The private-prison operator spent $106 million in 1998 to build a giant prison in the sand, confident it would land a contract to house California prisoners. What CCA officials didn't anticipate, however, was a sudden stall in the growth of California's prison population and fierce opposition from unionized state prison guards worried about their jobs. The prison remained empty and helped push CCA, then struggling with management problems and mounting debt, to the brink of financial disaster.

The company's desperation should have presented an opportunity to Uncle Sam. While state prison populations appeared to be leveling off, the head counts in federal prisons were growing more rapidly than ever, fueled by tougher drug and immigration laws. The U.S. Bureau of Prisons needed more beds, and the empty prison here offered immediately available capacity. Presumably, the bureau could negotiate a fire-sale price.

Bonanza for CCA

From 1995 to 2000, the three companies (CCA, Wackenhut and Cornell ) made a total of more than $528,000 in federal campaign contributions -- much of it in "soft money" given to the political parties, according to the Center for Responsive Politics, a nonpartisan, nonprofit research group in Washington, D.C.

As it turned out, the contract signed last year was a bonanza for CCA. The Bureau of Prisons agreed to pay above-market prices and, on top of that, big cash bonuses if the company achieved vaguely defined performance targets.

Most important, the Bureau of Prisons guaranteed CCA a 95% occupancy rate -- an arrangement almost never included in state private-prison contracts, which typically base payment on the number of beds actually filled. Here in California City, the federal government agreed to pay for 95% of the beds, whether it needs them or not. For now, the prison is full, but the guarantee provides important insurance if demand flags again.

The government didn't stop with CCA, which sparked the creation of the private-prison market nearly 20 years ago and now commands 52% of it. Of the five private prisons now operating under contract with the Bureau of Prisons, three belong to CCA and two to Wackenhut Corrections Corp., the industry's No. 2 player, which has had its own financial problems. All of the contracts are generous by conventional industry standards, as they include occupancy guarantees and long-term renewal options.

What's more, the Bureau of Prisons is expected in coming months to announce additional similarly structured private-prison deals, involving a total of 6,000 beds and more than $1 billion in potential revenue over time. The bureau's offer of occupancy guarantees is "the reason why we're so excited about the federal side," Steven Logan, chairman and chief executive of Cornell Cos., the No. 3 publicly traded prison company, told Wall Street analysts in June. Federal officials, he added, "cut you that check every month," whether or not the cells are full.

For more than three years, the private-prison business has been floundering. A decade-long prison-building boom among states has slowed markedly, while bad publicity about escapes and violence at certain for-profit lockups has raised questions about the companies' competence.

Now, even as the national economy slogs through a recession and a disaster-era federal budget tightens, Washington is effectively throwing the industry a life preserver.

The Bureau of Prisons says its purpose isn't to rescue CCA and the other companies. Bureau officials at first resisted the push for privatization during the mid-1990s by the Clinton administration and Congress. And bureau officials still disagree with the industry contention that outsourcing prisons saves taxpayers money.

In fact, the federal prison agency's ambivalence over privatization helps explain why it has been so generous to the prison companies. Forced by higher political authorities to do business with the industry, a proud and reluctant U.S. prison bureaucracy has embraced the idea that to replicate its own high standards, it has to pay the private sector a premium.

Expensive Experiment

If privatization at the federal level turns out to be an expensive experiment, the chances that Congress or the White House would push for broad-scale outsourcing of federal prisons would diminish. The public system would survive largely intact, and public employees would keep their jobs.

Bureau officials say privatization gives them more flexibility to deal with surges in particular inmate populations, such as illegal immigrants. "We don't sit around and strategize how we can make the contractors look bad or look more expensive," Michael Janus, the bureau's outsourcing chief, says.

Asked to explain the above-market contracts and bonuses, he responds that "price is way down on the list" of factors important to his agency. The federal government, he adds, wants the best prisons, not necessarily the cheapest.

It doesn't hurt relations between the companies and the federal government that CCA and Wackenhut have hired numerous former Bureau of Prisons officials, including those who now serve as wardens of all five of the federal prisons that have been privatized so far. A Bureau of Prisons spokesman says the hiring of former officials has no bearing on contracting decisions.

For their part, CCA officials say that at California City they are providing an almost-new facility and top-notch services that merit premium pay. Even with the recent addition of five private prisons to the federal government's 100 publicly owned and operated facilities, the federally run lockups still have more inmates overall than their stated capacity. "We think [the Bureau of Prisons] could probably use us more," says CCA's chief executive, John Ferguson.

Since CCA opened its pioneering private prison in Tennessee in 1984, government use of such facilities has been controversial. Critics argue that only officials accountable to the public should be trusted with the welfare of inmates.

But prisons cost a fortune -- $50 million and up, as a rule of thumb -- and private industry long had argued that it could house and manage prisoners less expensively than government. By 1997, CCA, based in Nashville, Tenn., had 47 prisons, healthy profits and a soaring stock price.

Encouraged by a national trend toward locking up more drug felons for longer periods of time, CCA built prisons based on speculation that states would rent space in them. In 1998, it acted "on spec" when it put up the one here in California City.

But then trouble struck. After California's prison population jumped by 22% from 1993 to 1996, the growth rate began to slow -- to 3.9% in 1998 and then to only 0.7% in 1999. That made the state a less-eager potential customer. Resistance from the politically potent prison-guard union, which feared privatization of public-sector jobs, ended any hope that state inmates would fill the California City facility.

And CCA was having difficulties elsewhere. A rash of inmate escapes and guard-brutality cases led to harsh media attention and contributed to jitters on Wall Street about prison companies' stock. In one of the most-notorious examples, two inmates were killed by other inmates and six escaped from a medium-security CCA prison in Ohio during separate incidents in 1998.

Privatization opponents pointed to such events as evidence that the industry was incompetent or negligent. CCA and its rivals countered that the incidents illustrated only isolated problems and that, on the whole, private prisons are on a par with public.

Meanwhile, CCA's financial management was faltering. Long-term debt taken on to finance its building boom climbed to $1.09 billion in 1999, from $127 million only two years earlier. The company began losing money -- $730 million in 2000. Its stock dropped to $4.50 a share in 1999, from nearly $45 in 1997. In 2000, it fell as low as 19 cents.

As states around the country began to ease the Draconian sentencing laws that helped the industry get established in the first place, the future looked bleak for CCA. The one ray of hope came from Washington.

Founded in 1930, the Bureau of Prisons remains in the shadow of its parent agency, the U.S. Justice Department. But the BOP, as it's known in Washington, prides itself on being the class operation in its field.

The BOP had resisted suggestions from the Clinton administration that the federal government privatize prisons. "The BOP was adamantly opposed to it," says a former career Justice Department official involved in internal discussions about privatization. "Although they would never say it," the official adds, "I think they were afraid of the camel's nose," meaning that even a small move toward privatization could lead to the eventual outsourcing of most federal prison work.

In a July 1999 "Message to All Bureau of Prisons Employees Regarding Privatization," the agency's director, Kathleen Hawk Sawyer, tried to reassure subordinates that they weren't going to lose their jobs to privatization. For one thing, she wrote, the prison companies hadn't "established an acceptable track record" for "the incarceration of medium- or high-security inmates."

Nevertheless Clinton administration officials intent on "reinventing" government did see privatization as a means of holding down the growth in the BOP's work force, which had nearly doubled during the 1980s, to 19,000 employees. In 1995, as part of his budget proposal to Congress for the next fiscal year, President Clinton said his administration planned to privatize the management and operations "of most future federal [prison] facilities under construction."

This proposal was enthusiastically received in Congress, where CCA, Wackenhut and Cornell were lobbying for broader privatization. From 1995 to 2000, the three companies made a total of more than $528,000 in federal campaign contributions -- much of it in "soft money" given to the political parties, according to the Center for Responsive Politics, a nonpartisan, nonprofit research group in Washington, D.C.

The Justice Department, acting on behalf of the BOP, continued to raise safety concerns about privatization, but the momentum was too strong. A Republican-controlled Senate appropriations subcommittee put language in a spending bill in 1996, directing the BOP to launch its first privately operated prison, in Taft, Calif. A spokesman for Sen. Judd Gregg of New Hampshire, the subcommittee chairman at the time, declines to comment.

The bureau had little choice but to comply. It hired Wackenhut for the job. Congress intervened again in 1997, ordering the BOP to take responsibility for certain inmates in Washington, D.C.'s corrections system.

The BOP didn't warm quickly to privatization. "We did not pursue this change in the Bureau's approach to private contracting," Dr. Sawyer, a BOP veteran who holds a doctorate in counseling and rehabilitation, wrote in her 1999 memorandum.

She noted that "private prison companies often seek business by promising to federal and state legislators that they can provide comparable services at a reduced cost." These industry claims "have not been proven," she stated. But "we cannot ignore them. Some legislators and other policymakers are convinced the cost savings are real."

The BOP opposed broad privatization but recognized that many in Congress viewed outsourcing as a thrifty strategy. Meanwhile, the federal-prison population was expanding rapidly.

By the end of the 1990s, declining rates of violent and property crime, combined with some easing of state sentencing laws, contributed to an apparent leveling off in state prison head counts. But the opposite was happening in the smaller federal system. Harsher federal drug-sentencing laws enacted in the 1980s kept tens of thousands of inmates in federal prisons for longer terms. And tough immigration legislation in 1996 led to sharp increases in the arrest and incarceration of so-called criminal aliens.

Last year, the federal inmate population expanded at a brisk 7.5% rate, to a total of 145,416. BOP officials say they had no choice but to go along with additional outsourcing to handle some of the growth.

But, Dr. Sawyer wrote in her 1999 memo, "we must be cost-competitive with the private-sector companies in order to argue against further congressional mandates for privatization." One way she has done that is cutting the BOP's own costs.

Another factor that has helped keep the BOP cost-competitive with the private sector is the relatively high cost of the bureau's private-prison contracts.

The BOP's approach to determining how much to pay prison contractors indicated a remarkable solicitousness toward the industry's financial concerns. The bureau's Mr. Janus says that the agency held two rounds of "interchange" meetings with industry representatives, the first in 1995 and the second about two years ago. The bureau organized the meetings, which were private and held with one company at a time, because it was "searching for ideas of mutual benefit to both the government and contracting community," he says.

Marvin H. Wiebe, senior vice president for government affairs with Cornell, says the meeting he attended in late 1998 or early 1999 at the BOP's Washington office, was "outstanding, phenomenal." He recalls that as many as 10 bureau officials listened as he outlined the contracting terms his company would like to see in federal-prison contracts. "We were asking for 100% occupancy" guaranteed, he says. "And they came back with what I thought was a very fair and creative plan, which is that they guaranteed 95% occupancy."

Louise Green, a spokeswoman for CCA, says employees currently with the company "didn't have any conversations" of this sort with the BOP, although ex-employees may have. Wackenhut employees attended meetings with bureau officials, says Margaret Pearson, a company spokeswoman. But the company declines to make those employees available or comment further.

BOP officials decline to discuss in detail why they went along with the industry's suggestion of occupancy guarantees, sometimes known as take-or-pay provisions. In a written statement responding to questions on the topic, the bureau says: "In formulating our approach, we solicited input from the corrections industry and other independent correctional experts. Based on our own data and feedback from the private-corrections industry, we determined that payment for 95% of designated capacity was appropriate."

Mr. Janus adds that paying for the exclusive use of an entire prison gives the federal government more leverage in determining how a facility is managed. That reasoning is roughly akin to that of a company that rents an entire hotel for a conference, instead of just the rooms its employees occupy -- an analogy that Mr. Janus accepts.

As an additional plum, the BOP promised companies substantial bonuses for "optimum performance" in three areas: overall work quality, responsiveness and management of "quality-control" programs.

The idea of awarding performance bonuses and agreeing to take-or-pay guarantees startles some state-prison officials, who otherwise generally express respect for their federal counterparts. Montana, for example, offers neither take-or-pay nor bonuses to CCA, which operates a 500-bed medium-security prison in the town of Shelby. "We expect them to do a good job," says Pat Smith, contracting chief for the Montana Department of Corrections. "If they don't, we fire them."

Asked whether any CCA customers, other than the federal government, provide bonus payments, company spokesman Steven M. Owen says, "I'm not aware of any that come to mind." None of Wackenhut's state contracts has bonus provisions, either, says Ms. Pearson.

Apart from financial considerations, the BOP didn't see the highly publicized incidents of violence or escapes at some private prisons as an obstacle to hiring the industry. The bureau's Mr. Janus says those kinds of events happen periodically in all prison systems, including the BOP.

Still, the bureau shares the view of many private-prison skeptics that the industry lacks sufficient competence to handle medium- and high-security inmates. That is why the BOP limited its private contracts to only the least-risky inmates, those classified as low- or minimum-security, Mr. Janus says. Most inmates in the bureau's growing population of criminal aliens fall into those categories.

In the fall of 1999, the BOP sought industry proposals for housing criminal-alien prisoners in the Southwest. CCA put in the winning proposal.

In June 2000, with CCA losing money and its California City facility sitting empty, the BOP awarded the company the biggest contract in private-prison history. Covering both California City and a second CCA facility in Cibola County, N.M., the deal promised the company a minimum of $68.7 million a year in revenue, the equivalent of 22% of CCA's total 2000 revenue. The deal, which spanned three years, with seven one-year options to renew, could be worth $760 million over the 10-year period. The day it was announced, CCA's stock rose 56%.

Almost all of the roughly 2,300 criminal aliens held at the California City prison have been convicted of one of three offenses: illegal entry into the country, illegal re-entry, or possession or trafficking of drugs. As low- and minimum-security inmates, they are less expensive to guard than more-dangerous prisoners, who require greater security.

Yet the BOP agreed to pay an annual average of $21,880 per inmate at California City, or slightly more than the $21,601 the agency spends, on average, throughout the entire federal system, including medium- and high-security inmates.

As a result of its occupancy guarantees, the BOP sometimes pays more than the $21,880 average. California City is fully occupied now. But as of Oct. 11, at its sister CCA prison in Cibola County, N.M., 877 of 961 beds under contract -- 91% -- were occupied. The cost of paying for the extra 4%, to fulfill its take-or-pay guarantee, has hiked the BOP's annualized per-prisoner cost at Cibola to $23,777 -- 10% higher than the average cost at BOP-run prisons overall.

The BOP has included the 95% guarantee in all five of its existing private prisons, three of which are operating below capacity. Future federal-prison contracts are also expected to include such guarantees.

The good news for CCA doesn't end there. In May, the company learned it would receive a $520,000 bonus for its successful operation of the prison at California City and a third facility it operates for the BOP, at Eloy, Ariz. For a company that had a loss of $5.3 million for the first quarter this year, that's a significant amount.

As set out in the written BOP contract, the objective of the bonus "is to afford the contractor an opportunity to earn [an] increased fee commensurate with the achievement of the optimum performance." Unofficially, says Mr. Janus, "it avoids the haggling that sometimes takes place in a contractual negotiation." Since privatization of federal prisons began in 1997, the BOP says it has paid a total of $2.3 million in bonuses to CCA and Wackenhut.

A look at what states pay private prisons makes CCA's federal contract look even richer. Here in California City, the company receives $57.48 per inmate a day at full occupancy. In Mississippi, by contrast, CCA gets just $28.29 a head a day. In Idaho, it gets $37.60; in Montana, $51.59.

"Do we pay a little bit more?" asks the BOP's Mr. Janus. "Probably. But I think we get a better service."

By service, Mr. Janus says, he means a range of things, from the recreational programs a prison offers inmates to how accommodating it is in meeting BOP requests. For instance, he says, the occupancy guarantees and bonuses ensure that when the BOP doubles to 80 from 40 the number of prisoners it delivers to California City during a particular week, CCA won't grumble. The government values another kind of flexibility, as well, he adds. Rather than financing construction of new prisons for criminal aliens, the BOP has committed itself to only three years of service at California City. After that, if illegal immigration eases or there is a move to legalize some of those who have entered the country unlawfully, the BOP can walk away from the private prison.

At the California City facility, 120 miles northeast of Los Angeles, Warden Percy Pitzer says that high on the list of services that warrant generous pay is inmate rehabilitation. In the hobby-craft room, for instance, inmates spend their days at plywood tables making elaborate jewelry boxes from toothpicks and Popsicle sticks. In an indication of how rarely violence is a problem here, the inmates are allowed to use razor-blade-equipped box cutters in their craft work.

Privatization of federal prisons will continue to expand, the BOP predicts. CCA's Mr. Ferguson says he very much looks forward to more federal contracts. "We treasure the Bureau," he says.

Copyright 2001 Wall Street Journal

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