UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

FORM 10-Q

x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Quarterly Period Ended June 30, 2010

o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission File Number 1-14472

CORNELL COMPANIES, INC.

(Exact Name of Registrant as Specified in Its Charter)

Delaware		76-0433642
(State or Other Jurisdiction of Incorporation or Organization)		(I.R.S. Employer Identification No.)

1700 West Loop South, Suite 1500, Houston, Texas		77027
(Address of Principal Executive Offices)		(Zip Code)

Registrant’s Telephone Number, Including Area Code: (713) 623-0790

Indicate by a check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files.) Yes o No o

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o		Accelerated filer x

Non-accelerated filer o		Smaller reporting company o
(Do not check if a smaller reporting company)

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x

At August 5, 2010, the registrant had 15,108,415 shares of common stock outstanding.

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Cornell Companies, Inc.

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Form 10-Q

		Page
Part I
Item 1.	Financial Statements (unaudited)	5
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	29
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	45
Item 4.	Controls and Procedures	46

Part II
Item 1.	Legal Proceedings	47
Item 1A.	Risk Factors	47
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	48
Item 3.	Defaults Upon Senior Securities	48
Item 4.	Removed and Reserved	48
Item 5.	Other Information	48
Item 6.	Exhibits	49

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Forward-Looking Information

The statements included in this quarterly report regarding future financial performance and results of operations and other statements that are not historical facts are forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. Forward-looking statements in this quarterly report include, but are not limited to, statements about the following subjects:

· revenues,

· revenue mix,

· expenses, including personnel and medical costs,

· results of operations,

· operating margins,

· supply and demand,

· market outlook in our various markets,

· our other expectations with regard to market outlook,

· utilization,

· parolee, detainee, inmate and youth offender trends,

· pricing and per diem rates,

· contract commencements,

· new contract opportunities,

· our proposed merger transaction with The GEO Group, Inc. (including, but not limited to, expected timing of completion of the transaction and satisfaction of required closing conditions),

· operations at, future contracts for, and results from our Baker Community Correctional Facility, High Plains Correctional Facility and Mesa Verde Community Correctional Facility,

· operations at, future contracts for, and results from our Regional Correctional Center and Great Plains Correctional Facility,

· the timing (including ramp of facility population) and other aspects of our planned customer transition at our D. Ray James Prison,

· adequacy of insurance,

· debt levels,

· debt reduction,

· the effect of income tax positions and related assets and liabilities,

· our effective tax rate,

· tax assessments,

· results and effects of legal proceedings and governmental audits and assessments,

· liquidity, including future liquidity and our ability to obtain financing,

· financial markets,

· cash flow from operations,

· adequacy of cash flow for our obligations,

· capital requirements,

· capital expenditures,

· effects of accounting changes and adoption of accounting policies,

· changes in laws and regulations,

· adoption of accounting policies,

· benefit payments, and

· changes in laws and regulations.

Forward-looking statements in this quarterly report are identifiable by use of the following words and other similar expressions among others:

· “anticipates”

· “believes”

· “budgets”

· “could”

· “estimates”

· “expects”

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· “forecasts”

· “intends”

· “may”

· “might”

· “plans”

· “predicts”

· “projects”

· “scheduled”

· “should”

Such statements are subject to numerous risks, uncertainties and assumptions, including, but not limited to:

· those described (in the Company’s 2009 Annual Report on Form 10-K) under “Item 1A. Risk Factors,” as filed with the SEC,

· the adequacy of sources of liquidity,

· the effect and results of litigation, audits and contingencies, and

· other factors discussed in this quarterly report and in the Company’s other filings with the SEC, which are available free of charge on the SEC’s website at www.sec.gov.

Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those indicated.

All subsequent written and oral forward-looking statements attributable to the Company or to persons acting on our behalf are expressly qualified in their entirety by reference to these risks and uncertainties. You should not place undue reliance on forward-looking statements. Each forward-looking statement speaks only as of the date of the particular statement, and we undertake no obligation to publicly update or revise any forward-looking statements.

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PART I FINANCIAL INFORMATION

ITEM 1. Financial Statements.

CORNELL COMPANIES, INC.

CONSOLIDATED BALANCE SHEETS

(Unaudited)

(in thousands, except share data)

	June 30, 2010			December 31, 2009
ASSETS
CURRENT ASSETS:
Cash and cash equivalents	$	16,164		$	27,724
Accounts receivable — trade (net of allowance for doubtful accounts of $4,650 and $4,345, respectively)	63,739			59,496
Other receivables	2,814			1,587
Bond fund payment account and other restricted assets	29,041			29,978
Deferred tax assets	10,081			9,843
Prepaid expenses and other	7,678			11,647
Total current assets	129,517			140,275
PROPERTY AND EQUIPMENT, net	460,421			455,523
OTHER ASSETS:
Debt service reserve fund and other restricted assets	33,270			27,017
Goodwill	13,308			13,308
Intangible assets, net	922			1,185
Deferred costs and other	16,117			13,257
Total assets	$	653,555		$	650,565

LIABILITIES AND EQUITY

CURRENT LIABILITIES:
Accounts payable and accrued liabilities	$	60,850		$	62,287
Current portion of long-term debt	13,408			13,413
Total current liabilities	74,258			75,700
LONG-TERM DEBT, net of current portion	287,332			289,841
DEFERRED TAX LIABILITIES	26,242			24,455
OTHER LONG-TERM LIABILITIES	2,125			1,831
Total liabilities	389,957			391,827

COMMITMENTS AND CONTINGENCIES

EQUITY:
Preferred stock, $.001 par value, 10,000,000 shares authorized, none issued	—			—
Common stock, $.001 par value, 30,000,000 shares authorized, 16,069,290 and 16,434,940 shares issued and 14,933,148 and 14,947,054 shares outstanding, respectively	16			16
Additional paid-in capital	163,904			168,852
Retained earnings	106,353			97,944
Accumulated other comprehensive income	1,295			1,422
Treasury stock (1,136,142 and 1,487,886 shares of common stock, at cost, respectively)	(9,078		)	(11,888		)
Total Cornell Companies, Inc. stockholders’ equity	262,490			256,346
Non-controlling interest	1,108			2,392
Total equity	263,598			258,738
Total liabilities and equity	$	653,555		$	650,565

The accompanying notes are an integral part of these consolidated financial statements.

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CORNELL COMPANIES, INC.

CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE INCOME

(Unaudited)

(in thousands, except per share data)

	Three Months Ended June 30,						Six Months Ended June 30,
	2010			2009			2010			2009

REVENUES	$	103,871		$	105,334		$	203,877		$	205,044
OPERATING EXPENSES, EXCLUDING DEPRECIATION AND AMORTIZATION	74,793			74,734			151,476			147,627
DEPRECIATION AND AMORTIZATION	4,555			4,740			9,254			9,633
GENERAL AND ADMINISTRATIVE EXPENSES	8,001			6,270			13,760			12,408

INCOME FROM OPERATIONS	16,522			19,590			29,387			35,376

INTEREST EXPENSE	6,287			6,736			12,601			12,935
INTEREST INCOME	(127		)	(160		)	(255		)	(406		)

INCOME FROM OPERATIONS BEFORE PROVISION FOR INCOME TAXES	10,362			13,014			17,041			22,847

PROVISION FOR INCOME TAXES	4,646			5,386			7,477			9,487

NET INCOME	5,716			7,628			9,564			13,360

NON-CONTROLLING INTEREST	586			398			1,155			873

INCOME AVAILABLE TO CORNELL COMPANIES, INC.	$	5,130		$	7,230		$	8,409		$	12,487

EARNINGS PER SHARE ATTRIBUTABLE TO CORNELL COMPANIES, INC. STOCKHOLDERS:
BASIC	$	.34		$	.49		$	.56		$	.84
DILUTED	$	.34		$	.48		$	.56		$	.84

NUMBER OF SHARES USED IN PER SHARE COMPUTATION:
BASIC	14,944			14,881			14,903			14,878
DILUTED	15,111			14,970			15,050			14,952

COMPREHENSIVE INCOME:
Net income	$	5,716		$	7,628		$	9,564		$	13,360
Comprehensive income attributable to non-controlling interest	(586		)	(398		)	(1,155		)	(873		)
Comprehensive income attributable to Cornell Companies, Inc.	$	5,130		$	7,230		$	8,409		$	12,487

The accompanying notes are an integral part of these consolidated financial statements.

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CORNELL COMPANIES, INC.

CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

AND COMPREHENSIVE INCOME

FOR THE SIX MONTHS ENDED JUNE 30, 2010

(Unaudited)

(in thousands, except share data)

															Accumulated
	Common Stock				Additional										Other			Non-			Total
			Par		Paid-In			Retained		Treasury Stock					Comprehensive			Controlling			Stockholders’			Comprehensive
	Shares		Value		Capital			Earnings		Shares		Cost			Income			Interest			Equity			Income

BALANCES AT DECEMBER 31, 2009	16,434,940		$	16	$	168,852		$	97,944	1,487,886		$	(11,888	)	$	1,422		$	2,392		$	258,738		$	—

NET INCOME	—		—		—			8,409		—		—			—			1,155			9,564			8,409
COMPREHENSIVE INCOME																								$	8,409
DISTRIBUTION TO MCF PARTNERS	—		—		—			—		—		—			—			(2,439		)	(2,439		)
REPURCHASE AND RETIREMENT OF COMMON STOCK	(145,473	)	—		(3,000		)	—		—		—			—			—			(3,000		)
EXERCISE OF STOCK OPTIONS	625		—		251			—		(38,212	)	305			—			—			556
TAX BENEFIT OF STOCK OPTION EXERCISES	—		—		89			—		—		—			—			—			89
AMORTIZATION OF GAIN ON TERMINATION OF DERIVATIVE	—		—		—			—		—		—			(127		)	—			(127		)
STOCK BASED COMPENSATION	—		—		1,342			—		—		—			—			—			1,342
RESTRICTED STOCK ACTIVITY	(221,384	)	—		(3,994		)	—		(282,655	)	2,258			—			—			(1,736		)
ISSUANCE OF COMMON STOCK TO EMPLOYEE STOCK PURCHASE PLAN	—		—		169			—		(23,237	)	186			—			—			355
ISSUANCE OF COMMON STOCK UNDER 2000 DIRECTOR’S STOCK PLAN	582		—		195			—		(7,640	)	61			—			—			256

BALANCES AT JUNE 30, 2010	16,069,290		$	16	$	163,904		$	106,353	1,136,142		$	(9,078	)	$	1,295		$	1,108		$	263,598

The accompanying notes are an integral part of these consolidated financial statements.

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CORNELL COMPANIES, INC.

CONSOLIDATED STATEMENT OF CHANGES IN EQUITY

AND COMPREHENSIVE INCOME

FOR THE SIX MONTHS ENDED JUNE 30, 2009

(Unaudited)

(in thousands, except share data)

														Accumulated
	Common Stock			Additional										Other			Non-		Total
		Par		Paid-In			Retained		Treasury Stock					Comprehensive			Controlling		Stockholders’			Comprehensive
	Shares	Value		Capital			Earnings		Shares		Cost			Income			Interest		Equity			Income

BALANCES AT DECEMBER 31, 2008	16,238,685	$	16	$	164,746		$	73,318	1,506,163		$	(12,034	)	$	1,676		$	445	$	228,167		$	—

NET INCOME	—	—		—			12,487		—		—			—			873		13,360			12,487
COMPREHENSIVE INCOME																						$	12,487
EXERCISE OF STOCK OPTIONS	2,550	—		32			—		—		—			—			—		32
INCOME TAX BENEFIT FROM STOCK OPTION EXERCISES	—			(71		)													(71		)
STOCK BASED COMPENSATION	—	—		1,634			—		—		—			—			—		1,634
RESTRICTED STOCK ACTIVITY	153,983	—		(271		)	—		—		—			—			—		(271		)
AMORTIZATION OF GAIN ON TERMINATION OF DERIVATIVE	—	—		—			—		—		—			(127		)	—		(127		)
ISSUANCE OF COMMON STOCK TO EMPLOYEE STOCK PURCHASE PLAN	—	—		143			—		(18,277	)	146			—			—		289
ISSUANCE OF COMMON STOCK UNDER 2000 DIRECTOR’S STOCK PLAN	8,419	—		228			—		—		—			—			—		228

BALANCES AT JUNE 30, 2009	16,403,637	$	16	$	166,441		$	85,805	1,487,886		$	(11,888	)	$	1,549		$	1,318	$	243,241

The accompanying notes are an integral part of these consolidated financial statements.

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CORNELL COMPANIES, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

(in thousands)

	Six Months Ended
	June 30,
	2010			2009
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income	$	9,564		$	13,360
Adjustments to reconcile net income to net cash provided by operating activities
Depreciation	8,990			8,737
Amortization of intangibles	264			896
Amortization of deferred financing costs	620			635
Amortization of Senior Notes discount	92			92
Amortization of gain on termination of derivative	(127		)	(127		)
Stock-based compensation	1,342			1,634
Provision for bad debts	685			1,265
(Gain)loss on disposal of property and equipment	35			(349		)
Change in assets and liabilities:
Accounts receivable	(5,671		)	(354		)
Other restricted assets	(6,723		)	(594		)
Deferred income taxes	1,545			141
Other assets	896			1,759
Accounts payable and accrued liabilities	(5,068		)	(9,041		)
Other liabilities	293			224
Net cash provided by operating activities	6,737			18,278

CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures	(13,200		)	(9,493		)
Proceeds from the sale/disposals of fixed assets	541			1,688
Proceeds from (payments to) restricted debt payment account, net	1,407			(6,780		)
Net cash used in investing activities	(11,252		)	(14,585		)

CASH FLOWS FROM FINANCING ACTIVITIES:
Proceeds from line of credit	—			2,000
Payments of line of credit	(2,600		)	(4,000		)
Distribution to MCF partners	(2,439		)	—
Tax benefit of stock option exercises	89			—
Payments of capital lease obligations	(6		)	(7		)
Purchase and retirement of common stock	(3,000		)	—
Proceeds from exercise of stock options and employee stock purchase plan	911			321
Net cash used in financing activities	(7,045		)	(1,686		)

NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS	(11,560		)	2,007
CASH AND CASH EQUIVALENTS AT BEGINNING OF PERIOD	27,724			14,613
CASH AND CASH EQUIVALENTS AT END OF PERIOD	$	16,164		$	16,620

OTHER NON-CASH INVESTING AND FINANCING ACTIVITIES:
Common stock issued for board of directors fees	$	256		$	228
Tax expense of stock option exercises	—			(71		)
Purchases and additions to property and equipment included in accounts payable and accrued liabilities	1,264			1,253

The accompanying notes are an integral part of these consolidated financial statements.

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CORNELL COMPANIES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

1. Basis of Presentation

The accompanying unaudited consolidated financial statements have been prepared by Cornell Companies, Inc. (collectively with its subsidiaries and consolidated special purpose entities, unless the context requires otherwise, the “Company,” “we,” “us” or “our”) pursuant to the rules and regulations of the Securities and Exchange Commission. Certain information and footnote disclosures normally included in financial statements prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) have been condensed or omitted pursuant to such rules and regulations. The year-end consolidated balance sheet was derived from audited financial statements but does not include all disclosures required by GAAP. In the opinion of management, adjustments and disclosures necessary for a fair presentation of these financial statements have been included. Estimates were used in the preparation of these financial statements. Actual results could differ from those estimates. These financial statements should be read in conjunction with the financial statements and notes thereto included in the Company’s 2009 Annual Report on Form 10-K as filed with the Securities and Exchange Commission.

2. Accounting Policies

See a description of our accounting policies in the Notes to Consolidated Financial Statements included in our 2009 Annual Report on Form 10-K.

3. Merger Agreement

On April 18, 2010, the Company entered into an Agreement and Plan of Merger (“Agreement”) with The GEO Group, Inc. (NYSE:GEO) (“GEO”), a private provider of correctional, detention, and residential treatment services to federal, state and local government agencies around the globe. Pursuant to the Agreement, GEO will acquire Cornell for stock and/or cash at an estimated enterprise value of $685 million based on the closing prices of both companies’ stock on April 16, 2010, including the assumption of approximately $300 million in Cornell debt, excluding cash.

Under the terms of the definitive agreement, stockholders of Cornell will have the option to elect to receive either (x) 1.3 shares of GEO common stock for each share of Cornell common stock or (y) an amount of cash consideration equal to the greater of (i) the fair market value of one share of GEO common stock plus $6.00 or (ii) the fair market value of 1.3 shares of GEO common stock. In order to preserve the tax-deferred treatment of the transaction, no more than 20% of the outstanding shares of Cornell Common Stock may be exchanged for the cash consideration. If elections are made such that the aggregate cash consideration to be received by Cornell stockholders would exceed $100 million in the aggregate, such excess amount may be paid at the election of GEO in shares of GEO common stock or in cash. GEO has expressed the intent to pay such excess amount in cash, as indicated in the definitive joint proxy statement (“Joint Proxy Statement”) filed by GEO and Cornell with the SEC on July 15, 2010.

The merger is expected to close in the third quarter of 2010, subject to the approval of the issuance of GEO common stock by GEO’s shareholders, approval of the transaction by Cornell’s stockholders and, as well as the fulfillment of other customary conditions. The special meeting of Cornell stockholders to consider and adopt the agreement and plan of merger will take place on Thursday, August 12, 2010. The special meeting of GEO stockholders to consider and vote upon the issuance of GEO common stock in connection with the proposed merger is scheduled for the same day.

Upon the consummation of the merger, GEO would honor the existing employment agreements between Cornell and various members of Cornell’s executive management. The merger would constitute a change of control for purposes of these agreements and, would entitle said members to receive the severance and other benefits in accordance with the terms of these agreements if their employment is terminated. Please refer to the definitive Joint Proxy Statement/Prospectus filed with the SEC on July 15, 2010, as supplemented on July 22, 2010 for a more detailed discussion of employment and change in control agreements.

Litigation Relating to the Merger

On April 27, 2010, a putative stockholder class action was filed in the District Court for Harris County, Texas by Todd Shelby against Cornell, members of the Cornell board of directors, individually, and GEO. The complaint alleged, among other things, that the Cornell directors breached their duties by entering into the Agreement without first taking steps to obtain adequate, fair and maximum consideration for Cornell’s stockholders by shopping the company or initiating an auction process, by structuring the transaction to take advantage of Cornell’s low current stock valuation, and by structuring the transaction to benefit GEO while making an alternative transaction either prohibitively expensive or otherwise impossible, and that Cornell and GEO have aided and abetted such breaches by Cornell’s directors. The plaintiff filed an amended complaint on May 28, 2010. The amended complaint added additional allegations contending that the disclosures about the merger in the Joint Proxy Statement were misleading and/or inadequate. Among other things, the original complaint and the amended complaint seek to enjoin Cornell, its directors and GEO from completing the merger and seek a constructive trust over any benefits improperly received by the defendants as a result of their alleged wrongful conduct. The parties have reached a settlement of the litigation in principle (at an amount immaterial to the consolidated financial position of the Company), pursuant to which certain additional disclosures were included in the final form of the Joint Proxy Statement. The settlement did not alter the terms of the transaction or

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the consideration to be received by shareholders. The settlement remains subject to confirmatory discovery, preparation and execution of a formal stipulation of settlement, final court approval of the settlement and dismissal of the action with prejudice.

4. Stock-Based Compensation

We have an employee stock purchase plan (“ESPP”) under which employees can make contributions to purchase our common stock. Participation in the plan is elected annually by employees. The plan year typically begins each January 1st (the “Beginning Date”) and ends on December 31st (the “Ending Date”). Purchases of common stock are made at the end of the year using the lower of the fair market value on either the Beginning Date or Ending Date, less a 15% discount. Under current authoritative guidance our employee-stock purchase plan is considered to be a compensatory ESPP, and therefore, we recognize compensation expense over the requisite service period for grants made under the ESPP. Compensation expense of approximately $0.03 million was recognized in the three months ended June 30, 2010 and 2009, respectively. Compensation expense of approximately $0.07 million and $0.05 million was recognized in the six months ended June 30, 2010 and 2009, respectively.

Our stock incentive plans provide for the granting of stock options (both incentive stock options and nonqualified stock options), stock appreciation rights, restricted stock shares and other stock-based awards to officers, directors and employees of the Company. Grants of stock options made to date under these plans vest over periods up to seven years after the date of grant and expire no more than 10 years after grant. Upon the occurrence of specified change of control events (which would include consummation of the pending merger of the Company with The GEO Group as discussed in Note 3), those awards outstanding which have not previously vested will automatically vest.

At June 30, 2009, 317,602 shares of restricted stock were outstanding subject to performance-based vesting criteria (32,500 of these restricted shares were considered market-based restricted stock under authoritative guidance). There were also 6,260 stock options outstanding subject to performance-based vesting criteria. We recognized $0.4 million and $0.5 million of expense associated with these shares of restricted stock and stock options during the three and six months ended June 30, 2009, respectively.

At June 30, 2010, 414,488 shares of restricted stock were outstanding subject to performance-based vesting criteria (22,500 of these restricted shares were considered market-based restricted stock under authoritative guidance). There were also stock options for 840 shares outstanding subject to performance-based vesting criteria. We recognized $0.3 million and $0.4 million of expense associated with these shares of restricted stock and stock options during the three and six months ended June 30, 2010, respectively.

The amounts above relate to the impact of recognizing compensation expense related to stock options and restricted stock. Compensation expense related to stock options (840 shares) and restricted stock (391,988 shares) that vest based upon performance conditions is not recorded for such performance-based awards until it has been deemed probable that the related performance targets allowing the vesting of these options and restricted stock will be met. We are required to periodically re-assess the probability that these options will vest and begin to record expense at that point in time. During the six months ended June 30, 2010 and 2009, it was deemed probable that certain performance targets pertaining to certain restricted stock and stock options would be achieved by their vesting date. Accordingly, compensation expense of approximately $0.2 million and $0.4 million was recognized in the six months ended June 30, 2010 and 2009, respectively, related to these performance-based awards.

We recognize expense for our stock-based compensation over the vesting period, or in the case of performance-based awards, during the service period for which the performance target becomes probable of being met, which represents the period in which an employee is required to provide service in exchange for the award. We recognize compensation expense for stock-based awards immediately if the award has immediate vesting.

Assumptions

The fair values for the significant stock option awards granted during the six months ended June 30, 2010 and 2009 were estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions:

	Six Months Ended June 30,
	2010			2009

Risk-free rate of return	3.04		%	1.90		%
Expected life of award	6.0 years			6.0 years
Expected dividend yield of stock	0		%	0		%
Expected volatility of stock	41.89		%	50.49		%
Weighted-average fair value	$	10.34		$	8.89

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The expected volatility of stock assumption was derived by referring to changes in the Company’s historical common stock prices over a timeframe similar to that of the expected life of the award. We do not believe that future stock volatility will significantly differ from historical stock volatility. Estimated forfeiture rates are derived from historical forfeiture patterns. We believe the historical experience method is the best estimate of forfeitures currently available.

Generally we utilized the “simplified” method for “plain vanilla” options to estimate the expected term of options granted during the periods noted (where appropriate). For those grants during these periods wherein we had sufficient historical or impartial data to better estimate the expected term, we have done so.

Stock option award activity during the six months ended June 30, 2010 was as follows (aggregate intrinsic value in millions):

	Number of Shares		Weighted Average Exercise Price		Weighted Average Remaining Contractual Term	Aggregate Intrinsic Value

Outstanding at December 31, 2009	496,247		$	15.36	5.9	$	7.6
Granted	40,000		23.08
Exercised	(38,837	)	14.32
Canceled	(2,962	)	11.00

Outstanding at June 30, 2010	494,448		$	16.09	5.8	$	8.0

Vested and expected to vest at June 30, 2010	493,484		$	16.08	5.8	$	7.9

Exercisable at June 30, 2010	468,858		$	15.78	5.6	$	7.4

The total intrinsic value of stock options exercised during the six months ended June 30, 2010 and 2009 was $0.5 million and $0.01 million, respectively. Net cash proceeds from the exercise of stock options were approximately $0.6 million and $0.03 million for the six months ended June 30, 2010 and 2009, respectively.

We recognized $0.2 million of expense associated with time-based stock options during the six months ended June 30, 2010. As of June 30, 2010, approximately $0.2 million of estimated expense with respect to time-based nonvested stock-based awards has yet to be recognized and will be amortized into expense over the employee’s remaining requisite service period of approximately 2.5 months.

The following table summarizes information with respect to stock options outstanding and exercisable at June 30, 2010.

Range of Exercise Prices	Number Outstanding	Weighted Average Remaining Life (Years)	Weighted Average Exercise Price		Number Exercisable	Weighted Average Exercise Price

$3.75 to $10.00	16,355	1.3	$	5.68	16,355	$	5.68
$10.01 to $13.50	129,225	4.1	12.84		129,225	12.84
$13.51 to $14.50	162,168	5.2	13.97		158,468	13.96
$14.51 to $25.00	186,700	7.8	21.09		164,810	20.83
	494,448	5.8	$	16.09	468,858	$	15.78

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Stock-based award activity for nonvested awards during the six months ended June 30, 2010 is as follows:

	Number of Shares		Weighted Average Grant Date Fair Value
Nonvested at December 31, 2009	20,510		$	20.32
Granted	40,000		23.08
Vested	(34,920	)	22.38
Canceled	—		—

Nonvested at June 30, 2010	25,590		$	21.82

Restricted Stock

We have previously issued restricted stock under certain employment agreements and stock incentive plans which vests either over a specific period of time, generally three to five years, or which will vest subject to certain market or performance conditions. Those shares of restricted common stock issued are subject to restrictions on transfer and certain conditions to vesting. During the six months ended June 30, 2010, we issued restricted stock as part of our normal equity awards under our 2006 Incentive Plan.

Restricted stock activity for the six months ended June 30, 2010 was as follows:

	Number of Shares		Weighted Average Grant Date Fair Value
Nonvested at December 31, 2009	520,574		$	20.61
Granted	158,000		18.48
Vested	(193,024	)	22.80
Canceled	(16,875	)	22.07

Nonvested at June 30, 2010	468,675		$	18.94

We recognized $0.2 million and $0.6 million of expense associated with nonvested time-based restricted stock awards during the three and six months ended June 30, 2010, respectively. As of June 30, 2010, approximately $1.0 million of estimated expense with respect to nonvested time-based restricted stock awards had yet to be recognized and will be amortized over a weighted average period of 1.86 years. Approximately $6.9 million of estimated expense with respect to nonvested performance-based restricted stock option awards had yet to be recognized as of June 30, 2010.

5. Fair Value Measurements

On January 1, 2008, we adopted a newly issued accounting standard for fair value measurements of financial assets and liabilities which did not have a material financial impact on our consolidated results of operations or financial condition. On January 1, 2009, we adopted the provisions of this new accounting pronouncement for applying fair value to non-financial assets, liabilities and transactions on a non-recurring basis. Adoption of the provisions for the fair value measurements on a non-recurring basis did not have a material effect on our financial position, results of operations or cash flows.

As defined in this accounting standard, fair value is the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date (“exit price”). Additionally, this pronouncement requires disclosure that establishes a framework for measuring fair value and expands disclosures about fair value measurements. Additionally, it requires that fair value measurements be classified and disclosed in one of the following categories:

Level 1 Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;

Level 2 Quoted prices in markets that are not active, or inputs that are observable, either directly or indirectly, for substantially the full term of the asset or liability; and

Level 3 Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e., supported by little or no market activity).

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As required, financial assets and liabilities are classified based on the lowest level of input that is significant for the fair value measurement. The following table summarizes the valuation of our financial assets and liabilities by pricing levels as of June 30, 2010 and December 31, 2009:

	Fair Value as of June 30, 2010 (in thousands)
	Level 1		Level 2		Level 3		Total
Assets:
Corporate Bonds	$	—	$	15,957	$	—	$	15,957
Money Market Funds	—		42,054		—		42,054

	Fair Value as of December 31, 2009 (in thousands)
	Level 1		Level 2		Level 3		Total
Assets:
Corporate Bonds	$	—	$	9,813	$	—	$	9,813
Money Market Funds	—		43,351		—		43,351

The corporate bonds and money market funds are carried in the bond fund payment account and other restricted assets and also in the debt service reserve fund and other restricted assets in the accompanying balance sheet. The fair value measurements for corporate bonds and money-market funds are based upon the quoted price for similar assets in markets that are not active, multiplied by the number of shares owned, exclusive of any transaction costs and without any adjustments to reflect discounts that may be applied to selling a large block of securities at one time. We do not believe that the changes in fair value of these assets will materially differ from the amounts that could be realized upon settlement or that the changes in fair value will have a material effect on our results of operations, liquidity and capital resources.

This accounting standard requires a reconciliation of the beginning and ending balances for fair value measurements using Level 3 inputs. We had no such assets or liabilities which were measured at fair value on a recurring basis using significant unobservable inputs (level 3) during the six months ended June 30, 2010. We evaluate our long-lived assets for impairment using internally developed, unobservable inputs (Level 3 inputs in the fair value hierarchy of fair value accounting) based on the projected cash flows of our idle facilities. Such inputs that may significantly influence estimated future cash flows include the periods and levels of occupancy for the facility, expected per diem or reimbursement rates, assumptions regarding the levels of staffing, services and future operating and capital expenditures necessary to generate forecasted revenues, related costs for these activities and future rate of increases or decreases associated with these factors. Information typically utilized will also include relevant terms of existing contracts (for similar services and customers), market knowledge of customer demand (both present and anticipated) and related pricing, market competitors, and our historical experience (as to areas including customer requirements, contract terms, operating requirements/costs, occupancy trends, etc.).

6. Recent Accounting Standards

In January 2010, the FASB issued an amendment to the disclosure requirement related to Fair Value Measurements. The amendment requires new disclosures related to transfers in and out of Levels 1 and 2 and activity in Level 3 fair value measurements. A reporting entity is required to disclose separately the amounts of significant transfers in and out of Level 1 and Level 2 fair value measurements and describe the reasons for the transfers. Additionally, in the reconciliation for fair value measurements in Level 3, a reporting entity must present separately information about purchases, sales, issuances and settlements (on a gross basis rather than a net number). The new disclosures are effective for interim and annual reporting periods beginning after December 15, 2009, except for the disclosures about purchases, sales, issuances and settlements in the roll forward of activity in Level 3 fair value measurements. Those disclosures are effective for fiscal years beginning after December 15, 2010 and for interim periods within those fiscal years. Our adoption of the provisions of this amendment did not have a material affect on our financial position, results of operations or cash flows.

In June 2009, the FASB issued an amendment to the accounting and disclosure requirements for transfers of financial assets. This amendment applies to the financial reporting of a transfer of financial assets; the effects of a transfer on an entity’s financial position, financial performance and cash flows; and a transferor’s continuing involvement, if any, in transferred financial assets. It eliminates (1) the exceptions for qualifying special-purpose entities from the consolidation guidance and (2) the exception that permitted sale accounting for certain mortgage securitizations when a transferor has not surrendered control over the transferred financial assets. The provisions of this amendment must be applied as of the beginning of each reporting entity’s first annual reporting period that begins after November 15, 2009, for interim periods within that first annual reporting period and for interim and annual reporting periods thereafter. Earlier application was prohibited. The requirements in the amendment must be applied to transfers occurring on or after

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the effective date. Our adoption of this amendment as of January 1, 2010 did not have a material affect on our consolidated financial position, results of operations or cash flows.

In June 2009, the FASB also issued an amendment to the accounting and disclosure requirements for the consolidation of variable interest entities (“VIEs”). This amendment requires an enterprise to perform a qualitative analysis when determining whether or not it must consolidate a VIE. The amendment also requires an enterprise to continuously reassess whether it must consolidate a VIE. Additionally, the amendment requires enhanced disclosures about an enterprise’s involvement with VIEs and any significant change in risk exposure due to that involvement, as well as how its involvement with VIEs impacts the enterprise’s financial statements. Finally, an enterprise will be required to disclose significant judgments and assumptions used to determine whether or not to consolidate a VIE. This amendment is effective for financial statements issued for fiscal years beginning after November 15, 2009. Earlier application was prohibited. Our adoption of this amendment as of January 1, 2010 did not have a material affect on our consolidated financial position, results of operations or cash flows; however, we have included the applicable disclosure requirements at Note 14 to the consolidated financial statements.

7. Intangible Assets

Intangible assets at June 30, 2010 and December 31, 2009 consisted of the following (in thousands):

	June 30, 2010			December 31, 2009

Acquired contract value	$	6,240		$	6,240
Accumulated amortization — acquired contract value	(5,318		)	(5,055		)
Identified intangibles, net	922			1,185
Goodwill	13,308			13,308
Total intangibles, net	$	14,230		$	14,493

There were no changes in the carrying amount of our goodwill in the six months ended June 30, 2010.

Amortization expense for our acquired contract value was approximately $0.1 million and $0.3 million for the three and six months ended June 30, 2010, respectively, and approximately $0.3 million and $0.5 million for the three and six months ended June 30, 2009, respectively.

Our non-compete agreements were fully amortized as of December 31, 2009. Amortization expense for our non-compete agreements was approximately $0.2 million and $0.4 million for the three and six months ended June 30, 2009, respectively.

8. Credit Facilities

Our long-term debt consisted of the following (in thousands):

	June 30,			December 31,
	2010			2009
Debt of Cornell Companies, Inc.:
Senior Notes, unsecured, due July 2012 with an interest rate of 10.75%, net of discount	$	111,632		$	111,540
Revolving Line of Credit due December 2011 with an interest rate of LIBOR plus 1.50% to 2.25% or prime plus 0.00% to 0.75% (the “Amended Credit Facility”)	67,400			70,000
Capital lease obligations	8			14
Subtotal	179,040			181,554

Debt of Special Purpose Entity:
8.47% Bonds due 2016	121,700			121,700

Total consolidated debt	300,740			303,254

Less: current maturities	(13,408		)	(13,413		)

Consolidated long-term debt	$	287,332		$	289,841

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Long-Term Credit Facilities. Our Amended Credit Facility provides for borrowings up to $100.0 million (including letters of credit) and matures in December 2011. At our election, outstanding borrowings bear interest at either the LIBOR rate plus a margin ranging from 1.50% to 2.25% or a rate which ranges from 0.00% to 0.75% above the applicable prime rate. The applicable margins are subject to adjustments based on our total leverage ratio. The available commitment under our Amended Credit Facility was approximately $20.5 million at June 30, 2010. We had outstanding borrowings under our Amended Credit Facility of $67.4 million and we had outstanding letters of credit of approximately $12.1 million at June 30, 2010. Subject to certain requirements, we have the right to increase the commitments under our Amended Credit Facility up to $150.0 million, although the indenture for our Senior Notes limits our ability, subject to certain conditions, to expand the Amended Credit Facility beyond $100.0 million. We can provide no assurance that all of the banks that have made commitments to us under our Amended Credit Facility would be willing to participate in an expansion to the Amended Credit Facility should we desire to do so. The Amended Credit Facility is collateralized by substantially all of our assets, including the assets and stock of all of our subsidiaries. The Amended Credit Facility is not collateralized by the assets of Municipal Corrections Finance, L.P. (“MCF”).

Our Amended Credit Facility contains certain financial and other restrictive covenants that limit our ability to engage in certain activities. Our ability to borrow under the Amended Credit Facility is subject to compliance with certain financial covenants, including bank leverage, total leverage and fixed charge coverage rates. At June 30, 2010, we were in compliance with all such covenants. Our Amended Credit Facility includes other restrictions that, among other things, limit our ability to: incur indebtedness; grant liens; engage in mergers, consolidations and liquidations; make investments, restricted payments and asset dispositions; enter into transactions with affiliates; and engage in sale/leaseback transactions.

MCF is obligated for the outstanding balance of its 8.47% Taxable Revenue Bonds, Series 2001. The bonds bear interest at a rate of 8.47% per annum and are payable in semi-annual installments of interest and annual installments of principal. All unpaid principal and accrued interest on the bonds is due on the earlier of August 1, 2016 (maturity) or as noted under the bond documents.

The bonds are limited, nonrecourse obligations of MCF and secured by the property and equipment, bond reserves, assignment of subleases and substantially all assets related to the facilities included in the 2001 Sale and Leaseback Transaction (in which we sold eleven facilities to MCF). The bonds are not guaranteed by Cornell.

In June 2004, we issued $112.0 million in principal of 10.75% Senior Notes the (“Senior Notes”) due July 1, 2012. The Senior Notes are unsecured senior indebtedness and are guaranteed by all of our existing and future subsidiaries (collectively, the “Guarantors”). The Senior Notes are not guaranteed by MCF (the “Non-Guarantor”). Interest on the Senior Notes is payable semi-annually on January 1 and July 1 of each year, commencing January 1, 2005. On or after July 1, 2008, we have the right to redeem all or a portion of the Senior Notes at the redemption prices (expressed as a percentage of the principal amount) listed below, plus accrued and unpaid interest, if any, on the Senior Notes redeemed, to the applicable date of redemption, if redeemed during the 12-month period commencing on July 1 of each of the remaining years indicated below:

Year	Percentages

2010 and thereafter	100.000	%

As the Senior Notes are redeemable at our option (subject to the requirements noted) we anticipate we will monitor the capital markets and continue to assess (pending the merger) our capital needs and our capital structure, including a potential refinancing of the Senior Notes.

Upon the occurrence of specified change of control events (which would include consummation of the pending merger with GEO), unless we have exercised our option to redeem all the Senior Notes as described above, each holder will have the right to require us to repurchase all or a portion of such holder’s Senior Notes at a purchase price in cash equal to 101% of the aggregate principal amount of the notes repurchased plus accrued and unpaid interest, if any, on the Senior Notes repurchased, to the applicable date of purchase. The Senior Notes were issued under an indenture which limits our ability and the ability of our Guarantors to, among other things, incur additional indebtedness, pay dividends or make other distributions, make other restricted payments and investments, create liens, incur restrictions on the ability of the Guarantors to pay dividends or other payments to us, enter into transactions with affiliates, and engage in mergers, consolidations and certain sales of assets.

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9. Income Taxes

At June 30, 2010, the total amount of our unrecognized tax benefits was approximately $2.9 million.

We are subject to income tax in the United States and many of the individual states we operate in. We currently have significant operations in Texas, California, Colorado, Oklahoma, Georgia, Illinois and Pennsylvania. State income tax returns are generally subject to examination for a period of three to five years after filing. The state impact of any changes made to the federal return remains subject to examination by various states for a period up to one year after formal notification to the state. We are open to United States Federal Income Tax examinations for the tax years ended December 31, 2005 through December 31, 2009.

We do not anticipate a significant change in the balance of our unrecognized tax benefits within the next 12 months.

10. Earnings Per Share

Basic earnings per share (“EPS”) are computed by dividing net income by the weighted average number of shares of common stock outstanding during the period. Diluted EPS is computed by dividing net income by the weighted average number of shares of common stock outstanding giving effect to all potentially dilutive common shares outstanding during the period. Potentially dilutive common shares include the dilutive effect of outstanding common stock options and restricted common stock granted under our various option and other incentive plans. For the six months ended June 30, 2010, there were 55,000 shares ($23.60 average price) of stock options that were not included in the computation of diluted EPS because to do so would have been anti-dilutive. There were no anti-dilutive shares for the three months ended June 30, 2010. For the three and six months ended June 30, 2009, there were 141,700 shares ($20.98 average price) of stock options that were not included in the computation of diluted EPS because to do so would have been anti-dilutive. As of January 1, 2009, instruments with nonforfeitable dividend rights granted in share-based payment transactions are participating securities prior to vesting and, therefore, need to be included in the earnings allocation in computing EPS under the two-class method. For our fiscal year beginning January 1, 2009, since our restricted common stock grants (including both vested and those unvested due to either time or performance requirements) convey nonforfeitable rights to dividends while outstanding, they are included in both basic and fully diluted ESP calculations. All prior-period EPS data has been adjusted retrospectively to conform to the calculation of EPS.

The following table summarizes the calculation of net earnings and weighted average common shares and common equivalent shares outstanding for purposes of the computation of earnings per share (in thousands, except per share data):

	Three Months Ended June 30,				Six Months Ended June 30,
	2010		2009		2010		2009

Income available to stockholders	$	5,130	$	7,230	$	8,409	$	12,487

Weighted average common shares outstanding	14,944		14,881		14,903		14,878
Weighted average common share equivalents outstanding	167		89		147		74

Weighted average common shares and common share equivalents outstanding	15,111		14,970		15,050		14,952

Basic income per share	$	.34	$	.49	$	.56	$	.84

Diluted income per share	$	.34	$	.48	$	.56	$	.84

11. Commitments and Contingencies

Financial Guarantees

During the normal course of business, we enter into contracts that contain a variety of representations and warranties and provide general indemnifications. Our maximum exposure under these arrangements is unknown as this would involve future claims that may be made against us that have not yet occurred. However, based on experience, we believe the risk of loss to be remote.

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Legal Proceedings

We are party to various legal proceedings, including those noted below. While management presently believes that the ultimate outcome of these proceedings will not have a material adverse effect on our financial position, overall trends in results of operations or cash flows, litigation is subject to inherent uncertainties, and unfavorable rulings could occur. An unfavorable ruling could include monetary damages or equitable relief, and could have a material adverse impact on the net income of the period in which the ruling occurs or in future periods.

Valencia County Detention Center

In April 2007, a lawsuit was filed against the Company in the Federal District Court in Albuquerque, New Mexico, by Joe Torres and Eufrasio Armijo, who each alleged that he was strip searched at the Valencia County Detention Center (“VCDC”) in New Mexico in violation of his federal rights under the Fourth, Fourteenth and Eighth amendments to the U.S. Constitution. The claimants also alleged violation of their rights under state law and sought to bring the case as a class action on behalf of themselves and all detainees at VCDC during the applicable statutes of limitation. The plaintiffs sought damages and declaratory and injunctive relief. Valencia County is also a named defendant in the case and operated the VCDC for a significantly greater portion of the period covered by the lawsuit.

In December 2008, the parties agreed to a proposed stipulation of settlement and, in July 2009, the Court granted final approval of the settlement. The settlement amount under the terms of the agreement is $3.3 million. Cornell’s portion of the stipulated settlement, based on the number of inmates housed at VCDC during the time Cornell operated the facility in comparison to the number of inmates housed at the facility during the time Valencia County operated the facility, is $1.2 million and was funded principally through our general liability and professional liability coverage. The claims administration process is under way and we expect it to be completed in the second half of 2010.

In the year ended December 31, 2007, we previously provided insurance reserves for this matter (as part of our regular review of reported and unreported claims) totaling approximately $0.5 million. During the fourth quarter of 2008, we recorded an additional settlement charge of approximately $0.7 million and the related reimbursement from our general liability and professional liability insurance. The charge and reimbursement were recognized in general and administrative expenses for the year ended December 31, 2008. The reimbursement was funded by the insurance carrier in the first quarter of 2009 into a settlement account, where it will remain until payments are made to the settlement class members.

Regional Correctional Center. The Office of Federal Detention Trustee (“OFDT”) holds the contract for the use of the RCC on behalf of ICE, USMS and the BOP with Bernalillo County, New Mexico (the “County”) through an intergovernmental services agreement, and we have an operating and management agreement with the County. In July 2007, we were notified by ICE that it was removing all ICE detainees from the RCC and the removal was completed in early August 2007. The facility is still being utilized by the USMS and since May 2008 by the BOP, but not at its full capacity. In February 2008, ICE informed us that it would not resume use of the facility. In February 2008, OFDT attempted to unilaterally amend its agreement with the County to reduce the number of minimum annual guaranteed mandays under the agreement from 182,500 to 66,300. Neither we nor the County believe OFDT has the right to unilaterally amend the contract in this manner, and OFDT has been informed of our position. Although either party to the intergovernmental services agreement has the right to terminate upon 180 days notice, neither party has exercised such right as of June 30, 2010.

During the third quarter of 2009, we filed a claim against the United States, acting through the United States Department of Justice, OFDT and ICE (collectively, “Defendants”) for breach of contract and breach of the duty of good faith and fair dealing, arising out of the Defendants’ improper modification of the intergovernmental services agreement (the “Contract”) and subsequent failure to pay for the shortfalls in the 2007-2008 and 2008-2009 minimum annual guaranteed mandays specified in the Contract. The United States Court of Federal Claims issued an opinion on July 14, 2010 in Board of County Commissioners of the County of Bernalillo, New Mexico, v. United States, Case No. 09-549 C, overturning the government’s decision to unilaterally reduce the number of mandays it used at the RCC. Cornell and the County successfully argued that the Contract with the OFDT obligated the government to utilize the RCC for an agreed upon number of mandays, and the government’s failure to meet that number required the government to pay for unused beds. The OFDT argued that it had properly partially terminated the Contract to reduce the number of mandays. The Court will now decide damages for the government’s breach of the agreement. Cornell and the County believe that the government owes approximately $4.2 million previously billed to the government for contract years March 26, 2007 through March 25, 2008 and March 26, 2008 through March 25, 2009, plus appropriate Contract Disputes Act interest. The government has the right to appeal the decision to the United States Court of Appeals for the Federal Circuit.

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The Company is currently in settlement negotiations on this matter. Based on the recent legal ruling that affirmed that the agreement was not partially terminated and therefore billings under the contract terms were appropriate as well as our ongoing settlement discussions, Cornell recognized an additional $2.7 million contract-based revenue adjustment in the quarter ended June 30, 2010 related to the contract years March 26, 2007 through March 25, 2008 and March 26, 2008 through March 25, 2009.

Litigation Relating to the Merger

Other

We hold insurance policies to cover potential director and officer liability, some of which may limit our cash outflows in the event of a decision adverse to us in the matter discussed above. However, if an adverse decision in the matter exceeds the insurance coverage or if the insurance coverage is deemed not to apply to the matter, it could have a material adverse effect on us, our financial condition, results of operations and future cash flows.

We currently and from time to time are subject to claims and suits arising in the ordinary course of business, including claims for damages for personal injuries or for wrongful restriction of or interference with offender privileges and employment matters. If an adverse decision in these matters exceeds our insurance coverage, or if our coverage is deemed not to apply to these matters, or if the

underlying insurance carrier was unable to fulfill its obligation under the insurance coverage provided, it could have a material adverse effect on our financial condition, results of operations or cash flows.

While the outcome of such other matters cannot be predicted with certainty, based on the information known to date, we believe that the ultimate resolution of these matters will not have a material adverse effect on our financial condition, but could be material to operating results or cash flows for a particular reporting period.

12. Financial Instruments

The carrying amounts of our financial instruments, including cash and cash equivalents, investment securities, accounts receivable and accounts payable and accrued expenses, approximate fair value due to the short term maturities of these financial instruments. At December 31, 2009, the carrying amount of consolidated debt was $303.3 million, and the estimated fair value was $309.1 million. At June 30, 2010, the carrying amount was $300.7 million and the estimated fair value was $305.6 million. The estimated fair value of long-term debt is based primarily on quoted market prices or discounted cash flow analysis for the same or similar assets.

13. Derivative Financial Instruments And Guarantees

Debt Service Reserve Fund and Debt Service Fund

In August 2001, Municipal Corrections Finance, L.P. (“MCF”) completed a bond offering to finance the 2001 Sale and Leaseback Transaction in which we sold eleven facilities to MCF. In connection with this bond offering, two reserve fund accounts were established by MCF pursuant to the terms of the indenture: (1) MCF’s Debt Service Reserve Fund, (as reported in Debt service reserve fund and other restricted assets in our Consolidated Balance sheet) aggregating $23.4 million at June 30, 2010, was established to: (a) make payments on MCF’s outstanding bonds in the event we (as lessee) should fail to make the scheduled rental payments to MCF or (b) to the extent payments were not made under (a), then to make final debt service payments on the then outstanding bonds and (2) MCF’s Bond Fund Payment Account, (as reported in Bond fund payment account and other restricted assets in our Consolidated Balance Sheet) aggregating $16.0 million at June 30, 2010, was established to accumulate the monthly lease payments that MCF receives from us until such funds are used to pay MCF’s semi-annual bond interest and annual bond principal payments, with any excess to pay certain other expenses and to make certain transfers. These reserve funds are invested in money markets and short-term commercial paper. Both reserve fund accounts were subject to agreements with the MCF Equity Investors (Lehman Brothers, Inc. (“Lehman”)) whereby guaranteed rates of return of 3.0% and 5.08%, respectively, were provided for in the balance of the Debt Service Reserve Fund and the Bond Fund Payment Account. The guaranteed rates of return were characterized as cash flow hedge derivative instruments. At inception, the derivative instruments had an aggregate fair value of $4.0 million, which was recorded as a decrease to the equity investment in MCF made by the MCF Equity Investors (MCF non-controlling interest) and is included in other long-term liabilities in our Consolidated Balance Sheets. Changes in the fair value of the derivative instruments were recorded as an adjustment to other long-term liabilities and reported as other comprehensive income in our Consolidated Statements of Income and Comprehensive Income. Due to the bankruptcy of Lehman in 2008, the derivative instruments no longer qualified as a hedge and were de-designated. Amounts included in accumulated other comprehensive income are reclassified into earnings during the same periods in which interest is earned on debt service funds (approximately $0.1 million was amortized and recognized in earnings in the six months ended June 30, 2010). Changes in the fair value of these derivatives after de-designation were recorded to earnings. The derivatives were terminated in the first quarter of 2009 with a fair value of zero.

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In accordance with the terms of its partnership agreement, MCF made a distribution of $2.4 million to its partners in April 2010.

14. Variable Interest Entity

In connection with the 2001 Sale and Leaseback Transaction with MCF, the Company determined that MCF was a variable interest entity. The Company concluded that it is the primary beneficiary of MCF’s activities because substantially all of the operating assets of MCF are utilized by the Company and the lease payments made by the Company are the main source of cash available to fund the debt obligations of MCF. As a result, our consolidated balance sheet includes the assets and liabilities of MCF. The results of operations of MCF are reflected in non-controlling interest in our Consolidated Statements of Income and Comprehensive Income.

15. Segment Disclosure

Our three operating divisions are our reportable segments. The Adult Secure Services segment consists of the operations of secure adult incarceration facilities. The Abraxas Youth and Family Services segment consists of providing residential treatment and educational programs and non-residential community-based programs to juveniles between the ages of 10 and 18 who have either been adjudicated or suffer from behavioral problems. The Adult Community-Based Services segment consists of providing pre-release

and halfway house programs for adult offenders who are either on probation or serving the last three to six-months of their sentences on parole and preparing for re-entry into society at large as well as community-based treatment and education programs as an alternative to incarceration. All of our customers and long-lived assets are located in the United States of America. The accounting policies of our reportable segments are the same as those described in the summary of significant accounting policies in Note 2 in our 2009 Annual Report on Form 10-K. Intangible assets are not included in each segment’s reportable assets, and the amortization of intangible assets is not included in the determination of a reportable segment’s operating income. We evaluate performance based on income or loss from operations before general and administrative expenses, incentive bonuses, amortization of intangibles, interest and income taxes. Corporate and other assets are comprised primarily of cash, accounts receivable, debt service fund, deposits, property and equipment, deferred taxes, deferred costs and other assets. Corporate and other expense from operations primarily consists of depreciation and amortization on the corporate office facilities and equipment and specific general and administrative charges pertaining to corporate personnel and is presented separately as such charges cannot be readily identified for allocation to a particular segment.

	Three Months Ended June 30,						Six Months Ended June 30,
	2010			2009			2010			2009

Revenues:
Adult secure services	$	61,149		$	59,272		$	119,969		$	116,130
Abraxas youth and family services	24,682			27,711			48,156			53,399
Adult community-based services	18,040			18,351			35,752			35,515
Total revenues	$	103,871		$	105,334		$	203,877		$	205,044

Income from operations:
Adult secure services	$	17,528		$	17,493		$	31,030		$	34,608
Abraxas youth and family services	1,125			3,197			949			3,931
Adult community-based services	6,194			5,864			11,830			10,631
Subtotal	24,847			26,554			43,809			49,170
General and administrative expense	(8,001		)	(6,270		)	(13,760		)	(12,408		)
Amortization of intangibles	(132		)	(448		)	(263		)	(896		)
Corporate and other	(192		)	(246		)	(399		)	(490		)
Total income from operations	$	16,522		$	19,590		$	29,387		$	35,376

	June 30,		December 31,
	2010		2009
Assets:
Adult secure services	$	373,157	$	356,247
Abraxas youth and family services	100,160		103,276
Adult community-based services	61,722		62,251
Intangible assets, net	14,230		14,498
Corporate and other	104,286		114,298
Total assets	$	653,555	$	650.565

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16. Guarantor Disclosures

We completed an offering of $112.0 million of Senior Notes in June 2004. The Senior Notes are guaranteed by each of our 100% owned subsidiaries (Guarantor Subsidiaries). MCF does not guarantee the Senior Notes (“Non-Guarantor Subsidiary”). These guarantees are full and unconditional and are joint and several obligations of the Guarantor Subsidiaries. The following condensed consolidating financial information presents the financial condition, results of operations and cash flows for the Parent, the Guarantor Subsidiaries and the Non-Guarantor Subsidiary, together with the consolidating adjustments necessary to present our results on a consolidated basis.

Condensed Consolidating Balance Sheet as of June 30, 2010 (in thousands) (unaudited)

	Parent			Guarantor Subsidiaries		Non- Guarantor Subsidiary		Eliminations			Consolidated
Assets
Current assets:
Cash and cash equivalents	$	15,991		$	170	$	3	$	—		$	16,164
Accounts receivable	1,954			64,529		70		—			66,553
Restricted assets	—			4,300		24,741		—			29,041
Prepaids and other	16,149			1,565		45		—			17,759
Total current assets	34,094			70,564		24,859		—			129,517
Property and equipment, net	178			328,861		136,959		(5,577		)	460,421
Other assets:
Restricted assets	—			—		33,270		—			33,270
Deferred costs and other	69,849			23,091		4,470		(67,063		)	30,347
Investment in subsidiaries	105,024			1,856		—		(106,880		)	—
Total assets	$	209,145		$	424,372	$	199,558	$	(179,520	)	$	653,555

Liabilities and Equity

Current liabilities:
Accounts payable and accrued liabilities	$	41,197		$	14,489	$	4,361	$	803		$	60,850
Current portion of long-term debt	—			8		13,400		—			13,408
Total current liabilities	41,197			14,497		17,761		803			74,258
Long-term debt, net of current portion	179,032			—		108,300		—			287,332
Deferred tax liabilities	23,585			94		—		2,563			26,242
Other long-term liabilities	5,881			9		67,339		(71,104		)	2,125
Intercompany	(304,148		)	305,310		—		(1,162		)	—
Total liabilities	(54,453		)	319,910		193,400		(68,900		)	389,957
Total Cornell Companies, Inc. stockholders’ equity	262,490			104,462		6,158		(110,620		)	262,490
Non-controlling interest	1,108			—		—		—			1,108
Total equity	263,598			104,462		6,158		(110,620		)	263,598
Total liabilities and equity	$	209,145		$	424,372	$	199,558	$	(179,520	)	$	653,555

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Condensed Consolidating Balance Sheet as of December 31, 2009 (in thousands)

	Parent			Guarantor Subsidiaries		Non- Guarantor Subsidiary		Eliminations			Consolidated
Assets

Current Assets:
Cash and cash equivalents	$	27,386		$	317	$	21	$	—		$	27,724
Accounts receivable	1,471			59,561		51		—			61,083
Restricted assets	—			3,831		26,147		—			29,978
Prepaids and other	20,024			1,466		—		—			21,490
Total current assets	48,881			65,175		26,219		—			140,275
Property and equipment, net	7			322,396		138,719		(5,599		)	455,523
Other assets:
Restricted assets	—			—		27,017		—			27,017
Deferred costs and other	66,623			20,029		4,758		(63,660		)	27,750
Investments in subsidiaries	98,003			1,856		—		(99,859		)	—
Total assets	$	213,514		$	409,456	$	196,713	$	(169,118	)	$	650,565

Liabilities and Equity

Current liabilities:
Accounts payable and accrued liabilities	$	42,192		$	15,725	$	4,370	$	—		$	62,287
Current portion of long-term debt	—			13		13,400		—			13,413
Total current liabilities	42,192			15,738		17,770		—			75,700
Long-term debt, net of current portion	181,540			1		108,300		—			289,841
Deferred tax liabilities	21,710			94		—		2,651			24,455
Other long-term liabilities	5,766			—		63,750		(67,685		)	1,831
Intercompany	(296,432		)	297,594		—		(1,162		)	—
Total liabilities	(45,224		)	313,427		189,820		(66,196		)	391,827
Total Cornell Companies, Inc. stockholders’ equity	256,346			96,029		6,893		(102,922		)	256,346
Non-controlling interest	2,392			—		—		—			2,392
Total equity	258,738			96,029		6,893		(102,922		)	258,738
Total liabilities and equity	$	213,514		$	409,456	$	196,713	$	(169,118	)	$	650,565

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Condensed Consolidating Statement of Operations for the three months ended June 30, 2010 (in thousands) (unaudited)

	Parent			Guarantor Subsidiaries		Non- Guarantor Subsidiary		Eliminations			Consolidated

Revenues	$	4,502		$	118,937	$	4,502	$	(24,070	)	$	103,871
Operating expenses, excluding depreciation and amortization	4,662			94,068		47		(23,984		)	74,793
Depreciation and amortization	—			3,686		881		(12		)	4,555
General and administrative expenses	7,982			—		19		—			8,001
Income (loss) from operations	(8,142		)	21,183		3,555		(74		)	16,522
Overhead allocations	(12,577		)	12,577		—		—			—
Interest, net	167			3,505		2,690		(202		)	6,160
Equity earnings in subsidiaries	5,102			—		—		(5,102		)	—
Income before provision for income taxes	9,370			5,101		865		(4,974		)	10,362
Provision for income taxes	4,240			—		—		406			4,646
Net income	5,130			5,101		865		(5,380		)	5,716
Non-controlling interest	—			—		—		586			586
Income available to Cornell Companies, Inc.	$	5,130		$	5,101	$	865	$	(5,966	)	$	5,130

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Condensed Consolidating Statement of Operations for the three months ended June 30, 2009 (in thousands) (unaudited)

	Parent			Guarantor Subsidiaries		Non- Guarantor Subsidiary		Eliminations			Consolidated

Revenues	$	4,502		$	117,983	$	4,502	$	(21,653	)	$	105,334
Operating expenses, excluding depreciation and amortization	6,211			89,972		111		(21,560		)	74,734
Depreciation and amortization	—			3,856		880		4			4,740
General and administrative expenses	6,251			—		19		—			6,270
Income (loss) from operations	(7,960		)	24,155		3,492		(97		)	19,590
Overhead allocations	(11,221		)	11,221		—		—			—
Interest, net	(1,818		)	5,674		2,938		(218		)	6,576
Equity earnings in subsidiaries	7,260			—		—		(7,260		)	—
Income before provision for income taxes	12,339			7,260		554		(7,139		)	13,014
Provision for income taxes	5,109			—		—		277			5,386
Net income	7,230			7,260		554		(7,416		)	7,628
Non-controlling interest	—			—		—		398			398
Income available to Cornel Companies, Inc.	$	7,230		$	7,260	$	554	$	(7,814	)	$	7,230

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Condensed Consolidating Statement of Operations for the six months ended June 30, 2010 (in thousands) (unaudited)

	Parent			Guarantor Subsidiaries		Non- Guarantor Subsidiary		Eliminations			Consolidated

Revenues	$	9,004		$	234,086	$	9,004	$	(48,217	)	$	203,877
Operating expenses, excluding depreciation and amortization	8,703			190,727		92		(48,046		)	151,476
Depreciation and amortization	—			7,516		1,761		(23		)	9,254
General and administrative expenses	13,722			—		38		—			13,760
Income (loss) from operations	(13,421		)	35,843		7,113		(148		)	29,387
Overhead allocations	(20,405		)	20,405		—		—			—
Interest, net	333			7,005		5,410		(402		)	12,346
Equity earnings in subsidiaries	8,433			—		—		(8,433		)	—
Income before provision for income taxes	15,084			8,433		1,703		(8,179		)	17,041
Provision for income taxes	6,675			—		—		802			7,477
Net income	8,409			8,433		1,703		(8,981		)	9,564
Non-controlling interest	—			—		—		1,155			1,155
Income available to Cornell Companies, Inc.	$	8,409		$	8,433	$	1,703	$	(10,136	)	$	8,409

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Condensed Consolidating Statement of Operations for the six months ended June 30, 2009 (in thousands) (unaudited)

	Parent			Guarantor Subsidiaries		Non- Guarantor Subsidiary		Eliminations			Consolidated

Revenues	$	9,004		$	235,803	$	9,004	$	(48,767	)	$	205,044
Operating expenses, excluding depreciation and amortization	10,350			185,711		153		(48,587		)	147,627
Depreciation and amortization	—			7,862		1,761		10			9,633
General and administrative expenses	12,370			—		38		—			12,408
Income (loss) from operations	(13,716		)	42,230		7,052		(190		)	35,376
Overhead allocations	(19,598		)	19,598		—		—			—
Interest, net	136			7,011		5,820		(438		)	12,529
Equity earnings in subsidiaries	15,621			—		—		(15,621		)	—
Income before provision for income taxes	21,367			15,621		1,232		(15,373		)	22,847
Provision for income taxes	8,880			—		—		607			9,487
Net income	12,487			15,621		1,232		(15,980		)	13,360
Non-controlling interest	—			—		—		873			873
Income available to Cornell Companies, Inc.	$	12,487		$	15,621	$	1,232	$	(16,853	)	$	12,487

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Condensed Consolidating Statement of Cash Flows for the six months ended June 30, 2010 (in thousands) (unaudited)

	Parent			Guarantor Subsidiaries			Non- Guarantor Subsidiary			Consolidated
Cash flows from operating activities:
Net cash provided by (used in) operating activities	$	(6,795	)	$	12,518		$	1,014		$	6,737

Cash flows from investing activities:
Capital expenditures	—			(13,200		)	—			(13,200		)
Proceeds from the sale of fixed assets	—			541			—			541
Proceeds from restricted debt payment account, net	—			—			1,407			1,407
Net cash used in investing activities	$	—		$	(12,659	)	$	1,407		$	(11,252	)

Cash flows from financing activities:
Payments of line of credit	(2,600		)	—			—			(2,600		)
Purchase and retirement of common stock	(3,000		)	—			—			(3,000		)
Distribution to MCF partners	—			—			(2,439		)	(2,439		)
Tax benefit of stock option exercises	89			—			—			89
Payments on capital lease obligations	—			(6		)	—			(6		)
Proceeds from exercise of stock options	911			—			—			911
Net cash used in financing activities	(4,600		)	(6		)	(2,439		)	(7,045		)

Net decrease in cash and cash equivalents	(11,395		)	(147		)	(18		)	(11,560		)

Cash and cash equivalents at beginning of period	27,386			317			21			27,724

Cash and cash equivalents at end of period	$	15,991		$	170		$	3		$	16,164

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Condensed Consolidating Statement of Cash Flows for the six months ended June 30, 2009 (in thousands) (unaudited)

	Parent			Guarantor Subsidiaries			Non- Guarantor Subsidiary			Consolidated
Cash flows from operating activities:
Net cash provided by operating activities	$	3,798		$	7,727		$	6,753		$	18,278

Cash flows from investing activities:
Capital expenditures	—			(9,493		)	—			(9,493		)
Proceeds from the sale/disposals of property and equipment	—			1,688			—			1,688
Payments to restricted debt payment account, net	—			—			(6,780		)	(6,780		)
Net cash used in investing activities	$	—		$	(7,805	)	$	(6,780	)	$	(14,585	)

Cash flows from financing activities:
Proceeds from line of credit	2,000			—			—			2,000
Payments of line of credit	(4,000		)	—			—			(4,000		)
Payments on capital lease obligations	—			(7		)	—			(7		)
Proceeds from exercise of stock options	321			—			—			321
Net cash used in financing activities	(1,679		)	(7		)	—			(1,686		)

Net increase (decrease) in cash and cash equivalents	2,119			(85		)	(27		)	2,007

Cash and cash equivalents at beginning of period	14,291			265			57			14,613

Cash and cash equivalents at end of period	$	16,410		$	180		$	30		$	16,620

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ITEM 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

General

Cornell Companies, Inc. is a leading provider of correctional, detention, educational, rehabilitation and treatment services outsourced by federal, state, county and local government agencies. We provide a diversified portfolio of services for adults and juveniles through our three operating divisions: (1) Adult Secure Services; (2) Abraxas Youth and Family Services and (3) Adult Community-Based Services. At June 30, 2010, we operated 62 facilities with a total service capacity of 20,259 and had six facilities with a combined service capacity of 1,133 beds that were vacant. Our facilities are located in 15 states and the District of Columbia.

The following table sets forth for the periods indicated total residential service capacity and contracted beds in operation at the end of the periods shown, average contract occupancy percentages and total non-residential service capacity.

	June 30,		June 30,
	2010		2009
Residential
Service capacity (1)	19,284		18,334
Contracted beds in operation (end of period) (2)	17,639		17,480
Average contract occupancy based on contracted beds in operation (3) (4)	86.9	%	92.2	%
Non-Residential
Service capacity (5)	2,108		2,558

(1) Residential service capacity is comprised of the number of beds currently available for service in our residential facilities.

(2) At certain residential facilities, the contracted capacity is lower than the facility’s service capacity. We could increase a facility’s contracted capacity by obtaining additional contracts or by renegotiating existing contracts to increase the number of beds covered. However, we may not be able to obtain contracts that provide occupancy levels at a facility’s service capacity or be able to maintain current contracted capacities in future periods.

(3) Occupancy percentages reflect less than normalized occupancy during the start-up phase of any applicable facility, resulting in a lower average occupancy in periods when we have substantial start-up activities.

(4) Average contract occupancy percentages are calculated based on actual occupancy for the period as a percentage of the contracted capacity for residential facilities in operation. These percentages do not reflect the operations of non-residential community-based programs. At certain residential facilities, our contracted capacity is lower than the facility’s service capacity. Additionally, certain facilities have and are currently operating above the contracted capacity. As a result, average contract occupancy percentages can exceed 100% if the average actual occupancy exceeded contracted capacity.

(5) Service capacity for non-residential programs is based on either contractual terms or an estimate of the number of clients to be served. We update these estimates at least annually based on the program’s budget and other factors.

During the six months ended June 30, 2010, we initiated the transition plan at our D. Ray James Prison from our current customer, the Georgia Department of Corrections (“GADOC”), to the Federal Bureau of Prisons (“BOP”) (anticipated to take through the fourth quarter of 2010). This will include the ramp-down of the current GADOC population, preparation of the facility for the BOP and subsequent ramp-up of the BOP population. In the six months ended June 30, 2010, revenues included approximately $2.7 million due to a contract-based revenue adjustment resulting from the guaranteed population contract at the Regional Correctional Center for the contract years March 26, 2007 through March 25, 2008 and March 26, 2008 through March 25, 2009.

Although we believe we will continue to see steady, long-term demand across our various business segments and customer base (federal, state and local), we are monitoring the continuation of the negative/stagnant economic trends (which began in 2008) and the related impact on government budget plans and the effect tightened spending plans could have on our business (with respect to possible areas including current utilization and per diem rates, among others) in the near and short-term. We expect a key area of focus for our performance in 2010 to include the transition of the customer at our D. Ray James Prison from GADOC to the BOP (by the fourth quarter of 2010). As noted, this will include the ramp-down of the current GADOC population, preparation of the facility for the BOP and subsequent ramp-up of the BOP population.

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We also plan to remain focused on our operating margins, on increasing utilization (particularly in the Abraxas Youth and Family Services division and in our Adult Secure division) and improving customer mix as we believe those initiatives are the key elements of our financial performance.

Management Overview

Demand. Our business is driven generally by demand for incarceration or treatment services, and specifically by demand for private incarceration or treatment services, within our three primary business segments: Adult Secure Services; Abraxas Youth and Family Services; and Adult Community-Based Services. The demand for adult and juvenile corrections and treatment services has generally increased at a steady rate over the past ten years, largely as a result of increasing sentence terms and/or mandatory sentences for criminals and as well a greater range of criminal acts, increasing demand for incarceration of illegal aliens and a public recognition of the need to provide services to juveniles that will improve the possibility that they will lead productive lives. Moreover, demand for our services is also affected by the amount of available capacity in the government systems to enable governments to provide the services themselves, as well as desire and ability of these systems to add additional capacity. Furthermore, as a result of, among other things, recent economic developments, federal, state and local governments have encountered, and may continue to encounter, unusual budgetary constraints. As a result, a number of state and local governments are under pressure to control additional spending or reduce current levels of spending which could limit or eliminate appropriations for the facilities that we operate, and thus reduce the near term demand for our services. In addition, the balance between community-based corrections treatment of adults as an alternative to traditional incarceration continues to be analyzed by many political and societal parties. Among other things, we monitor federal, state and industry communications and statistics relative to trends in prison populations, juvenile justice statistics and initiatives, and developments in alternatives to traditional incarceration or detention of adults for opportunities to expand our scope or delivery of services.

The federal government contracts with private providers for the incarceration of adults, whether they are serving prison sentences, detained as illegal aliens, detained in anticipation of pending judicial administration or transitioning from prison to society. Chief among the federal agencies which use private providers are the Federal Bureau of Prisons (“BOP”), U.S. Immigration and Customs Enforcement (“ICE”) and United States Marshalls Service (“USMS”). We provide adult secure and adult community-based services to the federal government. Most of the federal involvement in juvenile administration in the federal system is handled via Medicare and Medicaid assistance to state governments. Although there are circumstances in which we may contract with a federal agency on a sole source basis, the primary means by which we secure a contract with a federal agency is via the RFP bidding process. From time to time, we contract to provide management services to a local governmental unit who then bids on a federal contract.

States and smaller governmental units remain divided on the issue of private prisons and private provision of juvenile and community-based programs, although a majority of states permit private provision for our services. We anticipate that increasing budget pressure on states and smaller governmental units may cause more states and smaller governmental units to consider future utilization of private providers such as us to provide these services on a more economical basis. We believe capital budget constraints among prison agencies may encourage them to explore outsourcing to private operators as a future alternative to deploying their own capital for prison construction or major refurbishment. Although it varies from governmental unit to governmental unit, the primary political forces who typically oppose privatization of prisons are organized labor and religious groups.

Private juvenile and community-based programs are utilized by states and local governmental units and are organized on a profit and not-for-profit basis. We monitor opportunities in these segments via our corporate and business division development officers. Many opportunities are not published in any manner and, accordingly, we believe that taking the initiative at the state and local levels is key in developing sole source opportunities.

Performance. We track a number of factors as we monitor financial performance. Chief among them are:

· capacity (the number of beds within each business segment’s facilities),

· occupancy (utilization),

· per diem reimbursement rates,

· revenues,

· operating margins, and

· operating expenses.

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Capacity. Capacity, commonly expressed in terms of number of beds, is primarily impacted by the number and size of the facilities we own or lease and the facilities we operate on behalf of a third party owner or lessee. We view capacity as one of the measures of our development efforts, through which we may increase capacity by adding new projects or by expanding existing projects (as we have done in 2007 through 2009 at several of our facilities including Great Plains Correctional Facility, D. Ray James Prison and the Hudson Correctional Facility). As part of the evaluation of our development efforts, we will assess (a) whether a given development project was brought into service in accordance with our expectation as to time and expense; and (b) the number of projects in development or under consideration at the relevant point in time. In addition to the focus on new projects, capacity will reflect our success in renewing and maintaining existing contracts and facilities. It will also reflect any closure of programs or facilities due to underutilization or failure to earn an adequate risk-adjusted rate of return. We must also be cognizant of the possibility that state or local budgetary limitations may cause the contractual commitment to a given facility to be reduced or even eliminated, which would require us to either secure an alternate customer or close the operation.

Occupancy. Occupancy is typically expressed in terms of percentage of contract capacity utilized. We look at occupancy to assess the efficacy of both our efforts to market our facilities and our efforts to retain existing customers or contracts. Because revenue varies directly with occupancy, occupancy is a principal driver of our revenues. Our industry experiences significant economies of scale, whereby as occupancy rises, operating costs per resident decline. Some of our contracts are “take-or-pay,” meaning that the agency making use of the facility is obligated to pay for beds even though they are not used. Historically, occupancy percentages in many of our facilities have been high and we are mindful of the need to maintain such occupancy levels. As new development projects are brought into service, occupancy percentages may decline until the projects reach full utilization (as, for example, with the activation of the 1,100 bed expansion at Great Plains Correctional Facility during the fourth quarter of 2008, the 700 bed expansion at D. Ray James Prison during the second quarter of 2009 and the 1,250 bed Hudson Correctional Facility during the fourth quarter of 2009). Where we have commitments for utilization before the commencement of operations, occupancy percentages reflect the speed at which a facility achieves full service/implementation. However, we may decide to undertake development projects without written commitments to make full use of a facility. In these instances, we have performed our own assessment, based on discussions with local government or other potential customer representatives and analysis of other factors, of the demand for services at the facility. There is no assurance that we would recover our initial investment in these projects. We will monitor occupancy as a measure of the accuracy of our estimation of the demand for the services of a development facility, and will incorporate this information in future assessments of potential projects. In addition, the ramp phase for our youth facilities is typically longer than that experienced in our adult facilities, which will impact our occupancy in the Abraxas Youth and Family Services division in a given period.

Per Diem Reimbursement Rates. Per diem reimbursement rates are another key element of our gross revenue and operating margin since per diem contracts represent a majority of our revenues (approximately 57.7% and 58.5% for the three and six months ended June 30, 2010, respectively). Per diem rates are a function of negotiation between management and a governmental unit at the inception of a contract or through the bidding process. Actual per diem rates vary dramatically across our business segments, and within each business segment, depending upon the particular service or program provided. The initial per diem rates often change during the term of a contract in accordance with a schedule. The amount of the change can be a fixed amount set forth within the contract, an amount determined by formulas set forth within the contract or an amount determined by negotiations between management and the governmental unit (often these negotiations are along the same lines as the original per diem negotiation — a review of expenses and approval of an amount to recompense for expenses and assure the potential of an operating profit). In recent years, as budgetary pressures on governmental units have increased, some of our customers have negotiated relief from formulaic increase provisions within their agreements or have declined to include in their appropriation legislation amounts that would increase the per diem rates payable under the contract. Based on the economic turmoil which began in the second half of 2008, we are expecting such pressures to continue in 2010 for many of our customers. In similar prior situations we have attempted to mitigate the impact of these developments by negotiating services provided, obtaining commitments for increased volume and other measures. Customers may choose to reduce per diem rates through the reduction of services we may provide. We may also choose to consider terminating an existing relationship at a given facility and replacing it with a new customer (as was done with our Great Plains Correctional Facility in 2007 and as we are in the process of doing with our D. Ray James Prison in 2010).

Revenues. We derive substantially all of our revenues from providing adult corrections and treatment and juvenile justice, educational and treatment services outsourced by federal, state and local government agencies in the United States. Revenues for our services are generally recognized on a per diem rate based upon the number of occupant days or hours served for the period, on a guaranteed take-or-pay basis or on a cost-plus reimbursement basis. For the three months ended June 30, 2010, our revenue base consisted of 57.7% for services provided under per diem contracts, 37.6% for services provided under take-or-pay and management contracts, 3.1% for services provided under cost-plus reimbursement contracts and 1.6% for services provided under fee-for-service contracts. For the three months ended June 30, 2009, our revenue base consisted of 62.0% for services provided under per diem contracts, 32.5% for services provided under take-or-pay and management contracts, 3.6% for services provided under cost-plus reimbursement contracts, 1.8% for services provided under fee-for-service contracts and 0.1% from other miscellaneous sources. For the six months ended June 30, 2010, our revenue base consisted of 58.5% for services provided under per diem contracts, 36.6% for

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services provided under take-or-pay and management contracts, 3.3% for services provided under cost-plus reimbursement contracts and 1.6% for services provided under fee-for-service contracts. For the six months ended June 30, 2009 our revenue base consisted of 61.8% for services provided under per diem contracts, 32.8% for services provided under take-or-pay and management contracts, 3.5% for services provided under cost-plus reimbursement contracts, 1.8% for services provided under fee-for-service contracts and 0.1% from other miscellaneous sources. The increase in the services provided under take or pay and management contracts for the three and six months ending June 30, 2010 was principally due to the inclusion of approximately $2.7 million from a contract-based revenue adjustment resulting from the guaranteed population contract at the Regional Correctional Center for the contract years March 26, 2007 through March 25, 2008 and March 26, 2008 through March 25, 2009.

Revenues can fluctuate from period to period due to changes in government funding policies, changes in the number or types of clients referred to our facilities by governmental agencies, changes in the types of services delivered to our customers, the opening of new facilities or the expansion of existing facilities and the termination of contracts for a facility or the closure (or temporary program consolidation) of a facility.

Factors considered in determining billing rates to charge include: (1) the programs specified by the contract and the related staffing levels; (2) wage levels customary in the respective geographic areas; (3) whether the proposed facility is to be leased or purchased; and (4) the anticipated average occupancy levels that could reasonably be expected to be maintained and the duration of time required to reach such occupancy levels.

Revenues-Adult Secure Services. Revenues for our Adult Secure Services division are primarily generated from per diem, take-or-pay and management contracts. For the three months ended June 30, 2010 and 2009, we realized average per diem rates on our adult secure facilities of approximately $56.61 and $55.28, respectively. The average per diem rates for the three and six months ended June 30, 2010 exclude the contract-based revenue adjustment recognized of approximately $2.7 million pertaining to the RCC. For the six months ended June 30, 2010 and 2009, we realized average per diem rates of approximately $56.12 and $54.52, respectively. The 2010 average per diem rate benefited from the activation of our Hudson Correctional Facility during the fourth quarter of 2009. We periodically have experienced pressure from contracting governmental agencies to limit or even reduce per diem rates. Many of these governmental entities are under severe budget pressures and we anticipate that governmental agencies may periodically approach us in 2010 about per diem rate concessions (or decline to provide funding for contractual rate increases). Decreases in, or the lack of anticipated increases in, per diem rates could adversely impact our operating margin.

Revenues-Abraxas Youth and Family Services. Revenues for our Abraxas Youth and Family Services division are primarily generated from per diem, fee-for-service and cost-plus reimbursement contracts. For the three months ended June 30, 2010 and 2009, we realized average per diem rates on our residential youth and family services facilities of approximately $194.97 and $194.53, respectively. For the six months ended June 30, 2010 and 2009, we realized average per diem rates of approximately $194.82 and $195.96, respectively. For the three months ended June 30, 2010 and 2009, we realized average fee-for-service rates for our non-residential community-based Abraxas Youth and Family Services facilities and programs, including rates that are limited by Medicaid and other private insurance providers, of approximately $46.15 and $45.17, respectively. For the six months ended June 30, 2010 and 2009, we realized average fee for service rates of approximately $47.28 and $45.12, respectively. The changes in the average fee-for-service rates for are due to changes in the mix of services provided at our non-residential facilities. The majority of our Abraxas Youth and Family Services contracts renew annually.

Revenues-Adult Community-Based Services. Revenues for our Adult Community-Based Services division are primarily generated from per diem and fee-for-service contracts. For the three months ended June 30, 2010 and 2009, we realized average per diem rates on our residential adult community-based facilities of approximately $71.35 and $66.85, respectively. For the six months ended June 30, 2010 and 2009, we realized average per diem rates on our residential Adult Community-Based Services facilities of approximately $70.82 and $67.05, respectively. For the three months ended June 30, 2010 and 2009, we realized average fee-for-service rates on our non-residential Adult Community-Based Services facilities and programs of approximately $10.05 and $10.35, respectively. For the six months ended June 30, 2010 and 2009, we realized average fee-for-service rates on our non-residential Adult Community-Based Services facilities and programs of approximately $9.72 and $9.64, respectively. Our average fee-for-service rates fluctuate from period to period principally due to changes in the mix of services provided by our various Adult Community-Based Services programs and facilities.

Operating Margins. We have historically experienced higher operating margins in our Adult Secure Services and Adult Community-Based Services divisions as compared to our Abraxas Youth and Family Services division. Our operating margin, in a given period, will be impacted by both utilization at active facilities as well as by those facilities which may either be dormant or have been reactivated (or deactivated) during the period. As previously discussed, we have expanded several of our Adult Secure facilities (D. Ray James Prison, Great Plains Correctional Facility and Walnut Grove Youth Correctional Facility, for example), which provides the opportunity to leverage existing infrastructure. Operating margins will generally decline during a customer transition phase as the original inmate population ramps down, the facility is prepared, and the new customer population is received. We would expect to

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experience such an impact on our Adult Secure Services margins from our D. Ray James Prison in 2010 due to its ongoing customer transition. Additionally, our operating margins within a division can vary from facility to facility based on whether a facility is owned or leased, the level of competition for the contract award, the proposed length of the contract, the mix of services provided, the occupancy levels for a facility, the level of capital commitment required with respect to a facility, the anticipated changes in operating costs over the term of the contract and our ability to increase a facility’s contract revenue.

Under take-or-pay contracts, such as the contract at the Moshannon Valley Correctional Center, operating margins are typically higher during the early stages of the contract as the facility’s population ramps up (as revenues are received at contract percentages regardless of actual occupancy). As the variable costs (primarily resident-related and certain facility costs) increase with the growth in population, operating margins will generally decline to a stabilized level. Such an impact is anticipated at our D. Ray James Prison upon the activation of its transition to the BOP (under its take-or-pay contract) in the fourth quarter of 2010. A decline in occupancy at our Abraxas Youth and Family Services facilities can have a more significant impact on operating margins than our Adult Secure Services division due to the longer periods typically required to ramp resident population at a youth facility.

We have experienced and expect to continue to experience interim period operating margin fluctuations due to factors such as the number of calendar days in the period, higher payroll taxes (generally in the first half of the year) and salary and wage increases and insurance cost increases that are incurred prior to certain contract rate increases. Periodically, many of the governmental agencies with whom we contract may experience budgetary pressures and may approach us to limit or reduce per diem rates (including contractual price increases as well). We experienced such behavior in 2009 and we anticipate such customer behavior will continue in 2010. Decreases in, or the lack of anticipated increases in, per diem rates could adversely impact our operating margin. Additionally, a decrease in per diem rates without a corresponding decrease in operating expenses could also adversely impact our operating margin. Furthermore, our margins may be negatively impacted during a customer transition at a facility due to required population ramp patterns and timing as we change customers.

Operating Expenses. We track several different areas of our operating expenses. Foremost among these expenses are employee compensation and benefits and expenses, risk related areas such as general liability, medical and worker’s compensation, client/inmate costs such as food, clothing, medical and programming costs, financing costs and administrative overhead expenses. Increases or decreases in one or more of these expenses, such as our experience with rising insurance costs, can have a material effect on our financial performance. Operating expenses are also impacted by decisions to close or terminate a particular program or facility. Such decisions are based on our assessments of operating results, operating efficiency and risk-adjusted returns and are an ongoing part of our portfolio management. In addition, decisions to restructure employee positions will typically increase period costs initially (at the time of such actions), but generally reduce post-restructuring expense levels.

We are responsible for all facility operating costs, except for certain debt service and interest or lease payments for facilities where we have a management contract only. At these facilities, the facility owner is responsible for all debt service and interest or lease payments related to the facility. We are responsible for all other operating expenses at these facilities. We operated 11 and 14 facilities under management contracts at June 30, 2010 and 2009, respectively. Included in the 11 facilities under management contracts at June 30, 2010 were the Walnut Grove Youth Correctional Facility and the eight Los Angeles County Jails, which represented 1,714 beds of service capacity, or approximately 96.5%, of the residential service capacity represented by management contracts.

A majority of our facility operating costs consists of fixed costs. These fixed costs include lease and rental expense, insurance, utilities and depreciation. As a result, when we commence operation of new or expanded facilities, fixed operating costs may increase. The amount of our variable operating costs, including food, medical services, supplies and clothing, depend on occupancy levels at the facilities. Our largest single operating cost, facility payroll expense and related employment taxes and expenses, has both a fixed and a variable component. We can adjust a facility’s staffing levels and the related payroll expense to a certain extent based on occupancy at a facility; however a minimum fixed number of employees are required to operate and maintain any facility regardless of occupancy levels. Personnel costs are subject to increases in tightening labor markets based on local economic environments and other conditions.

We incur pre-opening and start-up expenses including payroll, benefits, training and other operating costs prior to opening a new or expanded facility (including customer transitions) and during the period of operation while occupancy is ramping up. These costs vary by contract (and the pace/scale of the activation and related population ramp). We incurred such costs at our Hudson Correctional Facility in conjunction with its activation during the fourth quarter of 2009 and would also expect to incur similar costs in conjunction with the planned customer transition at our D. Ray James Prison in the second half of 2010. Since pre-opening and start-up costs are generally factored into the revenue per diem rate that is charged to the contracting agency, we typically expect to recover these upfront costs over the life of the contract. Because occupancy rates during a facility’s start-up phase typically result in capacity under-utilization for at least 90 to 180 days, we may incur additional post-opening start-up costs. We do not anticipate post-opening start-up costs at any adult secure facilities operated under any future contracts with the BOP which are take-or-pay contracts, meaning that the

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BOP will pay a certain percentage of the contractual monthly revenue once the facility opens, regardless of actual occupancy (with an adjusted percentage level (up to 90%) as the population achieves certain thresholds). This should be the case when the transition ramp-up of BOP inmates at D. Ray James Prison begins in the fourth quarter of 2010.

Newly opened (or reactivated) facilities are staffed according to applicable regulatory or contractual requirements when we begin receiving offenders or clients. Offenders or clients are typically assigned to a newly opened facility on a phased-in basis over a one- to six-month period. Our start-up period for new juvenile operations is 12 months from the date we begin recognizing revenue unless break-even occupancy levels are achieved before then. The actual time required to ramp a juvenile facility (with an approximate capacity, for example, of 100 to 200 beds) may be a period of one to three years. Our start-up period for new adult operations is nine months from the date we begin recognizing revenue unless break-even occupancy levels are achieved before then. The approximate time to ramp an adult facility of approximately 1,000 beds may be a period of three to six months, depending upon the customer requirements. Although we typically recover these upfront costs over the life of the contract, quarterly results can be substantially affected by the timing of the commencement of operations as well as the development and construction of new facilities.

Working capital requirements generally increase immediately prior to commencing management of a new or expanded facility as we incur start-up costs and purchase necessary equipment and supplies before facility management revenue is realized.

General and administrative expenses consist primarily of costs for corporate and administrative personnel who provide senior management, legal, finance, accounting, human resources, investor relations, payroll and information systems, costs of business development and outside professional and consulting fees.

Recent Developments

Merger Agreement

On April 18, 2010, the Company entered into an Agreement and Plan of Merger (“Agreement”) with The GEO Group (NYSE:GEO) (“GEO”), a private provider of correctional, detention, and residential treatment services to federal, state and local government agencies around the globe. Pursuant to the Agreement, GEO will acquire Cornell for stock and/or cash at an estimated enterprise value of $685.0 million based on the closing prices of both companies’ stock on April 16, 2010, including the assumption of approximately $300.0 million in Cornell debt, excluding cash.

Litigation Relating to the Merger

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disclosures were included in the final form of the Joint Proxy Statement. The settlement did not alter the terms of the transaction or the consideration to be received by shareholders. The settlement remains subject to confirmatory discovery, preparation and execution of a formal stipulation of settlement, final court approval of the settlement and dismissal of the action with prejudice.

D. Ray James Prison

In January 2010, we received a contract award from the BOP to house up to 2,507 low-security adult males at the facility. The contract has an anticipated effective date of October 1, 2010 and has an initial four-year term with three two-year option periods. We anticipate we will spend approximately $8.0 million prior to the effective date of the BOP contract in order to prepare the facility for the BOP inmates. In conjunction with the preparations for the BOP population during 2010, we will be transitioning from the Georgia Department of Corrections’ inmates currently housed at this facility.

Liquidity and Capital Resources

General. Our primary capital requirements are for (1) purchases, construction or renovation of new facilities, (2) expansions of existing facilities, (3) working capital, (4) pre-opening and start-up costs related to new operating contracts, (5) acquisitions, (6) information systems hardware and software, and (7) furniture, fixtures and equipment. Working capital requirements generally increase immediately prior to commencing management of a new (or activation of a facility expansion) as we incur start-up costs and purchase necessary equipment and supplies before facility management revenue is realized.

Cash Flows From Operating Activities. Cash provided by operations was approximately $6.7 million for the six months ended June 30, 2010 compared to $18.3 million for the six months ended June 30, 2009, principally due to: (1) a reduction of approximately $3.8 million in net income during the six months ended June 30, 2010 as compared to the same period of the prior year and (2) an increase in restricted assets of approximately $6.7 million.

Cash Flows From Investing Activities. Cash used in investing activities was approximately $11.3 million for the six months ended June 30, 2010 due primarily to capital expenditures of $13.2 million related to our Hudson Correctional Facility as well as the renovations at the D. Ray James Prison as we prepare for the transition of the facility to the BOP from the Georgia Department of Corrections. These were partially offset by proceeds from the sale of fixed assets of $0.5 million and proceeds from the restricted debt payment account of $1.4 million. Cash used in investing activities was approximately $14.6 million for the six months ended June 30, 2009 due to capital expenditures of $9.5 million related to the facility expansion projects at the D. Ray James Prison and Great Plains Correctional Facility, as well as certain infrastructure work at our Hudson, Colorado facility offset by insurance proceeds of $1.7 million (related to damages sustained at the Reid Community Residential Facility during Hurricane Ike in September 2008) and net payments to the restricted debt payment account of $6.8 million.

Cash Flows From Financing Activities. Cash used in financing activities was approximately $7.0 million for the six months ended June 30, 2010 due to payments on our Amended Credit Facility of $2.6 million and the purchase and retirement of $3.0 million of our common stock. Additionally, MCF made a distribution to its partners of approximately $2.4 million. These were partially offset by proceeds from the exercise of stock options and the employee stock purchase plan of $0.9 million. Cash used in financing activities was approximately $1.7 million for the six months ended June 30, 2009 due primarily to borrowings of $2.0 million on our Amended Credit Facility offset by payments on the Amended Credit Facility of $4.0 million and proceeds from the exercise of stock options of $0.3 million.

Treasury Stock Repurchases. We repurchased 145,473 shares of common stock in the six months ended June 30, 2010. All of these shares were retired. We did not purchase any of our common stock in the six months ended June 30, 2009. Under the terms of our Senior Notes and our Amended Credit Facility, we can repurchase shares of our stock subject to certain cumulative restrictions.

Long-Term Credit Facilities. Our Amended Credit Facility provides for borrowings up to $100.0 million (including letters of credit) and matures in December 2011. At our election, outstanding borrowings bear interest, at either the LIBOR rate plus a margin ranging from 1.50% to 2.25% or a rate which ranges from 0.00% to 0.75% above the applicable prime rate. The applicable margins are subject to adjustments based on our total leverage ratio. The available commitment under our Amended Credit Facility was approximately $20.5 million at June 30, 2010. We had outstanding borrowings under our Amended Credit Facility of $67.4 million and we had outstanding letters of credit of approximately $12.1 million at June 30, 2010. Subject to certain requirements, we have the right to increase the commitments under our Amended Credit Facility up to $150.0 million, although the indenture for our Senior Notes limits our ability, subject to certain conditions, to expand the Amended Credit Facility beyond $100.0 million. We can provide no assurance that all of the banks that have made commitments to us under our Amended Credit Facility would be willing to participate in an expansion to the Amended Credit Facility should we desire to do so. The Amended Credit Facility is collateralized by substantially all of our assets, including the assets and stock of all of our subsidiaries. The Amended Credit Facility is not secured by the assets of MCF.

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Our Amended Credit Facility contains financial and other restrictive covenants that limit our ability to engage in certain activities. Our ability to borrow under the Amended Credit Facility is subject to compliance with certain financial covenants, including bank leverage, total leverage and fixed charge coverage ratios. At June 30, 2010, we were in compliance with all such covenants. Our Amended Credit Facility includes other restrictions that, among other things, limit our ability to incur indebtedness; grant liens; engage in mergers, consolidations and liquidations; make investments, restricted payments and asset dispositions; enter into transactions with affiliates; and engage in sale/leaseback transactions.

Year	Percentages

2010 and thereafter	100.000	%

As the Senior Notes are redeemable at our option (subject to the requirements noted) we anticipate we will monitor the capital markets and continue to assess (pending the Merger) our capital needs and our capital structure, including potential refinancing of the Senior Notes.

Upon the occurrence of specified change of control events, (which would include consummation of the pending merger with GEO) unless we have exercised our option to redeem all the Senior Notes as described above, each holder will have the right to require us to repurchase all or a portion of such holder’s Senior Notes at a purchase price in cash equal to 101% of the aggregate principal amount of the notes repurchased plus accrued and unpaid interest, if any, on the Senior Notes repurchased, to the applicable date of purchase. The Senior Notes were issued under an indenture which limits our ability and the ability of our Guarantors to, among other things, incur additional indebtedness, pay dividends or make other distributions, make other restricted payments and investments, create liens, incur restrictions on the ability of the Guarantors to pay dividends or other payments to us, enter into transactions with affiliates, and engage in mergers, consolidations and certain sales of assets.

Future Liquidity

Our shelf registration statement under Form S-3 for potential offerings from time to time of up to $75.0 million in gross proceeds of debt securities, common stock, preferred stock, warrants or certain other securities was declared effective by the Securities and Exchange Commission in September 2008.

We expect to use existing cash balances, internally generated cash flows and borrowings from our Amended Credit Facility to fulfill anticipated obligations such as capital expenditures, working-capital needs and scheduled debt maturities over at least the next twelve months. As of June 30, 2010, we had approximately $20.5 million of available capacity under our Amended Credit Facility. We will continue to analyze our capital structure, including a potential refinancing of our Senior Notes and financing for our expected future capital expenditures, including any potential acquisitions. We will consider potential acquisitions from time to time. Our principal focus for acquisitions is anticipated to be in our Adult Secure and Adult Community-Based divisions, although we would also pursue attractively priced acquisitions in our Abraxas Youth and Family Services division. We may decide to use internally generated funds, bank financing, equity issuances, debt issuances or a combination of any of the foregoing to finance our future capital needs. We may also seek, from time to time, to retire or purchase some of our common stock and/or outstanding debt through cash purchases in open market purchases, privately negotiated transactions or otherwise. Such repurchases, if any, will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors. In July 2009, our Board of Directors authorized a stock repurchase program which provides for up to $10.0 million in purchases through December 2010. In

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September 2009, we adopted a 10b5-1 Plan to facilitate purchases of our common stock pursuant to such stock repurchase plan. As noted, we purchased approximately $3.0 million of our common stock during the six months ended June 30, 2010. The Company may also repurchase our common stock in open market purchases. As a result of the proposed Merger with GEO, we terminated the 10b5-1 Plan and we do not intend to repurchase further shares of our common stock pending the Merger. At June 30, 2010, we believe we have sufficient liquidity necessary to complete those projects (including the facility maintenance improvements to be performed in association with the contract transition preparation at D. Ray James Prison) for which we have outstanding commitments (as contained in Item 2. “Management’s Discussion and Analysis of Financial Conditions and Results of Operations-Contractual Obligations and Commercial Commitments”).

Our internally generated cash flow is directly related to our business. Should the private corrections and juvenile businesses deteriorate, or should we experience poor results in our operations, cash flow from operations may be reduced. We have, however, continued to generate positive cash flow from operating activities over recent years and expect that cash flow will continue to be positive over the next year. Our access to debt and equity markets may be reduced or closed to us due to a variety of events, including, among others, industry conditions, general economic conditions, market conditions, credit rating agency downgrades of our debt and/or market perceptions of us and our industry. The volatility seen in the financial markets which began in the third quarter of 2008 and has continued into 2010 (to varying degrees) is expected to be present (at some level) for the near term. Such volatility could result in decreased availability of capital at economical terms (or at various times) and could also put additional financial and budgetary pressure on our customers. Such conditions could potentially result in our inability to pursue additional future growth opportunities (such as facility expansions or new facility construction) and, if coupled with unexpected client, operational or other issues affecting our cash flow, in a need to seek additional financing at terms we would otherwise not accept.

In addition, our accounts receivable are with federal, state, county and local government agencies, which we believe generally reduces our credit risk. However, it is possible that situations such as continuing budget resolutions, delayed passage of budgets or budget pressures may increase the length of repayment of certain of these receivables. For example, during 2009 the State of California notified vendors providing services to the state that it will temporarily issue IOU’s. We received IOU’s from the State of California which were subsequently paid in full during the third quarter of 2009. We do not currently hold any IOU’s from the State of California. In addition, delays in the passage of budgets (such as experienced in the State of Pennsylvania in 2009) may lead to temporary delays in the repayment of our receivables from operations in such states. This would lead to a temporary increase in our receivables, as evidenced by the increase in our accounts receivable — trade in the third quarter of 2009. As the State of Pennsylvania did not pass a fiscal 2010 budget until mid-October 2009, the majority of the cities and counties in Pennsylvania chose to defer their payments (during the state budget impasse present through the third quarter of 2009) until the state budget had been adopted. Subsequent to the passage of the state’s fiscal 2010 budget, our various Pennsylvania customers returned to their historic payment patterns. Budgetary pressures, such as those being experienced in states including Illinois, may also lead to a temporary increase in our accounts receivable, due to a lengthening of the payment of outstanding billings. While we will closely monitor such situations, we do not currently expect this to have a significant negative impact on the repayment of our receivables related to our facilities in such locations.

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Results of Operations

The following table sets forth for the periods indicated the percentages of revenue represented by certain items in our historical consolidated statements of operations.

	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2010		2009		2010		2009

Revenues	100.0	%	100.0	%	100.0	%	100.0	%
Operating expenses, excluding depreciation and amortization	72.0		70.9		74.3		72.0
Depreciation and amortization	4.4		4.5		4.5		4.7
General and administrative expenses	7.7		6.0		6.8		6.1
Income from operations	15.9		18.6		14.4		17.2
Interest expense, net	5.9		6.2		6.1		6.1
Income from operations before provision for income taxes	10.0		12.4		8.3		11.1
Provision for income taxes	4.5		5.1		3.6		4.6
Net income	5.5		7.3		4.7		6.5
Non-controlling interest	0.6		0.4		0.6		0.4
Income available to Cornell Companies, Inc.	4.9	%	6.9	%	4.1	%	6.1	%

Three Months Ended June 30, 2010 Compared to Three Months Ended June 30, 2009

Revenues. Revenues decreased approximately $1.4 million, or 1.3%, to $103.9 million for the three months ended June 30, 2010 from $105.3 million for the three months ended June 30, 2009.

Adult Secure Services. Adult Secure Services revenues increased approximately $1.9 million, or 3.2%, to $61.2 million for the three months ended June 30, 2010 from $59.3 million for the three months ended June 30, 2009 due primarily to (1) revenues of $4.8 million at the Hudson Correctional Facility which began operations in November 2009 and (2) an increase in revenues of $3.7 million at the Regional Correctional Center (“RCC”) due primarily to a $2.7 million contract-based revenue adjustment for the contract years March 26, 2007 through March 25, 2008 and March 26, 2008 through March 25, 2009. The increase in revenues due to the above, was offset by (1) a decrease in revenues of $3.5 million at the D. Ray James Prison due to reduced occupancy as we ramp down the population to transition the facility to the Federal Bureau of Prisons (“BOP”) from the Georgia Department of Corrections (“ GADOC”) and (2) a decrease in revenues of $0.9 million and $1.4 million, respectively, due to the termination of our contracts for the Baker Community Correctional Facility (“Baker”) and the Mesa Verde Community Correctional Facility (“Mesa Verde”) in December 2009. The remaining net change in revenues of approximately $0.8 million was due to various fluctuations in revenues at our other Adult Secure Facilities.

At June 30, 2010, we operated eight Adult Secure Services facilities with an aggregate service capacity of 13,897. Additionally, we had three vacant facilities with a combined service capacity of 894 beds at June 30, 2010. Average contract occupancy was 80.4% for the three months ended June 30, 2010 compared to 87.3% for the three months ended June 30, 2009. The decrease in the average contract occupancy is primarily due to the under-utilization at our two facilities in California as a result of the termination of our contracts for these facilities in December 2009, and as well as reduced occupancy at the D. Ray James Prison due to its ongoing transition from GADOC to the BOP. The average per diem rate for our Adult Secure Services facilities was approximately $56.61 and $55.28 for the three months ended June 30, 2010 and 2009, respectively. The average per diem rate for the three months ended June 30, 2010 excludes the contract-based revenue adjustment noted above pertaining to the RCC.

Abraxas Youth and Family Services. Abraxas Youth and Family Services revenues decreased approximately $3.0 million, or 10.8%, to $24.7 million for the three months ended June 30, 2010 from $27.7 million for the three months ended June 30, 2009 due primarily to (1) a net decrease in revenues of $0.5 million due to the consolidation of the Texas Adolescent Treatment Center (“TATC”) operations with our Hector Garza Residential Treatment Center (“Hector Garza”) in late November 2009, (2) a decrease in revenues of $0.6 million at the Cornell Abraxas Center for Adolescent Females (“ACAF”) due to a reduction in occupancy, (3) a decrease in revenues of $0.5 million at the Cornell Abraxas of Ohio facility due to reduced occupancy and (4) a decrease in revenues of $0.5 million due to the termination of our management contracts for the Lebanon Alternative Education Program in August 2009 and the State Reintegration Program as of June 2009. The remaining net decrease in revenues of $0.9 million was due to various fluctuations in revenues at our other Abraxas Youth and Family Services facilities and programs.

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At June 30, 2010, we operated 15 residential Abraxas Youth and Family Services facilities and nine non-residential community-based programs with an aggregate service capacity of 2,804. Additionally, we had three vacant facilities with a combined service capacity of 239 beds. Average contract occupancy for the three months ended June 30, 2010 was 92.8% compared to 89.4% for the three months ended June 30, 2009. The increase in occupancy for the three months ended June 30, 2010 also reflects the decreased service capacity at June 30, 2010 of 3,043 as compared to 3,391 at June 30, 2009.

The average per diem rate for our residential Abraxas Youth and Family Services facilities was approximately $194.97 for the three months ended June 30, 2010 compared to $194.53 for the three months ended June 30, 2009. Our average fee-for-service rate for our non-residential Abraxas Youth and Family Services community-based facilities and programs was approximately $46.15 for the three months ended June 30, 2010 compared to $45.17 for the three months ended June 30, 2009. Our average fee-for-service rate can fluctuate from period-to-period depending on the mix of services provided at our various Abraxas Youth and Family Services facilities and programs.

Adult Community-Based Services. Adult Community-Based Services revenues decreased approximately $0.4 million, or 2.2%, to $18.0 million for the three months ended June 30, 2010 from $18.4 million for the three months ended June 30, 2009 due primarily to the termination of our management contract for the Dallas County Judicial Treatment Center (“Dallas”) in late November 2009 which decreased revenues by $1.1 million. The remaining net increase in revenues of approximately $0.7 million was due to various fluctuations in revenues at our other Adult Community-Based Services facilities and programs.

At June 30, 2010, we operated 27 residential Adult Community-Based Services facilities and three non-residential Adult Community-Based Services programs with an aggregate service capacity of 3,558. Average contract occupancy was 115.5% for the three months ended June 30, 2010 compared to 111.3% for the three months ended June 30, 2009. The average per diem rate for our residential Adult Community-Based Services facilities was approximately $71.35 for the three months ended June 30, 2010 compared to $66.85 for the three months ended June 30, 2009. The average fee-for-service rate for our non-residential Adult Community-Based Services programs was approximately $10.05 for the three months ended June 30, 2010 compared to $10.35 for the three months ended June 30, 2009. Our average fee-for-service rates fluctuate as a result of changes in the mix of services provided by our various Adult Community-Based Services programs and facilities.

Operating Expenses. Operating expenses increased approximately $0.1 million, or 0.1%, to $74.8 million for the three months ended June 30, 2010 from $74.7 million for the three months ended June 30, 2009.

Adult Secure Services. Adult Secure Services operating expenses increased approximately $1.6 million, or 4.1%, to $40.5 million for the three months ended June 30, 2010 from $38.9 million for the three months ended June 30, 2009 due primarily to operating expenses of $5.9 million at the Hudson Correctional Facility which began operations in November 2009. This increase in operating expenses was offset, in part, by (1) a combined decrease in operating expenses of $1.6 million due to the termination of our management contracts for Baker and Mesa Verde in December 2009 and (2) a decrease in operating expenses of $1.2 million at the D. Ray James Prison due to the reduced population in conjunction with the facility transition in process from GADOC to the BOP. The remaining net decrease in operating expenses of $1.5 million was due to various fluctuations in operating expense at our other Adult Secure Services facilities.

As a percentage of segment revenues, Adult Secure Services operating expenses were 66.2% for the three months ended June 30, 2010 compared to 65.6% for the three months ended June 30, 2009. The decrease in our operating margin for the three months ended June 30, 2010 was primarily to (1) the activation of our Hudson Correctional Facility in November 2009 (which is currently operating with available capacity), (2) those expenses related to our closed Baker and Mesa Verde facilities and (3) the customer transition in process at our D. Ray James Prison.

Abraxas Youth and Family Services. Abraxas Youth and Family Services division operating expenses decreased approximately $1.0 million, or 4.2%, to $22.9 million for the three months ended June 30, 2010 from $23.9 million for the three months ended June 30, 2009 due primarily to the consolidation of TATC operations with our Hector Garza facility in late November 2009 which decreased operating expenses by approximately $0.7 million. The remaining net decrease in operating expenses of $0.3 million was due to various fluctuations in operating expenses at our other Abraxas Youth and Family Services facilities and programs.

As a percentage of segment revenues, Abraxas Youth and Family Services operating expenses were 92.6% for the three months ended June 30, 2010 compared to 85.8% for the three months ended June 30, 2009. The decrease in our operating margin in the three months ended June 30, 2010 was due primarily to the decrease in revenues as noted above (reflective of occupancy and customer mix at certain facilities).

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Adult Community-Based Services. Adult Community-Based Services operating expenses decreased approximately $0.6 million, or 5.0% to $11.5 million for the three months ended June 30, 2010 from $12.1 million for the three months ended June 30, 2009 due primarily to the termination of our management contract for Dallas in late November 2009 which decreased operating expenses by approximately $0.9 million. The remaining net increase in operating expenses of approximately $0.3 million was due to various fluctuations in operating expenses at our other Adult Community-Based facilities and programs.

As a percentage of segment revenues, Adult Community-Based Services operating expenses were 63.6% for the three months ended June 30, 2010 compared to 65.7% for the three months ended June 30, 2009.

Depreciation and Amortization. Depreciation and amortization expense was approximately $4.5 million and $4.7 million for the three months ended June 30, 2010 and 2009, respectively. Amortization of intangibles was approximately $0.1 million and $0.5 million for the three months ended June 30, 2010 and 2009, respectively. The decrease in amortization expense in the three months ended June 30, 2010 was due to the full amortization of our non-compete agreements as of December 2009.

General and Administrative Expenses. General and administrative expenses increased approximately $1.7 million, or 26.9%, to $8.0 million for the three months ended June 30, 2009 compared to $6.3 million for the three months ended June 30, 2009 due primarily to legal and other professional advisory expenses incurred related to the Merger Agreement in the three months ended June 30, 2010 of approximately $2.3 million.

Interest. Interest expense, net of interest income, decreased to approximately $6.2 million for the three months ended June 30, 2010 from $6.6 million for the three months ended June 30, 2009. The decrease was primarily due to both lower average borrowings outstanding as well as lower average interest rates during the 2010 period.

Income Taxes. For the three months ended June 30, 2010, we recognized a provision for income taxes at an estimated effective rate of 44.8%. For the three months ended June 30, 2009, we recognized a provision for income taxes at an estimated effective rate of 41.4%. The change in our estimated effective tax rate in 2010 was related to a decrease in operating income across certain of our business segments and the increased impact of certain non-deductible expenses (including those attributable to certain stock-based awards).

Six Months Ended June 30, 2010 Compared to Six Months Ended June 30, 2009

Revenues. Revenues decreased approximately $1.1 million, or 0.5%, to $203.9 million for the six months ended June 30, 2010 from $205.0 million for the six months ended June 30, 2009.

Adult Secure Services. Adult Secure Services revenues increased approximately $3.9 million, or 3.4%, to $120.0 million for the six months ended June 30, 2010 from $116.1 million for the six months ended June 30, 2009 due primarily to (1) revenues of $9.4 million at the Hudson Correctional Facility which began operations in November 2009 and (2) an increase in revenues of $4.3 million at RCC due primarily to a contract-based revenue adjustment of $2.7 million related to the contract years March 26, 2007 through March 25, 2008 and March 26, 2008 through March 25, 2009. This increase in revenues was offset by (1) a decrease in revenues of $2.1 million and $2.9 million, respectively, due to the termination of our contracts at Baker and Mesa Verde in December 2009 and (2) a decrease in revenues of $4.3 million due to the reduced population at the D. Ray James Prison due reduced occupancy as we transition the facility over to the BOP from the GADOC. The remaining net decrease in revenues of $0.5 million was due to increases in our other Adult Secure Facilities, primarily the Big Spring Correctional Center.

Average contract occupancy for the six months ended June 30, 2010 was 81.9% compared to 89.6% for the six months ended June 30, 2009. The decrease in the average contract occupancy is primarily due to the under-utilization at our two facilities in California as a result of the termination of our contracts for these facilities in December 2009 as well as reduced occupancy at the D. Ray James Prison in conjunction with its transition from GADOC to the BOP. The average per diem rate for our Adult Secure Services facilities was approximately $56.12 and $54.52 for the six months ended June 30, 2010 and 2009, respectively. The average per diem rate for the six months ended June 30, 2010 excludes the contract-based revenue adjustment noted above pertaining to the RCC.

Abraxas Youth and Family Services. Abraxas Youth and Family Services revenues decreased approximately $5.2 million, or 9.7%, to $48.2 million for the six months ended June 30, 2010 from $53.4 million for the six months ended June 30, 2009 due to (1) a decrease in revenues of $0.8 million due to the consolidation of TATC operations with our Hector Garza facility in late November 2009, (2) a decrease in revenues of $1.0 million at the Cornell Abraxas Academy due to reduced occupancy, (3) a decrease in

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revenues of $0.9 million at ACAF due to reduced occupancy, (4) a decrease in revenues of $0.7 million due to the termination of management contract for the Lebanon Alternative Education Program in August 2009 and (5) a decrease in revenues of $0.6 million due to the termination of our management contract for the State Reintegration Program as of June 30, 2009. The remaining net decrease in revenues of $1.2 million was due to various fluctuations in revenues at our other Abraxas Youth and Family Services facilities and programs.

Average contract occupancy was 89.9% and 86.8% for the six months ended June 30, 2010 and 2009, respectively. The increase in occupancy for the six months ended June 30, 2010 is also reflective of the decreased service capacity at June 30, 2010 of 3,043 as compared to 3,391 at June 30, 2009. The average per diem rate for our residential Abraxas Youth and Family Services facilities was approximately $194.82 and $195.96 for the six months ended June 30, 2010 and 2009, respectively. The average fee-for-service rate for our non-residential Abraxas Youth and Family Services community-based facilities and programs was approximately $47.28 and $45.12 for the six months ended June 30, 2010 and 2009, respectively.

Adult Community-Based Services. Adult Community-Based Services revenues increased approximately $0.3 million, or 0.8 %, to $35.8 million for the six months ended June 30, 2010 from $35.5 million for the six months ended June 30, 2009. Revenues decreased approximately $2.1 million due to the termination of our management contract for the Dallas County Judicial Treatment Center in late November 2009. This decrease in revenues was offset by various increases in revenues at our other Adult Community-Based Services facilities and programs, including among other facilities, an increase in revenues of $0.7 million at the Reid Community Residential Center and an increase in revenues of $0.4 million at the Grossman Center due to improved occupancy.

Average contract occupancy was 115.4% and 107.4% for the six months ended June 30, 2010 and 2009. The average per diem rate for our residential Adult Community-Based Services facilities was $70.82 and $67.05 for the six months ended J

CORNELL COMPANIES INC 10-Q