The optical communications industry entered 2020 with a very strong momentum. Demand for DWDM, Ethernet, and wireless fronthaul connectivity surged at the end of 2019, leading to shortages in the supply chain. In Q1 2020, the COVID-19 pandemic forced factories to shut-down around the world and stress in the supply chain was elevated to a whole new level. Most component vendors have reported lower than expected revenues for Q1 2020, but Q2 surprised us with new record sales. The market for optical components and modules set a new record in 2020 despite lower slightly sales reported for the last two quarters of the year.
Q1 2021 was seasonally slow, but the sales of optics set new record in Q2 of this year, despite continuing shortages in the supply chain. The transceiver market is on track for another year of double-digit growth (12%-16%) in 2021, after increasing by 23% in 2020. Demand for optics is strong across all market segments. Bottlenecks in the global supply chain probably created some extra demand and certainly moderated price declines, contributing to higher-than-expected growth in 2021 sales and an increased forecast for 2022-2026, illustrated in the figure below.
The latest forecast projects a 14% CAGR in 2021-2026 compared to 10% in the forecast published in April 2021. Strong sales of DWDM and Ethernet optics accounted for most of the gains last year and these segments are projected to lead the growth in 2021-2026. Sales of optical interconnects, mostly Active Optical Cables (AOCs), will also increase at double digit (10%) CAGR over the next 5 years, but all other segments are expected to remain flat.
Cloud companies have had increasing influence on the optical transceiver market as their spending on servers, network equipment, and other property and equipment has grown much faster than that of CSPs and enterprises. The top 5 cloud companies already account for nearly 50% of global sales of optical transceivers, but growth in demand for optical connectivity from these companies continues to surprise us.
Spending of the Top 15 Cloud companies is on target to set a new record this year and probably exceed the combined spending of Top 15 Telecom service providers for the first time. Service providers are also reporting growth in 2021 revenues and their spending is on target to increase at least 5% this year, but this trend is dwarfed by 35-40% ramp in spending of the Cloud titans.
The pandemic accelerated adoption of Cloud applications, making a significant positive impact on growth in revenues and spending of ICPs. Cloud companies continue to invest heavily into new applications, such as virtual reality, powered by AI. For example, Facebook disclosed in October 2021 that it plans to spend $10 billion on the development of augmented and virtual reality apps in 2021 and increase their total capital expenditures by 50% in 2022. The architecture of AI clusters is still evolving, but it seems to require at least as much optical connectivity as “regular” DC clusters, supported by a multi-layer switching network.
It is hard not to get overexcited with all these developments, but we cannot afford to ignore all the challenges faced by the Cloud companies and continuing macro-economic uncertainty.
Investigations into business practices of the most successful Cloud companies continue in China, Europe and the United States. Uncertainly related to the outcome of these investigations and restrictive government policies already made a negative impact on business and investments of the largest Chinese Cloud companies. There is probably more to come.
US sanctions against Huawei imposed in 2020, preventing them and by now a longer list of Chinese companies from purchasing products made using US technology, was a major political escalation. The trade war between China and the U.S continues in 2021. Ongoing military build-up around Taiwan and the new guided hypersonic missiles, developed by China, are very discomforting to say the least.
Finally, let’s not forget about the economic cycles. The timing is hard to predict, but these do come once in a while. Years of low interest rates, stock market gains and fascination with new technologies rarely end with a soft landing. Investors tend to underestimate how long it takes for new technologies to mature and turn a profit. On that subject: in November 2021 we’re updating our market forecast for LIDARs and probably pushing the market growth out for another 2-3 years, as usual.
More information on the report is available at: Market reports