Defence stocks such as Hindustan Aeronautics Ltd (HAL), Data Patterns, and Bharat Electronics Ltd (BEL) gained up to 10% in intraday trade on Tuesday as brokerage firm Jefferies continues to bet on domestic defence companies. The global brokerage house has initiated coverage on state-owned HAL and Data Patterns with ‘Buy’ ratings and remained positive on Bharat Electronics (BEL), and sees up to 45% potential upsides in these three defence stocks.

Jefferies, in a report released on April 1, said that global geo-political tensions and India’s rising focus on self-reliance is fuelling order flow and revenue growth for domestic defence companies. “Government focus on building country-to-country relations to promote exports is icing on the cake. 2x growth in domestic defence spending in FY24E-30E should continue to drive stock upside,” the report highlights.

Reacting to the news, shares of state-owned HAL rallied as much as 5.3% to hit a new all-time high of ₹3,584.85 on the BSE. In a similar trend, BEL shares rose 5.4% to touch a fresh record high of ₹222.65.  

Meanwhile, Data Patterns shares jumped 9.8% to hit an intraday high of ₹2,811.40 on the BSE. The counter trades nearly 9% lower than its all-time high level of ₹3,078 attained on March 4, 2024.

Jefferies has recommended a price target of ₹3,545 for Data Patterns shares, an upside potential of 45% from the current market price, while it has given a target price of ₹3,900 for HAL shares, indicating an upside potential of 18%. For BEL, it has assigned a price target of ₹260, signalling an upside potential of 29%.

The brokerage says Data Patterns is a leading private sector player in defence and aerospace electronic solutions. “Revenues should rise nearly 5x in FY24E-30E as indigenisation and export pipeline benefits the company. ROE improvement and reducing working capital intensity are the other drivers.”

The agency cautions that obsolescence of technology and the lack of management bandwidth remain key risk for the company.

In case of HAL, the key risks, according to Jefferies, are global original equipment manufacturer (OEM) tie-ups not giving a material benefit as well as management’s slow response to ramping up the product side. According to the agency, HAL’s 55-70% of revenue is service income linked to past product sales and recurring. “Product business should rise faster as the government is encouraging domestic aircraft manufacturing. GE tie-up shows the potential of moving up in the OEM status among global defence companies,” it says.

For BEL, the brokerage says it is a market leader in domestic defense electronics, with 70-75% of its revenues coming from the Indian Navy and the Indian Army and the balance from the Indian Air Force. With zero debt and comfortable working capital position, it is well-placed to benefit from the defense opportunity, it adds.

The report highlights India is among the top-3 defence spenders globally, but the overall defence spend in CY22 was just 10% of the United States’ spend and 27% of China’s. India’s coastline is one-third of the U.S. and half of China. In land area, India is one-third of both the nations. India is the number-two importer of defense equipment, accounting for 9% of arms imports.

“We believe India’s capital defence spend should continue at the 7-8% CAGR seen in the last decade. Indigenisation focus will drive double-digit growth in domestic defence spend,” it says.

On India’s defence exports, the report says it rose 16x in FY17-24E to $3 billion. “We believe this should rise further to $7 billion by FY30E and is directionally in-line with the government target of achieving $6 billion by FY29E.”

Some of the major export destinations for defence products have been Italy, Egypt, UAE, Bhutan, Ethiopia, Saudi Arabia among other countries. The Middle East (ME) accounts for 33% of global arm imports at $11 billion and offers an opportunity for India. Qatar and Saudi account for 52% of ME imports.

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