ENRON SCANDAL

TANISH ADLAKHA
 INTRODUCTIO
N
 Top Executives and Board of Directors: Chairman Ken Lay, CEO Jeffrey Skilling,
CFO
Andrew Fastow and the Accounting firm of Arthur Anderson.

Kenneth Lay Jeffrey Skilling Andrew Fastow

CEO 1986 COO CFO 1990

 ENRON’S BUSINESS

Enron was formed as a merger between Inter North Natural Gas and Houston
Natural Gas in 1985.

Houston natural gas (HNG) was an American energy, commodities, and services
company and Inter North Natural Gas dealt in petrochemical, plastic industry and
petroleum production..

ENRON was considered as “Americas Most Innovative Company” and was on

the front page of FORTURE Magazine for six consecutive years.
 TRADING MODEL
• ENRON’s major focus was on the deregulated market which was a highly
inefficient market, had complex distribution channels, low supply and services
quality, etc.

• In1993, TESSIDE was the largest gas and power plant in the world. It was the
first project with investment of $1.4bn.

• In 1997, ENRON acquired electric power generation, transmission and

distribution expertise by Portland General Electric for $ 2.1bn.

• In 1997, Risk Assessment and Control (RAC) for $675m with 150 staff. It
evaluated the risks and rewards of the company’s investment.
• In 1998, acquired AZURIX for water industry & its development.

• In India 1999, DHABOL project for $2.9bn which was later criticized.

• In 1999, ENRON sold 76% of Azurix in Public offering on NYSE.

• In January 2001, announced the formation of ENRON Broadband

Services (EBS) for $1bn.
INTERNATIONAL BUSINESS

 First major project was the construction of the 1.4

billion, Tesside Power Plant in the United
Kingdom which completed in 1993.

Second large construction and asset management

project included $2.9 billion Dabhol power project
in Mumbai, India and completed in May 1999.
The Dabhol project proved to be particularly
troubled, with delays arising local criticism of the
Indian state and national governments over the
favorable terms offered to Enron.
 MANAGING TALENT

It had approximately 21,000 employees and was one of the world’s major electricity gas
company. The employees were evaluated by performance review committee (PRC), any
employee who doesn’t add value to the company and was ranked in the bottom 20% had
the risk of being fired.

This process was used to drive employees compensation and $750m was annually paid
to employees as cash bonus.

 Superior originators who created new things had an average salary of $150,000
to
$200,000.
REPORTING CHALLLENGES
Two issues were particularly challenging:

Involved complex long-term contracts, accounting standards permit

to use present value for these contracts. Enron recognized future cash
inflows as revenue, and the present value of the expected cost of
fulfilling the contract considered as expense.

 The second challenge is SPE’s (Special Purpose Entities)

 SPE’s( Special Purpose Entities)

It is a legal entity created to fulfill narrow, special or temporary objectives.

Companies use SPE’s as a back door to remove debt, obligations and other
liabilities of the balance sheet . And created more than a hundred partnership
companies.

For example one of its investments was a joint venture Californian public
employee’s retirement system (CALPERS) called JEDI. JEDI was an investment
fund whose assets included $12 million Enron shares that were marked to
market. Since Enron had joint venture, JEDI was not consolidated and its debt
was therefore not included on Enron's balance sheet.
 WHY DID THE COMPANY FAIL ?
 1993-2001: Enron used complex & dubious accounting schemes
 to reduce Enron’s tax payments;
 to inflate Enron’s income and profits;
 to inflate Enron’s stock price and credit rating;
 to hide losses in off-balance-sheet subsidiaries;
to engineer off-balance-sheet schemes to funnel money to themselves, friends,
and family;
 to fraudulently misrepresent Enron’s financial condition in public reports.
Billions of dollars were manipulated as long as stock prices were high
— possible to keep the truth hidden.
 Why Did The External Auditors And Board Fail To Prevent Enron
Failure?
Enron was fulsome in structuring their transaction and interested in making long-term complex
transaction to achieve its desired objective.

 ENRON had an external auditor named ARTHUR ANDERSEN.

The Accounting Principle Board (APB) made certain changes to Professional standards (GAAP),
and these amendments made the audit firm at high litigation risk, & also developed standardized
audit procedures to lower the cost and many of the clients switched to low cost.

Its external auditor ARTHUR ANDERSEN, had a close relation with its client ENRON. It’s
internal audit functions were outsourced to Andersen. Forty employees of Enron shifted to
Andersen payroll.

Andersen’s employees shifted to Enron as CFO, Chief Accounting Officer, and Treasure Officer.
 Andersen also served Enron for risk management, tax work, and appraisal of asset.

 Enron paid $25m for audit fee, $27m as consulting fee, $15.7m for other services. Total
67.7 m paid to ANDERSEN.

In 1999 & 2000, In Client Risk Analysis, Enron was classified as HIGH RISK IN ACCOUNTING. Andersen had
hidden the documents where Enron showed its high risk.

In Feb 2001, Andersen outlined a range of issues and discussed if they want to retain with this
company, and these concerns were never shared with audit committee and management.

 The board’s Finance Committee review the transaction quarterly.

 Overlook created SPE’s.

Board transferred the power to audit committee to look internal and external auditor and financial
reporting process. Compensation committee evaluate CEO performance and deciding compensation.
The stock
price decreased
from $80 to $42 in
 CONCLUSION

Enron was a massive failure, partly because of its size, complexity,

controls to protect the integrity of capital market failed, and especially
because of the massive greed and collusion of key participants.
Management failed , Auditor failed, Analyst failed, Creditors/Bankers
failed, and also regulators failed. The multiple failure sent a signal of
management structure.
THANK YOU