Defence stocks see a sharp rally; Should you buy at these levels?
In the last one week, shares of Mazagon Dock Shipbuilders surged over 35%, Garden Reach Shipbuilders & Engineers gained over 8%, Cochin Shipyard rallied 13%, Bharat Dynamics gained over 9%, Hindustan Aeronautics rose over 3% and MTAR Technologies jumped over 9%.
The sharp upside momentum in these stocks comes amid reports that the Defence Ministry gave initial approval to purchase 26 Rafale fighter jets for its navy and three Scorpene class submarines.
Analysts advised caution given the valuations at which many of these defence stocks are trading currently.
“The defence companies have been receiving huge orders and have given decent returns. But I would be skeptical at the current rich valuations of many of these stocks. It will be a long time before these orders get executed and profits flow in. They have run well ahead of their fundamentals,” said Sudip Bandyopadhyay, Group Chairman, Inditrade Capital.
He advises investors to be cautious in the defence space at these levels. However, he recommends investors to look at a stock like Bharat Forge which has developed defence as well as aeronautics business.
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Meanwhile, among the defence pack, Mazagon Dock Shipbuilders has been one of the biggest gainers, with the stock rising over 35% in a week and nearly 62% in one month. The stock has given multibagger returns of nearly 570% in one year.
The stock has garnered considerable interest as the bidding for P75I project comes closer and the possibility of the order for three additional Scorpene submarines being finalised during PM Modi’s visit to France for the Bastille day parade.
Analysts believe the traction around submarine orders worth close to$8.6 billion is a positive development for Mazagon Dock Shipbuilders Ltd (MDSL), which is the only Indian shipbuilder involved in the integration of submarines.
The last submarine INS Vagsheer of P75I project is undergoing sea trials and is likely to be delivered in FY24E. Hence, the potential fresh orders come as a shot in the arm for MDSL.
However, ICICI Securities believes that the emergence of Spain’s Navantia and L&T and Hanwah Ocean as potential bidders for the P75I project implies competition to MDSL-ThyssenKrupp Marine Systems (TKMS).
“Despite the recent euphoria around the MDSL stock as it is likely a major beneficiary of the potential submarine orders, we would keep a tab on competitive landscape and budgetary constraints as the expected capital outlay on the 9 submarines is almost 45% of the total capital outlay in defence budget for FY24,” ICICI Securities said in a note.
Besides, the actual benefits might accrue progressively given these are high-value orders and the ordering and execution cycle is prolonged, extending up to 8 years.
The brokerage has a ‘Sell’ rating on the stock with a target price of ₹600 per share.
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Bharat Dynamics is seeing healthy traction, especially for Akash weapon systems and Astra missiles, in international markets. The company’s declining order backlog, a key concern, received a major boost as it received its largest ever export order of $255 million (around ₹2,100 crore) in FY23, with 3-4 more such orders in pipeline expected within the next couple of years.
The company expects strong execution in FY25 and FY26 of the current ₹20,000 crore+ order book, along with further inflows of around ₹20,000 crore over the next 3 years.
Phillip Capital expects revenue CAGR of 32% over FY23-26, EBITDA CAGR of 47%, margin at 21-23%, and subsequent PAT CAGR of 44% for the company.
It initiated coverage on the stock with a ‘Buy’ rating and a target of ₹1,428 per share.
Bharat Electronics has a strong moat in the highly specialized defence electronics segment, with market share of 60%, backed by its ability to execute large defence contracts.
The company has showed secular growth over a decade with revenue and PAT growth of 11% and 13% over FY13-23. It has a order backlog of ₹60,700 crore providing revenue visibility over the next three years, backed by a strong pipeline of ₹70,000-80,000 crore, Phillip Capital noted.
It expects revenue, EBITDA, PAT CAGR at 15%, 16% and 18%, respectively over FY23-26.
The brokerage retained its ‘Buy’ rating and target of ₹159 on the stock.
Overall, Phillip Capital continues to remain positive on the sector. However, looking at favourable risk-reward ratio, it prefers Bharat Electronics, Bharat Dynamics, Solar Industries India and MTAR Technologies.
Disclaimer: The views and recommendations given in this article are those of individual analysts and brokerage firms. These do not represent the views of Mint. We advise investors to check with certified experts before taking any investment decisions.
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Updated: 13 Jul 2023, 02:26 PM IST
