creative accounting - enron

7/29/2019 Creative Accounting - Enron

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ENRONMade by:-

1. Aastha Thakur (211003)

2. Aman Raaj Narang (211014)

3. Farhan Aqeel (211045)

4. Gandharv Arora (211046)5. Hitesh Nayyar (211052)

6. Hitesh Munjal (211054)


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`


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INTRODUCTION

Enron Corporation was an American energy,commodities, and services company based in Houston,Texas.

Enron was heavily involved in energy brokering,electronic energy trading, global commodity and

options trading, etc. Before its bankruptcy on December 2, 2001, Enron

employed approximately 20,000 staff with claimedrevenues of nearly $101 billion in 2000.

Fortune named Enron "America's Most InnovativeCompany" for six consecutive years

a factor in the creation of the SarbanesOxley Act of2002


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ENRON

EnergyIndustryHouston, Texas, United StatesHeadquarters

Kenneth Lay, Founder, formerChairman

Jeffrey Skilling, formerPresident, CEO

Andrew Fastow , CFO

Key people

$101 billion (in 2000)Revenue

approx. 22,000 in 2000Employees

http://www.enron.com/Website


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ENRON

Enron, the 7th largest U.S. company in 2001,

filed for bankruptcy in December 2001.

Enron investors and retirees were left with

worthless stock.

Enron was charged with securities fraud

(fraudulent manipulation of publicly reported

financial results, lying to SEC,)


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RISE OF ENRON

1985- Kenneth Lay merged the natural gas pipelinecompanies of Houston Natural Gas and InterNorth to

form Enron.

Early 1990s- He helped to initiate the selling of

electricity at market prices and, soon after, theUnited States Congress passed legislation

deregulating the sale of natural gas.

Enron rose to become the largest seller of natural gas

in North America by 1992.

November 1999 - creation of the EnronOnline

trading website.


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To achieve further growth, Enron pursued a

diversification strategy.

Enron's stock rose from the start of the 1990s until

year-end 1998 by 311% percent.

Enron was rated the most innovative large companyin America in Fortune's Most Admired Companies

survey


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ACCOUNTING PRACTICES

Nontransparent Financial statements and complex

business model.

Created Partnerships structured as Special Purpose

Entities(SPE)

SPE 3% Rule: No consolidation needed if

at least 3% of SPE total capital was owned

independently of Enron.


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ENRONS REVENUE ACCOUNTING

TECHNIQUES

o INFLATED REVENUES

In 4 years, Enrons Revenues increased by 750%($13.3bn to$100.8bn)

o MARK TO MARKET (Fair Value Accounting)

All Assets and Liabilities are Revalued at Fair Market Value( Market Value= Present Value of Future Cash Flows)

Used by Enron for its Energy Contracts

Allowed Enron to count projected future earnings asCurrent Income


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MARK TO MARKET (contd.)

o VIOLATES BASIC CRITERIA FOR REVENUE

RECOGNITION:

The service has been provided/mostly provided

Revenue is reasonably certain

o ALSO VIOLATES PRINCIPLE OF

CONSERVATISM


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ENRONS REVENUE ACCOUNTING

TECHNIQUES

o MERCHANT MODEL OF REVENUES

Enron adopted an aggressive interpretation of

what constitutes Revenue in the trades that tookplace over its Enron Online Trading Platform

Reported entire value of each trade as Revenue

o Traditional Trading firms like Goldman Sachs

used the more conservative AGENT MODEL


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INFLATED REVENUES

Gross Profit is a Reasonable indicator of the actual revenue that would have

been reported by Enron, under the Agent Model without MTM assumptions.


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S.P.ESpecial Purpose entities are used to fulfill a temporary

or specific purposeto fund or manage risks associatedwith specific assets.

SPE 3% Rule: No consolidation needed if at least 3%

of SPE total capital was owned independently.

Enron transferred troubled assets that were falling

in value to SPEs which meant that their losses would

be kept off Enrons books .

In return IOUs were issued , backed by Enrons

stock as collateral.


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In 1993 it teamed with Calpers (California Public Retirement System) to createJEDI (Joint

Energy Development Investments) fund.

ENRON CALPERS

JEDI

HIGH RISK

ASSETSIOUs

INVESTMENTINVESTMENT


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In Nov 1997, Calpers wanted to cash out of

JEDI.

To keep JEDI afloat, Enron needed new 3%

partner.

It created another partnership Chewco to buyout Calpers stake in JEDI for $383 million.

Enron plans to back short-term loans to

Chewco to permit it to buy out Calpers stakefor $383 million.


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ENRON

CHEWCO

Short-term loans

$383 million buyout

$383 million

JEDICALPERS


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CHEWCOS CAPITAL STRUCTURE

Chewco needs $383 million dollars to give calpers

It gets :

$240 mil from Barclays bank(Enron guarantee)

$132 mil from JEDI To avoid inclusion of JEDIs debt on Enrons books the

remaining 3% (about 11.5 mil) from outside sources:

$125,000 from William Dodson and MichaelKopper(Enrons CFOs aide)

$11.4 mil loans from Big River and SmallRiver(security cash reserve paid by JEDI )


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HOW THEY PLAYED THE SPE GAME

CALPERSENRON

JEDIEnron now sole

partner

BARCLAYS BANK

KOPPER

BIG RIVER AND

LITTLE RIVER

CHEWCOAn entity supposedlyindependent of

Enron

383 Mil

132 Mil

125k

240 MilEnron

guarantee

6.6mil

11.4mil

11.4mil

Enron aid

JEDI


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WHAT ENRON EARNED FROM ALL THIS

Enron received $10 mil in guarantee fee + fee based

on loan balance to JEDI

Enron received a total of $25.7 mil from this source

In the first quarter of 2000, the increase in price ofEnron stock held by JEDI resulted in 126 million in

profit to Enron


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BUT

Everything fell apart when Enrons stock prices began

to decline in fall of 2000

This started a chain reaction: Enron had hedged

against its own stock, so as long as the stock priceswere declining, it could not recover from the losses

In November 2001 Enron admitted to SEC that

Chewco was not truly independent of Enron

Chewco went bankrupt shortly after its admission in

Enron


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AFTERMATH

Enron Corp. is rechristened to Enron Creditors Recovery Corp.(ECRC). ECRC's sole mission is to reorganize and liquidate the

operations and assets of "pre-bankruptcy" Enron.

Enron's shareholders lost $74 billion in the four years before

the company's bankruptcy. In November 2004 (emergence from bankruptcy), a new

board of directors was appointed, and they adopted this

mandate: obtain the highest value from the company's

remaining assets and distribute the proceeds to the

company's creditors.

Once ECRC has completed all outstanding litigation and

monetized all assets, it will make a final distribution to

creditors. After that, the company will cease to exist.


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ARTHUR ANDERSON

In 2002, the firm voluntarily surrendered its licenses topractice as Certified Public Accountants in the UnitedStates. Even before voluntarily surrendering its right topractice before the SEC, it had many of its state

licenses revoked. From a high of 28,000 employees in the US and 85,000

worldwide, the firm is now down to around 200.

As of 2011, Arthur Andersen LLP has not been formallydissolved nor has it declared bankruptcy. Ownership of

the partnership has been ceded to four limited liabilitycorporations named Omega Management I through IV.As of 2011, Arthur Andersen LLP still operates the QCenter conference center in St. Charles, nowadaysmostly used for Accenture trainings.


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LESSONS

Demonstrated the importance of old economy

questions: How does the company actually make its

money? Is it sustainable over the long haul? Is it

legal! Demonstrated the need for significant reform in

accounting and corporate governance in the U.S.

Does this necessarily mean government regulation

can fix the problem?

creative accounting - enron

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