well done castaway, page-4

huntley had $2.33 on this stock upon listing On listing Huntley had the companies intrinsic value at $2.33. If intrinsic value is the present value of future earnings it is hard to imagine how the company can be worth .325 if IT IS STILL making a profit and will probably continue to be cash flow positive for sometime to come.

Since VLL listed on December 8 at $1.05, the share price is up 91% and it has recently joined the ASX 300 index. On our forecast earnings above the stock looks expensive on a P/E multiple of 16x for prospective FY05 earnings. VLL is developing new retirement villages, selling the completed villages into a Property Trust that then releases capital back to VLL to enable them to reinvest into developing further villages. This model has us forecasting growth in villages from 69 at FY04 to 162 by FY07. We have taken these growth rates into consideration and have defined an intrinsic value for the business of $2.33 using a discounted cash flow methodology. We continue to like the growth model of the business but we are edging closer to our intrinsic value. We maintain our Accumulate recommendation but look to Hold at levels above $2.33.


The Aged Care industry will become a topical issue as we enter the election campaign. The Hogan pricing review of the aged care industry will be used by the Government to implement an increase of funding to an industry that has been severely neglected. Investor sentiment towards this sector will increase with investors seeking to benefit from the deregulation of a cottage and not for profit aged care industry.


The demographic changes expected over the next 20 years will see the numbers of those over 65 increasing by 80%. The proportion of people expected within this age group who will be eligible for the full age pension is 60%. As at 2003 there are 1m pensioners who earn less than $300 a week and receive full age pensions. The number of pensioners reliant on the age pension is expected to grow by 70% to 1.7m over the next 20 years. VLL's primary market is a pensioner on low income who requires accommodation and meals in a modern and safe housing environment.


The business model that VLL operates is simple, providing rental accommodation to seniors in a village like setting, based around an average of 50 individual units. VLL build, operate and manage the villages. Resident rental fees are charged at 85% of the Age Pension and 100% of the Rent Assistance Allowance. Currently this is a minimum of $230 per week that is automatically deducted from the resident's bank account. The residents receive individual self contained units, three meals a day and laundry services. The village does not supply medical services. The villages are located close to a population centre of more than 20,000 with close access to shops, transport and medical support. Each village houses an onsite manager who is responsible for operating the village. The on site manager is carefully selected to ensure the integrity and reputation of the village model is maintained.


The key share price driver has been the rapid role out of new villages. Fifty villages with an average of 50 units housing two residents per unit translate to 5,000 pensioners, a minor impact on the total available market of 1m pensioners in 2003. Thus the market is immature and under serviced with VLL taking the first mover advantage in offering this type of accommodation to seniors. VLL plan to have 162 villages in operation by 2007. Our assumed growth rates are set out in the following table




Development of villages is carried out either internally or externally through a licensing arrangement. A licensee identifies a suitable piece of land and contracts a third party to construct a village that on average takes six months to complete. The licensee sells the completed units to external investors while VLL retains the management rights over the village for 25 years. VLL collects rent and pays the investors net of its management fees. VLL second model of development is through the internal identification of suitable land and then getting third parties to construct at a fixed cost. The VLL sells the village into a Property Trust with a 25 lease arranged at a fixed yield. VLL books profits from the development of the sale and rent received is used to pay lease payments to investors. In a process of simplification VLL is setting up a Village Life Trust that essentially will be an internal vehicle to purchase company developed sites and licensee sites and enable the VLL to grow its annuity stream of management revenue.


The business model of selling off the constructed developments frees up the business for capital, therefore VLL will be able to fully internally finance its growth projections without coming back to the market. The model also facilitates a low level of capital expenditure and a low level of debt. Similarities can be gleaned from the former Westfield Holdings business model of using the Trust to finance the growth of the business.


VLL do not have the rights over delivering rental services to the aged care sector and we believe competition in this market will significantly increase. VLL is taking steps to train its on site managers, as the model is dependent on the reputation of the villages that relies on the service of its onsite managers. The reputation risk could adversely affect the whole business model and reduce occupancy rate. Occupancy rates are at 93%, any fall in this rate will increase the marginal cost of running the business because you generate lower total revenue but are still required to service your fixed costs. Change in legislation and the introduction of new funding may see the introduction of further capital expenditure in the aged care market that could make the VLL less appealing. Note that the residents are bound by a monthly tenancy agreement and annualised churn rates are currently in the region of 50%.


We expect further growth in revenue to be generated from expansion into this immature market, with VLL capitalising on its first mover advantage. We believe VLL will also adapt its business model to add different levels of service to appeal to different segments of the aged care market. We maintain our Accumulate recommendation with a target price of $2.33.