According to some industry analysts, CCA's troubles began in July 1997 when it spun off a new corporation, CCA Prison Realty Trust Inc., which was structured as a real estate investment trust (REIT) [See: The Poor Get Poorer -- The Rich Get Prisons, PLN Dec. '97]. At that time CCA was a darling of Wall Street, its stock having doubled in value in the first six months of 1997 alone.
In its initial public offering, Prison Realty sold 18.5 million shares at $21/share, raising a whopping $388 million. The newly formed REIT immediately shelled out $308.1 million to purchase nine prisons from its parent, CCA, which it then leased back to CCA.
Some Wall Street analysts expressed concern about the incestuous relationship between Prison Realty (whose stock ticker letters are PZN) and its parent CCA. Their concerns centered on a potential conflict of interest stemming from the fact that many of CCA's chief executive also were named to top PZN posts (CCA's co-founder, Doctor R. Crants was both CCA's Chairman and PZN's CEO). Those concerns failed to deter eager investors, though, who were keen to jump on the profitable prison bandwagon.
Nine months later, in April 1998, the parent corporation, CCA, announced plans to sell itself to its REIT subsidiary. The announcement set off alarm bells on Wall Street. Several investment analysts downgraded CCA's stock. And one firm, Paine Webber, criticized the proposed merger and stated it would result in a "shell of a corporation with very little capitalization behind it." [See: CCA Sells Self, PLN, Aug. '98].
In the weeks following, CCA's stock lost 25 percent of its value. A number of shareholders filed suit, claiming that the proposed merger put the financial gain of CCA corporate officers above the interests of shareholders.
By year's end all but the most strident dissenters had been mollified by CCA's corporate PR machine. The ill-fated merger was approved in December 1998 by a majority of both CCA and PZN shareholders [See: CCA/Prison Realty Merger Approved, PLN, June '99].
The merger, which took effect January 1, 1999, transformed Prison Realty Trust into Prison Realty Corp. (still aka PZN). And CCA became a subsidiary of PZN. Thus, the parent corporation was gobbled up by its child. As a result of the restructuring, the CCA subsidiary ended up a separate privately-held company owned partly by PZN's senior management. Again, concerns about potential conflict of interest were largely ignored.
In May 1999, PZN announced that it would increase the payments it makes to CCA for marketing and filling the new facilities that PZN owns. The increased payments were made retroactive to January 1, 1999. Analysts estimated the increased payments would shift an estimated $90 million annually into CCA's coffers, at the expense of PZN shareholders. And, remember, the same PZN decision-makers who arranged the payment increase were part owners of the privately-held CCA subsidiary that reaped the benefit.
PZN's shareholders immediately cried foul. Few could now fail to recognize a "potential" conflict of interest stemming from PZN's and CCA's interlocking management structures. Several Wall Street analysts such as Davenport & Co.'s Robert Norfleet said that the increased payments to CCA indicate that PZN's management suffered from "credibility problems."
More shareholder lawsuits were filed, some claiming that PZN senior management secretly decided to increase payments to CCA before releasing PZN's first quarter earnings statements, but waited until after filing the earnings statement to announce the decision.
In the week following the revelation of PZN's "credibility problems," its stock plunged 35 percent, from $22 to $14.50 a share. Looking to boost investor confidence, Doctor R. Crants was ousted from CCA's management and was replaced by J. Michael Quinlan. But the stock slipped. further, to $11/share, amid concerns that PZN was facing higher interest costs to acquire badly needed operating capital. Because its stock was now in the proverbial toilet, the corporation could no longer easily issue more stock to raise capital. Instead, PZN announced plans for a $100 million bond issue at 12% interest (considerably higher than the 91/4 - 91/2 percent rate anticipated).
By November 1999 Prison Realty/CCA was low on cash and losing money. Standard and Poor's put the corporation on its Credit Watch with "developing implications." The company hired Merrill Lynch & Co. to "help it consider strategic alternatives including a restructuring or merger" (business-speak for "call in Wall Street's vultures to circle over the carcass").
On December 27, 1999, Prison Realty announced an agreement with a leveraged buyout group to infuse up to $350 million into the company. The investors included The Blackstone Group and Fortress Investment Group and Bank of America. Under their plan Prison Realty would give up its REIT status and re-merge with CCA to form a single corporation. The new investors would assume a 30 to 40 stake in the restructured company.
That same day, December 27 1999, Doctor R. Crants resigned as PZN's chairman and CEO. His son, D. Robert Crants III stepped down as PZN's president. Stockholders would have to approve the deal, and if they did it was expected that CCA would get a new $1.2 billion credit line from Credit Suisse First Boston and Lehman Brothers.
The day the plan was announced, however, PZN's stock fell from $6.15 to an all-time low of $4.50 before bargain hunters sent it back up to $5.25 at day's end. More lawsuits ensued, claiming the proposed transaction was unfair to stockholders whose holdings and control of the company would be diluted.
On February 25, 2000, one of PZN's largest shareholders, Pacific Life Insurance Co., put forward a competing $200 million equity investment, corporate and debt-restructuring and management reorganization plan. Under the Pacific Life plan, which was agreed to in April, PZN retains its REIT status for 1999; with shareholders slated to receive 1999 dividends in preferred stock rather than cash. By retaining its 1999 REIT status, the Pacific Life plan avoids more than $140 million in taxes that would have been due under the competing Blackstone Group plan (which would have "de-REITed" PZN retroactive to 1999). Even though the Blackstone group's restructuring plan was ultimately rejected, the group still collected $22.7 million in fees. Not a bad consolation prize.
PZN's stock rose 94 cents to $3.38 a share on April 7, the day the Pacific Life plan was adopted. As part of the plan's management reorganization, PZN executives D. Robert Crants III and Michael Devlin resigned, collecting a hefty $1.3 million in severance and other payments in the process.
The pair each received $233,750 in severance pay; payments of $300,000 each in exchange for 150,000 shares of CCA stock they owned, representing 75% of their ownership interest in CCA; $100,000 each to buy the remaining 25% of their CCA stock after the new Prison Realty-CCA merger transaction closes. None of these payments were made in cash. Instead, the money was applied to settle about $1million in loans each received from CCA in 1997.
Prison Realty/CCA has more than 73,000 prison beds under contract, or under development in the United States, Puerto Rico, Australia, and the United Kingdom. The lion's share of CCA's 39 U.S. prisons are located in Texas, which has nine. Kentucky and Oklahoma are the next largest U.S. customers, with four CCA prisons apiece, followed by Colorado, New Mexico and Tennessee which each have three.
The $200 million restructuring plan had federal and state authorities breathing a collective sigh of relief. Nobody seemed to know what would happen to CCA's prisons if the company defaulted on its estimated $1.2 billion in loans and was unable to pay guards' salaries and other operating expenses. Colorado and Wisconsin state officials admitted to drawing up contingency plans in the event of a breakdown in CCA's operations, but for "security reasons" were not willing to offer details of those plans.
Wall Street also seemed more optimistic after the Pacific Life bailout. Analysts even predicted that PZN's red ink would turn black in the first quarter of 2000. The mean estimate of analysts surveyed by First Call/Thomson Financial predicted first quarter PZN earnings of 49 cents a share.
On May 15, however, the company posted a net loss of $27.8 million (or 25 cents a diluted share). First quarter revenue fell to $17.3 million, compared to $72 million for the first quarter of 1999. The company said first quarter revenue was reduced to reflect $71.2 million in "uncollectable lease payments" from its primary tenant, CCA. On the heels of that news, PZN's stock tumbled to $2.13/share (on May 15th) --less than a tenth of what it sold for just one year previous.
The PZN/CCA re-merger has to be approved by shareholders. It remains to be seen whether the world's largest private prison corporation will remain healthy enough to attract investors and retain employees and customers (i.e. state and federal jurisdictions willing to ship "product" to the corporation). Turnover has always been a big problem with CCA because its guards receive lower pay and benefits than their government-employed counterparts. The lower pay and lack of retirement or other benefits was offset by a "lucrative" (until a year ago, that is) employee stock option plan. The loss in stock value must have a negative effect in regards to attracting and retaining employees in a tight labor market.
CCA continues to lose money and is plagued by plummeting crime rates, a slowdown in imprisonment growth and a resulting low occupancy rates at some of its prisons. For instance, fewer than half of the 820 beds in its three-year-old Kit Carson prison in Colorado are filled. And the state says it plans to transfer 1,000 of its prisoners out of Kit Carson and other CCA prisons back to a newly-built state prison in Sterling.
Sources: Dow Jones Newswire, Wall Street Journal, PRNewswire, Bloomberg News, Associated Press, Rocky Mountain News, Milwaukee Journal Sentinel, Nashville Tennessean
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