Cash Crunch Boosts Government Service Firms

By Reuters -  |  Posted 2008-02-20 Print this article Print

The weakening U.S. economy has unleashed layoffs, reduced profits and sucked value from the stock market, but some companies, such as those that run prisons and consult for government, can benefit from harsh economic times.

NEW YORK (Reuters) - The weakening U.S. economy has unleashed layoffs, reduced profits and sucked value from the stock market, but some companies, such as those that run prisons and consult for government, can benefit from harsh economic times.

When state and local budgets see shortfalls, cash-strapped governments hire companies like management consultant Maximus Inc, social services provider Providence Service Corp and prison company Corrections Corp of America, according to analysts.

Government belt-tightening could be a boon for a range of mid- and small-cap names whose share prices have in many cases fallen as far as more cyclical companies that really do suffer in a downturn. And, analysts say, that could present some stock market opportunities.

The housing slump has hurt public budgets, as depressed property values and lowered homeowners' equity cut proceeds from real estate and sales taxes.

In 2009, 25 states are facing shortfalls, according to the Center on Budget and Policy Priorities. That pain trickles down to local governments, which increasingly look to privatize services they traditionally have performed.

By outsourcing a prison, states can save as much as a quarter of its cost, Avondale Partners analyst Kevin Campbell said, which is why private prison companies boosted their market share to 7.2 percent in 2006 from 6.5 percent in 2001-2003.

States might begin a new wave of prison privatization sooner than in the 2001 recession because the United States is still suffering from prison overcrowding as a result of that last downturn, Campbell said.


Yet shares of Corrections Corp, the United States' largest prison company, are down about 20 percent from their 52-week high of $33.25.

The story is similar with other prison companies. The Geo Group is down about 19.7 percent from its 12-month high of $32.89 and Cornell Companies is off about 24 percent from a high of $27.76.

"You would expect them to outperform given their defensive nature," Campbell said.

Corrections Corp and Geo's share prices are "compelling" in part because they will reap business from California's prison bed shortage, estimated at 60,000 beds or more, Lehman Brothers analyst Jeffrey Kessler said.

California's projected 2009 budget shortfall, at $14.5 billion, is by far the country's biggest, according to the Center on Budget and Policy Priorities.

Kessler anticipates strong 2009 earnings for both Corrections Corp and Geo.

A recession could also cause a spike in crime, resulting in a further increase in demand for prison beds, Kessler said. "This would put further wind at the back of the private prison companies."

Companies such as Tyler Technologies Inc, a provider of software to local government, resist recessions well, said Eric Marshall, who follows government services for the Hodges Small Cap Fund.

Tyler's stock is down about 14 percent for the year, but has outperformed the Russell 2000 .RUT, down about 18 percent for the year.


The company is recession-resistant because it is "tied to the need to process parking tickets and utility bills and those things are going to happen no matter what," Marshall said.

Of course, downturns make local governments even hungrier to collect that revenue efficiently.

The same dynamic supports Maximus Inc, a management consultant to government, whose shares are down about 23 percent from their year high of $48.33, partly because of a failed attempt to sell itself, said Jeffries & Company analyst Matthew McKay.

Maximus has grown revenue in every downturn and expects a repeat performance because the company's emphasis on efficiency appeals in tight times, Chief Executive Richard Montoni said during a recent conference call.

Maximus is set for a surprisingly strong showing in 2008, said McKay, who has a "buy" rating on the stock and a one-year price target of $55.

Likewise, Medicaid administrator Providence Service Corp is trading at $28.57, but Sidoti & Co. analyst Greg Williams' 12-month price target for the shares is $37. He said he rates them a buy in part because they're a "counter-cyclical play."

In 2008, California accounts for almost 18 percent of Providence's $310 million Medicaid administration business, a direct result of the state's budget woes, Chief Executive Fletcher Jay McCusker told Reuters.

"A recession drives clients to our business," said McCusker, adding that Providence picked up new business in Florida, Virginia, Maine, Illinois and Nevada during the 2001 recession. "We anticipate no decrease in business even though state budgets may be flattening.

(By Helen Chernikoff - Analysis; Editing by Brian Moss)

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