REPORT DIGEST DEPARTMENT OF THE LOTTERY FINANCIAL AUDIT FOR THE YEAR ENDED JUNE 30, 2015 COMPLIANCE EXAMINATION FOR THE TWO YEARS ENDED JUNE 30, 2015 Release Date: May 5, 2016 FINDINGS THIS AUDIT: 8 CATEGORY: NEW -- REPEAT -- TOTAL Category 1: 1 -- 0 -- 1 Category 2: 1 -- 6 -- 7 Category 3: 0 -- 0 -- 0 TOTAL: 2 -- 6 -- 8 FINDINGS LAST AUDIT: 7* *Prior report was the State Compliance Examination report for the two years ended June 30, 2013. Category 1: Findings that are material weaknesses in internal control and/or a qualification on compliance with State laws and regulations (material noncompliance). Category 2: Findings that are significant deficiencies in internal control and noncompliance with State laws and regulations. Category 3: Findings that have no internal control issues but are in noncompliance with State laws and regulations. State of Illinois, Office of the Auditor General FRANK J. MAUTINO, AUDITOR GENERAL To obtain a copy of the Report contact: Office of the Auditor General, Iles Park Plaza, 740 E. Ash Street, Springfield, IL 62703 (217) 782-6046 or TTY (888) 261-2887 This Report Digest and Full Report are also available on the worldwide web at www.auditor.illinois.gov SYNOPSIS • (15-01) The Department submitted to the Illinois Office of the Comptroller inaccurate year-end financial statements. • (15-02) The Department inappropriately prepaid amounts from their fiscal year 2015 appropriation to fund fiscal year 2016 Multi-State Lottery Association payment obligations. • (15-03) The Department and Lottery Control Board (Board) did not comply with various provisions of the Lottery Law. • (15-06) The Department, including its Internal Audit function, failed to comply with the Fiscal Control and Internal Auditing Act or timely perform other required reporting and follow-up. • (15-07) The Department failed to submit, or failed to submit timely, certain required reports and documentation to oversight entities. FINDINGS, CONCLUSIONS, AND RECOMMENDATIONS ERRORS IDENTIFIED IN GAAP REPORTING FORMS SUBMITTED TO THE ILLINOIS OFFICE OF THE COMPTROLLER AND YEAR-END DEPARTMENT FINANCIAL STATEMENTS The Department’s year-end financial statements, prepared in accordance with generally accepted accounting principles (GAAP) and submitted to the Illinois Office of the Comptroller, contained errors in certain accounts and disclosures, which are considered to be deficiencies in internal control over financial reporting. During the audit of the June 30, 2015 Department financial statements, auditors noted errors in the Department’s GAAP Reporting forms submitted to the Office of the Comptroller and Department financial statements. Some of the errors are as follows: • During testing of the Department’s accounts receivable, auditors identified the Department incorrectly recorded a transfer of $20.0 million to the Virginia Lottery to fund future multi-state lottery prize settlements in accounts receivable. The misclassification resulted in an overstatement of accounts receivable and an understatement of prepaid assets of $20.0 million. This was discussed with Department management and they subsequently made a correcting entry. • During testing of the Department’s financial statements, particularly the notes, auditors identified the amount of annual compensation for reimbursement of operating expenses to the Private Manager under the private management agreement was overstated by $8.8 million. This was discussed with Department management at which time they adjusted the disclosure. In addition, $3.8 million for the retroactive supply agreement reduction with the Private Manager was overstated by $0.5 million. This was discussed with Department management at which time they adjusted the disclosure. Because of the significance of the errors and inaccuracies noted, auditors consider this to be a significant deficiency in the Department’s internal control over financial and fiscal operations. (Finding 1, pages 11 -12) This finding has been repeated since 2012. We recommended the Department improve their preparation and review process of GAAP Reporting Packages and financial statements to ensure they are prepared in a complete and accurate manner. Lottery management agreed and will continue to review current procedures to ensure GAAP financial reporting and the financial statements are prepared completely and accurately. (For the previous Department response, see Digest Footnote #1) INAPPROPRIATE PREPAYMENTS TO FUND OUT-OF- STATE PRIZE PAYMENT OBLIGATIONS The Department inappropriately prepaid amounts from their fiscal year 2015 appropriation to the Multi-State Lottery Association to fund fiscal year 2016 Multi-State Lottery Association payment obligations in noncompliance with the State Finance Act (the Act) and Illinois Lottery Law (Law). During testing of investment purchase expenditures, auditors noted that one expenditure for $10,000,000 was made to fund future Multi-State game prize payment obligations (mega millions and power ball). Upon further testing, it was noted that another prepayment had been made. In total, two vouchers for $20,000,000 were processed on June 30, 2015 to pay for Multi-State game expenses for fiscal year 2016. The Act states, “[a]ll appropriations shall be available for expenditure for the fiscal year or for a lesser period if the Act making that appropriation so specifies.” In addition, the Law allows the Department to enter into an agreement or agreements with other state lotteries for the purpose of creating and operating multi-state lottery games. The Law states, “No such agreement shall purport to pledge the full faith and credit of the State of Illinois, nor shall the Department expend State funds on a contractual basis in connection with any such game unless such expenditures are expressly authorized by the General Assembly...” In discussing these conditions with Department management, they indicated that due to the lack of a fiscal year 2016 State budget, the Department sent additional funds to the multi-state clearing house to ensure the Department could continue to participate in the multi-state Lottery games. (Finding 2, pages 13-14) We recommended the Department adhere to the Illinois laws prohibiting prepayment of future year obligations from the current year appropriation. Department management agreed and indicated they will continue to review procedures to ensure it is in compliance with the Lottery Law. NONCOMPLIANCE WITH THE ILLINOIS LOTTERY LAW The Department and Lottery Control Board (Board) did not comply with various provisions of the Illinois Lottery Law (Lottery Law). Some of the items noted by the auditors during testing were as follows: • There was only one scheduled meeting of the Board during the year ended June 30, 2015, and there was no review of major media campaigns conducted during that meeting. • The Department did not deposit funds into the Capital Projects Fund in accordance with the Lottery Law in a timely manner. Auditors noted the Department owed approximately $60 million to the Capital Projects Fund as of June 30, 2015. • During testing of the executed contract for services to be performed by an independent accounting firm in relation to the compliance examination of the private manager, auditors found the Department was identified as the party to be billed for such services, not the private manager. Lottery paid the independent accounting firm approximately $147,000 for services related to investigation work in fiscal year 2015. In discussing these conditions with Department management, they indicated the Lottery Control Board was unable to hold meetings due to not enough sitting board members to satisfy a quorum. The Department is currently seeking legislation to codify the current practice for the transfer to the Capital Projects Fund. The Department had not yet recouped the cost of the required investigation from the private manager due to staffing changes resulting in an oversight. (Finding 3, pages 15-16) We recommended the Department adhere to the provisions of the Lottery Law and enhance its internal control procedures to ensure compliance. With regard to the transfer of amounts due to the Capital Projects Fund, we recommended the Department work to improve their process of estimating amounts owed to the Capital Projects Fund prior to the end of each fiscal year to minimize amounts owed subsequent to June 30, or seek legislative relief to allow a transfer after the Department has finalized their accounting records. Department management agreed and noted they will review internal control procedures to ensure compliance with the Lottery Law. With regard to the transfer of amounts owed to the Capital Projects Fund, the Department is seeking legislative relief in an effort to codify the Department’s current practice. FAILURE TO COMPLY WITH THE FISCAL CONTROL AND INTERNAL AUDITING ACT AND OTHER REQUIRED REPORTING The Department, including its Internal Audit function, did not comply with the Fiscal Control and Internal Auditing Act (Act) or timely perform other required reporting and follow-up. Some of the items the auditors noted during testing are as following: • The Department’s internal audit function did not perform internal audits of all of their major systems of internal accounting and administrative control during the period under audit. Auditors noted that Administrative Support Services; Purchasing, Contracting, and Leasing; Property, Equipment, and Inventories; Petty Cash and Local Funds; and Electronic Data Processing, each considered major systems of internal accounting and administrative control were not audited as required by the Act. • The Department did not timely certify its internal controls for 2015 as required by the Act. This certification, which was due on May 1, 2015, was submitted on January 4, 2016, or 248 days late. • The Department did not maintain a full- time program of internal auditing during the examination period as required by the Act. The Department did not employ a Chief Internal Auditor or any internal audit staff from the period January 16, 2015 through May 31, 2015. In discussing these conditions with Department management, they indicated the exceptions noted were due to unanticipated vacancies within the Internal Audit Division. (Finding 6, pages 21-22) We recommended the Department comply with the required provisions of the Fiscal Control and Internal Auditing Act as well as other required reporting, and implement internal control procedures to ensure compliance. Department management agreed and indicated the Internal Audit function was not operational for the full audit cycle but the Department will ensure all internal audits and required filings are performed timely in future periods. FAILURE TO SUBMIT, OR TIMELY SUBMIT, REQUIRED REPORTS AND DOCUMENTATION The Department failed to submit, or failed to submit timely, certain required reports and documentation to oversight entities. During testing of the statutes applicable to the Department, some of the exceptions noted by the auditors are as follows: • There were no quarterly reports or an annual report on activities and actions of the private manager submitted to the Governor or the General Assembly during the fiscal year ended June 30, 2015 in accordance with the Illinois Lottery Law. • The Department failed to submit their required 2014 and 2015 Agency Fee Imposition Reports to the Office of the Comptroller. • The Department failed to submit annual reports for 2014 and 2015 regarding the work of the Lottery Control Board (Board). In discussing these conditions with Department management, they indicated the exceptions were due to ineffective oversight. (Finding 7, pages 23-24) We recommended the Department comply with the applicable statutory requirements and submit the required reports, and documentation as required, and implement internal control procedures to ensure compliance. Department management agreed and indicated they will review current processes and procedures to ensure all required reports and documentation are submitted timely. OTHER FINDINGS The remaining findings are reportedly being given attention by the Department. Auditors will review the Department’s progress towards the implementation of all the recommendations in the next engagement. AUDITOR’S OPINION Our auditors state the financial statements of the Department of the Lottery as of June 30, 2015, and for the year then ended are fairly presented in all material respects. ACCOUNTANT’S OPINION The accountants conducted a compliance examination of the Department of the Lottery for the two years ended June 30, 2015, as required by the Illinois State Auditing Act. The auditors qualified their report on State Compliance for finding 2015-002. Except for the noncompliance described in this finding, the auditors state the Department complied, in all material respects, with the requirements described in the report. FRANK J. MAUTINO Auditor General FJM:RPU SPECIAL ASSISTANT AUDITORS Our Special Assistant Auditors for this financial audit and compliance examination were KPMG LLP. DIGEST FOOTNOTES #1 – Errors Identified in GAAP Reporting Forms Submitted to the Illinois Office of the Comptroller and Year-End Department Financial Statements 2014: The Lottery agrees and will continue to review current procedures to ensure they are up-to-date and implement any additional procedures, as necessary, to ensure GAAP financial reporting and the financial statements are prepared completely, accurately and timely with appropriate supporting documentation. The Lottery will also ensure sufficient staff resources are allocated to this process.