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Accounts Project On Enron Scandal

Prepared by-

Ajay kumar Arora

The Enron Scandal
Enron, the 7th largest U.S. company in !!",filed for bankruptcy in #ecember !!". Enron in$estors and retirees %ere le&t %ithworthless stock. Enron %as charged %ith securities fraud'&raudulent manipulation o& publicly reported&inancial results, lying to SE(,)* QUESTION: +n %hat %ays are securitymarket moral hazard pro lems at the heart o& the Enron bankruptcy scandal,
On October 16, 2001, in the first majorpublic sign of trouble, Enron announces ahuge third-quarter loss of $618 million On October 22, 2001, the !ecurities andE"change #ommission $!E#% begins an inquir& into Enron's accounting (ractices On )ecember 2, 2001, Enron files for bankruptcy . 1**+-2001, Enron used complex dubious energy trading schemes Example: Death Star Energy Trading Strategy -oo. ad/antage of a loo(hole in the rules go/erning energ& trading in #alifornia Enron 0ould schedule electric (o0er transmission on a congested line from bus 1 to bus 2 in the o((osite direction to demand, thus enabling them to collect a 3congestion reduction4 fee for seemingl& relie/ing congestion on this line Enron 0ould then schedule the routing of this energ& all the 0a& bac. to bus 1 so that no energ& 0as actuall& bought or sold b& Enron in net terms 5t 0as (urel& a routing scheme Enrons creation of over 3000 (!) partnerships started about 1**+ 0hen it teamed 0ith Calpers (Calif. Public Retirement System) to create JEDI (Joint Energy Development Investments) fund Why partnerships 1s long as Enron could find another (artner to ta.e at least a +6 sta.e, Enron 0as not required to re(ort the (artnershi('s financial condition in its o0n financial statements Enron used partnerships to hide bad bets it made on s(eculati/e assets b& selling these assets to the (artnershi(s in return for 5O7s bac.ed b& Enron stoc. as collateral8 $o/er $1 billion b& 2002% #he0co needs $+8+ million to gi/e #al(ers

Investigative Findings

Case Study o !ne "ccounting Scheme

5t gets9 : $2;0 mil loan from 2arcla&'s ban. guaranteed by Enron : $1+2 mil credit from <E)5 $#hose only asset is Enron stoc$% #he0co still must get %& o '%(% million )about '**+, millionrom some outside source to a/oid inclusion of <E)5's debt on Enron's boo.s $!E# filing, 1**=%

More Complications for Enron!

.arclay/s .an$ begins to doubt the strength of the ne0 com(anies 2ig >i/er and ?ittle >i/er 5t re0uires a cash reserve o '1+1 million to be de(osited $as securit&% for the $11 ; million dollar loans -his cash reser/e is paid by 2EDI, 0hose net 0orth b& this time consists solel& of Enron stoc., (utting Enron in the at-ris. (osition for this amount $red arro0 on the ne"t slide %

3ro it to Enron rom all this4

Enron recei/ed $10 million in guarantee fee @ fee based on loan balance to <E)5 Enron recei/ed a total of $2A = mil re/enues from this source 5n first quarter of 2000, the increase in (rice of Enron stoc. held b& <E)5 resulted in $126 million in (rofits to Enron .ut everything ell apart #hen Enron/s share price started to drop in Fall 5666+ 5n Bo/ember 2001, Enron admitted to the !E# that #he0co 0as not trul& inde(endent of Enron #he0co 0ent shortl& after this admission b& Enron

7ho is to .lame or Enron4

8ax accounting b& 1rthur 1nderson $11% #o4 9ogue "" auditor David Duncan $fired 1C1AC02%D Enron/s senior management for hiding losses in dubious offbalance-sheet (artnershi(sD CF! "ndre# Fasto# for setting u( these (artnershi(s $6 &ear (rison sentence *C26C200;%D CE! 2e S$illing $2; &ear (rison sentence 10C2+C06%D CE! :enneth 8ay $died =C2+C06 0ith charges (ending%D ;edia exaggeration and ren<y4 Stoc$ analysts 0ho .e(t (ushing Enron stoc.D

.ad "ccounting 3ractices4

=enerally "ccepted "ccounting 3ractices )3rior to 5665-: 1uditing com(anies often consult for the com(anies the& audit $conflict of interest% 1udit com(an& (artners often later accept >obs from their client com(anies

#om(anies often retain the same auditing com(an& for long periods o time 1uditing com(anies ha/e been allo0ed to police themselves 1((ointment of auditor com(an& is in theory b& shareholders but in practice b& senior management 1udit #ommittee members often are not independent of senior management E insiders are the ones 0ith the most accurate understanding 1udit #ommittee members ha/e t&(icall& been re0uired to o0n com(an& stoc. to align their incenti/es 0ith those of com(an&

!ther Dubious 3ractices4

2oard of )irectors traditionall& paid largely in stoc$ to align their interests 0ith shareholders )irectors can sell out early based on insider information Fhen senior e"ecuti/es charged 0ith failure to abide b& !E# rulings, the company typically pays the ine

8essons rom Enron Scandal4

)emonstrated the im(ortance of 3old econom&4 questions, Go0 does the com(an& actually ma.e its mone&D 5s it sustainable o/er the long haulD 5s it legal8 )emonstrated the need for significant reform in accounting and cor(orate go/ernance in the 7 ! )oes this necessaril& mean government regulation can fi" the (roblemD

1985 - Houston Natural Gas merges with InterNorth to form Enron. 1989 - Enron begins trading natural gas commodities. Se !""" - Enron #E$ %enneth &a' contributes (!9")""" to the residential cam aign of George * +ush. ,ecember !""" - -effre' S.illing o/er as chief e0ecuti/e officer. Enron Stoc. hits 5!-wee. high of (81.82. -an !""1 - Enron3s %enneth &a' is made a art George * +ush3s transition team. -un !""1 - 4he *hite House admits that olitical ad/iser %arl 5o/e was in/ol/ed in administration energ' olic' meetings. 4his

was at the same time as he was holding stoc. in energ' com anies including Enron. 6ugust !""1 - -effre' S.illing resigns as Enron3s #E$ after 7ust si0 months. %enneth &a' once again resumes his #E$ role. $ct !""1 - Enron re orts a (898 million third-:uarter loss and discloses (1.! billion reduction in the /alue of shareholders3 sta.e in the com an'. $ct !""1 - Enron ac.nowledges that the Securities and E0change #ommission has begun an in:uir'. $ct !""1 - Enron3s #E$ %enneth &a' as.s #ommerce Secretar' ,on E/ans) to ersuade ;ood' from downgrading Enron3s credit rating. $ct !""1 - Enron announces that the SE# in:uir' has been u graded to a formal in/estigation. No/ !""1 - Enron re/ises financial statements for the re/ious fi/e 'ears to account for (588 million in losses. No/ !""1 - 6rthur 6ndersen recei/es a federal sub oena for Enron documents. No/ !""1 - Enron stoc. lunges under (1. ,ec !""1 - Enron files for #ha ter 11 tc'. ,ec !""1 - Enron la's off 1)""" em lo'ees. -an !""! - 4he <.S. -ustice ,e artment confirms it has begun a criminal in/estigation of Enron. -an !""! - 6 former Enron em lo'ee testifies that she saw eo le shredding documents after the in/estigation was announced. -an !""! - %enneth &a' resigns as chairman and #E$ of Enron. -an !""! - 4he bod' of former Enron /ice chairman -ohn #lifford +a0ter is found in his car. His suicide note is released in 6 ril. =eb !""! - 4he ,e artment of -ustice instructs the *hite House to reser/e all Enron documents. =eb !""! - S.illing testifies) sa'ing he .new of no roblems at Enron when he resigned. ;arch !""! - =ormer Enron auditor 6rthur 6ndersen is indicted for destro'ing Enron documents.

-une !""! - =ormer Enron auditor 6rthur 6ndersen con/icted of obstruction. $ct !""! - 6rthur 6ndersen is sentenced to robation and fined (5"")""". $ct !""! - =astow is indicted on 28 charges including) cons irac') fraud) and mone' laundering. -ul !""9 - Enron a's the state of New -erse' (1"9)""" to settle claims that the cor oration had made illegal state cam aign contributions in 1999. Se t !""9 - =ormer Enron treasurer +en Glisan -r. leads guilt' to cons irac'. He is sentenced to fi/e 'ears in 7ail. -an !""1 - 6ndrew =astow leads guilt' to cons irac'. He recei/es a reduced 1"-'ear sentence for hel ing in the continuing Enron in/estigation. &ea =astow leads guilt' to filing false ta0 forms. She recei/es $ne 'ear in a federal rison. -an !""1 - =ormer chief accountant 5ichard #ause' leads innocent to cons irac' and fraud charges. =eb !""1 - S.illing indicted) leads innocent to 95 counts of =raud) and #ons irac'. -ul' !""1 - &a' surrenders to =+I. He is Indictment under accusations of artici ating in a cons irac' to mani ulate Enron3s :uarterl' financial results) and false ublic statements concerning the com an'3s financial erformance.