Why Do Two Private Prison Companies Dominate the Industry?
In 2013, the last year for which there is governmental data, 1.57 million people were imprisoned in federal and state correctional facilities in the United States. And increasingly, private companies are the ones doing the incarceration.
Two prison operators – Corrections Corp. of America (CCA) and the GEO Group – dominate the industry. These two companies have been at the center of several controversies in the past decade, with prisoners alleging abysmal conditions, violence, medical neglect and sexual abuse in their facilities.
CCA and GEO submit bids to federal and state government agencies, such as the Bureau of Prisons (BOP) and Immigration and Customs Enforcement (ICE), for contracts to house prisoners in its correctional facilities.
Contracts are typically worth hundreds of millions of dollars. According to their earnings reports, GEO totaled revenues of $1.69 billion and CCA earned $1.64 billion in the fiscal year 2014. The next biggest prison company, Management and Training Corporation (MTC), does not have to legally report earnings because it is not a publicly held company. In 2013, MTC announced gross revenues of less than half of either GEO or CCA. And a large share of that income comes from a different service outside the private prison industry – its operation of the U.S. Department of Labor’s Job Corps program.
Ryan Meliker, a stock market analyst with MLV and Co., said in an interview that the two companies, CCA and GEO, estimate that they together control more than two-thirds of the private prison industry.
So why do these two companies dominate the market in particular? Here are a few reasons.
Reason #1: Significant barriers to entry
When a government agency opens up a contract for bidding, it looks for private companies can do the job properly and efficiently. This holds true for any governmental service, from providing utilities to manufacturing fighter jets.
Brian Hoffman, an analyst from the equity firm Avondale, follows CCA and GEO closely. He said in a phone interview that having experience in building and operating a large correctional facility – which can hold thousands of prisoners – is the first criterion an agency will look for. Since state and federal agencies have worked with CCA and GEO in the past, they know that the two operators are capable of doing the job.
Second, this is an industry with high financial barriers to entry: assembling, servicing and maintaining a prison can be extremely expensive. There are significant upfront costs in constructing the prison itself, then establishing the necessary infrastructure to service the facility, from security to healthcare to food preparation. Add in labor, administrative and maintenance costs, and expenses quickly mount.
CCA estimates that it will spend around $145 million in expenditures related to construction this year alone. A new player in the industry would need a large existing revenue stream to challenge CCA and GEO’s supremacy.
Third, CCA and GEO are taking steps to stay ahead of the competition by expanding into alternatives to traditional methods of incarceration such as ankle monitoring bracelets, home visits and employer verification. For example, in 2011 GEO acquired BI Inc., the largest U.S. provider of electronic monitoring.
Reason #2: Accounting changes
Both CCA and GEO recently made a seemingly minor change in the way they operate financially. But this slight alteration has widespread implications, enabling these two giants to maintain and enhance their domination of the private prison industry.
In a nutshell, both CCA and GEO changed their federal income tax status from a C Corporation to a Real Estate Investment Trust, or REIT.
What is a REIT? A REIT receives its income primarily from real estate. It also pays out more than 90 percent of its earnings to investors. In exchange, unlike a typical corporation or partnership, their profits are only taxed only once – when dividends are distributed to shareholders.
Commonly examples include hotel chains, commercial office buildings, and hospitals. The Empire State Building is owned by a REIT. But more recently, companies have been converting into REITs that you wouldn’t normally associate with real estate. For example, recently major telecommunications company Windstream converted its fiber optics network into a REIT.
The rationale from regulators and industry officials is this structure avoids double taxation. Most companies pay their taxes at the corporate level based on income, and then again on dividends on the back end. Instead, profits from a REIT are only taxed once when they are distributed to the investor.
Opponents say the REIT system erodes the corporate tax base, and provides a tax “loophole” for large corporations. Intuitively, many activists take issue with the government giving private prison companies hundreds of millions of dollars in tax breaks.
But the question of REITs hurting the tax base is still up for debate. Brooklyn Law School Professor Brad Borden reported that, because tax rates are different for corporations than individual shareholders, the tax revenue generated from REITs versus corporations almost even out. In an interview, Borden pointed to another paper that showed REITs helped stabilize the commercial real estate market during the 2008-2009 financial crisis and provide a benefit to the overall economy that balances out any potential tax loss.
In other words, profits from private prison REITs are still taxed at some point and sometimes at higher levels. Regardless, the IRS has only allowed two prison operators to convert into REITs: CCA and GEO.
Stock analysts like Ryan Meliker took notice, who recently recommended a buy of GEO stock. Major banks and mutual funds have invested in the companies, including Bank of America, Ameriprise Financial, and even the Bill and Melinda Gates Foundation. Plus, you might be a REIT investor too – the pension funds of public employees in major states like New York, Texas and California own stock in CCA and GEO.
According to Meliker, the mere fact that an applicant is large enough to publicly trade on the stock market lends cache and credibility in the eyes of government agencies responsible for awarding prison contracts. Even before ICE opens up a contract for bidding, it can look at their income, assets, and access to banking credit. “Public companies tend to be much larger with much better credit and if you’re a better credit, you’re more likely to get the contract – as you should be.”
Reason #3: Close ties to government
Meanwhile, both CCA and GEO heavily lobby Congress. In 2012, the Associated Press found that these two companies – along with the smaller Management and Training Corporation – spent $45 million lobbying the federal government over the previous decade.
Among the recipients are Senator John Cornyn (TX), Senator John McCain (AZ) and House Speaker John Boehner (OH). A new report from progressive group Grassroots Leadership found that between 2008 and 2014, CCA directly lobbied members of the Department of Homeland Security Appropriations Subcommitee, spending over $9.76 million alone. To put that in context, $9.76 million is roughly 0.05% of the profits CCA made off contracts with the Department of Homeland Security in 2014. A wise investment indeed.
The money is one thing, but the personal touch is another. The revolving door of government-to-industry in the prison world is constantly swinging.
The most controversial connection with Congress remains Senator Marco Rubio (FL) – a prominent voice on immigration enforcement from the right. His former chief of staff Cesar Conda co-founded GEO’s main lobbying firm Navigators Global, then went to work for Senator Rubio as the Senator’s top aide on immigration reform. Conda now lobbies for Navigators Global once again. The report from Grassroots Leadership estimates that CCA and GEO control about 45 percent of immigration detention beds in the U.S.
Even former members of Congress are now lobbyists for the prison industry. Former House Representatives Jim McCrery (R-LA) and Vic Fazio (D-CA) are now lobbyists for GEO and CCA respectively.
Industry capture holds true for our federal bureaucracy as well. In 2011, Director of Bureau of Prisons Harley G. Lappin retired after eight years of running the agency chiefly responsible for federal prisons. A month later, CCA hired him as a vice president. Fellow former BOP director Michael Quinlan was already employed at the company. Stacia Hylton was on the Board of Directors at GEO in between stints as Federal Detention Trustee and now as Director of the U.S. Marshals Service.
This pattern of close ties of local and federal government with CCA and GEO ensures that they are not only first in line when a new contact opens up, but also maintain the ones they already have. The “retention rate” is the measure of how often a company renews an existing agreement with the government. And more than 9 times out of 10, both CCA and GEO re-win their contract – a very sustainable business model.
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