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Rating Update:

MOODY'S AFFIRMS HAZELDEN FOUNDATION'S (MN) A3 UNDERLYING RATING IN CONJUNCTION WITH LETTER OF CREDIT SUBSTITUTION FOR SERIES 2005 VARIABLE RATE DEMAND BONDS; OUTLOOK REMAINS STABLE

04 Oct 2010

AFFECTS APPROXIMATELY $13.2 MILLION OF RATED DEBT OUTSTANDING

Center City (City of) MN
Health Care-Hospital
MN

Opinion

NEW YORK, Oct 4, 2010 -- Moody's Investors Service has affirmed Hazelden Foundation's (Hazelden) A3 underlying rating on approximately $13.2 million of Series 2005 variable rate demand obligation (VRDO) bonds issued through Center City, MN. The affirmation is in conjunction with Hazelden's plan to replace The Bank of New York letter of credit (LOC) supporting the Series 2005 bonds with a LOC provided by US Bank. The outlook remains stable. Hazelden also has approximately $16 million of Series 2000 (Center City), Series 2002 (Center City), Series 2002 One (Oregon), and Series 2002A (Oregon) VRDO bonds that do not carry an underlying rating from Moody's. The Series 2005 VRDO are supported by an irrevocable direct pay LOC from the Bank of New York. The remaining VRDO bonds are supported by LOCs from Allied Irish Bank. The LOCs were scheduled to expire on November 1, 2010 but Hazelden received extensions from Allied Irish Bank for LOCs until January 2013. Hazelden will replace the existing Bank of New York and Allied Irish Bank LOCs with five LOCs from US Bank (US Bank's senior unsecured rating is Aa1, on Watchlist for possible downgrade).

RATINGS RATIONALE

LEGAL SECURITY: The Series 2005 are supported by an unconditional obligation of Hazelden, pursuant to the Loan Agreement between Center City, MN and Hazelden. The LOC reimbursement agreement with US Bank is expected to include various covenants including: maintain a rating from Moody's of at least Baa2; and maintain a minimum 150% unrestricted cash-to-debt (measured twice yearly, starting December 31, 2010).

INTEREST RATE DERIVATIVES: Hazelden has three floating-to-fixed interest rate swap agreements with a current total notional amount of $14.5 million. Piper Jaffray Financial Products Inc. is the counterparty on all three swaps. The first fixed payer swap is related to the Series 2002 VRDO bonds and matures November 1, 2027. Hazelden pays a fixed rate of 3.995% and receives 70% of one-month LIBOR. The second fixed payer swap is related to the Series 2005 VRDO bonds and matures October 1, 2035. Hazelden pays a fixed rate of 3.832% and receives 70% of one-month LIBOR. The third fixed payer swap is related to the Series 2005 VRDO bonds and matures November 1, 2035. Hazelden pays a fixed rate of 4.015% and receives 70% of one-month LIBOR. Management estimates that the total mark-to-market value of the swaps was a liability of $3.91 million as of August 31, 2010.

STRENGTHS

*Internationally recognized provider of substance addiction treatment and recovery services with comprehensive approach to addiction treatment through research, publishing, higher education, and public advocacy

*Wide geographic draw and operates licensed residential primary care treatment facilities and/or outpatient programs in five states including Minnesota, Oregon, Illinois, New York, and Florida

*A trend of variable but adequate operating cash flow with improved results in fiscal year (FY) 2009 (9.3% adjusted operating cash flow margin)

*Strong liquidity measures with 384 days cash on hand at fiscal year end (FYE) 2009

*Strong debt coverage ratios with 343% cash-to-debt, 1.7 times debt-to-cash flow, 11.5 times maximum annual debt service (MADS) coverage, and 28% debt-to-total operating revenue in FY 2009

CHALLENGES

*Aggressive balance sheet management with all debt in VRDO mode and only 22% of liquidity is invested in cash or fixed income securities; we note that Hazelden has a defined contribution pension plan

*Declining revenue trends in recent years as patients have deferred treatment due in part to the economic malaise

*Recent senior management turnover, including in financial management as the current CFO joined Hazelden in 2010; management notes that while the Controller is new to the post, she has been with Hazelden in various financial management positions for more than ten years

MARKET POSITION/COMPETITIVE STRATEGY: WIDE GEOGRAPHIC DRAW WITH FACILITIES LOCATED IN FIVE STATES

Hazelden is a leading provider of alcohol and drug addiction treatment and recovery services in the U.S. Founded in 1949, Hazelden provides innovative treatment programs for youth and adults, research, publishing, higher education, and public advocacy. Hazelden is one of only a small number of residential treatment centers in the country, with most other providers much smaller than Hazelden. Hazelden operates 360 treatment beds with its main campus headquartered in Center City, MN near the Twin Cities and offers residential primary care and/or outpatient services in Oregon, Illinois, New York, and, most recently earlier in 2010, in Naples, FL. Hazelden also operates an accredited graduate school for addiction studies, conducts clinical research related to long term addiction and recovery, and has a publishing division. Net patient revenues and publishing revenues represent the bulk of Hazelden operations, accounting for approximately 74% and 19%, respectively, of total operating revenue.

OPERATING PERFORMANCE: TRACK RECORD VARIABLE BUT ADEQUATE OPERATING RESULTS

Hazelden has a history of variable but adequate operating cash flow over the years, with improved results in FY 2009. In audited FY 2009 (December 31 year end) Hazelden recorded an adjusted operating loss of $266,000 million (-0.3% operating margin, adjusted to reclassify $2.3 million of contributions and $975,000 of investment income from operating to non-operating revenue) and adjusted operating cash flow of $9.7 million (9.3% operating cash flow margin). In FY 2008 Hazelden recorded an adjusted operating loss of $1.9 million (-1.8% margin) and operating cash flow of $8.4 million (7.9% margin). Through seven months FY 2010 Hazelden recorded an adjusted operating margin of 3.2% and adjusted operating cash flow margin of 12.6% (compared to 2.9% and 12.1%, respectively, through seven months FY 2009).

Despite the improved operating performance in FY 2009 Hazelden has been challenged by the soft economy. For example, operating revenue declined 1.3% in FY 2008 and 1.5% in FY 2009 as the Minnesota campuses have experienced a dip in census and the publishing division's revenues have lagged. Favorably, according to management prepared interim financial statements, net patient service revenue (which accounts for the bulk of Hazelden's operating revenues) increased 10% through seven months FY 2010 compared to the same period FY 2009 and net tuition revenue is up 32% in the interim period, although the latter represents an increase of only $368,000 in absolute revenues. Publishing revenues are down 1.4% ($172,000) in the interim period although management expects improved results for the publishing division for the remainder of FY 2010. Unrestricted contributions are down 86% ($1.6 million) in interim FY 2010, an indicator that economic challenges remain. Auspiciously, management has managed expenses during the economic downturn as operating expenses increased only 0.6% in FY 2008 and decreased 2.9% in FY 2009. Operating expenses are up 6.8% in interim FY 2010, although much of this is due to ramp up costs of the new Naples, FL facility.

Due to adequate cash flow generation and a relatively low debt load (debt to operating revenue of 28% in FY 2009), debt ratios remain strong with Moody's adjusted MADS coverage measuring a strong 11.5 times in FY 2009 (A3 median is 4.0 times) and adjusted debt-to-cash flow measuring a favorably low 1.7 times (A3 median is 4.0 times).

Hazelden management is projecting continued improvement in FY 2010 with a budgeted operating cash flow margin of 11.7%.

BALANCE SHEET POSITION: VERY STRONG LIQUIDITY RATIOS

Hazelden's liquidity ratios remain very strong and are key credit positive. At audited FYE 2009 (December 31 year end), absolute unrestricted cash and investments increased to $100.4 million from $75.6 million at FYE 2008, due to improved investment returns and stronger operating cash flow. As a result, cash on hand improved to a very strong 384 days at FYE 2009 from 279 days FYE 2008 (A3 median is 153 days). Similarly, cash-to-debt increased to a strong 343% at FYE 2009 from 254% at FYE 2008 (A3 median is 97%). Because all of Hazelden's debt is in VRDO mode, cash-to-puttable debt measured 343% at FYE 2009. Based on management provided data, at FYE 2009 Hazelden's cash and investments are allocated rather aggressively with 22% in cash and fixed income securities, 68% in equities, and 10% in hedge funds and private equity. Approximately 90% of cash and investments can be liquidated within one month.

Over the next five years Hazelden management plans to spend approximately $5 million to $6 million per year on routine capital, with an additional approximately $50 million is being considered for major projects. Capital spending is expected to be funded out of cash flow and Hazelden's fundraising efforts, although management may consider debt in the longer-term.

Outlook

The stable outlook reflects our belief that Hazelden will leverage its position as a leading niche provider of alcohol and drug rehabilitation services and continue to generate adequate operating cash flow to maintain strong balance sheet measures.

What could change the rating -- UP

Sustained growth of census leading to strong revenue growth; maintenance of stable and favorable operating results; continued strong debt and liquidity measures

What could change the rating -- DOWN

Decline in census and operating performance; materially weaker liquidity ratios; significant increase in debt without commensurate increases in unrestricted cash and cash flow generation

KEY INDICATORS

Assumptions & Adjustments:

-Based on Hazelden Foundation and Subsidiaries consolidated financial statements

-First number reflects audited FY 2008 for the year ended December 31, 2008

-Second number reflects audited FY 2009 for the year ended December 31, 2009

-Unrestricted contributions reclassified from operating to non-operating revenue

-Investment returns reclassified from operating to non-operating and smoothed at 6%

*Patient days: 133,712; 133,845

*Total operating revenues: $106.0 Million; $104.4 million

*Moody's-adjusted net revenues available for debt service: $14.1 million; $18.1 million

*Total debt outstanding: $29.8 million; $29.3 million

*Maximum annual debt service (MADS): $1.6 million; $1.6 million

*MADS Coverage with reported investment income: 2.00 times; 8.02 times

*Moody's-adjusted MADS Coverage with normalized investment income: 8.82 times; 11.52 times

*Debt-to-cash flow: 2.32 times; 1.68 times

*Days cash on hand: 279 days; 384 days

*Cash-to-debt: 254%; 343%

*Operating margin: -1.8%; -0.3%

*Operating cash flow margin: 7.9%; 9.3%

RATED DEBT (debt outstanding as of December 31, 2009)

-Series 2005 (Minnesota) VRDO Bonds ($13.2 million outstanding), LOC from The Bank of New York (expected to be replaced with US Bank LOC that expires November 1, 2015), rated Aaa/VMIG1 based Moody's approach to rating jointly supported transactions; A3 underlying rating

-2002 Series One (Oregon) (taxable) VRDO Bonds ($0.9 million outstanding), rated A1/VMIG1 based solely on LOC from Allied Irish Bank (expected to be replaced with US Bank LOC that expires November 1, 2013, when the final principal payment is due)

-2002 Series A (Oregon) (taxable) VRDO Bonds ($3.7 million outstanding), rated A1/VMIG1 based solely on LOC from Allied Irish Bank (expected to be replaced by with US Bank LOC that expires November 1, 2015)

-Series 2002 (Minnesota) VRDO Bonds ($4.5 million outstanding), rated A1/VMIG1 based solely on LOC from Allied Irish Banks (expected to be replaced with US Bank LOC that expires November 1, 2015)

-Series 2000 (Minnesota) VRDO Bonds ($7.0 million outstanding), rated A1/VMIG1 based solely on LOC from Allied Irish Bank (expected to be replaced with US Bank LOC that expires November 1, 2015)

CONTACTS

Obligor: James A. Blaha, V.P. Finance & Administration, (651) 213-4729

Underwriter: Frank Hogan, Dougherty & Company LLC, (612) 376-4042

The last rating action with respect to Hazelden was on November 25, 2009, when a municipal finance scale rating of A3 was affirmed and the outlook was stable. That rating was subsequently recalibrated to A3 on May 7, 2010.

The principal methodology used in rating Hazelden was Moody's Rating Methodology: Not-For-Profit Hospitals and Health Systems, published in January 2008, and available on www.moodys.com in the Rating Methodologies sub-directory under the Research & Ratings tab. Other methodologies and factors that may have been considered in the process of rating this issuer can also be found in the Rating Methodologies sub-directory on Moody's website.

REGULATORY DISCLOSURES

Information sources used to prepare the credit rating are the following: parties involved in the ratings, parties not involved in the ratings, public information.

Moody's Investors Service considers the quality of information available on the credit satisfactory for the purposes of assigning a credit rating.

MOODY'S adopts all necessary measures so that the information it uses in assigning a credit rating is of sufficient quality and from sources MOODY'S considers to be reliable including, when appropriate, independent third-party sources. However, MOODY'S is not an auditor and cannot in every instance independently verify or validate information received in the rating process.

Please see ratings tab on the issuer/entity page on Moodys.com for the last rating action and the rating history.

The date on which some Credit Ratings were first released goes back to a time before Moody's Investors Service's Credit Ratings were fully digitized and accurate data may not be available. Consequently, Moody's Investors Service provides a date that it believes is the most reliable and accurate based on the information that is available to it. Please see the ratings disclosure page on our website www.moodys.com for further information.

Please see the Credit Policy page on Moodys.com for the methodologies used in determining ratings, further information on the meaning of each rating category and the definition of default and recovery.

Analysts

Mark Pascaris
Analyst
Public Finance Group
Moody's Investors Service

Deepa Patel
Backup Analyst
Public Finance Group
Moody's Investors Service

Contacts

Journalists: (212) 553-0376
Research Clients: (212) 553-1653


Moody's Investors Service
250 Greenwich Street
New York, NY 10007
USA

MOODY'S AFFIRMS HAZELDEN FOUNDATION'S (MN) A3 UNDERLYING RATING IN CONJUNCTION WITH LETTER OF CREDIT SUBSTITUTION FOR SERIES 2005 VARIABLE RATE DEMAND BONDS; OUTLOOK REMAINS STABLE
No Related Data.
© 2019 Moody’s Corporation, Moody’s Investors Service, Inc., Moody’s Analytics, Inc. and/or their licensors and affiliates (collectively, “MOODY’S”). All rights reserved.

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