Best Defense stocks to buy, hold or sell: ICICI Securities

Compendium: Q2FY23 concall takeaways

Earnings calls go beyond numbers and provide an insight into the management’s thought process and outlook. In this compendium, we have put together the key takeaways for Q2FY23 performance for companies under our coverage. Key highlights: 1) Orderbook is expected to grow for all companies; 2) margins are expected to expand on sourcing efficiencies; 3) focus on enhancing exports; and 4) peak earnings is expected for naval shipyard companies by FY25. We maintain our positive outlook on the sector with HAL (BUY; TP: Rs3,170) and BEL (BUY; TP: Rs125) as key picks. Among smaller companies, we prefer Astra Microwave (AMW) (BUY; TP: Rs380) led by good order pipeline, particularly from defence and space sectors. Slower-than-expected award/execution of orders remains a key risk, in our view.

► Orderbook is expected to get stronger: All the companies mentioned that the orderbook position is likely to improve further compared to H1FY23.

Key points:

1) HAL expects orderbook to increase by Rs500bn in next six months from manufacturing orders. Besides, RoH & spares and development segments are likely to result in orderbook accretion of Rs150bn and Rs16-17bn p.a. respectively;

2) BEL expects orderbook accretion of at least Rs200bn each in FY23 and FY24;

3) BDL expects the orderbook to grow 2x to Rs250bn in next 2-3 years;

4) Solar Industries expects orderbook to increase to Rs60bn by year-end with exports and defence as key enablers;

5) AMW expects major stake in the upcoming defence programmes particularly from AATRU for ASPJ, AAAU for Uttam AESA Radar, AAAU for LRMFR with firm expectation of Rs80bn orders over the next six years. Besides, GRSE is also looking forward to the tenders worth Rs760bn for next-gen corvettes, fast patrol vessels and landing platform docks. We would keep a close tab on the RFPs and award of the orders, particularly for LCHs, LUHs, QRSAM, MRSAM, Akash prime and nex-gen Corvettes as these are critical for the companies to meet their guidance.

► Revenue/margin guidance raised by most companies: Almost all the companies under our coverage reported higher margins YoY and QoQ owing to change in product mix (HAL and AMW) and raw material efficiencies (MIDHANI, HAL and Solar Industries). All in all, the companies have raised their revenue/margin guidance for FY23. Key highlights: 1) HAL has raised EBITDA margin guidance to 26-27% owing to higher share of RoH & spares in near term and sourcing efficiencies in medium to long term; 2) BEL has raised the lower end of EBITDA guidance to 22-23% from 21- 23% earlier and reiterated revenue growth guidance of 15%; 3) Solar Industries has raised its revenue growth guidance for FY23 to 50%YoY (Q1FY23: 30%); and 4) AMW expects Q3FY23 revenue at Rs2bn (Q2FY23: Rs1.7bn) and FY23/FY24 revenue at Rs8.5bn/Rs10bn (FY22: Rs7.5bn); and 5) GRSE has guided for the period until FY25 to be of peak execution. As a result, we expect robust earnings growth at improving margins for almost all companies. That said, Midhani’s margins might come under pressure as high raw material costs are reflected in P&L.

► Outlook- getting increasingly better: Despite formidable stock returns of ~70% on average over a year, we believe there is further steam left in the sector on the back of robust orderbooks and improving earnings quality. We maintain HAL (BUY; TP: Rs3,170), BEL (BUY; TP: Rs125) and Astra Microwave (BUY; TP: Rs380) as our preferred picks in the space. We maintain SELL on MDSL (TP: Rs575) and GRSE (TP: Rs390) owing to earnings peaking out by FY25