Talk:Enron scandal/Archive 1

New article

OK, kiddies, here's a big fat article as promised. I didn't write it all obviously, but I did go through a bunch of useful mostly NY times articles to construct a narrative of sorts. Obviously much work to be done. Oh, can someone please make the title "Enron Scandal" not redirect to the Enron page? Pablosecca 01:20, 26 June 2007 (UTC)

Too long

Can someone write a shorter version of this article maybe? I would read it but It's too long! —Preceding unsigned comment added by Lollipop-3 (talk • contribs) 06:39, 18 December 2007 (UTC)

About the article

This article looks good. However, there is still much more to continue improving this article. I might consider compiling a to-do list. (Jessepadilla1 (talk) 06:46, 21 December 2007 (UTC))

Fair use rationale for Image:Enron Logo.svg

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BetacommandBot (talk) 07:13, 1 January 2008 (UTC)

Not relevant information

I don't think that "1998 Cornell University Student research" is relevant, it's just one sentence in a report. —Preceding unsigned comment added by 129.120.3.1 (talk) 21:35, 22 January 2008 (UTC)

Fair use rationale for Image:Skilling enron.jpg

Image:Skilling enron.jpg is being used on this article. I notice the image page specifies that the image is being used under fair use but there is no explanation or rationale as to why its use in this Wikipedia article constitutes fair use. In addition to the boilerplate fair use template, you must also write out on the image description page a specific explanation or rationale for why using this image in each article is consistent with fair use.

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BetacommandBot (talk) 05:43, 24 January 2008 (UTC)

Vandalism Needs to be Removed

I'm on a deadline & time crunch and can't remember how to revert text that has been vandalized by pranksters through several edits. I think that Blueboy96 is the last clean, prank-free edit. Current probs include reference to the Simpsons & porn. Thanks —Preceding unsigned comment added by 71.198.229.144 (talk) 06:33, 31 January 2008 (UTC)

Need more on the actual scandal

Most of the article is about the failed Dynegy takeover, some of it is about the aftermath, and hardly any is about what caused the scandal--mark-to-market accounting, Fastow's crooked deals, etc. Vidor (talk) 20:56, 8 March 2008 (UTC)

Stock price

"An advancing number meant a continued infusion of investor capital on which debt-ridden Enron in large part subsisted." I don't think that Enron's rising stock price meant that more capital was flowing into the company; this would only be happening if they were continually issuing new stock, in which case the price would have probably been going down. —Preceding unsigned comment added by 69.7.91.23 (talk) 13:11, 29 April 2008 (UTC)

"Lowest bankruptcy"?

"undergoing the lowest bankruptcy in history". What is "lowest bankruptcy" trying to say? Costliest to creditors and stockholders? Lowest assets relative to liabilities? I'll try to help, if the writer of that phrase can clarify the intent. Unimaginative Username (talk) 06:26, 16 July 2008 (UTC)

Quotation

Just a comment from an interested reader: As I read the text in the box, I didn't realize it was a quotation until I got to the last line. To fix this I put quotation marks around it. I hope this increased readability. Wood Thrush (talk) 17:43, 9 August 2008 (UTC)

Image copyright problem with Image:Ken lay enron.jpg

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Why no mention of Cliff Baxter?

I would think that his story should be mentioned in addition to the link under "see also." The thing is, who wants to "see also" when they don't even understand the connection? Just a thought. MagnoliaSouth ^(talk) 10:19, 1 March 2009 (UTC)

Mrs. Linda Lay

The article states without any source:

The case surrounding Mrs. Linda Lay is a difficult one. Mrs. Lay sold roughly 500,000 shares of Enron ten minutes to thirty minutes before the information that Enron was collapsing went public on November 28, 2001. This was information that Enron executives had known for over a year.

• Is there any source supporting this?
• Did Mrs. Lay get any verdict?

-- Hogne (talk) 16:40, 9 March 2009 (UTC)

I've added a supporting cite. -- Boracay Bill (talk) 00:01, 11 March 2009 (UTC)

OK. based on this ref. I think this article is too hard on Mrs. Lay. I cite:

…By focusing on the transaction involving Mrs. Lay, the government could be trying 
to turn up the pressure on her husband in hopes of securing a guilty plea. Prosecutors used such tactics 
against Mr. Fastow, by starting an investigation into a comparatively minor tax violation committed by 
his wife, Lea.
…A lawyer for the Lays, Michael Ramsey, confirmed the investigation, and criticized it as 
trying to criminalize innocent behaviour to bring pressure against Mr. Lay.
…- This is the last gasp of a dying prosecution, Mr. Ramsey said. This is an attempt at 
extortion. If I tried something like this, I would be indicted.
…He said that the sale was based on information in the market and that the proceeds went to 
charity. Neither Ken nor Linda Lay sold any personal shares that morning, he said.

IMHO, if Mrs. Lay didn't get any verdict, this section should be removed! -- Hogne (talk) 09:20, 13 March 2009 (UTC)

The Fall of Enron

Has anyone read the paper written by Paul M. Healy and Krishna G. Palepu entitled "The Fall of Enron" (Journal of Economics Perspectives, Volume 17, Number 2. (Spring 2003), pp. 3-26?

An abstract of the paper can be read at SSRN and the paper can also be downloaded if you register (its free of charge). I will start transcribing parts which I think may be suitable for inclusion in this article.--Gavin Collins (talk|contribs) 14:52, 13 May 2009 (UTC)

Backround to Enron

Taken from page 1 of the paper:

From the start of the 1990s until year-end 1998, Enron’s stock rose by 311% percent, a modest increase over the rate of growth in the Standard & Poor 500. But then the stock soared. It increased by 56% in 1999 and a further 87% in 2000, compared to a 20% increase and a 10% decline for the index during the same years. By December 31, 2000, Enron’s stock was priced at $83.13 and its market capitalization exceeded $60 billion, 70 times earnings and six times book value, an indication of the stock market’s high expectations about its future prospects. In addition, Enron was rated the most innovative large company in America in Fortune’s Most Admired Companies survey. Yet within a year, its image was in tatters and its stock price had plummeted nearly to zero.

Taken from page 4:

In an attempt to achieve further growth, Enron pursued a diversification strategy. It began by reaching beyond its pipeline business to become involved in natural gas trading. It extended the natural gas model to become a financial trader and market maker in electric power, coal, steel, paper and pulp, water, and broadband fiber optic cable capacity. It undertook international projects involving construction and management of energy facilities. By 2001, Enron had become a conglomerate that owned and operated gas pipelines, electricity plants, pulp and paper plants, broadband assets, and water plants internationally, and traded extensively in financial markets for the same products and services.

Taken from page 6

By all accounts, the gas trading business was a huge success. By 1992, Enron was the largest merchant of natural gas in North America, and the gas trading business became the second largest contributor to Enron’s net income, with an Earnings Before Interest and Taxes of $122 million. The creation of the online trading model, EnronOnline, in November 1999 enabled the company to further develop and extend its abilities to negotiate and manage these financial contracts. By the fourth quarter of 2000, EnronOnline accounted for almost half of Enron's transactions for all of its business units, and had enabled transactions per commercial person to grow to 3,084 from 672 in 1999.

Financial reporting

Taken from page 9

Enron’s complex business model -- reaching across many products, including physical assets and trading operations, and crossing national borders -- stretched the limits of accounting. Enron took full advantage of accounting limitations in managing its earnings and balance sheet to portray a rosy picture of its performance.
Two sets of issues proved especially problematic. First, its trading business involved complex long-term contracts. Current accounting rules use the present value framework to record these transactions, requiring management to make forecasts of future earnings. This approach, known as mark-to-market accounting, was central to Enron’s income recognition and resulted in its management making forecasts of energy prices and interest rates well into the future.
Second, Enron relied extensively on structured finance transactions that involve setting up of special purpose entities. These transactions shared ownership of a specific cash flows and risks with outside investors and lenders. Traditional accounting, which focuses on arms-length transactions between independent entities, faces challenges in dealing with such transactions.

Taken from page 11

In Enron’s original natural gas business, the accounting had been fairly straightforward: in each time period, the company listed actual costs of supplying the gas and actual revenues received from selling it. However, Enron’s trading business adopted mark-to-market accounting, which meant that once a long-term contract was signed, the present value of the stream of future inflows under the contract was recognized as revenues and the present value of the expected costs of fulfilling the contract were expensed. Unrealized gains and losses in the market value of long-term contracts that were not hedged were then required to be reported later as part of annual earnings when they occurred.
Enron’s primary challenge in using mark-to-market accounting was estimating the market value of the contracts, which in some cases ran as long as 20 years. Income was estimated as the present value of net future cash flows, even though in some cases there were serious questions about the viability of these contracts and their associated costs.
For example, in July 2000 Enron signed a 20 year agreement with Blockbuster Video to introduce entertainment on-demand to multiple U.S. cities by year-end. Enron would store the entertainment, and encode and stream the entertainment over its global broadband network. Pilot projects in Portland, Seattle and Salt Lake City, were created to stream movies to a few dozen apartments from servers set up in the basement. Based on these pilot projects, Enron went ahead and recognized estimated profits of more than $110 million from the Blockbuster deal, even though there were serious questions about technical viability and market demand.

Taken from page 12 & 13

Enron used special purpose entities to fund or manage risks associated with specific assets. Special purpose entities are shell firms created by a sponsor, but funded by independent equity investors and debt financing. For example, Enron used special purpose entities to fund the acquisition of gas reserves from producers. In return, the investors in the special purpose entity received the stream of revenues from the sale of the reserves.

For financial reporting purposes, a series of rules is used to determine whether a special purpose entity is a separate entity from the sponsor. These require that an independent third-party owner have a substantive equity stake which is “at risk” in the special purpose entity (interpreted as at least 3 percent of the special purpose entity ’s total debt and equity). The independent third-party owner must also have a controlling (more than 50 percent) financial interest in the special purpose entity. If these rules are 12 not satisfied, the special purpose entity must be consolidated with the sponsor firm’s business.

In total, Enron had used hundreds of special purpose entities by 2001. Many of these were used to fund the purchase of forward contracts with gas producers that were used to supply gas to utilities under long-term fixed contracts. However, several controversial special purpose entities were designed primarily to achieve financial reporting objectives. For example, in 1997 Enron wanted to buy out a partner’s stake in one of its many joint ventures. However, Enron did not want to show any debt from financing the acquisition or from the joint venture on its balance sheet. Chewco, a special purpose entity that was controlled by an Enron executive, and raised debt that was guaranteed by Enron, acquired the joint venture stake for $383 million. The transaction was structured in such a way that Enron did not have to consolidate Chewco or the joint venture into its financials, enabling it to effectively acquire the partnership interest without recognizing any additional debt on its books.

Chewco and several other special purpose entities, however, did more than just skirt accounting rules. As Enron revealed in October 2001, they actually violated accounting standards that require at least 3% of assets to be owned by independent equity investors. By ignoring this requirement, Enron was able to avoid consolidating these special purpose entities. As a result, Enron’s balance sheet understated its liabilities and overstated its equity, and its earnings were overstated. On October 16, 2001, Enron announced that restatements to its financial statements for years 1997 to 2000 to correct these violations would reduce earnings for the four year period by $613 million (or 23% of reported profits during the period), increase liabilities at the end of 2000 by $628 million (6% of reported liabilities and 5.5% of reported equity), and reduce equity at the end of 2000 by $1.2 billion (10% of reported equity).

In addition to the accounting failures, Enron chose to provide minimal disclosure on its relations with the special purpose entities. The company represented to investors that it had hedged downside risk in its own illiquid investments through transactions with special purpose entities. Yet investors were unaware that the special purpose entities were actually using Enron’s own stock and financial guarantees to carry out these hedges, so that Enron was not actually protected from downside risk.

Finally, Enron allowed several key employees, like its CFO Andrew Fastow, to become partners of the special purpose entities. In subsequent transactions between the special purpose entities and Enron, these employees profited handsomely, raising questions about whether they had fulfilled their fiduciary responsibility to Enron’s stockholders.

Corporate Governance

From page 2

A well-functioning capital market creates appropriate linkages of information, incentives, and governance between managers and investors. This process is supposed to be carried out through a network of intermediaries, that include professional investors such as banks, mutual funds, insurance, and venture capital firms; information analyzers such as financial analysts and ratings agencies; assurance professionals such as external auditors; and internal governance agents such as corporate boards. These parties, who are themselves subject to incentive and governance problems, are regulated by a variety of institutions: the Securities and Exchange Commission, bank regulators, and private sector bodies such the Financial Accounting Standards Board, the American Institute of Certified Public Accountants, and stock exchanges.

From page 16

As in most other US companies, Enron’s management was heavily compensated using stock options. Heavy use of stock option awards linked to short-term stock price may explain the focus of Enron’s management on creating expectations of rapid growth, and its efforts to puff up reported earnings to meet Wall Street’s expectations. In its 2001 proxy statement, Enron noted that within 60 days of the proxy date (February 15), the following stock options awards would become excisable: 5,285,542 shares for Ken Lay, 824,038 shares for Jeff Skilling, and 12,611,385 shares for all officers and directors combined. At December 31, 2000, Enron had 96 million shares outstanding under stock option plans, almost 13 percent of common shares outstanding. According to Enron’s proxy statement, these awards were likely to be exercised within three years, and there was no mention of any restrictions on subsequent sale of stock acquired.

The stated intent of stock options is to align the interests of management with shareholders. But most programs award sizable option grants based on short-term accounting performance, and there are typically few requirements for managers to hold stock purchased through option programs for the long-term. The experience of Enron, along with many other firms in the last few years, raises the possibility that stock compensation programs as currently designed can motivate managers to make decisions that pump up short-term stock performance, but fail to create medium- or long-term value.

Taken from page 18 & 19

Corporate audit committees usually meet for just a few times during the year, and their members typically have only a modest background in accounting and finance. As outside directors, they rely extensively on information from management as well as internal and external auditors. If management is fraudulent or the auditors fail, the audit committee probably won’t be able to detect the problem fast enough.
Enron’s audit committee had more expertise than many. It included Dr. Robert Jaedicke of Stanford University, a widely respected accounting professor and former dean of Stanford Business School; John Mendelsohn, President of the University of Texas’ M.D. Anderson Cancer Center; Paulo Pereira, former president and CEO of the State Bank of Rio de Janeiro in Brazil; John Wakeham, former U.K. Secretary of State for Energy; Ronnie Chan, a Hong Kong businessman; and Wendy Gramm, former Chair of US Commodity Futures Trading Commission.
But Enron’s audit committee seemed to share the common pattern of a few short meetings that covered huge amounts of ground. For example, consider the agenda for Enron’s Audit Committee meeting on February 12, 2001. The meeting lasted only one hour and 25 minutes, yet covered a number of important issues, including: a) a report by Arthur Andersen reviewing Enron’s GAAP compliance and internal controls; b) a report on the adequacy of reserves and related party transactions; c) a report on disclosures relating to litigation risks and contingencies; d) a report on the 2000 financial statements, which noted new disclosures on broadband operations and provided updates on the wholesale business and credit risks; e) a review of the Audit and Compliance Committee Report; f) discussion of a revision in the Audit and Compliance Committee Charter; g) a report on executive and director use of company aircraft; h) a review of the 2001 Internal Control Audit Plan which included an overview of key business trends, an assessment of key business risks, and a summary of changes in internal control efforts by businesses for 2001 compared to the period 1998 to 2000; and h) a review of company policy for management communication with analysts and the impact of Regulation Fair Disclosure.
For most of the above agenda items, Enron’s Audit Committee was in no position to second-guess the auditors on technical accounting questions related to the special purpose entities. Nor was it in a position to second-guess the validity of top management representations. However, the Audit Committee did not challenge several important transactions that were primarily motivated by accounting goals, was not skeptical about potential conflicts in related party transactions, and did not require full disclosure of these transactions.

From page 19

Enron’s auditor, Arthur Andersen, has been accused of applying lax standards in their audits because of a conflict of interest over the significant consulting fees generated by Enron. In 2000, Arthur Andersen earned $25 million in audit fees and $27 million in consulting fees. It is difficult to determine whether Andersen’s audit problems at Enron arose from the financial incentives to retain the company as a consulting client, as an audit client, or both. However, the size of the audit fee alone is likely to have had an important impact on local partners in their negotiations with Enron’s management.
Enron’s audit fees accounted for roughly 27 percent of the audit fees of public clients for Arthur Andersen’s Houston office. Whether the auditors at Andersen had conflicted incentives or whether they lacked the expertise to adequately evaluate financial complexities, they failed to exercise sound business judgment in reviewing transactions that were clearly designed for financial reporting rather than business purposes. When the credit risks at the special purpose entities became clear, requiring Enron to take a write-down, the auditors apparently succumbed to pressure from Enron’s management and permitted the company to defer recognizing the charges. Internal controls at Andersen, designed to protect against conflicted incentives of local partners, failed. For example, Andersen’s Houston office, which performed the Enron audit, was permitted to overrule critical reviews of Enron’s accounting decisions by Andersen’s Practice Partner in Chicago. Finally,Andersen attempted to cover up any improprieties in its audit by shredding supporting documents after investigations of Enron by the Securities and Exchange Commission became public.

--Gavin Collins (talk|contribs) 14:31, 26 May 2009 (UTC)

Class action lawsuit

The following unsourced content has been removed from the article. --Gavin Collins (talk|contribs) 10:09, 29 May 2009 (UTC)

On April 8, 2002, Lerach Coughlin Stoia Geller Rudman & Robbins, LLP attorneys led by William Lerach filed a consolidated class action lawsuit against Enron Corp. in the U.S. District Court in Houston. On behalf of its clients, Lerach Coughlin seeks relief for purchasers of Enron publicly traded equity and debt securities between October 19, 1998 and November 27, 2001.

Lerach Coughlin attorneys moved swiftly to freeze over $1.1 billion in illicit insider trading proceeds. Lerach Coughlin attorneys and investigators interviewed more than 100 witnesses concerning the numerous organizations within Enron, including over 3,000 related entities and partnerships. Lerach Coughlin attorneys sought expedited discovery from both Enron and Enron's auditor, Andersen. Just 24 hours after Andersen revealed it destroyed an untold number of relevant documents concerning the Enron fraud, the attorneys went back to court seeking to preserve all evidence. Lerach Coughlin attorneys' factual investigation also uncovered Enron's extensive document destruction at its Houston headquarters.

The U.S. District Court in Houston has denied a number of motions to dismiss the litigation. The parties are currently engaged in discovery and motion practice; depositions began in the summer of 2004.

Lead Plaintiff, The U.C. Regents, has reached settlements with Lehman Brothers, Bank of America, the Outside Directors, Citigroup, JP Morgan Chase and CIBC totaling over $7 billion for investors. Those settlements are subject to approval by the Court.