程阳：美国彩票机构业务“私有化”综述

 

Extended Outsourcing – the Wave of the Future?

 

There may soon be four lottery jurisdictions with new private management agreements, an expanded form of outsourcing, but it will be a long time before there is a consensus as to their impact on the industry.

 

In rapid fire progression, four jurisdictions have gone through a process to outsource some of their lotteries’ major sales and marketing functions in efforts to grow revenues and secure future support for good causes. Although the term “privatization” has been popular in the general media, that is not what is actually happening with these “private management” or “integrated service” agreements.

 

Illinois was the first of the four, of course, followed by Indiana. Pennsylvania has a tentative contract award in place, despite the ire of legislators who felt left out of the process. And New Jersey recently received one bid for its efforts, which is currently undergoing evaluation.

 

While there are unique circumstances in each state, the general idea in this new generation of outsourcing is that a private manager – typically overseeing sales and marketing functions previously handled by lottery employees – can provide the state with a guaranteed profit stream for an extended period, removing the risk of a lottery’s potentially variable operating results and, hopefully, increasing those results significantly as well.

 

“It’s not about efficiencies – lotteries are incredibly efficient,” said Michael Jones, Superintendent of the Illinois Lottery. “It’s about the market potential. In general, research suggests a wide gap between the percentage of people who are in favor of a lottery and the percentage of people who play it. The existing core playership is older, has less disposable income and is easily attracted to other forms of gambling. The Illinois Legislature, recognizing the financial impact of broadening the lottery’s player base, stepped in, examined the numbers and determined that the lottery could make a lot more money under different management.”

 

Could lotteries achieve the desired results on their own? Probably, if they could rethink their core strategy and align their organizations to a more effective business model. But too often, within the confines of state government, it’s just not possible to adapt quickly to market changes and to create a whole new strategic vision. “The bureaucratic nature of some state governments doesn’t naturally fit a selling organization like a lottery,” said Jones.

 

Outsourcing is nothing new – in fact, every American lottery uses it to some degree. Gaming systems, terminals, communications networks, instant tickets – all of those are typically outsourced to private companies. Some lotteries rely even more on private industry.

 

“Outsourcing is a very effective lottery operating model,” said Gary Grief, Executive Director of the Texas Lottery, which has operated on this basis since its inception. Texas contracts with a single vendor, called the Lottery Operator, and pays that vendor a percentage of sales, currently 2.20999%, in return for its services, which include provision of the Lottery’s gaming system, terminals and communication network, a call center for retailer support, marketing and promotions staff and services, field sales staff and services, and instant ticket processing, warehousing, packaging and distribution.

 

Many of these functions are those included in this new generation of private management agreements, but the key difference involves the method of compensation to the private companies. States have asked for guarantees of a minimum annual revenue (profit) stream, and companies are paid based on achieving those profit goals. Penalties are in

 

 

 

place if the company fails to meet that minimum revenue. The focus on profits is a good thing; the penalty clauses are not, say many observers.

 

Historically lotteries have focused on sales results, but it is clear that growing sales is not the same as growing profits. The process that began in Illinois was an “attempt to completely change the mindset from being sales oriented to profit oriented,” said Jones. “Where vendors were compensated based on sales, now they get compensated and/or fined based on profits. That’s a huge switch.”

 

But many believe the model of reward and penalty is seriously flawed. And those flaws are playing out right now in Illinois with the state in mediation with Northstar after first-year profits failed to live up to promises. “As long as you have a situation where there is a guaranteed amount of income, and where there are penalties if that income level is not met, in my opinion, too much time and resources will be spent on the pointing of fingers and placing of blame for any shortfalls, all of which will take away from the ultimate goal of generating revenue for good causes,” said Grief. “That doesn’t make any good business sense. The interests of the private manager and the lottery must be aligned for these arrangements to be successful.”

 

He explained that in Texas, there are hundreds of performance-related sanctions and liquidated damages spelled out in black and white in the lottery operator contract. There’s just too much gray area in the new contracts and the end result is that each side blames the other. And that blame creates a strained relationship between the lottery and the private company, which is exactly what has happened in Illinois. Despite all the safeguards, guarantees and penalties, the parties still ended up in mediation. “I don’t know why a state would think that is a good architecture for a business relationship,” said Jones. “It isn’t. It creates a contentious relationship even before startup.”

 

There are alternatives, but so far they haven’t been considered by governments eager for guarantees and up-front payments. Grief would like to see lottery directors and vendor representatives participate in the discussions when states are considering outsourcing. “My belief is that lottery directors, if allowed input on the type of outsourcing to be done in their particular jurisdiction, would approach the issue differently than what we are seeing today,” he said.

 

Jones thinks states should eschew long-term contracts – and they have gone from 10 years in Illinois, to 15 in Indiana and New Jersey and to potentially 30 in Pennsylvania – with elaborate reward/penalty criteria, in favor of a simpler approach. “I would urge any state that is looking to outsource to develop criteria that from a business standpoint incentivizes as opposed to penalizes,” he said. “And if you want a private manager, hire a private manager. If that manager doesn’t perform, fire them and bring in a new one.”

 

The Illinois Experience

 

Of course, the end results will likely determine the future of the industry. And at this point, results are in from only one jurisdiction. A whirlwind of changes have been implemented in Illinois with very positive trends, including both record sales and profits in fiscal 2012. However, those profits still fell well short of the targets specified in the contract, triggering penalties. As noted, Northstar and the state are still in mediation about the amount; Northstar claimed adverse actions by the state kept it from hitting its goal.

 

Jones summed up the pros and cons of the first year with Northstar. “On the one hand the structure of the Private Management Agreement created a contentious business relationship even before sales began. But on the other hand, both parties committed to making the business relationship work in order to maximize the partnership’s potential. Northstar soon realized it was being given an enormous opportunity by the Lottery’s new management team to maximize Lottery profits and the company’s potential income. It also realized that it had to develop new skills. The company acted quickly to bring in the expertise and ideas of Lottomatica, the very successful Italian private manager. Northstar’s new management team and brand transformation strategies are having a major impact on our Lottery.”

 

Several sales and marketing indicators point to a lot of success:

 

• Sales grew by more than 16 percent to exceed $2.68 billion in fiscal 2012.

• Northstar’s business plan included retailer expansion and optimization. To date, the Lottery has added about 740 retailers.

• Instant ticket sales soared in fiscal 2012, up 27 percent. Contributing to that increase were a number of factors: major improvements in how tickets were marketed in stores; a significant reduction in the number of new games during the year (43 compared to 70 in fiscal 2011; some games were so popular there were reorders); instant games dedicated to special causes that became brand leaders; ticket design for selected games was taken over by Northstar and the Lottery and assigned to Illinois design firms, resulting in more graphically attractive tickets; and ticket sizing became a function of graphic design. And the growth continues – the holiday ticket program and advertising campaign were major improvements over previous years.

• The first major product innovation came with a terminal game, as Little Lotto (a Pick 5 type of cash lotto game) was completely overhauled to become Lucky Day Lotto. The relaunch included a vertically integrated marketing campaign complete with consumer and retailer promotions, game enhancements and dedicated advertising. The campaign and name change, coupled with the ongoing brand campaign, dramatically improved consumer perceptions of the lottery and led to increased sales in other game categories.

• These game changes were part of a broader brand transformation that started with the selection of a new advertising agency. That review process confirmed the Lottery’s relatively poor standing in Illinois – a high percentage of adults agreed that “the Lottery is not for someone like me.” A new brand campaign, Anything’s Possible, has been tremendously successful in rebuilding the brand and changing the whole image of Lottery. Monthly research is proving that peoples’ opinions about the Lottery are improving dramatically, noted Jones.

 

Jones spoke highly of Northstar’s new management team that includes several executives imported from Lottomatica, the parent company of GTECH Corp. They have brought with them strategies that have been successful in growing Italy’s national lottery, one of the oldest and largest lotteries in the world.

 

A more recent improvement was a new interface for the Lottery’s Internet test program. Internet sales of selected games began last March – and despite its debut during the final runup to the record Mega Millions jackpot, Internet sales fell far short of expectations. The redesigned system was launched in November.

 

Other Developments

 

At this writing, one other state has a signed contract with a private manager – Indiana calls it an integrated services agreement. The accompanying interview with Connie Laverty O’Connor provides an overview of what is happening at the Hoosier Lottery.

 

Two other states have gone through the procurement process for a private manager, Pennsylvania and New Jersey. Both resulted in only one bid. That fact alone should indicate there is something wrong with the process, according to Jones. “The RFPs have been defined in a manner that only large existing lottery companies have responded. I think that’s unfortunate. There just seems to me to be a wide variety of potential solutions to what you are trying to do, which is maximize profits to the state. And the process states are using so far, in a nutshell, has led to little competition and no new bidders representing marketing consortiums.”

 

Pennsylvania is the most interesting case yet in several ways. The drive towards private management came from the Governor’s office, and legislators have blasted the process as being one shrouded in secrecy. Few details were provided before the announcement of an intent to award on January 11, and legislators argued they should have been involved in the discussions because the Pennsylvania Lottery is a state asset, a peoples’ asset, not the Governor’s asset. A Senate Finance Committee hearing was held on January14 during which legislators tried to get some answers, and it was clear that many were still outraged by Gov. Tom Corbett’s actions.

 

The single bid in Pennsylvania came from Camelot Global Services, a company that had no existing business relationship with the Pennsylvania Lottery. Both Australia’s Tatts Group and GTECH pulled out of the bidding, the latter in the final stages citing an unbalanced agreement that favored the State. The company also objected to the administration’s requirement that bidders submit a final business plan on short notice while the private management agreement was still in draft form.

 

Camelot’s proposal calls for average annual profit increases of 9.1 percent over the first five years under current laws, and assumes the introduction of keno and Internet sales. Over the first 10 years, profits are forecasted to increase an average 5.8 percent annually. Over 20 years, Camelot has promised $3.0 to $4.5 billion in incremental revenue to support the senior population of Pennsylvania, where all Lottery profits are allocated. If the company meets its early goals, the contract is automatically extended to as much as 30 years.

 

The Governor’s office insists that the Pennsylvania agreement is far better for the State than the contracts and proposals in other jurisdictions, with fewer specified adverse actions and more up-front security and cash reserves to cover possible profit shortfalls. As legislators continue to question the process, Gov. Corbett is moving ahead with the contract, which must be approved by new Attorney General Kathleen Kane.

 

Camelot is also involved in the New Jersey bid, after a fashion. The company is owned by the Ontario Municipal Employees Retirement System, which is a partner in the New Jersey bid with GTECH and Scientific Games.

 

In New Jersey, a private manager would have to pay the state $120 million up front, according to the request for proposals, an attractive lump-sum payment as the state struggles with a budget shortfall. The bid is currently undergoing review and there could be a decision by March.

 

Advantage: outsourcing

 

Many of the biggest advantages of outsourcing come from eliminating some of the bureaucratic processes necessary to conduct crucial sales and marketing functions that often need quick market response. For example, in Illinois Northstar was able to conduct an advertising review and hire a new agency in a very short amount of time. Rather than drawing it out over a period of months due to state procurement rules, it took just a few weeks under Northstar. “That ability to turn quickly and begin the kind of brand transformation that was needed is one of the best things about having a private manager,” said Jones.

 

Similar forces are already in place in Indiana, even though GTECH’s contract there doesn’t officially take effect until July 1. For example, the company has quickly streamlined the retailer licensing process as it works on a retailer expansion and optimization plan for the Hoosier Lottery.

And there is something to be said for having a long-term business plan in place rather than having to rely on the whims of state budgets and appropriations on a yearly basis. “The biggest advantage I can see to these kind of deals is that it takes away the year-by-year method of doing business that lotteries, by the fact that they are state agencies, have to follow,” said New Jersey Lottery Executive Director Carole Hedinger. Of course, every state is different, but for some lotteries it’s impossible to make long-term plans when governors, treasurers and legislators come and go and political whims may impact lottery budgeting, she added.

 

“Even here we didn’t experience any real growth until this Treasurer made more than a one-year commitment. We were able to do two full years of market planning – I had never had that luxury before. There was an understanding and a commitment that this is what the lottery needs,” so they provided the resources that were necessary. “These new contracts allow for that kind of consistency in the amount of resources – human resources, economic resources, whatever they need to get the job done,” Hedinger said.

 

A Growing Fear

 

The other side of the human resources coin may start to play itself out, and that has Gary Grief very concerned. As more private companies win these awards, it will become difficult for them to find the talent necessary to staff these businesses at the highest levels. “I think there are resource challenges now in the world,” said Grief. “They are all pulling from the same talent pool. I believe it’s a challenge for any of the vendors to be positioned where they have a qualified and experienced team of people ready to quickly hit the ground as additional contracts get executed.”

 

His biggest fear is that vendors may pull resources out of one jurisdiction to work on another. “Whenever there’s a major lottery initiative taking place outside of Texas, I’m always mindful of any resources being pulled out of Texas and deployed elsewhere. That should be a concern not just for me but for the Industry. The pace of these private manager agreements definitely has my attention and I am concerned about the toll these may take on our vendor resources.”

 

Not surprisingly, all four of the current efforts are being intensely watched by other states and by other lotteries. States want to see if it’s worth if for them to try similar deals, while lotteries are wondering how it will impact them should it come to their jurisdictions. As the old saying goes, time will tell.