Defence sector could see $110 billion in deal opportunities over the next 6-8 years, said Phillip Capital, which says risk-reward ratio is looking favourable for defence stocks such as Bharat Electronics (BEL), Bharat Dynamics, Solar Industries India and MTAR Technologies.
Defence stocks are placed favourably because they offer long-term execution growth visibility, backed by robust order book and a healthy pipeline, timely execution due to localisation, integrated modular construction, moat of government preference, cash-rich balance sheets and appropriate tech support from DRDO.
Phillip Capital is optimistic on favourable policies with highest priority for local manufacturing, Agnipath Scheme and strategic partnerships. It also likes dividend payout of 30‐60 per cent.
"Margins from core defence products could rise due to efficiencies developed over the years and the indigenization mandate. Overall, we continue to remain positive on the sector; however, looking at favourable risk-reward ratio we prefer Bharat Electronics, Bharat Dynamics, Solar Industries India and MTAR," the brokerage said.
Phillip Capital has a target of Rs 159 on Bharat Electronics. The company, it said, has a strong moat in the highly specialized defence electronics segment, with market share of 60 per cent, backed by its ability to execute large defence contracts. It is a classic case of evolving diversification, it said adding that the company has significantly expanded its offering beyond defence in timely manner, with a medium-term aim of achieving 25 per cent of turnover from the non-defence segment.
"We believe Bharat Electronics' virtuous cycle of growth will be based on two factors – order visibility and swift execution. Bharat Electronics has showed secular growth over a decade with revenue/PAT growth of 11 per cent/13 per cent over FY13-23. In FY19-23, when earnings CAGR was 12 per cent, and average PE was 16 times, PEG was 1.38. Accounting for a similar PEG ratio over FY23-26, our PE multiple comes to 25 times – which is a 15 per cent premium to +1SD,' Phillip Capital said.
On Hindustan Aeronautics, the brokerage said the company is a derivative play on India’s aerospace defence story. The near-term story revolves around induction of LCA Tejas into IAF but as the story evolves, its defence book should see significant traction due to the modernisation of the Indian armed forces, Phillip Capital said.
"Manufacturing is a key segment for HAL but ROH (repair and overhaul) is another segment that should gain traction as delivery of more than 250 Su-30s and 300+ ALHs is complete. These would be up for MRO (maintenance, repair, overhaul) in the next few years. HAL’s outstanding orderbook of Rs 82,200 crore has 75 per cent manufacturing and 23 per cent ROH. This, along with a healthy order pipeline, makes us positive on the company," it said while suggesting a target of Rs 1,428 on the stock.
In the case of Bharat Dynamics, the company has been the sole supplier of surface-to-air missiles (SAMs), anti-tank guided missiles (ATGMs), and torpedoes to the Indian armed forces.
"With its recent offering of Astra (air-to-air missile), it has increased its addressable market to 61 per cent of India’s $ 24.5 billion missile demand until FY26. Bharat Dynamics declining order backlog, a key concern, received a major boost of Rs 13,000 crore in FY23; its order pipeline should be robust at Rs 30,000 crore-plus over the next 3-5 years," this brokerage has a target of Rs 2,637 on the stock.
Meanwhile for MTAR, Phillip Capital said it is a leading-precision engineering solutions company, which has a strong presence in the emerging ‘clean energy’ segment and in nuclear, space, and defence sectors. The company follows a twin strategy of deepening its product portfolio and capitalising on the structural growth in its end markets, it said.
"Despite a stringent qualification environment acting as a robust entry barrier, MTAR has consolidated its market position. Its revenue CAGR was 30 per cent over FY18-23, and we expect it to accelerate to 41 per cent over FY23-26," the brokerage said.
Copyright©2023 Living Media India Limited. For reprint rights: Syndications Today