Sao Paulo Prison Contracts Fail to Lure Foreign Bidders

Sao Paulo’s first bid to get private investment for prisons is failing to lure Corrections Corp. of America and Geo Group Inc., two of the world’s top operators, because the rates of return trail global standards.

The 750 million reais ($383 million) in contracts to run three facilities near Sao Paulo city will return about 8.5 percent, local operator Reviver Administracao Prisional Privada Ltda. estimates. That compares with about 14 percent that operators outside of Brazil usually get, said Kevin Campbell, managing director of equity research at Avondale Partners LLC.

Sao Paulo state is joining President Dilma Rousseff in seeking lower rates of return after her administration cut the benchmark lending rate by 5.25 percentage points to a record

7.25 percent and increased below-market state loans to boost investment in infrastructure. The federal government had to sweeten the terms on contracts for toll roads after the strategy failed to attract bidders for an auction originally scheduled for Jan. 30.

“Regardless of the project, you always have to be careful -- you can’t force low returns all the time,” Sergio Monaro, director of project finance at HSBC Holdings Plc, said in a telephone interview from Sao Paulo. “If the project is good, that will automatically lower the price. The question is to allow flexibility for the market to decide using a reasonable price ceiling.”

Road Show

State officials went on a road show in London last month to pitch the plan to investors after receiving bids from groups led by local prison operators Reviver, CCI Concessoes Ltda. and Advance Construcoes & Participacoes Ltda.

Sao Paulo state, home of the 1992 Carandiru prison massacre in which police killed more than 100 inmates who were rioting amid overcrowding, is struggling to house a prison population that has risen fourfold in the past 15 years. It now numbers 190,000 people, almost twice the capacity of current facilities.

The state doesn’t have the capacity to handle new infrastructure projects and is seeking to privatize hospitals, transit lines and pharmaceutical production with contracts representing investments of about 40 billion reais, said Julio Semeghini, Sao Paulo state planning and regional development secretary.

Money and No Capacity

“We have the money but not the capacity to implement projects,” he said in an interview on Feb. 6.

It’s still unclear whether the London road show has attracted new investors, Flavia Goiriz, a spokeswoman for the planning office, said by telephone from Sao Paulo.

The state is seeking investments of 750 million reais in the three new prison complexes to house a total of 10,500 male inmates, all within 100 kilometers (62 miles) of the city of Sao Paulo. The 30-year contracts to build, operate and maintain the prisons will be remunerated at a rate of 383 million reais a year, Semeghini said.

That represents a return of about 8.5 percent, assuming subsidized financing from state bank BNDES is used to fund projects, said Odair de Jesus Conceicao, president of Reviver, which operates eight of Brazil’s 26 private prisons and is bidding for the Sao Paulo contracts.

“We consider that as reasonable for the project,” he said in a telephone interview from Serrinha, Bahia state. “We just need for the state to offer good enough guarantees.”

‘Big Opportunity’

Banco do Brasil SA and state-run Caixa Economica Federal, among the first to lower rates and fees last year, are expected to provide 5.7 billion reais for infrastructure projects in Sao Paulo this year, Semeghini said.

Even with low rates of return, Sao Paulo may be able to lure foreign investors, said Campbell, the managing director at Avondale, an investment banking and wealth adviser in Nashville, Tennessee.

“At that 8 percent, it’s still a little low, but maybe given the size of the opportunity you have to consider it anyway,” he said in a telephone interview. “To the extent that they have this big opportunity in Brazil, they would be interested.”

Steve Owen, a spokesman for Nashville-based Corrections Corp., said in an e-mail the “company is not currently engaged in this opportunity.” Pablo Paez, a spokesman for Boca Raton, Florida-based Geo Group, also said in an e-mail the company isn’t “considering” making a bid.

London’s G4S Plc, which registered to participate in the bidding for the Sao Paulo contracts and already operates in Brazil, didn’t respond to e-mail and phone-call requests for comment.

‘Profitability Potential’

Geo shares have more than doubled in the past 12 months, and Corrections Corp. gained 60 percent, beating the 13 percent gain for the Russell 3000 Index. Geo traded at about 26 times its earnings and Corrections Corp. traded at 24, compared with an average multiple of 16 for companies in the index. G4S gained

0.2 percent to 284.8 pence today in London.

The terms on Sao Paulo’s contracts are unlikely to attract foreign companies, said Tobey Sommer, director of equity research at SunTrust Robinson Humphrey Inc. The accords don’t include services such as security, which is a state responsibility under Brazil’s constitution.

“I don’t think that the profitability potential is the same if security is not involved because the security is the valuable part,” Sommer said in a telephone interview from Atlanta. “The opportunities in Brazil aren’t likely to attract a whole lot of interest in international players, and it has to do with the model being used.”