Operator: Good afternoon, everyone, and welcome to AXT's third quarter 2026 financial conference call. Leading the call today is Dr. Morris Young, Chief Executive Officer, and Gary Fischer, Chief Financial Officer. In addition, Tim Bettles, VP of Business Development, will be participating in the Q&A portion of the call. My name is Tracy, and I will be your coordinator today. I would like to now turn the call over to Leslie Green, Investor Relations for AXT. Leslie, please go ahead.
Leslie Green: Thank you, Tracy, and good afternoon, everyone. Before we begin, I would like to remind you that during the course of this conference call, including comments made in response to your questions, we will provide projections or make other forward-looking statements regarding, among other things, the future financial performance of the company, market conditions and trends, emerging applications using chips or devices fabricated on our substrates, our product mix, global economic and political conditions, including trade tariffs and import and export restrictions, ability to obtain China export permits, timing and receipt of export permits, our plan to list our subsidiary, Tongmei, in Hong Kong, the closing of the intended investment into Tongmei by a leading Asia-based asset manager, our ability to increase orders in succeeding quarters, to control costs and expenses, to improve manufacturing yields and efficiencies, or to utilize our manufacturing capacity.
Leslie Green: We wish to caution you that such statements deal with future events, are based on management's current expectations, are subject to risks and uncertainties that could cause actual events or results to differ materially. In addition to the matters just listed, these uncertainties and risks include, but are not limited to, the financial performance of our partially owned supply chain companies and increased environmental regulations in China. In addition to the factors just mentioned or that may be discussed in this call, we refer you to the company's periodic reports filed with the Securities and Exchange Commission. These are available online by link from our website and contain additional information on risk factors that could cause actual results to differ materially from our current expectations. This conference call will be available on our website at axt.com through 29 October 2028.
Leslie Green: I also want to note that shortly following the close of market today, we issued a press release reporting financial results for the third quarter of 2026. This information is available on the investor relations portion of our website at axt.com. I would now like to turn the call over to Gary Fischer for a review of our third quarter results. Gary?
Gary Fischer: Thank you, Leslie, and good afternoon to everyone. Our financial results highlight the continuing inflection in our business trajectory in the early stages of a multi-year growth phase for AXT. Revenue for the third quarter of 2026 was $73.4 million. This is an increase of 54% from $47.6 million in the second quarter of 2026, and an increase of 162% from $28.0 million in the third quarter of 2025. To break down our Q3 2026 revenue for you by product category, indium phosphide was $54.3 million, primarily from data center applications. Gallium arsenide was $9.1 million. Germanium substrates were $344,000. Finally, revenue from our consolidated raw material companies in Q3 was $9.7 million. The top five customers generated approximately 35% of total revenue, and one customer was over the 10% level.
Gary Fischer: Gross margin showed continued gain in Q3, driven by an increase in total volume and a favorable product mix. In addition, market prices for indium phosphide have increased, and a shift from 3-inch to 4-inch wafers has also contributed. Morris will give more color on this in a moment. Non-GAAP gross margin was 56.1%, compared with 45.0% gross margin in Q2, and 22.4% gross margin in Q3 of 2025. For those who prefer to track results on a GAAP basis, gross margin in Q3 is 56.0%, compared with 44.9% in Q2 and 22.3% in Q3 2025. Moving to OpEx, our total non-GAAP operating expense in Q3 was $11.7 million, compared with $10.2 million in Q2 and $6.7 million in Q3 of 2025.
Gary Fischer: On a GAAP basis, total OpEx in Q3 was $12.7 million, compared with $10.9 million in Q2 of 2026 and $7.3 million in Q3 of 2025. Our non-GAAP operating profit for Q3 of 2026 was $29.5 million or 40.2% of revenue, compared with a non-GAAP operating percent in Q2 of 2026 of $11.2 million and a non-GAAP operating loss of $384,000 in Q3 of 2025. For reference, our non-GAAP operating line for Q3 of 2026 was a profit of $28.4 million or 38.7% of revenue, compared with an operating profit of $10.4 million in Q2 and an operating loss of $1.1 million in Q3 of 2025. Non-operating income and expense and other items below the line of the operating line for Q3 of 2026 was a net loss of $2.7 million.
Gary Fischer: The details can be seen in the P&L included in our press release today. We are pleased to report a non-GAAP net profit of $26.8 million, or $0.41 per diluted share. This compares with a non-GAAP net profit of $11.9 million or $0.19 per share in Q2 of 2026. Non-GAAP net loss in Q3 of 2025 was $1.2 million or $0.03 a share. On a GAAP basis, net profit in Q3 was $25.7 million, or $0.39 per diluted share. By comparison, net profit was $11.1 million or $0.17 per share in Q2 of 2026. GAAP net loss in Q3 of 2025 was $1.9 million or $0.04 per share. The weighted average diluted shares outstanding in Q3 was 65.9 million. Cash equivalents and investments increased by $77 million to $825.9 million as of 30 September.
Gary Fischer: By comparison, at 30 June, it was $748.8 million. Accounts receivable increased by only $3 million. In Q3, DSO improved to 49 days as a result of multiple customer prepayments. During Q3, we signed a long-term supply agreement with Lumentum. Under the terms of the agreement, we received a prepayment for wafers of $43.5 million. This type of agreement with significant upfront cash is an additional signpost regarding the important use of indium phosphide for high-speed optical data transmission required in the AI data centers. This prepayment is posted on our financial statements as a liability and will be converted to revenue as we ship products against the agreements. Depreciation and amortization in Q3 was $2.6 million. Total stock comp was $1.1 million. Net inventory was up by approximately $7.4 million in Q3. This concludes the discussion of our financials.
Gary Fischer: Before I turn the call over to Morris, I want to note that yesterday we announced that our majority-owned subsidiary, Tongmei, has entered into a definitive agreement for private equity financing, selling its own shares, not AXT shares, to provide RMB directly into its operations. This is an exciting milestone for Tongmei as it works towards a public offering on the Hong Kong Stock Exchange. Funds will be used to advance capacity expansion for indium phosphide wafers at a time when demand for these wafers is outpacing supply. Proceeds will also be used to increase capacity at our raw material companies in China. Assuming the maximum amount of the investment at $545 million, AXT will maintain control of Tongmei with approximately 73.4% ownership, down approximately 12.1% following the completion of the transaction. This transaction turns the spotlight on Tongmei, reflecting its substance and generating momentum towards the future.
Gary Fischer: Finally, as previously stated, Tongmei is proceeding with its efforts towards a listing on the Hong Kong Stock Exchange. We continue to believe that an IPO in China is highly beneficial as expanding both the substrate and raw material capacity in China is the most efficient way to support the rapidly evolving AI infrastructure build-out. Okay, thank you. With that, now I will turn the call over to Dr. Morris Young for a review of our business and markets. Morris?
Morris Young: Thank you, Gary. This is a pivotal and exciting period for AXT. As Gary noted, our business has reached an inflection point driven by exceptional strong customer demand for our indium phosphide material, which seems to increase with every review cycle. We entered 2026 with a commitment to double our indium phosphide capacity, and I am pleased to report that we surpassed that goal in August and continue our expansion as an ongoing effort. We are currently in the design phase of converting a newly acquired adjacent building for indium phosphide production, with work expected to begin within the next several months. Even with more significant events, our revenue opportunity in indium phosphide has more than quadrupled in 2026 from where we were coming into the year. We are expecting substantial additional expansion also in 2027. Three key developments are fueling this progress.
Morris Young: First, as I mentioned, we are aggressively adding capacity to address the massive market opportunity. Second, new proprietary crystal growth furnace designs are delivering meaningful gains in manufacturing productivity and output. Third, customers are transitioning to large diameter substrates and higher value products. Together, these developments are creating a step change in our revenue potential. We have well surpassed our historical record levels for both indium phosphide revenues and corporate revenues. We are in brand-new territory, with backlog now above $500 million, including long-term multi-year agreements, short-term contracts of less than 12 months, and spot purchase orders. Demand remains ahead of supply, even as we accelerate the pace of our capacity addition. According to AI data center markets, the need for optical connectivity is growing rapidly. As hyperscalers deploy increasing GPU dense systems, they require faster, more powerful, efficient photonics to move enormous volume of data.
Morris Young: Today, the transition to 800G and 1.6T transceiver modules is generating strong demand for indium phosphide-based lasers and detectors that enables these high-performance optical links. Looking further ahead, the industry is moving towards near packaged and co-packaged optics, which should expand the role of our material even further. Taken together, these developments support a sustained build-out of high-density optical infrastructure and multi-year growth opportunities for our indium phosphide business. As many of you are aware, the competitive landscape for high-quality indium phosphide is limited to just a few players, due primarily to the very high technical barriers to entry and the ongoing difficulty and sensitivity of crystal growth and proprietary processes technologies. Among our peers, we believe AXT is in the strongest position to scale our business for massive industry growth, while continuing to meet the most stringent performance requirement for high-speed data center AI connectivity.
Morris Young: Case in point, we continue to make great strides in development of our 6-inch indium phosphide capability. Our 6-inch lines are now moving to pilot production line status, with productivity increasing steadily. We believe this further differentiates us from our field of competitors and puts us in a leadership position for next generation devices. I want to thank our customers who are partnering with us throughout this process. We are excited to support them as we move forward with our own capability. Looking at demand by region, the large scale build-out of AI infrastructure in the United States, as well as in the significant capital investment plan for cloud services and AI platform providers, is driving strong demand for EML and silicon photonics-based optical transceivers and high speed photodetectors, with developing demand for CW lasers for scale-up applications.
Morris Young: We believe our material are already deployed across multiple US hyperscalers, and we expect adoptions among the customers to continue to expand. China is also emerging as an important growth market as it accelerates investment across the AI supply chain. Our revenue into China indium phosphide-based laser market increased strongly again in Q3, and all of our customers there remain on allocation. This momentum reflects China's growing role in building AI infrastructure for the global market and represents a compelling opportunity for AXT, particularly because shipments within China do not require an export license. Turning to gallium arsenide. Several of our key customers are now showcasing slow and wide VCSEL lasers for data center applications based on both 6 and 8-inch gallium arsenide.
Morris Young: We believe this can be exciting future market for AXT, and we are in a pole position as the world leader in both 6 and 8-inch gallium arsenide substrates. In Q3, demand for both semi-insulating and semi-conducting material across wireless devices, industry robotics, and data center lasers applications grew sequentially from the prior quarter. We do expect several of them to be seasonally down in Q4, but we continue to see opportunity for market share expansion in the continuing year for our gallium arsenide substrates. Finally, our raw material business continued to be highly strategic to our growth plan. Our subsidiary, JinMei, is now refining high-purity indium, which gives us direct control of a guaranteed supply of yet another critical material for our indium phosphide substrates. We are also investing to help JinMei to expand their capacity so that AXT can depend on them on our growth.
Morris Young: JinMei will continue to provide a meaningful portion of our raw material requirements. We will continue to invest in our portfolio as we believe it is a major competitive differentiator. In summary, AXT is operating from a position of growing strength at an important moment for our industry. Demand for indium phosphide continues to exceed supply, and we are moving quickly to expand our capacity, improve our productivity, and advance large diameter substrates. We always believed that indium phosphide would represent a big opportunity for AXT, but I can honestly say we did not expect it to be so big. We are happy to see it, and we are also humbled by it. Through the years, we have created a great product to serve the market. As I have said, we are stepping up to embrace this massive opportunity. We are off to a fantastic start and remain laser-focused on execution.
Morris Young: We believe we are well positioned for transformational growth as our market continues its extraordinary trajectory. With that, I would turn the call back to Gary for our Q4 guidance. Gary?
Gary Fischer: Thank you, Morris. As of today, we have approximately $90 million in revenue that can be realized in Q4 across our substrate product lines and raw materials, for which we either already have a permit to ship or for which a permit is not required. We have a high degree of confidence in recognizing this revenue in Q4. We have delivered strong gross margin improvement over the past several quarters and are very pleased with the progress. Further improvement depends on a number of factors, including total revenue as it relates to revenue, mix by product, absorption of fixed costs, and our ability to continue to drive better manufacturing efficiency. With regards to operating expense, we expect that it will be approximately $13 million in Q4 on a non-GAAP basis and approximately $14 million on a GAAP basis.
Gary Fischer: With these factors in mind, we believe our non-GAAP net income will be in the range of $0.57 to $0.59, and GAAP net income will be in the range of $0.56 to $0.58. We estimate the share count for Q4 will be approximately 66.1 million shares. Okay, this concludes our prepared comments. We will be glad to answer your questions now. Tracy?
Operator: We will now begin the question and answer session. If you would like to ask a question, please press star one on your telephone keypad now. To withdraw your question, press star one again. Please pick up your handset when asking a question to allow for optimum sound quality. If you are muted locally, please remember to unmute your device. Please stand by for a moment now while we compile the Q&A roster. Your first question comes from the line of Richard Shannon with Craig-Hallum. Your line is open. Please go ahead.
Richard Shannon: Well, great. Thanks, Morris, Gary, and Tim for taking my questions, and I will congratulate you guys again on another very strong quarter. Keep up the great work here. My first question is on gross margins. We have had a discussion the last few conference calls, particularly the last one, about how high they could go, and you were suggesting they could get above 50%, and you cleared that significantly here. Gary, you gave us a little bit of language here how to think about it going forward. But I did not have enough time to run through your guidance through a model to see where this might be aiming here. So I would love for you to discuss gross margins, particularly in the context of what is built into your guidance up, down, flat, as well as whether it can go up meaningfully from here.
Richard Shannon: If you can touch on some dynamics here about the things that you touched on the call here, like wafer diameter increases here to the degree to which you have customers that are on contracts or spot pricing, ASP trends, et cetera. If you could help us kind of delineate all that would be great. Thank you.
Gary Fischer: Yeah. We thought about this in advance, and I am glad to make comments, and Tim and Morris are prepared to add a little more depth and color. As usual, the gross margin is hugely driven by volume, which we have always said, and it is hugely driven by mix. By that we mean that since indium phosphide is a profitable product for us, the more indium phosphide we have, the happier we are in terms of gross margin prospects. So those are the two baseline variables that are fundamental. As we look at the recent developments, we are also looking at productivity improvements. What I would say, and I have a manufacturing background, but good manufacturing companies should improve if volume goes up because you get a larger database. You can use statistical process control from a larger database to modify your processes.
Gary Fischer: Our business model is extremely intensive in terms of process technology and process steps. These higher volumes are helping us become more efficient. That is a third element besides volume and mix. A fourth element that you also listed is customers moving to higher value, larger diameter substrates. What is happening is that we have a history of migration. When Morris started the company, the wafer size for gallium arsenide and indium phosphide was 2 inches. Over the decades, we have migrated to 3-inch, 4-inch, and in the case of indium phosphide, we are now moving to 6 inch. As we move up, because there is more real estate in a 4 inch than there is in a 3 inch, obviously the price goes up, but it just opens up a dynamic in which the customer expects the price to go up. They are not surprised.
Gary Fischer: It is easy to agree on a fair price. The larger diameter substrates also have a higher ASP, which becomes another element. Six inch right now is not impacting much, but next year it will. Let me have Tim and/or Morris fill in some of the blanks here.
Tim Bettles: Yeah, I want to add a few points on productivity as well. Morris mentioned that we are moving to a new generation of crystal growth furnace. This has been brought out really for the development and manufacturing of 6-inch indium phosphide. What we are seeing with this new technology is a significant increase in productivity as we move forward. It not only enables us to move more efficiently from 2 inch to 3 inch, and then 3 inch to 4, and eventually 6. But as we do that, it gives us much greater productivity in doing so. That is going to help the gross margin significantly as we employ more and more of these new generation furnaces. It is really going to set us apart from the competition and give us a massive lead on this technology.
Morris Young: Yeah. Let me add two added points. I think one of the things which we saw a significant customer yesterday, and they were asking us, Tim, on the much better EPD requirement on their high-power laser. That is music to our ears. In other words, low EPD is our forte. If they have a higher requirement for lower EPD, then there is less competition, and there is a premium to the price. That adds to our gross margin. Okay. Also is the larger diameter, a 6-inch. Of course, when we first were to ramp, we do expect productivity or yield to be low, but as we add more furnaces, we expect the yield improvement to expand significantly going forward. Lastly, but perhaps not very significant, is the raw material prices going up significantly.
Morris Young: We are going to have some deduction on that side, but I think as you sum up all the other things that we are gaining, our efficiency, productivity, low EPD, et cetera, it overwhelms this increase in our raw material cost.
Gary Fischer: Richard, one more thing. I guess I would say, you and I have known each other for even longer than I have been in my 12 and a half years at AXT, but you probably never would expect me to say something like this on an open call, but I do think our gross margin will go up some more. I do not think we have peaked, and I think it is reasonable to expect that it could begin with a six in the next quarter. Not a high six, but all of the things that we just described in terms of efficiency and migration and sizes and things like that, it is a work in progress. It should have a natural effect.
Richard Shannon: Okay. Thanks for all that perspective. Let me ask one more question, then I will jump on the line here, and that is on capacity. Sounds like you have had some great progress in expanding capacity faster than expected. You were asked a question on the last call about what your indium phosphide revenue potential will be exiting both this year and last year, and if I wrote down the numbers correctly. Where did I put those things? I forgot what they are, but I think they were maybe 60 and then 130 each of the next two years. Sounds like it is a lot higher than that. Can you quote what your expected potential indium phosphide revenue capacity is exiting this year and next?
Tim Bettles: Yeah. I can give some idea on that. It is a lot higher than we had projected recently, of course. That is in part because of this migration to larger wafer sizes. It is also in part to an increase in ASPs. We have been building out an ASP plan as we move forward. in Q3, we recorded an indium phosphide revenue of $54.3 million.
Gary Fischer: Yeah.
Tim Bettles: And that is probably going to go up in Q4. Total projection of Q4 being around the $90 million mark. I would anticipate that the split of indium phosphide, all of the growth is going to be indium phosphide.
Gary Fischer: Yeah.
Tim Bettles: So you should probably think about adding all of that additional onto indium phosphide. Then we will just see continued growth into next year.
Richard Shannon: Okay. Appreciate that detail, guys. I will jump on the line. Thank you.
Tim Bettles: Thank you.
Operator: Your next question comes from the line of Charles Shi with Needham. Your line is open. Please go ahead.
Charles Shi: Hi. Thanks for taking my question. Morris, Gary, and Tim, I think this is probably a high-level question, because from time to time, there are some chatters within the investment community. They have a view on where things are going, and the most recent thing seems to be that they are worried about AXT adding a good amount of capacity, and that could lead to overcapacity for indium phosphide substrates next year. I am not sure if I buy that, because it kind of mimics what we heard about HBM overcapacity into late 2024. That is a high-growth market, and supply is getting a little ahead. I do not think that really is a big worry. But you guys know the forecast, customer forecast. You guys have intelligence into what your competitors are doing. You guys know what you are doing, how much capacity is going to be added.
Charles Shi: Mind if you address this question here, and provide us your insights on this whole supply/demand situation, maybe into next year? Thank you.
Tim Bettles: Yeah. Hello, Charles. As we stand right now, we are significantly overbooked. All of our customers are on allocation. The market out there, every month, we see additional growth. As we look at our capacity moving into 2027 and then beyond into 2028, the opportunities for us here and the demand for us outstrips any capacity that we can put in place. The demand is just growing faster than we can add capacity today. We are seeing this, as we have pointed out, Morris has already pointed out, with long-term multi-year agreements, short-term contracts of 12 months or less, and then spot orders. Again, every customer is on allocation right now. It is impossible to keep up with demand. Even long-term supply agreements that we are having off of customers, we are being asked to increase 2X or 3X.
Tim Bettles: The plans that we have to, again, quote, "Double our capacity" in 2027, I am not sure we will even get our head above water with 2027. I can tell you as far as competition goes, I believe that we are still the leaders out there. We are certainly one of the fastest to grow capacity on indium phosphide. But Morris has just made an excellent point, and we have been saying this for years. Our low EPD substrates give us a massive value proposition advantage against our competition. As product moves towards high power CW lasers and UHP lasers for scale out and scale up, low EPD, low defect density is absolutely essential for high laser bar yield and high reliability. AXT offers the world-class in that marketplace.
Tim Bettles: Customers are turning to us not only because we are the fastest to build out capacity, they are turning to us because our value proposition model is stronger than anyone else's. Worries about adding capacity through next year? No, I do not have any.
Morris Young: Well, let me add a few points. Let me give you an angle from the Chinese competitors. Indium phosphide substrate is really hot. Last I heard, there are a number of new entries in China market wants to get into indium phosphide substrates. Do I worry about them? I really do not think I do. I tell you the reason. Indium phosphide is not an easy material to work with. We worked with it for 40 years, and we know how long it took us to grow from 2 inch to 3 inch, and that 3 inch gradually to 4, and we are moving to 6. The EPD level, although it is highly technical, when we first enter into a major laser maker in the US market, their requirement of EPD is less than 500. Now we are delivering less than one tenth of it. Okay?
Morris Young: I think those just takes time and really experience to advance. We are not standing still, and we are advancing. I think to give you more assurances, I think HBM or the storage device market, I believe, does not have as high an entry barrier as the indium phosphide is. Okay? I think I am reasonably confident about this, at least for the next 2 years. 3 years out, it is hard to say. But yesterday we were talking to a major customer of ours. They were telling us, instead of the market is to expand by 20x, they are telling me actually it is 1,000x. I do not know how it comes to that, but it started with scale across, scale out, scale in, and scale up. Every level is almost a 10x increase, and optical connectivity is at the heart of it.
Morris Young: My answer is, I do not think we are going to reach that point. Ask me next year, perhaps, that we worry about it, and hopefully we still do not have to worry about it.
Gary Fischer: Yeah. Let me summarize. We have a long look forward, and we pay attention to it. It is visible all the way up to our board level. As CFO, I am not at all worried about 2027 CapEx. I know it is less than is going to be needed. I feel the same about 2028. Those 2 years, what we are planning to spend, I think is very reasonable, and I do not think it is going to be overspending. When we get closer to 2029, we need to look at that. We are grown-ups on this stuff. We are going to measure it and pay attention to it.
Charles Shi: Thank you. Maybe I will ask a second question. If I heard you correctly, I think you announced the second supply agreement with Lumentum with the I forgot the exact amount, but going to Q2, you had another agreement. Is this a follow-on agreement, an expansion of the previous agreement or something else? Related to that, I think I heard you talking about backlog is now over $500 million. It was over $100 million, I think, a quarter ago. Probably 4x-ish, maybe 5x expansion of the backlog over the course of last maybe 90 days. Mind if you give a little bit color? Those are kind of related. That is a two-part question. Thank you.
Tim Bettles: Got you, Charles. No, the Lumentum contract is the contract that we signed in Q3. It is not a double up, it is not a secondary. It is the one that was signed and announced earlier in Q3. We are just reiterating that for the course of this conference call. As backlog goes, obviously we mentioned before that we are more than $100 million. We are a little bit vague on exactly how much more than $100 million that we were, but now we are happy to say that as we see growth, we have surpassed the $500 million barrier. That is made up of a number of things in terms of long-term supply agreements, again, short-term, 12 months or less supply agreements and spot POs that go through 2027.
Tim Bettles: So really that just gives us more encouragement and gives us more confidence that we are seeing growth into the rest of 2026 and through into 2027 with some significant backlog there. I will make another noteworthy change here, and that is the demand from China is increasing in a significant way, right? Historically, we have built and shipped for China because we do not need permits. Again, everybody is now on allocation. We are accepting backlog as we see this, but we are also seeing a longer lead time, out 9 plus months on a lot of this stuff. As we see longer lead times, we see more of these supply agreements. We see more demand coming this way. The backlog is just going to grow.
Charles Shi: All right, thank you.
Tim Bettles: Thank you, Charles.
Operator: Your next question comes from the line of Tim Savageau with Northland Capital Markets. Your line is open. Please go ahead.
Tim Savageaux: Hey, good afternoon and congrats on the results and outlook and especially on the backlog increase. First question, taking the discussion back to gross margins and where you can go there. Doing that math, I think you are solidly into the 60s in terms of where you are guiding. Your incremental gross margins in Q3 were 77%, which is pretty significant. Gary Fischer, I know you are hesitant to talk about where these margins can go over time, but to the extent we were talking about lower levels just a few quarters ago, is it fair to look at that 60% level as a new baseline with upside potential given what you are seeing on incremental gross margins, or how are you looking at that now?
Gary Fischer: Well, it is hard to comment. It gets into a vocabulary that is so strange for me. We do not want the horse to run away and get out of the racetrack and just be way ahead of us on our comments to you. It is pretty obvious that we are going to cross over 60%. I have to say, and I do not mean it in a dodging way, but it is fast moving change. We are hesitant to predict because things are moving so fast.
Morris Young: Let me add perhaps to this point is the moving market. I tell you, this year, the fastest growth segment in 2026 was 3 inch. Next year, the high growth we expect is going to be 4 inch. That is more of a new territory.
Tim Savageaux: Yeah.
Morris Young: Okay? High power laser require low EPD, and again, that is a new territory. 6 inch is going to be, although it is still going to be single digits for 2027, but it is going to grow, and that is going to command a good gross margin. Yeah.
Tim Savageaux: Got it. Thanks. Looking at the revenues, the results, and the guidance, I know it seems like you have incorporated a significant portion of the long-term agreements in your backlog. I guess if you look at Q3 and the guide for Q4, how significant a contributor are the initial ramps of those long-term agreements to what you saw in Q3 and are guiding for in Q4?
Tim Bettles: Yeah, we are definitely starting to see some contributions coming from the long-term supply agreements in Q3, Q4, sorry. That will continue to build as we go into 2027. I want to make a point in that when we talk about the long-term supply agreements, we do not have a whole lot of them at the moment. They are not a big part of our backlog. So although some of them extend out for several years, the LTSAs are still a relatively small percentage of the multi-year LTSAs, still a relatively small part of our capacity as it goes forward. A lot of this is still being built up on spot purchase orders, annual contracts, that type of stuff, that, as I said before, our lead time is increasing, so it just keeps on adding to that backlog as we accept orders.
Gary Fischer: Tim, I would say that Tim and Morris and our VP of Asia, Suban, they have kind of pulled back on formal long-term agreements, and we do not want to lock up in that way. So we are maintaining flexibility. We are making commitments beyond 90 days or beyond six months, but we want to protect on price, and we also want to protect our ability to, if we can do more or do less, we do not want to be locked in. The point is, we are not going to be announcing multiple long-term agreements. There may be some more, and plenty of customers want us to sign up for them, but it is not what we think is the right strategy for AXT.
Tim Savageaux: Understood. That was going to be my next question. So, that is good. So Tim, you are saying backlog is up $300 or $400 million sequentially, that that is not majority or even materially driven by LTAs. That is just kind of run rate business?
Tim Bettles: Yeah, that is correct. That is run rate business.
Tim Savageaux: Yeah. That is extraordinary. Okay, I will pass along.
Tim Bettles: Thanks, Tim.
Operator: Your next question comes from the line of Matt Bryson with Wedbush Securities. Your line is open. Please go ahead.
Matt Bryson: Hey, thanks for letting me ask a question, and congrats on a great quarter. I have one longer one and one quick one. For the longer one, it seems like low EPD and your ability to deliver larger substrates is a substantial advantage. Is there any more color you can give us around what portions of shipments might be 4 inch and above? Or if there is rule of thumb that we can think about in terms of either pricing or gross margin benefit that you get from shifting from 3 inch to 4 inch to 6 inch? And then, I guess, also part of that, what portion of your competitors are able to deliver 4 inch or 6 inch substrates at this point? Thanks.
Tim Bettles: Yeah. Thanks, Matt. The majority, if you are looking at pure wafer volumes, the majority of the business has transitioned to 3 inch. A lot of the non-China business has been on 3 inch for a long time. And we are seeing a lot of the Chinese business move up into the 3-inch wafer size. We saw a couple of years ago that we started to see a transition. We made an announcement that we were seeing a 4-inch substrate going into AI type data centers. And this was predominantly for detector material, photodetector material, which obviously we continue to see that. That has been the market driver for 4 inch so far. And a lot of the photodetector material, especially the high speed photodetector material, is now firmly based on 4 inch.
Tim Bettles: What we are going to see next year, and we are starting to see that transition in Q3 and Q4 this year, is a lot of the laser material is now going to also transition to 4 inch. In 2023, sorry, 2023. In 2026, a lot of the business is running on 3 inch for lasers, 4 inch for detectors. In 2027, we are going to see a big shift as we go through the year. And I think towards the end of the year, we could be looking, if you are looking at wafer volumes, just single wafer volumes, you could be looking at something equal in 3 inch and 4 inch by the end of the year. This does give us a significant ASP boost. It also gives us a significant gross margin opportunity here as well. What can our competitors deliver? It is variable, right?
Tim Bettles: A lot of them still are stuck predominantly on 3 inch. The move to 4 is, especially on the laser material, and especially keeping the high quality, low defects material, is incredibly challenging.
Tim Bettles: Morris said we've spent decades on building this up, and the move to 4-inch in itself is a huge challenge, let alone the move to 6-inch. I mentioned earlier that we've got this new furnace, this new crystal growth furnace. This gives us massive productivity improvements, not just on 6-inch. It's not just there for 6-inch. It gives us massive productivity improvements for 4-inch laser-type material as well. As we build out new furnaces, we're going to be really heavily focused on putting the new design furnace in there with a real commitment on scaling from 3-inch to 4-inch and then to 6-inch beyond 2027. I think, as you look into 2027, we're going to see a meaningful number coming from 4-inch, and you're going to start to see 6-inch come on board, and I think we're leading the game there.
Morris Young: Yeah, I think one of Matt's question we have not answered is how many competitor can provide 4-inch and 6-inch. I think 4-inch is a bit harder to answer, but I think 6-inch so far. Actually, I think we're climbing very fast, right?
Tim Bettles: Yeah.
Tim Bettles: But I think other than us, there's a company called S, and they are probably now equal to us, and the third is a very distant third.
Tim Bettles: Yes. Yes, there's two main players at 6-inch.
Morris Young: But one of the key points for us is we are adding a huge number of capacity all based upon 6-inch, and we are glad that it is going into pilot production now. Go ahead, Matt.
Matt Bryson: Awesome. Thanks for all the color. I just have one other quick one. Going back to Richard's question around capacity. I know initially, I think you guys had talked about being able to double indium phosphide capacity in 2027. Is that still roughly how we should be thinking about things, that from Q4 2026 to Q4 2027, we should be thinking about-
Morris Young: Well-
Matt Bryson: those numbers roughly double?
Morris Young: The challenge is this. I think we are going to be more than double in 2026. So if you take end of 2025 as one, we are probably going to be at 2.75 or three at end of 2026, right? I think right now our goal is to double again in 2027. Hopefully by mid-year, we can tell you we are still ahead of the planning.
Matt Bryson: Awesome. That's really helpful, Morris. Thank you so much.
Morris Young: Sure.
Operator: There are no further questions at this time. I will now turn the call back to Leslie Green for closing remarks.
Leslie Green: Thanks, Tracy, and thank you all for participating in our conference call. We will be participating in the UBS Global Technology and AI Conference and the Northland Growth Conference in December, as well as the Needham Growth Conference in January. We hope to see many of you there. As always, please feel free to contact us if you'd like to set up a call. We look forward to speaking with you in the near future.
Operator: This concludes today's call. Thank you for attending. You may now disconnect.
