced manufacturing, balanced against the complexities of portfolio transformation and macroeconomic uncertainties. The success of the strategic reset and the continued leverage of its technological leadership will be key determinants of long-term value creation.