1 1 TRANSCRIPT OF PROCEEDINGS 2 BEFORE THE 3 TEXAS LOTTERY COMMISSION 4 AUSTIN, TEXAS 5 6 7 REGULAR MEETING OF THE § 8 TEXAS LOTTERY COMMISSION § THURSDAY, NOVEMBER 8, 2012 § 9 10 11 12 13 COMMISSION MEETING 14 THURSDAY, NOVEMBER 8, 2012 15 16 17 BE IT REMEMBERED THAT on Thursday, the 8th 18 day of November 2012, the Texas Lottery Commission 19 meeting was held from 1:00 p.m. until 4:17 p.m., at 20 the Offices of the Texas Lottery Commission, 611 East 21 6th Street, Austin, Texas 78701, before CHAIRMAN MARY 22 ANN WILLIAMSON and COMMISSIONERS J. WINSTON KRAUSE and 23 CYNTHIA TAUSS DELGADO. The following proceedings 24 were reported via machine shorthand by Aloma J. Kennedy, 25 a Certified Shorthand Reporter. 2 1 APPEARANCES 2 CHAIRMAN: Ms. Mary Ann Williamson 3 COMMISSIONERS: 4 Mr. J. Winston Krause Ms. Cynthia Tauss Delgado 5 GENERAL COUNSEL: 6 Mr. Robert F. Biard 7 EXECUTIVE DIRECTOR: Mr. Gary N. Grief 8 ACTING DIRECTOR, CHARITABLE BINGO OPERATIONS: 9 Mr. Bruce A. Miner 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 3 1 TABLE OF CONTENTS 2 PAGE 3 PROCEEDINGS - THURSDAY, NOVEMBER 8, 2012 ........... 7 4 AGENDA ITEM NO. I - Meeting Called to Order ........ 7 5 AGENDA ITEM NO. II - Report, possible discussion and/or action on the 2012 demographic report on 6 lottery players .................................... 7 7 AGENDA ITEM NO. III - Report, possible discussion and/or action on lottery sales and revenue, game 8 performance, new game opportunities, advertising, market research, trends, and game contracts, 9 agreements, and procedures ......................... 20 10 AGENDA ITEM NO. IV - Report, possible discussion and/or action on transfers to the State and the 11 agency’s budget status ............................. 24 12 AGENDA ITEM NO. V - Consideration of and possible discussion and/or action, including proposal, on 13 amendments to 16 TAC §401.305 “Lotto Texas” On-Line Game Rule .................................. 26 14 AGENDA ITEM NO. VI - Consideration of and possible 15 discussion and/or action on the Lotto Texas procedures ......................................... 42 16 AGENDA ITEM NO. VII - Consideration of and 17 possible discussion and/or action, including proposal, on amendments to 16 TAC §402.450 18 Request for Waiver ................................. 44 19 AGENDA ITEM NO. VIII - Consideration of and possible discussion and/or action, including 20 proposal, on amendments to 16 TAC §402.453 Request for Operating Capital Increase ............. 44 21 AGENDA ITEM NO. IX - Consideration of and 22 possible discussion and/or action, including proposal, on amendments to 16 TAC §402.503 23 Bingo Gift Certificates ............................ 44 24 25 4 1 TABLE OF CONTENTS PAGE 2 AGENDA ITEM NO. X - Report, possible discussion 3 and/or action on agency contracts, including amendments on the contract for instant ticket 4 manufacturing and services with Scientific Games International; extension of the contract for 5 surveillance camera products and related services; and procurements for audit services, 6 statistical consulting services, lottery drawings audit services and drawing studio and 7 production services ................................ 47 8 AGENDA ITEM NO. XI - Report, possible discussion and/or action on the 82nd and/or the 9 83rd Legislature ................................... 48 10 AGENDA ITEM NO. XII - Consideration of and possible discussion and/or action on external 11 and internal audits and/or reviews relating to the Texas Lottery Commission, and/or on the 12 Internal Audit Department’s activities, including the Fiscal Year 2013 Internal Audit 13 Activity Plan and the Internal Audit of the Prize Payment Account .............................. 51 14 AGENDA ITEM NO. XIII - Report, possible 15 discussion and/or action on GTECH Corporation ...... 87 16 AGENDA ITEM NO. XIV - Report by the Executive Director and/or possible discussion and/or 17 action on the agency’s operational status, agency procedures, awards, and FTE status .......... 97 18 AGENDA ITEM NO. XV - Report by the Acting 19 Charitable Bingo Operations Director and possible discussion and/or action on the Charitable Bingo 20 Operations Division’s activities, including updates on licensing, accounting and audit 21 activities, pull-tab review, special projects, and upcoming operator training ..................... 99 22 23 24 25 5 1 TABLE OF CONTENTS 2 PAGE 3 AGENDA ITEM NO. XVI - Consideration of the status and possible entry of orders in: 4 A. Docket No. 362-12-7279 – 99 Cent Plus Gas 5 B. Docket No. 362-12-7280 – Corner Stop C. Docket No. 362-12-7859 – Big Pine 6 Liquor Store D. Docket No. 362-12-7863 – Step N Go 7 E. Docket No. 362-12-7864 – One Eye Jack’s F. Docket No. 362-12-7865 – Alma Discount 8 Grocery Store G. Docket No. 362-12-7866 – Josh’s Mini 9 Mart H. Docket No. 362-12-7868 – Diamond Food 10 Mart #6 I. Docket No. 362-12-8086 – Mercado Food & 11 Fuels J. Docket No. 362-12-4863.B – Millios 12 Youth Outreach and Motivational Services ............................... 100 13 AGENDA ITEM NO. XVII - Public comment .............. 102 14 AGENDA ITEM NO. XVIII - Commission may meet 15 in Executive Session: A. To deliberate the duties and evaluation 16 of the Executive Director pursuant to Section 551.074 of the Texas Government 17 Code. B. To deliberate the duties and evaluation 18 of the Internal Audit Director pursuant to Section 551.074 of the Texas Government 19 Code. C. To deliberate the appointment, employment, 20 duties and/or evaluation of the Acting Charitable Bingo Operations Director 21 pursuant to Section 551.074 of the Texas Government Code. 22 D. To deliberate the appointment, employment, and/or duties of the Charitable Bingo 23 Operations Director pursuant to Section 551.074 of the Texas Government Code. 24 E. To deliberate the duties of the General Counsel pursuant to Section 551.074 of the 25 Texas Government Code. 6 1 TABLE OF CONTENTS 2 PAGE 3 F. To deliberate the duties of the Human Resources Director pursuant to Section 4 551.074 of the Texas Government Code. G. To receive legal advice regarding pending 5 or contemplated litigation pursuant to Section 551.071(1)(A) and/or to receive 6 legal advice regarding settlement offers pursuant to Section 551.071(1)(B) of the 7 Texas Government Code and/or to receive legal advice pursuant to Section 551.071(2) 8 of the Texas Government Code, including but not limited to: 9 Department of Texas, Veterans of Foreign Wars et al. v. Texas Lottery 10 Commission et al. Willis Willis v. Texas Lottery 11 Commission, GTECH Corporation, BJN Sons Corporation d/b/a Lucky Food 12 Store #2, Barkat N. Jiwani and Pankaj Joshi 13 Employment law, personnel law, procurement's and contract law, 14 evidentiary and procedural law, and general government law .................. 102 15 AGENDA ITEM NO. XIX - Return to open session for 16 further deliberation and possible action on any matter discussed in Executive Session .............. 104 17 AGENDA ITEM NO. XX - Consideration of and possible 18 discussion and/or action on the appointment, employment, and/or duties of the Charitable Bingo 19 Operations Director ................................ 104 20 AGENDA ITEM NO. XXI - Adjournment .................. 107 21 REPORTER'S CERTIFICATE ............................. 107 22 23 24 25 7 1 P R O C E E D I N G S 2 THURSDAY, NOVEMBER 8, 2012 3 (1:00 p.m.) 4 AGENDA ITEM NO. I 5 CHAIRMAN WILLIAMSON: Good morning. I 6 would like to call the meeting of the Texas Lottery 7 Commission to order. Today is November 8, 2012. The 8 time is 1:00 p.m. Commissioners Krause and Delgado are 9 present, so we do have a quorum. 10 AGENDA ITEM NO. II 11 CHAIRMAN WILLIAMSON: The first item is 12 report, possible discussion and/or action on the 2012 13 demographic study. 14 Mr. Fernandez, please. 15 MR. FERNANDEZ: Good afternoon, 16 Commissioners. My name is Mike Fernandez. I'm the 17 Director of Administration. 18 Item No. II on your agenda, as the Chair 19 pointed out, is the presentation of the 2012 demographic 20 study. As you know, Section 466.021 of the Texas 21 Government Code states that the Executive Director will 22 every two years employ an independent firm experienced 23 in demographic analysis to perform a demographic study 24 of lottery players. Also that that report will be 25 provided to the Commission, to the Governor and to the 8 1 members of the Legislature. 2 This year, the demographic study was 3 conducted by the University of Houston, Center for 4 Public Policy. Presenting for them is their director, 5 Dr. Jim Granato. 6 DR. GRANATO: Thank you very much. 7 For the record, my name is Jim Granato, 8 and I direct the Hobby Center for Public Policy at the 9 University of Houston. And here are the results of the 10 2012 demographic survey. In keeping with the past, we 11 were asked to survey approximately 1,700 respondents. 12 We have not only a landline component but a cell phone 13 component. That's in keeping with the continuing 14 movement away from landlines to cell phone only. 15 The cell phone population tends to be much 16 younger. And without using that type of sampling split, 17 you would not have a representative sample of younger 18 respondents. So in this sample, the split is 70 percent 19 with landline, 30 percent with cell phone. The margin 20 of error in our results is plus or minus 2.4 percent. 21 The first thing I want to present is the 22 revenue forecast. Given our algorithm, we predicted in 23 the last year $3.23 billion would be incurred in terms 24 of revenue. That's margin of error plus or minus 25 2.4 percent. So the upper bound is 3.3 billion; the 9 1 lower bound in 3.15 billion. Now a word about that 2 figure: The actual result for the (inaudible) is 3 3.8 billion, so it's underforecast. 4 Now, there is a sensitivity issue here. 5 We asked people what they recollect they spent in a 6 month. So imagine if it's not -- the average we found 7 for the monthly expenditure was about $39. But imagine 8 if they got it wrong by $10, and it was actually $50. 9 The upper bound then becomes $4 billion. But imagine 10 it's the other way, they underestimate and they're at 11 $30 a month. Then the upper bound becomes 2.4 billion. 12 So if they have failed to recollect 13 correctly -- since we aren't asking for receipts and 14 it's just by memory -- that figure we give for the 15 forecasted revenue is subject to some fluctuation, 16 because of the issue of people not accurately 17 remembering how much they spent. It's a guess. 18 General findings, the participation rates 19 was down. I think last year it was approximately 20 39 percent. This year it's 36.2 percent. 21 Next issue was how much folks spent in a 22 month. You'll notice that it went up by $8.00. So in 23 2011, the average amount spent was $31. This past year 24 it was $39, almost $40. And that figure has not been 25 reached since 2009. You have to go back to 2009 to get 10 1 something that's greater. 2 In terms of differences between players 3 and non-players, a couple of things stand out. The 4 first thing is, the year difference. Again, 5 participation rate is down and it's statistically 6 significant. That is the change in participation is not 7 occurring by chance. We believe it is outside the 8 bounds of just random occurrence. So the drop in 9 participation was real, although not very large. 10 Another issue that we found was that there 11 were significant differences between players and 12 non-players, based on income. People that play the 13 lottery tend to earn more money. People that don't play 14 the lottery tend to earn less money, based on our income 15 statistics that we use in the distributions we're using. 16 And finally, employment status. 17 Individuals who play the lottery as opposed to 18 individuals that don't, the people that played, they 19 tend to be employed full-time. So if you're employed 20 full-time, you're more likely to play. In addition, if 21 you're retired, you're less likely to play. Those are 22 the two categories that stood out when we look at 23 employment status. 24 Now, for the game results, the individual 25 game results, participation rates are up, are 11 1 statistically the same from last year, and I'll go 2 through some figures in a little bit. The frequency of 3 purchase, in general, monthly purchases or purchases a 4 few times a year are up, but weekly purchases are down. 5 The exceptions are scratch-off and Megaplier. Their 6 weekly figures are up. Mega Millions and Powerball, 7 their monthly figures are down. 8 The average time played is mixed. Some 9 games it's up, some games it's down. There's no clear 10 pattern here. In terms of average dollars spent for 11 play, consistent with our aggregate finding, it's up for 12 all games, so people are spending more. One of the 13 things we noticed is that there is a tendency for people 14 to play more games and not just playing one game. 15 In terms of demographic differences 16 between this year and last year for a variety of 17 games -- for example, we went through about eight games, 18 which has been the practice in the past -- for Pick 3 19 Day, we find that there is a significant increase from 20 last year to this year in terms of people that play. 21 There is also a difference in race this year as opposed 22 to last year. People that label themselves or respond 23 as being black, they're playing at a greater percentage 24 than last year for Pick 3 Day. 25 For Cash 5, there is a relation between 12 1 education and income. For education, if you had less 2 than a high school education, you played more. As your 3 education went up to college level and even post- 4 graduate level, your participation went down. 5 For Lotto Texas, Lotto Texas, this is the 6 game that the older folks play, so my mom would play 7 this game. Related to your income in this case, as 8 income goes up, above 40,000, there is a tendency to 9 play Lotto Texas more. If you have an Hispanic origin, 10 there is a drop in people that label themselves -- I 11 mean, Hispanic origin from last year. And finally, as 12 you get older, the older item in the distribution, 13 you're more likely to play Lotto Texas. 14 For scratch-off, education was the 15 deciding demographic variable. And, by the way, then 16 I'm listing those variables up there, those are the ones 17 that are statistically significant. We go through a 18 panel of demographic indicators, and these are the ones 19 that are statistically significant. So the differences 20 I'm discussing with you didn't occur by chance. For 21 scratch-off, education was the variable that stood out. 22 In that case, as your education level went up, your 23 participation rate went down. 24 For Two-Step, the relationship between 25 education and income had a decisive factor. For 13 1 education, as your education level went up, playing 2 Two-Step, the participation for that went down. For 3 income, as your income level went up, you were less 4 likely to play. For Mega Millions, the only demographic 5 issue here in terms of participation was, there was an 6 increase over the prior year. Megaplier, the same thing 7 held. And for Powerball, Hispanic origin, if you were 8 of Hispanic origin in 2012 as opposed to 2011, you were 9 less likely to play in 2012. 10 Here are some figures that represent the 11 percentages of people playing. Again, as I've already 12 stated, you can see this is the historic time series of 13 the raw percentage playing for any game. As you can 14 see, there has been a trend since about 2003 -- you can 15 even say 2001 -- where there has been a drop in 16 participation with fluctuations around a trend. If you 17 were to ask me the average between 2006 and 2012, I 18 would probably say it's about -- what? -- 37 percent, 19 hovering around there, plus or minus, maybe 38 percent. 20 But you can see there is a drop between 2011 and 2012 21 from 40.5 percent down to 36.2 percent. Again, that is 22 statistically significant. 23 For Pick 3 Day, you see a substantial 24 increase in participation, from 18, 19 percent to 25 24 percent. We have not seen a figure that large since 14 1 2006. So Pick 3 Day did pick up, no pun intended. For 2 Cash 5 stability, it's about the same, 2011-2012 about 3 the same. But notice there is a big increase between 4 2011 and 2012 from 2010. So again, the trend is rising 5 and it's looking more and more like the 2007 to 2009 6 period. 7 For Lotto Texas, this is the most popular 8 game. And again, I think the reason why is because of 9 the age distribution here. A lot of people that are up 10 in age play this game. It's about the same as last 11 year, about 72 percent. So there is no difference 12 between this year and last year in terms of people 13 playing Lotto Texas. 14 For scratch-off, slight increase. From 15 2011, we moved from about 57 percent to a little over 58 16 and a half percent. Again, that's larger, though, than 17 we had in 2010, so it looks like there is a slight trend 18 building up in terms of participation with Scratch-off. 19 For Two-Step, we moved from 11.1 percent 20 in 2011, to 14. But notice, unlike a lot of the other 21 games -- particularly participation rates that in 22 general declined -- this one has been fairly steady all 23 the way through. 24 Mega Millions, substantial increase, 25 highest ever in the survey. So we moved from 50, about 15 1 51 percent, to 62. So for some reason, people engage in 2 this game more than others or in past Mega Millions -- 3 whatever -- if there was any type of intervention here 4 to advertise this game, it worked, and that's 5 statistically significant. 6 For Megaplier, moving from 14.4 percent up 7 to 19 percent, again, that's a very high figure relative 8 to the past nine years. You have to look back to 2005 9 for that large a percentage. 10 And I'll be glad to answer any questions 11 that you have. 12 CHAIRMAN WILLIAMSON: Thank you. 13 Commissioners, do you have any questions? 14 COMMISSIONER DELGADO: Yes. 15 COMMISSIONER KRAUSE: Let her go. Come 16 on. 17 COMMISSIONER DELGADO: Okay. I'll go 18 first. 19 Regarding the cell phone, you had 20 30 percent for this year. Is that up from last year or 21 do you recall? 22 DR. GRANATO: Yes, ma'am. Last year I 23 think we were at 18 percent. We may have substantially 24 increased. And that's looking at the literature. So we 25 just wanted -- we thought it was time to start bouncing 16 1 that -- pushing it up, because that's accelerating, I 2 mean, and it's of concern to survey, you know, the 3 polling firms everywhere. 4 COMMISSIONER DELGADO: So you will just 5 every year keep up any -- 6 DR. GRANATO: We will try and stay with 7 what the convention is for that. That's what we'll do. 8 We don't want to get in front of other folks because, 9 you know, it's not we don't have that kind of expertise, 10 but we want to stick with what the literature and people 11 that study that are doing. 12 One of the things about response rates I 13 should add. I mean, given the response rates -- we use 14 a random digit dial system which everybody uses for the 15 most part -- the response rate has held steady in the 16 last few years. I mean, it's still in the twenties, 17 which is good enough for a phone survey, trust me. 18 And from looking at the last presidential 19 election, the response rates there were seen in the area 20 of 9 to 11 percent, which is just -- that gets scary in 21 terms of representativeness. So we're still in the 22 twenties, which is -- now it looks like in the seventies 23 when it was in the seventies, but that's when we only 24 had landlines. So response rates are steady. 25 COMMISSIONER KRAUSE: So your study finds 17 1 that the average player spends $39 a month? 2 DR. GRANATO: Correct. 3 COMMISSIONER KRAUSE: Okay. So since this 4 is entertainment money, if a man takes his wife out to 5 movie and buys a bucket of popcorn and two drinks, 6 that's 40 bucks. So we're competing with other things, 7 including people that bet on football. Okay? And so 8 it's a conscious choice. I happen to believe that our 9 players are intelligent, which seems to be confirmed by 10 your study that says that the lower income folks and 11 then the retired folks don't play, tend to play quite as 12 much as the people who are fully employed and have 13 higher incomes. 14 DR. GRANATO: That's our finding. 15 COMMISSIONER KRAUSE: So it's 16 discretionary and it's entertainment, so I think it's 17 healthy. And so, you know, for those who say, "Well, 18 this is a regressive tax," well, I always want to say 19 that a tax is not discretionary. And so it's a forced 20 exaction and this is not. 21 I don't think that you should feel bad 22 about the fact that you, you know, mis-estimated, 23 because we can't predict when we get big jackpots. We 24 had -- was it the world record Mega Millions or was it 25 Powerball? 18 1 MR. GRIEF: Mega Millions. 2 COMMISSIONER KRAUSE: Mega Millions. It 3 was almost a billion dollars. We heard colloquial 4 stories about people going and buying $20,000 worth of 5 tickets in a single day. So that's why, you know, I'm 6 not surprised that it's up, you know. And lower income 7 people don't come to the store with $20,000. So I think 8 that we're hitting the right demographic. 9 So anyway. 10 DR. GRANATO: Can I add two things about 11 the -- 12 COMMISSIONER KRAUSE: Sure, sure. 13 DR. GRANATO: The first is, we have sales 14 districts. We can break down that 36.9 percent figure 15 by sales districts. And if you look at Table 3 in the 16 report, you'll see that for the most part, there is some 17 stability. We saw a very sharp drop-off in Houston 18 Southwest. It went from 40 percent last year to 19 25 percent this year. You go to the answer, why that 20 happened, but that's where there was a huge drop-off. 21 And since Houston is such a big part in Harris County, 22 big part of the sample, that could be driving why it 23 went down this year as opposed to last year. And again, 24 we don't have any follow-up questions why that happened. 25 But Houston Southwest, for some reason there was a 19 1 significant drop last year. 2 And McAllen, I believe, is where you had 3 the biggest proportion -- but at any rate, it's in 4 Table 3. You can reference it there and see the 5 stability of the people that played last year in those 6 various sales districts versus places that they don't. 7 One thing about participation is this: 8 With the Internet, we have Internet gambling. In 9 addition to the things that you were talking about, 10 Commissioner, about people that have alternative uses 11 for entertainment, if you wanted to gamble on the 12 Internet, those are competitors. And that can only 13 be -- 14 COMMISSIONER KRAUSE: Well, they're not 15 only competitors, but some of that is relatively new. 16 And so when we see the drop-off from when lottery 17 started, it ran up, and then it's been consistently 18 declining, you know, it's because we have more 19 competition on the Internet space. 20 DR. GRANATO: That's correct. There are 21 more options for people. 22 COMMISSIONER KRAUSE: Anyway, I think 23 there's a lot to like in your report, and makes me feel 24 like we're doing a responsible job of doing our business 25 here. 20 1 CHAIRMAN WILLIAMSON: All right. Thank 2 you. 3 Any other questions? 4 All right. Thank you. 5 AGENDA ITEM NO. III 6 CHAIRMAN WILLIAMSON: Let's go on to the 7 next item. It's report, possible discussion and/or 8 action on lottery sales and revenue, game performance, 9 new games opportunities, advertising, market research, 10 trends, and game contracts, agreements and procedures. 11 Kathy and Robert, please. 12 MS. PYKA: Good afternoon, Commissioners. 13 My name is Kathy Pyka. I'm the Controller for the 14 Commission. And with me to my right is Robert Tirloni, 15 our Products Manager. 16 Commissioners, the first chart that we 17 have for you this afternoon is our sales comparison with 18 sales through Saturday, November 3, 2012. Our total 19 Fiscal Year 2013 sales at this point are $701.9 million. 20 This is a $31.1 million increase, or 4.6 percent, as 21 compared to the same period in Fiscal Year 2012. 22 And as we look at the instant ticket 23 sales, those are reflected on the second blue bar for 24 Fiscal Year 2013. We're at $519.3 million, which is a 25 $25.9 million increase over the same period for last 21 1 fiscal year. We continue to see exceptional year-over- 2 year increases in instant ticket sales. And our 3 cumulative percentage increase right now is 5.3 percent 4 over last fiscal year. 5 Our draw sales are noted on the second red 6 bar for Fiscal Year 2013, and they're at $182.6 million, 7 which is a $5.2 million increase over last fiscal year. 8 And I would like to move to the next 9 slide, which is our cumulative average daily sales 10 comparison that includes Fiscal Years 2011, 2012 and 11 2013. So moving towards the bottom of the chart, you 12 will see that our average daily sales rate for Fiscal 13 Year 2013 is just over $11 million. As we look at that 14 compared to 2012, you'll notice that's an $844,000 daily 15 increase over Fiscal Year 2012, and it's $1.375 million 16 increase over Fiscal Year 2011. 17 So I would like to focus first on the 18 jackpot games. Those are highlighted in the white font. 19 And you can see we're at $1.48 million for Fiscal Year 20 2012 -- or '13. Excuse me -- and that is $124,000 21 decline from last fiscal year and $137,000 increase over 22 Fiscal Year 2011. 23 As we look at the games, you can see Lotto 24 Texas is slightly down, as well as Mega and Megaplier. 25 Powerball is up compared to the previous fiscal year. 22 1 Power Play and Texas Two-Step are slightly down. 2 Moving on to our daily games highlighted 3 in the white font, we're at $1.4 million for Fiscal Year 4 2013. This is slightly over a $300,000 increase 5 compared to Fiscal Year 2012. And we would like to 6 highlight here the new addition of our All or Nothing 7 game that began in September of this fiscal year. 8 You'll notice that we've got a $317,000 daily average 9 for this game. We now have cumulative sales for the 10 game of $17.8 million for this fiscal year, and so we're 11 quite pleased with those sales results of this new 12 product. 13 And then moving down to the bottom, we see 14 that our instant ticket product is at $8.1 million, is 15 our daily average for Fiscal Year 2013. This is a 16 $638,000 increase over last fiscal year and a $928,000 17 increase over Fiscal Year 2011. 18 So with that, Robert will now provide an 19 overview of actual sales to date. 20 MR. TIRLONI: Good afternoon, 21 Commissioners. For the record, I'm Robert Tirloni, 22 Products Manager for the Commission. 23 This slide is representing Fiscal Year '13 24 versus Fiscal Year '12. Sales through the week ending 25 Saturday, November 3rd, same format as the previous 23 1 slide. Up at the top are our jackpot games. Slight 2 declines on everything except Powerball. Again, that's 3 due to jackpot levels from the previous fiscal year. 4 The green in the middle are the daily game 5 sales. We are seeing increases on Daily 4 of 6 $1.2 million. And we are seeing new sales, of course, 7 from All or Nothing. As Kathy mentioned, through the 8 week ending November 3rd, we have just under $18 million 9 in All or Nothing sales. 10 One other note on that game: We have had 11 11 top prize winners thus far. And you will remember, 12 you can win by matching all 12 numbers or you can win by 13 matching zero numbers. And so out of the 11, we've had 14 eight players who have won by matching zero. So eight 15 out of the 11 have won by matching zero. So we're very 16 pleased, as Kathy mentioned, with how All or Nothing is 17 performing thus far. 18 So for the daily games as a whole, you'll 19 see that we've up $16.4 million. And when you look at 20 the draw games as a category, we are seeing a 21 $5.2 million increase. 22 Strong start to instants for the fiscal 23 year. We are up just under $26 million. And I have 24 given you samples of all of our holiday scratch-off 25 games. And so we have scratch-off games available for 24 1 the holiday season at every price point except the 50. 2 And all of these are already in market except for one. 3 The $5.00 Happy Holidays games starts on Monday, 4 November 12th. We always do two $5.00 holiday games, 5 because of the $5.00 being our best selling price point. 6 So those have all started, and we're tracking the 7 performance of those games. But it's a good -- it's a 8 good mix of holiday games that we have again in the 9 market this year, and we've received positive comments 10 about those. 11 And to sum everything up thus far, Fiscal 12 '13 versus Fiscal '12, after about two months, is 13 yielding a $31 million increase. 14 CHAIRMAN WILLIAMSON: Great. Okay. 15 Anything else? 16 MR. TIRLONI: No, ma'am, unless you-all 17 have any questions. 18 CHAIRMAN WILLIAMSON: Commissioners, do 19 you have any questions? 20 COMMISSIONER DELGADO: No, ma'am. 21 CHAIRMAN WILLIAMSON: All right. Thank 22 you. 23 AGENDA ITEM NO. IV 24 CHAIRMAN WILLIAMSON: Let's go on to the 25 next item, report, possible discussion and/or action on 25 1 transfers to the state and the agency's budget status. 2 Kathy, please. 3 MS. PYKA: Thank you, Madam Chair. Again 4 for the record, my name is Kathy Pyka, Controller for 5 the Commission. 6 Commissioners, the first report in your 7 notebook includes the transfers and allocations to the 8 Foundation School Fund, the Texas Veterans Commission 9 and the allocation of unclaimed prizes for the period 10 ending September 30, 2012. 11 Our total cash transfers to the state 12 amounted to $82 million for the first month of the 13 fiscal year. The second page of your notebook includes 14 the detailed information for that transfer to the state. 15 Of the $82 million transfer, $81.9 million was the 16 amount transferred to the Foundation School Fund. We 17 transferred $626,000 to the Texas Veterans Commission. 18 And the balance of $573,000 was reduced from the 19 unclaimed lottery prize accrual for September. 20 Commissioners, this represents a 21 14.5 percent increase, or $10.4 million, over the amount 22 transferred to the Foundation School Fund through 23 September of 2011. 24 I also wanted to note, the cumulative 25 document in your notebook includes our cumulative 26 1 transfers to the Foundation School Fund are now at 2 $14.8 billion. 3 The final item under this tab is our 4 agency's Fiscal Year 2012 method of finance summary for 5 the year ending August 31, 2012. Our Commission's 6 lottery account budget for the fiscal year was 7 $201.2 million. And of that amount, we expended 8 94 percent for the fiscal year. Our Bingo operations 9 budget funded by general revenue was $14.9 million, 10 Commissioners, and we expended and encumbered of that 11 total 99.8 percent of the total budget. 12 With that, I would be happy to answer any 13 questions. 14 CHAIRMAN WILLIAMSON: Thank you. 15 Commissioners, do you have any questions? 16 COMMISSIONER DELGADO: No, ma'am. 17 CHAIRMAN WILLIAMSON: All right. 18 MS. PYKA: Thank you. 19 CHAIRMAN WILLIAMSON: Thank you, Kathy. 20 AGENDA ITEM NO. V 21 CHAIRMAN WILLIAMSON: The next item is 22 consideration of and possible discussion and/or action, 23 including proposal, on amendments to 16 TAC 401.305, 24 "Lotto Texas" on-line game rule. 25 Bob, Robert and Kathy, please. 27 1 MR. BIARD: Good morning, Commissioners. 2 I'm Bob Biard, General Counsel. 3 Robert and Kathy are helping out on this 4 item with the power point presentation. This item is 5 for proposed amendments to the Commission's Lotto Texas 6 on-line game rule. The purpose of the proposed 7 amendments is to add a new add-on game feature called 8 "Extra," that Robert will describe here in a moment, to 9 increase the length of the annutized prize payment 10 period from 25 years to 30 years and to make certain 11 clarifications to the rule language. 12 We have a public hearing scheduled for 13 December 5, 2012, at 11 o'clock in this auditorium. And 14 our recommendation is that you initiate the rulemaking 15 process by publishing the proposed amendments in the 16 Texas Register in order to receive public comments for a 17 period of 30 days. 18 And I'll let Robert and Kathy make their 19 presentation. 20 MR. TIRLONI: Thanks, Bob. 21 Once again for the record, Robert Tirloni, 22 Products Manager for the Commission. 23 Commissioners, Lotto Texas is celebrating 24 its 20th anniversary this month. So when the lottery 25 started back in 1992, we started with scratch-off game 28 1 sales in May. And then a few months later, we 2 introduced the very first drawing game, which was Lotto. 3 So that game started in November, on the 7th, and the 4 first drawing for that game was on November 14th. 5 So we feel we have a lot of brand equity 6 in Lotto Texas. This agency is often incorrectly 7 referred to as the Texas Lotto Commission. I have been 8 in numerous focus groups where I've heard players refer 9 to our scratch-off games as scratch-off lottos or lotto 10 scratcher games. We have a high level of game 11 awareness. And I think you heard that a moment ago in 12 the University of Houston study. 13 We also do other market research through 14 one of our research vendors, Ipsos Reid. And in terms 15 of game awareness, there are more adult Texans that are 16 aware of Lotto Texas than any other game that we offer 17 in our entire portfolio. So the Texas Lottery and Lotto 18 Texas are very closely intertwined and very closely 19 connected. 20 At this point, I want to make a note about 21 in state lotto games across the U.S. There are 45 22 lottery jurisdictions in the U.S. And out of those 45 23 lottery jurisdictions, there are 16 that have in-state 24 lotto games. Of course, we're one of those 16. Many 25 states, because of Mega Millions and Powerball, they've 29 1 had to phase out their in-state lotto game. And the 2 reason for that is, Mega Millions and Powerball have 3 occupied the big multi-million dollar jackpot portion of 4 the portfolio. And so for many states, the in-state 5 game has either been phased our or it's just grown to be 6 a smaller part of that portfolio. 7 In Texas, we're very fortunate that our 8 Lotto game is still a very important part of the 9 portfolio and that we're actually able to continue to 10 support it, in addition to being a part of the two other 11 multi-state games, Powerball and Mega Millions. 12 So this is the slide we showed you a 13 couple of months ago. This was the year-end slide for 14 Fiscal '12, when we were comparing our Fiscal Year '12 15 results to Fiscal Year '11. What I wanted to show was 16 the importance of Lotto, as I mentioned a moment ago, to 17 us. So you can for Fiscal '11, Lotto sold 18 $172.5 million. So it outsold Powerball, and it was 19 very close, a close second in the jackpot category to 20 Mega Millions. 21 In Fiscal '12, we talked about Mega 22 Millions a few moments ago. Because of the world 23 record-breaking jackpot, Commissioner Krause, that you 24 mentioned, we saw a big uptick in Mega Millions sales to 25 $211 million. But you'll see that Lotto actually was 30 1 not too far behind Powerball in terms of sales. And 2 when you look at it through the whole draw game 3 portfolio, you see that other than Pick 3, which is our 4 best selling on-line game or our best selling draw game, 5 Lotto still generates a significant amount of sales for 6 this agency. 7 Kathy is going to take you through a 8 couple of slides to kind of paint the picture of where 9 we are currently, and then I'll be back to present some 10 recommendations that we have for the Lotto Texas game. 11 MS. PYKA: Commissioners, while the Lotto 12 Texas game was designed to yield a preferred prize 13 payout of 50 percent, this slide notes the actual prize 14 payout for the last four fiscal years for the game, and 15 adjusted for unclaimed prizes. 16 So in Fiscal Year 2009, prize payout for 17 the game was 50 percent. In Fiscal Year 2010, that 18 prize payout increased to 52 percent, followed by an 19 increase to 59 percent in Fiscal Year 2011. And then 20 Fiscal Year 2012 wrapped up with 64 percent. 21 So what we would like to discuss today are 22 factors that we believe have contributed to this overall 23 higher prize payout for the Lotto Texas game. And two 24 of those three factors that we want to talk about on the 25 next slide include decreasing sales of the Lotto game 31 1 over time, as well as historically low interest rates 2 and how that has impacted Lotto Texas. 3 So with that, we'll have Robert move on to 4 the next slide. And, Commissioners, this slide includes 5 historical sales outlined on the blue bars. They are 6 included in six-month segments, beginning with Fiscal 7 Year 2006. The first six months of it are outlined from 8 September '05 to February '06. And the sales data 9 continues all the way through Fiscal Year 2012. 10 So to give you just a snapshot comparison, 11 when we look at the first two blue bars for Fiscal Year 12 2006, our sales were $241.7 million for that fiscal 13 year. And as we recall from the last slide, we know 14 that sales for 2012 wrapped up at $169.7 million. This 15 is a decrease of $72 million from that time period, or a 16 30 percent reduction in sales for the game. 17 The next slide -- and we would like to 18 include or highlight on this slide is our interest 19 factor. Interest factor is noted on this chart with the 20 red line. Kind of maybe take a step back and discuss 21 interest factor. The factor that we use for the 22 calculation of the jackpots is -- actually, it's a quite 23 integral part of calculating what that advertised 24 jackpot is going to be. 25 Prior to each jackpot, we reach out to our 32 1 Texas treasury, and we seek the cost of the investment 2 and what that cost is, to yield the jackpot value over a 3 25-year payment period. And due to relationship between 4 interest factor and the interest rate, just to kind of 5 summarize that, an increase in interest factor means 6 that our sales will reach further and allow for higher 7 advertised jackpots. When we see a decrease in interest 8 factor, we're looking at a slower roll in the jackpot 9 amounts and, obviously, a lower advertised jackpot. 10 So going back to this slide and looking at 11 interest factor over time, as we look at the interest 12 factor for Fiscal Year 2006, the first six-month average 13 of interest factor there was 1.64. And as we compare 14 that to Fiscal Year 2012, we wrapped up the fiscal year 15 with an average six-month factor of 1.31. 16 If we want to compare that and look at, 17 "Well, what does that really mean in dollar values or 18 dollar value of that jackpot?" if we're looking at an 19 advertised $4 million jackpot, the interest factor for 20 2006 would actually yield a cash value of $2.4 million. 21 In comparison, the jackpot for Fiscal Year 2012 yields a 22 $3 million cash value payment to that player. 23 So we're looking at a swing of change in 24 payment of 20 percent between that time period, based on 25 that decline in interest factor. And as you can see, 33 1 the last two fiscal years, beginning with September 2 2010, through August of 2012, we can see that big drop 3 in interest factor in this last fiscal year. 4 So moving back to the previous slide, the 5 third factor that we believe has contributed to the 6 higher prize payout, outside of the decreasing sales and 7 the lower interest rate, is the fact that we roll in 8 increments of a million dollars. So what we're seeing 9 as we're rolling in increments of a million dollars, and 10 we're having to work through these interest factor 11 declines over time, we're not able to extend the sales 12 to cover that million dollar roll in the present day 13 situation as compared to in the earlier years. 14 So with that, Robert is going to provide 15 an overview of some of the changes that we're looking at 16 for this rule proposal. 17 MR. TIRLONI: Commissioners, before I walk 18 through these recommendations, I need to make a note. 19 The Lotto Texas game operates, or there are two things 20 that I guess drive the operation of the Lotto Texas 21 game, is how I should say it. One of those is the game 22 rule, and then the other factor is a set of internal 23 agency procedures that we have. So as I go through them 24 recommendations, I'm going to note for you which 25 recommendations are covered in the rule which you're 34 1 considering for publication in the Register today, and 2 which recommendations are covered in procedure. 3 In a few minutes, Kathy is going to walk 4 you through the proposed process for the procedure 5 approval. So I just wanted to make that distinction for 6 you. And, like I said, I'll note that as we go through 7 these. 8 So let me start off by saying, we are not 9 recommending any change in the way Lotto Texas is played 10 for the base game. Players will still get to choose six 11 of 54 numbers. There will be no change to how they 12 select their numbers. So this will be a seamless change 13 for players and for retailers in terms of choosing 14 numbers, playing the base game. 15 We are recommending an increase in the 16 annuity period, from 25 to 30 years. That should give 17 us a better interest factor, because of the longer 18 annuity period. To kind of paint a picture, the Mega 19 Millions annuity period is 26 years, and the Powerball 20 annuity period is 30 years. 21 We're also recommending a change in our 22 roll increments. Kathy just talked to you about the 23 fact that we currently roll in million dollar increments 24 on Lotto Texas. We are recommending a minimum $250,000 25 roll increments until, when we do our jackpot estimation 35 1 calculations, we can support a larger than $250,000 2 roll. Even when that occurs, we're going to -- for 3 purposes of keeping it as simple as possible, we're 4 going to continue to roll at that point in an increment 5 of $250,000. So we may roll $500,000 if the sales 6 support that. We may roll $750,000 or a million dollars 7 or so on. That's covered in procedure. That is not in 8 the Lotto Texas rule. Roll increments are covered in 9 the agency operating procedures. 10 We are also recommending -- because of the 11 reduction in the roll increments, we are recommending an 12 increase to the starting jackpot to $5 million, 13 currently starts at four. That is not in the rule 14 before you today. That is also covered in agency 15 procedure. 16 The things that I just talked about -- the 17 lengthening of the annuity period, the change to the 18 roll increments and the increase to the starting 19 jackpot -- when you factor all of those together -- 20 we've had GTECH do projections, and those projections 21 have been verified by our independent statistician -- we 22 believe that the Lotto Texas prize payout under that 23 scenario will yield a prize payout of 54 percent over a 24 fiscal year. So that's basically a 10 percent gain or a 25 10 percent savings in prize payout. Kathy mentioned 36 1 earlier for Fiscal Year '12, we saw a 64 percent prize 2 payout for the Lotto Texas game. 3 Last recommendation is the addition of a 4 new add-on game called Extra, and I'll walk you through 5 that in a second. 6 I did want to make one other note before I 7 move on and explain how the Extra game works. We feel 8 like, because Lotto is an important part of the 9 portfolio, we have to continue to watch this game as 10 we've done over the past years and to come to you with 11 tweaks or modifications. So while we're making these 12 recommendations, as we monitor the interest factor and 13 interest rates and watch sales and see what the impact 14 is from Mega Millions and Powerball on Lotto Texas, we 15 may need to come back to you in the future -- maybe in 16 two years, maybe less than that -- to continue to tweak 17 this game and change it as necessary, because of its 18 importance in the portfolio. 19 So Lotto Texas with Extra, how does it 20 work? It's pretty simple. The players, if they want to 21 play the Extra feature, they spend an extra one dollar, 22 and they have to make that extra one dollar purchase 23 when they play the base game. If a player wins a 24 non-jackpot prize and they purchased Extra, they 25 increase their non-jackpot prize winnings. 37 1 Something special about the Extra feature 2 on Lotto is, it opens up a new prize tier, and I'll show 3 that to you on the next slide. It will be easier to see 4 on the next slide. But if a player matches two of six 5 numbers in the Lotto Texas game and they purchased 6 Extra, they actually win a $2.00 prize. And again, a 7 projection for the Extra feature, verified again by our 8 independent statistician, it's projected to have a 9 payout of just under 54 percent. 10 So here's the prize structure for the 11 game. So the regular game, the base game which, like I 12 said, is unchanged, stays -- is at the top of the slide. 13 And so if you just want to play Lotto Texas, you can 14 spend your one dollar and play Lotto Texas as you've 15 always done, and there's nothing different about how you 16 choose your numbers. 17 If you want to spend the extra dollar and 18 purchase Extra, the prize table is at the bottom of the 19 slide. So I'll give you an example. So if you play 20 Lotto Texas and you spend a dollar and you purchase 21 Extra, and let's say you match five of six numbers. So 22 we would pay you your base prize, which is estimated to 23 be $2,000, and then we would add $10,000 to that prize. 24 I'll give you another example. Of the 25 four of six that you play Lotto, you purchase Extra and 38 1 you match four numbers in the drawing. We would pay you 2 your base game prize, which is estimated to be $50, and 3 then we would add $100 to that. So that's basically how 4 the Extra feature works. 5 Now, here is the new prize tier. So you 6 see in the base game, if you're just playing Lotto Texas 7 without Extra and you match two numbers, you don't win a 8 prize in the base game. If you purchase Extra and you 9 match two numbers, you win a $2.00 prize. So what that 10 does for players, it opens up a new prize tier but it 11 also greatly reduces the overall odds of winning a 12 prize, because that prize is only available when you 13 purchase the Extra feature. So it takes the overall 14 odds of winning from one in 71 to one in 7.9, if you're 15 playing the add-on game. 16 So I'll give you a quick rundown of the 17 schedule of events for the rule, and then Kathy will 18 talk to you in a second about the procedures that we 19 discussed a few moments ago. 20 So, obviously, today is November 8th. 21 We're coming to you with the rule proposal. Bob 22 mentioned a few moments ago that if you decide to allow 23 us to publish the rule in the Texas Register, we will 24 hold a public comment hearing here at lottery 25 headquarters at the beginning of December, on the 5th. 39 1 The rule would then be ready for you to consider for 2 adoption in January of 2013. And if at that time you 3 choose to adopt that rule, we believe we can have these 4 modifications ready to go and implemented by April of 5 2013. 6 MS. PYKA: So, Commissioners, back to the 7 procedure. In 2008, the State Auditor's Office 8 recommended that any procedure related to Lotto Texas 9 game be discussed in public, allow for public comment 10 hearing, and be posted in the Texas Register. And so to 11 sync up the procedures with the rule that will be ripe 12 for consideration in January, what we'll do is bring 13 back the procedural changes at that point in time at 14 that January Commission meeting. 15 We'll schedule the public comment hearing 16 in February. And then following that, the procedures 17 will be available for adoption by the Commission or 18 final approval by the Commission in late March, 19 following the public comment hearing process. 20 So with that, I think we're certainly 21 available for questions, and we'll allow Bob to close. 22 MR. BIARD: Thank you. 23 Commissioners, if you agree to publish 24 these proposed amendments in the Texas Register, I have 25 a T-bar memo for you to sign. And this does require 40 1 action by the Commission if you decide to publish these. 2 CHAIRMAN WILLIAMSON: Okay. Thank you. 3 Commissioners, do you have any questions 4 regard this? 5 COMMISSIONER KRAUSE: What happens if 6 interest rates go back up? Do we adjust it again or -- 7 MS. PYKA: Well, if interest rates go back 8 up, what we would be looking at is the ability to roll 9 on a more frequent basis. You know, we would get to 10 extend those advertised jackpots faster than we are with 11 these lower interest rates. And, as Robert said, we're 12 always looking at the game. If we need to revisit the 13 game at that point in time, we can certainly do that. 14 COMMISSIONER KRAUSE: Well, is some of 15 this, the cumulative, you know, knowledge and experience 16 with the game since we began it? 17 MS. PYKA: Certainly -- 18 COMMISSIONER KRAUSE: Okay. 19 MS. PYKA: -- looking at these various 20 factors that we are seeing. And certainly we're 21 concerned with that higher prize payout, knowing that we 22 have a preferred prize payout of 50 percent. 23 COMMISSIONER KRAUSE: Well, and we always 24 want to provide a good product for our customers, and so 25 this is consistent with bringing a good product to the 41 1 public. 2 MS. PYKA: And then one last item that I 3 would like to mention is, certainly any time that we 4 look at any game changes, we look at the revenue 5 forecast for that game modification. And so, as noted 6 in the rule proposal, we're looking at a $21.5 million 7 increase in incremental revenue as a result of the 8 modifications that we're looking at here. 9 CHAIRMAN WILLIAMSON: Do you have any 10 questions? 11 COMMISSIONER KRAUSE: No. 12 CHAIRMAN WILLIAMSON: You know, I know the 13 issue has been raised in the past about us not covering 14 the prizes, and this sounds like that this may address 15 that question. So -- 16 MS. PYKA: Certainly. 17 CHAIRMAN WILLIAMSON: -- I look forward to 18 that. 19 I guess this is an action item? 20 MR. BIARD: Yes. 21 COMMISSIONER KRAUSE: Well, I make a 22 motion that we initiate the rulemaking process by 23 publishing the proposed amendments to 16 TAC §401.305 in 24 the Texas Register and open it for public comment. 25 CHAIRMAN WILLIAMSON: Is there a second? 42 1 COMMISSIONER DELGADO: Second. 2 CHAIRMAN WILLIAMSON: All in favor? 3 COMMISSIONER KRAUSE: Aye. 4 CHAIRMAN WILLIAMSON: Aye. 5 COMMISSIONER DELGADO: Aye. 6 CHAIRMAN WILLIAMSON: Motion passes 3-0. 7 All right. Thank you. 8 MR. BIARD: Thank you. 9 CHAIRMAN WILLIAMSON: The next three 10 items, we'll go Items VII through IX, consideration of 11 and possible discussion and/or action, including 12 proposal, on amendments to bingo rules specifically 13 identified in Items VII through IX on our notice. 14 Sandy, I believe these are yours. 15 MS. PYKA: Madam Chair, do you want to 16 come back to the -- I've got one more item. 17 CHAIRMAN WILLIAMSON: Did I skip you? 18 MS. PYKA: Yes. 19 CHAIRMAN WILLIAMSON: Sorry. 20 MS. PYKA: That's okay. 21 Sorry, Sandy. 22 AGENDA ITEM NO. VI 23 MS. PYKA: So I have one more item, and 24 that's under Tab VI, and this relates to the Lotto Texas 25 winner payment processing review. 43 1 So Commissioners, again in 2008, the State 2 Auditor's Office recommended that all proposed 3 procedures that affect our Lotto Texas players be given 4 adequate communication to the public and giving the 5 public an opportunity to comment on any changes prior to 6 approval by the Commission. 7 We've got a procedure related to winner 8 payment processing and review that we've modified to 9 incorporate the processing changes with the new gaming 10 system. And so what I would like to ask for your 11 approval is to post it in the Texas Register on our 12 agency's website. And, if approved, we would move 13 forward with that, and then moving next in the step of 14 public comment hearing, so seeking your approval for 15 that action. 16 MR. BIARD: This also requires action. 17 CHAIRMAN WILLIAMSON: An action item, yes. 18 Sorry. 19 MS. PYKA: All right. 20 CHAIRMAN WILLIAMSON: So is there a motion 21 to post this? 22 COMMISSIONER KRAUSE: I make a motion that 23 we initiate the rulemaking process on Action Item XVI in 24 the agenda -- VI. 25 MS. PYKA: Thank you. 44 1 CHAIRMAN WILLIAMSON: We're bound and 2 determined to overlook you on this one. All right. 3 Sorry. 4 Is there a second? 5 COMMISSIONER DELGADO: Second. 6 MR. BIARD: And this is a procedure, so 7 this is not -- 8 CHAIRMAN WILLIAMSON: Right. 9 MR. BIARD: -- the rule. This is the 10 alternate procedure that we follow just for the Lotto 11 Texas procedures, just to be clear. 12 CHAIRMAN WILLIAMSON: Okay. All right. 13 All in favor? 14 COMMISSIONER KRAUSE: Aye. 15 CHAIRMAN WILLIAMSON: Aye. 16 COMMISSIONER DELGADO: Aye. 17 CHAIRMAN WILLIAMSON: Motion passes 3-0. 18 MS. PYKA: Thank you, Commissioners. 19 AGENDA ITEM NOS. VII, VIII AND IX 20 CHAIRMAN WILLIAMSON: Now, Sandy, to your 21 three items, please. 22 MS. JOSEPH: Good afternoon, 23 Commissioners. For the record, my name is Sandra 24 Joseph, Special Counsel of the Legal Services Division. 25 I have for you Items VII, VIII and IX, 45 1 which are three proposals to amend bingo rules. These 2 changes are the result of bingo rule review. 3 The first one, Item VII, concerns Rule 4 402.450, request for waiver. The purpose of the 5 proposed amendments is to clarify the information 6 required in a licensed authorized organization's 7 credible business plan when requesting a waiver from the 8 requirement that bingo must result in net proceeds over 9 its license period or disbursement of required amount of 10 net proceeds, and also to specify the period of an 11 organization's operations and compliance history, that 12 the Commission may consider in the approval of labor 13 applications regarding the net proceeds requirement. 14 I'll go on and describe Item VIII. This 15 is proposed amendments to Section 402.453, request for 16 operating capital increase. This rule is very similar 17 to the one which I just discussed in terms of the 18 proposed amendments. The proposed amendments, the 19 purpose is to clarify and simplify the information 20 required in an organization's credible business plan 21 when the organization is applying for an increase in its 22 allowable operating capital. 23 And finally, Item IX concerns Rule 24 402.503, bingo gift certificates. The purpose of the 25 proposed amendments here are to make the requirements 46 1 consistent with other administrative rules in the Bingo 2 Enabling Act by providing that gift certificate deposits 3 may be made the second day after the bingo occasion at 4 which they're received, rather than the first day. 5 All of these rules would be scheduled for 6 a public hearing on December 5th, 2012, if you do 7 approve publication of them in the Texas Register for 8 public comment, which is what staff recommends. 9 CHAIRMAN WILLIAMSON: All right. Thank 10 you. 11 Commissioners, do you have any questions? 12 COMMISSIONER DELGADO: No, ma'am. 13 COMMISSIONER KRAUSE: No. 14 CHAIRMAN WILLIAMSON: Is there a motion? 15 COMMISSIONER KRAUSE: I make a motion that 16 we initiate the rulemaking process to publish for public 17 comment and subsequent public hearing, or public input, 18 on Rule 16 TAC, §402.450, §402.453 and §402.503. 19 CHAIRMAN WILLIAMSON: Is there a second? 20 COMMISSIONER DELGADO: Second. 21 CHAIRMAN WILLIAMSON: All in favor? 22 COMMISSIONER DELGADO: Aye. 23 CHAIRMAN WILLIAMSON: Aye. 24 COMMISSIONER KRAUSE: Aye. 25 CHAIRMAN WILLIAMSON: Motion passes 3-0. 47 1 Thank you, Sandy. 2 MS. JOSEPH: And again, I have T-bar memos 3 for your signature. 4 CHAIRMAN WILLIAMSON: Okay. 5 AGENDA ITEM NO. X 6 CHAIRMAN WILLIAMSON: The next item is 7 report, possible discussion and/or action on agency 8 contracts, including amendments on the contract for 9 instant ticket manufacturing and services with 10 Scientific Games; extension of the contract for 11 surveillance camera products and related services; and 12 procurements for audit services, statistical consulting 13 services, lottery drawings audit services and drawing 14 studio and production services. 15 Mr. Fernandez. 16 MR. FERNANDEZ: Good afternoon. Again, 17 Commissioner, for the record, my name is Mike Fernandez. 18 I'm the Director of Administration. 19 What we wanted to do under this item was 20 to advise the Commission of staff's intent to take 21 action on a number of contracts, the first being to 22 amend our current contract with Scientific Games, one of 23 our ticket-printing manufacturers, to take advantage of 24 three offered options which will reduce cost to the 25 agency. 48 1 The second is to extend the current 2 contract with Knight Security Services for surveillance 3 camera equipment and, lastly, to advise the Commission 4 of a number of contracts that staff will begin 5 developing and releasing RFPs for. Those are financial 6 audit services, statistical consulting services, lottery 7 drawings audit services and drawing studio production 8 services. 9 I would be happy to answer any questions. 10 CHAIRMAN WILLIAMSON: Thank you. 11 Commissioners, do you have any questions? 12 COMMISSIONER KRAUSE: No, ma'am. 13 CHAIRMAN WILLIAMSON: All right. Thank 14 you, Mike. 15 AGENDA ITEM NO. XI 16 CHAIRMAN WILLIAMSON: The next item is 17 report, possible discussion and/or action on the 18 82nd and/or the 83rd Legislature. 19 Nelda. 20 MS. TREVINO: Good afternoon, 21 Commissioners. For the record, I'm Nelda Trevino, the 22 Director of Governmental Affairs. And I have a very 23 brief report to provide today. 24 As you are aware, the Legislature will 25 convene its next regular session on January the 8th, 49 1 2013. And filing of legislation for the 83rd 2 Legislature begins next Monday, on November the 12th. 3 The agency's Governmental Affairs Division 4 will be tracking filed legislation that impacts the 5 agency and will be providing you regular reports 6 throughout the session, showing you the status of these 7 bills. 8 Lastly, as House and Senate interim 9 committees conclude their work during this interim and 10 issue their reports, we'll be looking to see if there's 11 any recommendations that impact the agency and certainly 12 keep you advised if there is anything like that included 13 in any interim reports. 14 This concludes my report, and I'll be glad 15 to answer any questions. 16 CHAIRMAN WILLIAMSON: Commissioners, do 17 you have any questions, comments? 18 COMMISSIONER KRAUSE: Do we have anything 19 that -- issues that we have our eye on ahead of time? 20 MS. TREVINO: Absolutely. And I neglected 21 to mention this, Commissioners Krause. As part of our 22 Sunset review, we will have a Sunset bill filed during 23 the session that will include the recommendations that 24 the Sunset Commission adopted. So that's certainly a 25 significant piece of legislation that we'll be watching 50 1 and serving as a resource. 2 And then like every state agency, our 3 legislative appropriations request, and the items that 4 we've included in our appropriations request, 5 particularly our exceptional items. 6 COMMISSIONER KRAUSE: What has the 7 Legislature historically done in the past on the Sunset 8 Commission recommendations? 9 MS. TREVINO: That varies, depending on 10 the agency. 11 COMMISSIONER KRAUSE: Well, our agency. 12 MS. TREVINO: Our agency, we've gone 13 through Sunset review twice and our Sunset bill has not 14 passed. We got extended in what's referred to as -- 15 well, what I still refer to as the safety net bill where 16 the agency was extended for a period of time. But our 17 actual sunset legislation has gone through two different 18 legislative sessions and did not pass. 19 COMMISSIONER KRAUSE: No news is good 20 news. 21 CHAIRMAN WILLIAMSON: All right. 22 MS. TREVINO: Yes, sir. 23 CHAIRMAN WILLIAMSON: Thank you. 24 At this time we'll take a 15-minute break, 25 and then we'll come back and finish up. 51 1 (Recess: 1:58 p.m. to 2:14 p.m.) 2 CHAIRMAN WILLIAMSON: All right. It is 3 2:14, and we're back in session. 4 AGENDA ITEM NO. XII 5 CHAIRMAN WILLIAMSON: The next item is 6 consideration of and possible discussion and/or action 7 on external and internal audits and/or reviews relating 8 to the Texas Lottery Commission, and/or the Internal 9 Audit Department's activities, including Fiscal Year 10 2013 Internal Audit Activity Plan and the Internal Audit 11 of the Prize Payment Account. 12 Catherine, this is your item, please. 13 MS. MELVIN: Thank you Chairman, 14 Commissioners. For the record, Catherine Melvin, 15 Director of the Internal Audit Division. 16 Today I have two items to present to you. 17 The first is the Fiscal Year '13 Internal Audit Activity 18 Plan, and we would also like to present a recently 19 issued Internal Audit Report. 20 So at this time, if I may, I would like to 21 invite Internal Audit staff to the table -- 22 CHAIRMAN WILLIAMSON: All right. 23 MS. MELVIN: -- Nick Martinez and Kim 24 Tucker. 25 Let me start with the Internal Audit 52 1 Activity Plan. Nick Martinez on our Internal Audit team 2 served as project manager for that, and so let me turn 3 that over to him and let you lay that out. 4 MR. MARTINEZ: Good afternoon, 5 Commissioners. My name is Nick Martinez, and I'm with 6 the Internal Audit Division. 7 Just as an introduction, let me say that 8 both our professional standards and the Texas Internal 9 Auditing Act require the preparation and approval of the 10 annual audit plan. I would like to walk you through how 11 we derived this year's plan. 12 First, Internal Audit worked extensively 13 with management teams and agency staff from each of the 14 Lottery's divisions to identify the agency's key 15 processes. We reviewed key processes identified in past 16 years, as well as any significant operational changes. 17 After reviewing the information provided, 18 we systematically assessed the risk of each key process 19 by integrating professional judgments about probable 20 adverse conditions against five factors that focus on 21 critical agency objectives. 22 These five factors were impact to 23 integrity and security of the games, impact on lottery 24 net revenue and bingo distributions, customer service 25 which considers impact to the public, players and 53 1 licensees, complexity of operations which considers a 2 number of factors such as extent of contracting and 3 required compliance. 4 Lastly, external and internal interest. 5 Activities with higher risk were accordingly assigned 6 higher audit priorities. Along with this assessment, we 7 also took into consideration special project requests 8 received by Internal Audit, the extent of audit coverage 9 performed by Internal Audit within recent fiscal years, 10 and the audit coverage performed by external parties 11 such as the State Auditor's Office, the security study 12 vendor and others. 13 From this analysis, Internal Audit was 14 able to prioritize a list of potential audit projects 15 for Fiscal Year '13. 16 In sum, projects were selected based on 17 the assessment of risk, management of commissioner 18 input, auditor judgment and scope of coverage. 19 We also considered the inherent risk and 20 likely potential scope of each project when allocating 21 the available hours for the fiscal year. We have built 22 flexibility into our plan to allow for unanticipated 23 projects that may arise during the year. Additional 24 hours were also allocated for the administration of the 25 Internal Audit function. 54 1 MS. MELVIN: Thank you, Nick. 2 So Commissioners, as Nick detailed, while 3 the proposed Internal Audit Activity Plan results from 4 our consideration of a wide variety of risks throughout 5 the agency, it does not, nor does it intend to 6 provide -- or address or provide coverage for all agency 7 components and systems. 8 However, our goal is to optimize our 9 available resources to provide reasonable coverage. And 10 so I think it's always important to note that while we 11 cannot address every risk area, management, of course, 12 is responsible to ensure controls are adequate and 13 effective in their respective areas. 14 We do believe that this plan allocates 15 resources of the Internal Audit Division to the priority 16 and risks of the agency at this time. 17 CHAIRMAN WILLIAMSON: All right. Thank 18 you. 19 This is an action item. Correct? 20 MR. BIARD: Yes, that's right. I believe 21 that's right. 22 CHAIRMAN WILLIAMSON: So we just need to 23 approve it? Is that -- 24 MS. MELVIN: Yes, ma'am. 25 CHAIRMAN WILLIAMSON: Okay. Is there a 55 1 motion to approve the 2013 Internal Audit Activity Plan? 2 COMMISSIONER KRAUSE: I make a motion that 3 we approve the 2013 Audit Activity Plan. 4 CHAIRMAN WILLIAMSON: Is there a second? 5 COMMISSIONER DELGADO: Second. 6 CHAIRMAN WILLIAMSON: All in favor? 7 COMMISSIONER KRAUSE: Aye. 8 CHAIRMAN WILLIAMSON: Aye. 9 COMMISSIONER DELGADO: Aye. 10 CHAIRMAN WILLIAMSON: Motion passes 3-0. 11 MS. MELVIN: Thank you. Thank you, 12 Commissioners. Thanks, Nick. 13 For the second item, Kim Tucker was our 14 lead auditor on this recently issued Internal Audit 15 Report, and so I'm going to turn this over to Kim to 16 present that to you. 17 MS. TUCKER: Thanks. 18 Good afternoon, Commissioners. My name is 19 Kim Tucker, from the Internal Audit Division. 20 Internal Audit has completed and issued a 21 review of the prize payment account. You should have a 22 copy of the full report before you. 23 While we initiated this audit as a result 24 of a complaint, this was an audit focused on a critical 25 key process in our agency. We focused this audit on 56 1 three core objectives. We sought to determine whether 2 the prize payment account balance is accurate and fairly 3 presented, that assets are adequately safeguarded and 4 that appropriate controls are in place. 5 Internal Audit reviewed reconciliations 6 performed during the time period of September 1, 2006, 7 through December 31, 2010. In accomplishing our 8 objectives, we worked with the Office of the Controller, 9 we reviewed agency files and records that were 10 available, and we performed selected test work as deemed 11 necessary. 12 Based on the results of our review, 13 Internal Audit cannot determine whether the prize 14 payment account is accurate and fairly presented, 15 confirm the amount of the discrepancy noted in the 16 reconciliations, or determine the reasons for the 17 variance in the prize payment account. While management 18 has made improvements in controls, adequate and 19 effective internal controls were not in place during the 20 period audited to ensure the prize payment account was 21 adequately safeguarded against unauthorized activity. 22 Our report includes recommendations to 23 assist the agency to enhance and strengthen controls 24 over the prize payment account and related processes. 25 Responsible management has expressed agreement with 57 1 Internal Audit's conclusions and recommendations 2 detailed in the report and has included corrective 3 actions in its responses. 4 This concludes my presentations, and we're 5 available to answer any questions you may have. 6 CHAIRMAN WILLIAMSON: Thank you, Kim. 7 As always, being an accountant and CPA, 8 you know, bank reconciliation is a basic function. So I 9 think we're going to dig a little bit into this and see 10 what all has transpired, I would guess, from the 11 beginning. And since it's under the office with the 12 Controller, Kathy, kind of give us a history of this 13 prize payment. Just start whenever it was opened, in 14 ninety whatever, and bring us forward up through 2010 15 when Internal Audit got involved with looking at this 16 old account. 17 MS. PYKA: Certainly. For the record, my 18 name is Kathy Pyka. I'm the Controller for the 19 Commission. 20 So, Commissioners, the account was opened 21 back in the late 1990s. And so it is an account, a 22 local bank account. And what we use the account for is 23 the issuance of prize payment checks. It's a revolving 24 reimbursement account. And so the way that the process 25 works is, as prize checks are issued, either from our 58 1 claims centers or here in the Austin office, the value 2 of those prize checks are routed to the safekeeping 3 trust company, and we are reimbursed that prize payment 4 account for the value of any prize payment checks. 5 CHAIRMAN WILLIAMSON: For those of us that 6 are ignorant, can you tell us what the prizekeeping 7 trust -- what the trust company is -- 8 MS. PYKA: Certainly. 9 CHAIRMAN WILLIAMSON: --where is that 10 located, who oversees that, that sort of thing. 11 MS. PYKA: Certainly. The Texas 12 Safekeeping Trust Company is the treasury branch of the 13 State of Texas. That office is housed as part of the 14 Comptroller of Public Accounts. And so any investment 15 transactions, any banking transactions for the State of 16 Texas are housed in that office. 17 They house a lot of the proprietary 18 functions of the State of Texas, while the Comptroller's 19 office itself handles the accounts for our appropriation 20 accounts like the funds that get appropriated to us to 21 pay for agency expenditures. So it's kind of two 22 different branches in that office. But the safekeeping 23 trust company handles all of our prize payment activity. 24 So this account has been there for quite sometime. I 25 understand that prior to Bank of America, it was housed 59 1 with a different bank institution. 2 I arrived here at the Commission at the 3 end of September 2005. Upon my arrival, just going 4 through what you would expect to have as basic 5 accounting functions, one of the very first reports that 6 I was required to file was the itemized operating 7 budget. That was due to the Governor's Office and 8 Legislative Budget Board in December of 2005. And that 9 is basically when I became aware of the fact that that 10 account nor our appropriation reconciliations with the 11 State Comptroller had been reconciled or were in a 12 current reconciliation status. So, again, that was in 13 early November of 2005. I arrived at the Commission in 14 late September 2005. 15 What we did was, in February of 2006 is, I 16 looked at the reconciliation activities for this 17 account. Based on the volume of activity that goes 18 through this account -- and just to give you a 19 perspective, about 5,000 prize checks are issued each 20 month out of this account -- it was apparent to me that 21 the best way to handle this was to begin by reconciling 22 the nominal activity for the month -- look at revenue 23 inflow, look at revenue outflow, look at expenditure 24 inflow, look at expenditure outflow and try to get our 25 arms around reconciling that. So while I had one team 60 1 begin working on the nominal reconciliations in February 2 of 2006, we had another team trying to go backwards to 3 reconcile what hadn't been reconciled. 4 I think you can probably gather it was not 5 a situation that anybody that's over a financial 6 operation wants to encounter. So I'm going to walk you 7 through, I would say, key dates of this reconciliation 8 project, trying to just walk through what happened. 9 So I'm going to take you through, then, 10 our Fiscal Year 2007 financial audit. Now, this is the 11 financial audit on our audited financials performed by 12 an external financial auditor. When they arrived to do 13 the work on the Fiscal Year 2007 books, which would 14 include activities of September 2006 through August 15 2007, we certainly disclosed the issues that we were 16 going through with the bank account reconciliation. And 17 in that particular year's audited financial report, the 18 agency was cited with a significant deficiency for the 19 lack of current account reconciliation of the prize 20 payment account. 21 COMMISSIONER KRAUSE: Say that again. 22 MS. PYKA: It was the Fiscal Year 2007 -- 23 COMMISSIONER KRAUSE: Okay. 24 MS. PYKA: -- audited financial. That 25 audited financial and that opinion was released in 61 1 December of 2007. 2 COMMISSIONER KRAUSE: May I interrupt you 3 here for a second? 4 MS. PYKA: Yes, you may. 5 COMMISSIONER KRAUSE: Okay. So were there 6 any notes or records that you went to when you first 7 arrived and first began looking at this that indicated 8 what the person in your job before you was doing with 9 this account because, obviously, the whole thing existed 10 when you arrived? Were there any records that you could 11 go to where they were trying or even giving it a go to 12 try and figure it out? 13 MS. PYKA: There were older electronic 14 files. But with regard to complete files or files that 15 showed that the account had been reconciled, there were 16 not. And so what I did when we became aware of this in 17 November, is certainly I had two managers who reported 18 to me. And they had been here for some time. And 19 certainly, you know, in visiting with them, they 20 affirmed that my observation was correct, that we were 21 not current on reconciliations of either the prize 22 payment account or the appropriation reconciliation for 23 the accounts held in the Comptroller of Public Accounts. 24 COMMISSIONER KRAUSE: Is there any way to 25 know how far back that the controllers before you were 62 1 aware or had concern about this? Or was it just not 2 material, and so -- 3 MS. PYKA: I think that's a difficult 4 question -- 5 COMMISSIONER KRAUSE: Yes. 6 MS. PYKA: -- because certainly we tried 7 to go back. But there's so many missing pieces to the 8 reconciliation that we found, and I'll give you an 9 example. When we finally got the account to a constant 10 reconciliation variance -- I'm not going to say it was 11 reconciled to zero; it was reconciled to a constant 12 variance of 622,000 -- that was in June of 2010. That 13 balance had been much higher than 622,000 over the 14 periods when we were trying to get it reconciled. 15 But what we identified was that the way we 16 were handling the accounting for administrative prize 17 claims was incorrect. We were able to obtain enough 18 data in June of 2010 to go back and correct all the way 19 back to July of 2006, but adequate records prior to July 20 of 2006 were not available to make a correcting entry. 21 So we made a correcting entry to the tune of just over 22 $200,000 to get the variance down to 622,000. So that 23 correcting entry and all that we went through to do that 24 was reviewed during our Fiscal Year 2010 financial audit 25 performed by our external financial auditor at the time. 63 1 COMMISSIONER KRAUSE: But surely when you 2 rolled in, there were some kind of a book somewhere that 3 says: These are the procedures that we've been 4 employing for the last five years, 10 years to do this, 5 because we're a big enough of an operation where we have 6 to have written procedures for things. 7 MS. PYKA: Commissioner, there were 8 procedures on file. I think the cash-in bank procedure 9 went back to 1998. But procedure and following the 10 procedure were two different things. 11 COMMISSIONER KRAUSE: I got it. 12 MS. PYKA: There were a number of other 13 issues during that time period that we would consider to 14 be significant control deficiencies in our eyes as well. 15 I mean, we worked through some payroll issues, we had 16 worked through some jackpot estimation issues, we worked 17 through some transfer issues. There were a lot of 18 issues that we addressed early in that tenure as part of 19 our just routine business process review of what the 20 status of affairs were at that point in time. 21 We continued working through issues 22 related to prize payable reconciliations, accounts 23 receivable reconciliations. And, you know, those have 24 been ongoing over the year. But cash in bank, I can 25 assure you, we applied a lot of resources. I know when 64 1 the audit was being performed, Cat asked me the question 2 of, you know, "Could you just put" -- I think your 3 question, Catherine, was, "a lot of resources and get to 4 it?" Well, it didn't seem to matter if we put five 5 resources, two resources or 100 resources, getting to 6 the data was our problem. And if you don't have that 7 data -- it was the absence of that historic information 8 that was our challenge. 9 And so back to the correction we did for 10 administrative prize checks, we knew we could get back 11 to July of 2006, and responsible staff in our department 12 that had been here for many, many years confirmed that 13 that accounting treatment for administrative prize 14 checks had been handled the same way as what we 15 identified as being an error. So, you know, one could 16 assume that part of the variance, the constant variance 17 related to older administrative prize checks, but I 18 can't say that without having that data. 19 And I think you can kind of gather, that's 20 what got us to the point that we needed to close out 21 that account and start afresh with a new account in 22 order to continue addressing the old but know that we 23 had a new account set up with proper controls. 24 COMMISSIONER KRAUSE: Are we trying to do 25 too much of this one account? Should it be broken up 65 1 into smaller accounts? 2 MS. PYKA: I don't know that -- 3 COMMISSIONER KRAUSE: The volume of 4 activity, it seems like that by itself along presents a 5 pretty significant challenge to understanding what's 6 going through there. 7 MS. PYKA: Well, I will say -- I mean, I'm 8 very confident with what we're doing today. Since June 9 of 2010, the account -- the new account has been -- 10 well, let me back up. Since June of 2010, 11 reconciliations have been current. The old account had 12 a constant variance that we were able to reconcile every 13 single month with the same variance. 14 We opened the new account in August of 15 2010, and we've not had an issue one reconciling that. 16 It's been reconciled every single month timely and to a 17 zero variance. I would like to say that, you know, 18 we're going to continue enhancing that, I believe, with 19 the new gaming system, and with some new opportunity of 20 automation, that we can continue working toward 21 improvements. That's what we're about. But I'm not, I 22 don't think, as concerned about one account in the 23 volume. I am more concerned about the lack of 24 reconciliations, you know, historically. 25 COMMISSIONER KRAUSE: So that's why our 66 1 review period ends at 2010, because we finally fixed it? 2 MS. PYKA: I would allow the auditor to 3 address that. 4 CHAIRMAN WILLIAMSON: Well, yes, we'll get 5 to that. I was just kind of trying to get the 6 historical perspective on this. 7 So when you say the $600,000 balance, 8 basically what that probably is, since there has been no 9 changes over a period of time, are just uncashed checks 10 that have never cleared for the most part. Or we can't 11 even say that, we don't know? 12 COMMISSIONER KRAUSE: And whose favor is 13 that in? 14 MS. PYKA: Yes. I wouldn't say that it's 15 uncashed checks, because we feel like we finally got to 16 an outstanding check register. We got to that in 2009, 17 and that was when we made a clean-up entry to the 18 submission of unclaimed prizes that's outlined in the 19 report. I think that what that difference is, is a 20 beginning balance difference, that without having those 21 historical records and not knowing if it was part of the 22 administrative trek accounting treatment that was in 23 error, we just don't know. 24 CHAIRMAN WILLIAMSON: Okay. 25 MS. PYKA: If we could re-create old 67 1 records and get to those old records, that would be the 2 magic of -- you know, we would love to go back and see 3 if that's what it is. But the absence of that -- in 4 between all of that, we went through a gaming transition 5 from the previous system to Prosis. And, of course, now 6 we've even into, you know, a different gaming system. 7 But -- 8 CHAIRMAN WILLIAMSON: But basically you're 9 saying it just could be accounting entries as much as 10 anything -- 11 MS. PYKA: Right. 12 CHAIRMAN WILLIAMSON: -- may not have 13 anything to do with uncashed checks -- 14 MS. PYKA: Correct. 15 CHAIRMAN WILLIAMSON: -- a certain portion 16 of it. 17 MS. PYKA: We were able to reconcile, you 18 know, previous months prior to my arrival the nominal 19 activity. But still, if you can't get to that beginning 20 balance, you know, that's the challenge. 21 CHAIRMAN WILLIAMSON: Okay. Tell us why 22 we don't have access to that older historical 23 information. 24 MS. PYKA: Well, in many cases, you know, 25 those records, through our records retention schedule, 68 1 have been removed from the agency. The agency maintains 2 records for three years. And so at the point in time 3 that we were beginning this work, some of those older 4 records were already destroyed at that point. So just 5 availability of that data, due to our records retention 6 schedule, which is the State of Texas' records retention 7 schedule. That's not something internal to this agency; 8 it's the common schedule for all of the state. 9 CHAIRMAN WILLIAMSON: Okay. So then what 10 we hear is, up and to the point of time of this 2010 11 date, the agency was aware that this was going on and 12 steps were being taken to try and understand what it was 13 and to go forward with this and deal with it and go on. 14 Okay. 15 MS. PYKA: Correct. And certainly before 16 we got to June of 2010, we put measures in place, you 17 know, to ensure that we didn't have ACH fraudulent 18 activity, by putting blocks on our account, and we 19 implemented various -- we put in place a positive pay 20 feature, and we've moved forward with that and even 21 enhanced that to a total positive pay feature. But we 22 did what we could at that time to address as much of it 23 as we could. 24 CHAIRMAN WILLIAMSON: Okay. Now, this 25 complaint comes in -- I've never seen the complaint. 69 1 Does anybody have a copy of the complaint? Do you have 2 it? I mean -- 3 MS. MELVIN: Yes, I have. 4 CHAIRMAN WILLIAMSON: Can you read that 5 into the record for us so we know exactly what kind of 6 brought this into your house, so to speak. 7 MS. MELVIN: Sure. Commissioner, I will 8 have to access that, if you will give me a few moments. 9 I can pull that up and I can read that into the record. 10 CHAIRMAN WILLIAMSON: Okay. That will be 11 great. 12 COMMISSIONER KRAUSE: Well, Ms. Pyka, if 13 in 2007 you had two teams of people working on this 14 project, then, obviously, there was, you know, focus on 15 it. And I'm assuming at that time that the Internal 16 Audit staff was working with you also trying, you know, 17 to provide some resources to figure it out? 18 MS. PYKA: At that point in time when we 19 were working on the dedication of that project, it was 20 solely the Office of the Controller staff. Internal 21 Audit's activities on the account began in I guess 22 December of two thousand -- 23 MS. MELVIN: Ten. 24 MS. PYKA: 2010. 25 COMMISSIONER KRAUSE: I heard some mention 70 1 about the Controller, and I wanted to make sure that 2 that was you. Or is that, you know, like Ms. Combs' 3 office? She probably wasn't the Controller at the time 4 but -- maybe she was -- does her office have anything to 5 do with what we're doing over here on controls and that 6 kind of thing? 7 MS. PYKA: Well, certainly when we became 8 aware of the issues, we certainly met with the 9 safekeeping trust company, which is an arm of the 10 Comptroller of Public Accounts -- 11 COMMISSIONER KRAUSE: I gotcha. Okay. 12 MS. PYKA: -- as well as our Bank of 13 America account representative. And that's how we began 14 the discussion of putting positive pay in place, putting 15 the ACH blocks on the account as well as moving forward 16 to the new account. So certainly they were very well 17 aware of the challenges we were facing. 18 CHAIRMAN WILLIAMSON: I've only gone back 19 to 2008, because that's all I have on the external 20 financial audit. The one that I saw I know mentioned it 21 in the footnotes, but they made no comment as terms of 22 any deficiencies or concern. So I guess at that point 23 in time, they were not concerned about the sufficient 24 deficiencies or that whatever was going on was not 25 material enough to add any additional comments within 71 1 the audit report itself. At least that's what I saw. 2 MS. PYKA: Correct. 3 CHAIRMAN WILLIAMSON: So I guess -- I 4 mean, I would have to surmise whatever had been put in 5 place up to that point in time addressed those comments 6 from that prior audit, which you said was 2007? 7 MS. PYKA: Fiscal Year 2007. And 8 certainly when we got to the Fiscal Year 2008 audit, 9 Commissioners, we were not reconciled at that point 10 either, but they knew the progress that had been made 11 and they knew what that difference was and they knew the 12 nominal account work we were doing. So it was not a 13 repeat significant deficiency at the end of the Fiscal 14 Year 2008 audit. 15 You know, there were a lot of issues 16 discussed in that significant deficiency, and they're 17 the same issues that we've included in our management 18 response to this audit and what caused us to be in that 19 significant deficiency status. 20 COMMISSIONER KRAUSE: Didn't the variance 21 get smaller as you worked on it? 22 MS. PYKA: It did. 23 COMMISSIONER KRAUSE: It started out at 24 what, 620,000, and you got it down to what? 25 MS. PYKA: Well, actually, the variance 72 1 was well over a million. 2 COMMISSIONER KRAUSE: Okay. 3 MS. PYKA: So we got it down to 800,000 4 and then, through the administrative check correction, 5 got it down to 622,000. When we closed out the account, 6 it was at $622,000. 7 COMMISSIONER KRAUSE: And is there any way 8 to know, you know, which way that was going? Were we 9 short or were we over or -- 10 MS. PYKA: Our general ledger account 11 balance was higher than the bank and treasury -- or 12 cash-in treasury account. 13 COMMISSIONER KRAUSE: Okay. 14 MS. PYKA: And so the administrative check 15 correction is an entry that would have reduced that 16 balance, the cash-in bank balance down, is how it went 17 from 800 to 622,000. 18 CHAIRMAN WILLIAMSON: But we're not 19 actually talking $622,000 in terms of, you know, green, 20 we're talking just a -- 21 MS. PYKA: General ledger balance. 22 COMMISSIONER DELGADO: -- general ledger 23 account balance entry? 24 MS. PYKA: Correct. 25 COMMISSIONER KRAUSE: So we might have 73 1 just had a mistake on our records? 2 MS. PYKA: Correct. 3 CHAIRMAN WILLIAMSON: Correct. So just 4 for clarification, we're not talking about dollars in 5 the amount of 622,000, that's just the general ledger 6 account balance? 7 MS. PYKA: Account balance. 8 CHAIRMAN WILLIAMSON: Okay. Did you find 9 it? 10 MS. MELVIN: I did. 11 CHAIRMAN WILLIAMSON: Okay. Would you 12 read it into the record for us, please. 13 MS. MELVIN: I sure will. 14 CHAIRMAN WILLIAMSON: And the specifics, 15 when it came in -- 16 MS. MELVIN: Absolutely. 17 CHAIRMAN WILLIAMSON: -- everything, you 18 know, how you got it, all of that or whatever your email 19 says. 20 MS. MELVIN: Absolutely. 21 The complaint was forwarded to me from the 22 State Auditor's Office. I was first contacted in 23 November of 2010. 24 CHAIRMAN WILLIAMSON: Which day? Do you 25 remember? 74 1 MS. MELVIN: I don't have that date in 2 front of me. 3 CHAIRMAN WILLIAMSON: Okay; okay. 4 MS. MELVIN: Mid to late November, I would 5 say. At that time, the agency's contact manager with 6 the State Auditor's Office was Sandra Vice. And so 7 initially she called me to say that they had received a 8 complaint and that they wanted to discuss that with me. 9 After some phone calls back and forth, we 10 finally talked about this. And she forwarded the 11 complaint in an email and then also a hard copy of the 12 complaint. And looking at the hard copy, it looked like 13 the complaint had arrived on their fraud, waste and 14 abuse hotline. The State Auditor's Office maintains a 15 toll-free and also an Internet submission kind of 16 hotline for anyone to submit concerns. 17 I will go ahead and read it. 18 CHAIRMAN WILLIAMSON: If you will read the 19 date and the time. You know, if it's an email, I'm sure 20 that's all on there. 21 MS. MELVIN: Okay. So the complaint 22 states, "I have been told by staff in the Office of the 23 Controller at the Lottery that they have lost $600,000 24 during their change of accounts. They had scheduled to 25 change accounts 09/01/2009. But due to whatever, as 75 1 they would not explain it to anyone, they did not do it 2 until 09/01/2010 - the amount of fraud being done by 3 outside people to the lottery was such that we needed to 4 change bank accounts - however, the OC took so long in 5 doing so that a great deal of fraud continued. 6 "And I am now being told that they are 7 missing $600,000. These are the people who get merits 8 every 8 months, 5% plus once a year get a one-time bonus 9 ($1500 to $2500) no one but the Directors (Kathy Pyka) 10 direct contacts. Her lower workers do not get merits at 11 all and they lost no money. 12 "No one else in the TLC get merits like 13 this and now the merits are being frozen (as of Jan. 1, 14 2011). You can bet OC Director Kathy Pyka will make 15 sure her direct contacts all get merits in the month of 16 December. Yet, they will still not answer the $600,000 17 or the waste of money due to their not changing accounts 18 in a timely manner. 19 "Also their second in command, Ben 20 Navarro, was recently disciplined for lying to his 21 employees, telling them the lottery does not get merits 22 ever (this was before the merit freeze) while meantime 23 all the top dogs in the OC were getting them more than 24 once a year (including Ben Navarro who was caught in 25 more than just that lie and is in charge of the Lottery 76 1 funds). 2 "This worries me in that the people in 3 charge of money for the school fund are not being very 4 fiscal responsible and may be embezzling money asks how 5 do you lose $600,000? Where do you find money to give 6 that many merits and bonus when no one else in the 7 agency has that kind of money? Do an open records 8 request on any of these things with the lottery OC 9 divisions and you will see." 10 CHAIRMAN WILLIAMSON: What was the date of 11 that? Is it on there? 12 MS. MELVIN: Well, this was sent to me 13 contained in an email. And the -- excuse me. Let me 14 open this up. The email was sent to me November 10th. 15 I believe the date of the actual complaint was 16 November 4th. 17 CHAIRMAN WILLIAMSON: Okay. So at this 18 point in time, what happened after you received this 19 complaint? 20 MS. MELVIN: Well, after I received the 21 complaint, as I stated, I visited with the State 22 Auditor's Officer as to the proper handling of the 23 complaint. Their process is, is that after they receive 24 complaints into their office, they can choose to keep 25 them and do whatever they choose to do, or they turn 77 1 them over to Internal Audit functions within state 2 agencies. 3 And so I receive other complaints about 4 the agency through their fraud, waste and abuse hotline. 5 And typically these are more related to retailer 6 concerns or, you know, "I tried to cash a ticket here, 7 and this retailer wouldn't cash my ticket," or, you 8 know, that type of thing. But every now and then, we 9 might get a complaint actually about internal agency 10 business. 11 And so I don't know that I see all those, 12 but I see the ones that they forwarded to me. So in any 13 case, I visited with our contact manager, Sandra Vice. 14 And in reading the complaint, you know, I said, "If 15 Internal Audit handles it, what we'll do is, we'll do an 16 internal audit of the prize payment account." 17 And so they said go forward and provide 18 them the results when we were finished. And so we 19 launched the audit in December of 2010. I spoke with 20 Gary, it might have been the beginning of December, I 21 believe, right before we launched that. 22 CHAIRMAN WILLIAMSON: Prior to the 23 complaint, was Internal Audit -- I mean, I assume the 24 answer is yes -- aware that this was a problem already, 25 that this account was not being reconciled? I mean -- 78 1 MS. MELVIN: Other than the notice in the 2 Fiscal Year 2008 audits, I would say no. 3 CHAIRMAN WILLIAMSON: Okay. So you had no 4 knowledge of this at all? 5 MS. MELVIN: I don't think I was aware. 6 CHAIRMAN WILLIAMSON: Other than 7 through the -- so were you doing this in 2007 when they 8 came out with the first audit report? 9 MS. MELVIN: Yes. 10 CHAIRMAN WILLIAMSON: So in 2007, you saw 11 the significant deficiencies? 12 MS. MELVIN: Yes, yes. 13 CHAIRMAN WILLIAMSON: So you were at least 14 aware of that? 15 MS. MELVIN: Yes. 16 CHAIRMAN WILLIAMSON: Okay. So in 2007, 17 you were still aware of that at that point in time. So 18 as we proceeded -- let's go back and talk about this 19 account. When this was brought up and we were aware 20 there was outside activity that was unauthorized, what 21 did we do with that? I mean, did we try and recoup any 22 of our money that we realized -- I mean, kind of walk me 23 through. I don't know if this was during what you were 24 doing or prior to that. 25 MS. PYKA: This would have been prior to 79 1 the work of Internal Audit in our office. 2 CHAIRMAN WILLIAMSON: Okay. 3 MS. PYKA: And so when we became aware of 4 the fraudulent activity, the first thing that we did, of 5 course, was notify Bank of America in order to obtain 6 credit for the fraudulent activity. We filed an 7 affidavit stating it was fraud. And at the same time, 8 we also notified Enforcement, our internal Enforcement 9 Division, of the fraudulent activity, for them to begin 10 their investigation. So there was one grouping that we 11 had. And then followed by that, we became aware of some 12 ACH activity that was fraudulent in nature, and so we 13 went through the same process with that as well. 14 CHAIRMAN WILLIAMSON: So did we like -- 15 were there charges filed on any of these people? Did we 16 recover any of the money that they fraudulently -- 17 created false checks or whatever the heck they did? 18 MS. PYKA: Certainly. There was an 19 investigation, as I mentioned, by Enforcement. And so 20 through the work of our Enforcement team -- and I don't 21 have the exact account -- but certainly several of those 22 individuals were prosecuted. And I don't have the 23 disposition of their exact status right now, but 24 certainly a number of them were found guilty. 25 COMMISSIONER KRAUSE: Who were these 80 1 people? 2 CHAIRMAN WILLIAMSON: Do we have any idea? 3 COMMISSIONER KRAUSE: They don't work for 4 us? 5 MS. PYKA: No, they do not work for us. 6 COMMISSIONER KRAUSE: Okay. They just 7 comment on the outside? 8 MS. PYKA: Correct. 9 COMMISSIONER KRAUSE: Okay. 10 CHAIRMAN WILLIAMSON: Okay. So proceed 11 forth. And then your team came in and went through and 12 basically looked at what they had been trying to do for 13 the last -- since 2000 and -- whenever you started 14 doing -- so you went in and spent your time and looked 15 at all that? 16 MS. MELVIN: Yes, ma'am. 17 CHAIRMAN WILLIAMSON: Okay. And, of 18 course, your results speak for themselves. 19 Now, the other thing is, I'm worried 20 during this that we're -- there were already processes 21 in place to correct all of the deficiencies, as it were, 22 and the processes and whatever to make sure this didn't 23 happen. Did y'all look at any of those? 24 MS. MELVIN: We launched the audit in 25 December of 2010. So our review period was, or scope 81 1 under audit, was through December of 2010. So our focus 2 clearly was on what we're calling the legacy account, 3 the old account. As Kathy mentions, the agency opened 4 the new account on August 30, 2010. So we looked at 5 September, October, November, December, those months, 6 and verified that, as she stated, within the new 7 account, that account had reconciled to zero each of 8 those months. 9 But we didn't go into great detail about 10 the new process, seeing as the account was only open 11 four months. And, you know, obviously, given the nature 12 of the complaint, we wanted to ensure we had a pretty 13 thorough review of the legacy account. 14 CHAIRMAN WILLIAMSON: From a materiality 15 perspective, was it somebody who said -- I don't know. 16 Kathy, it was you -- that there were like 5,000 17 transactions a month? 18 MS. PYKA: That's correct. 19 CHAIRMAN WILLIAMSON: So somebody do the 20 math for me. Over this period of time -- no. How many 21 transactions were unauthorized compared to the total 22 number of transactions that occur, say, over a year's 23 period of time or maybe even this whole four-year period 24 of time we were looking at? 25 MS. PYKA: Okay. So just looking at the 82 1 data from the report, there were 136 unauthorized 2 transactions. Of those 136, 100 of them were credited 3 back to us by Bank of America, because we were able to 4 provide them timely notification of the fraudulent 5 activity. So it left 36 transactions which were the 6 responsibility of the state, just under $50,000, that 7 became a bad debt to the state for fraudulent activity. 8 I'm going to focus first on -- the fraud 9 period was about a 21-month period. And so with about 10 5,000 transactions per month, that would equate to a 11 little bit over 100,000 transactions for that fraudulent 12 period. And again, we had 136 which were unauthorized. 13 The audit period I believe would have been 14 52 months if it went from September of 2006 to December 15 of 2010. So that would have included about 260,000 16 transactions included in the audit period for -- 17 CHAIRMAN WILLIAMSON: Is that kind of 18 where you came up, the same numbers? 19 MS. MELVIN: Yes. 20 CHAIRMAN WILLIAMSON: And I can't do the 21 math, because -- 22 MS. MELVIN: I haven't done the math but 23 that sounds about right. 24 CHAIRMAN WILLIAMSON: I don't know what 25 the math is, but that's got to be a point zero zero 83 1 something something percent, unless anybody can do that 2 in their head. 3 So let's talk about the dollar side of the 4 same things. What are we talking about dollar 5 perspective? What's the material- -- you know, 6 transactions are one thing. Dollars, obviously, are 7 more important, because it does impact what we give back 8 to the state or we earn for the state for the school 9 fund. So what are we talking about there? 10 MS. PYKA: Certainly. We understand the 11 importance of every dollar again. The fraudulent 12 activity that was not recovered was right around 13 $50,000. If we look at the revenue that we transferred 14 to the Foundation School Fund during that same time 15 period, we transferred $1.692 billion. And so as a 16 percentage of the total, it would be .003 percent of the 17 total, in dollars. 18 CHAIRMAN WILLIAMSON: Okay. 19 Commissioners, do you have any questions 20 or comments? 21 COMMISSIONER KRAUSE: Well, other than the 22 fact that, you know, once you got here and started 23 trying to figure out this, I mean, there isn't anything 24 that indicates that people that work for us were doing 25 wrong as far as taking money? 84 1 MS. PYKA: I am not aware of anybody on my 2 staff or certainly I will assure you I have not done 3 anything wrong in taking money. 4 COMMISSIONER KRAUSE: Right. We got our 5 investigative team on it, not Internal Audit but -- 6 MS. PYKA: Our Enforcement Division. 7 COMMISSIONER KRAUSE: -- I guess, you 8 know, our PIs or whatever. And so if they had thought 9 that we had internal folks, they would have focused on 10 that. 11 MS. PYKA: I would believe so. 12 COMMISSIONER KRAUSE: Right. Okay. And 13 so, you know, I guess I'm satisfied that we're clean as 14 far as that concerns. And then basically we were 15 wrestling with how to deal with the accounting 16 discrepancy. And during that time, we did get a little 17 taken advantage of, you know, by come con men, which I'm 18 not surprised. I mean, we're a huge financial 19 organization. And I'm sure Bank of America gets hit all 20 over the world with people trying to steal from them. 21 So what was about the time that our 22 investigators, our Enforcement people, were working on 23 their end of it? 24 MS. PYKA: They began their work in 25 December of 2008, is when they began their work. 85 1 COMMISSIONER KRAUSE: Okay. 2 MS. PYKA: And it was a fairly lengthy 3 process. They interviewed a number of individuals 4 involved in the fraudulent scheme and certainly met with 5 Harris -- it was in Harris County. 6 COMMISSIONER KRAUSE: How did it come to 7 our attention that the con men were actually getting the 8 better of us on some of that? 9 MS. PYKA: Through our nominal account 10 reconciliations. 11 COMMISSIONER KRAUSE: Okay. So the 12 procedures that we had in place were finding that. It 13 was just kind a little bit of a timing thing? 14 MS. PYKA: Correct. 15 COMMISSIONER KRAUSE: Okay. 16 MS. PYKA: Because -- 17 COMMISSIONER KRAUSE: They got -- 18 (Simultaneous discussion) 19 MS. PYKA: Yes. 20 COMMISSIONER KRAUSE: I like that. 21 CHAIRMAN WILLIAMSON: And I understand 22 your audit. You did not find any evidence of 23 internal -- 24 MS. MELVIN: No. 25 CHAIRMAN WILLIAMSON: -- unauthorized 86 1 activity during that time. 2 MS. MELVIN: In the course of my audit, 3 yes. 4 CHAIRMAN WILLIAMSON: Okay. 5 Do you have any questions? 6 Thank you both. I felt it was very 7 important that, you know, when things like this occur, I 8 believe we certainly need to come to an understanding of 9 what all transpired. 10 What I am going to do, unless one of my 11 fellow commissioners objects, I am going to request that 12 the State Auditor come in and look at the processes that 13 you have in place now, just to double assure us and, you 14 know, affirm kind of where you report, that we are doing 15 everything properly to take care of it from this point 16 forward and to figure out what we are going to do in 17 terms of dealing with that old account that doesn't 18 exist -- that old balance. I don't even like to use 19 that word -- that old balance on the general ledger and 20 what we need to do with that. 21 MS. PYKA: And I might address that. We 22 did move forward with the account write-off of the old 23 balance on the general ledger, in August of 2012. And 24 so the financial audit team that is in now is certainly 25 looking at that. So once we get through this audit, 87 1 that will be addressed. 2 And I certainly welcome any input or 3 oversight by the State Auditor's Office in coming back 4 in to look at the follow-up. I feel like through the 5 total positive pay features that we've put in on this 6 new account, that we've got some great fraudulent 7 activity screens in place, and we certainly have been 8 better served by having that in place. 9 CHAIRMAN WILLIAMSON: All right. Thank 10 you. 11 Any other -- 12 COMMISSIONER KRAUSE: No. 13 CHAIRMAN WILLIAMSON: All right. Thank 14 you. 15 MS. MELVIN: Thank you. 16 AGENDA ITEM NO. XIII 17 CHAIRMAN WILLIAMSON: Our next item is 18 report, possible discussion and/or action on GTECH. 19 Gary? 20 MR. GRIEF: Thank you, Madam Chairman. 21 Other than what's in your notebook today, 22 I want to recognize Mr. Alan Eland who is here from 23 GTECH. Alan is the Senior Vice President of the 24 Americas for GTECH and, obviously, keeps a close handle 25 on activities here in Texas, working closely with Joe 88 1 Lapinski, our account general manager. 2 But also Alan is involved on a national 3 scale with much of the private manager agreement 4 initiatives that are taking place around the country 5 where some of our fellow lotteries are looking to 6 outsource much of what they do. So I thought it might 7 be helpful, while Alan is in town, for him to come 8 forward and give you an overview of what he's seeing in 9 that regard in the industry and give you a chance to ask 10 him any questions you might have. 11 CHAIRMAN WILLIAMSON: All right. Oh, 12 good, and we get to grill him about other things. 13 MR. ELAND: Madam Chair, Commissioners, 14 Alan Eland from GTECH, for the record. 15 So I thought what I would do is explain 16 exactly what the PMAs are -- private manager agreements. 17 They're referred to these days as PMAs -- which states 18 have actively finished the process -- there are two -- 19 and then what states are in process with active 20 procurements. There are two of those as well. 21 But by way of background, in 1992, Texas 22 really was the first state that started the trend for 23 expanded outsourcing. And specifically with the data 24 communications network, the sales force and the 25 warehousing and distribution included in what it 89 1 outsourced, Texas really led the way. Quite a few 2 states followed suit in the years after '92 when Texas 3 started. 4 And these PMAs take that outsourcing to 5 the next level. So most of what Texas outsources, so do 6 the PMAs. They do more than that as well. But the real 7 difference, the real fundamental difference is, there is 8 a transfer of risk from the state to the private 9 operator. And by that, I mean the basis of competition 10 for these PMA bids is the amount of profit that the 11 operators are willing to commit over a period of time. 12 It can be, in the case of Illinois, a 13 10-year period of time. And Indiana, which just 14 concluded its process, it fully extended its 20 years. 15 The basis of competition in both of those was limited to 16 the commitment that you are willing to make for a 17 five-year period. And then there were rules for 18 subsequent years after the five it couldn't dip below, 19 it had to grow at a conservative (inaudible). 20 So it's that fundamental shift of risk 21 that we guarantee the profit when we bid, subject to 22 certain caps. So what does that mean? If we fall short 23 on the profit commitment we've made in any given year, 24 then we owe the state the difference between the actual 25 and the commitment we made, subject to a five percent 90 1 cap. 2 On the up side, if we exceed the profit 3 commitment that we made, then we get to share in some 4 incentive compensation, and both states handle that a 5 little differently. Illinois had bands where in one 6 band, the lowest band, you get to share 10 percent, the 7 Tier 2 was 20 percent and finally, above Tier 2, 30 8 percent. Indiana handled it a little bit differently -- 9 five percent above, five percent below. 10 But in any case, it's this fundamental 11 shift of risk that makes the PMAs different. So we make 12 a commitment of profit. The state, on the other hand, 13 makes it very clear that they're still in control, 14 consistent with federal law. So there they make it very 15 clear that they get the final say in all decisions, and 16 they have the ability to countermand any decision we as 17 an operator would make. 18 So there needs to be something that 19 balances off their control with our commitment. So in 20 the middle, to perform that balancing act, there is a 21 clause called adverse action. And really what that 22 means is, if we have an approved business plan, maybe it 23 includes the launch of a new game, and then the state, 24 after approving it, says, "We've changed our mind. We 25 don't want you to launch that game," then we are given 91 1 relief on the profit that we expected to come from that 2 game, from our commitment. So there is some balance 3 between the risk that we take on the commitment and the 4 states' requirement to maintain control. 5 So in a nutshell, that's what the PMAs 6 are. Illinois finished their process over a year ago. 7 We finished our first full year of operation in 8 Illinois. Our commitment was to grow their profits by 9 112 million in Year One. We actually achieved 10 109 million in growth on a base of just over 650. 11 Indiana, we were just awarded that 12 contract a few weeks ago, and we're just in the process 13 of integrating with the lottery. And we really won't 14 assume full operation until their fiscal year changes, 15 July 1 of '13. There is a period of ramp-up -- a 16 defined period of transition, then a period of ramp-up, 17 so the transition is sort of gradual. It's not all at 18 once in July. 19 New Jersey and Pennsylvania have active 20 procurements, as we speak. Unfortunately for this 21 presentation, both of those states, we are covered by a 22 pretty strict confidentiality agreement. And we're not 23 allowed to talk about, including our participation or 24 non-participation in either of those. So I can't share 25 with you too much, other than to say that the RFPs are 92 1 out and they're both very active in their procurements. 2 So I would be happy to entertain any 3 questions that any of you have on those contracts. 4 CHAIRMAN WILLIAMSON: How do those sizes 5 of those lotteries compare to the size of this lottery, 6 I guess maybe in term of gross sales or some comparable 7 number? 8 MR. ELAND: Sure. In Illinois, the 9 profits the year that -- or when we took over, as I 10 said, were just over 650 million, so that compares with 11 just over a billion for Texas, so a little bit smaller, 12 Indiana considerably smaller. Their Fiscal Year '13, 13 which ends at the end of June of '13, which they're in 14 now, they expect to hit 225 million. So Indiana is 15 quite a bit smaller as well. 16 And I think it's worth noting that both of 17 those jurisdictions underperformed. So they were both 18 bottom quartile performers in the marketplace, so there 19 was considerable upside potential. And it was that 20 growth that the government wanted to see if they could 21 tap into. That was a big motivating factor behind why 22 they went to the PMAs. 23 Although still I can't say much about the 24 other two, it's worth noting that they're worth 25 watching, because they're just the opposite. Both 93 1 Pennsylvania and New Jersey, like the State of Texas, 2 have very well-performing lotteries. There isn't that 3 significant upside potential. So those processes should 4 be quite a bit different. 5 CHAIRMAN WILLIAMSON: And, of course, as 6 we all know, a lot of that is driven -- since they want 7 a floor on how much that they're going to earn, where 8 they are in their state budgets and where they are in 9 trying to fill those deficits in their budgets -- I 10 mean, certainly if you read about Illinois, that's been 11 the case, certainly in the past, I suppose. 12 MR. ELAND: That's true. 13 CHAIRMAN WILLIAMSON: And I don't keep up 14 with Indiana and the other ones. So it's an interesting 15 model, be interesting to see how that risk goes for you 16 guys. 17 MR. ELAND: Yes, it is interesting. 18 COMMISSIONER KRAUSE: Well, is that any 19 kind of an evolution from the kind of agreement we had 20 with you-all? Or how close is -- keeping in mind that 21 our contract is -- what? -- five feet high, or just 22 stack it all up -- or more? So the model you're 23 describing, how close is what we have to that, if it is 24 at all? 25 MR. ELAND: I don't think it's that close. 94 1 And I think the big difference is the risk. So there's 2 expanded outsourcing here in Texas, and you trust us 3 with quite a bit. But we haven't taken that risk of 4 guaranteeing your profits nor have you said in exchange 5 for that risk, you would want to pay us considerably 6 more to offset the risk that we might take. So I really 7 don't think that they're that close. 8 COMMISSIONER KRAUSE: So we have more of 9 an entrepreneurial. They want a guarantee, and we have 10 more of an entrepreneurial outlook. I think we've got 11 great staff that helps develop good product and good 12 operators that bring it out. 13 MR. ELAND: I've always said -- and we've 14 said this -- that the private manager opportunities, 15 these new agreements, they're not really for every 16 lottery. And I really am anxious to see how the other 17 two play out. And I really don't think -- and I've said 18 that -- paid this compliment before to this lottery -- 19 it's very commercially minded, and it's a very 20 successful lottery. And I don't know how an evolution 21 to a PMA would help this lottery at all. 22 COMMISSIONER KRAUSE: Do the other states 23 understand how our agreement works? I mean, one of the 24 things that I'm really proud of is that, you know, our 25 contract with GTECH lets the whole thing evolve as there 95 1 are innovations, you know, in gaming, in what the public 2 wants and that kind of thing. 3 MR. ELAND: I think -- and Gary may have a 4 better idea -- states have a general awareness of how 5 maybe another state operates or how Texas operates, 6 because Texas is somewhat unique, but I would say 7 probably not a detailed awareness. 8 COMMISSIONER KRAUSE: Yes. 9 MR. GRIEF: I'll offer a comment, probably 10 say some things that Alan is not in a position to say. 11 COMMISSIONER KRAUSE: All right. 12 MR. GRIEF: My sense on these private 13 manager agreements that have sprung up, these haven't 14 arisen from the state lottery staffs in these particular 15 states. That's not who has been driving these. These 16 are coming from leadership offices in those states. And 17 why they're driven to that is probably a combination of 18 different factors. 19 I've said this in conferences before when 20 I've sat on panels, I think any time you structure an 21 RFP, whether it's an outsourcing agreement or whether 22 it's for a PMA, I think you have some inherent problems 23 when you don't involve two groups in that process. One 24 is the lotteries and their staffs and the other are the 25 vendors -- the GTECHs, Scientific Games and Interlott. 96 1 My take in watching all of this is that in 2 many of these situations, those groups aren't being 3 involved in this, it's being handled at a different 4 level in a different venue, and the RFP is released. 5 And then the lottery and the vendors try to catch up and 6 learn what's in the RFP and what needs to be followed. 7 That's my take. 8 MR. ELAND: Well, I think that's 9 definitely true. And I would underscore that these 10 agreements are -- the genesis seems to be more political 11 in nature and not driven by the respective lottery 12 organizations. To a different degree, they're brought 13 in during the process but not driven by the lotteries. 14 COMMISSIONER KRAUSE: Don't the people who 15 know the least about it are telling everybody else what 16 to do? 17 CHAIRMAN WILLIAMSON: I'm not sure Alan 18 can comment on that publicly. 19 (Laughter) 20 COMMISSIONER KRAUSE: That's my take. 21 (Laughter) 22 CHAIRMAN WILLIAMSON: All right. Any 23 other? 24 COMMISSIONER DELGADO: No. 25 CHAIRMAN WILLIAMSON: Thank you, Alan. 97 1 MR. ELAND: Thank you, Commissioners. 2 AGENDA ITEM NO. XIV 3 CHAIRMAN WILLIAMSON: All right. The next 4 item is report by the Executive Director and/or possible 5 discussion and/or action on the agency' operational 6 status, agency procedures, awards and FTE status. 7 Gary. 8 MR. GRIEF: Thank you, Madam Chairman. 9 Other than what's in your notebook today, 10 the only thing I want to highlight is, unless you've 11 been living in a cave and you're in Central Texas, 12 you've heard all about the F1 race coming to the new 13 Circuit of the Americas track that's been built on the 14 outskirts of Austin. There's been about a $400 million 15 investment in that facility. The excitement continues 16 to build. 17 And as with everything that went into the 18 development of that facility and the F1 race itself, 19 there were many entities that were racing to the finish 20 line to try to be involved in that and get some type of 21 sponsorship or name recognition or advertising through 22 that event. 23 So I'm happy to tell you again -- you've 24 heard about this -- that we did manage to have GTECH 25 reach a licensing agreement with Circuit of the 98 1 Americas, and we have issued a scratch-off game in 2 conjunction with Circuit of the Americas. We didn't get 3 everything in that game that we wanted this time, just 4 because we didn't have enough time. Next year we would 5 like to have some experiential prizes like we do with 6 our Cowboys and Texan type games. In my discussions 7 with the Circuit of the Americas people, we feel like 8 that's going to be a definite possibility. 9 But the event is coming up in 10 mid-November. I plan on being there representing the 11 Texas Lottery in that regard. And we've had our Circuit 12 of the Americas ticket out for about a week and a half, 13 and we're already closing in on about $2 million in 14 tickets sold. So we've very happy with the revenue 15 returns that we're getting. I know that in my 16 conversations with the Circuit, they're very happy with 17 that partnership as well. So I just want to let you 18 know, that excitement is really building towards that 19 event. 20 CHAIRMAN WILLIAMSON: Will there be a 21 sales site out there at the track? 22 MR. GRIEF: Not this year, but that's 23 another thing that we want to try to work on for next 24 year. 25 CHAIRMAN WILLIAMSON: All right. And I 99 1 find this interesting: There is no press coverage of 2 this in North Texas. I've not seen it on the media -- 3 the television, I have not seen it in the newspapers, 4 which I keep looking for it, just talking about it, and 5 I've seen nothing. It's just real interesting. 6 All right. Does anybody have any 7 questions of Gary? 8 AGENDA ITEM NO. XV 9 CHAIRMAN WILLIAMSON: The next item is 10 report by the Acting Charitable Bingo Director and 11 possible discussion and/or action on the Charitable 12 Bingo Operation Division's activities, including updates 13 on licensing, accounting and audit activities, pull-tab 14 review, special projects. 15 Bruce, this is your item, please. 16 MR. MINER: Good afternoon, commissioners. 17 For the record, my name is Bruce Miner, Acting Director 18 of the Charitable Bingo Operations Division. 19 The September and October reports of bingo 20 activities are contained in your notebook, and I have 21 nothing further to comment on. 22 CHAIRMAN WILLIAMSON: All right. Thank 23 you. 24 Commissioners, do you have any questions? 25 COMMISSIONER KRAUSE: I do not. 100 1 2 AGENDA ITEM NO. XVI 3 CHAIRMAN WILLIAMSON: The next item is 4 consideration of the status and possible entry of orders 5 in cases posted on the meeting agenda. 6 Bob. 7 MR. BIARD: Thank you. Commissioners, 8 again I'm Bob Biard, General Counsel. 9 And we have 10 enforcement-related cases 10 today. Tabs A through I in your notebook are lottery 11 retailer matters I would like to take up together. 12 Letter J is a bingo agreement order. Tabs A through I 13 are all recommended license revocations. 14 These cases were all presented at the 15 State Office of Administrative Hearings for revocation 16 on the grounds the licensee failed to have sufficient 17 funds available to cover electronic funds transfers to 18 the Commission's account. The Administrative Law Judge 19 recommends revocation in each of these cases, and staff 20 recommends that you vote to approve the order in each 21 case, revoking the license. 22 If you approve, I have a single mass order 23 that covers all nine of these cases. 24 CHAIRMAN WILLIAMSON: Commissioners, do 25 you have any questions? 101 1 COMMISSIONER DELGADO: No, ma'am. 2 CHAIRMAN WILLIAMSON: Is there a motion? 3 COMMISSIONER KRAUSE: I make a motion that 4 we approve the proposed order by the Administrative Law 5 Judge in Agenda Items A through I of No. XVI. 6 COMMISSIONER DELGADO: Second. 7 CHAIRMAN WILLIAMSON: All in favor? 8 COMMISSIONER KRAUSE: Aye. 9 CHAIRMAN WILLIAMSON: Aye. 10 COMMISSIONER DELGADO: Aye. 11 CHAIRMAN WILLIAMSON: Motion passes 3-0. 12 So at this time, I move that the Lottery 13 Commission go into executive session to deliberate the 14 duties -- 15 MR. BIARD: I'm sorry. I have one bingo 16 order that I'll handle on top of that. Sorry. 17 CHAIRMAN WILLIAMSON: Okay. 18 MR. BIARD: And I'll hand you the mass 19 order for lottery cases. 20 Just real quickly, I'll take up Tab J. 21 It's a bingo agreed order. It's a proposed 22 settlement with Millios Youth Outreach and Motivational 23 Services in San Antonio. It's the result of an audit. 24 Staff has entered into a Settlement Agreement. There 25 are various violations of the Bingo Enabling Act that 102 1 were discovered, and the parties have agreed on the 2 settlement. Staff recommends that you vote to approve 3 the agreed order in this case. 4 CHAIRMAN WILLIAMSON: All right. Is there 5 a motion? 6 COMMISSIONER KRAUSE: I make a motion that 7 we approve staff's proposed agreed order in Item J of 8 Agenda Item XVI. 9 CHAIRMAN WILLIAMSON: Is there a second? 10 COMMISSIONER DELGADO: Second. 11 CHAIRMAN WILLIAMSON: All in favor? 12 COMMISSIONER KRAUSE: Aye. 13 CHAIRMAN WILLIAMSON: Aye. 14 COMMISSIONER DELGADO: Aye. 15 CHAIRMAN WILLIAMSON: Motion passes 3-0. 16 MR. BIARD: Thank you, Commissioners. 17 I'll hand you the agreed order in that case. 18 CHAIRMAN WILLIAMSON: All right. I'm 19 sorry. 20 AGENDA ITEM NO. XVII 21 CHAIRMAN WILLIAMSON: The next item is 22 public comment, and I have no requests under that. 23 AGENDA ITEM NO. XVIII 24 CHAIRMAN WILLIAMSON: So at this time I 25 move that we go into the executive session to deliberate 103 1 the duties and evaluation of the Executive Director, 2 Internal Audit Director and Acting Charitable Bingo 3 Operations Director and to deliberate the duties of the 4 General Counsel and Human Resources Director, pursuant 5 to Section 551.074 of the Texas Government Code, 6 deliberate the appointment, employment and/or duties of 7 the Charitable Bingo Operations Director, pursuant to 8 Section 551.074 of the Texas Government Code, and to 9 receive legal advice regarding pending and/or 10 contemplated litigation pursuant to Section 11 551.071(1)(A) and legal advice regarding settlement 12 offers pursuant to Section 551.071(B) and to receive 13 legal advice pursuant to Section 551.071(2), all of 14 these of the Texas Government Code, including but not 15 limited to those items posted on the open meetings 16 notice for purposes of receiving legal advice. 17 Is there a second? 18 COMMISSIONER KRAUSE: Second. 19 CHAIRMAN WILLIAMSON: All in favor? 20 COMMISSIONER KRAUSE: Aye. 21 CHAIRMAN WILLIAMSON: Aye. 22 COMMISSIONER DELGADO: Aye. 23 CHAIRMAN WILLIAMSON: Motion passes 3-0. 24 The Texas Lottery Commission will go into executive 25 session. The time is 3:18. Today is November the 8th, 104 1 2012. 2 (Off the record for executive session: 3 3:18 p.m. 4:15 p.m.) 4 AGENDA ITEM NO. XIX 5 CHAIRMAN WILLIAMSON: The Texas Lottery 6 Commission is out of executive session. The time is 7 4:15. 8 AGENDA ITEM NO. XX 9 CHAIRMAN WILLIAMSON: And there are two 10 action items as a result, is regarding the Charitable 11 Bingo's -- action on the appointment, employment and 12 duties of the Charitable Bingo Operations Director. I 13 believe there's a motion to -- 14 COMMISSIONER DELGADO: Yes, there is. The 15 Commission would like to ask the Chairman to coordinate 16 with Commission staff on the details of the application 17 process for charitable bingo operations, up to the point 18 of interviewing and selecting a finalist for the 19 position. Therefore, I move that the Commission 20 delegate to the Chairman the authority to coordinate 21 with the Human Resources Director and other Commission 22 staff, as she deems necessary, without the need for 23 further Commission discussion or action to finalize the 24 posting for the Charitable Bingo Operations Director and 25 post the position and to decide on the process to screen 105 1 the applicants, to conduct background investigations, to 2 schedule interviews and other matters related to the 3 application process. The Commission, at a later posted 4 meeting, will conduct interviews and consider selecting 5 the finalists. 6 COMMISSIONER KRAUSE: Second. 7 CHAIRMAN WILLIAMSON: All in favor? 8 COMMISSIONER KRAUSE: Aye. 9 CHAIRMAN WILLIAMSON: Aye. 10 COMMISSIONER DELGADO: Aye. 11 COMMISSIONER KRAUSE: The motion passes 12 3-0. 13 The next motion. On August the 21st, 14 2012, the Commission voted to request the Governor and 15 the Legislative Budget Board approve an increase in the 16 salary rate for the Executive Director pursuant to 17 Section 3.05, Article IX of the General Appropriations 18 Act. We have made the request, and we are approved to 19 set the Executive Director's salary at $200,000; 20 therefore, I move that the Commission set the annual 21 salary at this rate, effective today, November the 8th, 22 2012. 23 Is there a second? 24 COMMISSIONER DELGADO: Second. 25 CHAIRMAN WILLIAMSON: All in favor? 106 1 COMMISSIONER KRAUSE: Aye. 2 CHAIRMAN WILLIAMSON: Aye. 3 COMMISSIONER DELGADO: Aye. 4 CHAIRMAN WILLIAMSON: The motion passes 5 3-0. 6 AGENDA ITEM NO. XXI 7 CHAIRMAN WILLIAMSON: At this, I believe 8 this concludes the business of the Commission. Is there 9 a motion to adjourn? 10 COMMISSIONER DELGADO: I move we adjourn. 11 CHAIRMAN WILLIAMSON: Is there a second? 12 COMMISSIONER KRAUSE: Second. 13 CHAIRMAN WILLIAMSON: All in favor? 14 COMMISSIONER KRAUSE: Aye. 15 CHAIRMAN WILLIAMSON: Aye. 16 COMMISSIONER DELGADO: Aye. 17 CHAIRMAN WILLIAMSON: Motion passes 3-0. 18 We're adjourned. 19 (Commission meeting adjourned: 4:17 p.m.) 20 21 22 23 24 25 107 1 C E R T I F I C A T E 2 STATE OF TEXAS ) 3 COUNTY OF TRAVIS ) 4 I, Aloma J. Kennedy, a Certified Shorthand 5 Reporter in and for the State of Texas, do hereby 6 certify that the above-mentioned matter occurred as 7 hereinbefore set out. 8 I FURTHER CERTIFY THAT the proceedings of 9 such were reported by me or under my supervision, later 10 reduced to typewritten form under my supervision and 11 control and that the foregoing pages are a full, true 12 and correct transcription of the original notes. 13 IN WITNESS WHEREOF, I have hereunto set my 14 hand and seal this 19th day of November 2012. 15 16 17 ________________________________ 18 Aloma J. Kennedy Certified Shorthand Reporter 19 CSR No. 494 - Expires 12/31/12 20 Firm Registration No. 276 Kennedy Reporting Service, Inc. 21 1016 La Posada Drive, Suite 294 Austin, TX 78752 22 512.474.2233 23 Job No. 105115 24 25