March 03, 2020 - 10:40pm EST by
2020 2021
Price: 16.07 EPS 0 0
Shares Out. (in M): 119 P/E 0 0
Market Cap (in $M): 1,915 P/FCF 7.5 7.3
Net Debt (in $M): 2,000 EBIT 0 0
TEV ($): 3,900 TEV/EBIT 11 10.5

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CoreCivic, formerly known as Corrections Corporation of America, is one of two publicly-traded private prison REITs (the other being GEO Group, which carries higher leverage and has a greater mix of managed-only vs. owned prisons). The business operates across three segments:

  • Safety (80% of NOI) - operates 50 correctional and detection facilities that are either owned or controlled under long-term leases, with a total design capacity of 73k beds
  • Properties (10% of NOI) - owns 28 properties representing 2.4mm square feet for lease to government agencies 
  • Community (5% of NOI) - owns and operates 29 residential reenetry centers with a total design capacity of 5k beds
Private prisons are politically unpopular and out of favor. The Company has virtually no research coverage and sometimes no Q&A participants on its earnings calls despite a $2B market capitalization. 
CoreCivic today trades at a 11% dividend yield, a ~15% maintenance free cash flow yield (~18% yield on the core Safety business), and is valued at a significant discount to the replacement cost of its assets. At the same time, the Company has diversified its business model (adding a growing portfolio of residential re-entry facilities and generic government office properties equal in value to ~30% of current TEV) and reduced exposure to politically-sensitive customers (like the Bureau of Prisons and California Department of Corrections), while earnings and revenues have been resilient through a volatile political backdrop. 
Despite the high degree of political sensitivity around its business model, private prisons are an essential government partner that provides a critical service to federal and state governments with little alternative capacity. Private prison inmates account for ~8% of the U.S. inmate population. Any attempt to abolish the private system will need to address how to realistically re-house ~120k+ inmates into public facilities that are ill-equipped to absorb the resulting burden.
There is little new prison capacity being built around the country due to difficulties around permitting, NIMBYism, long development lead times (~5 years), and high capital investments (~$150M-$200M per build). Despite a temporary drop in incarceration between 2012 and 2016, the inmate population is expected to continue to grow at 1-2% over the medium-term, and the business is counter-cyclical (incarcerations tend to grow during recessions). 
Despite a lot of negative press about the conditions of private prisons, the public system suffers from the same issues of severe overcapacity (most prisons are 99%+ occupancy), outdated facilities, insufficient budgets to fund investments in prison infrastructure (which are generally low priority legislatively), and labor shortages. Private prisons like CoreCivic provide critical capacity to the system in dire need of it, while generally delivering similar outcomes as their public prison counterparts. This has resulted in consistent 90%+ contract retention rates and 80% occupancy rates over the past 5 years. Even California's recent legislation to phase out private prisons still contains multiple carve-outs and exemptions for their continued use. 
In the event a broader attempt is made to abolish private prisons nationally, the most likely scenario is that CoreCivic ceases to directly manage the prisons, and state or federal governments either buy or lease CoreCivic's portfolio of owned facilities directly given the lack of capacity at existing prisons in the public system and the lack of new greenfields in the pipeline. I believe there is a significant margin of safety in that scenario based on replacement cost. The discussion by Management below in the third quarter call describes the downside case:
"As we think about worst-case scenario, we think that the need for capacity does not change. And also, the alternatives to our capacity is not available, so I'd start with that overarching assumption.So as we think about worst-case scenario, we think that an option could be if there is a big push not only in federal, but at state level to eliminate use of the private sector to provide real estate and services, that maybe the option that they ask us to consider is to either buy our existing assets or capacity or lease our facilities. And so let me walk you through, first, a little bit of math that we e xplained through.So as you know, we've got about 73,000 beds of capacity in our Safety segment. Of that, about 65,000 is beds that we own outright. So if you take that 65,000 and consider some recent building that the federal or states have done here in the last, let's say, probably 4 years or 5 years, at the federal level we've seen cost per beds in the range of $200,000 to $400,000 per bed. And at the state level, we've seen some building projects in the range of $100,000 to $200,000 a bed. So look at it this way: if you think about half our business is with the federal, half our business with the states, $200,000 per bed is probably a good average per bed if you look at recent building projects within our industry. So you take that $200,000 per bed. It gives the 65,000 beds that we own, that gives you a valuation of about $13 billion for our real estate.

So I think if worst-case scenario is they don't want to use the private sector no longer for services, but they don't have an alternative, they don't want to build new capacity, and they need our capacity, either an outright purchase or a lease of that capacity, we think it is probably net positive at the end of the day. Now $13 billion, you can argue what the right cap rate is on that, but I think if you look at our current market cap in the equity market, again, I'd say that's still a net positive.

And also I'd say if you look at the overarching enterprise, that does not include, that $13 billion does not include Property or Community. So if you just did a simple, let's say, 13x to 15x multiple on the FFO earnings from the Property segment, that would get you in around the $900 million range for that portfolio alone, and then another $300 million if you look at the acquisition we've done on the Community segment. So that gives you a sense of enterprise value into the real estate.

The other things I'd point you -- again, think about worst-case scenario -- is that the value of our real estate, again, is very, very attractive because it gives good locations, it's the newest portfolio in many of these -- in these jurisdictions. And another data point is if you look at our pricing, so you look at our cost per day, if you look at our supplemental release last night, it's at about $80 per man-day. That's about an 8% increase over the last 2 years, and it's about a 5.5% increase in the last year. So the pricing on our real estate continues to improve. And again, I think that shows the value of our facilities. The final thing I'd say again, just showing the value of our real estate, is that we had flips here in last few years, a couple of facilities that were the Safety segment to the Property segment. And both those contracts, if you just look at earnings from a dollar perspective, the earnings is actually better than we owned -- when we owned and managed the facilities ourselves. So again, worst-case scenario, maybe in the case where they don't want privatization but they need our real estate, and a purchase or a lease of that real estate actually is going to be a net positive for the company, because there is no alternatives and we could be a lot quicker and easier to give them access to capacity versus them trying to do it on their own."  
Even a significant haircut to the estimates above provides a margin of safety well in excess of the current share price, as the current share price implies a value of $43k per bed, significantly below any estimate I have seen for the construction cost of a facility.  Management is appropriately prioriting deleveraging in the near-term (~3.7x net debt / EBITDA) to build excess capital and improve their financeability as some large U.S. banks have backed away from financing private prisons
, but they have also indicated that share repurchases are something they are interested in at these levels once deleveraging is complete. 
I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise do not hold a material investment in the issuer's securities.


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