|
ITEM 2.
|
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
|
The
following discussion should be read in conjunction with the financial statements and notes thereto appearing elsewhere in this report.
This quarterly
report on Form 10-Q contains statements as to our beliefs and expectations of the outcome of future events that are forward-looking statements as defined within the meaning of the Private Securities Litigation Reform Act of 1995. All statements
other than statements of current or historical fact contained herein, including statements regarding our future financial position, business strategy, budgets, projected costs and plans, and objectives of management for future operations, are
forward-looking statements. The words “anticipate,” “believe,” “continue,” “estimate,” “expect,” “intend,” “could,” “may,” “plan,” “projects,”
“will,” and similar expressions, as they relate to us, are intended to identify forward-looking statements. These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially
from the statements made. These include, but are not limited to, the risks and uncertainties associated with:
|
|
•
|
|
general economic and market conditions, including the impact governmental budgets can have on our contract renewals and renegotiations, per diem rates, and occupancy;
|
|
|
•
|
|
fluctuations in our operating results because of, among other things, changes in occupancy levels, competition, increases in costs of operations, fluctuations in interest rates, and risks of operations;
|
|
|
•
|
|
changes in the privatization of the corrections and detention industry and the public acceptance of our services;
|
|
|
•
|
|
our ability to obtain and maintain correctional, detention, and reentry facility management contracts, including, but not limited to, sufficient governmental appropriations, contract compliance, effects of inmate
disturbances, and the timing of the opening of new facilities and the commencement of new management contracts as well as our ability to utilize current available beds and new capacity as development and expansion projects are completed;
|
|
|
•
|
|
increases in costs to develop or expand correctional, detention, and reentry facilities that exceed original estimates, or the inability to complete such projects on schedule as a result of various factors, many of
which are beyond our control, such as weather, labor conditions, and material shortages, resulting in increased construction costs;
|
|
|
•
|
|
changes in government policy regarding the utilization of the private sector for corrections and detention capacity and our services by the U.S. Department of Justice, or DOJ, and the Department of Homeland Security, or
DHS;
|
|
|
•
|
|
changes in government policy and in legislation and regulation of corrections and detention contractors that affect our business, including, but not limited to, California’s utilization of out-of-state contracted
correctional capacity and the continued utilization of the South Texas Family Residential Center by U.S. Immigration and Customs Enforcement, or ICE, under terms of the current contract, and the impact of any changes to immigration reform and
sentencing laws (Our company does not, under longstanding policy, lobby for or against policies or legislation that would determine the basis for, or duration of, an individual’s incarceration or detention.);
|
31
|
|
•
|
|
our ability to successfully integrate operations of our acquisitions and realize projected returns resulting therefrom;
|
|
|
•
|
|
our ability to meet and maintain qualification for taxation as a real estate investment trust, or REIT; and
|
|
|
•
|
|
the availability of debt and equity financing on terms that are favorable to us.
|
Any or all of our
forward-looking statements in this quarterly report may turn out to be inaccurate. We have based these forward-looking statements largely on our current expectations and projections about future events and financial trends that we believe may
affect our financial condition, results of operations, business strategy, and financial needs. Our statements can be affected by inaccurate assumptions we might make or by known or unknown risks, uncertainties and assumptions, including the
risks, uncertainties, and assumptions described in “Risk Factors” disclosed in Part II hereafter, as well as in the 2016 reports on Form 10-Q, the 2015 Form 10-K, and in other reports we file with the Securities and Exchange Commission, or
the SEC, from time to time. Readers are cautioned not to place undue reliance on these forward-looking statements, which speak only as of the date hereof. We undertake no obligation to publicly revise these forward-looking statements to
reflect events or circumstances occurring after the date hereof or to reflect the occurrence of unanticipated events. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly
qualified in their entirety by the cautionary statements contained in this report and in the 2015 Form 10-K.
OVERVIEW
The Company
As of September 30, 2016, we owned or
controlled 49 correctional and detention facilities, owned or controlled 25 residential reentry facilities, and managed an additional 11 correctional and detention facilities owned by our government partners, with a total design capacity of
approximately 89,300 beds in 20 states and the District of Columbia. We are a REIT specializing in owning, operating, and managing prisons and other correctional facilities and providing residential, community reentry, and prisoner
transportation services for governmental agencies. In addition to providing fundamental residential services, our facilities offer a variety of rehabilitation and educational programs, including basic education, faith-based services, life
skills and employment training, and substance abuse treatment. These services are intended to help reduce recidivism and to prepare offenders for their successful reentry into society upon their release. We also provide or make available
to offenders certain health care (including medical, dental, and mental health services), food services, and work and recreational programs.
We are a
Maryland corporation formed in 1983. Our principal executive offices are located at 10 Burton Hills Boulevard, Nashville, Tennessee, 37215, and our telephone number at that location is (615) 263-3000. Our website address is
www.cca.com
. We make our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those reports under the Securities Exchange Act of 1934, as amended (the “Exchange Act”),
available on our website, free of charge, as soon as reasonably practicable after these reports are filed with or furnished to the SEC. Information contained on our website is not part of this report.
32
We began operating as a REIT for federal income tax purposes effective January 1, 2013. Since that date, we
have provided correctional services and conducted other operations through taxable REIT subsidiaries, or TRSs. A TRS is a subsidiary of a REIT that is subject to applicable corporate income tax and certain qualification requirements. Our
use of TRSs enables us to comply with REIT qualification requirements while providing correctional services at facilities we own and at facilities owned by our government partners and to engage in certain other operations. A TRS is not subject
to the distribution requirements applicable to REITs so it may retain income generated by its operations for reinvestment.
As a REIT, we generally are
not subject to federal income taxes on our REIT taxable income and gains that we distribute to our stockholders, including the income derived from providing prison bed capacity and dividends we earn from our TRSs. However, our TRSs will be required
to pay income taxes on their earnings at regular corporate income tax rates.
As a REIT, we generally are required to distribute annually to our
stockholders at least 90% of our REIT taxable income (determined without regard to the dividends paid deduction and excluding net capital gains). Our REIT taxable income will not typically include income earned by our TRSs except to the extent our
TRSs pay dividends to the REIT.
Over the past several years, we have successfully executed strategies to diversify our business and offer a broader range
of solutions to government partners. These solutions serve the public good through high quality corrections and detention management, innovative and cost-saving government real estate solutions, and a growing network of residential reentry
centers to help address America’s recidivism crisis. To reflect this transformation, we announced our decision to rename and brand the Company, “CoreCivic”. Announced at the end of October 2016, our decision to rename the
Company was the result of an intense research, brand strategy, and creative process that began in mid-2015. Legal renaming and related rebranding efforts are ongoing and expected to continue into 2017.
33
CRITICAL ACCOUNTING POLICIES
The consolidated financial statements in this report are prepared in conformity with U.S. generally accepted accounting principles. As such, we are
required to make certain estimates, judgments, and assumptions that we believe are reasonable based upon the information available. These estimates and assumptions affect the reported amounts of assets and liabilities at the date of the
financial statements and the reported amounts of revenue and expenses during the reporting period. A summary of our significant accounting policies is described in our 2015 Form 10-K. The significant accounting policies and estimates which
we believe are the most critical to aid in fully understanding and evaluating our reported financial results include the following:
Asset
impairments.
The primary risk we face for asset impairment charges, excluding goodwill, is associated with correctional facilities we own. As of September 30, 2016, we had $2.9 billion in property and equipment, including $181.4
million in long-lived assets, excluding equipment, at seven idled core correctional facilities. The impairment analyses we performed for each of these facilities excluded the net book value of equipment, as a substantial portion of the
equipment is easily transferrable to other company-owned facilities without significant cost. The carrying values of the seven idled core facilities as of September 30, 2016 were as follows (in thousands):
|
|
|
|
|
|
|
Prairie Correctional Facility
|
|
$
|
17,358
|
|
|
Huerfano County Correctional Center
|
|
|
17,718
|
|
|
Diamondback Correctional Facility
|
|
|
41,914
|
|
|
Southeast Kentucky Correctional Facility
(1)
|
|
|
22,820
|
|
|
Marion Adjustment Center
|
|
|
12,238
|
|
|
Lee Adjustment Center
|
|
|
10,466
|
|
|
Kit Carson Correctional Center
|
|
|
58,884
|
|
|
|
|
|
|
|
|
|
|
$
|
181,398
|
|
|
|
|
|
|
|
|
(1)
|
Formerly known as the Otter Creek Correctional Center.
|
From the date each facility became idle, the idled facilities incurred combined operating expenses of approximately $2.3 million and $2.0 million for the
three months ended September 30, 2016 and 2015, respectively. From the date each facility became idle, the idled facilities incurred combined operating expenses of approximately $6.0 million and $5.4 million for the nine months ended
September 30, 2016 and 2015, respectively.
We also have four idled non-core facilities with carrying values amounting to $5.0 million as of September
30, 2016. We consider the Shelby Training Center, Queensgate Correctional Facility, Mineral Wells Pre-Parole Transfer Facility, and Leo Chesney Correctional Center to be non-core facilities because they were designed for uses other than for adult
secure correctional purposes.
We evaluate the recoverability of the carrying values of our long-lived assets, other than goodwill, when events suggest
that an impairment may have occurred. Such events primarily include, but are not limited to, the termination of a management contract or a significant decrease in inmate populations within a correctional facility we own or
manage. Accordingly, we tested each of the aforementioned idled facilities for impairment when we were notified by the respective customers that they would no longer be utilizing such facility.
We re-perform the impairment analyses on an annual basis for each of the idle facilities and evaluate on a quarterly basis market developments for the
potential utilization of each of these facilities in order to identify events that may cause us to reconsider our most recent assumptions. Such events could include negotiations with a prospective customer for the utilization of an idle
facility at terms significantly less favorable than used in our most recent impairment analysis, or changes in legislation surrounding a particular facility that could impact our ability to house certain types of inmates at such facility, or a
demolition or substantial renovation of a facility. Further, a substantial increase in the number of available beds at other facilities we own could lead to a deterioration in market conditions and cash flows that we might be able to obtain
under a new management contract at our idle facilities.
34
We have historically secured contracts with customers at existing facilities that were already operational, allowing us to move the existing population to other idle facilities. Although they are
not frequently received, an unsolicited offer to purchase any of our idle facilities at amounts that are less than the carrying value could also cause us to reconsider the assumptions used in our most recent impairment analysis.
Our impairment evaluations also take into consideration our historical experience in securing new management contracts to utilize facilities that had been
previously idled for periods comparable to the periods that our currently idle facilities have been idle. Such previously idled facilities are currently being operated under contracts that generate cash flows resulting in the recoverability of the
net book value of the previously idled facilities by substantial amounts. Due to a variety of factors, the lead time to negotiate contracts with our federal and state partners to utilize idle bed capacity is generally lengthy and has historically
resulted in periods of idleness similar to the ones we are currently experiencing at our idle facilities. As a result of our analyses, we determined each of the idled facilities to have recoverable values in excess of the corresponding carrying
values. However, we can provide no assurance that we will be able to secure agreements to utilize our idle facilities, or that we will not incur impairment charges in the future.
By their nature, these estimates contain uncertainties with respect to the extent and timing of the respective cash flows due to potential delays or material
changes to historical terms and conditions in contracts with prospective customers that could impact the estimate of cash flows. Notwithstanding the effects the recent economic downturn has had on our customers’ demand for prison beds in the
short-term
which led to our decision to idle certain facilities, we believe the long-term trends favor an increase in the utilization of our correctional facilities and management services. This belief is based on
our experience in operating in difficult economic environments and in working with governmental agencies faced with significant budgetary challenges, which is a primary contributing factor to the lack of appropriated funding since 2009 to build new
bed capacity by the federal and state governments with which we partner.
On July 29, 2016, the Bureau of Prisons, or BOP, elected not to renew its
contract at our owned and managed 1,129-bed Cibola County Corrections Center located in New Mexico. We prepared to idle the facility upon expiration of the contract on October 30, 2016. We performed an impairment analysis of the Cibola County
Correctional Center, which had a net carrying value of $29.7 million as of September 30, 2016, and concluded that this asset has a recoverable value in excess of the carrying value. On October 31, 2016, we announced a new contract award to
house up to 1,116 ICE detainees at our Cibola facility. The contract contains an initial term of five years, with renewal options upon mutual agreement. We believe this new contract provides a further example of the marketability of our real estate
assets across multiple government customers.
Revenue Recognition – Multiple-Element Arrangement.
In September 2014, we agreed
under an expansion of an existing
inter-governmental
service agreement, or IGSA, between the city of Eloy, Arizona and ICE to provide residential space and services at our South Texas Family Residential
Center. The amended IGSA qualifies as a multiple-element arrangement under the guidance in Accounting Standards Codification, or ASC, 605, “Revenue Recognition”. We evaluate each deliverable in an arrangement to determine whether it
represents a separate unit of accounting. A deliverable constitutes a separate unit of accounting when it has standalone value to the customer. ASC 605 requires revenue to be allocated to each unit of
35
accounting based on a selling price hierarchy. The selling price for a deliverable is based on its vendor specific objective evidence, or VSOE, of selling price, if available, third party
evidence, or TPE, if VSOE of selling price is not available, or estimated selling price, or ESP, if neither VSOE of selling price nor TPE is available. We establish VSOE of selling price using the price charged for a deliverable when sold
separately. We establish TPE of selling price by evaluating similar products or services in standalone sales to similarly situated customers. We establish ESP based on management judgment considering internal factors such as margin
objectives, pricing practices and controls, and market conditions. In arrangements with multiple elements, we allocate the transaction price to the individual units of accounting at inception of the arrangement based on their relative selling
price. The allocation of revenue to each element requires considerable judgment and estimations which could change in the future. In October 2016, we entered into an amended IGSA that extended the life of the contract through September
2021. As a result of this amendment, the deferred revenue associated with the multiple elements will be recognized over future periods based on the delivery of future services. If the IGSA were to be further amended or terminated before
the expiration of the five-year term, we would determine the allocation of any deferred revenues to the separate units of accounting to be recognized immediately for services previously provided and, if amended, over future periods based on the
delivery of future services.
Self-funded insurance reserves
. As of September 30, 2016, we had $29.1 million in accrued liabilities for
employee health, workers’ compensation, and automobile insurance claims. We are significantly self-insured for employee health, workers’ compensation, and automobile liability insurance claims. As such, our insurance expense is
largely dependent on claims experience and our ability to control our claims. We have consistently accrued the estimated liability for employee health insurance claims based on our history of claims experience and the estimated time lag between
the incident date and the date we pay the claims. We have accrued the estimated liability for workers’ compensation claims based on an actuarial valuation of the outstanding liabilities, discounted to the net present value of the
outstanding liabilities, using a combination of actuarial methods used to project ultimate losses, and our automobile insurance claims based on estimated development factors on claims incurred. The liability for employee health, workers’
compensation, and automobile insurance includes estimates for both claims incurred and for claims incurred but not reported. These estimates could change in the future. It is possible that future cash flows and results of operations could
be materially affected by changes in our assumptions, new developments, or by the effectiveness of our strategies.
Legal reserves.
As of
September 30, 2016, we had $10.3 million in accrued liabilities related to certain legal proceedings in which we are involved. We have accrued our best estimate of the probable costs for the resolution of these claims based on a range of
potential outcomes. In addition, we are subject to current and potential future legal proceedings for which little or no accrual has been reflected because our current assessment of the potential exposure is nominal. These estimates have
been developed in consultation with our General Counsel’s office and, as appropriate, outside counsel handling these matters, and are based upon an analysis of potential results, assuming a combination of litigation and settlement
strategies. It is possible that future cash flows and results of operations could be materially affected by changes in our assumptions, new developments, or by the effectiveness of our strategies.
36
RESULTS OF OPERATIONS
Our results of operations are impacted by the number of facilities we owned and managed, the number of facilities we managed but did not own, the number of
facilities we leased to other operators, and the facilities we owned that were not in operation. The following table sets forth the changes in the number of facilities operated for the periods presented:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Effective
Date
|
|
|
Owned
and
Managed
|
|
|
Managed
Only
|
|
|
Leased
|
|
|
Total
|
|
|
|
|
|
|
|
|
|
Facilities as of December 31, 2014
|
|
|
|
|
|
|
49
|
|
|
|
12
|
|
|
|
3
|
|
|
|
64
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Impairment of non-core assets
|
|
|
January 2015
|
|
|
|
(2
|
)
|
|
|
—
|
|
|
|
—
|
|
|
|
(2
|
)
|
|
Acquisition of four community corrections facilities in Pennsylvania
|
|
|
August 2015
|
|
|
|
—
|
|
|
|
—
|
|
|
|
4
|
|
|
|
4
|
|
|
Termination of the management contract for the Winn Correctional Center
|
|
|
September 2015
|
|
|
|
—
|
|
|
|
(1
|
)
|
|
|
—
|
|
|
|
(1
|
)
|
|
Termination of the lease contract at the Leo Chesney Correctional Center
|
|
|
October 2015
|
|
|
|
1
|
|
|
|
—
|
|
|
|
(1
|
)
|
|
|
—
|
|
|
Acquisition of eleven community corrections facilities in Oklahoma (3), Texas (7),
and Wyoming (1)
|
|
|
October 2015
|
|
|
|
11
|
|
|
|
—
|
|
|
|
—
|
|
|
|
11
|
|
|
Activation of the Trousdale Turner Correctional Center
|
|
|
December 2015
|
|
|
|
1
|
|
|
|
—
|
|
|
|
—
|
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Facilities as of December 31, 2015
|
|
|
|
|
|
|
60
|
|
|
|
11
|
|
|
|
6
|
|
|
|
77
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Acquisition of seven community corrections facilities in Colorado
|
|
|
April 2016
|
|
|
|
7
|
|
|
|
—
|
|
|
|
—
|
|
|
|
7
|
|
|
Lease of the North Fork Correctional Facility
|
|
|
May 2016
|
|
|
|
(1
|
)
|
|
|
—
|
|
|
|
1
|
|
|
|
—
|
|
|
Acquisition of the Long Beach Community Corrections Center in California
|
|
|
June 2016
|
|
|
|
—
|
|
|
|
—
|
|
|
|
1
|
|
|
|
1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Facilities as of September 30, 2016
|
|
|
|
|
|
|
66
|
|
|
|
11
|
|
|
|
8
|
|
|
|
85
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Three and Nine Months Ended September 30, 2016 Compared to the Three and Nine Months Ended September 30, 2015
Net income was $55.3 million, or $0.47 per diluted share, for the three months ended September 30, 2016, compared with net income of $50.7 million, or $0.43
per diluted share, for the three months ended September 30, 2015. During the nine months ended September 30, 2016, we generated net income of $159.2 million, or $1.35 per diluted share, compared with net income of $173.3 million, or $1.47 per
diluted share, for the nine months ended September 30, 2015. Financial results for the three and nine months ended September 30, 2016, include $4.0 million of restructuring charges resulting from the realignment of our corporate structure to
more effectively serve facility operations and support the progression of our business diversification strategy via the acquisitions of residential reentry facilities and a focus on real estate-only solutions for our government partners.
37
Facility Operations
A key performance indicator we use to measure the revenue and expenses associated with the operation of the facilities we own or manage is expressed in terms
of a compensated man-day, which represents the revenue we generate and expenses we incur for one offender for one calendar day. Revenue and expenses per compensated man-day are computed by dividing facility revenue and expenses by the total
number of compensated man-days during the period. A compensated man-day represents a calendar day for which we are paid for the occupancy of an offender. We believe the measurement is useful because we are compensated for operating and managing
facilities at an offender per-diem rate based upon actual or minimum guaranteed occupancy levels. We also measure our ability to contain costs on a per-compensated man-day basis, which is largely dependent upon the number of offenders we
accommodate. Further, per compensated man-day measurements are also used to estimate our potential profitability based on certain occupancy levels relative to design capacity. Revenue and expenses per compensated man-day for all of the
facilities placed into service that we owned or managed, exclusive of those held for lease, were as follows for the three and nine months ended September 30, 2016 and 2015:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months
Ended September 30,
|
|
|
For the Nine Months
Ended September 30,
|
|
|
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Revenue per compensated man-day
|
|
$
|
75.42
|
|
|
$
|
73.65
|
|
|
$
|
75.33
|
|
|
$
|
72.22
|
|
|
Operating expenses per compensated man-day:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed expense
|
|
|
38.81
|
|
|
|
38.80
|
|
|
|
39.01
|
|
|
|
37.16
|
|
|
Variable expense
|
|
|
15.37
|
|
|
|
15.90
|
|
|
|
15.39
|
|
|
|
14.91
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
54.18
|
|
|
|
54.70
|
|
|
|
54.40
|
|
|
|
52.07
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income per compensated man-day
|
|
$
|
21.24
|
|
|
$
|
18.95
|
|
|
$
|
20.93
|
|
|
$
|
20.15
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating margin
|
|
|
28.2
|
%
|
|
|
25.7
|
%
|
|
|
27.8
|
%
|
|
|
27.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average compensated occupancy
|
|
|
80.2
|
%
|
|
|
82.6
|
%
|
|
|
78.2
|
%
|
|
|
83.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average available beds
|
|
|
83,399
|
|
|
|
80,455
|
|
|
|
83,996
|
|
|
|
79,664
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average compensated population
|
|
|
66,881
|
|
|
|
66,465
|
|
|
|
65,682
|
|
|
|
66,801
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed expenses per compensated man-day for the three and nine months ended September 30, 2016 include depreciation expense of
$10.7 million and $31.9 million, respectively, and interest expense of $2.5 million and $8.1 million, respectively, in order to more properly reflect the cash flows associated with the lease at the South Texas Family Residential Center. Fixed
expenses per compensated man-day for the three and nine months ended September 30, 2015 include depreciation expense of $10.7 million and $19.2 million, respectively, and interest expense of $3.2 million and $5.4 million, respectively, associated
with the lease at the South Texas Family Residential Center.
38
Revenue
Total revenue consists of revenue we generate in the operation and management of correctional, detention, and residential reentry facilities, as well as rental
revenue generated from facilities we lease to third-party operators, and from our inmate transportation subsidiary. The following table reflects the components of revenue for the three and nine months ended September 30, 2016 and 2015 (in millions):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended
September 30,
|
|
|
|
|
|
|
|
|
|
|
2016
|
|
|
2015
|
|
|
$ Change
|
|
|
% Change
|
|
|
Management revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
244.6
|
|
|
$
|
238.7
|
|
|
$
|
5.9
|
|
|
|
2.5
|
%
|
|
State
|
|
|
180.6
|
|
|
|
181.6
|
|
|
|
(1.0
|
)
|
|
|
(0.6
|
%)
|
|
Local
|
|
|
20.9
|
|
|
|
16.6
|
|
|
|
4.3
|
|
|
|
25.9
|
%
|
|
Other
|
|
|
17.9
|
|
|
|
13.4
|
|
|
|
4.5
|
|
|
|
33.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total management revenue
|
|
|
464.0
|
|
|
|
450.3
|
|
|
|
13.7
|
|
|
|
3.0
|
%
|
|
|
|
|
|
|
|
Rental and other revenue
|
|
|
10.9
|
|
|
|
9.7
|
|
|
|
1.2
|
|
|
|
12.4
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue
|
|
$
|
474.9
|
|
|
$
|
460.0
|
|
|
$
|
14.9
|
|
|
|
3.2
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Nine Months Ended
September 30,
|
|
|
|
|
|
|
|
|
|
|
2016
|
|
|
2015
|
|
|
$ Change
|
|
|
% Change
|
|
|
Management revenue:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Federal
|
|
$
|
722.9
|
|
|
$
|
678.2
|
|
|
$
|
44.7
|
|
|
|
6.6
|
%
|
|
State
|
|
|
526.4
|
|
|
|
550.0
|
|
|
|
(23.6
|
)
|
|
|
(4.3
|
%)
|
|
Local
|
|
|
57.6
|
|
|
|
49.1
|
|
|
|
8.5
|
|
|
|
17.3
|
%
|
|
Other
|
|
|
48.8
|
|
|
|
39.7
|
|
|
|
9.1
|
|
|
|
22.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total management revenue
|
|
|
1,355.7
|
|
|
|
1,317.0
|
|
|
|
38.7
|
|
|
|
2.9
|
%
|
|
|
|
|
|
|
|
Rental and other revenue
|
|
|
29.9
|
|
|
|
28.3
|
|
|
|
1.6
|
|
|
|
5.7
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total revenue
|
|
$
|
1,385.6
|
|
|
$
|
1,345.3
|
|
|
$
|
40.3
|
|
|
|
3.0
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The $13.7 million, or 3.0%, increase in revenue associated with the operation and management of correctional, detention, and
residential reentry facilities during the third quarter of 2016 compared with the third quarter of 2015 consisted of an increase in revenue of approximately $10.9 million resulting from an increase of 2.4% in average revenue per compensated man-day
and an increase in revenue of approximately $2.8 million caused by an increase in the average daily compensated population from 2015 to 2016. The $38.7 million, or 2.9%, increase in revenue associated with the operation and management of
correctional, detention, and residential reentry facilities during the nine months ended September 30, 2016 compared with the same period in the prior year consisted of an increase in revenue of approximately $56.0 million resulting from an increase
of 4.3% in average revenue per compensated man-day, partially offset by a decrease in revenue of approximately $17.3 million caused by a decrease in the average daily compensated population from 2015 to 2016, net of the revenue generated by one
additional day of operations due to leap year in 2016. Most notably, the increase in average revenue per compensated man-day in the nine-month period was a result of the full activation of the South Texas Family Residential Center in the second
quarter of 2015, as further described hereafter. Per diem increases at several of our other facilities also contributed to the increase in average revenue per compensated man-day in both the three- and nine-month periods.
39
Average daily compensated population increased 416, or 0.6%, from 66,465 during the three months ended September
30, 2015 to 66,881 during the three months ended September 30, 2016, while average daily compensated population for the nine months ended September 30, 2016 decreased 1,119 from the comparable period in 2015. The slight increase in average
compensated population in the three-month period was primarily due to the acquisition of Avalon Correctional Services, Inc., or Avalon, in the fourth quarter of 2015, the acquisition of Correctional Management, Inc., or CMI, in the second quarter of
2016, and the activation of the newly constructed Trousdale Turner Correctional Center in the fourth quarter of 2015. We began housing state of Tennessee inmates at the Trousdale facility in January 2016. The increase in average
compensated population during the three-month period was partially offset by a decline in California inmates held in our out-of-state facilities and the expiration of our managed-only contract with the state of Louisiana at the state-owned Winn
Correctional Facility effective September 30, 2015, both as further described hereafter.
The decline in average compensated population in the nine-month
period primarily resulted from the expiration of our contract with the BOP at our Northeast Ohio Correctional Center effective May 31, 2015, as further described hereafter, and due to a decline in California inmates held in our out-of-state
facilities. The decline in average compensated population during the nine-month period was also a result of the expiration of our contract with the state of Vermont at our Lee Adjustment Center effective June 30, 2015, as further described
hereafter, and the expiration of our managed-only contract at the Winn Correctional Facility effective September 30, 2015. The decline in average compensated population during the nine-month period was partially offset by the acquisition of
Avalon in the fourth quarter of 2015, the acquisition of CMI in the second quarter of 2016, and the activation of the Trousdale Turner Correctional Center in the fourth quarter of 2015. The decline in average compensated population during the
nine-month period was also partially offset by the effect of the full activation of the South Texas Family Residential Center in the second quarter of 2015.
Business from our federal customers, including primarily the BOP, the United States Marshals Service, or USMS, and ICE, continues to be a significant
component of our business. Our federal customers generated approximately 52% of our total revenue for both the three months ended September 30, 2016 and 2015, increasing $5.9 million, or 2.5%. Our federal customers generated approximately
52% and 50% of our total revenue for the nine months ended September 30, 2016 and 2015, respectively, increasing $44.7 million, or 6.6%. The increase in federal revenues in the nine-month period primarily resulted from the full activation of
the South Texas Family Residential Center in the second quarter of 2015, partially offset by a decline in federal populations at our Northeast Ohio Correctional Center. The combined effect of per diem increases for several of our federal
contracts and a net increase in federal populations at certain other facilities also contributed to the increase in federal revenues.
Despite our increase
in federal revenues, inmate populations in federal facilities, particularly within the BOP system nationwide, have declined over the past two years. Inmate populations in the BOP system declined in 2015 and are expected to decline further in 2016
due, in part, to the retroactive application of changes to sentencing guidelines applicable to federal drug trafficking offenses. Increases in capacity within the federal system could result
40
in a decline in BOP populations within our facilities, and could negatively impact the future demand for prison capacity. Further, in a memorandum to the BOP dated August 18, 2016, the DOJ
directed that, as each contract with privately operated prisons reaches the end of its term, the BOP should either decline to renew that contract or substantially reduce its scope in a manner consistent with law and the overall decline of the
BOP’s inmate population.
In addition, on August 29, 2016, the Secretary of the DHS announced that he directed the Homeland Security Advisory Council,
or HSAC, to establish a Subcommittee of the Council to review ICE’s current policy and practices concerning the use of private immigration detention and evaluate whether this practice should be eliminated. A written report of the
subcommittee’s evaluation is to be provided by the full HSAC to the Secretary of the DHS and the Director of ICE no later than November 30, 2016. We believe the utilization of private sector bed capacity and management services provides
ICE with flexible and cost-effective solutions essential to their mission. We also believe the new contract we signed in October 2016 to provide detention space and services at our Cibola County Corrections Center to ICE for up to 1,116
detainees demonstrates the latest example of our ability to provide flexible solutions and fulfill emergent needs of ICE that would be very difficult to replicate in the public sector. However, we cannot predict the outcome of the evaluation by
the HSAC or how ICE will respond to their report. We previously housed inmates from the BOP at the Cibola facility under a contract that expired in October 2016. Therefore, this new contract provides further example of the marketability of our
real estate assets across multiple government customers.
We generated approximately 9.2% and 28.0% of our total revenue from the BOP and ICE during the
nine months ended September 30, 2016, respectively.
State revenues from facilities that we manage decreased 0.6% from the third quarter of 2015 to
the third quarter of 2016, and decreased 4.3% from the nine months ended September 30, 2015 to the same period in 2016. The decrease in state revenues in both the three- and nine-month periods was primarily a result of a decline in California
inmates held in our out-of-state facilities. In addition, the decrease in state revenues in both periods was a result of the expiration of our managed-only contract with the state of Louisiana at the state-owned Winn Correctional Facility
effective September 30, 2015. The expiration of our contract with the state of Vermont at our Lee Adjustment Center effective June 30, 2015 also contributed to the decrease in state revenues during the nine-month period. The decrease in
state revenues in both periods was partially offset by the revenue generated at our newly activated Trousdale Turner Correctional Center, and as a result of the acquisitions of Avalon’s eleven community corrections facilities in the fourth
quarter of 2015 and CMI’s seven community corrections facilities in the second quarter of 2016, each as further described hereafter.
Several of our
state partners are projecting improvements in their budgets which has resulted in our ability to secure recent per diem increases at certain facilities. Further, several of our existing state partners, as well as state partners with which we do
not currently do business, are experiencing growth in inmate populations and overcrowded conditions. Although we can provide no assurance that we will enter into any new contracts, we believe we are in a good position to not only provide them
with needed bed capacity, but with the programming and reentry services they are seeking.
41
We believe the long-term growth opportunities of our business remain attractive as governments consider their
emergent needs, as well as the efficiency, savings, and offender programming opportunities we can provide along with flexible solutions to match our partners’ needs. Further, we expect our partners to continue to face challenges in
maintaining old facilities, and developing new facilities and additional capacity which could result in future demand for the solutions we provide.
Operating Expenses
Operating expenses totaled $326.3
million and $326.5 million for the three months ended September 30, 2016 and 2015, respectively, while operating expenses for the nine months ended September 30, 2016 and 2015 totaled $956.7 million and $945.2 million, respectively. Operating
expenses consist of those expenses incurred in the operation and management of correctional, detention, and residential reentry facilities, as well as at facilities we lease to third-party operators, and for our inmate transportation subsidiary.
Expenses incurred in connection with the operation and management of correctional, detention, and residential reentry facilities decreased $0.4 million, or
0.1%, during the third quarter of 2016 compared with the same period in 2015. Operating expenses increased $14.2 million, or 1.5%, during the first nine months of 2016 compared with the same period in 2015. Similar to our increase in
revenues, operating expenses increased in the nine-month period as a result of the full activation of our South Texas Family Residential Center in the second quarter of 2015. The one additional day of operations due to leap year in 2016 also
contributed to the increase in operating expenses during the nine-month period. The increase in operating expenses in the nine-month period was also a result of the activation of the Trousdale Turner Correctional Center in the fourth quarter of
2015, and the acquisitions of Avalon and CMI. The increase in operating expenses in the nine-month period was partially offset by a reduction in expenses resulting from the expiration of our BOP contract at our Northeast Ohio Correctional
Center effective May 31, 2015, the expiration of our contract with the state of Vermont at our Lee Adjustment Center effective June 30, 2015, and the expiration of our managed-only contract with the state of Louisiana at the state-owned Winn
Correctional Facility effective September 30, 2015. In addition, the increase in operating expenses during the nine-month period was partially offset by a reduction in expenses that resulted from idling our North Fork Correctional Facility in
the fourth quarter of 2015. We idled the facility as a result of a decline in California inmates held in our out-of-state program. In May 2016, we announced that we leased the North Fork Correctional Facility to the Oklahoma Department of
Corrections, or ODOC. The lease agreement commenced on July 1, 2016, as further described hereafter.
Fixed expenses per compensated man-day
increased slightly to $38.81 during the three months ended September 30, 2016 from $38.80 during the three months ended September 30, 2015. Fixed expenses per compensated man-day increased to $39.01 during the nine months ended September 30,
2016 from $37.16 during the same period in 2015. Fixed expenses per compensated man-day increased from the nine months ended September 30, 2015 to the same period in 2016 due primarily to an increase in salaries and benefits per compensated
man-day. The increase in salaries and benefits per compensated man-day was partially a result of these expenses being leveraged over smaller offender populations at certain facilities and due to wage adjustments implemented during
2015. The increase in salaries and benefits per compensated man-day was also due to more favorable claims experience in our employee self-insured medical plan in the prior year. As the economy has improved, we have
42
experienced wage pressures in certain markets across the country. We continually monitor compensation levels very closely along with overall economic conditions and will set wage levels necessary
to help ensure the long-term success of our business. Salaries and benefits represent the most significant component of our operating expenses, representing approximately 59% of our total operating expenses during 2015 and for the first nine months
of 2016.
In May 2016, the U.S. Department of Labor released updated overtime and exemption rules under the Fair Labor Standards Act. Among other
provisions, the updated rules increase the minimum salary needed to qualify for the standard white collar employee exemption from $455 to $913 per week, or to $47,476 annually for a full-year worker. The effective date for this provision is
December 1, 2016. We expect to incur additional costs in order to comply with the revised rules. However, we anticipate that we will implement strategies to mitigate the impact of this new regulation.
Facility Management Contracts
We typically enter into
facility contracts to provide prison bed capacity and management services to governmental entities for terms typically ranging from three to five years, with additional renewal periods at the option of the contracting governmental agency.
Accordingly, a substantial portion of our facility contracts are scheduled to expire each year, notwithstanding contractual renewal options that a government agency may exercise. Although we generally expect these customers to exercise renewal
options or negotiate new contracts with us, one or more of these contracts may not be renewed by the corresponding governmental agency.
Our contract with
the District of Columbia, or District, at the D.C. Correctional Treatment Facility is scheduled to expire in the first quarter of 2017. We have been provided notice that the District does not plan to renew the contract. We recognized facility net
operating income at the D.C. Correctional Treatment Facility of $0.1 million and incurred a facility net operating loss of $0.3 million for the three months ended September 30, 2016 and 2015, respectively. We incurred facility net operating losses
at the facility of $0.4 million and $0.3 million for the nine months ended September 30, 2016 and 2015, respectively. Our investment in the direct financing lease with the District also expires in the first quarter of 2017. Upon expiration of the
lease in 2017, ownership of the facility automatically reverts to the District.
During 2015, ICE solicited proposals for the rebid of our 1,000-bed
Houston Processing Center. The contract is currently scheduled to expire in April 2017. We have submitted our response to ICE, but can provide no assurance that we will be awarded a new contract for this facility.
As previously discussed herein, on August 18, 2016, the DOJ directed that, as each contract with privately operated prisons reaches the end of its term, the
BOP should either decline to renew that contract or substantially reduce its scope in a manner consistent with law and the overall decline of the BOP’s inmate population. Currently, we have three owned and managed facilities that house BOP
inmates with contracts that expire in the next twelve months. We can provide no assurance that we will be awarded new contracts for these three facilities or that the contracts will not be substantially reduced in scope. These three facilities have
a total capacity of 5,632 beds and contributed $98.6 million in revenue during the nine months ended September 30, 2016. The total net carrying value of the three facilities was $205.3 million as of September 30, 2016.
43
During the third quarter of 2016, the Texas Department of Criminal Justice, or TDCJ, solicited proposals for the
rebid of four facilities we currently manage for the state of Texas. The current managed-only contracts for these four facilities are scheduled to expire in August 2017. The four facilities have a total capacity of 5,129 beds and generated $2.1
million in facility net operating income during the nine months ended September 30, 2016. We expect to submit our response to the solicitation, but can provide no assurance that we will be awarded new managed-only contracts for these four
facilities.
Based on information available at this filing, notwithstanding the contracts at facilities described above, we believe we will renew all
other material contracts that have expired or are scheduled to expire within the next twelve months. We believe our renewal rate on existing contracts remains high as a result of a variety of reasons including, but not limited to, the constrained
supply of available beds within the U.S. correctional system, our ownership of the majority of the beds we operate, and the quality of our operations.
The operation of the facilities we own carries a higher degree of risk associated with a facility contract than the operation of the facilities we manage but
do not own because we incur significant capital expenditures to construct or acquire facilities we own. Additionally, correctional and detention facilities have limited or no alternative use. Therefore, if a contract is terminated on a facility we
own, we continue to incur certain operating expenses, such as real estate taxes, utilities, and insurance, which we would not incur if a management contract were terminated for a managed-only facility. As a result, revenue per compensated man-day is
typically higher for facilities we own and manage than for managed-only facilities. Because we incur higher expenses, such as repairs and maintenance, real estate taxes, and insurance, on the facilities we own and manage, our cost structure for
facilities we own and manage is also higher than the cost structure for the managed-only facilities. Accordingly, the following tables display the revenue and expenses per compensated man-day for the facilities placed into service that we own and
manage and for the facilities we manage but do not own, which we believe is useful to our financial statement users:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months
Ended September 30,
|
|
|
For the Nine Months
Ended September 30,
|
|
|
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Owned and Managed Facilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue per compensated man-day
|
|
$
|
83.57
|
|
|
$
|
82.75
|
|
|
$
|
83.58
|
|
|
$
|
80.86
|
|
|
Operating expenses per compensated man-day:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed expense
|
|
|
41.79
|
|
|
|
42.15
|
|
|
|
42.14
|
|
|
|
40.09
|
|
|
Variable expense
|
|
|
16.31
|
|
|
|
17.29
|
|
|
|
16.44
|
|
|
|
16.07
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
58.10
|
|
|
|
59.44
|
|
|
|
58.58
|
|
|
|
56.16
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income per compensated man-day
|
|
$
|
25.47
|
|
|
$
|
23.31
|
|
|
$
|
25.00
|
|
|
$
|
24.70
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating margin
|
|
|
30.5
|
%
|
|
|
28.2
|
%
|
|
|
29.9
|
%
|
|
|
30.5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average compensated occupancy
|
|
|
77.0
|
%
|
|
|
79.9
|
%
|
|
|
74.9
|
%
|
|
|
81.5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average available beds
|
|
|
69,501
|
|
|
|
65,019
|
|
|
|
70,098
|
|
|
|
64,228
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average compensated population
|
|
|
53,534
|
|
|
|
51,962
|
|
|
|
52,496
|
|
|
|
52,351
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
44
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months
Ended September 30,
|
|
|
For the Nine Months
Ended September 30,
|
|
|
|
|
2016
|
|
|
2015
|
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
|
|
Managed Only Facilities:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenue per compensated man-day
|
|
$
|
42.71
|
|
|
$
|
41.03
|
|
|
$
|
42.52
|
|
|
$
|
40.92
|
|
|
Operating expenses per compensated man-day:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Fixed expense
|
|
|
26.87
|
|
|
|
26.82
|
|
|
|
26.57
|
|
|
|
26.57
|
|
|
Variable expense
|
|
|
11.60
|
|
|
|
10.93
|
|
|
|
11.22
|
|
|
|
10.71
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total
|
|
|
38.47
|
|
|
|
37.75
|
|
|
|
37.79
|
|
|
|
37.28
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating income per compensated man-day
|
|
$
|
4.24
|
|
|
$
|
3.28
|
|
|
$
|
4.73
|
|
|
$
|
3.64
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating margin
|
|
|
9.9
|
%
|
|
|
8.0
|
%
|
|
|
11.1
|
%
|
|
|
8.9
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average compensated occupancy
|
|
|
96.0
|
%
|
|
|
94.0
|
%
|
|
|
94.9
|
%
|
|
|
93.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average available beds
|
|
|
13,898
|
|
|
|
15,436
|
|
|
|
13,898
|
|
|
|
15,436
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average compensated population
|
|
|
13,347
|
|
|
|
14,503
|
|
|
|
13,186
|
|
|
|
14,450
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Owned and Managed Facilities
Facility net operating income, or the operating income or loss from operations before interest, taxes, asset impairments, depreciation and amortization, at our
owned and managed facilities increased by $13.2 million, from $125.4 million during the third quarter of 2015 to $138.6 million during the third quarter of 2016, an increase of 10.5%. Facility net operating income at our owned and managed
facilities increased by $21.8 million, from $377.7 million during the nine months ended September 30, 2015 to $399.5 million during the nine months ended September 30, 2016, an increase of 5.8%. Facility net operating income at our owned and
managed facilities in the first nine months of 2016 was favorably impacted by the full activation of the South Texas Family Residential Center. The aforementioned $13.2 million
45
and $40.0 million aggregate depreciation and interest expense associated with the lease at the South Texas Family Residential Center in the three and nine months ended September 30, 2016,
respectively, and the $13.9 million and $24.6 million in the three and nine months ended September 30, 2015, respectively, are not included in the facility net operating income amounts reported above, but are included in the per compensated man-day
statistics.
In September 2014, we announced that we agreed to an expansion of an existing inter-governmental service agreement, or IGSA, between the city
of Eloy, Arizona and ICE to house up to 2,400 individuals at the South Texas Family Residential Center, a facility we lease in Dilley, Texas. The expanded agreement gives ICE additional capacity to accommodate the influx of Central American female
adults with children arriving illegally on the Southwest border while they await the outcome of immigration hearings. As part of the agreement, we are responsible for providing space and residential services in an open and safe environment which
offers residents indoor and outdoor recreational activities, counseling, group interaction, and access to religious and legal services. In addition, we provide educational programs through a third party and food services through the lessor. ICE
Health Service Corps, a division of ICE, is responsible for medical services provided to residents. The services provided under the original amended IGSA commenced in the fourth quarter of 2014 and had an original term of up to four years.
In October 2016, we entered into an amended IGSA that provides for a new, lower fixed monthly payment commencing in November 2016, and extends the life of the
contract through September 2021. The agreement can be further extended by bi-lateral modification. However, ICE can also terminate the agreement for convenience or non-appropriation of funds, without penalty, by providing us with at least a 60-day
notice. In the event we cancel the lease with the third-party lessor prior to its expiration as a result of the termination of the IGSA by ICE for convenience, and if we are unable to reach an agreement for the continued use of the facility within
90 days from the termination date, we are required to pay a termination fee based on the termination date, currently equal to $10.0 million and declining to zero by October 2020.
We lease the South Texas Family Residential Center and the site upon which it was constructed from a third-party lessor. Concurrent with the aforementioned
amendment to the IGSA entered into in October 2016, we modified our lease agreement with the third-party lessor of the facility to reflect a reduced monthly lease expense effective in November 2016, with a new term concurrent with the amended IGSA.
ICE began housing the first residents at the facility in the fourth quarter of 2014, and the site was completed during the second quarter of 2015. In accordance with the multiple-element arrangement guidance, a portion of the fixed monthly payments
to us pursuant to the IGSA is recognized as lease and service revenue. During the three months ended September 30, 2016 and 2015, we recognized $71.4 million and $71.2 million, respectively, in total revenue associated with the facility, while
$213.1 million and $173.1 million in revenue was recognized during the nine months ended September 30, 2016 and 2015, respectively. The original IGSA with ICE had a favorable impact on the revenue and net operating income of our owned and managed
facilities during the three and nine months ended September 30, 2016 and 2015. Operating margin percentages at this facility were comparable to those of our average owned and managed facilities during 2015, but have increased during 2016 as expenses
have normalized for stabilized operations. Under terms of the aforementioned amended IGSA entered into in October 2016, we anticipate that the revenues generated at the South Texas Family Residential Center will be reduced by 40% and operating
margin percentages at the facility will be comparable to those of our average owned and managed facilities, resulting in a material reduction to our facility net operating income.
46
In June 2015, ICE announced a policy change regarding family unit detention that has shortened the duration of
ICE detention for those who are awaiting further process before immigration courts. Public policies and views regarding family detention, as well as proposals pertaining to the most effective means to address families crossing the border
illegally, continue to evolve. In addition, numerous lawsuits, to which we are not a party, have challenged the government’s policy of detaining migrant families.
One such lawsuit in the United States District Court for the Central District of California concerns a settlement agreement between ICE and a plaintiffs’
class consisting of detained minors, whereby the court issued an order on August 21, 2015, enforcing the settlement agreement and requiring compliance by October 23, 2015. The court’s order clarified that the government has the flexibility to
hold class members for longer periods of time in unlicensed and secure facilities during influxes of large numbers of undocumented migrant families via the southern U.S. border. After announcing its intention to comply fully with the
court’s order, the federal government appealed. In July 2016, the U.S. Court of Appeals for the Ninth Circuit affirmed most aspects of the District Court’s order, but ruled that ICE is not required to release a parent simply because
the settlement agreement might require release of that parent’s minor child. The impact of these rulings on family residential programs is not yet known.
In June 2016, pending further proceedings on the state’s authority to do so, a Texas state court judge blocked efforts by Texas state officials to
license the South Texas Family Residential Center as a child care center. The impact of an unfavorable decision in the aforementioned trial on family residential detention programs is not yet known. Any court decision or government action
that impacts our existing contract for the South Texas Family Residential Center could materially affect our cash flows, financial condition, and results of operations.
In December 2015, we announced that we were awarded a new contract from the Arizona Department of Corrections, or ADOC, to house up to an additional 1,000
medium-security inmates at our Red Rock facility, bringing the contracted bed capacity to 2,000 inmates. The new management contract contains an initial term of ten years, with two five-year renewal options upon mutual agreement and provides
for an occupancy guarantee of 90% of the contracted beds once the 90% occupancy rate is achieved. The government partner included the occupancy guarantee in its RFP in order to guarantee its access to the beds
.
In connection with
the new award, we are expanding our Red Rock facility to a design capacity of 2,024 beds and adding additional space for inmate reentry programming. Construction is expected to be completed late in the fourth quarter of 2016, although we began
receiving inmates under the new contract during the third quarter of 2016. The new contract is expected to generate approximately $22.0 million to $25.0 million of incremental annual revenue.
In May 2011, in response to a lawsuit brought by inmates against the state of California, the U.S. Supreme Court upheld a lower court ruling issued by a three
judge panel requiring California to reduce its inmate population to 137.5% of its capacity. In an effort to meet the Federal court ruling, the state of California enacted legislation that shifted the responsibilities for housing certain lower
level inmates from state government to local jurisdictions. This realignment plan commenced on October 1, 2011 and, along with other actions to reduce inmate populations, has resulted in a reduction in state inmate populations of approximately
30,000 as of September 30, 2016.
47
During the first quarter of 2015, the adult inmate population held in state of California institutions first met
the Federal court order to reduce inmate populations below 137.5% of its capacity. Inmate populations in the state continued to decline below the court ordered capacity limit which has resulted in declining inmate populations in the out-of-state
program. As of September 30, 2016, the adult inmate population held in state of California institutions remained in compliance with the Federal court order at approximately 135.0% of capacity, or approximately 114,000 inmates, which did not include
the California inmates held in our out-of-state facilities. During the quarters ended September 30, 2016 and 2015, we housed an average daily population of approximately 4,800 and 6,850 inmates, respectively, from the state of California as a
partial solution to the State’s overcrowding. This decline in population resulted in a decrease in revenue of $12.2 million and $52.6 million, respectively, from the three and nine months ended September 30, 2015 to the comparable periods in
2016.
Approximately 6% and 10% of our total revenue for the nine months ended September 30, 2016 and 2015, respectively, was generated from the CDCR in
facilities housing inmates outside the state of California. An elimination of the use of our out-of-state solutions by the state of California would have a significant adverse impact on our financial position, results of operations, and cash flows.
During December 2014, the BOP announced that it elected not to renew its contract with us at our owned and managed 2,016-bed Northeast Ohio Correctional
Center. The contract with the BOP at this facility expired on May 31, 2015. Facility net operating income decreased by $10.5 million from the nine months ended September 30, 2015 to the comparable period in 2016 as a result of this reduction in
inmate population. We expect to continue to house USMS detainees at this facility pursuant to a separate contract that expires December 31, 2016 with one two-year renewal option remaining, while we continue to market the space that became available.
During the fourth quarter of 2015, we closed on the acquisition of 100% of the stock of Avalon, along with two additional facilities operated by Avalon.
The acquisition included 11 community corrections facilities with approximately 3,000 beds in Oklahoma, Texas, and Wyoming. We acquired Avalon, which specializes in community correctional services, drug and alcohol treatment services, and
residential reentry services, as a strategic investment that continues to expand the reentry assets we own and the services we provide.
On April 8, 2016,
we closed on the acquisition of 100% of the stock of CMI along with the real estate used in the operation of CMI’s business from two entities affiliated with CMI. CMI, a privately held community corrections company that operates seven community
corrections facilities, including six owned and one leased, with approximately 600 beds in Colorado, specializes in community correctional services, drug and alcohol treatment services, and residential reentry services. CMI provides these services
through multiple contracts with three counties in Colorado, as well as the Colorado Department of Corrections, a pre-existing partner of ours. We acquired CMI as a strategic investment that continues to expand the reentry assets we own and the
services we provide. We currently expect the annualized revenues to be generated by these seven facilities to range from approximately $12.0 million to $13.0 million.
48
Total revenue generated from the acquisitions of Avalon and CMI during the three and nine months ended September
30, 2016 totaled $12.1 million and $32.8 million, respectively.
Managed-Only Facilities
Total revenue at our managed-only facilities decreased $2.4 million, from $54.8 million during the third quarter of 2015 to $52.4 million during the third
quarter of 2016, and decreased $7.8 million, from $161.4 million during the nine months ended September 30, 2015 to $153.6 million during the nine months ended September 30, 2016. The decrease in revenues in both periods at our
managed-only facilities was largely the result of our decision to exit the contract at the Winn Correctional Center effective September 30, 2015. Facility net operating income at our managed-only facilities increased $0.8 million, from
$4.4 million during the three months ended September 30, 2015 to $5.2 million during the three months ended September 30, 2016, and increased $2.8 million, from $14.3 million during the nine months ended September 30, 2015 to $17.1 million
during the nine months ended September 30, 2016. During the three and nine months ended September 30, 2016, managed-only facilities generated 3.6% and 4.1%, respectively, of our total facility net operating income compared with 3.4% and 3.7%
during the three and nine months ended September 30, 2015, respectively.
We expect the managed-only business to remain competitive and we will only
pursue opportunities for managed-only business where we are sufficiently compensated for the risk associated with this competitive business. Further, we may terminate existing contracts from time to time when we are unable to achieve per diem
increases that offset increasing expenses and enable us to maintain safe, effective operations. In April 2015, we provided notice to the state of Louisiana that we would cease management of the contract at the 1,538-bed Winn Correctional Center
within 180 days, in accordance with the notice provisions of the contract. Management of the facility transitioned to another operator effective September 30, 2015. We incurred a facility net operating loss at the Winn Correctional Center
of $1.0 million and $3.9 million during the three and nine months ended September 30, 2015, respectively. In anticipation of terminating the contract at this facility, we also recorded an asset impairment of $1.0 million during the first
quarter of 2015 for the write-off of goodwill associated with the Winn facility.
Other Facility-Related Activity
In May 2016, we entered into a lease with the ODOC for our previously idled 2,400-bed North Fork Correctional Facility. The lease agreement commenced on
July 1, 2016, and includes a five-year base term with unlimited two-year renewal options. However, the lease agreement permitted the ODOC to utilize the facility for certain activation activities and, therefore, revenue recognition began upon
execution of the lease. The average annual rent to be recognized during the five-year base term is $7.3 million, including annual rent in the fifth year of $12.0 million. After the five-year base term, the annual rent will be equal to the
rent due during the prior lease year, adjusted for increases in the Consumer Price Index, or CPI. We are responsible for repairs and maintenance, property taxes and property insurance, while all other aspects and costs of facility operations
are the responsibility of the ODOC.
49
General and administrative expenses
For the three months ended September 30, 2016 and 2015, general and administrative expenses totaled $27.7 million and $26.8 million, respectively, while
general and administrative expenses totaled $81.5 million and $76.8 million during the nine months ended September 30, 2016 and 2015, respectively. General and administrative expenses consist primarily of corporate management salaries and
benefits, professional fees and other administrative expenses. We incurred $0.1 million and $1.6 million of expenses in the three and nine months ended September 30, 2016, respectively, associated with mergers and acquisitions. We incurred $1.7
million of expenses in the three and nine months ended September 30, 2015 associated with mergers and acquisitions. As we pursue additional mergers and acquisitions, we could incur significant general and administrative expenses in the future
associated with our due diligence efforts, whether or not such transactions are completed. These expenses could create volatility in our earnings. However, notwithstanding these expenses, we currently expect general and administrative expenses to
decrease in the future as a result of a cost reduction plan we implemented at the end of the third quarter of 2016 as part of a restructuring of our corporate operations, as described hereafter.
Depreciation and amortization
For the three
months ended September 30, 2016 and 2015, depreciation and amortization expense totaled $42.9 million and $41.2 million, respectively, while depreciation and amortization expense totaled $127.3 million and $108.3 million, respectively, during the
nine months ended September 30, 2016 and 2015. Our depreciation and amortization expense increased in the nine-month period as a result of completion of construction of the 2,400-bed South Texas Family Residential Center in the second quarter of
2015. Prior to the second quarter of 2015, residents had been housed in pre-existing housing units on the property. Our lease agreement with the third-party lessor resulted in CCA being deemed the owner of the newly constructed assets for accounting
purposes, in accordance with ASC 840-40-55, formerly Emerging Issues Task Force No. 97-10, “The Effect of Lessee Involvement in Asset Construction”. Accordingly, our balance sheet reflects the costs attributable to the building assets
constructed by the third-party lessor, which, beginning in the second quarter of 2015, began depreciating over the remainder of the four-year term of the original lease. Depreciation expense for the constructed assets at this facility was $10.7
million and $31.9 million during the three and nine months ended September 30, 2016, respectively. As previously described herein, we modified our lease agreement with the third-party lessor of the facility in October 2016, which resulted in a
reduced monthly lease expense effective in November 2016 and extended the life of the contract. As a result of the modification, depreciation expense for the constructed assets at the South Texas Family Residential Center is expected to approximate
$39.0 million during the year ending December 31, 2016. As a result of the October 2016 amended IGSA and modification of the lease agreement which extended the life of the contract, we expect depreciation expense associated with the constructed
assets to further decline in 2017 to approximately $16.6 million. Depreciation expense for the constructed assets was $10.7 million and $19.2 million during the three and nine months ended September 30, 2015, respectively. Depreciation expense also
increased in the three and nine months ended September 30, 2016 when compared to the same periods in the prior year due to the completion of the Trousdale Turner Correctional Center construction project in the fourth quarter of 2015.
50
Restructuring charges
During the third quarter of 2016, we announced a restructuring of our corporate operations and implementation of a cost reduction plan, resulting in the
elimination of approximately 12% of the corporate workforce at our headquarters. The restructuring realigns the corporate structure to more effectively serve facility operations and support the progression of our business diversification strategy.
We reported a charge in the third quarter of 2016 of $4.0 million associated with this restructuring. This charge primarily consists of cash payments for severance and related benefits to terminated employees and a non-cash charge associated with
the voluntary forfeiture by our chief executive officer of a restricted stock unit award. The impact of these staffing reductions, together with the implementation of the cost reduction plan, are expected to result in expense savings of
approximately $9.0 million in 2017, most of which are general and administrative expenses. A substantial portion of these expense savings will commence in the fourth quarter of 2016.
Interest expense, net
Interest expense is
reported net of interest income and capitalized interest for the three and nine months ended September 30, 2016 and 2015. Gross interest expense, net of capitalized interest, was $17.1 million and $12.8 million, respectively, for the three months
ended September 30, 2016 and 2015, and was $52.2 million and $35.4 million, respectively, for the nine months ended September 30, 2016 and 2015. Gross interest expense is based on outstanding borrowings under our $900.0 million revolving credit
facility, or revolving credit facility, our outstanding Incremental Term Loan, or Term Loan, and our outstanding senior notes, as well as the amortization of loan costs and unused facility fees. We also incur interest expense associated with the
lease of the South Texas Family Residential Center, in accordance with ASC 840-40-55. Our interest expense increased in the nine-month period as a result of completion of construction of the 2,400-bed South Texas Family Residential Center in the
second quarter of 2015. Interest expense associated with the lease of this facility was $2.5 million and $8.1 million during the three and nine months ended September 30, 2016, respectively. As a result of the aforementioned modification to the
lease agreement with the third-party lessor in October 2016, interest expense associated with the lease of the South Texas Family Residential Center is expected to approximate $10.0 million during the year ending December 31, 2016. As a result of
the October 2016 amended IGSA and modification of the lease agreement which extended the life of the contract, we expect interest expense associated with the lease to further decline in 2017 to approximately $6.4 million. Interest expense associated
with the lease of this facility was $3.2 million and $5.4 million during the three and nine months ended September 30, 2015, respectively.
We have
benefited from relatively low interest rates on our revolving credit facility, which is largely based on the London Interbank Offered Rate, or LIBOR. It is possible that LIBOR could increase in the future. The interest rate on our revolving credit
facility was at LIBOR plus a margin of 1.75% during the first six months of 2015. During July 2015, we amended and restated the revolving credit facility agreement to, among other modifications, reduce by 0.25% the applicable margin of base rate and
LIBOR loans. Based on our leverage ratio, loans under our revolving credit facility during the last six months of 2015 and the first nine months of 2016 were at the base rate plus a margin of 0.50% or at LIBOR plus a margin of 1.50%, and a
commitment fee equal to 0.35% of the unfunded balance.
51
On September 25, 2015, we completed the offering of $250.0 million aggregate principal amount of 5.0% senior
notes due October 15, 2022. We used net proceeds from the offering to pay down a portion of our revolving credit facility which had a variable weighted average interest rate of 2.0% at September 30, 2016. While our interest expense increased
during the first nine months of 2016 compared with the prior year as a result of this refinancing transaction completed in 2015, we reduced our exposure to variable rate debt, extended our weighted average maturity, and increased the availability
under our revolving credit facility.
Gross interest income was $0.2 million and $1.0 million for the three months ended September 30, 2016 and 2015,
respectively. Gross interest income was $0.9 million and $1.7 million for the nine months ended September 30, 2016 and 2015, respectively. Gross interest income is earned on a direct financing lease, notes receivable, investments, and cash and cash
equivalents. Capitalized interest was $0.2 million and $1.8 million during the three months ended September 30, 2016 and 2015, respectively. Capitalized interest was $0.4 million and $4.5 million during the nine months ended September 30, 2016 and
2015, respectively. Capitalized interest decreased in both periods as a result of the completion of the Otay Mesa Detention Center and the Trousdale Turner Correctional Center construction projects in the fourth quarter of 2015. Capitalized interest
in the first nine months of 2016 was primarily associated with the expansion project at our Red Rock Correctional Center, as further described under “Liquidity and Capital Resources” hereafter.
Income tax expense
During the three months ended
September 30, 2016 and 2015, our financial statements reflected an income tax expense of $1.6 million and $2.7 million, respectively. During the nine months ended September 30, 2016 and 2015, our financial statements reflected an income tax expense
of $5.4 million and $6.7 million, respectively. Our effective tax rate was 3.3% and 3.7% during the nine months ended September 30, 2016 and 2015, respectively. As a REIT, we are entitled to a deduction for dividends paid, resulting in a substantial
reduction in the amount of federal income tax expense we recognize. Substantially all of our income tax expense is incurred based on the earnings generated by our TRSs. Our overall effective tax rate is estimated based on the current projection of
taxable income primarily generated in our TRSs. Our consolidated effective tax rate could fluctuate in the future based on changes in estimates of taxable income, the relative amounts of taxable income generated by the TRSs and the REIT, the
implementation of additional tax planning strategies, changes in federal or state tax rates or laws affecting tax credits available to us, changes in other tax laws, changes in estimates related to uncertain tax positions, or changes in state
apportionment factors, as well as changes in the valuation allowance applied to our deferred tax assets that are based primarily on the amount of state net operating losses and tax credits that could expire unused.
LIQUIDITY AND CAPITAL RESOURCES
Our principal capital
requirements are for working capital, stockholder distributions, capital expenditures, and debt service payments. Capital requirements may also include cash expenditures associated with our outstanding commitments and contingencies, as further
discussed in the notes to our financial statements and as further described in our 2015 Form 10-K. Additionally, we may incur capital expenditures to expand the design capacity of certain of our facilities (in order to retain management contracts)
and to increase our inmate bed capacity for anticipated demand from current and future customers. We may acquire
52
additional correctional and residential reentry facilities as well as other real estate assets used to provide mission critical governmental services primarily in the criminal justice sector,
that we believe have favorable investment returns and increase value to our stockholders. We will also consider opportunities for growth, including, but not limited to, potential acquisitions of businesses within our lines of business and those
that provide complementary services, provided we believe such opportunities will broaden our market share and/or increase the services we can provide to our customers.
To qualify and be taxed as a REIT, we generally are required to distribute annually to our stockholders at least 90% of our REIT taxable income (determined
without regard to the dividends paid deduction and excluding net capital gains). Our REIT taxable income will not typically include income earned by our TRSs except to the extent our TRSs pay dividends to the REIT. Our Board of Directors
declared a quarterly dividend of $0.54 for the first, second, and third quarters of 2016 totaling $64.0 million in each quarter. The amount, timing and frequency of future distributions will be at the sole discretion of our Board of Directors
and will be declared based upon various factors, many of which are beyond our control, including our financial condition and operating cash flows, the amount required to maintain qualification and taxation as a REIT and reduce any income and excise
taxes that we otherwise would be required to pay, limitations on distributions in our existing and future debt instruments, our ability to utilize net operating losses, or NOLs, to offset, in whole or in part, our REIT distribution requirements,
limitations on our ability to fund distributions using cash generated through our TRSs and other factors that our Board of Directors may deem relevant.
As of September 30, 2016, our liquidity was provided by cash on hand of $42.7 million, and $471.7 million available under our revolving credit
facility. During the nine months ended September 30, 2016 and 2015, we generated $301.2 million and $305.7 million, respectively, in cash through operating activities. We currently expect to be able to meet our cash expenditure
requirements for the next year utilizing these resources. We have no debt maturities until April 2020.
Our cash flow is subject to the receipt of
sufficient funding of and timely payment by contracting governmental entities. If the appropriate governmental agency does not receive sufficient appropriations to cover its contractual obligations, it may terminate our contract or delay or
reduce payment to us. Delays in payment from our major customers or the termination of contracts from our major customers could have an adverse effect on our cash flow, financial condition and, consequently, dividend distributions to our
shareholders
.
Debt and equity
As of
September 30, 2016, we had $350.0 million principal amount of unsecured notes outstanding with a fixed stated interest rate of 4.625%, $325.0 million principal amount of unsecured notes outstanding with a fixed stated interest rate of 4.125%, and
$250.0 million principal amount of unsecured notes outstanding with a fixed stated interest rate of 5.0%. In addition, we had $96.3 million outstanding under our Term Loan with a variable interest rate of 2.0%, and $418.0 million outstanding
under our revolving credit facility with a variable weighted average interest rate of 2.0%. As of September 30, 2016, our total weighted average effective interest rate was 4.0%, while our total weighted average maturity was 4.8 years. We
also have the flexibility to issue debt or equity securities from time to time when we determine that market conditions and the opportunity to utilize the proceeds from the issuance of such securities are favorable.
53
On February 26, 2016, we entered into an ATM Equity Offering Sales Agreement, or ATM Agreement, with multiple
sales agents. Pursuant to the ATM Agreement, we may offer and sell to or through the sales agents from time to time, shares of our common stock, par value $0.01 per share, having an aggregate gross sales price of up to $200.0
million. Sales, if any, of our shares of common stock will be made primarily in “at-the-market” offerings, as defined in Rule 415 under the Securities Act of 1933, as amended. The shares of common stock will be offered and sold
pursuant to our registration statement on Form S-3 filed with the SEC on May 15, 2015, and a related prospectus supplement dated February 26, 2016. We intend to use the net proceeds from any sale of shares of our common stock to repay
borrowings under our revolving credit facility (including the Term Loan under the “accordion” feature of the revolving credit facility) and for general corporate purposes, including to fund future acquisitions and development
projects. There were no shares of our common stock sold under the ATM Agreement during the nine months ended September 30, 2016.
On August 19, 2016,
Moody’s downgraded our senior unsecured debt rating to “Ba1” from “Baa3”. Also on August 19, 2016, Standard & Poor’s Ratings Services, or S&P, lowered our corporate credit and senior unsecured debt ratings
to “BB” from “BB+”. Additionally, S&P lowered our revolving credit facility rating to “BBB-” from “BBB”. Both Moody’s and S&P lowered our ratings as a result of the DOJ announcing its
plans on August 18, 2016 to reduce the BOP’s utilization of privately operated prisons. On February 7, 2012, Fitch Ratings assigned a rating of “BBB-” to our revolving credit facility and “BB+” ratings to our unsecured
debt and corporate credit.
Facility development and capital expenditures
In December 2015, we announced we were awarded a new contract from the ADOC to house up to an additional 1,000 medium-security inmates at our 1,596-bed Red
Rock Correctional Center in Arizona. In connection with the new contract, we are expanding our Red Rock facility to a design capacity of 2,024 beds and adding additional space for inmate reentry programming. Total cost of the expansion is
estimated at approximately $37.0 million to $38.0 million, including $30.5 million invested through September 30, 2016. Construction is expected to be completed late in the fourth quarter of 2016, although we began receiving inmates under the
new contract during the third quarter of 2016.
The demand for capacity in the short-term has been affected by the budget challenges many of our government
partners currently face. At the same time, these challenges impede our customers’ ability to construct new prison beds of their own or update older facilities, which we believe could result in further need for private sector capacity
solutions in the long-term. We intend to continue to pursue build-to-suit opportunities like our 2,552-bed Trousdale Turner Correctional Center recently constructed in Trousdale County, Tennessee, and alternative solutions like the 2,400-bed South
Texas Family Residential Center whereby we identified a site and lessor to provide residential housing and administrative buildings for ICE. We also expect to continue to pursue investment opportunities and are in various stages of due
diligence to complete additional transactions like the acquisitions of five residential reentry facilities in Pennsylvania and California over the past year, and business combination transactions like the acquisitions of Avalon and CMI. The
transactions that have not yet
54
closed are subject to various customary closing conditions, and we can provide no assurance that any such transactions will ultimately be completed. We are also pursuing investment
opportunities in other real estate assets used to provide mission critical governmental services primarily in the criminal justice sector. In the long-term, however, we would like to see meaningful utilization of our available capacity and better
visibility from our customers before we add any additional prison capacity on a speculative basis.
Operating Activities
Our net cash provided by operating activities for the nine months ended September 30, 2016 was $301.2 million, compared with $305.7 million for the same period
in the prior year. Cash provided by operating activities represents the year to date net income plus depreciation and amortization, changes in various components of working capital, and various non-cash charges. The decrease in cash
provided by operating activities was primarily due to the reduction in net income offset partially by positive fluctuations in working capital balances during the nine months ended September 30, 2016 when compared to the same period in the prior
year and routine timing differences in the collection of accounts receivables and in the payment of accounts payables, accrued salaries and wages, and other liabilities. These positive working capital fluctuations are net of a decrease in deferred
revenues associated with the South Texas Family Residential Center.
Investing Activities
Our cash flow used in investing activities was $96.0 million for the nine months ended September 30, 2016 and was primarily attributable to capital
expenditures during the nine-month period of $63.6 million, including expenditures for facility development and expansions of $30.9 million primarily related to the aforementioned expansion project at our Red Rock Correctional Center, and $32.8
million for facility maintenance and information technology capital expenditures. Our cash flow used in investing activities also included $43.8 million attributable to the acquisitions of CMI and a residential reentry facility in California
during the second quarter of 2016. Partially offsetting these cash outflows, we received proceeds of $8.2 million primarily related to the sale of undeveloped land. Our cash flow used in investing activities was $225.7 million for the nine
months ended September 30, 2015 and was primarily attributable to capital expenditures during the nine-month period of $182.9 million, including expenditures for facility development and expansions of $143.8 million and $39.1 million for facility
maintenance and information technology capital expenditures. In addition, cash flow used in investing activities during the nine months ended September 30, 2015 included $34.5 million of capitalized lease payments related to the South Texas
Family Residential Center. Our cash flow used in investing activities during the nine months ended September 30, 2015 also included $13.8 million related to the acquisition of four community corrections facilities in August 2015.
Financing Activities
Cash flow used in financing
activities was $227.8 million for the nine months ended September 30, 2016 and was primarily attributable to dividend payments of $192.0 million and $4.0 million for the purchase and retirement of common stock that was issued in connection with
equity-based compensation. In addition, cash flow used in financing activities included $10.6 million of cash payments associated with the financing components of the lease related to the South Texas Family Residential Center and $24.8 million
of net repayments under our revolving credit facility and Term Loan.
55
Cash flow used in financing activities was $76.1 million for the nine months ended September 30, 2015 and was
primarily attributable to dividend payments of $187.5 million. Additionally, cash flow used in financing activities included $9.5 million for the purchase and retirement of common stock that was issued in connection with equity-based
compensation. Cash flow used in financing activities for the nine months ended September 30, 2015 also included $4.6 million for the payment of debt issuance and other refinancing costs associated with refinancing transactions. In
addition, cash flow used in financing activities during the nine months ended September 30, 2015 included $3.2 million of lease payments associated with the financing components of the lease related to the South Texas Family Residential
Center. These payments were partially offset by $120.0 million of net proceeds from issuance of debt and principal repayments under our revolving credit facility during the nine months ended September 30, 2015, as well as the cash flows
associated with exercising stock options, including the related income tax benefit of equity compensation, totaling $8.1 million.
Funds from
Operations
Funds From Operations, or FFO, is a widely accepted supplemental non-GAAP measure utilized to evaluate the operating performance of real
estate companies. The National Association of Real Estate Investment Trusts, or NAREIT, defines FFO as net income computed in accordance with generally accepted accounting principles, excluding gains or losses from sales of property and
extraordinary items, plus depreciation and amortization of real estate and impairment of depreciable real estate and after adjustments for unconsolidated partnerships and joint ventures calculated to reflect funds from operations on the same basis.
We believe FFO is an important supplemental measure of our operating performance and believe it is frequently used by securities analysts, investors and
other interested parties in the evaluation of REITs, many of which present FFO when reporting results.
We also present Normalized FFO as an additional
supplemental measure as we believe it is more reflective of our core operating performance. We may make adjustments to FFO from time to time for certain other income and expenses that we consider non-recurring, infrequent or unusual, even though
such items may require cash settlement, because such items do not reflect a necessary component of our ongoing operations. Even though expenses associated with mergers and acquisitions, or M&A, may be recurring, the magnitude and timing
fluctuate based on the timing and scope of M&A activity, and therefore, such expenses, which are not a necessary component of our ongoing operations, may not be comparable from period to period. Normalized FFO excludes the effects of such
items.
56
FFO and Normalized FFO are supplemental non-GAAP financial measures of real estate companies’ operating
performances, which do not represent cash generated from operating activities in accordance with GAAP and therefore should not be considered an alternative for net income or as a measure of liquidity. Our method of calculating FFO and Normalized FFO
may be different from methods used by other REITs and, accordingly, may not be comparable to such other REITs.
Our reconciliation of net income to FFO
and Normalized FFO for the three and nine months ended September 30, 2016 and 2015 is as follows (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Three Months Ended September 30,
|
|
|
FUNDS FROM OPERATIONS:
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
Net income
|
|
$
|
55,340
|
|
|
$
|
50,676
|
|
|
Depreciation of real estate assets
|
|
|
23,684
|
|
|
|
22,577
|
|
|
|
|
|
|
|
|
|
|
|
|
Funds From Operations
|
|
|
79,024
|
|
|
|
73,253
|
|
|
|
|
|
|
Expenses associated with debt refinancing transactions
|
|
|
—
|
|
|
|
701
|
|
|
Expenses associated with mergers and acquisitions
|
|
|
110
|
|
|
|
1,674
|
|
|
Gain on settlement of contingent consideration
|
|
|
(2,000
|
)
|
|
|
—
|
|
|
Restructuring charges
|
|
|
4,010
|
|
|
|
—
|
|
|
Income tax benefit for special items
|
|
|
(215
|
)
|
|
|
(24
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Normalized Funds From Operations
|
|
$
|
80,929
|
|
|
$
|
75,604
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
For the Nine Months Ended September 30,
|
|
|
FUNDS FROM OPERATIONS:
|
|
2016
|
|
|
2015
|
|
|
|
|
|
|
Net income
|
|
$
|
159,230
|
|
|
$
|
173,256
|
|
|
Depreciation of real estate assets
|
|
|
70,409
|
|
|
|
66,024
|
|
|
|
|
|
|
|
|
|
|
|
|
Funds From Operations
|
|
|
229,639
|
|
|
|
239,280
|
|
|
|
|
|
|
Expenses associated with debt refinancing transactions
|
|
|
—
|
|
|
|
701
|
|
|
Expenses associated with mergers and acquisitions
|
|
|
1,570
|
|
|
|
1,674
|
|
|
Gain on settlement of contingent consideration
|
|
|
(2,000
|
)
|
|
|
—
|
|
|
Restructuring charges
|
|
|
4,010
|
|
|
|
—
|
|
|
Goodwill and other impairments
|
|
|
—
|
|
|
|
955
|
|
|
Income tax benefit for special items
|
|
|
(215
|
)
|
|
|
(24
|
)
|
|
|
|
|
|
|
|
|
|
|
|
Normalized Funds From Operations
|
|
$
|
233,004
|
|
|
$
|
242,586
|
|
|
|
|
|
|
|
|
|
|
|
57
Contractual Obligations
The following schedule summarizes our contractual cash obligations by the indicated period as of September 30, 2016 (in thousands):
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Payments Due By Year Ended December 31,
|
|
|
|
|
2016
(remainder)
|
|
|
2017
|
|
|
2018
|
|
|
2019
|
|
|
2020
|
|
|
Thereafter
|
|
|
Total
|
|
|
Long-term debt
|
|
$
|
1,250
|
|
|
$
|
10,000
|
|
|
$
|
10,000
|
|
|
$
|
15,000
|
|
|
$
|
803,000
|
|
|
$
|
600,000
|
|
|
$
|
1,439,250
|
|
|
Interest on senior notes
|
|
|
21,047
|
|
|
|
42,094
|
|
|
|
42,094
|
|
|
|
42,094
|
|
|
|
35,390
|
|
|
|
65,469
|
|
|
|
248,188
|
|
|
Contractual facility developments and other commitments
|
|
|
12,307
|
|
|
|
767
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
—
|
|
|
|
13,074
|
|
|
South Texas Family Residential Center
|
|
|
16,319
|
|
|
|
50,808
|
|
|
|
50,808
|
|
|
|
50,808
|
|
|
|
50,947
|
|
|
|
38,976
|
|
|
|
258,666
|
|
|
Operating leases
|
|
|
167
|
|
|
|
589
|
|
|
|
605
|
|
|
|
615
|
|
|
|
563
|
|
|
|
864
|
|
|
|
3,403
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Total contractual cash obligations
|
|
$
|
51,090
|
|
|
$
|
104,258
|
|
|
$
|
103,507
|
|
|
$
|
108,517
|
|
|
$
|
889,900
|
|
|
$
|
705,309
|
|
|
$
|
1,962,581
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
The cash obligations in the table above do not include future cash obligations for variable interest expense associated with
our Term Loan or the balance on our outstanding revolving credit facility as projections would be based on future outstanding balances as well as future variable interest rates, and we are unable to make reliable estimates of either. Further, the
cash obligations in the table above also do not include future cash obligations for uncertain tax positions as we are unable to make reliable estimates of the timing of such payments, if any, to the taxing authorities. The contractual facility
developments included in the table above represent development projects for which we have already entered into a contract with a customer that obligates us to complete the development project. Certain of our other ongoing construction projects
are not currently under contract and thus are not included as a contractual obligation above as we may generally suspend or terminate such projects without substantial penalty. With respect to the South Texas Family Residential Center, the cash
obligations included in the table above reflect the full contractual obligations of the lease of the site, excluding contingent payments, even though the lease agreement provides us with the ability to terminate if ICE terminates the amended IGSA,
as previously described herein.
We had $10.3 million of letters of credit outstanding at September 30, 2016 primarily to support our requirement to repay
fees and claims under our self-insured workers’ compensation plan in the event we do not repay the fees and claims due in accordance with the terms of the plan. The letters of credit are renewable annually. We did not have any draws
under any outstanding letters of credit during the nine months ended September 30, 2016 or 2015.
INFLATION
Many of our management contracts include provisions for inflationary indexing, which mitigates an adverse impact of inflation on net income. However, a
substantial increase in personnel costs, workers’ compensation or food and medical expenses could have an adverse impact on our results of operations in the future to the extent that these expenses increase at a faster pace than the per diem or
fixed rates we receive for our management services. We outsource our food service operations to a third party. The contract with our outsourced food service vendor contains certain protections against increases in food costs.
58
SEASONALITY AND QUARTERLY RESULTS
Our business is subject to seasonal fluctuations. Because we are generally compensated for operating and managing facilities at an inmate per diem rate,
our financial results are impacted by the number of calendar days in a fiscal quarter. Our fiscal year follows the calendar year and therefore, our daily profits for the third and fourth quarters include two more days than the first quarter (except
in leap years) and one more day than the second quarter. Further, salaries and benefits represent the most significant component of operating expenses. Significant portions of the Company’s unemployment taxes are recognized during the
first quarter, when base wage rates reset for unemployment tax purposes. Finally, quarterly results are affected by government funding initiatives, the timing of the opening of new facilities, or the commencement of new management contracts and
related start-up expenses which may mitigate or exacerbate the impact of other seasonal influences. Because of these seasonality factors, results for any quarter are not necessarily indicative of the results that may be achieved for the full
fiscal year.