CoreCivic (NYSE: CXW) describes itself as a "government-solutions" company that "leases mission-critical real estate to government tenants to address serious challenges in their criminal justice infrastructure." In other words, it's a prison real estate investment trust (REIT), at least for the time being. This is just one of the reasons why investors looking at this company should step back and consider the big picture.
Change is coming
As a REIT, CoreCivic's corporate structure is specifically designed to pass income on to shareholders -- only it stopped paying dividends in 2020 and announced plans to revoke its REIT status. Management believes this move will help to reposition the company for long-term growth while also improving the strength of its balance sheet.
Both are laudable goals, but if you're looking at this with the idea of buying a dividend-paying REIT, that's just not the situation here today. In fact, until the conversion process is over and a new dividend policy is announced (if it even decides to pay one), dividend investors should probably avoid CoreCivic.
But that's just one of two big things going on right now. CoreCivic's primary customer is the U.S. government. It serves various levels of the government, to be sure, but it basically has just one tenant. The positive here is that Uncle Sam is a reliable payer, given he can increase taxes if needed to ensure landlords get paid. However, there's still concentration risk, and that inherently commingled with political risk.
Indeed, in a recent press release, CoreCivic noted that, "President Biden recently issued an executive order directing the Department of Justice not to renew contracts with privately operated criminal detention facilities." Effectively, that's the reason why it expects a contract with the United States Marshals Service (USMS) at its Northeast Ohio Correctional Center not to be renewed.
The USMS houses about 800 people at the 2,016-bed facility, so this isn't a massive hit to its overall business, but it's a sign of the headwinds that are likely to take shape over at least the next three or four years. Notably, the blowing winds in Washington could easily lead to shifts at more local levels as well.
All in, there's a lot of uncertainty right now for CoreCivic and its shareholders. And most investors will probably be better off sitting on the sidelines until there's a little more clarity here.
The right path?
That said, given the situation, CoreCivic is probably making the right moves for the company. The conversion is expected to free up nearly $900 million in free cash flow. Indeed, one of the drawbacks of the REIT structure for companies is that REITs have to pay out 90% of the taxable income to investors. That leaves REITs reliant on capital markets for funding growth spending. By converting, the cash that would go out the door as dividends can instead be put toward growing CoreCivic's business.
Meanwhile, along with the conversion, CoreCivic has been selling assets to streamline its operations around prisons. That will help the company reduce its leverage, with a goal of going from 3.7 times debt to adjusted EBITDA to 2.5 times. A stronger balance sheet is almost always a good thing, as it's the foundation on which a company grows.
And there is growth potential here, despite the fact the federal government appears to have changed its stance on for-profit prison operators. According to CoreCivic, there are 500 prisons in the country at a point where major upgrades, or more, are needed. With government coffers tight at all levels, turning to a private company for help could still end up being the best option for many municipalities.
For example, in the two years leading up to 2021, the company inked 11 new contracts, including plans to develop two new facilities representing a total of 17,000 beds. With a new administration in Washington, the good news here could shift, but the long-term benefit CoreCivic offers to the government won't change. The big question is what a new normal looks like.
Too soon to tell
So, is CoreCivic a millionaire-maker REIT? No, if for no other reason that it doesn't plan on remaining a REIT for much longer. Moreover, these are uncertain times for the company, as it shifts its corporate structure and deals with a changing worldview of the for-profit prison segment. It looks like CoreCivic is making responsible decisions, but right now there's just too much uncertainty here. Most investors are probably best off sitting on the sidelines until the conversion is done, at least.