Corporate Governance

Governance Failure at Enron

internal and external. 2011 Case questions 1. Lavern Mc Farlane Prepared By: 620015509 620008830 620018965 620008853 02051303 January 13. do you believe failed Enron the most? How do you think each of the individual stakeholders and components of corporate governance system should have either prevented the problem at Enron or acted to resolve the problem before they reached crisis proportion? If all publicly-traded firms in the United States are operating within the same basic corporate governance system as Enron. 3. Which parts of the corporate governance system. . why would some people believe this was an isolated incident.Cohort 13 Course Name: International Monetary and Economics and Finance Course Code: SBFI6030 Lecturer: Dr.CASE WRITE UP – Governance Failure at Enron Prepared for: Mona School of Business . and not an example of many failures to come? 2.

The board’s responsibilities inherently demanded the exercise of judgment in an ethical manner. In response to the first question both the internal and the external corporate governance systems were factors which contributed to Enron’s failure. The board must ensure that these objectives are also maintained and that timely and accurate disclosure is made on all matters regarding the corporation. The board should also have ensured the integrity of accounting and financial reporting systems and oversee the process of accurate disclosure and communication. in return for investment. who decide to go public. This is to make sure that management is not pulling the wool over the eyes of the investors. Because of the importance of the external auditor. The single most important objective of corporate governance in the Anglo-American markets is the optimization overtime of the returns to shareholders. Companies. strategies and directions in the best way possible. In Enron’s case there was however conflict of interest as the Auditors also provided a large variety of consulting activities Equity Markets The Securities and Exchange Commission along did little firsthand investigation or conformation of reporting diligence. legality and accuracy of corporate financial statements. are required to have independent. they relied on the testimonials of other bodies like the Enron’s auditors and the auditors had conflict of interest where the reporting of the Company’s performance is concern. The New York stock Exchange did no . In doing this they attempt to determine whether the firm’s financial records and practices follow generally accepted accounting principles (GAPP). The board of directors had the responsibility to ensure that corporate behavior conforms to best governance practices. and professional guidelines that make sure that the company is using its resources. Auditors have a fiduciary responsibility to make sure that the public and the shareholders can be comfortable with the reports that are issued by the company management. which ensure corporate growth and improvement in the value of the corporation’s equity. In order for companies to achieve maximization of returns to shareholder’s . they must be seen as being independent.Corporate governance The concept of corporate governance represents the collection of activities. good governance practices should focus the attention of the board of directors of the corporation on those objectives. Management on the other hand. whose financial statements they are auditing. but have a duty to inform management if they come upon anything that is suspicious. measuring and rewarding management’s performance. If management does nothing to address the concerns then the auditors should withdraw their service. The external auditors and legal advisors The auditor and legal advisers are responsible for providing an external professional opinion as to the fairness. The central issue therefore is to ensure that there exist an appropriate relationship between the auditor and the managers. The auditors are not fraud investigators per se. they are the agents of the shareholder and therefore have a fiduciary responsibility to the shareholders to pursue value creation. In this regard. not only had most of the knowledge of the business. the external auditor must not only appear to be independent. Hence a balance is required between working constructively with the company management and at the same time serving the interest of the shareholders. consistent with its mission and stated goals. but it may be argued that the internal system. but was also the creators and directors of its strategic and operational direction. the directors should have exercised strategic oversight of business operations while directly monitoring. third party validation of their financial report and progress. including the financial situation and performance of the company. rules. The board of directors in a company had the overall responsibility for the management and direction of its affairs. primarily as it relate to the responsibility of the board of directors and the management who are ultimately responsible.

Enron had too many internal control weaknesses. The tracking of daily cash was lax. Internal controls were inadequate. and internal controls over special purpose entities (SPEs) were a sham. The internal structures have caused Enron to fail mostly. Board members failed to question decisions and to scrutinize financial statements. A publicly traded firm in the United States is also subject to the rules and regulations of the exchange upon which they are traded (New York Stock Exchange.independent first-hand verification and these practices allowed Enron to continue to mask their operation activities. The executive directors that are full-time paid employees and the non. were not physically secured. It is a requirement of corporate governance best practice that the board of directors be made up of executive directors and non-executive directors. As a result the board failed in its duties to protect shareholders interest due to lack of due diligence. and NASDAQ are the largest). notably foreign assets. Had Enron done things in the right way. The Securities And Exchange Commission (SEC) is a careful watchdog of the publicly traded equity market. and assets. This should prevent any conflict of interest unless there is a direct collusion between them. accurate. The way in which they could have helped to prevent the problem and hence the crisis. . and company-wide risk was disregarded. existing in form but not in substance. and fairly distributed information. contingent liabilities were not disclosed. This is so because there should be a distinct difference between the board and the management in order for there to be transparency and integrity in reporting. In this sense. and. American Stock Exchange. In the United States. It was simply greed on the part of management and the board that has led Enron and its shareholders and other stakeholders to have encountered this crisis. off balance sheet debt was ignored although the obligation remained. but there was not enough monitoring of the operation of the company by the external bodies Response question 2 Firstly the Board of Director and The Executive Management team appears to be one and the same and this is evidently a road to disaster. Their result was base on the information given as per financial reports. Auditors assess the internal controls of a client to determine the extent to which they can rely on a client’s accounting system. is that firstly they as auditor should not have accepted or offered non audit services to such proportions in excess of audit services or they should have avoided all together. Arthur Anderson could not write needed qualified or adverse opinions for fear of losing millions of dollars of business. Many financial officials lacked the background for their jobs. Regulators Publicly traded firms in the United States and elsewhere are subject to the regulatory oversight of both governmental organization and non-governmental organizations. debt maturities were not scheduled. This is viewed as the external governance system which had the second least impact on preventing the failure of Enron. These organizations typically categorize as self regulatory in nature. The SEC and other authorities like it outside of the United States require a regular and orderly disclosure process of corporate performance in order that all investors may evaluate the company’s investment value with adequate. This regulatory oversight is often focused on when and what information is released by the company. both in the behavior of the companies themselves in those markets and of the various investors participating in those markets.executive directors are independent of management and are primarily responsible for the monitoring of management and senior officers of the company. displaying ethical behavior in the way they operated. Arthur Anderson had both auditing and consulting businesses tied up with Enron with the greater proportion of their business with Enron being non-audit activities. Two serious weaknesses were that the CFO was exempted from a conflict of interest policy. Andersen ignored all of these weaknesses. Perhaps it was perceived that a poor audit or a qualify audit for Enron could result in a loss of consulting business. construct and enforce standards of conduct for both their members companies and themselves in the conduct of share trading. a lot of the fraud and irregularities could have been avoided. and to whom.

During the investigation. blinded by Enron’s latent successes in the mid to late 1990s. Evidently the legal frame was totally corrupt and was not about to lose its benefits by taking legal actions or even advising the managements of Enron to correct their malicious way of conducting business. bookkeeping. Vinson and Elkins consulted with Arthur Andersen. Employees: Sharon Watkins became the most spectacular example of corporate whistle blowing when she exposed former Enron chairman and CEO Kenneth Lay's very questionable accounting practices in 2002. in a few cases. actuarial services management functions and human resources. Enron’s management was generally successful in arguing their point. The auditing standards also speak to the retention of working papers. if this was not done. As part of the audit they should have reviewed internal control systems to ensure that they reflected the transactions of the client and provided reasonable assurance that the transactions were recorded in a manner that permitted preparation of the financial statements in accordance with generally accepted accounting principles (GAAP). a partner in the Houston office of Andersen. and . system designs and implementation. Enron fell through the cracks of most U. headed the Enron audit and allegedly orchestrated a document shredding campaign. regulatory bodies by industries. Instead they used the cover that the financials were acceptable as they were cleared by the auditors. being the “white elephant in the room” and so the exasperation of the crisis at Enron. Auditors should have been guided by this act. which resulted in thousands of employees losing their retirement and savings plans.This is a requirement by the auditing standards and is reinforced by the Sarbanes-Oxley Act (SOX). Essentially. it was cited in the Enron case that at senior member of the audit team. “Auditors are expressly prohibited from carrying out a number of services including internal audit. legal and expert services. Regulators may be defined as any form of interference with the operation of the free market. the Federal Energy Regulatory Commission (FERC) had some distant oversight responsibilities in regard to some of the markets and trading which the company participated in. the law firm advised away Enron’s future interests. or at least did not foretell of the potential implosion of Enron. Audit firms should retain working papers for at least 7 years and have quality control standards in place such as second partner review. The regulation of Enron was non-existent. Although a few analysts continued to note that the company’s earnings seemed strangely large relative to the falling cash flows reported. As a trader in the energy markets.S. Again we see a lack of will to stand out and make the difference. Legal Counsel: Vinson and Elkins poorly advised Enron. investment management. The fact that Vinson and Elkins would bring the issue to Enron’s outside auditor raises serious ethical issues. even though the crisis is not directly related to this aspect of the business Equity Markets: The market did not police itself in the case of Enron. The legal counsel should have taken action by giving advice to change or by withdrawing services as the legal mind for Enron. appraisal or valuation services. or working within investment banks which were earning substantial investment banking fees related to the complex partnerships. This raises an interesting issue about the ethics of the legal profession issuing an opinion on accounting issues. but that no action was needed because the accounting figures were acceptable. A gap existed between the regulators for trading energy and what the company actually did. A positive outcome of this situation has been the passing of the Sarbanes-Oxley Act of 2002 which made sweeping reforms to corporate governance law. Hence it can be said that they made no intervention hence the crisis. David Duncan. Debt Markets: Enron’s analysts were. Vinson and Elkins responded that the charges were serious.

it has been costly and not well-accepted globally. cultivate an open relationship with your accountant and auditor. The reality is that prior to this incident there was never a case of this magnitude. “This destructive short-term focus by both management investors has been correctly labeled impatient capitalism” (p. for example. know the basics of accounting . these are: CEO/CFO sign-off of financial statements. As Eiteman et al suggest. Although SOX aimed to bring greater accountability to public corporations. but it would have prevented the loss of millions of jobs and the billions of dollars of pensioners and other stakeholders funds. Doing the wrong things is always so easy. the perception held by most are that the governance systems then extend from the corporate walls of companies to the electric barriers of the company’s regulators and the government itself. establish a professional distance and give employees ways to voice their objections. 26). the power to get individuals and organizations to buy into your thinking. cultivate integrity and recognize that wrong decisions can be made and corrected. The other employees at Enron who knew what was happening could have done the right thing . are full proof. No loans may be given to corporate officers (Tyco had this issue). and they were able to convince their workers and business associates to deceive and undermine the systems at play. now requires for key elements. However. tempting and attractive. do not cheat. The belief is that it is a near impossible occurrence and any occurrence is the exception. Proper controls to assess fraud must be in place.provided whistleblower protection to employees of public companies who disclose employer information who are involved in fraud. meaning to disguise poor performance and deceive the investors and the public at large. these companies also have dishonest individuals running the enterprise: criminal success at this level calls for collusion. Audit/Compensation committees must be independent. Conclusion Lessons leant. The overarching concern for profit above all else became greed on criminal proportions. instead they colluding with senior management. Response question 3 Some would believe that this was an isolated incident because the executive leadership not only was unethical in its business dealings but criminal in its operations. actively practicing fraudulent transactions. because of fear of losing their jobs. The response by congress to Enron’s failures and those of other companies by passing SOX in 2002. the act of whistle blowing is often a David-and-Goliath battle still fraught with danger. . Although other companies fall into the same traps as Enron. there are a number of ethical ways to make money. Tyco with Dennis Kozlowski and WorldCom with Bernie Ebbers. sometimes life threatening.

Sign up to vote on this title
UsefulNot useful

Master Your Semester with Scribd & The New York Times

Special offer for students: Only $4.99/month.

Master Your Semester with a Special Offer from Scribd & The New York Times

Cancel anytime.