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**UNITEDSTATESSECURITIES AND EXCHANGE COMMISSION**

**Washington, DC 20549**

 

**FORM10-Q**

 

**x****          ****QUARTERLY REPORT PURSUANT TO SECTION13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934**

 

**For the Quarterly Period Ended June 30, 2008**

 

**OR**

 

**o****             ****TRANSITION REPORT PURSUANT TO SECTION13 OR 15(d) OF THE SECURITIESEXCHANGE ACT OF 1934**

 

**For the transition period from               to               **

 

**Commission File Number 1-14472**

 

**CORNELLCOMPANIES, INC.**

(Exact Name of Registrant as Specified in ItsCharter)

 

| **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**

 

Indicateby a check mark whether Registrant (1) has filed all reports required to befiled by Sections 13 or 15(d) of the Securities Exchange Act of 1934 during thepreceding 12 months (or for such shorter period that the registrant wasrequired to file such reports), and (2) has been subject to such filingrequirements for the past 90 days.

 

Yes  x  No o

 

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

 

| Large  accelerated Filer o Non-accelerated Filer o (Do not check if a smaller reporting  company) |   | Accelerated filer x  Smaller reporting company o |
|---------------------------------------------------------------------------------------------------|--------|--------------------------------------------------|

 

Indicate by check mark whether the registrant is a shell company (asdefined in Rule 12b-2 of the Exchange Act).

 

Yes  o No x

 

At July 31, 2008, the registrant had 14,714,237 shares of common stockoutstanding.

 

 

 

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**Cornell Companies, Inc.**

 

**Table of Contents**

 

**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 |       | 30         |
| Item 3.     | Quantitative and Qualitative Disclosures  About Market Risk                                 |       | 46         |
| Item 4.     | Controls and Procedures                                                                     |       | 46         |
|        |                                                                                        |       |       |
| **Part II** | ** **                                                                                  | ** ** | ** ** |
| Item 1.     | Legal Proceedings                                                                           |       | 48         |
| Item 1A.    | Risk Factors                                                                                |       | 48         |
| Item 2.     | Unregistered Sales of Equity Securities and  Use of Proceeds                                |       | 48         |
| Item 3.     | Defaults Upon Senior Securities                                                             |       | 48         |
| Item 4.     | Submission of Matters to a Vote of Security  Holders                                        |       | 48         |
| Item 5.     | Other Information                                                                           |       | 48         |
| Item 6.     | Exhibits                                                                                    |       | 48         |

 

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**Forward-LookingInformation**

 

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

 

·                  revenues,

·                  revenue mix,

·                  expenses,including personnel and medical costs

·                  results ofoperations,

·                  operatingmargins

·                  supply anddemand,

·                  market outlookin our various markets

·                  our otherexpectations with regard to market outlook,

·                  utilization,

·                  parolee,detainee, inmate and youth offender trends

·                  pricing and perdiem rates,

·                  contractcommencements,

·                  new contractopportunities,

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

·                  the timing, costof completion and other aspects of planned expansions, including withoutlimitation the D. Ray James Prison, Great Plains Correctional Facility andWalnut Grove Youth Correctional Facility expansions, and client contracts forsuch facilities,

·                  the constructionand lease of the new facility in Hudson, Colorado and our contracts with theColorado Department of Corrections,

·                  adequacy ofinsurance,

·                  insuranceproceeds,

·                  debt levels,

·                  debt reduction,

·                  the effect ofFIN No. 48,

·                  our effectivetax rate,

·                  tax assessments,

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

·                  liquidity,

·                  cash flow fromoperations,

·                  adequacy of cashflow for our obligations,

·                  capitalrequirements

·                  capitalexpenditures,

·                  effects ofaccounting changes and adoption of accounting policies,

·                  changes in lawsand regulations,

·                  adoption ofaccounting policies,

·                  benefitpayments, and

·                  changes in lawsand regulations,

 

Forward-lookingstatements in this quarterly report are identifiable by use of the followingwords and other similar expressions among others:

 

·                  “anticipates”

·                  “believes”

·                  “budgets”

·                  “could”

·                  “estimates”

·                  “expects”

·                  “forecasts”

·                  “intends”

·                  “may”

 

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·                  “might”

·                  “plans”

·                  “predicts”

·                  “projects”

·                  “scheduled”

·                  “should”

 

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

 

·                  those describedin the Company’s 2007 Annual Report on Form 10-K under “Item 1A. Risk Factors”as filed with the SEC,

·                  the adequacy ofsources of liquidity,

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

·                  other factorsdiscussed in this annual report and in the Company’s other filings with theSEC, which are available free of charge on the SEC’s website at *www.sec.gov*.

 

Shouldone or more of these risks or uncertainties materialize, or should underlyingassumptions prove incorrect, actual results may vary materially from thoseindicated.

 

Allsubsequent written and oral forward-looking statements attributable to theCompany or to persons acting on our behalf are expressly qualified in theirentirety by reference to these risks and uncertainties. You should not placeundue reliance on forward-looking statements. Each forward-looking statementspeaks only as of the date of the particular statement, and we undertake noobligation 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,  2008** | ** ** | **December 31,  2007** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
| **ASSETS**                                                                                                                                                            | ** ** | ** **              | ** ** | ** **                  | ** ** |
| **CURRENT ASSETS:**                                                                                                                                                   | ** ** | ** **              | ** ** | ** **                  | ** ** |
| Cash and cash equivalents                                                                                                                                             |       | $                       | 1,021      |                        | $          | 3,028 |   |
| Investment securities available for sale                                                                                                                              |       | —                  |       | 250                         |       |
| Accounts receivable – trade (net of  allowance for doubtful accounts of $3,527 and $4,372, respectively)                                                         |       | 60,901                  |       | 69,787                      |       |
| Other receivables (net of allowance for  doubtful accounts of $5,126)                                                                                                 |       | 3,469                   |       | 3,201                       |       |
| Debt service fund and other restricted  assets                                                                                                                        |       | 35,363                  |       | 27,523                      |       |
| Deferred tax assets                                                                                                                                                   |       | 6,802                   |       | 6,750                       |       |
| Prepaid expenses and other                                                                                                                                            |       | 6,636                   |       | 6,131                       |       |
| **Total current assets**                                                                                                                                              |       | 114,192                 |       | 116,670                     |       |
| **PROPERTY AND EQUIPMENT, net**                                                                                                                                       |       | 424,637                 |       | 383,952                     |       |
| **OTHER ASSETS:**                                                                                                                                                     |       |                    |       |                        |       |
| Debt service reserve fund                                                                                                                                             |       | 23,585                  |       | 23,638                      |       |
| Goodwill                                                                                                                                                              |       | 13,308                  |       | 13,355                      |       |
| Intangible assets, net                                                                                                                                                |       | 3,547                   |       | 4,520                       |       |
| Deferred costs and other                                                                                                                                              |       | 23,518                  |       | 20,152                      |       |
| **Total assets**                                                                                                                                                      |       | $                       | 602,787    |                        | $          | 562,287 |   |
|                                                                                                                                                                  |       |                    |       |                        |       |
| **LIABILITIES  AND STOCKHOLDERS’ EQUITY**                                                                                                                        | ** ** | ** **              | ** ** | ** **                  | ** ** |
|                                                                                                                                                                  |       |                    |       |                        |       |
| **CURRENT LIABILITIES:**                                                                                                                                              | ** ** | ** **              | ** ** | ** **                  | ** ** |
| Accounts payable and accrued liabilities                                                                                                                              |       | $                       | 67,336     |                        | $          | 57,502 |   |
| Current portion of long-term debt                                                                                                                                     |       | 11,412                  |       | 11,411                      |       |
| **Total current liabilities**                                                                                                                                         |       | 78,748                  |       | 68,913                      |       |
| **LONG-TERM DEBT, net of current portion**                                                                                                                            |       | 292,884                 |       | 275,298                     |       |
| **DEFERRED TAX LIABILITIES**                                                                                                                                          |       | 14,051                  |       | 13,226                      |       |
| **OTHER LONG-TERM LIABILITIES**                                                                                                                                       |       | 4,393                   |       | 4,401                       |       |
| **Total liabilities**                                                                                                                                                 |       | 390,076                 |       | 361,838                     |       |
|                                                                                                                                                                  |       |                    |       |                        |       |
| **COMMITMENTS AND CONTINGENCIES**                                                                                                                                     | ** ** | ** **              | ** ** | ** **                  | ** ** |
|                                                                                                                                                                  |       |                    |       |                        |       |
| **STOCKHOLDERS’ EQUITY:**                                                                                                                                        | ** ** | ** **              | ** ** | ** **                  | ** ** |
| Preferred stock, $.001 par value,  10,000,000 shares authorized, none issued                                                                                          |       | —                  |       | —                      |       |
| Common stock, $.001 par value, 30,000,000  shares authorized, 16,218,234 and 16,068,677 shares issued and 14,712,071 and  14,553,631 shares outstanding, respectively |       | 16                      |       | 16                          |       |
| Additional paid-in capital                                                                                                                                            |       | 162,414                 |       | 160,319                     |       |
| Retained earnings                                                                                                                                                     |       | 61,106                  |       | 51,127                      |       |
| Treasury stock (1,506,163 and 1,515,046  shares of common stock, at cost, respectively)                                                                               |       | (12,034                 | )          | (12,105                     | )          |
| Accumulated other comprehensive income                                                                                                                                |       | 1,209                   |       | 1,092                       |       |
| **Total stockholders’ equity**                                                                                                                                   |       | 212,711                 |       | 200,449                     |       |
| **Total liabilities and stockholders’ equity**                                                                                                                   |       | $                       | 602,787    |                        | $          | 562,287 |   |

 

The accompanying notes are an integral part of these consolidatedfinancial statements.

 

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**CORNELL COMPANIES, INC.**

**CONSOLIDATED STATEMENTSOF OPERATIONS AND COMPREHENSIVE INCOME**

**(Unaudited)**

**(in thousands, exceptper share data)**

 
| ** **                                                                                                                                 | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------------------------------------------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                                                                                                 | ** ** | **June 30,**                | ** ** | **June 30,**              | ** ** |
| ** **                                                                                                                                 | ** ** | **2008**                         | ** ** | **2007**                       | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                                                                                                                       |       |                             |       |                           |       |   |   |   |   |
| REVENUES                                                                                                                                   |       | $                                | 94,646     |                           | $          | 91,494 |   | $ | 190,038 |   | $ | 181,138 |   |
| OPERATING EXPENSES                                                                                                                         |       | 68,280                           |       | 68,360                         |       | 138,491 |   | 137,973 |   |
| DEPRECIATION AND  AMORTIZATION                                                                                                             |       | 4,220                            |       | 3,912                          |       | 8,377 |   | 7,753 |   |
| GENERAL AND  ADMINISTRATIVE EXPENSES                                                                                                       |       | 7,232                            |       | 7,175                          |       | 13,766 |   | 15,532 |   |
|                                                                                                                                       |       |                             |       |                           |       |   |   |   |   |
| INCOME FROM OPERATIONS                                                                                                                     |       | 14,914                           |       | 12,047                         |       | 29,404 |   | 19,880 |   |
|                                                                                                                                       |       |                             |       |                           |       |   |   |   |   |
| INTEREST EXPENSE                                                                                                                           |       | 6,307                            |       | 6,687                          |       | 12,912 |   | 13,467 |   |
| INTEREST INCOME                                                                                                                            |       | (740                             | )          | (769                           | )          | (1,050 | ) | (915 | ) |
|                                                                                                                                       |       |                             |       |                           |       |   |   |   |   |
| INCOME FROM OPERATIONS BEFORE  PROVISION FOR INCOME TAXES                                                                                  |       | 9,347                            |       | 6,129                          |       | 17,542 |   | 7,328 |   |
|                                                                                                                                       |       |                             |       |                           |       |   |   |   |   |
| PROVISION FOR INCOME  TAXES                                                                                                                |       | 4,002                            |       | 2,683                          |       | 7,563 |   | 3,219 |   |
|                                                                                                                                       |       |                             |       |                           |       |   |   |   |   |
| NET INCOME                                                                                                                                 |       | $                                | 5,345      |                           | $          | 3,446 |   | $ | 9,979 |   | $ | 4,109 |   |
|                                                                                                                                       |       |                             |       |                           |       |   |   |   |   |
| EARNINGS PER SHARE:                                                                                                                        |       |                             |       |                           |       |   |   |   |   |
| BASIC                                                                                                                                      |       | $                                | .37        |                           | $          | .24 |   | $ | .70 |   | $ | .29 |   |
| DILUTED                                                                                                                                    |       | $                                | .36        |                           | $          | .24 |   | $ | .68 |   | $ | .29 |   |
|                                                                                                                                       |       |                             |       |                           |       |   |   |   |   |
| NUMBER OF SHARES USED  IN PER SHARE COMPUTATION:                                                                                           |       |                             |       |                           |       |   |   |   |   |
| BASIC                                                                                                                                      |       | 14,278                           |       | 14,124                         |       | 14,285 |   | 14,067 |   |
| DILUTED                                                                                                                                    |       | 14,655                           |       | 14,465                         |       | 14,711 |   | 14,382 |   |
|                                                                                                                                       |       |                             |       |                           |       |   |   |   |   |
| COMPREHENSIVE INCOME:                                                                                                                      |       |                             |       |                           |       |   |   |   |   |
| Net income                                                                                                                                 |       | $                                | 5,345      |                           | $          | 3,446 |   | $ | 9,979 |   | $ | 4,109 |   |
| Unrealized gain (loss)  on derivative instruments, net of tax (benefit) provision of ($429) and $83  in 2008 and ($433) and ($376) in 2007 |       | (618                             | )          | (623                           | )          | 117 |   | (541 | ) |
| Comprehensive income                                                                                                                       |       | $                                | 4,727      |                           | $          | 2,823 |   | $ | 10,096 |   | $ | 3,568 |   |

 

The accompanying notes are an integralpart of these consolidated financial statements.

 

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**CORNELL COMPANIES, INC.**

# **CONSOLIDATEDSTATEMENTS OF CASH FLOWS**

**(Unaudited)**

**(in thousands)**

 
| ** **                                                                                               | ** ** | **Six Months Ended** | ** ** |
|----------------------------------------------------------------------------------------------------------|------------|--------------------------------|------------|
| ** **                                                                                               | ** ** | **June 30,**              | ** ** |
| ** **                                                                                               | ** ** | **2008**                       | ** ** | **2007** | ** ** |
| CASH FLOWS FROM  OPERATING ACTIVITIES:                                                                   |       |                           |       |   |   |
| Net income                                                                                               |       | $                              | 9,979      |   | $ | 4,109 |   |
| Adjustments to  reconcile net to net cash provided by operating activities -                             |       |                           |       |   |   |
| Depreciation                                                                                             |       | 7,404                          |       | 6,631 |   |
| Amortization of  intangibles and other assets                                                            |       | 973                            |       | 1,208 |   |
| Impairment of  long-lived assets                                                                         |       | 250                            |       | — |   |
| Amortization of  deferred financing costs                                                                |       | 725                            |       | 701 |   |
| Amortization of Senior  Notes discount                                                                   |       | 92                             |       | 92 |   |
| Stock-based  compensation                                                                                |       | 1,888                          |       | 1,270 |   |
| Provision for bad debts                                                                                  |       | 1,651                          |       | 1,030 |   |
| (Gain)/loss on sale of  property and equipment                                                           |       | 33                             |       | (282 | ) |
| Deferred income taxes                                                                                    |       | 692                            |       | 711 |   |
| Change in assets and  liabilities, net of effects of acquisitions:                                       |       |                           |       |   |   |
| Accounts receivable                                                                                      |       | 2,176                          |       | 4,765 |   |
| Other restricted assets                                                                                  |       | (362                           | )          | (985 | ) |
| Other assets                                                                                             |       | (476                           | )          | 502 |   |
| Accounts payable and  accrued liabilities                                                                |       | 1,450                          |       | (1,825 | ) |
| Other long-term  liabilities                                                                             |       | (8                             | )          | (115 | ) |
| Net cash provided by  operating activities                                                               |       | 26,467                         |       | 17,812 |   |
|                                                                                                     |       |                           |       |   |   |
| CASH FLOWS FROM INVESTING  ACTIVITIES:                                                                   |       |                           |       |   |   |
| Capital expenditures                                                                                     |       | (38,996                        | )          | (15,003 | ) |
| Purchases of investment  securities                                                                      |       | —                         |       | (241,425 | ) |
| Sales of investment  securities                                                                          |       | 250                            |       | 244,900 |   |
| Proceeds from the sale  of fixed assets                                                                  |       | 17                             |       | — |   |
| Acquisition of a  facility                                                                               |       | —                         |       | (8,948 | ) |
| Payments to restricted  debt payment account, net                                                        |       | (7,425                         | )          | (5,483 | ) |
| Net cash used in  investing activities                                                                   |       | (46,154                        | )          | (25,959 | ) |
|                                                                                                     |       |                           |       |   |   |
| CASH FLOWS FROM  FINANCING ACTIVITIES:                                                                   |       |                           |       |   |   |
| Borrowings on line of  credit                                                                            |       | 17,500                         |       | — |   |
| Tax benefit of stock  option exercises                                                                   |       | 3                              |       | 455 |   |
| Payments of capital  lease obligations                                                                   |       | (5                             | )          | (5 | ) |
| Proceeds from exercise  of stock options                                                                 |       | 182                            |       | 2,016 |   |
| Net cash provided by  financing activities                                                               |       | 17,680                         |       | 2,466 |   |
|                                                                                                     |       |                           |       |   |   |
| NET DECREASE IN CASH  AND CASH EQUIVALENTS                                                               |       | (2,007                         | )          | (5,681 | ) |
| CASH AND CASH  EQUIVALENTS AT BEGINNING OF PERIOD                                                        |       | 3,028                          |       | 18,529 |   |
| CASH AND CASH  EQUIVALENTS AT END OF PERIOD                                                              |       | $                              | 1,021      |   | $ | 12,848 |   |
|                                                                                                     |       |                           |       |   |   |
| OTHER NON-CASH  INVESTING AND FINANCING ACTIVITIES:                                                      |       |                           |       |   |   |
| Decrease in fair value  of interest rate swap                                                            |       | $                              | —     |   | $ | 1,095 |   |
| Other comprehensive  income (loss), net of tax                                                           |       | 117                            |       | (541 | ) |
| Common stock issued for  board of directors fees                                                         |       | 268                            |       | — |   |
| Purchases and additions  to property and equipment included in accounts payable and accrued  liabilities |       | 9,392                          |       | 4,113 |   |

 

The accompanying notes are an integralpart of these consolidated financial statements.

 

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**CORNELLCOMPANIES, INC.****NOTES TO CONSOLIDATEDFINANCIAL STATEMENTS**

 

**1.****             ****Basis of Presentation**

 

The accompanying unaudited consolidatedfinancial 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 ExchangeCommission.  Certain information andfootnote disclosures normally included in financial statements prepared inaccordance with generally accepted accounting principles in the United States (“GAAP”)have been condensed or omitted pursuant to such rules andregulations.  The year-end consolidatedbalance sheet was derived from audited financial statements but does notinclude all disclosures required by GAAP. In the opinion of management,adjustments and disclosures necessary for a fair presentation of thesefinancial statements have been included. Estimates were used in the preparation of these financialstatements.  Actual results could differfrom those estimates.  These financialstatements should be read in conjunction with the financial statements andnotes thereto included in the Company’s 2007 Annual Report on Form 10-K asfiled with the Securities and Exchange Commission.

 

**2.****             ****Accounting Policies**

 

See a description of our accounting policiesin our 2007 Annual Report on Form 10-K.

 

**3.****              Stock-BasedCompensation**

 

Wehave an employee stock purchase plan (“ESPP”) under which employees can make contributions to purchaseour common stock. Participation in the plan is elected annually by employees.The plan year begins on January 1st (the “Beginning Date”) and ends on December 31st(the “Ending Date”). For 2007, however, the plan year began April 1, 2007.Purchases of common stock are made at the end of the year using the lower ofthe fair market value on either the Beginning Date or Ending Date, less a 15%discount. Under SFAS No. 123Rour employee-stock purchase plan is considered to be a compensatory ESPP, andtherefore, we recognize compensation expense over the requisite service periodfor grants made under the ESPP.

 

Our stock incentive plans provide for thegranting of stock options (both incentive stock options and nonqualified stockoptions), stock appreciation rights, restricted stock shares and otherstock-based awards to officers, directors and employees of the Company. Grantsof stock options made to date under these plans vest over periods up to sevenyears after the date of grant and expire no more than 10 years after grant.

 

At June 30, 2007, 137,500 shares ofrestricted stock were outstanding subject to performance-based vesting criteria(45,000 of these restricted shares were considered market-based restrictedstock under SFAS No. 123R). There were also 100,100 stock optionsoutstanding subject to performance-based vesting criteria. We recognized $0.13million and $0.26 million of expense associated with these shares of restrictedstock and stock options during the three and six months ended June 30,2007, respectively.

 

At June 30, 2008, 200,000 shares ofrestricted stock were outstanding subject to performance-based vesting criteria(32,500 of these restricted shares were considered market-based restrictedstock under SFAS No. 123R). There were also 52,700 stock optionsoutstanding subject to performance-based vesting criteria. We recognized $0.14million and $0.6 million of expense associated with these shares of restrictedstock and stock options during the three and six months ended June 30,2008, respectively.

 

Theamounts above relate to the impact of recognizing compensation expense relatedto stock options and restricted stock. Compensation expense related to stockoptions (52,700 shares) and restricted stock (167,500 shares) that vest basedupon performance conditions is not recorded for such performance-based awardsuntil it has been deemed probable that the related performance targets allowingthe vesting of these options and restricted stock will be met. We are requiredto periodically re-assess the probability that these performance-based awardswill vest and record expense at that point in time. During the six months endedJune 30, 2008 it was deemed probable that certain performance targetspertaining to certain restricted stock and stock options would be achieved bytheir vesting date. Accordingly, compensation expense of approximately $0.1million and $0.5 million was recognized in the three and six months ended June 30,2008 related to these stock-based awards.

 

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Werecognize expense for our stock-based compensation over the vesting period,which represents the period in which an employee is required to provide servicein exchange for the award. We recognize compensation expense for stock-basedawards immediately if the award has immediate vesting.

 

***Assumptions***

 

The fair values for thesignificant stock-based awards granted during the six months ended June 30,2008 and 2007 were estimated at the date of grant using a Black-Scholes optionpricing model with the following weighted-average assumptions:

 
| ** **                        | ** ** | **Six Months Ended  June 30,** | ** ** |
|-----------------------------------|------------|-----------------------------------------------|------------|
| ** **                        | ** ** | **2008**                                      | ** ** | **2007** | ** ** |
|                              |       |                                          |       |   |   |
| Risk-free  rate of return         |       | 3.35                                          | %          | 4.55 | % |
| Expected  life of award           |       | 5.67 years                                    |       | 5.55 years |   |
| Expected  dividend yield of stock |       | 0                                             | %          | 0 | % |
| Expected  volatility of stock     |       | 38.74                                         | %          | 41.95 | % |
| Weighted-average  fair value      |       | $                                             | 9.46       |   | $ | 9.74 |   |
|                                   |            |                                               |            |  |  |  |  |

 

The expected volatility ofstock assumption was derived by referring to changes in the Company’shistorical common stock prices over a timeframe similar to that of the expectedlife of the award. We currently have no reason to believe that future stockvolatility will significantly differ from historical stock volatility.Estimated forfeiture rates are derived from historical forfeiture patterns. Webelieve the historical experience method is the best estimate of forfeiturescurrently available.

 

In accordance with SAB 107, wegenerally considered the “simplified” method for “plain vanilla” options toestimate the expected term of options granted during 2008 and 2007 (whereappropriate).  For those grants duringthese periods wherein we had sufficient historical or impartial data to betterestimate the expected term, we have done so.

 

Stock-based award activityduring the six months ended June 30, 2008 was as follows (aggregateintrinsic value in millions):

 
| ** **                                         | ** ** | **Number  of  Shares** | ** ** | **Weighted  Average  Exercise  Price** | ** ** | **Weighted  Average  Remaining  Contractual  Term** | ** ** | **Aggregate  Intrinsic  Value** | ** ** |
|----------------------------------------------------|------------|------------------------|------------|----------------------------------------|------------|-----------------------------------------------------|------------|---------------------------------|------------|
|                                               |       |                   |       |                                   |       |                                                |       |                            |       |
| Outstanding  at December 31, 2007             |       | 490,842                |       | $                                      | 14.19      |                                                | 7.3        |                            | $          | 7.0 |   |
| Granted                                            |       | 45,000                 |       | 22.68                                  |       |                                                |       |                            |       |
| Exercised                                          |       | (2,325                 | )          | 12.47                                  |       |                                                |       |                            |       |
| Canceled                                           |       | —                 |       | —                                 |       |                                                |       |                            |       |
|                                               |       |                   |       |                                   |       |                                                |       |                            |       |
| Outstanding  at June 30, 2008                 |       | 533,517                |       | $                                      | 14.92      |                                                | 7.0        |                            | $          | 8.0 |   |
|                                               |       |                   |       |                                   |       |                                                |       |                            |       |
| Vested and  expected to vest at June 30, 2008 |       | 466,052                |       | $                                      | 14.79      |                                                | 6.9        |                            | $          | 6.9 |   |
|                                               |       |                   |       |                                   |       |                                                |       |                            |       |
| Exercisable  at June 30, 2008                 |       | 382,381                |       | $                                      | 14.18      |                                                | 6.6        |                            | $          | 5.4 |   |

 

The total intrinsic value ofstock options exercised during the six months ended June 30, 2008 and 2007was $0.03 million and $1.3 million, respectively. Net cash proceeds from theexercise of stock options were approximately $0.2 million and $2.0 million forthe six months ended June 30, 2008 and 2007, respectively.

 

As of June 30, 2008,approximately $0.3 million of estimated expense with respect to time-basednonvested stock-based 

 

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awards has yet to be recognized and will beamortized into expense over the employee’s remaining requisite service periodof approximately 10.8 months.

 

The following table summarizesinformation with respect to stock options outstanding and exercisable at June 30,2008.

 
| **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       |       | 25,510                  |       | 3.3                                                 |       | $                                      | 5.75       |                    | 25,510     |                                   | $          | 5.75 |   |
| $10.01  to  $13.50      |       | 174,007                 |       | 6.1                                                 |       | 12.78                                  |       | 153,646                 |       | 12.80                                  |       |
| $13.51  to $14.50            |       | 209,800                 |       | 7.1                                                 |       | 13.96                                  |       | 132,600                 |       | 13.89                                  |       |
| $14.51  to $25.00            |       | 124,200                 |       | 8.9                                                 |       | 21.42                                  |       | 70,625                  |       | 20.78                                  |       |
|                                        |       | 533,517                 |       | 7.0                                                 |       | $                                      | 14.92      |                    | 382,381    |                                   | $          | 14.18 |   |

 

Stock-based award activity fornonvested awards during the six months ended June 30, 2008 is as follows:

 
| ** **                           | ** ** | **Number  of  Shares** | ** ** | **Weighted Average  Grant Date  Fair Value** | ** ** |
|--------------------------------------|------------|------------------------|------------|-------------------------------------------------------------|------------|
| Nonvested at  December 31, 2007 |       | 217,659                |       | $                                                           | 14.99      |   |
| Granted                              |       | 45,000                 |       | 22.68                                                       |       |
| Vested                               |       | (111,523               | )          | 15.67                                                       |       |
| Canceled                             |       | —                 |       | —                                                      |       |
|                                 |       |                   |       |                                                        |       |
| Nonvested at  June 30, 2008     |       | 151,136                |       | $                                                           | 16.78      |   |

 

***Restricted Stock***

 

We have previously issued restricted stockunder certain employment agreements and stock incentive plans which vestseither over a specific period of time, generally three to five years, or whichwill vest subject to certain market or performance conditions.  During the six months ended June 30,2008, we issued restricted stock as part of our normal equity awards under our2006 Equity Incentive Plan.  These sharesof restricted common stock are subject to restrictions on transfer and certainconditions to vesting.

 

Restricted stock activity for the six monthsended June 30, 2008 was as follows:

 
| ** **                           | ** ** | **Number  of  Shares** | ** ** | **Weighted Average  Grant Date  Fair Value** | ** ** |
|--------------------------------------|------------|------------------------|------------|-------------------------------------------------------------|------------|
| Nonvested at  December 31, 2007 |       | 303,000                |       | $                                                           | 21.75      |   |
| Granted                              |       | 153,500                |       | 22.29                                                       |       |
| Vested                               |       | (33,876                | )          | 16.77                                                       |       |
| Canceled                             |       | (1,000                 | )          | 22.27                                                       |       |
|                                 |       |                   |       |                                                        |       |
| Nonvested at  June 30, 2008     |       | 421,624                |       | $                                                           | 22.34      |   |

 

We recognized $0.4 million and $0.7 millionof expense associated with nonvested time-based restricted stock awards duringthe three and six months ended June 30, 2008, respectively.  As of June 30, 2008, approximately $3.8million of estimated expense with respect to nonvested time-based restrictedstock awards had yet to be recognized and will be amortized over a weightedaverage period of 2.7 years. Approximately $3.9 million ofestimated expense with respect to nonvested performance-based restricted stockoption awards had yet to be recognized as of June 30, 2008.

 

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**4.****              Terminated MergerAgreement**

 

On October 6, 2006, weentered into an Agreement and Plan of Merger (the “Merger Agreement”) with TheVeritas Capital Fund III, L.P., a Delaware limited partnership (“Veritas”),Cornell Holding Corp., a Delaware corporation (“Parent”) and CCI AcquisitionCorp., a Delaware corporation and wholly owned subsidiary of Parent (“MergerSub”), pursuant to which the Merger Sub would be merged with and into us (the “Merger”),with Cornell surviving after the Merger as a wholly owned subsidiary of Parent.

 

Our Board of Directorsunanimously approved the Merger Agreement. In connection with the Merger, theParent and certain of our stockholders entered into a Voting Agreement dated onor about October 6, 2006, whereby such stockholders agreed, among otherthings, to vote their respective shares of our stock in favor of the MergerAgreement, the Merger and the transactions contemplated thereby.  At a special meeting of our stockholders heldon January 23, 2007, the proposed Merger Agreement was rejected.

 

Under the terms of the MergerAgreement, because the Merger was terminated, we reimbursed $2.5 million ofcosts incurred by Veritas, Parent and Merger Sub in connection with theproposed merger in February 2007. Such costs for legal and externalprofessional and consulting fees are reflected in general and administrativeexpenses for the six months ended June 30, 2007.

 

**5.****             ****Intangible Assets**

 

Intangible assets at June 30, 2008 and December 31,2007 consisted of the following (in thousands):

 
| ** **                                              | ** ** | **June 30,  2008** | ** ** | **December 31,  2007** | ** ** |
|---------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
|                                                    |       |                    |       |                        |       |
| Non-compete  agreements                                 |       | $                       | 9,040      |                        | $          | 9,040 |   |
| Accumulated  amortization – non-compete agreements |       | (7,962                  | )          | (7,541                      | )          |
| Acquired  contract value                                |       | 6,442                   |       | 6,442                       |       |
| Accumulated  amortization – contract value         |       | (3,973                  | )          | (3,421                      | )          |
| Identified  intangibles, net                            |       | 3,547                   |       | 4,520                       |       |
| Goodwill,  net                                          |       | 13,308                  |       | 13,355                      |       |
| Total  intangibles, net                                 |       | $                       | 16,855     |                        | $          | 17,875 |   |

 

The changes in the carrying amount of goodwill in the six months ended June 30,2008 were as follows: (in thousands):

 
| ** **                            | ** ** | **Adult  Secure** | ** ** | **Abraxas  Youth and  Family** | ** ** | **Adult  Community-  Based** | ** ** | **Total** | ** ** |
|---------------------------------------|------------|-------------------|------------|-------------------------------------|------------|------------------------------|------------|-----------|------------|
|                                  |       |              |       |                                |       |                         |       |      |       |
| Balance as  of December 31, 2007 |       | $                 | 2,902      |                                | $          | 1,060                        |       | $         | 9,393      |   | $ | 13,355 |   |
| Reduction to  goodwill                |       | —            |       | —                              |       | (47                          | )          | (47       | )          |
| Balance as  of June 30, 2008     |       | $                 | 2,902      |                                | $          | 1,060                        |       | $         | 9,346      |   | $ | 13,308 |   |

 

During the six months ended June 30, 2008, a reduction to goodwillwas recorded to reflect the final release of amounts previously placed inescrow related to the acquisition of Correctional Systems, Inc. in April 2005.

 

Amortization expense for ournon-compete agreements was approximately $0.2 million and $0.3 million for thethree months ended June 30, 2008 and 2007, respectively, and approximately$0.4 million and $0.6 million for the six months ended June 30, 2008 and2007, respectively.  Amortization expensefor our non-compete agreements is expected to be approximately $0.8 million forthe year ending December 31, 2008 and approximately $0.6 million for theyear ending December 31, 2009.

 

Amortization expense for our acquiredcontract value was approximately $0.3 million for the three months ended June 30,2008 and 2007 and approximately $0.5 million and $0.6 million for the sixmonths ended June 30, 2008 and 2007, respectively.  Amortization expense for our acquired contractvalue is expected to be approximately $1.1 million for each of the next twoyears ended December 31 and approximately $0.6 million for the year endingDecember 31, 2010..

 

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**6.****             ****Impairment of Long-LivedAssets**

 

We evaluate the realization of our long-livedassets at least annually or when changes in circumstances or a specifictriggering event indicates that the carrying value of the asset may not berecoverable.  As a part of ourevaluation, we make judgements regarding such factors as estimated marketvalues and the potential future operating results and undiscounted cash flowsassociated with individual facilities or assets.  Additionally, should we decide to sell afacility or other asset, realization is evaluated based on the estimated salesprice based on the best market information available. In conjunction with our reviewof certain of our long-lived assets based on estimated market values associatedwith these assets, we determined that our carrying value for a currently vacantsite was not fully recoverable and exceeded its fair value and, as a result, werecorded an impairment charge of $0.3 million in the three and six months endedJune 30, 2008.  This charge wasbased on the best information available. This charge is reflected in general and administrative expenses in theaccompanying financial statements.

 

**7.****             ****New AccountingPronouncements**

 

***Statement of Financial AccountingStandards No. 157***

 

In September 2006, the FASB issued SFAS No. 157,“Fair Value Measurements” (“SFAS No. 157”).  SFAS No. 157 defines fair value,establishes a framework for measuring fair value within generally acceptedaccounting principles and expands disclosures about fair value measurements forfinancial assets and liabilities, as well as for any other assets andliabilities that are carried at fair value on a recurring basis in thefinancial statements. SFAS No. 157 became effective for financialstatements issued for fiscal years beginning after November 15, 2007, andinterim periods within those fiscal years. This statement applies prospectively to financial assets andliabilities. In February 2008, the FASB issued FSP 157-2, whichdelayed the effective date of SFAS No. 157 by one year for nonfinancialassets and liabilities.  Our adoption ofSFAS No. 157 on January 1, 2008 with respect to financial assets andliabilities did not have a material financial impact on our consolidatedresults of operations or financial condition. We are currently evaluating the impact of implementation with respect tononfinancial assets and liabilities on our consolidated financial statements.

 

We adopted SFAS No. 157 onJanuary 1, 2008 for our financial assets and liabilities measured on arecurring basis.  As defined in SFAS No. 157,fair value is the price that would be received to sell an asset or paid totransfer a liability in an orderly transaction between market participants atthe measurement date (“exit price”). SFAS No. 157 requires disclosure that establishes a framework formeasuring fair value and expands disclosures about fair valuemeasurements.  SFAS No. 157 requiresthat fair value measurements be classified and disclosed in one of thefollowing 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). |

 

As required by SFAS No. 157,financial assets and liabilities are classified based on the lowest level ofinput that is significant for the fair value measurement.  The following table summarizes the valuationof our financial assets and liabilities by pricing levels, as defined by theprovisions of SFAS No. 157, as of June 30, 2008:

 
| ** **                                   | ** ** | **Fair Value as of June 30, 2008 (in thousands)** | ** ** |
|----------------------------------------------|------------|-------------------------------------------------------------------------------------------|------------|
| ** **                                   | ** ** | **Level 1**                                                                          | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
| Assets:                                      |       |                                                                                      |       |   |   |   |   |   |   |
| Cash and  Cash Equivalents                   |       | $                                                                                         | 1,021      |   | $ | — |   | $ | — |   | $ | 1,021 |   |
| Corporate  Bonds                             |       | —                                                                                    |       | 16,110 |   | — |   | 16,110 |   |
| Money Market  Funds                          |       | —                                                                                    |       | 39,937 |   | — |   | 39,937 |   |
| Liabilities:                                 |       |                                                                                      |       |   |   |   |   |   |   |
| Derivative  Instruments (Debt Service Funds) |       | $                                                                                         | —     |   | $ | — |   | $ | 1,951 |   | $ | 1,951 |   |

 

The corporate bonds and moneymarket funds are carried in debt service fund and other restricted assets andthe debt service reserve fund in the accompanying balance sheet. The derivativeinstruments is carried in other long term liabilities in the accompany balancesheet.

 

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SFAS No. 157 requires a reconciliation of the beginning and endingbalances for fair value measurements using Level 3 inputs.  The table below sets forth a reconciliationfor assets and liabilities measured at fair value on a recurring basis usingsignificant unobservable inputs (Level 3) during the six months ended June 30,2008 (in thousands):

 
| Derivative  instruments as of December 31, 2007 |   | $    | 2,151  |   |
|------------------------------------------------------|--------|------|--------|--------|
| Unrealized  gain, net                                |   | (735 | )      |
| Tax  provision                                       |   | (511 | )      |
| Derivative  instruments as of March 31, 2008    |   | 905  |   |
| Unrealized  loss, net                                |   | 618  |   |
| Tax benefit                                          |   | 428  |   |
| Derivative  instruments as of June 30, 2008     |   | $    | 1,951  |   |

 

***Statement of Financial Accounting Standards No. 159***

 

In February 2007, the FASB issued SFAS No. 159,“The Fair Value Option for Financial Assets and Financial Liabilities –Including an amendment of FASB Statement No. 115” (“SFAS No. 159”).SFAS No. 159 permits entities to choose to measure many financialinstruments and certain other items at fair value that are not currentlyrequired to be measured at fair value and establishes presentation anddisclosure requirements designed to facilitate comparisons between entitiesthat choose different measurement attributes for similar types of assets andliabilities. SFAS No. 159 became effective for financial statements issuedfor fiscal years beginning after November 15, 2007, provided the entityelects to apply the provisions of SFAS No. 157. Our adoption of SFAS No. 159on January 1, 2008 did not have a material impact on our consolidatedresults of operations or financial condition as we have elected not to applythe provisions of SFAS No. 159 to our financial instruments or othereligible items that are not required to be measured at fair value.

 

**NewAccounting Pronouncements Not Yet Adopted**

 

***Statement of Financial AccountingStandards No. 141***

 

In December 2007, the FASB issued SFAS No. 141(Revised 2007), “Business Combinations” (“SFAS No. 141R”).  SFAS No. 141R significantly changes theaccounting for business combinations. Under SFAS No. 141R, an acquiring entity will be required torecognize all the assets acquired and liabilities assumed in a transaction atthe acquisition-date fair value with limited exceptions.  SFAS No. 141R changes the accountingtreatment for certain specific items, including acquisition costs,noncontrolling interests, acquired contingent liabilities, in-process researchand development costs, restructuring costs and changes in deferred tax assetvaluation allowances and income tax uncertainties subsequent to the acquisitiondate.  SFAS No. 141R appliesprospectively to business combinations for which the acquisition date is on orafter the beginning of the first annual reporting period beginning on or after December 15,2008.  Earlier adoption is not permitted.

 

***FASB Staff Position No. FAS 142-3***

 

This FASB Staff Position (“FSP”) amends the factors that should beconsidered in developing renewal or extension assumptions used to determine theuseful life of a recognized intangible asset under SFAS No. 142, “Goodwilland Other Intangible Assets”.  The intentof this FSP is to improve the consistency between the useful life of arecognized intangible asset under SFAS No. 142 and the period of expectedcash flows used to measure the fair value of the asset under SFAS No. 141(Revised 2007), “Business Combinations” and other U.S. generally acceptedaccounting principles.  This FSP iseffective for financial statements issued for fiscal years beginning after December 15,2008, and interim periods within those fiscal years.  Early adoption is not permitted.  We do not expect this FSP to have asignificant impact on our consolidated financial position, results ofoperations or cash flows.

 

***Statement of Financial Accounting Standards No. 160***

 

In December 2007, the FASB issued SFAS No. 160,“Noncontrolling Interests in Consolidated Financial Statements – An Amendmentof ARB No. 51” (“SFAS No. 160”). SFAS No. 160 establishes new accounting and reporting standards forthe noncontrolling interest in a subsidiary and for the deconsolidation of asubsidiary.  SFAS No. 160 requiresthe recognition of a noncontrolling interest (minority interest) as equity inthe consolidated financial statements and separate from the parent’sequity.  The amount of net incomeattributable to the noncontrolling interest will be included in consolidatednet income on the face of the income statement. This statement clarifies that changes in a parent’s ownership interestin a subsidiary that do not result in deconsolidation are equity transactionsif the parent retains its controlling financial interest.  In addition, this statement requires that aparent recognize a gain or loss in net income when a subsidiary isdeconsolidated.  Such gain or loss willbe measured using the fair value of the noncontrolling equity investment on thedeconsolidation date.  SFAS No. 160also includes expanded disclosure requirements regarding the interests of theparent and its noncontrolling interest. SFAS No. 160 is effective for fiscal years, and interim periodswithin those fiscal years, beginning on or after December 15, 2008.  Earlier adoption is prohibited.

 

***Statement of FinancialAccounting Standards No. 161***

 

In March 2008, the FASBissued SFAS No. 161, “Disclosures about Derivative Instruments and HedgingActivities – an Amendment of FASB Statement 133” (“SFAS No. 161”).  SFAS No. 161 is intended to improvefinancial reporting about derivatives and hedging activities by requiringenhanced qualitative and quantitative disclosures regarding derivativeinstruments, gains and losses on such instruments and their effects on anentity’s financial position, financial performance 

 

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and cash flows.  SFAS No. 161is effective for fiscal years and interim periods beginning after November 15,2008. We are currently evaluating the impact that this pronouncement may haveon our consolidated financial statements.

 

***Statement of Financial Accounting StandardsNo. 162***

 

In May 2008, the FASB issued SFAS No. 162, “The Hierarchy ofGenerally Accepted Accounting Principles (“SFAS No. 162”).  SFAS No. 162 identifies the sources ofaccounting principles and the framework for selecting the principles to be usedin the preparation of financial statements of nongovernmental entities that arepresented in conformity with generally accepted accounting principles in theUnited States of America.  SFAS No. 162is effective sixty days following the SEC’s approval of Public CompanyAccounting Oversight Board amendments to AU Section 411, “The Meaning of‘Present Fairly’ in Conformity with Generally Accepted AccountingPrinciples.”  We do not expect thispronouncement to have a significant impact on our consolidated financialposition, results of operations or cash flows.

 

***FASB Staff Position No. EITF 03-6-1***

 

This FASB Staff Position (“FSP”) addresses whether instruments grantedin share-based payment transactions are participating securities prior tovesting and, therefore, need to be included in the earnings allocation incomputing earnings per share (“EPS”) under the two-class method described inFASB Statement No. 128, “Earnings Per Share”.  This FSP is effective for financialstatements issued for fiscal years beginning after December 15, 2008, andthe interim periods within those years. All prior-period EPS data will have to be adjusted retrospectively(including interim financial statements, summaries of earnings, and selectedfinancial data) to conform to the provisions of this FSP.  Early application is not permitted.  We do not expect this FSP to have asignificant impact on our consolidated financial position, results ofoperations or cash flows.

 

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**8.****             ****Credit Facilities**

 

At June 30, 2008 and December 31,2007, our long-term debt consisted of the following (in thousands):

 
| ** **                                                                                                                                                                  | ** ** | **June 30,  2008** | ** ** | **December 31,  2007** | ** ** |
|-----------------------------------------------------------------------------------------------------------------------------------------------------------------------------|------------|-------------------------|------------|-----------------------------|------------|
|                                                                                                                                                                        |       |                    |       |                        |       |
| **Debt of Cornell Companies, Inc.:**                                                                                                                                   | ** ** | ** **              | ** ** | ** **                  | ** ** |
| Senior Notes, unsecured, due July 2012  with an interest rate of 10.75%, net of discount                                                                               |       | $                       | 111,264    |                        | $          | 111,172 |   |
| 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”) |       | 47,500                  |       | 30,000                      |       |
| Capital lease obligations                                                                                                                                                   |       | 32                      |       | 37                          |       |
| Subtotal                                                                                                                                                                    |       | 158,796                 |       | 141,209                     |       |
|                                                                                                                                                                        |       |                    |       |                        |       |
| **Debt of Special Purpose Entity:**                                                                                                                                         | ** ** | ** **              | ** ** | ** **                  | ** ** |
| 8.47% Bonds due 2016                                                                                                                                                        |       | 145,500                 |       | 145,500                     |       |
|                                                                                                                                                                        |       |                    |       |                        |       |
| Total consolidated debt                                                                                                                                                     |       | 304,296                 |       | 286,709                     |       |
|                                                                                                                                                                        |       |                    |       |                        |       |
| Less: current maturities                                                                                                                                                    |       | (11,412                 | )          | (11,411                     | )          |
|                                                                                                                                                                        |       |                    |       |                        |       |
| Consolidated long-term debt                                                                                                                                                 |       | $                       | 292,884    |                        | $          | 275,298 |   |

 

***Long-Term Credit Facilities.***  OurAmended CreditFacility provides for borrowings up to $100.0 million (including letters ofcredit), matures in December 2011 and bears interest, at our electiondepending on our total leverage ratio, at either the LIBOR rate plus a marginranging from 1.50% to 2.25%, or a rate which ranges from 0.00% to 0.75% abovethe applicable prime rate. Theavailable commitment under our Amended Credit Facility was approximately $42.8million at June 30, 2008.  We hadoutstanding borrowings under our Amended Credit Facility of $47.5 million andwe had outstanding letters of credit of approximately $9.7 million at June 30,2008.  Subject to certain requirements,we have the right to increase the commitments under our Amended Credit Facilityup to $150.0 million.  The Amended CreditFacility iscollateralized by substantially all of our assets, including the assets andstock of all of our subsidiaries. The Amended Credit Facility is not secured bythe assets of MCF, a special purpose entity. Our Amended Credit Facilitycontains commonly used covenants including compliance with laws and limitationson certain financing transactions and mergers and also includes variousfinancial covenants.  We believe the mostrestrictive covenant under our Amended Credit Facility is the fixed chargecoverage ratio.  At June 30, 2008,we were in compliance with all of our debt financial covenants.

 

MCF isobligated 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 annualinstallments of principal.  All unpaidprincipal and accrued interest on the bonds is due on the earlier of August 1,2016 (maturity) or as noted under the bond documents.

 

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

 

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

 
| **Year**            | ** ** | **Percentages** | ** ** |
|---------------------|------------|-----------------|------------|
|                |       |            |       |
| 2008                |       | 105.375         | %          |
| 2009                |       | 102.688         | %          |
| 2010 and thereafter |       | 100.000         | %          |

 

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

 

Upon the occurrence ofspecified change of control events, unless we have exercised our option toredeem all the Senior Notes as described above, each holder will have the rightto require us to repurchase all or a portion of such holder’s Senior Notes at apurchase price in cash equal to 101% of the aggregate principal amount of thenotes repurchased plus accrued and unpaid interest, if any, on the Senior Notesrepurchased, to the applicable date of purchase.  The Senior Notes were issued under anindenture which limits our ability and the ability of our Guarantors to, amongother things, incur additional indebtedness, pay dividends or make otherdistributions, make other restricted payments and investments, create liens,incur restrictions on the ability of the Guarantors to pay dividends or otherpayments to us, enter into transactions with affiliates, and engage in mergers,consolidations and certain sales of assets.

 

In conjunction with the issuance of theSenior Notes, we entered into an interest rate swap transaction with afinancial institution to hedge our exposure to changes in the fair value on$84.0 million of our Senior Notes.  Thepurpose of this transaction was to convert future interest due on $84.0 millionof the Senior Notes to a variable rate. The terms of the interest rate swap contract and the underlying debtinstrument were identical.  The swapagreement was designated as a fair value hedge. The swap had a notional amount of $84.0 million and matured in July 2012to mirror the maturity of the Senior Notes. Under the agreement, we paid, on a semi-annual basis (each January 1and July 1), a floating rate based on a six-month U.S. dollar LIBOR rate,plus a spread, and received a fixed-rate interest of 10.75%. For the three andsix months ended June 30, 2007, we recorded interest expense related tothis interest rate swap of approximately $0.09 million and $0.1 million,respectively. The swap agreement was marked to market each quarter witha corresponding mark-to-market adjustment reflected as either a discount orpremium on the Senior Notes.  Thecarrying value of the Senior notes as of this date was adjusted accordingly bythe same amount. Because the swap agreement was an effective fair-value hedge,there was no effect on our results of operations from the mark-to-marketadjustment as long as the swap was in effect. In October 2007, weterminated the swap agreement. We received approximately $0.2 million inconjunction with the termination, which is being amortized over the remainingterm of the Senior Notes.

 

**9.****             ****Income Taxes**

 

In July 2006, the Financial AccountingStandards Board (“FASB”) issued FASB Interpretation No. 48, “Accountingfor Uncertainty in Income Taxes – an Interpretation of FASB Statement No. 109”(“FIN 48”).  FIN 48 established a singlemodel to address the accounting for uncertain tax positions.  FIN 48 clarifies the accounting for incometaxes by prescribing a minimum recognition threshold a tax position is requiredto meet before being recognized in the financial statements.  FIN 48 also provides guidance on the measurement,recognition, classification and disclosure of tax positions, as well as theaccounting for the related interest and penalties, transition and accounting ininterim periods.

 

We adopted the provisions of FIN 48 effectiveJanuary 1, 2007.  As a result of ouradoption of FIN 48, we recorded an adjustment of approximately $0.3 millionwhich increased retained earnings at January 1, 2007.  There were no changes to the total amount ofour unrecognized tax benefits in the three and six months ended June 30,2008.

 

Estimated interest and penalties related tothe underpayment of income taxes are classified as a component of income taxexpense in the accompanying Consolidated Statements of Income and ComprehensiveIncome.  There were no material changesto our accrued interest and penalties in the three and six months end June 30,2008.

 

We are subject to income tax in the UnitedStates and many of the individual states we operate in.  We currently have significant operations inTexas, California, Oklahoma, Georgia, Illinois and Pennsylvania.  State income tax returns are generallysubject to examination for a period of three to five years after filing.  The state impact of any changes made to thefederal return remains subject to examination by various states for a period upto one year after formal notification to the state.  We are open to United States Federal IncomeTax examinations for the tax years December 31, 2004 through December 2007.

 

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

 

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**10.****      ****Earnings Per Share**

 

Basicearnings per share (“EPS”) is computed by dividing net income by the weightedaverage number of shares of common stock outstanding during the period.  Diluted EPS reflects the potential dilutionfrom common stock equivalents such as stock options and warrants.  For the three months ended June 30, 2008and 2007, there were 64,200 shares ($23.24 average price) and 15,000 shares ($25.00average price), respectively, of stock options that were not included in thecomputation of diluted EPS because to do so would have been anti-dilutive. Forthe six months ended June 30, 2008 and 2007, there were 64,200 shares($23.24 average price) and 15,000 shares ($25.00 average price), respectively,of stock options that were not included in the computation of diluted EPSbecause to do so would have been anti-dilutive.

 

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

 
| ** **                                                               | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|--------------------------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                               | ** ** | **June 30,**                | ** ** | **June 30,**              | ** ** |
| ** **                                                               | ** ** | **2008**                         | ** ** | **2007**                       | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                                                     |       |                             |       |                           |       |   |   |   |   |
| Net income                                                               |       | $                                | 5,345      |                           | $          | 3,446 |   | $ | 9,979 |   | $ | 4,109 |   |
|                                                                     |       |                             |       |                           |       |   |   |   |   |
| Weighted average common shares outstanding                               |       | 14,278                           |       | 14,124                         |       | 14,285 |   | 14,067 |   |
| Weighted average common share equivalents  outstanding                   |       | 377                              |       | 341                            |       | 426 |   | 315 |   |
|                                                                     |       |                             |       |                           |       |   |   |   |   |
| Weighted average common shares and common share  equivalents outstanding |       | 14,655                           |       | 14,465                         |       | 14,711 |   | 14,382 |   |
|                                                                     |       |                             |       |                           |       |   |   |   |   |
| Basic income per share                                                   |       | $                                | .37        |                           | $          | .24 |   | $ | .70 |   | $ | .29 |   |
|                                                                     |       |                             |       |                           |       |   |   |   |   |
| Diluted income per share                                                 |       | $                                | .36        |                           | $          | .24 |   | $ | .68 |   | $ | .29 |   |

 

**11.****      ****Commitments and Contingencies**

 

***Financial Guarantees***

 

During the normal course of business, weenter into contracts that contain a variety of representations and warrantiesand provide general indemnifications. Our maximum exposure under thesearrangements is unknown as this would involve future claims that may be madeagainst us that have not yet occurred. However, based on experience, we believethe risk of loss to be remote.

 

***Legal Proceedings***

 

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

 

***Valencia County Detention Center***

 

In April 2007, a lawsuitwas filed against the Company in the Federal District court in Albuquerque, NewMexico, by Joe Torres and Eufrasio Armijo, who each alleged that he was stripsearched at the Valencia County Detention Center (“VCDC”) in New Mexico inviolation of his federal rights under the Fourth, Fourteenth and Eighthamendments to the U.S. Constitution.  The claimants also allege violationof their rights under state law and seek to bring the case as a class action onbehalf of themselves and all detainees at VCDC during the applicable statues oflimitation.  The plaintiffs seek damages and declaratory and injunctiverelief.  Valencia County is also a named defendant in the case andoperated the VCDC for a significantly greater portion of the period covered bythe lawsuit.  Discovery has commenced inthe case but the ultimate outcome of the lawsuit cannot be determined at thistime. We intend to vigorously defend this lawsuit.

 

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***Lincoln County Detention Center***

 

In August 2005, a lawsuitwas filed by a detainee at the Lincoln County Detention Center (“LCDC”) in theU.S. District Court of New Mexico (Santa Fe) seeking unspecified damages. Thelawsuit relates to the former LCDC policy that required strip and visual bodycavity searches for all detainees and inmates and alleges that such policyviolates a detainee’s Fourth and Fourteenth Amendment rights under the U.S.Constitution. The lawsuit was filed as a putative class action lawsuit broughton behalf of all inmates who were searched at the LCDC from May 2002 to July 2005.In September 2006, we agreed to a proposed stipulation of settlement andthe court has preliminarily approved the settlement. The settlement amountunder the terms of the agreement is $1.6 million, and was funded principallythrough our general liability and professional liability coverage.

 

In the year ended December 31,2005, we recorded a charge of $0.2 million related to this lawsuit. Inaddition, we previously have provided insurance reserves for this matter (aspart of our regular review of reported and unreported claims) totalingapproximately $0.5 million. During the third quarter of 2006, we recorded anadditional settlement charge of approximately $0.9 million and the relatedreimbursement from our general liability and professional liability insurance.The charge and reimbursement were recognized in general and administrativeexpenses for the year ended December 31, 2006. The reimbursement wasfunded by the insurance carrier in the first quarter of 2007 into a settlementaccount. The court granted preliminary approval of the settlement in the secondquarter of 2007. The claims administration process is now complete and thefinal court approval of the settlement is expected during the third quarter of2008.

 

***Shareholder Lawsuits***

 

On October 19, 2006, a purported classaction complaint was filed in the District Court of Harris County, Texas, 269thJudicial District (No. 2006-67413) by Ted Kinbergy, an alleged stockholderof Cornell. The complaint names as defendants Cornell and each member of ourboard of directors as well as Veritas Capital Fund III, L.P. (“Veritas”). Thecomplaint alleges, among other things, that (i) the defendants havebreached fiduciary duties they assertedly owed to our stockholders inconnection with our entering into the Agreement and Plan of Merger, dated as ofOctober 6, 2006, with Veritas, Cornell Holding Corp., and CCI AcquisitionCorp., and (ii) the merger consideration is unfair and inadequate. Theplaintiffs sought, among other things, an injunction against the consummationof the merger. The proposed merger was rejected at a special meeting of ourstockholders held on January 23, 2007. Consequently, we believe the caseis moot and are in discussions with plaintiff’s counsel concerning potentiallegal fees that may be owed.  We do notexpect the resolution of this matter to have a material adverse effect on ourfinancial condition, results of operations or cash flows.

 

***Other***

 

Additionally, we currently andfrom time to time are subject to claims and suits arising in the ordinarycourse of business, including claims for damages for personal injuries or forwrongful restriction of or interference with offender privileges and employmentmatters. If an adverse decision in these matters exceeds our insurancecoverage, or if our coverage is deemed not to apply to these matters, or if theunderlying insurance carrier was unable to fulfill its obligation under theinsurance coverage provided, it could have a material adverse effect on ourfinancial condition, results of operations or cash flows.

 

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

 

**12.****       Derivative Financial Instruments andGuarantees**

 

***Debt Service Reserve Fundand Debt Service Fund***

 

In August 2001, MCF, a special purposeentity, completed a bond offering to finance the 2001 Sale and LeasebackTransaction in which we sold eleven facilities (as identified in Item 1 of thisreport) to MCF.  In connection with thisbond offering, two reserve fund accounts were established by MCF pursuant tothe terms of the indenture: (1) MCF’s Debt Service Reserve Fund,aggregating approximately $32.5 million at June 30, 2008, was establishedto make payments on MCF’s outstanding bonds in the event we (as lessee) shouldfail to make the scheduled rental payments to MCF and (2) MCF’s DebtService Fund, aggregating approximately $23.6 million at June 30, 2008,was established to accumulate the monthly lease payments that MCF receives fromus until such funds are used to pay MCF’s semi-annual bond interest and annualbond principal payments.  These reservefunds are invested in short-term money markets and commercial paper.  Both reserve fund accounts are subject to theagreements with the MCF Equity Investors whereby guaranteed rates of return of3.0% and 5.08%, respectively, are provided for in the balance of the DebtService Reserve Fund and the Debt Service Fund. The 

 

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guaranteedrates of return are characterized as cash flow hedge derivative instruments.  At inception, the derivatives had anaggregate fair value of $4.0 million, which has been recorded as a decrease tothe equity investment in MCF made by the MCF Equity Investors (MCF minorityinterest) and as a liability in our Consolidated Balance Sheets. Changes in thefair value of the derivative instruments are recorded as an adjustment to otherlong-term liabilities and reported as other comprehensive income (loss) in ourConsolidated Statements of Operations and Comprehensive Income.  At June 30, 2008 and December 31,2007, the fair value of these derivative instruments was a liability ofapproximately $2.0 million and $2.2 million, respectively.  Our Consolidated Statements of Operations andComprehensive Income include a comprehensive loss, net of taxes, ofapproximately $0.6 million in the three months ended June 30, 2008 andcomprehensive income, net of taxes, of approximately $0.1 million in the sixmonths ended June 30, 2008 related to these derivative instruments. Forthe three and six months ended June 30, 2007, we reported comprehensivelosses, net of taxes, of approximately $0.6 million and $0.5 million,respectively.

 

In connection with MCF’s bond offering, theMCF Equity Investor provided a guarantee of the Debt Service Reserve Fund if abankruptcy of the Company were to occur and a trustee for the estate of theCompany were to include the Debt Service Reserve Fund as an asset of theCompany’s estate.  This guarantee ischaracterized as an insurance contract and is being amortized to expense overthe life of the debt.

 

**13.****      ****Segment Disclosure**

 

Our three operating divisions are ourreportable segments. The Adult Secure Services segment consists of theoperations of secure adult incarceration facilities. The Abraxas Youth andFamily Services segment consists of providing residential treatment andeducational programs and non-residential community-based programs to juvenilesbetween the ages of 10 and 18 who have either been adjudicated or suffer frombehavioral problems and to certain adults as well. The Adult Community-BasedServices segment consists of providing pre-release and halfway house programsfor adult offenders who are either on probation or serving the last three tosix-months of their sentences on parole and preparing for re-entry into societyas well as community-based treatment and education programs as an alternativeto incarceration. All of our customers and long-lived assets are located in theUnited States of America. The accounting policies of our reportable segments arethe same as those described in the summary of significant accounting policiesin Note 2 in our 2007 Annual Report on Form 10-K.  Intangible assets are not included in eachsegment’s reportable assets, and the amortization of intangible assets is notincluded in the determination of a reportable segment’s operating income. Weevaluate performance based on income or loss from operations before general andadministrative expenses, amortization of intangibles, interest and incometaxes. Corporate and other assets are comprised primarily of cash, investmentsecurities available for sale, accounts receivable, debt service and debtservice reserve funds, deposits, property and equipment, deferred taxes,deferred costs and other assets. Corporate and other expenses from operationsconsists of depreciation and amortization on the corporate office facility andequipment and specific general and administrative charges pertaining tocorporate personnel. Such expenses are presented separately, as they cannot bereadily identified for allocation to a particular segment.

 

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Thefollowing table excludes the results of discontinued operations for therevenue, pre-opening and start-up expenses and income from operationscategories for all periods presented.  Theonly significant non-cash item reported in the respective segment’s income fromoperations is depreciation and amortization (excluding intangibles) (inthousands).

 
| ** **                          | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                          | ** ** | **June 30,**                | ** ** | **June 30,**              | ** ** |
| ** **                          | ** ** | **2008**                         | ** ** | **2007**                       | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                |       |                             |       |                           |       |   |   |   |   |
| Revenues:                           |       |                             |       |                           |       |   |   |   |   |
| Adult secure services               |       | $                                | 50,305     |                           | $          | 47,775 |   | $ | 100,204 |   | $ | 94,284 |   |
| Abraxas youth and  family services  |       | 26,886                           |       | 26,767                         |       | 54,659 |   | 53,565 |   |
| Adult community-based  services     |       | 17,455                           |       | 16,952                         |       | 35,175 |   | 33,289 |   |
| Total revenues                      |       | $                                | 94,646     |                           | $          | 91,494 |   | $ | 190,038 |   | $ | 181,138 |   |
|                                |       |                             |       |                           |       |   |   |   |   |
| Income from operations:             |       |                             |       |                           |       |   |   |   |   |
| Adult secure services               |       | $                                | 15,627     |                           | $          | 11,756 |   | $ | 30,884 |   | $ | 23,627 |   |
| Abraxas youth and  family services  |       | 2,526                            |       | 3,721                          |       | 4,132 |   | 6,121 |   |
| Adult community-based  services     |       | 4,666                            |       | 4,495                          |       | 9,487 |   | 7,152 |   |
| Subtotal                            |       | 22,819                           |       | 19,972                         |       | 44,503 |   | 36,900 |   |
| General and administrative  expense |       | (7,232                           | )          | (7,175                         | )          | (13,766 | ) | (15,532 | ) |
| Amortization of  intangibles        |       | (484                             | )          | (561                           | )          | (973 | ) | (1,121 | ) |
| Corporate and other                 |       | (189                             | )          | (189                           | )          | (360 | ) | (367 | ) |
| Total income from  operations       |       | $                                | 14,914     |                           | $          | 12,047 |   | $ | 29,404 |   | $ | 19,880 |   |

 
| ** **                         | ** ** | **June 30,** | ** ** | **December 31,** | ** ** |
|------------------------------------|------------|-------------------|------------|-----------------------|------------|
| ** **                         | ** ** | **2008**          | ** ** | **2007**              | ** ** |
| Assets:                            |       |              |       |                  |       |
| Adult secure services              |       | $                 | 335,328    |                  | $          | 290,930 |   |
| Abraxas youth and  family services |       | 106,607           |       | 109,478               |       |
| Adult community-based  services    |       | 58,680            |       | 63,008                |       |
| Intangible assets, net             |       | 16,855            |       | 17,875                |       |
| Corporate and other                |       | 85,317            |       | 81,496                |       |
| Total assets                       |       | $                 | 602,787    |                  | $          | 562,787 |   |

 

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**14.****      ****Guarantor Disclosures**

 

Wecompleted an offering of $112.0 million of Senior Notes in June 2004.  The Senior Notes are guaranteed by each ofour subsidiaries (the Guarantor Subsidiaries). These guarantees are joint and several obligations of the GuarantorSubsidiaries. MCF does not guarantee the Senior Notes (Non-GuarantorSubsidiary). The following condensed consolidating financial informationpresents the financial condition, results of operations and cash flows of theGuarantor Subsidiaries and the Non-Guarantor Subsidiary, together with the consolidatingadjustments necessary to present our results on a consolidated basis.

 

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**CondensedConsolidating Balance Sheet as of June 30, 2008 (in thousands) (unaudited)**

 
| ** **                                       | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-  Guarantor** | ** ** | ** **       | ** ** | ** **       | ** ** |
|--------------------------------------------------|------------|------------|------------|------------------|------------|---------------------|------------|------------------|------------|------------------|------------|
| ** **                                       | ** ** | **Parent** | ** ** | **Subsidiaries** | ** ** | **Subsidiary**      | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| **Assets**                                       |       |       |       |             |       |                |       |             |       |             |       |
| Current assets:                                  |       |       |       |             |       |                |       |             |       |             |       |
| Cash and cash  equivalents                       |       | $          | 770        |             | $          | 215                 |       | $                | 36         |             | $          | — |   | $ | 1,021 |   |
| Accounts receivable                              |       | 1,167      |       | 62,623           |       | 580                 |       | 3⁄4           |       | 64,370           |       |
| Restricted assets                                |       | 3⁄4     |       | 2,901            |       | 32,462              |       | 3⁄4           |       | 35,363           |       |
| Prepaid expenses and  other                      |       | 11,754     |       | 1,684            |       | 3⁄4              |       | 3⁄4           |       | 13,438           |       |
| Total current assets                             |       | 13,691     |       | 67,423           |       | 33,078              |       | 3⁄4           |       | 114,192          |       |
| Property and equipment,  net                     |       | 214        |       | 284,832          |       | 144,086             |       | (4,495           | )          | 424,637          |       |
| Other assets:                                    |       |       |       |             |       |                |       |             |       |             |       |
| Debt service reserve  fund                       |       | 3⁄4     |       | 3⁄4           |       | 23,585              |       | 3⁄4           |       | 23,585           |       |
| Deferred costs and  other                        |       | 59,498     |       | 27,604           |       | 5,701               |       | (52,430          | )          | 40,373           |       |
| Investment in subsidiaries                       |       | 56,552     |       | 1,856            |       | 3⁄4              |       | (58,408          | )          | 3⁄4           |       |
| Total assets                                     |       | $          | 129,955    |             | $          | 381,715             |       | $                | 206,450    |             | $          | (115,333 | ) | $ | 602,787 |   |
| ** **                                       | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** | ** **       | ** ** |
| **Liabilities and stockholders’ equity**    |       |       |       |             |       |                |       |             |       |             |       |
|                                             |       |       |       |             |       |                |       |             |       |             |       |
| Current liabilities:                             |       |       |       |             |       |                |       |             |       |             |       |
| Accounts payable and  accrued liabilities        |       | $          | 41,729     |             | $          | 20,736              |       | $                | 5,135      |             | $          | (264 | ) | $ | 67,336 |   |
| Current portion of  long-term debt               |       | 3⁄4     |       | 12               |       | 11,400              |       | 3⁄4           |       | 11,412           |       |
| Total current  liabilities                       |       | 41,729     |       | 20,748           |       | 16,535              |       | (264             | )          | 78,748           |       |
| Long-term debt, net of  current portion          |       | 158,763    |       | 21               |       | 134,100             |       | 3⁄4           |       | 292,884          |       |
| Deferred tax  liabilities                        |       | 13,130     |       | 94               |       | 3⁄4              |       | 827              |       | 14,051           |       |
| Other long-term  liabilities                     |       | 6,799      |       | 90               |       | 53,289              |       | (55,785          | )          | 4,393            |       |
| Intercompany                                     |       | (303,177   | )          | 303,182          |       | 3⁄4              |       | (5               | )          | 3⁄4           |       |
| Total liabilities                                |       | (82,756    | )          | 324,135          |       | 203,924             |       | (55,227          | )          | 390,076          |       |
| Stockholders’ equity                        |       | 212,711    |       | 57,580           |       | 2,526               |       | (60,106          | )          | 212,711          |       |
| Total liabilities and  stockholders’ equity |       | $          | 129,955    |             | $          | 381,715             |       | $                | 206,450    |             | $          | (115,333 | ) | $ | 602,787 |   |

 

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**CondensedConsolidating Balance Sheet as of December 31, 2007 (in thousands)**

 
| ** **                                       | ** ** | **Parent** | ** ** | **Guarantor  Subsidiaries** | ** ** | **Non-  Guarantor****Subsidiary** | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
|--------------------------------------------------|------------|------------|------------|-----------------------------|------------|-----------------------------------|------------|------------------|------------|------------------|------------|
| **Assets**                                       |       |       |       |                        |       |                              |       |             |       |             |       |
| Current assets:                                  |       |       |       |                        |       |                              |       |             |       |             |       |
| Cash and cash  equivalents                       |       | $          | 2,565      |                        | $          | 408                               |       | $                | 55         |             | $          | — |   | $ | 3,028 |   |
| Investment securities                            |       | 250        |       | 3⁄4                      |       | 3⁄4                            |       | 3⁄4           |       | 250              |       |
| Accounts receivable                              |       | 1,814      |       | 70,495                      |       | 679                               |       | 3⁄4           |       | 72,988           |       |
| Restricted assets                                |       | 3⁄4     |       | 2,486                       |       | 25,629                            |       | (592             | )          | 27,523           |       |
| Prepaids and other                               |       | 11,362     |       | 1,519                       |       | 3⁄4                            |       | 3⁄4           |       | 12,881           |       |
| Total current assets                             |       | 15,991     |       | 74,908                      |       | 26,363                            |       | (592             | )          | 116,670          |       |
| Property and equipment,  net                     |       | 270        |       | 242,297                     |       | 146,197                           |       | (4,812           | )          | 383,952          |       |
| Other assets:                                    |       |       |       |                        |       |                              |       |             |       |             |       |
| Debt service reserve  fund                       |       | 3⁄4     |       | 3⁄4                      |       | 23,638                            |       | 3⁄4           |       | 23,638           |       |
| Deferred costs and  other                        |       | 56,500     |       | 24,460                      |       | 6,035                             |       | (48,968          | )          | 38,027           |       |
| Investment in  subsidiaries                      |       | 41,445     |       | 1,856                       |       | 3⁄4                            |       | (43,301          | )          | 3⁄4           |       |
| Total assets                                     |       | $          | 114,206    |                        | $          | 343,521                           |       | $                | 202,233    |             | $          | (97,673 | ) | $ | 562,287 |   |
|                                             |       |       |       |                        |       |                              |       |             |       |             |       |
| **Liabilities and Stockholders’ Equity**    |       |       |       |                        |       |                              |       |             |       |             |       |
|                                             |       |       |       |                        |       |                              |       |             |       |             |       |
| Current liabilities:                             |       |       |       |                        |       |                              |       |             |       |             |       |
| Accounts payable and  accrued liabilities        |       | $          | 37,751     |                        | $          | 15,463                            |       | $                | 5,186      |             | $          | (898 | ) | $ | 57,502 |   |
| Current portion of  long-term debt               |       | 3⁄4     |       | 11                          |       | 11,400                            |       | 3⁄4           |       | 11,411           |       |
| Total current  liabilities                       |       | 37,751     |       | 15,474                      |       | 16,586                            |       | (898             | )          | 68,913           |       |
| Long-term debt, net of  current portion          |       | 141,172    |       | 26                          |       | 134,100                           |       | 3⁄4           |       | 275,298          |       |
| Deferred tax  liabilities                        |       | 12,387     |       | 94                          |       | 3⁄4                            |       | 745              |       | 13,226           |       |
| Other long-term  liabilities                     |       | 6,705      |       | 162                         |       | 49,702                            |       | (52,168          | )          | 4,401            |       |
| Intercompany                                     |       | (284,258   | )          | 284,263                     |       | 3⁄4                            |       | (5               | )          | 3⁄4           |       |
| Total liabilities                                |       | (86,243    | )          | 300,019                     |       | 200,388                           |       | (52,326          | )          | 361,838          |       |
| Stockholders’ equity                        |       | 200,449    |       | 43,502                      |       | 1,845                             |       | (45,347          | )          | 200,449          |       |
| Total liabilities and  stockholders’ equity |       | $          | 114,206    |                        | $          | 343,521                           |       | $                | 202,233    |             | $          | (97,673 | ) | $ | 562,287 |   |

 

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**Condensed Consolidating Statement ofOperations for the three months ended June 30, 2008****(in thousands) (unaudited)**

 
| ** **                                                | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-  Guarantor** | ** ** | ** **       | ** ** | ** **       | ** ** |
|-----------------------------------------------------------|------------|------------|------------|------------------|------------|---------------------|------------|------------------|------------|------------------|------------|
| ** **                                                | ** ** | **Parent** | ** ** | **Subsidiaries** | ** ** | **Subsidiary**      | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| ** **                                                | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** | ** **       | ** ** |
| Revenues                                                  |       | $          | 4,502      |             | $          | 107,749             |       | $                | 4,502      |             | $          | (22,107 | ) | $ | 94,646 |   |
| Operating expenses                                        |       | 4,104      |       | 86,177           |       | 18                  |       | (22,019          | )          | 68,280           |       |
| Depreciation and  amortization                            |       | 3⁄4     |       | 3,324            |       | 1,055               |       | (159             | )          | 4,220            |       |
| General and  administrative expenses                      |       | 7,216      |       | 3⁄4           |       | 16                  |       | 3⁄4           |       | 7,232            |       |
| Income from operations                                    |       | (6,818     | )          | 18,248           |       | 3,413               |       | 71               |       | 14,914           |       |
| Overhead allocations                                      |       | (4,317     | )          | 4,317            |       | 3⁄4              |       | 3⁄4           |       | 3⁄4           |       |
| Interest, net                                             |       | 1,819      |       | 1,274            |       | 2,536               |       | (62              | )          | 5,567            |       |
| Equity earnings in  subsidiaries                          |       | 13,253     |       | 3⁄4           |       | 3⁄4              |       | (13,253          | )          | 3⁄4           |       |
| Income from operations  before provision for income taxes |       | 8,933      |       | 12,657           |       | 877                 |       | (13,120          | )          | 9,347            |       |
| Provision for income  taxes                               |       | 3,588      |       | 3⁄4           |       | 3⁄4              |       | 414              |       | 4,002            |       |
| Net income                                                |       | $          | 5,345      |             | $          | 12,657              |       | $                | 877        |             | $          | (13,534 | ) | $ | 5,345 |   |

 

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**Condensed Consolidating Statement ofOperations for the three months ended June 30, 2007****(in thousands) (unaudited)**

 
| ** **                                                | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-  Guarantor** | ** ** | ** **       | ** ** | ** **       | ** ** |
|-----------------------------------------------------------|------------|------------|------------|------------------|------------|---------------------|------------|------------------|------------|------------------|------------|
| ** **                                                | ** ** | **Parent** | ** ** | **Subsidiaries** | ** ** | **Subsidiary**      | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| ** **                                                | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** | ** **       | ** ** |
| Revenues                                                  |       | $          | 4,502      |             | $          | 103,180             |       | $                | 4,502      |             | $          | (20,690 | ) | $ | 91,494 |   |
| Operating expenses                                        |       | 5,858      |       | 83,077           |       | 29                  |       | (20,604          | )          | 68,360           |       |
| Depreciation and  amortization                            |       | —     |       | 3,012            |       | 1,055               |       | (155             | )          | 3,912            |       |
| General and  administrative expenses                      |       | 7,157      |       | —           |       | 18                  |       | —           |       | 7,175            |       |
| Income (loss) from  operations                            |       | (8,513     | )          | 17,091           |       | 3,400               |       | 69               |       | 12,047           |       |
| Overhead allocations                                      |       | (12,950    | )          | 12,950           |       | —              |       | —           |       | —           |       |
| Interest, net                                             |       | 1,770      |       | 1,272            |       | 2,876               |       | —           |       | 5,918            |       |
| Equity earnings in  subsidiaries                          |       | 3,219      |       | —           |       | —              |       | (3,219           | )          | —           |       |
| Income from operations  before provision for income taxes |       | 5,886      |       | 2,869            |       | 524                 |       | (3,150           | )          | 6,129            |       |
| Provision for income  taxes                               |       | 2,440      |       | —           |       | 243                 |       | —           |       | 2,683            |       |
| Net income                                                |       | $          | 3,446      |             | $          | 2,869               |       | $                | 281        |             | $          | (3,150 | ) | $ | 3,446 |   |

 

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**Condensed Consolidating Statement ofOperations for the six months ended June 30, 2008****(in thousands) (unaudited)**

 
| ** **                                                | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-  Guarantor** | ** ** | ** **       | ** ** | ** **       | ** ** |
|-----------------------------------------------------------|------------|------------|------------|------------------|------------|---------------------|------------|------------------|------------|------------------|------------|
| ** **                                                | ** ** | **Parent** | ** ** | **Subsidiaries** | ** ** | **Subsidiary**      | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| ** **                                                | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** | ** **       | ** ** |
| Revenues                                                  |       | $          | 9,004      |             | $          | 216,245             |       | $                | 9,004      |             | $          | (44,215 | ) | $ | 190,038 |   |
| Operating expenses                                        |       | 7,192      |       | 175,312          |       | 30                  |       | (44,043          | )          | 138,491          |       |
| Depreciation and  amortization                            |       | 3⁄4     |       | 6,584            |       | 2,111               |       | (318             | )          | 8,377            |       |
| General and  administrative expenses                      |       | 13,731     |       | 3⁄4           |       | 35                  |       | 3⁄4           |       | 13,766           |       |
| Income (loss) from  operations                            |       | (11,919    | )          | 34,349           |       | 6,828               |       | 146              |       | 29,404           |       |
| Overhead allocations                                      |       | (17,659    | )          | 17,659           |       | 3⁄4              |       | 3⁄4           |       | —           |       |
| Interest, net                                             |       | 3,887      |       | 2,547            |       | 5,552               |       | (124             | )          | 11,862           |       |
| Equity earnings in  subsidiaries                          |       | 15,055     |       | 3⁄4           |       | 3⁄4              |       | (15,055          | )          | —           |       |
| Income from operations  before provision for income taxes |       | 16,908     |       | 14,143           |       | 1,276               |       | (14,785          | )          | 17,542           |       |
| Provision for income  taxes                               |       | 6,929      |       | 3⁄4           |       | 3⁄4              |       | 634              |       | 7,563            |       |
| Net income                                                |       | $          | 9,979      |             | $          | 14,143              |       | $                | 1,276      |             | $          | (15,419 | ) | $ | 9,979 |   |

 

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**Condensed Consolidating Statement ofOperations for the six months ended June 30, 2007****(in thousands) (unaudited)**

 
| ** **                                                | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-  Guarantor** | ** ** | ** **       | ** ** | ** **       | ** ** |
|-----------------------------------------------------------|------------|------------|------------|------------------|------------|---------------------|------------|------------------|------------|------------------|------------|
| ** **                                                | ** ** | **Parent** | ** ** | **Subsidiaries** | ** ** | **Subsidiary**      | ** ** | **Eliminations** | ** ** | **Consolidated** | ** ** |
| ** **                                                | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** | ** **       | ** ** |
| Revenues                                                  |       | $          | 9,004      |             | $          | 204,602             |       | $                | 9,004      |             | $          | (41,472 | ) | $ | 181,138 |   |
| Operating expenses                                        |       | 9,175      |       | 170,058          |       | 42                  |       | (41,302          | )          | 137,973          |       |
| Depreciation and  amortization                            |       | —     |       | 5,954            |       | 2,111               |       | (312             | )          | 7,753            |       |
| General and  administrative expenses                      |       | 15,495     |       | —           |       | 37                  |       | —           |       | 15,532           |       |
| Income (loss) from  operations                            |       | (15,666    | )          | 28,590           |       | 6,814               |       | 142              |       | 19,880           |       |
| Overhead allocations                                      |       | (23,937    | )          | 23,937           |       | —              |       | —           |       | —           |       |
| Interest, net                                             |       | 3,562      |       | 2,546            |       | 6,444               |       | —           |       | 12,552           |       |
| Equity earnings in  subsidiaries                          |       | 2,409      |       | —           |       | —              |       | (2,409           | )          | —           |       |
| Income from operations  before provision for income taxes |       | 7,118      |       | 2,107            |       | 370                 |       | (2,267           | )          | 7,328            |       |
| Provision for income  taxes                               |       | 3,009      |       | —           |       | 210                 |       | —           |       | 3,219            |       |
| Net income                                                |       | $          | 4,109      |             | $          | 2,107               |       | $                | 160        |             | $          | (2,267 | ) | $ | 4,109 |   |

 

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**Condensed Consolidating Statement of CashFlows for the six months ended June 30, 2008 (in thousands) (unaudited)**

 
| ** **                                            | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-  Guarantor** | ** ** | ** **       | ** ** |
|-------------------------------------------------------|------------|------------|------------|------------------|------------|---------------------|------------|------------------|------------|
| ** **                                            | ** ** | **Parent** | ** ** | **Subsidiaries** | ** ** | **Subsidiary**      | ** ** | **Consolidated** | ** ** |
| **Cash  flows from operating activities:**            |       |       |       |             |       |                |       |             |       |
| Net cash provided by  (used in) operating activities  |       | $          | (19,730    | )                | $          | 38,791              |       | $                | 7,406      |   | $ | 26,467 |   |
| ** **                                            | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Cash  flows from investing activities:**            |       |       |       |             |       |                |       |             |       |
| Capital expenditures                                  |       | —     |       | (38,996          | )          | —              |       | (38,996          | )          |
| Sales of investment  securities                       |       | 250        |       | —           |       | —              |       | 250              |       |
| Proceeds from the sale  of fixed assets               |       | —     |       | 17               |       | —              |       | 17               |       |
| Payments to restricted  debt payment account, net     |       | —     |       | —           |       | (7,425              | )          | (7,425           | )          |
| Net cash provided by  (used in) investing activities  |       | $          | 250        |             | $          | (38,979             | )          | $                | (7,425     | ) | $ | (46,154 | ) |
| ** **                                            | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Cash  flows from financing activities:**            |       |       |       |             |       |                |       |             |       |
| Borrowings on line of  credit                         |       | 17,500     |       | —           |       | —              |       | 17,500           |       |
| Tax benefit of stock  option exercises                |       | 3          |       | —           |       | —              |       | 3                |       |
| Payments on capital  lease obligations                |       | —     |       | (5               | )          | —              |       | (5               | )          |
| Proceeds from exercise  of stock options              |       | 182        |       | —           |       | —              |       | 182              |       |
| Net cash provided by  (used in) financing activities  |       | 17,685     |       | (5               | )          | —              |       | 17,680           |       |
| ** **                                            | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Net  decrease in cash and cash equivalents**        |       | (1,795     | )          | (193             | )          | (19                 | )          | (2,007           | )          |
| ** **                                            | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Cash  and cash equivalents at beginning of period** |       | 2,565      |       | 408              |       | 55                  |       | 3,028            |       |
| ** **                                            | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Cash  and cash equivalents at end of period**       |       | $          | 770        |             | $          | 215                 |       | $                | 36         |   | $ | 1,021 |   |

 

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**Condensed Consolidating Statement of CashFlows for the six months ended June 30, 2007 (in thousands) (unaudited)**

 
| ** **                                                | ** ** | ** ** | ** ** | **Guarantor**    | ** ** | **Non-  Guarantor** | ** ** | ** **       | ** ** |
|-----------------------------------------------------------|------------|------------|------------|------------------|------------|---------------------|------------|------------------|------------|
| ** **                                                | ** ** | **Parent** | ** ** | **Subsidiaries** | ** ** | **Subsidiary**      | ** ** | **Consolidated** | ** ** |
| **Cash  flows from operating activities:**                |       |       |       |             |       |                |       |             |       |
| Net cash provided by  (used in) operating activities      |       | $          | (11,777    | )                | $          | 24,140              |       | $                | 5,449      |   | $ | 17,812 |   |
| ** **                                                | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Cash  flows from investing activities:**                |       |       |       |             |       |                |       |             |       |
| Capital expenditures                                      |       | —     |       | (15,003          | )          | —              |       | (15,003          | )          |
| Acquisition of a  facility                                |       | —     |       | (8,948           | )          | —              |       | (8,948           | )          |
| Purchases of investment  securities                       |       | (241,425   | )          | —           |       | —              |       | (241,425         | )          |
| Sales of investment  securities                           |       | 244,900    |       | —           |       | —              |       | 244,900          |       |
| Payments to restricted  debt payment account, net         |       | —     |       | —           |       | (5,483              | )          | (5,483           | )          |
| Net cash provided by  (used in) investing activities      |       | $          | 3,475      |             | $          | (23,951             | )          | $                | (5,483     | ) | $ | (25,959 | ) |
| ** **                                                | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Cash  flows from financing activities:**                |       |       |       |             |       |                |       |             |       |
| Tax benefit of stock  option exercises                    |       | 455        |       | —           |       | —              |       | 455              |       |
| Payments on capital  lease obligations                    |       | —     |       | (5               | )          | —              |       | (5               | )          |
| Proceeds from exercise  of stock options                  |       | 2,016      |       | —           |       | —              |       | 2,016            |       |
| Net cash provided by  (used in) financing activities      |       | 2,471      |       | (5               | )          | —              |       | 2,466            |       |
| ** **                                                | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Net  increase (decrease) in cash and cash equivalents** |       | (5,831     | )          | 184              |       | (34                 | )          | (5,681           | )          |
| ** **                                                | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Cash  and cash equivalents at beginning of period**     |       | 18,083     |       | 371              |       | 75                  |       | 18,529           |       |
| ** **                                                | ** ** | ** ** | ** ** | ** **       | ** ** | ** **          | ** ** | ** **       | ** ** |
| **Cash  and cash equivalents at end of period**           |       | $          | 12,252     |             | $          | 555                 |       | $                | 41         |   | $ | 12,848 |   |

 

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

 

**General**

 

CornellCompanies, Inc. (together with its subsidiaries and predecessors, unlessthe context requires otherwise, “Cornell,” the “Company,” “we,” “us” or “our”)is a leading provider of correctional, detention, educational, rehabilitationand treatment services outsourced by federal, state, county and localgovernment agencies. We provide a diversified portfolio of services for adultsand juveniles through our three operating divisions: (1) Adult SecureServices; (2) Abraxas Youth and Family Services and (3) AdultCommunity-Based Services. At June 30, 2008, we operated 72 facilities witha total service capacity of 18,830 and had one facility with a servicecapacity of 70 beds that was vacant. Our facilities are located in 15 states and the District of Columbia.

 

The following table setsforth for the periods indicated total residential service capacity andcontracted beds in operation at the end of the periods shown, average contractoccupancy percentages and total non-residential service capacity.

 
| ** **                                                                     | ** ** | **June 30,** | ** ** | **June 30,** | ** ** |
|--------------------------------------------------------------------------------|------------|-------------------|------------|-------------------|------------|
| ** **                                                                     | ** ** | **2008**          | ** ** | **2007**          | ** ** |
| **Residential**                                                                | ** ** | ** **        | ** ** | ** **        | ** ** |
| Service capacity (1)                                                           |       | 16,147            |       | 15,211            |       |
| Contracted beds in  operation (end of period) (2)                              |       | 15,298            |       | 13,331            |       |
| Average contract  occupancy based on contracted beds in operation (3) (4) |       | 94.3              | %          | 101.7             | %          |
| **Non-Residential**                                                            | ** ** | ** **        | ** ** | ** **        | ** ** |
| Service capacity (5)                                                           |       | 2,753             |       | 3,421             |       |

 

----

(1)   Residential service capacity iscomprised of the number of beds currently available for service in ourresidential facilities.

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

(3)   Occupancypercentages reflect less than normalized occupancy during the start-up phase ofany applicable facility, resulting in a lower average occupancy in periods whenwe have substantial start-up activities.

(4)   Average contractoccupancy percentages are calculated based on actual occupancy for the periodas a percentage of the contracted capacity for residential facilities inoperation.  These percentages do notreflect the operations of non-residential community-based programs.  At certain residential facilities, ourcontracted capacity is lower than the facility’s service capacity.  Additionally, certain facilities have and arecurrently operating above the contracted capacity.  As a result, average contract occupancypercentages can exceed 100% if the average actual occupancy exceeded contractedcapacity.

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

 

Our operating results for the six months ended June 30, 2008 wereimpacted by a few significant events.  We completed a 300 bed expansion atthe D. Ray James Prison and activated these beds in February 2008. We alsocontinued the 1,100 bed expansion at the Great Plains Correctional Facility andbegan the 700 bed expansion at the D. Ray James Prison. In addition, werecorded a contract-based revenue adjustment (in March 2008) ofapproximately $1.5 million at the Regional Correctional Center for the contractyear ended March 2008 (no such adjustment was required for the contractyear ended March 2007).

 

We derive substantially all of our revenues from providing adultcorrections and treatment and juvenile justice, educational and treatmentservices outsourced by federal, state, county and local government agencies inthe United States.  Revenues for ourservices are generally recognized on a per diem rate based upon the number ofoccupant days or hours served for the period, on a guaranteed take-or-pay basisor on a cost-plus reimbursement basis. For the three months ended June 30,2008 our revenue base consisted of 53.0% for services provided under per diemcontracts, 40.9% for services provided under take-or-pay and managementcontracts, 3.7% for services provided under cost-plus reimbursement contracts,2.1% for services provided under fee-for-service contracts and 0.3% from othermiscellaneous sources. For the three months ended June 30, 2007 ourrevenue base consisted of 67.7% for services provided under per diem contracts,25.3% for services provided under take-or-pay and management contracts, 4.5%for services provided under cost-plus reimbursement contracts, 

 

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2.0% for services provided under fee-for-service contracts and 0.5%from other miscellaneous sources. The increase in the percentage of revenuesprovided under take-or-pay and management contracts in the three months ended June 30,2008 was due primarily to the take-or-pay contract awarded by the Bureau ofPrisons (“BOP”) to our Big Spring Correctional Center in 2007 and the 916inmate take-or-pay contract awarded by the Arizona Department of Corrections atour Great Plains Correctional Facility under which we began operations in September 2007.The increase in the percentage of revenues provided under take-or-pay contractswas partially offset by (1) the transition of our management contract forthe Donald W. Wyatt Detention Center to the facility owner in July 2007and (2) the termination of our management contract for the HarrisburgAlternative Education School Program for the 2007-2008 school year.  Thedecrease in the percentage of revenues provided under per diem contracts in thethree months ended June 30, 2008 as compared to the same period of theprior year was due primarily to the transition of the contracts at the GreatPlains Correctional Facility and the Big Spring Correctional Center aspreviously noted. This was partially offset by the addition of the High PlainsCorrectional Facility, which we acquired in May 2007.

 

For the six months ended June 30, 2008 our revenue base consistedof 52.2% for services provided under per diem contracts, 41.5% for servicesprovided under take-or-pay and management contracts, 3.9% for services providedunder cost-plus reimbursement contracts, 2.1% for services provided underfee-for-service contracts and 0.3% from other miscellaneous sources.  For the six months ended June 30, 2007our revenue base consisted of 67.3% for services provided under per diemcontracts, 25.3% for services provided under take-or-pay and managementcontracts, 4.9% for services provided under cost plus reimbursement contracts,2.2% for services provided under fee-for-service contracts and 0.3% from othermiscellaneous sources. The increase in the percentage of revenues providedunder take-or-pay and management contracts in the six months ended June 30,2008 was due primarily to the take-or-pay contract awarded by the BOP to ourBig Spring Correctional Center in 2007 and the 916 inmate take-or-pay contractawarded by the Arizona Department of Corrections at our Great PlainsCorrectional Facility under which we began operations in September 2007.The increase in the percentage of revenues provided under take-or-pay contractswas partially offset by (1) the transition of our management contract forthe Donald W. Wyatt Detention Center to the facility owner in July 2007and (2) the termination of our management contract for the HarrisburgAlternative Education School Program for the 2007-2008 school year.  Thedecrease in the percentage of revenues provided under per diem contracts in thesix months ended June 30, 2008 as compared to the same period of the prioryear was due primarily to the transition of the contracts at the Great PlainsCorrectional Facility and the Big Spring Correctional Center as previouslynoted. This decrease was partially offset by the addition of the High PlainsCorrectional Facility, which we acquired in May 2007.

 

Revenuescan fluctuate from period to period due to changes in government fundingpolicies, changes in the number of people referred to our facilities bygovernmental agencies, the opening of new facilities or the expansion ofexisting facilities and the termination of contracts for a facility or theclosure of a facility.

 

Factorsconsidered in determining billing rates to charge include: (1) theprograms specified by the contract and the related staffing levels, (2) wagelevels customary in the respective geographic areas, (3) whether theproposed facility is to be leased or purchased and (4) the anticipatedaverage occupancy levels that could reasonably be expected to be maintained.

 

Revenuesfor our Adult Secure Services division are primarily generated from per diemand take-or-pay contracts.  For the threemonths ended June 30, 2008 and 2007, we realized average per diem rates onour Adult Secure Services facilities of approximately $53.41 and $55.35,respectively.   For the six months ended June 30,2008 and 2007, we realized average per diem rates of approximately $54.46 and$55.18, respectively.

 

Revenues for our Abraxas Youth and Family Services division areprimarily generated from per diem, fee-for-service and cost-plus reimbursementcontracts.  For the three months ended June 30,2008 and 2007, we realized average per diem rates on our residential AbraxasYouth and Family Services facilities of approximately $190.46 and $167.00,respectively.  For the six months ended June 30,2008 and 2007, we realized average per diem rates of approximately $188.66 and$169.23, respectively.  For the threemonths ended June 30, 2008 and 2007, we realized average fee-for-servicerates for our non-residential community-based Abraxas Youth and Family Servicesfacilities and programs, including rates that are limited by Medicaid and otherprivate insurance providers, of approximately $49.33 and $44.48,respectively.  For the six months ended June 30,2008 and 2007, we realized average fee-for-service rates of approximately $49.80and $44.30, respectively. The majority of our Abraxas Youth and Family Servicescontracts renew annually. Our average fee-for-service rates may fluctuate fromperiod-to-period due to changes in the mix of services provided.

 

Revenues for our Adult Community-Based Services division are primarilygenerated from per diem and fee-for-service contracts. For the three monthsended June 30, 2008 and 2007, we realized average per diem rates on ourresidential Adult Community-Based Services facilities of approximately $65.80and $62.04, respectively.  For the sixmonths ended June 30, 2008 and 2007, we realized average per diem rates of$65.88 and $62.08, respectively.  For thethree months ended June 30, 

 

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2008 and 2007, we realized average fee-for-service rates on ournon-residential Adult Community-Based Services programs of approximately $12.62and $13.59, respectively.  For the sixmonths ended June 30, 2008 and 2007, we realized average fee-for-servicerates of approximately $12.86 and $14.69, respectively.  Our average fee-for-service rates fluctuatefrom period-to-period due to changes in the mix of services provided by ourvarious Adult Community-Based Services facilities and programs.

 

Wehave historically experienced higher operating margins in our Adult SecureServices and Adult Community-Based Services divisions as compared to ourAbraxas Youth and Family Services division due to higher utilization andabsorption of fixed costs.  Our operatingmargin in a given period will be impacted by those facilities which may eitherbe dormant or have been reactivated during the period. We have reactivatedseveral facilities in recent periods including the Hector Garza ResidentialTreatment Center and the Great Plains Correctional Facility in 2007.  Additionally, changes in contract termsresulting from contract renewals, revisions, or new contract awards can impactour operating margins.  Our operatingmargins within a division can vary from facility to facility based on variousfactors such as whether a facility is owned or leased, the level of competitionfor the contract award, the proposed length of the contract, the mix ofservices provided, the occupancy levels for a facility, the level of capitalcommitment required with respect to a facility, the anticipated changes inoperating costs over the term of the contract and our ability to increase afacility’s contract revenue.  Undertake-or-pay contracts for new or vacant facilities, such as the contract at theMoshannon Valley Correctional Center, operating margins are typically higherduring the early stages of the contract as the facility’s population increases(as revenues are received at contract percentages regardless of occupancylevel).  As variable costs (primarilyresident related and certain facility costs) increase with the increase inpopulation, operating margins will generally decline to a stabilized level.  A decline in occupancy at certain of ourfacilities can have a significant impact on our operating margins due to reducedabsorption of fixed costs at these facilities.

 

Wehave experienced and expect to continue to experience interim period operatingmargin fluctuations due to various factors such as the number of calendar daysin the period, higher payroll taxes (generally in the first half of the year)and salary and wage increases and insurance cost increases that are incurredprior to certain contract rate increases. Periodically, many of thegovernmental agencies with whom we contract may experience budgetary pressuresand may approach us to limit or reduce per diem rates. Decreases in, orthe lack of anticipated increases in, per diem rates could adversely impact ouroperating margin. Additionally, a decrease in per diem rates without acorresponding decrease in operating expenses could also adversely affect ouroperating margin.

 

Weare responsible for all facility operating costs, except for certain debtservice and interest or lease payments for facilities where we have amanagement contract only. At these facilities, the facility owner isresponsible for all debt service and interest or lease payments related to thefacility. We are responsible for all other operating expenses at thesefacilities. We operated 16 and 18 facilities under management contracts at June 30,2008 and 2007, respectively.

 

Amajority of our facility operating costs consists of fixed costs. These fixedcosts include lease and rental expense, insurance, utilities and depreciation.As a result, when we commence operation of new or expanded facilities, fixedoperating costs increase. The amount of our variable operating costs, includingfood, medical services, supplies and clothing, depend on occupancy levels atthe facilities we operate. Our largest single operating cost, facility payrollexpense and related employment taxes and expenses, has both a fixed and avariable component. We can adjust a facility’s staffing levels and the relatedpayroll expense to a certain extent based on occupancy at a facility; however aminimum fixed number of employees is required to operate and maintain anyfacility regardless of occupancy levels. Personnel costs are subject toincreases in tightening labor markets based on local economic environments andother conditions.

 

We incur pre-opening and start-up expenses including payroll, benefits,training and other operating costs prior to opening a new or expanded facilityand during the period of operation while occupancy is ramping up. These costsvary by contract. Since pre-opening and start-up costs are generally factoredinto the revenue per diem rate that is charged to the contracting agency, wetypically expect to recover these upfront costs over the life of the contract.Because occupancy rates during an adult secure facility’s start-up phasetypically result in capacity under-utilization for at least 90 to 180 days (andtypically longer for a youth facility), we may incur additional post-openingstart-up costs. We do not anticipate post-opening start-up costs at any AdultSecure Services facilities operated under any future contracts with the BOPbecause these contracts are currently expected to continue to be take-or-paycontracts, meaning that the BOP will pay at least 80.0% of the contractualmonthly revenue once the facility opens, regardless of actual occupancy.

 

Newly opened facilitiesare staffed according to applicable regulatory or contractual requirements whenwe begin receiving offenders or clients. Offenders or clients are typicallyassigned to a newly opened facility on a phased-in basis over a one tosix-month period. Our start-up period for new juvenile operations is twelvemonths from the date we begin recognizing revenue unless break-even occupancylevels are achieved before then. Our start-up period for new adult 

 

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operations is nine monthsfrom the date we begin recognizing revenue unless break-even occupancy levelsare achieved before then. Although we typically recover these upfront costsover the life of the contract, quarterly results can be substantially affectedby the timing of the commencement of operations as well as the development andconstruction of new facilities.

 

Workingcapital requirements generally increase immediately prior to commencingoperations of a new or expanded facility as we incur start-up costs andpurchase necessary equipment and supplies before facility management revenue isrealized.

 

Generaland administrative expenses consist primarily of costs for corporate andadministrative personnel who provide senior management, legal, finance,accounting, human resources, investor relations, payroll and informationsystems, costs of business development and outside professional and consultingfees.

 

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#### **Recent Developments**

 

***Great Plains Correctional Facility***

 

In May 2007, we wereawarded a contract by the Arizona Department of Corrections for our GreatPlains Correctional Facility in Hinton, Oklahoma. The contract calls for atotal of 2,000 medium-security inmates to be housed at the facility. Wecurrently house approximately 916 inmates and the remainder will be housedthrough an expansion of the existing facility. We began receiving inmates in September 2007and substantially completed the initial ramp-up in December 2007. Theexpansion of the facility to accommodate all 2,000 inmates commenced in thefourth quarter of 2007 and is expected to be completed by the third quarter of2008. We currently estimate that the expansion cost will be approximately $45.0million.  As of June 30, 2008, wehad incurred and capitalized costs of approximately $33.1 million related tothis expansion.  We believe that ourexisting cash and available balance under our Amended Credit Facility willprovide adequate funding to complete this facility expansion.

 

***D. Ray James Prison***

 

In February 2008, wecompleted the initial expansion of the D. Ray James Prison in Georgia toincrease its service capacity by approximately 300 beds to a total servicecapacity of 2,170 beds.

 

In August 2007, weannounced that we were initiating a second expansion of the D. Ray JamesPrison. This expansion project will increase the facility’s service capacity byan additional 700 beds for a total service capacity of approximately 2,800beds. This expansion project began in the first quarter of 2008 and is expectedto be completed in the first quarter of 2009. We currently estimate that thecapital expenditures related to this expansion project will be approximately$34.7 million.  As of June 30, 2008,we had incurred and capitalized costs of approximately $13.6 million related tothis expansion. We believe that our existing cash and available balance underour Amended Credit Facility will provide adequate funding to complete thisfacility expansion.

 

***Regional Correctional Center***

 

In July 2007, we werenotified by the Bureau of Immigration and Customs Enforcement (“ICE”) that itwas removing all ICE detainees from the Regional Correctional Center inAlbuquerque, New Mexico. The withdrawal was completed in early August 2007and ICE informed us in February 2008 that it would not resume use of thefacility.  Also, in February 2008,the client, the Office of Federal Detention Trustee (“OFDT”), attempted tounilaterally amend its agreement to reduce the number of minimum annualguaranteed mandays under the agreement. We do not believe OFDT has the right tomake such a change.  Refer to “-Resultsof Operations — Liquidity and Capital Resources - Contractual Uncertainties Related to Certain Facilities - RegionalCorrectional Center” for more information concerning this and otherdevelopments concerning the Regional Correctional Center.

 

***Hudson Colorado***

 

We have signed an agreementpursuant to which we will lease a new 1,250 male bed adult secure facility inHudson, Colorado. The facility will be constructed and owned by a third partyand will be built on land we plan to sell to the third party. We will retainapproximately 270 acres out of the original 320 acres we acquired in 2007 afterthe sale to the third party. We expect the construction, which should begin in August 2008,to be completed in the fall of 2009.  Wehave signed an implementation agreement with the Colorado Department ofCorrections (“Colorado DOC”), which governs the construction of the facilityand contemplates a service agreement which can be entered into upon completionof the implementation agreement.  Weexpect to begin receiving inmates in the fourth quarter of 2009.  We expect to enter into a service agreementfor the facility with the Colorado DOC but can make no assurances that we willdo so.

 

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#### **NewAccounting Pronouncements**

 

***Statement of Financial Accounting Standards No. 141***

 

In December 2007, theFASB issued SFAS No. 141 (Revised 2007), “Business Combinations” (“SFAS No. 141R”).  SFAS No. 141R significantly changes theaccounting for business combinations. Under SFAS No. 141R, an acquiring entity will be required torecognize all the assets acquired and liabilities assumed in a transaction atthe acquisition-date fair value with limited exceptions.  SFAS No. 141R changes the accountingtreatment for certain specific items, including acquisition costs,noncontrolling interests, acquired contingent liabilities, in-process researchand development costs, restructuring costs and changes in deferred tax asset valuationallowances and income tax uncertainties subsequent to the acquisitiondate.  SFAS No. 141R appliesprospectively to business combinations for which the acquisition date is on orafter the beginning of the first annual reporting period beginning on or after December 15,2008.  Earlier adoption is not permitted.

 

***FASB Staff Position No. FAS 142-3***

 

This FASB Staff Position (“FSP”) amends the factors that should beconsidered in developing renewal or extension assumptions used to determine theuseful life of a recognized intangible asset under SFAS No. 142, “Goodwilland Other Intangible Assets”.  The intentof this FSP is to improve the consistency between the useful life of arecognized intangible asset under SFAS No. 142 and the period of expectedcash flows used to measure the fair value of the asset under SFAS No. 141(Revised 2007), “Business Combinations” and other U.S. generally acceptedaccounting principles.  This FSP iseffective for financial statements issued for fiscal years beginning after December 15,2008, and interim periods within those fiscal years.  Early adoption is not permitted.  We do not expect this FSP to have asignificant impact on our consolidated financial position, results ofoperations or cash flows.

 

***Statement of Financial Accounting Standards No. 157***

 

In September 2006, theFASB issued SFAS No. 157, “Fair Value Measurements” (“SFAS No. 157”).  SFAS No. 157 defines fair value,establishes a framework for measuring fair value within generally acceptedaccounting principles and expands disclosures about fair value measurements forfinancial assets and liabilities, as well as for any other assets andliabilities that are carried at fair value on a recurring basis in thefinancial statements. SFAS No. 157 is effective for financial statementsissued for fiscal years beginning after November 15, 2007, and interimperiods within those fiscal years.  Thisstatement applies prospectively to financial assets and liabilities.   In February 2008, the FASBissued FSP 157-2, which delayed the effective date of SFAS No. 157 by oneyear for nonfinancial assets and liabilities. Our adoption of SFAS No. 157 on January 1, 2008 with respectto financial assets and liabilities did not have a material financial impact onour consolidated results of operations or financial condition.  We are currently evaluating the impact ofimplementation with respect to nonfinancial assets and liabilities on ourconsolidated financial statements.

 

We adoptedSFAS No. 157 on January 1, 2008 for our financial assets andliabilities measured on a recurring basis. As defined in SFAS No. 157, fair value is the price that would bereceived to sell an asset or paid to transfer a liability in an orderlytransaction between market participants at the measurement date (“exit price”).  SFAS No. 157 requires disclosure thatestablishes a framework for measuring fair value and expands disclosures aboutfair value measurements.  SFAS No. 157requires that fair value measurements be classified and disclosed in one of thefollowing 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). |

 

As required bySFAS No. 157, financial assets and liabilities are classified based on thelowest level of input that is significant for the fair value measurement.  The following table summarizes the valuationof our financial assets and liabilities by pricing levels, as defined by theprovisions of SFAS No. 157, as of June 30, 2008:

 
| ** **                                  | ** ** | **Fair Value as of June 30, 2008 (in thousands)** | ** ** |
|---------------------------------------------|------------|-------------------------------------------------------------------------------------------|------------|
| ** **                                  | ** ** | **Level 1**                                                                          | ** ** | **Level 2** | ** ** | **Level 3** | ** ** | **Total** | ** ** |
| Assets:                                     |       |                                                                                      |       |   |   |   |   |   |   |
| Cash and Cash Equivalents                   |       | $                                                                                         | 1,021      |   | $ | — |   | $ | — |   | $ | 1,021 |   |
| Corporate Bonds                             |       | —                                                                                    |       | 16,110 |   | — |   | 16,110 |   |
| Money Market Funds                          |       | —                                                                                    |       | 39,937 |   | — |   | 39,937 |   |
| Liabilities:                                |       |                                                                                      |       |   |   |   |   |   |   |
| Derivative Instruments (Debt Service Funds) |       | $                                                                                         | —     |   | $ | — |   | $ | 1,951 |   | $ | 1,951 |   |

 

The corporate bonds and money market funds are carried in debt servicefund and other restricted assets and the debt service reserve fund in theaccompanying balance sheet. The derivative instruments is carried in other longterm liabilities in the accompany balance sheet.

 

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SFAS No. 157 requires a reconciliation of thebeginning and ending balances for fair value measurements using Level 3inputs.  The table below sets forth areconciliation for assets and liabilities measured at fair value on a recurringbasis using significant unobservable inputs (Level 3) during the six monthsended June 30, 2008 (in thousands):

 
| Derivative instruments as of December 31,  2007 |   | $    | 2,151  |   |
|------------------------------------------------------|--------|------|--------|--------|
| Unrealized gain, net                                 |   | (735 | )      |
| Tax provision                                        |   | (511 | )      |
| Derivative instruments as of March 31,  2008    |   | 905  |   |
| Unrealized loss, net                                 |   | 618  |   |
| Tax benefit                                          |   | 428  |   |
| Derivative instruments as of June 30,  2008     |   | $    | 1,951  |   |

 

***Statement of Financial Accounting StandardsNo. 159***

 

In February 2007, the FASB issued SFAS No. 159, “The FairValue Option for Financial Assets and Financial Liabilities – Including anamendment of FASB Statement No. 115” (“SFAS No. 159”). SFAS No. 159permits entities to choose to measure many financial instruments and certainother items at fair value that are not currently required to be measured atfair value and establishes presentation and disclosure requirements designed tofacilitate comparisons between entities that choose different measurementattributes for similar types of assets and liabilities. SFAS No. 159 iseffective for financial statements issued for fiscal years beginning after November 15,2007, provided the entity elects to apply the provisions of SFAS No. 157.Our adoption of SFAS No. 159 on January 1, 2008 did not have amaterial impact on our consolidated results of operations or financialcondition as we have elected not to apply the provisions of SFAS No. 159to our financial instruments or other eligible items that are not required tobe measured at fair value.

 

***Statement of Financial Accounting StandardsNo. 160***

 

In December 2007, theFASB issued SFAS No. 160, “Noncontrolling Interests in ConsolidatedFinancial Statements –– An Amendment of ARB No. 51” (“SFAS No. 160”).  SFAS No. 160 establishes new accountingand reporting standards for the noncontrolling interest in a subsidiary and forthe deconsolidation of a subsidiary. SFAS No. 160 requires the recognition of a noncontrolling interest(minority interest) as equity in the consolidated financial statements andseparate from the parent’s equity.  Theamount of net income attributable to the noncontrolling interest will beincluded in consolidated net income on the face of the income statement.  This statement clarifies that changes in aparent’s ownership interest in a subsidiary that do not result indeconsolidation are equity transactions if the parent retains its controllingfinancial interest.  In addition, thisstatement requires that a parent recognize a gain or loss in net income when asubsidiary is deconsolidated.  Such gainor loss will be measured using the fair value of the noncontrolling equityinvestment on the deconsolidation date. SFAS No. 160 also includes expanded disclosure requirementsregarding the interests of the parent and its noncontrolling interest.  SFAS No. 160 is effective for fiscalyears, and interim periods within those fiscal years, beginning on or after December 15,2008.  Earlier adoption is prohibited.

 

***Statement of Financial Accounting Standards No. 161***

 

In March 2008,the FASB issued SFAS No. 161, “Disclosures about Derivative Instrumentsand Hedging Activities – an Amendment of FASB Statement 133” (“SFAS No. 161”).  SFAS No. 161 is intended to improvefinancial reporting about derivatives and hedging activities by requiringenhanced qualitative and quantitative disclosures regarding derivativeinstruments, gains and losses on such instruments and their effects on anentity’s financial position, financial performance and cash flows.  SFAS No. 161 is effective for fiscalyears and interim periods beginning after November 15, 2008.   We are currently evaluating the impact thatthis pronouncement may have on our consolidated financial statements.

 

***Statement of Financial Accounting StandardsNo. 162***

 

In May 2008, the FASB issued SFAS No. 162, “The Hierarchy ofGenerally Accepted Accounting Principles (“SFAS No. 162”).  SFAS No. 162 identifies the sources ofaccounting principles and the framework for selecting the principles to be usedin the preparation of financial statements of nongovernmental entities that arepresented in conformity with generally accepted accounting principles in theUnited States of America.  SFAS No. 162is effective sixty days following the SEC’s approval of Public CompanyAccounting Oversight Board amendments to AU Section 411, “The Meaning of‘Present Fairly’ in Conformity with Generally Accepted AccountingPrinciples.”  We do not expect thispronouncement to have a significant impact on our consolidated financialposition, results of operations or cash flows.

 

***FASB Staff Position No. EITF 03-6-1***

 

This FASB Staff Position (“FSP”) addresses whether instruments grantedin share-based payment transactions are participating securities prior tovesting and, therefore, need to be included in the earnings allocation incomputing earnings per share (“EPS”) under the two-class method described inFASB Statement No. 128, “Earnings Per Share”.  This FSP is effective for financialstatements issued for fiscal years beginning after December 15, 2008, andthe interim periods within those years. All prior-period EPS data will have to be adjusted retrospectively(including interim financial statements, summaries of earnings, and selectedfinancial data) to conform to the provisions of this FSP.  Early application is not permitted.  We do not expect this FSP to have asignificant impact on our consolidated financial position, results of operationsor cash flows.

 

**Liquidity and Capital Resources**

 

***General*****.**Our primary capital requirements are for (1) purchases,construction or renovation of new facilities, (2) expansions of existingfacilities, (3) working capital, (4) pre-opening and start-up costsrelated to new operating contracts, (5) acquisitions, (6) informationsystems hardware and software, and (7) furniture, fixtures andequipment.  Working capital requirementsgenerally increase immediately prior to commencing management of a new orexpanded facility as we incur start-up costs and purchase necessary equipment andsupplies before facility management revenue is realized.

 

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***CashFlows From Operating Activities.***  Cash provided by operations was approximately$26.5 million for the six months ended June 30, 2008 compared to $17.8million for the six months ended June 30, 2007.  The increase from the prior period wasprincipally due to higher net income as well as changes in certain workingcapital accounts (including accounts payable and accrued liabilities) due totiming of payments.

 

***CashFlows From Investing Activities*****. **Cash used in investing activitieswas approximately $46.2 million for the six months ended June 30, 2008 dueto capital expenditures of $39.0 million related primarily to the expansionprojects at the D. Ray James Prison and the Great Plains Correctional Facilityand net payments to the restricted debt payment account of $7.4 million.  Additionally, we had sales of investmentsecurities of $0.3 million.  Cash used ininvesting activities was approximately $26.0 million for the six months ended June 30,2007 due to the purchase of the High Plains Correctional Facility in May 2007for approximately $8.9 million, capital expenditures of approximately $15.0million related primarily to the expansion projects at the Big SpringCorrectional Center and the D. Ray James Prison and net payments to therestricted debt payment account of approximately $5.5 million. These cash flowswere partially offset by net sales of investment securities of approximately$3.5 million.

 

***CashFlows From Financing Activities*****. **Cash provided by financingactivities was approximately $17.7 million due primarily to borrowings on ourAmended Credit Facility of $17.5 million and proceeds from the exercise ofstock options of $0.2 million. Cash provided by financing activities wasapproximately $2.5 million for the six months ended June 30, 2007 dueprimarily to the proceeds from stock option exercises and the related taxbenefit of these stock option exercises.

 

***TreasuryStock Repurchases.*** We did not purchase any of our common stock in the six months ended June 30,2008 and 2007.

 

***Long-Term Credit Facilities.***  OurAmended CreditFacility provides for borrowings up to $100.0 million (including letters ofcredit), matures in December 2011 and bears interest, at our electiondepending on our total leverage ratio, at either the LIBOR rate plus a marginranging from 1.50% to 2.25%, or a rate which ranges from 0.00% to 0.75% abovethe applicable prime rate. Theavailable commitment under our Amended Credit Facility was approximately $42.8million at June 30, 2008.  We hadoutstanding borrowings under our Amended Credit Facility of $47.5 million andwe had outstanding letters of credit of approximately $9.7 million at June 30,2008.  Subject to certain requirements,we have the right to increase the commitments under our Amended Credit Facilityup to $150.0 million.  The Amended CreditFacility is collateralizedby substantially all of our assets, including the assets and stock of all ofour subsidiaries. The Amended Credit Facility is not secured by the assets ofMCF, a special purpose entity. Our Amended Credit Facility contains commonlyused covenants including compliance with laws and limitations on certainfinancing transactions and mergers and also includes various financialcovenants.  We believe the mostrestrictive covenant under our Amended Credit Facility is the fixed chargecoverage ratio.  At June 30, 2008,we were in compliance with all of our debt financial covenants.

 

MCF is obligated for the outstandingbalance 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 annualinstallments of principal.  All unpaidprincipal 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, nonrecourseobligations of MCF and secured by the property and equipment, bond reserves,assignment of subleases and substantially all assets related to the facilitiesincluded in the 2001 Sale and Leaseback Transaction (in which we sold elevenfacilities to MCF).  The bonds are notguaranteed 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 unsecuredsenior indebtedness and are guaranteed by all of our existing and futuresubsidiaries (collectively, the “Guarantors”). The Senior Notes are not guaranteed by MCF (the “Non-Guarantor”).  Interest on the Senior Notes is payablesemi-annually on January 1 and July 1 of each year, commencing January 1,2005.  On or after July 1, 2008, wemay redeem all or a portion of the Senior Notes at the redemption prices(expressed as a percentage of the principal amount) listed below, plus accruedand unpaid interest, if any, on the Senior Notes redeemed, to the applicabledate of redemption, if redeemed during the 12-month period commencing on July 1of each of the years indicated below:

 
| **Year**            | ** ** | **Percentages** | ** ** |
|---------------------|------------|-----------------|------------|
|                |       |            |       |
| 2008                |       | 105.375         | %          |
| 2009                |       | 102.688         | %          |
| 2010 and thereafter |       | 100.000         | %          |

 

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As the Senior Notes are now redeemable at our option (subject to therequirements noted) we anticipate we will monitor the capital markets andcontinue to assess our capital needs and our capital structure, including apotential redemption of the Senior Notes.

 

Upon the occurrence of specified change of control events, unless wehave 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 ofsuch holder’s Senior Notes at a purchase price in cash equal to 101% of theaggregate principal amount of the notes repurchased plus accrued and unpaidinterest, if any, on the Senior Notes repurchased, to the applicable date ofpurchase.  The Senior Notes were issuedunder an indenture which limits our ability and the ability of our Guarantorsto, among other things, incur additional indebtedness, pay dividends or makeother distributions, make other restricted payments and investments, createliens, incur restrictions on the ability of the Guarantors to pay dividends orother payments to us, enter into transactions with affiliates, and engage inmergers, consolidations and certain sales of assets.

 

Inconjunction with the issuance of the Senior Notes, we entered into an interestrate swap transaction with a financial institution to hedge our exposure tochanges in the fair value on $84.0 million of our Senior Notes.  The purpose of this transaction was to convertfuture interest due on $84.0 million of the Senior Notes to a variablerate.  The terms of the interest rateswap contract and the underlying debt instrument were identical.  The swap agreement was designated as a fairvalue hedge.  The swap had a notionalamount of $84.0 million and matured in July 2012 to mirror the maturity ofthe Senior Notes.  Under the agreement,we paid, on a semi-annual basis (each January 1 and July 1), afloating rate based on a six-month U.S. dollar LIBOR rate, plus a spread, andreceived a fixed-rate interest of 10.75%. For the three and six months ended June 30,2007, we recorded interest expense related to this interest rate swap ofapproximately $0.09 million and $0.1 million, respectively. The swapagreement was marked to market each quarter with a corresponding mark-to-marketadjustment reflected as either a discount or premium on the Senior Notes.  The carrying value of the Senior notes as ofthis date was adjusted accordingly by the same amount. Because the swap agreementwas an effective fair-value hedge, there was no effect on our results ofoperations from the mark-to-market adjustment as long as the swap was ineffect. In October 2007, we terminated the swap agreement. We receivedapproximately $0.2 million in conjunction with the termination, which is beingamortized over the remaining term of the Senior Notes.

 

***Future Liquidity***

 

On August 1,2008, we filed with the Securities and Exchange Commission (“SEC”) a shelfregistration statement on Form S-3 for the potential for offerings fromtime to time of up to $75.0 million in gross proceeds of debt securities,common stock, preferred stock, warrants or certain other securities. The SEChas not yet declared this shelf registration statement effective. Onceeffective, we may use the registration statement to issue such securities fromtime to time.

 

We expect touse existing cash balances, internally generated cash flows and borrowings fromour Amended Credit Facility to fulfill anticipated obligations such as capital expenditures,working-capital needs and scheduled debt maturities. We also continue toanalyze (1) our capital structure, including a potential refinancing ofour Senior Notes,  (2) financing forour expected future capital expenditures, including potential acquisitions, and(3) financing using our shelf registration statement once it is effective.We will consider potential acquisitions from time to time. Our principal focusfor acquisitions is anticipated to be in our Adult Secure Services and AdultCommunity-Based Services divisions, although we would also pursue attractivelypriced acquisitions in our Abraxas Youth and Family Services division. We maydecide to use internally generated funds, bank financing, equityissuances,  debt issuances or a combinationof any of the foregoing to finance our future capital needs.

 

Our internally generated cash flow is directly related to our business.Should the private corrections and juvenile businesses deteriorate, or shouldwe experience poor results in our operations, cash flow from operations may bereduced. We have, however, continued to generate positive cash flow fromoperating activities over recent years and expect that cash flow will continueto be positive over the next year. Our access to debt and equity markets may bereduced or closed to us due to a variety of events, including, among others,restrictions under our Senior Notes indenture or our Amended Credit Facility,industry conditions, general economic conditions, market conditions, creditrating agency downgrades of our debt and market perceptions of us and ourindustry.

 

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**Results of Operations**

 

Thefollowing table sets forth for the periods indicated the percentages of revenuerepresented by certain items in our historical consolidated statements ofoperations.

 
| ** **                                                | ** ** | **Three Months Ended** | ** ** | **Six Months Ended** | ** ** |
|-----------------------------------------------------------|------------|----------------------------------|------------|--------------------------------|------------|
| ** **                                                | ** ** | **June 30,**                | ** ** | **June 30,**              | ** ** |
| ** **                                                | ** ** | **2008**                         | ** ** | **2007**                       | ** ** | **2008** | ** ** | **2007** | ** ** |
|                                                      |       |                             |       |                           |       |   |   |   |   |
| Revenues                                                  |       | 100.0                            | %          | 100.0                          | %          | 100.0 | % | 100.0 | % |
| Operating expenses                                        |       | 72.1                             |       | 74.7                           |       | 72.9 |   | 76.1 |   |
| Depreciation and  amortization                            |       | 4.5                              |       | 4.3                            |       | 4.4 |   | 4.3 |   |
| General and  administrative expenses                      |       | 7.6                              |       | 7.8                            |       | 7.2 |   | 8.6 |   |
| Income from operations                                    |       | 15.8                             |       | 13.2                           |       | 15.5 |   | 11.0 |   |
| Interest expense, net                                     |       | 5.9                              |       | 6.5                            |       | 6.3 |   | 6.9 |   |
| Income from operations  before provision for income taxes |       | 9.9                              |       | 6.7                            |       | 9.2 |   | 4.1 |   |
| Provision for income  taxes                               |       | 4.3                              |       | 2.9                            |       | 3.9 |   | 1.8 |   |
| Net income                                                |       | 5.6                              | %          | 3.8                            | %          | 5.3 | % | 2.3 | % |

 

***Three Months Ended June 30, 2008Compared to Three Months Ended June 30, 2007***

 

***Revenues*****.** Revenues increased approximately $3.1 million, or 3.4%, to $94.6 millionfor the three months ended June 30, 2008 from $91.5 million for the threemonths ended June 30, 2007.

 

***AdultSecure Services.***Adult Secure Services revenues increased approximately$2.5 million, or 5.2%, to $50.3 million for the three months ended June 30,2008 from $47.8 million for the three months ended June 30, 2007 due primarilyto (1) revenues of $4.7 million at the Great Plains CorrectionalFacility which began operating under a contract with the Arizona Department ofCorrections in September 2007 (this facility was vacant in the threemonths ended June 30, 2007), (2) an increase in revenues of $2.7million at the Big Spring Correctional Center due to increased occupancy as aresult of the facility expansion completed in November 2007 related to thetake-or-pay contract awarded to us by the Bureau of Prisons (“BOP”) in 2007, (3) anincrease in revenues of $1.4 million at the D. Ray James Prison due toincreased occupancy resulting from the facility expansion completed in thefirst quarter of 2008 and (4) an increase in revenues of $0.6 million atthe High Plains Correctional Facility acquired in May 2007.  The increase in revenues due to the above wasoffset, in part, by (1) a decrease in revenues of $3.7 million at theRegional Correctional Center due to decreased occupancy resulting from theremoval of all ICE inmates as of August 2007 and (2) a decrease in revenuesof $3.5 million due to the transfer of our management contract for the Donald W.Wyatt Detention Center to the facility’s owner in July 2007.  The remaining net increase in revenues of$0.3 million was due to various insignificant fluctuations in revenues at ourother Adult Secure Services facilities.

 

At June 30, 2008, we operated 10 Adult Secure Services facilitieswith an aggregate service capacity of 11,200. Average contract occupancy was 92.4% for the three months ended June 30,2008 compared to 104.2% for the three months ended June 30, 2007. Theaverage per diem rate for our Adult Secure Services facilities wasapproximately $53.41 and $55.35 for the three months ended June 30, 2008and 2007, respectively.

 

***AbraxasYouth and Family Services. ***AbraxasYouth and Family Services revenues increased approximately $0.1 million, or0.4%, to $26.9 million for the three months ended June 30, 2008 from $26.8million for the three months ended June 30, 2007 due primarily to (1) anincrease in revenues of $1.3 million at the Cornell Abraxas Academy due toincreased occupancy, (2) an increase in revenues of $0.7 million at theSouthern Peaks Regional Treatment Center due to both improved occupancy and ashift in customer mix and (3) revenues of $0.3 million at the Hector GarzaResidential Treatment Center which we reactivated in August 2007.  The increase in revenues due to the above wasoffset by (1) a decrease in revenues of $1.5 million at the CornellAbraxas I (“A-1”) facility due to reduced occupancy and (2) a decrease inrevenues of $0.9 million due to the termination of our management contract forthe Harrisburg Alternative Education School Program for the 2007-2008 schoolyear (due to lack of funding by the contracting agency).  The remaining net increase in revenues of$0.2 million was due to various insignificant fluctuations in revenues at ourother Abraxas Youth and Family Services facilities and programs.

 

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At June 30,2008, we operated 18 residential Abraxas Youth and Family Servicesfacilities and 11 non-residential Abraxas Youth and Family Servicescommunity-based programs with an aggregate service capacity of 3.488.Additionally, we had one facility that was vacant at June 30, 2008 with aservice capacity of 70 beds.  Averagecontract occupancy for the three months ended June 30, 2008 was 81.9%compared to 95.2% for the three months ended June 30, 2007.

 

The averageper diem rate for our residential Abraxas Youth and Family Servicesfacilities was approximately $190.46 for the three months ended June 30,2008 compared to $167.00 for the three months ended June 30, 2007.  Our average fee-for-service rate for ournon-residential Abraxas Youth and Family Services community-basedfacilities and programs was approximately $49.33 for the three months ended June 30,2008 compared to $44.48 for the three months ended June 30, 2007. Theincrease in our average fee-for-service rate in 2008 was due to changes in themix of services provided at our various Abraxas Youth and Family Servicesfacilities and programs.

 

***AdultCommunity-Based Services.*****AdultCommunity-Based Services revenues increased approximately $0.5 million, or2.9%, to $17.5 million for the three months ended June 30, 2008 from $17.0million for the three months ended June 30, 2007 due to variousinsignificant fluctuations in revenues at our various Adult Community-BasedServices facilities and programs.

 

AtJune 30, 2008, we operated 28 residential Adult Community-Based Servicesfacilities and five non-residential Adult Community-Based Services programswith an aggregate service capacity of 4,142. Average contract occupancy was 101.0% for the three months ended June 30,2008 compared to 102.6% for the three months ended June 30, 2007.

 

The averageper diem rate for our residential Adult Community-Based Services facilities wasapproximately $65.80 for the three months ended June 30, 2008 compared to$62.04 for the three months ended June 30, 2007.  The average fee-for-service rate for ournon-residential Adult Community-Based Services programs was approximately$12.62 for the three months ended June 30, 2008 compared to $13.59 for thethree months ended June 30, 2007.

 

We gave noticeof early termination of our management contract for the Lincoln CountyDetention Center in Lincoln County, New Mexico in February 2008 andtransitioned operation of the facility to a new operator in May 2008.  We faced continual staffing and other issuesin the rural area and decided that our continued operation of that facility wasnot in the best interest of our shareholders. The contract for this facility generated revenues of approximately $0.2million in the three months ended June 30, 2008 and approximately $0.5million in the three months ended June 30, 2007.

 

***OperatingExpenses****.*Operatingexpenses decreased approximately $0.1 million, or 0.1%, to $68.3 million forthe three months ended June 30, 2008 from $68.4 million for the threemonths ended June 30, 2007.

 

***AdultSecure Services.***Adult Secure Services operating expenses decreasedapproximately $1.7 million, or 5.0%, to $32.2 million for the three monthsended June 30, 2008 from $33.9 million for the three months ended June 30,2007 due primarily to (1) a decrease in operating expenses of $3.3million due to the transition of our management contract for the Donald W.Wyatt Detention Center to the facility’s owner in July 2007 and (2) adecrease in operating expenses of $1.5 million at the Regional CorrectionalCenter due to the removal of all ICE inmates as of August 2007.  The decrease in operating expenses due to theabove was offset, in part, by (1) an increase in operating expenses of$2.6 million at the Great Plains Correctional Facility due to increasedoccupancy resulting from our contract with the Arizona Department ofCorrections which commenced in September 2007, (2) an increase inoperating expenses of $0.8 million at the D. Ray James Prison due to increasedoccupancy resulting from the facility expansion completed in the first quarterof 2008 and (3) an increase in operating expenses of $0.4 million at theHigh Plains Correctional Facility acquired in May 2007. The remaining netdecrease in operating expenses of approximately $0.7 million was due to variousinsignificant fluctuations in operating expenses at our other Adult SecureServices facilities.

 

Asa percentage of segment revenues, Adult Secure Services operating expenses were64.1% for the three months ended June 30, 2008 compared to 71.0% for thethree months ended June 30, 2007.  The 2008 operating margin was favorably impacted primarily by the 2007contract awards at the Big Spring Correctional Center and the Great PlainsCorrectional Facility (which began in November 2007 and September 2007,respectively), and the related expansions at these facilities.

 

***AbraxasYouth and Family Services. ***AbraxasYouth and Family Services division operating expenses increased approximately$1.2 million, or 5.4%, to $23.6 million for the three months ended June 30,2008 from $22.4 million for the three months ended June 30, 2007 dueprimarily to (1) an increase in operating expenses of $0.8 million at theCornell Abraxas Academy due to increased occupancy and (2) an increase inoperating expenses of $0.3 million at the Hector Garza Residential TreatmentCenter which we reactivated in August 2007.  The increase in operating expenses due to theabove was 

 

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offset, in part, by a decrease inoperating expenses of $0.6 million due to the termination of our managementcontract for the Harrisburg Alternative Education School Program for the2007-2008 school year (due to lack of funding by the contracting agency). Theremaining net increase in operating expenses of approximately $0.7 million wasdue to various insignificant fluctuations in operating expenses at our otherAbraxas Youth and Family Services facilities and programs.  As a percentage of segment revenues, AbraxasYouth and Family Services operating expenses were 87.9% for the three monthsended June 30, 2008 compared to 83.6% for the three months ended June 30,2007.  The 2008 operating margin wasnegatively impacted by decreased operations at certain facilities, includingthe A-1 facility.

 

***AdultCommunity-Based Services.*** Adult Community-Based Services operatingexpenses increased approximately $0.3 million, or 2.5%, to $12.4 million forthe three months ended June 30, 2008 from $12.1 million for the threemonths ended June 30, 2007 due to various insignificant fluctuations inoperating expenses at our Adult Community-Based Services facilities andprograms.

 

Asa percentage of segment revenues, Adult Community-Based Services operatingexpenses were 71.0% for the three months ended June 30, 2008 compared to71.2% for the three months ended June 30, 2007.

 

***Impairment of Long-Lived Assets.***  Weevaluate the realization of our long-lived assets at least annually or whenchanges in circumstances or a specific triggering event indicates that thecarrying value of the asset may not be recoverable.  As a part of our evaluation, we makejudgments regarding such factors as estimated market values and the potentialfuture operating results and undiscounted cash flows associated with individualfacilities or assets.  Additionally,should we decide to sell a facility or other such asset, realization isevaluated based on the estimated sales price based on the best marketinformation available.  In conjunctionwith our review of certain of our long-lived assets based on estimated marketvalues associated with these assets, we determined that our carrying value fora currently vacant site was not fully recoverable and exceeded its fair valueand, as a result, we recorded an impairment charge of $0.3 million in the threemonths ended June 30, 2008.  This charge is reflected ingeneral and administrative expenses in the accompanying financial statements.

 

***Depreciationand Amortization*****. **Depreciation and amortization expensewas approximately $4.2 million and $3.9 million for the three months ended June 30,2008 and 2007, respectively. Amortization of intangibles was approximately $0.5 million and $0.6 millionfor the three months ended June 30, 2008 and 2007, respectively.

 

***Generaland Administrative Expenses.*** General and administrativeexpenses were approximately $7.2 million for the three months endedJune 30, 2008 and 2007.  General andadministrative expenses for the three months ended June 30, 2007 include legaland professional expenses of approximately $0.5 million related to the TerminatedMerger Agreement.

 

***Interest.***Interest expense, net of interest income, decreased to approximately $5.6 millionfor the three months ended June 30, 2008 from $5.9 million for the threemonths ended June 30, 2007. Capitalized interest for the three monthsended June 30, 2008 was approximately $0.8 million and related to thefacility expansion projects at the Great Plains Correctional Facility and theD. Ray James Prison.  Capitalizedinterest for the three months ended June 30, 2007 was approximately $0.2million and related to the facility expansion projects at the Big SpringCorrectional Center and the D. Ray James Prison.

 

***IncomeTaxes.*** For the three months ended June 30, 2008, we recognized aprovision for income taxes at an estimated effective rate of 42.8%.  For the three months ended June 30, 2007,we recognized a provision for income taxes at an estimated effective rate of43.8%.  The change in our estimatedeffective tax rate in 2008 was related to an increase in operating incomeacross certain of our business segments and the resulting decreased impact ofcertain non-deductible expenses such as lobbying and equity expenseattributable to certain share based awards.

 

***SixMonths Ended June 30, 2008 Compared to Six Months Ended June 30, 2007***

 

***Revenues*****.** Revenues increased approximately $8.9million, or 4.9%, to $190.0 million for the six months ended June 30, 2008from $181.1 million for the six months ended June 30, 2007.

 

***AdultSecure Services.***Adult Secure Services revenues increased approximately$5.9 million, or 6.3%, to $100.2 million for the six months ended June 30,2008 from $94.3 million for the six months ended June 30, 2007 dueprimarily to (1) an increase in revenues of approximately $7.6million at the Great Plains Correctional Facility due to increased occupancyresulting from our contract with the Arizona Department of Corrections whichbegan in September 2007, (2) an increase in revenues $5.8 million atthe Big Spring Correctional Center due to increased occupancy resulting fromthe facility expansion completed in November 2007, (3) an increase inrevenues of $2.4 million at the D. Ray James Prison due to increased occupancyresulting from the facility expansion completed in the first quarter of 2008and (4) an increase in revenues of $1.7 million at the High

 

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Plains Correctional Facility acquired in May 2007.  The increase in revenues due to the above wasoffset, in part, by (1) a decrease in revenues of approximately $6.8million due to the transition of our management contract for the Donald W.Wyatt Detention Center to the facility’s owner in July 2007 and (2) adecrease in revenues of $5.8 million at the Regional Correctional Center due tothe removal of all ICE inmates as of August 2007 (including the $1.5million Contract-based revenue adjustments in March 2008).  The remaining net increase in revenues of$1.0 million was due to various insignificant fluctuations in revenues at ourother Adult Secure Services facilities.

 

Averagecontract occupancy for the six months ended June 30, 2008 was 94.0%compared to 103.2% for the six months ended June 30, 2007.  The average per diem rate for our AdultSecure Services facilities was approximately $54.46 and $55.18 for the sixmonths ended June 30, 2008 and 2007, respectively.

 

***AbraxasYouth and Family Services. ***AbraxasYouth and Family Services revenues increased approximately $1.1 million, or2.1%, to $54.7 million for the six months ended June 30, 2008 from $53.6million for the six months ended June 30, 2007 due to (1) anincrease in revenues of $2.7 million at the Cornell Abraxas Academy due toincreased occupancy, (2) revenues of $0.9 million at the Hector GarzaResidential Treatment Center which we reactivated in August 2007, (3) anincrease in revenues of $1.1 million at the Southern Peaks Regional TreatmentCenter due to both improved occupancy and a change in customer mix and (4) anincrease in revenues of approximately $1.0 million due to the addition ofseveral new alternative education programs in 2008.  The increase in revenues due to the above wasoffset, in part, by (1) a decrease in revenues of approximately $1.7million at A-1 due to decreased occupancy, (2) a decrease in revenues of$0.9 million at the Alexander Youth Services Center which closed in January 2007,(3) a decrease in revenues of $1.8 million due to the termination of ourmanagement contract for the Harrisburg Alternative Education School Program forthe 2007-2008 school year (due to lack of funding by the contracting agency)and (4) a decrease in revenues of $0.8 million at the Texas Adolescent TreatmentCenter due to decreased occupancy.  Theremaining net increase in revenues of $0.6 million was due to variousinsignificant fluctuations in revenues at our other Abraxas Youth and FamilyServices facilities and programs.

 

Averagecontract occupancy was 83.8% and 93.6% for the six months ended June 30,2008 and 2007, respectively. The average per diem rate for our residentialAbraxas Youth and Family Services facilities was approximately $188.66 and$169.23 for the six months ended June 30, 2008 and 2007,respectively.  The averagefee-for-service rate for our non-residential Abraxas Youth and Family Servicescommunity-based facilities and programs was approximately $49.80 and $44.30 forthe six months ended June 30, 2008 and 2007, respectively. The increase inthe average fee-for-service rate for 2008 was due to changes in the mix ofservices provided by our various non-residential Abraxas Youth and FamilyServices facilities and programs.

 

***AdultCommunity-Based Services.*** Adult Community-Based Servicesrevenues increased approximately $1.9 million, or 5.7%, to $35.2 million forthe six months ended June 30, 2008 from $33.3 million for the six months endedJune 30, 2007 primarily due to (1) revenues of $0.6 million at theCordova Center due to improved occupancy and (2) increased revenues of$0.4 million at the Midtown Center which was vacant in the six months endedJune 30, 2007.  The remaining netincrease in revenues of $0.9 million was due to various insignificantfluctuations in revenues at our other Adult Community-Based Services facilitiesand programs.

 

Averagecontract occupancy for both the six months ended June 30, 2008 and 2007was 100.9%.  The average per diem ratefor our residential Adult Community-Based Services facilities was $65.88 and$62.08 for the six months ended June 30, 2008 and 2007, respectively.  The average fee-for-service rate for ournon-residential Adult Community-Based Services programs was $12.86 and $14.69for the six months ended June 30, 2008 and 2007, respectively. Thedecrease in the average fee-for-service rate for 2008 was due to changes in themix of services provided by our various non-residential Adult Community-BasedServices facilities and programs.

 

We gave notice of early termination of our management contract for theLincoln County Detention Center in Lincoln County, New Mexico in February 2008and transitioned operation of the facility to a new operator in May 2008.  We faced continual staffing and other issuesin the rural area and decided that our continued operation of that facility wasnot in the best interest of our shareholders. The contract for this facility generated revenues of approximately $0.6and $1.0 million in the six months ended June 30, 2008 and 2007,respectively.

 

***OperatingExpenses.*** Operating expenses increased approximately$0.5 million, or 0.4%, to $138.5 million for the six months ended June 30,2008 from $138.0 million for the six months ended June 30, 2007.

 

***AdultSecure Services.***Adult Secure Services operating expenses decreasedapproximately $2.0 million, or 3.0%, to $64.5 million for the six months ended June 30,2008 from $66.5 million for the six months ended June 30, 2007 due to (1) adecrease in operating expenses of $6.3 million due to the transition of ourmanagement contract for the Donald W. Wyatt Detention Center to the facility’sowner in July 2007, (2) a decrease in operating expenses of $2.0million at the 

 

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Regional Correctional Center due todecreased occupancy as a result of the removal of all ICE inmates as of August 2007and (3) a decrease in divisional administrative expenses of approximately$1.7 million.  The decrease in operatingexpenses due to the above was offset by (1) an increase in operatingexpenses of $3.6 million at the Great Plains Correctional Facility due to increasedoccupancy resulting from the commencement of our operating contract with theArizona Department of Corrections in September 2007, (2) an increasein operating expenses of $1.5 million at the D. Ray James Prison due toincreased occupancy resulting from the facility expansion completed in thefirst quarter of 2008, (3) an increase in operating expenses of$1.4 million at the High Plains Correctional Facility acquired in May 2007and (4) an increase in operating expenses of $0.7 million at the BigSpring Correctional Center due to increased occupancy following the facilityexpansion completed in November 2007. The remaining net increase inoperating expenses of $0.8 million was due to various insignificantfluctuations in operating expenses at our other Adult Secure Servicesfacilities.

 

As a percentage of segment revenues, AdultSecure Services operating expenses were 64.3% for the six months ended June 30,2008 compared to 70.5% for the six months ended June 30, 2007. The 2008operating margin was favorably impacted by the $1.5 million contract-basedrevenue adjustment at the Regional Correctional Center for the contract yearended March 2008 (which we recognized in March 2008) and by thereactivation of the Great Plains Correctional Facility in September 2007.

 

***AbraxasYouth and Family Services. ***AbraxasYouth and Family Services operating expenses increased approximately $3.0million, or 6.5%, to $49.1 million for the six months ended June 30, 2008from $46.1 million for the six months ended June 30, 2007 due primarily to(1) an increase in operating expenses of $1.6 million at the CornellAbraxas Academy due to increased occupancy, (2) an increase in operatingexpenses of $0.6 million at the Hector Garza Residential Treatment Center whichwe reactivated in August 2007, (3) an increase in operating expensesof $0.4 million at the Southern Peaks Regional Treatment Center due toincreased occupancy and (4) an increase in operating expenses of $0.6million due to the addition of several new alternative education programs in2008.  The increase in operating expensesdue to the above was offset, in part, by a decrease in operating expenses of$1.4 million due to the termination of our management contract for the HarrisburgAlternative Education School Program for the 2007-2008 school year (due to lackof funding by the contracting agency).  Theremaining net increase in operating expenses of approximately $1.2 million wasdue to various insignificant fluctuations in operating expenses at our otherAbraxas Youth and Family Services facilities and programs.

 

As a percentage of segment revenues, AbraxasYouth and Family Services operating expenses were 89.8% and 86.0% for the sixmonths ended June 30, 2008 and 2007, respectively.  As noted previously , the 2008 operatingmargin was negatively impacted by certain facilities, including the occupancydecline at the A-1 facility.

 

***AdultCommunity-Based Services.*** Adult Community-Based Services operatingexpenses decreased approximately $0.5 million, or 2.0%, to $24.9 million forthe six months ended June 30, 2008 from $25.4 million for the six monthsended June 30, 2007 due to various insignificant fluctuations inoperating expense at our Adult Community-Based Services facilities andprograms. As a percentage of segmentrevenues, Adult Community-Based Services operating expenses were 70.8% for thesix months ended June 30, 2008 compared to 76.2% for the six months ended June 30,2007.  The 2008 operating margin wasfavorably impacted by increased operations and a change in mix of servicesprovided during the period.

 

***Impairment of Long-Lived Assets.*** Weevaluate the realization of our long-lived assets at least annually or whenchanges in circumstances or a specific triggering event indicates that thecarrying value of the asset may not be recoverable.  As a part of our evaluation, we makejudgements regarding such factors as estimated market values and the potentialfuture operating results and undiscounted cash flows associated with individualfacilities or assets.  Additionally,should we decide to sell a facility or other such asset, realization isevaluated based on the estimated sales price based on the best marketinformation available. In conjunction with our review of certain of ourlong-lived assets based on estimated market values associated with theseassets, we determined that our carrying value for a currently vacant site wasnot fully recoverable and exceeded its fair value and, as a result, we recordedan impairment charge of $0.3 million in the six months ended June 30,2008.  This charge is included ingeneral and administrative expenses in the accompanying financial statements.

 

***Depreciationand Amortization*****.** Depreciation and amortization expense wasapproximately $8.4 million and $7.8 million for the six months ended June 30,2008 and 2007, respectively. Depreciation of property and equipment increased approximately $0.8million due to depreciation expense related to the activated facilityexpansions at the Big Spring Correctional Center and the D. Ray James Prison aswell as depreciation related to the High Plains Correctional Center acquired inMay 2007.  Amortization ofintangibles was approximately $1.0 million and $1.1 million for the six monthsended June 30, 2008 and 2007, respectively.

 

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***Generaland Administrative Expenses.*** General and administrativeexpenses decreased approximately $1.7 million, or 11.0%, to approximately $13.8million for the six months ended June 30, 2008 from $15.5 million for thesix months ended June 30, 2007 due primarily to the reimbursementof approximately $2.5 million of costs to Veritas related to the Terminated MergerAgreement.

 

***Interest.***Interest expense, net of interest income, decreased to approximately $11.9million for the six months ended June 30, 2008 from $12.6 million for thesix months ended June 30, 2007.  Forthe six months ended June 30, 2008, we capitalized interest ofapproximately $1.3 million related to the expansion projects at the D. RayJames Prison and the Great Plains Correctional Facility.  For the six months ended June 30, 2007,we capitalized interest of approximately $0.2 million related to the facilityexpansion projects at the Big Spring Correctional Center and the D. Ray JamesPrison.

 

***IncomeTaxes.*** For the six months ended June 30, 2008, we recognized aprovision for income taxes at an estimated effective rate of 43.1%.  For the six months ended June 30, 2007,we recognized a provision for income taxes at an estimated effective rate of43.9%.  The change in our estimatedeffective tax rate in 2008 was related to an increase in operating incomeacross certain of our business segments and the resulting decreased impact ofcertain non-deductible expenses such as lobbying and equity expenseattributable to certain share based awards.

 

***ContractualUncertainties Related to Certain Facilities***

 

***RegionalCorrectional Center.***In July 2007, we were notified by ICEthat it was removing all ICE detainees from the Regional Correctional Center.The withdrawal of all ICE detainees was completed in early August 2007.  In February 2008, ICE informed us that it wouldnot resume use of the facility. The facility is still being utilized by theUnited States Marshall Service (“USMS”), and since May 2008 by the BOP, but notat its full capacity.  OFDT holds thecontract on behalf of ICE, USMS and the BOP with the Bernalillo County (the “County”)through an intergovernmental services agreement, and we have an agreement withthe County.  In February 2008, OFDTattempted to unilaterally amend its agreement with the County to reduce thenumber of minimum annual guaranteed mandays under the agreement from 182,500 to66,300.  Neither we nor the Countybelieve OFDT has the right to unilaterally amend the contract in this manner,and OFDT has been informed of our position. Either party to theintergovernmental services agreement has the right to terminate upon 180 daysnotice.

 

Also, there is a motion pending in a lawsuit against the County concerningthe County jail system that could involve the Regional Correctional Center insuch case.  Jimmy McClendon and other plaintiffs sued the County infederal district court in the District of New Mexico in 1994 over conditions atthe county jail, which was then located at what is now the RegionalCorrectional Center and run by the County.  The County subsequently builttheir new Metropolitan Detention Center to house the County inmates and alsonegotiated two stipulated agreements in 2004 designed to end the McClendonlawsuit.  The court in that case is considering the application of thelawsuit to the Regional Correctional Center as a result of the County’sownership of the facility.  The County has informed us that, should thecourt rule that the case applies to the facility, it plans to appeal thedecision since the County does not believe McClendon should apply to RCC. We do not believe we are contractually obligated to bear any incremental costsof complying with McClendon although the County has expressed its desirefor us to absorb a portion of any costs that would be incurred. Should thecourt rule that the lawsuit applies to the facility, we would furtherdiscuss the matter with the County. We plan to continue to operate the facilityand also continue with our marketing plans for the Regional Correctional Center.

 

Revenues for this facility were approximately $4.0 million (including a$1.5 million contract-based revenue adjustment for the contract year ended March 2008)and $9.7 million for the six months ended June 30, 2008 and 2007,respectively. The net carrying value of the leasehold improvements for thisfacility was approximately $2.0 million and $3.0 million at June 30, 2008and December 31, 2007, respectively. Our lease for this facility requiresmonthly rent payments of approximately $0.13 million for the remaining term ofthe lease (through June 2009). To date, we do not have an alternativecustomer for this facility. Our inability to expand the existing population withcurrent or new customers could have an adverse effect on our financialcondition, results of operations and cash flows.  We believe that pursuant to the provisions ofSFAS No. 144, no impairment to the carrying value of the leaseholdimprovements for this facility has occurred.

 

***Hector Garza ResidentialTreatment Center.*********In October 2005, we initiated thetemporary closure of this leased facility in San Antonio, Texas. We reactivatedthe facility during the third quarter of 2007. The net carrying value for thisfacility was approximately $4.1 million and $4.2 million at June 30, 2008and December 31, 2007, respectively. We believe that, pursuant to the provisions of SFAS No. 144, noimpairment to the carrying value of this facility has occurred.

 

***ContractualObligations and Commercial Commitments*****.** We have assumed various financialobligations and commitments in the ordinary course of conducting our business.We have contractual obligations requiring future cash payments under ourexisting contractual arrangements, such as management, consultative andnon-competition agreements.

 

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We maintain operating leases in theordinary course of our business activities. These leases include those for operating facilities, office space andoffice and operating equipment, and the terms of these agreements range from2008 until 2075.  As of June 30,2008, our total commitment under these operating leases was approximately $25.7million.

 

The following table details our knownfuture cash payments (on an undiscounted basis) related to various contractualobligations as of June 30, 2008 (in thousands):

 
| ** **                              | ** ** | **Payments Due by Period** | ** ** |
|-----------------------------------------|------------|-------------------------------------------|------------|
| ** **                              | ** ** | ** **                                | ** ** | ** ** | ** ** | **2009 -** | ** ** | **2011 -** | ** ** | ** ** | ** ** |
| ** **                              | ** ** | **Total**                                 | ** ** | **2008** | ** ** | **2010** | ** ** | **2012** | ** ** | **Thereafter** | ** ** |
|                                    |       |                                      |       |   |   |   |   |   |   |   |   |
| **Contractual Obligations:**            |       |                                      |       |   |   |   |   |   |   |   |   |
| Long-term debt – principal         |       |                                      |       |   |   |   |   |   |   |   |   |
| ·  Cornell Companies, Inc.    |       | $                                         | 112,000    |   | $ | — |   | $ | — |   | $ | 112,000 |   | $ | — |   |
| ·  Special Purpose Entity          |       | 145,500                                   |       | 11,400 |   | 25,800 |   | 30,400 |   | 77,900 |   |
| Long-term debt – interest          |       |                                      |       |   |   |   |   |   |   |   |   |
| ·  Cornell Companies, Inc.    |       | 48,160                                    |       | 6,020 |   | 24,080 |   | 18,060 |   | — |   |
| ·  Special Purpose Entity          |       | 62,098                                    |       | 6,162 |   | 21,666 |   | 17,110 |   | 17,160 |   |
| Revolving line of credit-principal      |       |                                      |       |   |   |   |   |   |   |   |   |
| ·  Cornell Companies, Inc.    |       | 47,500                                    |       | — |   | — |   | 47,500 |   | — |   |
| Revolving line of credit-interest       |       |                                      |       |   |   |   |   |   |   |   |   |
| ·  Cornell Companies, Inc.    |       | 663                                       |       | 663 |   | — |   | — |   | — |   |
| Capital lease obligations               |       |                                      |       |   |   |   |   |   |   |   |   |
| ·  Cornell Companies, Inc.    |       | 32                                        |       | 12 |   | 20 |   | — |   | — |   |
| Construction commitments                |       | 37,651                                    |       | 31,651 |   | 6,000 |   | — |   | — |   |
| Operating leases                        |       | 25,720                                    |       | 7,485 |   | 9,463 |   | 1,661 |   | 7,111 |   |
| Consultative and non-compete agreements |       | 42                                        |       | 42 |   | — |   | — |   | — |   |
| Total contractual cash obligations      |       | $                                         | 479,366    |   | $ | 63,435 |   | $ | 87,029 |   | $ | 226,731 |   | $ | 102,171 |   |

 

Approximately$3.3 million of unrecognized tax benefits have been recorded as liabilities inaccordance with FIN 48 as of June 30, 2008 but are not included in the contractualobligations table above because we are uncertain as to if or when such amountsmay be settled.  Related to theunrecognized tax benefits not included in the table above, we have alsorecorded a liability for potential penalties of approximately $0.1 million andfor interest of approximately $0.3 million as of June 30, 2008.

 

Weenter into letters of credit in the ordinary course of operating and financingactivities.  As of June 30, 2008, wehad outstanding letters of credit of approximately $9.7 million primarily forcertain workers’ compensation insurance and other operating obligations.  The following table details our letters ofcredit commitments as of June 30, 2008 (in thousands):

 
| ** **                | ** ** | **Total**     | ** ** | **Amount of Commitment Expiration Per Period** | ** ** |
|---------------------------|------------|---------------|------------|-------------------------------------------------------------------------|------------|
| ** **                | ** ** | **Amounts**   | ** ** | **Less than**                                                      | ** ** | ** ** | ** ** | ** ** | ** ** | **More Than** | ** ** |
| ** **                | ** ** | **Committed** | ** ** | **1 Year**                                                         | ** ** | **1-3 Years** | ** ** | **3-5 Years** | ** ** | **5 Years** | ** ** |
| Commercial Commitments:   |       |          |       |                                                                    |       |   |   |   |   |   |   |
| Standby letters of credit |       | $             | 9,716      |                                                                    | $          | 8,966 |   | $ | 750 |   | $ | — |   | $ | — |   |
|                           |            |               |            |                                                                         |            |  |  |  |  |  |  |  |  |  |  |  |

 

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**ITEM 3.****                             ****Quantitative and Qualitative Disclosures about Market Risk**

 

In the normal course ofbusiness, we are exposed to market risk, primarily from changes in interest rates.  We continually monitor exposure to marketrisk and develop appropriate strategies to manage this risk.  We are not exposed to any other significantmarket risks, including commodity price risk or, foreign currency exchange riskor interest rate risks from the use of derivative financial instruments.  In conjunction with the issuance of theSenior Notes, we entered into an interest rate swap of $84.0 million related tothe interest obligations under the Senior Notes in effect converting them to afloating rate based on six-month LIBOR. We terminated the interest rate swap inOctober 2007.

 

**Credit Risk**

 

Due to the short duration of our investments, changes in marketinterest rates would not have a significant impact on their fair value.  In addition, our accounts receivables arewith federal, state, county and local government agencies, which we believereduces our credit risk. We regularly review our accounts receivable andmonitor our collection experience to manage the risk as described in ouraccounting policies in our 2007 Annual Report on Form 10-K.

 

**Interest Rate Exposure**

 

Our exposure to changesin interest rates primarily results from our Amended Credit Facility, as theseborrowings have floating interest rates. The debt on our consolidated financial statements at June 30, 2008 withfixed interest rates consist of the 8.47% Bonds issued by MCF, a specialpurpose entity, in August 2001 in connection with the 2001 Sale andLeaseback Transaction and $112.0 million of Senior Notes.  The detrimental effect of a hypothetical 100basis point increase in interest rates on our current borrowings under ourAmended Credit Facility would be to reduce income before provision for incometaxes by approximately $0.2 million for the six months ended June 30, 2008.  At June 30, 2008, the fair value of ourconsolidated fixed rate debt approximated carrying value based upon discountedfuture cash flows using current market prices.

 

**Inflation**

 

Other than personnel,offender medical costs at certain facilities, and employee medical and worker’scompensation insurance costs, we believe that inflation has not had a materialeffect on our results of operations during the past two years.  We have experienced significant increases inoffender medical costs and employee medical and worker’s compensation insurancecosts, and we have also experienced higher personnel costs during the past twoyears. Most of our facility management contracts provide for payments of eitherfixed per diem fees or per diem fees that increase by only small amounts duringthe term of the contracts. Inflation could substantially increase our personnelcosts (the largest component of our operating expenses), medical and insurancecosts or other operating expenses at rates faster than any increases in contractrevenues.

 

**ITEM 4.****                             ****Controls and Procedures**

 

**Evaluation ofDisclosure Controls and Procedures**

 

Wemaintain disclosure controls and procedures designed to provide reasonableassurance that information disclosed in our annual and periodic reports isrecorded, processed, summarized and reported within the time periods specifiedin the Securities and Exchange Commission’s rules and forms. In addition,we designed these disclosure controls and procedures to ensure that thisinformation is accumulated and communicated to management, including the chiefexecutive officer (CEO) and chief financial officer (CFO), to allow timelydecisions regarding required disclosures. SEC rules require that wedisclose the conclusions of our CEO and CFO about the effectiveness of ourdisclosure controls and procedures.

 

We do not expect that ourdisclosure controls and procedures will prevent all errors or fraud. A controlsystem, no matter how well conceived and operated, can provide only reasonable,not absolute, assurance that the objectives of the control system are met. Inaddition, the design of disclosure controls and procedures must reflect thefact that there are resource constraints, and the benefits of controls must beconsidered relative to their costs. Because of the inherent limitation in acost-effective control system, misstatements due to error or fraud could occurand not be detected.

 

Under the supervision and with the participation of our management,including our principal executive officer and principal financial officer, andas required by paragraph (b) of Rules 13a-15 and 15d-15 of theExchange Act, we have evaluated the effectiveness of the design and operationof our disclosure controls and procedures (as defined in Rules 13a-15(e) and15d-15(e) of the Exchange Act) as of the end of the period required bythis report. Based on that evaluation, our 

 

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principal executive officer and principal financial officer haveconcluded that these controls and procedures are effective as of that date.

 

**Changes in Internal Control over FinancialReporting**

 

In connection with the evaluation as requiredby paragraph (d) of Rules 13a-15 and 15d-15 of the Exchange Act, wehave not identified any change in our internal control over financial reporting(as such term is defined in Rules 13a-15(f) and 15d-15(f) underExchange Act) during our fiscal quarter ended June 30, 2008 that hasmaterially affected, or is reasonably likely to materially affect, our internalcontrol over financial reporting.

 

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**PART II****                          ****OTHER INFORMATION**

 

**ITEM 1.****                ****Legal Proceedings.**

 

See Part I, Item 1.Note 11 to the Consolidated Financial Statements, which is incorporated hereinby reference.

 

**ITEM 1A.****             ****Risk Factors.**

 

The risk factors aspreviously disclosed in our Form 10-K for the fiscal year endedDecember 31, 2007 are incorporated herein by this reference. There are nomaterial changes to such risk factors.

 

**ITEM 2.****                 Unregistered Sales of EquitySecurities and Use of Proceeds.**

 

None.

 

**ITEM 3.****                ****Defaults Upon Senior Securities.**

 

None.

 

## **ITEM 4.**                 Submission of Matters to aVote of Security Holders.

 

On June 12, 2008, the Company heldits 2008 Annual Meeting of Stockholders. The matters voted on at the meeting and the results thereof are asfollows:

 

1.        Stockholderselected the persons listed below as directors whose terms expire at the 2009Annual Meeting of Stockholders.  Resultsby nominee were:

 
| ** **                  | ** ** | ** **         | ** ** | **Authority** | ** ** |
|-----------------------------|------------|--------------------|------------|---------------|------------|
| ** **                  | ** ** | **Voted For** | ** ** | **Withheld**  | ** ** |
|                        |       |               |       |          |       |
| Max Batzer                  |       | 11,681,537         |       | 1,314,133     |       |
| Anthony R. Chase            |       | 11,331,647         |       | 1,664,023     |       |
| Richard Crane               |       | 11,332,647         |       | 1,663,023     |       |
| Zachary R. George           |       | 11,682,647         |       | 1,313,023     |       |
| Todd Goodwin                |       | 11,302,873         |       | 1,692,797     |       |
| James E. Hyman              |       | 11,225,088         |       | 1,770,582     |       |
| Andrew R. Jones             |       | 11,682,647         |       | 1,313,023     |       |
| Alfred Jay  Moran, Jr. |       | 11,302,647         |       | 1,693,023     |       |
| D. Stephen Slack            |       | 11,332,537         |       | 1,663,133     |       |

 

2.        Stockholdersratified the appointment of PricewaterhouseCoopers LLP as the Company’sindependent registered public accounting firm for the fiscal year ending December 31,2008 with 11,689,165 shares voted for, 1,286,762 shares voted against and19,743 shares abstained.

 

3.        Stockholdersrejected a shareholders proposal that the Company provide semi-annual reportsto shareholders regarding the Company’s political contributions and tradeassociation dues, with 3,867,921 shares voted for, 7,527,280 shares votedagainst and 387,764 shares abstained.

 

## **ITEM 5.**                 Other Information.

 

None.

 

**ITEM 6.**                 **Exhibits.**

 
|   |   | 31.1* |   | Section 302  Certification of Chief Executive Officer |
|--------|--------|-------|--------|------------------------------------------------------------|
|   |   | 31.2* |   | Section 302  Certification of Chief Financial Officer |
|   |   | 32.1* |   | Section 906  Certification of Chief Executive Officer |
|   |   | 32.2* |   | Section 906  Certification of Chief Financial Officer |

 

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|   |   | * |   | Filed  herewith. |
|--------|--------|---|--------|------------------|

 

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**SIGNATURES**

 

Pursuant to the requirements of Section 13 or 15(d) of theSecurities Exchange Act of 1934, the Registrant has duly caused this report tobe signed on its behalf by the undersigned, thereunto duly authorized.

 
| ** **                             | ** ** | **CORNELL COMPANIES, INC.**                                                                                                |
|----------------------------------------|------------|---------------------------------------------------------------------------------------------------------------------------------|
|                                   |       |                                                                                                                            |
|                                   |       |                                                                                                                            |
| Date:  August 8  , 2008 | By:        | /s/  James E. Hyman                                                                                                             |
|                                   |       | JAMES  E. HYMAN                                                                                                                 |
|                                   |       | Chief Executive Officer, President and Chairman   of the Board (Principal Executive Officer)                                    |
|                                   |       |                                                                                                                            |
|                                   |       |                                                                                                                            |
| Date:  August 8,  2008  | By:        | /s/  John R. Nieser                                                                                                             |
|                                   |       | JOHN  R. NIESER                                                                                                                 |
|                                   |       | Senior Vice President, Chief Financial Officer   and Treasurer (Principal Financial Officer and   Principal Accounting Officer) |

 

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