India’s defence sector has experienced a remarkable boom post-COVID. Driven by the Aatmanirbhar Bharat initiative, defence companies thrived as orders surged across segments. This momentum extended to the markets, with the Nifty Defence Index achieving an impressive 5-year CAGR of over 50%, significantly outperforming the Nifty 50’s 15%+ returns.
Considering the industry’s evolving dynamics in recent years, I was keen to explore how this transformation unfolded.
The findings have been fascinating, and I’m eager to share them with you, along with my thoughts. Let’s dive in!
India’s Defence Sector: A Strategic Background
‘We can choose our friends but not our neighbours’
Unfortunately for India, we have neighbours we must be wary of. And with an expansive coastline, maintaining a strong military presence across Land, Air, and Water is non-negotiable for India’s security.
India ranks fourth globally in military expenditure, trailing only the US, China, and Russia. In 2023, India’s defence spending stood at a substantial $83.6 billion (2.4% of GDP), dwarfed by the US’s $916 billion and China’s $296 billion (Source: SIPRI).
While India’s total Defence outlay is quite high, it’s historically been skewed towards Revenue expenditures like salaries, pensions & operational costs (~72% of total budget in 2024).
Prolonged underinvestment in capital expenditure created an urgent need to modernize the nation’s defence infrastructure.
Recognizing this challenge, the Indian government introduced a series of transformative policies aimed at modernizing defence capabilities, reducing imports, and strengthening domestic manufacturing.
A Paradigm Shift: From Importer to Manufacturer to Exporter
India, once heavily reliant on defence imports, is now shifting gears. The government’s forward-looking policies are not only modernizing India’s defence infrastructure but also laying the groundwork for self-reliance.
Defence Acquisition Procedure (DAP) 2020: Prioritizes indigenous content, mandates a minimum domestic content percentage for imported systems, and reserves categories for Indian vendors.
Positive Indigenization Lists: Five lists issued so far cover over 5,000 items that must be domestically manufactured.
FDI Reforms: Increased the FDI cap to 74% under the automatic route and 100% with government approval for advanced technologies. (Source: PIB)
Defence Corridors: Established in Uttar Pradesh and Tamil Nadu to attract ₹10,000 crore+ investments, fostering manufacturing ecosystems and job creation.
Export Promotion: India’s exports have meaningfully increased from ₹15 billion in FY17 to ₹210 billion in FY24, mainly driven by the private sector (Phillip Capital Research). Products like missiles, radars, and armoured vehicles were sold to over 85 countries. India aims to achieve ₹500 billion in defence exports by FY29. Measures include export promotion cells, streamlined procedures, and bilateral agreements.
Offset Policy: Mandates foreign vendors to reinvest a portion of their contract value in India through sourcing, technology transfers, or investments.
DRDO Overhaul: The Defence Research and Development Organisation (DRDO) has undergone significant reforms. It now focuses on core R&D while outsourcing production. Established partnerships with private firms for technology transfers.
Level playing field for Private players: Payment terms, and Bank Guarantee requirements have been brought to parity. This has already borne fruits with the share of the private sector rising.
Mapping India’s Defence Giants: Sub-Sectors at a Glance
Defence comprises various sub-sectors, each with specialized players. We have compiled a list of top players in each sub-sector.
Even start-ups and MSMEs are making inroads, contributing innovative solutions and becoming integral parts of the supply chain.
Marching Ahead: Defence Stocks Dominate the Markets
The Nifty Defence Index has been a juggernaut, outpacing the Nifty 50 benchmark over the last few years. A mix of low supply, supportive policies, and undervaluation catapulted defence stocks to new heights in 2024.
However, a correction in the second half of the year offers a moment to reflect.
Before You Fire: Key Risks to Watch for
Customer Concentration: The Indian military, funded by the central government, is the sole domestic customer. This dependency creates potential risks, especially if budget priorities shift.
Policy Priorities: A change in government focus from defence to areas like consumption or welfare could impact allocation and project execution.
Revenue (Un)Certainty: Defence projects often involve lengthy cycles and high-value contracts. Delays in awarding or executing these can affect revenue streams.
Valuation Risks: The 2024 rally has left many stocks trading at elevated valuations. While growth prospects might justify these, caution and timing remain critical
The Road Ahead: Self-Reliance and Exports
India’s goal of becoming Aatmanirbhar in defence is steadily gaining ground, and the added benefit is the growth in export capabilities. What’s even more promising is that it’s not just PSUs reaping the rewards; the private sector, start-ups, and MSMEs are all actively contributing.
Putting investments aside, it’s encouraging to see the progress India is making in defence procurement. I genuinely hope we achieve self-sufficiency and emerge as a major export hub.
With the talent & focus that we have, the future looks bright!
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Till the next time,
Vijay
CEO – InCred Money
P.S. I share my thoughts on Investing and the Economy regularly. You can follow me here.
