Case study of enron

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Company Background

Enron is the story of the largest bankruptcy in the history of the United States.

Through a variety of accounting tricks relating to partnerships, the company was able to inflate its profit and lower its debt. Enron executives earned millions through these partnerships and by selling stock before its demise while employees lost pension plans and retirement funds and stockholders lost value.




In 185, the merger of Houston Natural Gas and InterNorth of Omaha, Nebraska formed Enron Corp. Enron began as a natural gas pipeline company but soon evolved into marketing electricity and natural gas, delivering energy and other physical commodities and providing financial and risk management services to customers worldwide. Eventually, the company became the largest natural gas merchant in North America and the United Kingdom.

Enron’s divisions included transportation and distribution wholesale services, retail energy services, broadband services and corporate services. Its Transportation and Distribution sector was named Enron Transportation Services and Portland General. The services include Enron’s interstate natural gas pipelines, Transwestern Pipeline Company, and Enron’s 50% interest in Florida Gas Transmission Company. Their wholesale services included businesses around the world. Operations were in developed nations as well and developing nations. Enron, through its subsidiary Enron Energy Services, customers are able to manage their energy requirements and reduce their total energy costs

Enron’s Broadband services include providing customers with a single source for bandwidth services. Other services include providing water and waste services, developing and constructing power projects and operations at Enron’s headquarters.

In 184, Enron became the largest marketer of electricity in the United States. In November 1, Enron launched Enron Online, which was the first global web-based commodity-trading site. On this site about $1.5 billion worth of transactions are done every day.

Key Players

The major executives that were involved in the Enron scandal include Kenneth Lay, Andrew Fastow, Jeffrey Skilling and Jeffrey McMahon. Kenneth Lay became the first Chief Executive Officer of Enron when it was first formed. He was previously the president of Fransco, a rival company. He was CEO from 185 until February 001 and remained chairman until the company’s collapse. In August 001, he again became Chief Executive Officer. Lay can either be looked at as a manager who knew what was taking place and overlooked it or one that as completely unaware of the financial misrepresentation. Andrew Fastow joined Enron in 10 from Continental Bank in Chicago, Illinois. It is believed that Fastow created many of Enron’s partnerships.

Skilling became the Chief Executive in February 001 and resigned after only six months because of personal reasons. It is believed that Skilling created the deals along with Fastow to aid in hiding debt. Jeffrey McMahon was Enron’s treasurer and executive vice president of Finance. He was a former employee of Arthur Anderson, a public accounting firm that joined Enron in 14. He complained about the deals that Fastow created.

Timeline of Events

In December 000, after a seemingly successful quarter, Enron announces that president and Chief Operating Officer will assume the responsibility of Chief Executive Officer. The company’s stock rose to a fifty-two week high of $84.87 on December 1, 000.

In August 001, Skilling, after only six months of assuming his position of CEO unexpectedly resigns stating that it was for personal reasons. Only two months later in October, Enron reports a $68 million third-quarter loss and discloses a $1. billion reduction in stockholders equity partly related to partnerships run by Chief Financial Officer, Andrew Fastow. The Securities and Exchange Commission begins to investigate the cause of Enron’s financial mishap. Throughout these happenings, Enron’s stock prices drop below $10 a share after reports were made that the company was seeking additional financing. Enron later filed documents with the SEC revising its financial statements for the last five years to account for a $586 million loss.

Dynegy Inc. planned to purchase Enron for more that $8 billion in stocks. Dynegy later backs out of the deal after Enron’s credit rating is downgraded to junk bonds. Enron’s stock prices plunge to below one dollar amid the heaviest single day trading volume ever for a NYSE or NASDAQ listed stock. More that 1,000 employees were dismissed without notice. Soon thereafter, Enron filed for Chapter 11-bankruptcy protection and sued Dynegy for wrongful termination of a merger. Enron also arranges up to $1.5 billion in financing to keep operating while under Chapter 11-bankruptcy protection. The company later terminated four thousand employees.

In January 00, Kenneth Lay was told in August that transactions with private partnerships run by company executives were a “bit like robbing the bank”, according to documents uncovered by a congressional hearing. After being subpoenaed by regulators, Enron employees shredded and deleted documents. This was the first sign that there was criminal activity in Enron. Soon thereafter, Lay resigned as CEO. This was done while the US Congress prepared to extend its investigation of the bankrupt energy trading company. Once the hearing was scheduled, Kenneth Lay refused to appear before Congress to aid in the presentation of evidence.

Enron’s Financial Condition Before the Scandal

Enron’s 000 letter to its shareholders states “Enron’s performance in 000 was a success by any measure, as we continued to outdistance the competition and solidify our leadership in each of our major businesses. In our largest business, wholesale services, we experienced an enormous increase of 5 percent in physical energy deliveries. Our retail energy business achieved its highest level ever of total contract value. Our newest business, broadband services, significantly accelerated transaction activity, and our oldest business, the interstate pipelines, registered increased earnings. The company’s net income reached a record $1. billion in 000” (Enron, 1). The letter continued to state that Enron sees its market opportunities tripling over the next five years. This letter seems to be very reassuring to its stockholders but in less than on year, they will be in for a surprise.

By looking at Enron’s Income Statement, it seems the company was in a great financial state. Its revenues had increased from approximately $40 million in 1 to

$100,78 million in 000.

Net income increased from $8 million in 1 to $7 million in 000. The balance sheet of the company showed no evidence of malpractice. In all areas, there was a significant positive increase.

The company that audited Enron’s financial statements was Arthur Anderson. Joseph Berardino, Anderson’s Chief Executive Officer, blamed the structure of the accounting industry for contributing to the collapse of Enron stating that audit rules barred Anderson accountants from warning the public about the company’s financial problems.

What Really Happened?

From 1 to 15, Enron’s executives created a series of off the book partnerships that were used to hide millions of dollars in debt. The partnerships were seemingly very complex and difficult to explain. The purpose of the partnerships was to transfer debt to an outside company and get it off the books. Enron wanted to enter the energy market without sacrificing its credit rating by carrying too much debt.

Only % of the money invested into these partnerships came from Enron, therefore executives’ felt it was not necessary to report debt because they were separate from Enron. Although Enron and its directors controlled the partnerships, any debt it incurred was not reported on the balance sheet. They were named after various characters like Star Wars’ Chewko. An example of an investment includes Enron lawyer Kristina Mordaunt. In March 000, she was invited to a partnership called Southampton Place. She invested $5,800 and only a few weeks later checked her bank statement and received a deposit for $1 million.

Fastow also turned a $5,000 investment into $4.5 million. Because of shuffling assets and creating illusory profits, Enron overstated earnings by $1 billion from the third quarter of 000 through the third quarter of 001.

Between 1 and 001, US Attorney General Ashcroft receive approximately sixty thousand dollars from Enron. President Bush also received seventy-four thousand dollars from Enron during his campaign.

Major Problems and Concerns

Once Enron filed for Chapter 11, banks pension plans and other lenders with at least $5 billion at risk. More than 4000 employees have lost their job and 401k savings plans. Employees have proceeded with a lawsuit against Kenneth Lay and Northern Trust, their pension plan administrator. Former employees who accused the company and others of improperly encouraging or requiring them to keep Enron stock in their pension accounts brought the lawsuit. The suit says that Enron has a duty to assure that pensions and 401k plans are funded with prudent investments. Was Enron wrong for forbidding it’s employees from selling it’s stock?

Tens of thousands of Enron stockholders watched their stock lose value from over eighty dollars a share to less that fifty cents a share, which is worth over $50 million of stockholders, value. While thousands of employees and stockholders lost money, Kenneth Lay cashed out on $1 million worth of stock options in 000 alone and another $5 million in 001. While the company was falling apart, other executives received compensation. Just days before filing for bankruptcy, Enron handed out $55 million to 500 senior officials, an average of 100,000 each. Was this fair?

Ken Lay and Enron contributed over $ million to his campaign for governor and president. In 000, Lay sent a memo to company employees suggesting they contribute persona funds through the company’s political action committee. At times, Lay also loaned Bush his corporate jet. California’s energy crisis was caused by Enron suddenly inflating the price of electricity, forcing blackouts throughout the state. Bush refused to intervene to help his customers because they did not want to hurt Enron. Were Bush’s ties to Enron too close?

What, if anything, could the federal government have done to prevent Enrons collapse and to protect employees and shareholders?



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