2023-07-03 22:11:08 ET
Summary
- CoreCivic, Inc., which offers corrections and detention management services, has seen a significant decline in its shares over the past five years, attributed to political interference and declining margins.
- The company's dependence on government contracts exposes it to risks such as policy changes, as seen with President Biden's executive order not renewing contracts with privately operated criminal detention facilities.
- It has implemented measures to improve shareholder returns, including debt servicing and share repurchases. The company has reduced debt by over $1.1 billion and repurchased 9.1 million shares.
- The termination of Title 42, a policy limiting immigration, is expected to boost demand for the company's services.
- Despite these measures, I believe its deteriorating fundamentals and operational risks present a poor risk-reward relationship for potential investors. Current investors could hold and capitalize on current initiatives, but consider exiting if the stock continues to decline.
Investment Thesis
CoreCivic, Inc. (CXW) is a government solutions company with a wide range of services. Through corrections and detention management, the company offers a wide range of options to government partners that serve the public good. The company’s shares are down about 15% over the last year and 60% over the last five years. I attribute this poor performance to the risks involved in the environment this company operates in. To begin with, the company works through contracts with government partners. This exposes them to the effects of political interference, which can sometimes be detrimental. A good case is when President Biden signed an executive order in January 2021 that directed the attorney general not to renew Department of Justice contracts directly with privately operated criminal detention facilities.
This order meant that CXW had only two direct contracts with the Marshals. One of those contracts is with their 4,128 beds Central Arizona Florence Correctional Complex in Arizona and has contract expiration in September of 2023. In my view, this exposes the risks different regimes or any other political interference may have on the company’s performance.
Over the last five years, shareholders have experienced losses which I attribute to declining margins. However, the company is embarking on measures to improve shareholder returns. As these measures are in place, the company has some warning signs and other risks associated with investing here, as discussed in the risk section. Considering these aspects, I think the opportunity here is for current investors to hold and possibly reap the benefits of the measures in place to improve their returns.
Warning Signs
CXW has some worrying statistics which have amounted to warning signs . To begin with, it has decelerated growth and negative EPS revisions which are worse than the industry medians, indicating that the company is lagging behind the industry performance.
These growth figures add to the company’s poor seeking alpha grades on momentum and revisions. In my view, these are signs that unless this company adopts corrective measures, it may perform worse than it has.
Shareholder Losses
While markets are an effective price mechanism, share prices reflect investor mood rather than real business performance. The interplay between a company’s share price and its EPS is one technique to study how market sentiment has evolved over time. The share price has fallen by roughly 60% over the past five years, while CoreCivic’s EPS has decreased by 6.2% annually over that time. The EPS decrease is less than the 16% yearly share price decline. This suggests that the stock market has previously been exceedingly bullish.
After discussing the company’s share price movement, I believe I should also discuss its total shareholder return [TSR]. The TSR is arguably a more thorough return estimate because it includes the value of dividends as well as the hypothetical value of any discounted capital given to shareholders. Its dividend distribution history suggests that the company’s TSR, which fell 48% over the last five years, was not as poor as the share price return.
While the broader sector gained almost 29% in the previous year, CXW shareholders lost more than 15%.
It’s important to remember, too, that even the greatest equities don’t always outperform the market over a whole year. Regrettably, the disappointing results of the last year culminated in a downward trend that has seen shareholder total return decline by an average of about 10% annually for the past five years.
Enhancing Shareholder Returns: A Response To Shareholder Losses?
The company has implemented initiatives that I believe will boost shareholder value. Debt servicing and share repurchases are among the measures. For the debt repayment, in the first quarter of 2023 , the company paid off the $154 million left on its 4.625% senior notes that were due to be paid off on May 1, 2023. Since announcing its capital allocation/deleveraging plan in 2020, the company has cut its debt by more than $1.1 billion. This was done through a combination of cash flow from operations and asset sales. Refinancing has also allowed the corporation to prolong maturities.
The company’s balance sheet is more robust now that they’ve taken these measures. There are no material debt maturities for the company until 2026 , and I anticipate that CXW will maintain its focus on debt reduction/refinancing strategies in the years leading up to that date.
Furthermore, in order to increase shareholder value, the corporation has repurchased some of its outstanding shares. During the first quarter of fiscal year 2023, CXW repurchased 2.5 million shares for $24.9 million. In May 2022, the business set aside $150.0 million for a share repurchase program; by August 2022, that number was up to $225 million. Since the program’s inception, it has repurchased 9.1 million shares. There was still $125.6 million available for repurchase as of the conclusion of Q1’23. I expect additional share buybacks, and I think the company has sufficient liquidity to maintain this program.
A Potential Demand Boost
The end of Title 42 , an emergency limit on immigration, is a big change in how the US treats people who try to cross the southern border, including those who want asylum. Since the COVID-19 pandemic started more than three years ago, US border officials under Presidents Donald Trump and Joe Biden have used Title 42 to send hundreds of thousands of migrants back to Mexico or their home countries, saying that letting them in could help the coronavirus spread.
Title 42 is a public health measure, but it has been used to manage and deter illegal border crossings , especially during the Biden administration, which has had to deal with a historic influx of migrants due in part to mass exoduses from countries like Cuba, Nicaragua, and Venezuela.
The company's management believes that the termination of Title 42 will boost demand for occupancy. In anticipation of this rising demand, the company has elevated its staffing levels over the past several quarters to have adequate personnel once Title 42 ends.
Operational Risk
CXW operates on a contract-based business model. I see the company’s contracting with government partners as fraught with risk, especially political risk. Contracts inevitably come to an end, and there is no assurance that they will be automatically renewed. Suppose this risk is compounded by the possibility of a contract falling apart due to a regime or policy change. In that case, it might significantly impact the company’s performance.
To make this assertion practical, in the MRQ, the company mentioned that its contract with ICE, a government partner, was impacted by the Title 42 policy. Further, President Biden signed an executive order in January 2021 that directed the attorney general not to renew Department of Justice contracts directly with privately operated criminal detention facilities.
These two case studies show how the company is vulnerable to political risks as well as the general risks involved in any contractual business model. In my view, these specific setbacks the company is experiencing may affect its short-term performance, coupled with its already weakening fundamentals. I think this company needs to come up with a turnaround strategy more than the capital restructuring already in play, failure to which I foresee a further downward trend in the future.
My Take On CXW
The last five years at CXW have been marked by mounting shareholder losses and deteriorating business fundamentals. Although the company looks to have started taking steps to increase shareholder value, I believe those steps have a very poor risk-reward relationship for potential investors due to the company’s deteriorating fundamentals and operational risks. In my opinion, present investors should hold and capitalize on the current initiatives if the potential benefits outweigh the potential risks, but in the case that the stock continues to decline, investors could be better off getting out now before things get significantly worse.
For further details see:
CoreCivic: A Risk Bound Investment