Zhongji Xuchuang announced financial results for the fiscal year 2023 and the first quarter of 2024, which generally exceeded our expectations and that of the market. The company's revenue for fiscal year 2023 increased 11.2% year over year to RMB 10.7 billion, and net profit increased 77.6% year over year to RMB 2.2 billion. Revenue for the first quarter increased 163.6% year over year to RMB 4.8 billion, and net profit increased sharply by 303.8% year over year to RMB 1 billion. The company's outstanding performance was mainly due to strong demand for its high-speed optical modules (particularly 400G and 800G), which accounted for more than 90% of total revenue in FY2023. We raised the target price of Zhongji Xuchuang to RMB 183, corresponding to the predicted price-earnings ratio of 30 times in 2024, and maintained a “buy” rating.

Strong 400G optical module shipments drove revenue growth in the first quarter; 800G optical module shipments are expected to increase quarterly this year. Benefiting from strong overseas demand, the company's revenue in the first quarter increased 164% year over year and 31% month over month. We expect that with the scheduled expansion of the company's production capacity (supply side) and the continued investment of high-tech companies in AI infrastructure (demand side), the company's 800G optical module shipments will accelerate from the second quarter of this year. At the same time, management pointed out that the company's 1.6T products are currently being certified by key overseas customers. It is expected that certification will be completed in the second half of this year and will enter the customer order process. The company expects to see an increase in scale starting in the second half of the year.

Zhongji Xuchuang's growth in the first quarter showed that 1) the company was less than expected due to supply chain bottlenecks, and high-speed optical modules were delivered normally; 2) AI demand will continue to be strong. We raised the company's revenue forecast for 2024E/25E by 25%/44%, respectively. Meanwhile, due to the decline in gross margin in the first quarter, we slightly reduced 2024/2025E gross margin by 0.2/0.3 percentage points. Reasons for the decline in gross margin include:

1) The impact of factors such as changes in the company's high-speed optical module product portfolio structure in the first quarter (400G accounts for a relatively high proportion), and 2) product pricing adjustments at the beginning of the year. Overall, we expect the company's gross margin to improve quarterly as shipments of 800G optical modules accelerate. We are optimistic that the company's overall gross margin will remain at 33.8% in 2024.

Maintaining the “buy” rating, the target price was raised to RMB 183. We raised our revenue forecast for 2024E/25E by 25%/44% and our net profit forecast by 35%/59%. The new target price is based on the 2024E 30-fold forecast price-earnings ratio, which is close to the 5-year historical average forward price-earnings ratio (29x). We are optimistic about the company's future development. The reasons include: 1) demand for 400G/800G optical modules from large cloud vendors is still strong; 2) supply bottlenecks for key components have been improved, and the company is expanding 800G optical module production capacity; 3) this pricing adjustment is better than expected; 4) exchange rate impact (85% of the company's revenue comes from overseas). In summary, we believe that Zhongji Xuchuang is one of the core beneficiaries of the AI investment wave. Considering its leading position and first-mover advantage in the optical module market, we believe that the company's future business growth rate will maintain strong growth.