Recovering European business sentiment, a stabilising euro exchange rate and falling commodity prices all point to a good year at corporate travel services specialist Hogg Robinson (HRG).

Markets don’t look like they are fully pricing these developments so we’re reinstating Hogg to our Plays list after it treated us to a 41% return (including dividends) over the past year.

Despite big gains, Basingstoke-based corporate travel operator Hogg trades on a price-to-earnings ratio of 8.6, according to estimates by broker Investec. And earnings quality is high - the business has a solid track record of converting profit into cash.

Providing travel, expense and data management services, the business earns 80% of its revenue from fee-based services provided to a diverse set of commercial clients.

The model is appealing because Hogg earns a small percentage of an enormous global business travel expenditure market. The market was valued at $1.25 trillion (£822 billion) in 2015, according to the Global Business Travel Association, and grew around 6.5%.

Market growth is expected to be in the region of 6% a year out to 2020 and we’d expect it to grow for many years after that too.

Attractive niche

Hogg’s attractive niche, as well as a highly experienced management team, mean we are confident the business can maintain or grow market share and protect margins on the back of this rising tide.

According to a 2014 presentation produced by sector peer BCD Travel, Hogg has decent scale in the industry. While its brand may not be as recognisable as industry leader American Express’s (AEXP:NYSE) Travel Services division, its fee and commission income is around one-third the size of Amex’s, which looks like a respectable market position.

Back in 2014, American Express sold half of its Travel Services unit in a deal which valued it at roughly equal to its annual fee and commission income of $1.9 billion (£1.3 billion). Hogg trades at 0.6 times the same metric.

Growth: MEDIUM

Markets are forecast to grow at mid-single digit levels over time.

Risk: MEDIUM

Cash generative business model offset by pension deficit uncertainty.

Quality: MEDIUM

Solid market position and experienced management line-up.

Technology shift

One of the key risks for management at Hogg is negotiating the tricky balance between providing local and call centre-based service teams with increasing client demand for remote, online delivery. This is a risk not only for Hogg but the industry as a whole.

As part of this shift, Hogg is investing in a Software as a Service (SaaS) product through its Fraedom digital business. Costs associated with this investment are not charged as a cost against profit but placed straight onto the balance sheet and then expensed over a longer period. This is a typical practice at many technology companies.

Hogg’s Fraedom SaaS business already has £22.4 million in sales and delivered £3.2 million operating profit in the last financial year, so the investments appear to be paying off.

Pension deficit

A defined benefit pension deficit totalling £258.6 million - a tally slightly higher than the business’s market value - is another important risk.

Published pension deficits are only an approximation of the amount of money which will have to be paid into a scheme over time and are subject to wide uncertainties on either side.

There is some recent evidence that big money investors are now taking a more sanguine view of these liabilities than in the past.

Solid buy-out bids were received by shareholders of Aga Rangemaster and Thorntons in the last few months, both of which sported large deficits. But it is a risk which should not be ignored.

HOGG ROBINSON (HRG) 61.25p

Stop loss: 49p

Market value: £196 million

Prospective PE Sep 2015: 8.6

Prospective PE Sep 2016: 8.1

Prospective dividend yield: 3.9%

Bid/offer spread: 1.2%

Analyst price target: 77p*
*Investec (1 Oct 2015)