GEO GROUP INC quarterly report, Q2 FY2019

Business context and reporting period

The GEO Group, Inc. is a REIT providing secure correctional and processing facilities, reentry and community services, electronic monitoring, and related services. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2019; comparisons are with the same 2018 periods. At quarter-end, GEO reported approximately 97,000 beds at 133 facilities and community supervision services for more than 210,000 individuals.

Financial performance and condition

Metric	Q2 2019	Q2 2018	First half 2019	First half 2018
Revenue	$614.0 million	$583.5 million	$1,224.6 million	$1,148.4 million
Operating income	$81.2 million	$67.0 million	$156.0 million	$131.4 million
Net income attributable to GEO	$41.9 million	$37.4 million	$82.6 million	$72.4 million
Diluted EPS	$0.35	$0.31	$0.69	$0.60

Q2 revenue rose 5.2%; operating income rose 21.2%. Operating margin was approximately 13.2%, versus 11.5% a year earlier. First-half revenue rose 6.6% and operating income rose 18.7%.
Q2 segment revenue increased 8.3% in GEO Secure Services and 3.7% in GEO Care; International Services declined 15.8%, principally reflecting the Parklea contract transition and foreign exchange. First-half segment trends were similar.
First-half operating cash flow was $217.1 million, up from $180.3 million. Investing used $49.2 million, including $55.4 million of capital expenditures; financing used $173.6 million, including $116.1 million of dividends.
Cash, cash equivalents and restricted cash totaled $79.6 million at June 30, 2019, versus $127.2 million at June 30, 2018. Balance-sheet cash and cash equivalents alone were $21.6 million; restricted amounts are not all freely available.
Total debt, including non-recourse debt and finance leases, was $2.704 billion, compared with $2.749 billion at December 31, 2018. The company had approximately $782 million of term-loan borrowings, $452 million drawn on its $900 million revolver, and $386 million of additional revolver capacity after letters of credit.
Quarterly declared dividends were $0.48 per share, versus $0.47 in Q2 2018. First-half dividends paid were $116.1 million. GEO reported Q2 Normalized FFO of $66.6 million and AFFO of $83.4 million; these are non-GAAP measures.

Material changes versus prior comparable period

Growth was led by federal-client populations, transportation services and contract activations, including Eagle Pass and Montgomery. GEO Secure Services average occupancy, excluding idle facilities, was 96.2% in Q2 versus 95.3% a year earlier; company-wide first-half occupancy was 93.3% versus 92.3%.
International Services revenue was pressured by the March 2019 transition of Parklea to a new operator and adverse currency movements. GEO also reported that Queensland planned to transition Arthur Gorrie to government operation between late 2019 and Q1 2020.
Interest expense increased 7.1% in Q2 and 9.7% in the first half. A $5.7 million first-half debt-extinguishment loss—$4.5 million related to Ravenhall refinancing and $1.2 million related to the credit-agreement amendment—was substantially above the prior-year amount.
First-half capital expenditures were lower than the prior year ($55.4 million versus $107.1 million); operating cash flow improved. The 2019 cash-flow comparison also includes large offsetting Ravenhall non-recourse debt proceeds and repayments.

Outlook, management commentary, risks and unusual items

Management said cash on hand, operating cash flows and credit-facility availability should support 2019 capital requirements. It estimated $44 million of remaining spending through year-end on committed capital projects, after $129 million spent through June.
Management cited new or expanded work: North Lake’s 1,800-bed BOP contract was expected to add about $37 million in annualized revenue; South Louisiana’s reactivation about $25 million; and Montgomery’s 314-bed expansion about $10 million. Ravenhall’s proposed 300-bed expansion, estimated at $19 million of annualized revenue, remained under negotiation.
GEO was marketing about 2,300 vacant beds at three idle facilities. Management estimated annual carrying costs of $11.5 million. It stated that activation of all three, at assumed average rates and occupancy, could add about $55 million in annualized revenue and $0.05–$0.10 to annualized EPS; there was no firm activation commitment.
The revolver matures in May 2024 after amendment. Ravenhall was refinanced with amortizing non-recourse notes due 2042 at a 4.23% coupon. Variable-rate exposure remains material: management estimated a 1 percentage-point increase in applicable credit-facility rates would raise annual interest expense by about $13 million.
Management estimated a 9%–11% annual effective tax rate, excluding discrete items. Future dividends remain at the board’s discretion and depend on cash flows, REIT requirements and debt restrictions.
Risks include government budgets and demand for public-private partnerships, contract losses or non-renewals, facility activation and start-up costs, high debt and refinancing needs, foreign-exchange and interest-rate exposure, and litigation or uninsured claims. GEO disclosed class actions and government suits over detainee work-program wages and related allegations; no accrual was recorded because loss was not considered probable or reasonably estimable. A separate state non-income-tax assessment was approximately $18.6 million, for which GEO had established a reserve; the reserve amount is not stated here.
Adoption of the lease accounting standard added operating lease assets and liabilities to the balance sheet (approximately $140 million and $147 million, respectively, at adoption); 2018 comparatives were not restated. Management reported disclosure controls were effective and no material change in internal control over financial reporting.

Most important facts for investors to verify

Whether announced contract activations and expansions begin on schedule and deliver the stated incremental revenue, particularly North Lake, South Louisiana, Montgomery and the proposed Ravenhall expansion.
The timing and financial impact of the Parklea transition and Queensland’s planned Arthur Gorrie transition, as well as GEO’s ability to fill or repurpose idle beds.
Debt service capacity, covenant headroom, revolver availability and the effect of variable rates; distinguish restricted cash and non-recourse debt from corporate liquidity and debt.
Cash conversion and capital needs, including remaining committed project spending, dividends and any future buybacks; reconcile non-GAAP FFO/AFFO with GAAP results.
Developments in detainee wage litigation and the state tax assessment, including whether either becomes probable, estimable or otherwise materially affects results.