Answer Man

Answer Man: Illinois was not a winner in Lottery deal

Q. A few years ago, Illinois hired a private company to manage our lottery in hopes of increasing the revenue it raises for the state. How is that working out?

— Leland Lohmann, of Centreville

A. With all of the usual hustle and bustle around Christmas, I’m betting there’s a big or story many people missed late last year: On Dec. 9, former Gov. Pat Quinn terminated the 10-year contract that the state signed with the Northstar Lottery Group in 2010 to manage the Illinois Lottery.

He said it was a welcome Yuletide gift for Illinois residents, because Northstar had missed its revenue targets by nearly $450 million in the three years it managed operations. The termination would save the state $10 million a year, his aides estimated.

“Today’s formal contract termination ... will allow the lottery to improve profits and increase funding for education and economic development across Illinois,” a Quinn spokesman said immediately after the agreement was signed.

For Northstar, it was like Santa bringing the state a lump of coal. Before termination talk began in earnest last August, Northstar boasted that it had increased lottery sales more than a half-billion dollars since it took over — including a 25 percent jump in sales during fiscal year 2013.

And now the battle appears far from over. Just last Friday, Attorney General Lisa Madigan threw a new monkey wrench into the fight. In a Jan. 16 letter to Illinois Lottery Director Michael Jones, she said she was going to “formally disapprove” the termination agreement. Listing eight reasons for her decision, she said that the agreement violates the state constitution because it indemnifies Northstar beyond the Department of the Lottery’s authority. She said it also may result in the state paying more fees and expenses than it had in past years. The agreement had already been criticized by aides to then-incoming Gov. Bruce Rauner.

So who’s right? Judge for yourself:

In 2010, Illinois lawmakers were pushing to have a private company manage the state lottery. Lottery revenue had been flat for some time and “state bureaucracy is not ... in the best position to actively try to remarket the lottery,” said Rikeesha Phelon, spokeswoman for Senate President John Cullerton.

“(Cullerton) believes that outsourcing that management function to a private business might bring in additional dollars because they would be better equipped to market the lottery to a different group of people,” she said at the time.

So, on Sept. 15, 2010, the state awarded a decade-long deal to the Northstar Lottery Group, of Chicago, which is a partnership between Gtech, which has the state contract for lottery machines, and Scientific Games, which provides Illinois’ instant games.

Early on, the selection process was criticized, but huge sugar plums were dancing in everybody’s heads. During the first five years of the contract, Northstar promised a net income of $4.8 billion, which was $1.1 billion more that the state thought it could do on its own. In fiscal year 2012 alone, the company projected that it would see $851 in net income, a nearly 30 percent increase from the $662 million that the state earned in fiscal year 2010.

In return for meeting those lofty goals, Northstar would earn $331 million in five years through a combination of set fees and incentives. Although it also faced penalties for missing the mark, Northstar was positive it could meet its numbers.

“Based on our over 50 years of combined experience in the Illinois market, we believe our strategy will unlock the large potential of the business,” Gtech CEO Jaymin Patel said in a statement.

Many papers, including ours, praised the decision to privatize in editorials. But it soon became obvious that Northstar’s projections were as mythical as Rudolph’s red nose. After taking the management reins on July 1, 2011, Northstar missed its first-year target of $825 million by about $68 million, prompting the state to ask for $20 million in penalties. In fact, in the same month it took over, Northstar reportedly asked the state for permission to lower its projected goal by nearly $120 million.

The sniping was on.

“That’s a lot of schools we could pay for,” Rep. Jack Franks, D-Marengo, told the Chicago Tribune in July 2012. “I can tell you I’m pretty upset about it.”

Hopefully, Franks kept his Tums handy, because the numbers grew worse. In its second year, which ended June 30, 2013, Northstar posted a net revenue of $804 million, about $143 million less than projected and $40 million in new penalties. By late last spring, Northstar was looking at missing its fiscal 2014 goal by a whopping $200 million.

That apparently was the last straw. In mid-August, Quinn, who had become the first governor ever to agree to a private lottery manager, moved to end the 10-year Northstar deal seven years early. In just three years as manager, Northstar had missed its income target by some $440 million.

Northstar saw things quite differently.

“The lottery has been a huge success under private management, is one of the nation’s top performing lotteries and now other states are replicating the Illinois model,” it wrote in a Dec. 16, 2013 Tribune op-ed piece.

When you consider the state had revenue of just $662 million in 2010, annual sales of $770 million to $825 million were a major improvement, it argued. In all, sales increased by $577 million in three years, and the company produced record profits, it bragged.

But with a few strokes of his pen, Quinn terminated the partnership last month. According to the agreement, Northstar will receive up to $12.65 million for costs related to closing its operations. Subcontractors Gtech and Scientific Games will providing essential services to the Illinois Lottery at 12.9 percent below their previous compensation, which will save nearly $10 million a year. At the same time, the state will begin a search for a new private management company, according to Michael Jones, the Illinois Lottery director. Of course, now that all may be up in the air.

Northstar, by the way, has come under fire for missing projected revenues in New Jersey, and Gtech reportedly has been off to a slow start since it began managing Indiana’s lottery in 2012. Still, Gary Fencik, a former Chicago Bears safety who now heads the Illinois Lottery Control Board, says the right company might be able to turn Northstar’s fantasyland figures into reality.

“I believe it was not a vision problem. I believe it was an execution issue,” said Fencik, who asked Quinn to fire Northstar in the fall of 2013. “If those revenue targets and profit targets are substantially lower, perhaps that’s making a statement about what’s achievable in the lottery in Illinois.”

Today’s trivia

Where on a horse would you find a frog?

Answer to Saturday’s trivia: When the U.S. Congress first met in early 1789, the House of Representatives had just 65 members. Virginia topped the list with 10 followed by Massachusetts and Pennsylvania with eight apiece and Maryland and New York with six each. Delaware and Rhode Island had just one each.