Criterion: Military spending is soaring, but finding value ASX exposures is half the battle

• Amid soaring global tensions, investors have flocked to the best known local defence stocks
• ASX-listed companies have snared military contracts for goods and services including counter drone services, AI, virtual reality and high-tech lasers
• While sector valuations have soared, investors have overlooked a handful of small-cap exposures

With no signs of an imminent outbreak of global peace, defence-related stocks have surged in value as investors catch khaki fever.

Their bullishness is justified, given the global ramp up in defence spending.

For instance, NATO members have agreed to boost defence spending to 5% of GDP by 2035 – a serious increment on the 2% agreed to in 2023.

The Trump administration is pressuring Australia to boost its defence commitment from 2% – about $60 billion – to 3.5%

Defence exposures used to about guns and heavy equipment. Now it’s more likely to be about drones, artificial intelligence, virtual reality and specialist materials.

The trouble is, some valuations arguably look as stretched as Ukraine’s front line.

Counter drone specialist DroneShield (ASX:DRO) is now a $3.1 billion market cap company, the same worth as long-established ship builder Austal (ASX:ASB).

High tech weapons system and drone buster Electro Optic Systems (ASX:EOS) bears a $1.66 billion market cap.

Investors who missed the initial call up to the ASX boot camp need to tap the Rats of Tobruk spirit and dig deeper for value.

Vection gains traction

As with most new technologies, the defence sector has become a proving ground for AI.

The $126 million market cap Vection Technologies (ASX:VR1) provides “digital transformation technology” tools such as augmented and virtual reality and computer-aided design.

Vection this week signed its biggest-ever deal: a $22 million AI defence framework with a “NATO-approved customer and partner in Europe.”

The customer is an existing client, which cuts out the paperwork and the need for upfront capital.

The deal comes with a potential $29.5 million extension.

Vection reported full year revenue of $37.5 million, up 9% and its first underlying profit of $1.2 million.

During the year the company snared around $19 million of defence contracts, including the then largest single-biggest order of  $7.2 million.

Orbital turns to drone power

Investors largely have overlooked ASX veteran Orbital Corporation (ASX:OEC) , probably because of its convoluted history that started out with Ralph Sarich’s famed orbital engines.

These days Orbital is all about providing drone engines.

The Trump Administration has mandated US$150 billion in drone funding up to 2032.

The White House wants the machines locally built. With a US manufacturing presence, Orbital has its weapons in the right place.

Orbital also boasts existing tier-one military suppliers as customers.

The company generated $8.3 million in revenue in the year to June, up 34% but also reported a $4.3 million loss.

Orbital shares have rocketed almost 170% over the last year, but the company is still only valued at $38 million.

Combating germ warfare

Illness and disease can be just an enemy for soldiers as their cudgel-wielding foe.

Anti-infectives house Recce Pharmaceuticals (ASX:RCE) has a burns wounds program, supported by a US$2 million grant and a collab with the US Army Medical Research Institute of Infectious Diseases.

Recce also points to data showing its drug candidate is effective against “multiple high-priority bioterrorism pathogens in laboratory testing.”

Menwhile, the University Services University is trialling Travelan maker Immuron (ASX:IMC) diarrhoea prophylactic for use in the field.

An army that has the runs can’t get the enemy on the run.

Bluglass’s laser focus

In June, the $30 million market cap semiconductor developer BluGlass (ASX:BLG) won a maiden $230,000 order, from the Indian defence ministry’s Solid State Physics Laboratory.

The order relates to specialist gallium nitride lasers.

These gizmos are ideal for uses such as jamming measures and countermeasures and “quantum sensing and computing”.

Bluglass cites a project pipeline of 29 “active opportunities” – not just in defence – collectively valued at more than US$100 million.

Bluglass reported year to June revenue of $11.7 million and a $10 million loss.

Like a Bushmaster, Bisalloy ploughs on

Australia’s only maker of armoured steel plates using quenched and tempered steel, Bisalloy (ASX:BIS) is active in the mining sector.

But it also has a sizeable military presence, with its fancy ferrous used in armoured personnel carriers, submarines and the like.

For decades Bisalloy steel has been used to strengthen Bushmasters, which are proving their mettle for Ukraine’s besieged military.

Bisalloy reported flat revenue of $153 million for the year to June and a net profit of $19.6 million, up 25%

Bisalloy shares have climbed 14% year to date, valuing the company around $250 million.