Celestica (CLS) Q3 2026 Earnings: AI Compute Beats Guidance, Margin Dips

Celestica (CLS) beat its third-quarter 2026 guidance on AI compute and networking demand: revenue for the quarter ended September 30 reached $5.83 billion, up 83% year over year and above the top of its $5.25 billion to $5.55 billion guidance range, according to its 10-Q filed on October 26, 2026 and its earnings call the next day [1][2][3]. Three questions mattered going into the quarter: whether AI compute revenue could scale without diluting gross margin, whether switch revenue would accelerate as 1.6T production began, and whether free cash flow would keep pace each quarter while the company built inventory. Compute revenue came in far above guidance but gross margin declined, switch revenue and the 1.6T ramp arrived as guided, and free cash flow was weaker as the company cut its full-year target. Overall, growth is stronger, margin expansion now depends on spreading fixed costs over more revenue, and cash generation is the weak link.

Celestica designs and manufactures network switches, compute racks and storage systems for hyperscale cloud providers and AI service providers, and also provides manufacturing services to aerospace, industrial and other customers [4]. Data center business made up 84% of third-quarter revenue [1]. Starting this quarter, the company renamed its Communications end market Networking and its Enterprise end market Compute & Storage; the composition of the businesses did not change [1].

Compute & Storage revenue beat guidance, and gross margin declined

Compute & Storage revenue was $1.609 billion in the third quarter, up 242% year over year and about $250 million above the roughly $1.36 billion implied by guidance [1][2]. Management attributed the growth to higher hyperscale AI compute shipments and stronger-than-expected storage demand, and the end market's share of revenue rose from 15% to 28% [1][2].

The shift in revenue mix pulled gross margin down. Adjusted gross margin was 11.2%, below 11.5% in the second quarter and 11.7% a year earlier; management attributed the decline to product mix within its data center business and said it expects gross margin to stay in the low 11% range in 2027 [1][2]. Because customers consign the chips on most compute programs, those materials stay out of revenue, which should lift gross margin as a percentage. Gross margin fell anyway, which indicates that the compute programs themselves carry lower margins than switches.

Operating margin expansion therefore came from lower overhead as a share of revenue. Adjusted SG&A fell from 3.0% to 1.8% of revenue, and adjusted operating margin reached 8.5%, above the 8.4% guidance [1]. Gross profit and operating profit both grew sharply; only gross margin as a percentage declined.

Networking revenue beat guidance as 1.6T switches entered mass production

Networking revenue was $3.263 billion in the third quarter, up 68% year over year against guidance of about 60%, and up 23% from the second quarter [1][2]. Management said 800G switches drove most of the growth, while the earliest 1.6T programs have entered mass production and contributed early volumes [2]. Revenue from HPS, the company's in-house design business, was about $2.3 billion, up 70% [1].

The switch ramp supported margins in the data center segment. Its segment margin was 8.9%, up from 8.7% in the second quarter [1]. The company has won 10 1.6T programs and expects 1.6T revenue to exceed 800G revenue in 2027, but it has not disclosed how much 1.6T revenue it currently earns [2].

Inventory build absorbed cash, and the full-year free cash flow target was cut

Free cash flow was $128 million in the third quarter, below the roughly $160 million per quarter implied by the earlier $600 million full-year target [1][3]. Inventory rose by $1.108 billion in one quarter to $4.510 billion, which management said reflects materials bought ahead to support growth in 2027 [1][2].

The cash conversion cycle shortened from 47 days to 42 days, mainly because days in receivables fell from 63 to 56 [1]. In the same quarter, the company raised the limit on its receivables sales program to $1 billion; $700.8 million of sold receivables remained outstanding at quarter end, compared with none at the end of the second quarter, and the proceeds are counted in operating cash flow [1]. A rough calculation based on that quarter-end balance suggests that, excluding these sales, third-quarter free cash flow would have been about negative $570 million. The company did not disclose this figure.

The company lowered its 2026 free cash flow target from $600 million to $460 million, which implies about $48 million in the fourth quarter, and expects to use net cash in 2027 [2]. The cash needed for the ramp comes mainly from the August equity offering, which raised $3.391 billion in net proceeds [1].

Conclusion

The quarter strengthens the growth picture: the company raised its 2026 revenue outlook to $21 billion and gave a 2027 outlook of $40 billion [2]. Record operating margin comes from spreading costs over more revenue, and a rising share of compute revenue is likely to keep pressing on gross margin. Cash generation has weakened, and funding has shifted toward the equity raise and receivables sales. The next tests are whether fourth-quarter growth guidance of about 65% for Networking and about 160% for Compute & Storage is met, whether gross margin holds at 11.2%, and whether fourth-quarter free cash flow reaches about $48 million without more receivables sales [2].

Sources

[1] CLS 10-Q filed 2026-10-26 (Q3 2026), 2026-10-26, 10-Q, https://www.sec.gov/cgi-bin/browse-edgar?action=getcompany&CIK=0001030894&type=10-Q

[2] CLS earnings call 2026-10-27 (Q3 2026), 2026-10-27, earnings call, https://www.celestica.com/investors

[3] CLS 8-K filed 2026-07-27 (Q2 2026 results release) · Q3 2026 guidance and 2026 annual outlook, 2026-07-27, 8-K, https://www.sec.gov/Archives/edgar/data/1030894/000103089426000043/cls-20260630prcondensedfs.htm

[4] CLS 10-K filed 2026-02-27 · CCS products and HPS offering, 2026-02-27, 10-K, https://www.sec.gov/Archives/edgar/data/1030894/000103089426000011/cls-20251231.htm