Eye on the enterprise
Eye on the enterpriseGaming operators scramble to comply with all the facets of the Sarbanes-Oxley Act
Only two generations ago, casinos were small, private entities, and operations were conducted in secret, especially behind the locked doors of the counting room, where revenues were tallied and sometimes packed into suitcases.
But today, a quarter century after the first gaming corporation went public, nearly everything in these casino corporations is done in the open and under the watchful eyes of various regulators. In the wake of recent corporate scandals that shook Wall Street and Washington D.C. alike, the scrutiny will increase greatly.
A newly formed government accounting oversight board has already begun inspecting many of the auditors of publicly traded companies-including gaming companies. Known officially as the Public Company Accounting Oversight Board, the agency's creation is a cornerstone of the Sarbanes-Oxley Act, the congressional response to the recent Enron and MCI scandals.
The new law, spearheaded by Sen. Paul Sarbanes (D-Md.) and Rep. Michael Oxley (R-Ohio), requires companies to make new disclosures on ethics and compliance programs as well as internal controls.
Officials from public casino corporations-accustomed to careful scrutiny from various state regulators-already have many internal controls in place. Still, changes are expected.
"Sarbanes-Oxley already has changed things for public gaming corporations," said Sal Scheri of WhiteSand Consulting, a gaming and hospitality consulting service. "The creation of review processes and the auditing of internal controls have become of key importance."
Gaming advantageBut, because major gaming corporations already work in a heavy regulatory climate, many experts expect these companies to adapt smoothly to the provisions of Sarbanes-Oxley.
"Certainly the gaming companies are going to have a lot of work to do to comply with this, but they have a head start over companies in other sectors," said Randy O'Hare, partner with PricewaterhouseCoopers. "These companies already are watched like hawks by state regulators, and this tends to help create a more compliance-oriented environment."
O'Hare stresses that establishing such a compliance-oriented tone from the CEO and board of directors on down is of crucial importance and because of scrutiny from state regulators, such an environment is already in place, especially on the gaming side.
This compliance-oriented environment for gaming companies stretches from each casino to Wall Street, where analysts are provided with countless reams of financial information.
"Because of government regulations, disclosure is so much better with public gaming companies (than companies in other sectors)," said Larry Klatzkin, gaming analyst for Jeffries and Co. "Whether the gaming companies want to or not, they provide me a great deal of information."
"There are reporting requirements," said Keith Copher, Nevada Gaming Control Board chief of enforcement. "The companies must submit all their SEC filings to the Gaming Control Board, and in addition, the casino revenue is monitored closely by our audit division."
Copher noted the days of back room skimming operations are long gone.
"But there are many different methods of skimming, and from these early experiences, we learned how to set up our accounting regulations," Copher said. "Today there are preventive measures in place, and when we find something new that is occurring, we jump."
Outside looking inAmong other things, the Nevada Gaming Control Board requires gaming corporations to establish compliance committees and to hire outside accounting firms to examine the books.
Three years ago, most gaming corporations used Arthur Andersen as their independent auditor. Once the largest provider of auditing services to the gaming industry, Andersen began to lose many of these clients two years ago when the global accounting firm became mired in the Enron scandal.
Today, MGM Mirage, Mandalay Resort Group and Caesars Entertainment contract with Deloitte & Touche for CPA services. Others, including Hilton Hotels, Trump Hotels & Casino Resorts, Station Casinos and Monarch utilize Ernst & Young. In addition, Ernst & Young performs non-audit services such as tax consulting, valuation, and operational reviews for MGM Mirage and Caesars Entertainment.
"In large public gaming companies, the mechanisms are already in place, and the members of the staff already are familiar with a regulatory environment, and they are very willing to look for outside help to comply with Sarbanes-Oxley," Scheri explained.
Paper trailSpecifically, casino corporations are now required to document many of the internal control processes that have been in place for years.
"While it would seem that gaming companies have a leg up on companies (in other sectors) because they have always maintained extensive documentation over casino internal controls, they must now document their internal control processes to the same extent for all departments such as food and beverage and other non-gaming operations," said Tom Roche, Pacific Southwest head of Gaming Practices for Ernst & Young, and a former member of the Nevada State Gaming Control Board.
The idea, Roche explains, is be able to show the Securities and Exchange Commission, which enforces the provisions of Sarbanes-Oxley, that there are no material weaknesses in internal control.
And so, for the world's largest gaming corporations, the new motto is document, document and document.
"The provisions of Sarbanes-Oxley have increased the amount of documentation and the amount of testing we do for our internal controls, especially in the non-gaming areas such as the hotels and food and beverage," said Alan Feldman senior vice president of public affairs at MGM Mirage.
Because many of the procedures required by Sarbanes-Oxley have long been in place at the MGM Mirage, the corporation has not added staff.
"Prior to Sarbanes-Oxley, we were very accounting-focused, simply due to the nature of our business," Feldman said.
Roche explains that with most large gaming corporations "all the pieces are currently in place" to ensure proper documentation of internal controls in various departments.
Other experts agree. They point out that among large public corporations, few are more accustomed to supervision and reviews than gaming companies. Indeed, everything in a major gaming operation, from the hotel corridors to the interior of elevators to even the trash bins is under surveillance. This is not exaggeration. Casino security staffs routinely monitor what is discarded to determine a range of internal activities, including theft.
"Look at a casino property," O'Hare said. "There are cameras everywhere. It's the same with internal operations. They have more controls than most people could imagine over their revenue transactions. What this means is that for the most part, they don't have to change their procedures, at least over the revenue cycle. What they do have to do is document everything, and conduct physical tests of their operations to ensure that the controls are operating effectively."
Cleaning houseStill, some on Wall Street believe Sarbanes-Oxley will mean a lot more to large casino corporations than extra paperwork.
"Where we've seen problems in the past is when a group of companies is bidding for license in a new jurisdiction and someone gets an inside tip," said Jane Pedreira, a bond analyst with Lehman Brothers. "Hopefully, the companies have learned from that, and I would agree that instances such as this do not represent anything near the potential for problems (in publicly traded companies)."
Because Sarbanes-Oxley requires an airtight system of checks and balances, it will be much more difficult for financial officers in any public company to act on insider information. In addition, many on Wall Street believe that while financial officers in casino corporations work very hard to give an honest portrayal of earnings, CFOs in these corporations will work even harder in the future.
It was, after-all, the huge Enron scandal-in which CEOs allegedly stole shareholders' money and corporate management took it upon them to "manage" earnings in an effort to hide various internal problems-that served as a catalyst for Sarbanes-Oxley.
While gaming analysts say these distortions certainly are not common in the gaming sector-where cash flow tends to be much stronger than in other sectors-there have been other problems in gaming that would be addressed by Sarbanes-Oxley. For instance, in the past some casino executives have been accused of being overly optimistic in declaring that a run-down property that was recently purchased was "under development." The idea, of course, was to label such a property on the balance sheet as a construction project and source of future earnings, rather than an expense-even though the property really wasn't in development.
The watchful eyes of an independent member of a compliance committee or CPA-required under Sarbanes-Oxley-most likely would red mark such a line item today.
Executive scrutinyBut Scheri of WhiteSand Consulting stresses that, generally, accounting practices among financial officers of casino corporations are the most honest of any sector.
"It's been pretty clean," Scheri said. "The casinos really stay away from any type of fraud. They're very upfront and they don't hesitate to put their cards on the table. This is one reason why they've been so successful at thwarting any involvement of organized crime."
But Scheri adds that this doesn't mean financial officers in casino corporations won't do everything in their power within the law in order to obtain the best tax advantages.
One thing all gaming officials agree on is that they are taking the provisions of Sarbanes-Oxley very seriously. Indeed, officials from most major gaming corporations have already begun working very closely with representatives from PricewaterhouseCoopers, Deloitte Touche and Ernst & Young to map out strategies to ensure compliance with the federal law.
After all, even to a gaming corporation that is used to risks associated with action from extremely high limit players, the stakes are enormous.
"Now, everything starts at the top," O'Hare said. "The CEO and CFO have to sign a certificate each quarter, one that is filed with the SEC, that basically says the company's systems, processes and controls are working, and we have disclosed everything in an appropriate manner."
These executives understand that simply signing the SEC's new certification order subjects them to as much as $5 million fines and 20-year prison sentences if the SEC determines there has been an attempt in the company to "corruptly alter, destroy, mutilate, or conceal any document" with intent to obstruct any official proceeding.
"This gets to the heart of the Enron situation," O'Hare said. "We all remember how Kenneth Lay (former chairman and CEO of Enron) kept saying he
didn't know. Well, now the government is saying you should know." CJ