“What we are looking at here is an example of superbly complex financial reports. They didn’t have to lie. All they had to do was to obfuscate it with sheer complexity — although they probably lied too.”

Senator John Dingell

Enron Corporation was an American energy company based

in Houston, Texas. Before its bankruptcy in late 2001, Enron

employed approximately 22,000 and was one of the world's

leading electricity, natural gas, pulp, paper, and

communications companies, with claimed revenues of nearly

$101 billion in 2000. Fortune named Enron "America's Most

Innovative Company" for six consecutive years.

Enron was originally involved in transmitting and distributing electricity and natural gas throughout the United States.

The company developed, built, and operated power plants and pipelines while dealing with rules of law and other infrastructures worldwide.

In just 15 years, Enron grew into one of America's largest companies, but its success was based on artificially inflated profits, dubious accounting practices, and – some say – fraud.

• Enron Wholesale Services

• Enron Energy Services

• Enron's Global Assets

Enron Wholesale Services- encompasses Enron's global wholesale businesses, and is divided into four business units.

• Enron Americas

• Enron Europe

• Enron Global Markets

• Enron Net Works

Enron Energy Services – The retail arm of Enron, offers companies away to develop and execute their energy strategies.

Created as a retail broker of energy services Bought energy from utilities; sold to customers

Created market in retail energy contracts

Sold energy contracts; hedged in energy market Eventually made big bets on direction of energy

prices, and lost

Enron Transportation Services• oversees Enron's regulated, interstate

natural gas pipelines

Enron had assets spread across :Central America and the CaribbeanSouth AmericaEuropeAsia Pacific

Enron traded in more than 30 different products, including the following:

Products traded on EnronOnline Petrochemical, Plastics,Power, Pulp & Paper, Steel, Weather

Risk Management

Oil & LNG Transportation

Broadband

Principal Investments

Risk Management for Commodities

Shipping / Freight

Streaming Media

Water & Wastewater

Energy and commodities services

Capital and risk management services

Commercial and industrial outsourcing services

Project development and management services

Energy transportation and upstream services

“Enron knew they were crooks. But they were profitable crooks.”

What happened?

Why did it happen?

What were the results?

Personalities behind the Enron scandal

Prelude to scandal

Ken Lay, Chairman and CEO• Big picture; optimistic; tended to avoid controversy“Ken gravitates toward good news”

Jeffrey Skilling, President• Proponent of big ideas; less interested in details“Skilling is a designer of ditches, not a digger of ditches.”

Andrew Fastow, CFO• Ambitious; unwilling to let the rules get in the way“I don’t know that he ever had a moral compass”

• Enron Corp(Houston, TX)

.Enron Oil(Valhalla, NY)

Enron Oil chiefs involved in irregularities – Lay imposed weak sanctions; allowed execs to continue

Enron Oil faced devastating exposure – Division head, CFO had siphoned off money; both fired – Lay surprised both by losses and impropriety

Practice Subjective assessment of future gains

Little incentive for follow-throughPressure to accelerate deal flow

Key Issues:

a) How do we know future costs? (Hint: not very well)

b) What if profits don’t pan out? (Contracts should be written down, but…)

c) How will Wall Street react if deals don’t keep getting bigger?

Because Enron believed it was leading a

revolution, it pushed the rules. Employees

attempted to crush not just outsiders but each

other. Competition was fierce among Enron

traders, to the extent that they were afraid to

go to the bathroom and leave their computer

screen unattended and available for perusal

by other traders.

Enron morphed from a sleepy gas pipeline into a rogue trading company

– Enron officers used their political clout affect policy, e.g., electricity deregulation;

-pressure on Indian officials to push development of expensive power plant

– Enron traders caused California’s energy crisis

– Enron’s profits were the product of accounting fraud

– Enron used SPEs to hide billions of dollars of debt

– Skilling left before the collapse because he “knew something”

– Top management, auditors, and banks were all part of the conspiracy

– The Board and regulators were asleep at the wheel

– Lay sold his shares while touting the company to employees and investors

– Executives were dumping their shares while employees, not allowed to sell from their 401(k)s, saw their retirements wiped out

– The Enron collapse was the (inevitable?) result of management greed

Individual and collective greed—company, its employees,

analysts, auditors, bankers, rating agencies and investors—

didn’t want to believe the company looked too good to be

true

Atmosphere of market euphoria and corporate arrogance

High risk deals that went sour

Deceptive reporting practices—lack of transparency in

reporting financial affairs

Unduly aggressive earnings targets and management

bonuses based on meeting targets

Excessive interest in maintaining stock prices

Was paid $52 million in 2000, the majority for non-audit related consulting services.

Failed to spot many of Enron’s losses

Should have assessed Enron management’s internal controls on derivatives trading—expressed approval of internal controls during 1998 through 2000

Kept a whole floor of auditors assigned at Enron year around

Enron was Andersen’s second largest client

Provided both external and internal audits

CFOs and controllers were former Andersen executives

Accused of document destruction—was criminally indicted

Went out of business

Enron paid several hundred million in fees, including fees for derivatives transactions

None of these firms alerted investors about derivatives problems at Enron.

In October, 2001, 16 of 17 security analysts covering Enron still rated it a “strong buy” or “buy.”

Example: One investment advisor purchased 7,583,900 shares of Enron for a state retirement fund, much of it in September and October, 2001

Enron’s outside law firm was paid substantial fees and had previously employed Enron’s general counsel

Failed to correct or disclose problems related to derivatives and special purpose entities

Helped draft the legal documentation for the SPEs

Enron’s creation of over 3000 (!) partnershipsstarted about 1993 when it teamed with Calpers(Calif. Public Retirement System) to create JEDI(Joint Energy Development Investments) fund.

• Why partnerships? As long as Enron could findanother partner to take at least a 3% stake, Enronwas not required to report the partnership’sfinancial condition in its own financial statements.

• Enron used partnerships to hide bad bets itmade on speculative assets by selling these assetsto the partnerships in return for IOUs backed byEnron stock as collateral! (over $1 billion by 2002)

• In November 1997, Calpers wanted to cash out of JEDI.

• To keep JEDI afloat, Enron needed a new 3% partner.

• It created another partnership Chewco (namedfor the Star Wars character Chewbacca) to

buyout Calpers’ stake in JEDI.

• Chewco needs $383 million to give Calpers…

• It gets…..— $240 mil loan from Barclay’s bank

(guaranteed by Enron)— $132 mil credit from JEDI (whose only asset is

Enron stock)

•Chewco still must get 3% from some outside source to avoid inclusion in Enron’s books (SEC

filing, 1997).

Chewco Capital Structure: Outside 3%

$115,000 from M. Kopper (worked at the time for Enron)

$11.4 mil loans from Big River and Little River (two new companies formed expressly by Enron for this purpose who get a loan from Barclay’s Bank)

• Barclay’s Bank begins to doubt the strength of the new companies Big River and Little River.

• It requires a cash reserve to be deposited (as security) for the $11.4 million dollar loans.

• This cash reserve is paid by JEDI, whose net worth by this time consists solely of Enron stock, putting Enron in the at-risk position

for this amount.

On July 13, 2001, Skilling resigned as CEO. He claimed it was for personal reasons. The real reason was that Enron was heading for trouble, and he didn’t want to face the music. There were at least five reasons that could foreseeably lead to disaster:

(i) The firm’s stock was down about 40% for the year. If it kept falling, several of Fastow’s SPEs – those primarily financed with Enron stock – would be under water.

(ii) India had stopped making payments for electricity generated by the Dabhol plant. Enron had shuttered the plant in May and, despite the Bush administration pressuring India on Enron’s behalf, was facing the prospect of writing off its entire $900 million investment.

(iii) The company had recently spent $326 million to buy back shares of the failed Azurix water company.

(iv) Severe shortages of electricity in California had led to rolling blackouts and accusations that Enron had manipulated prices.

(v) The venture in bandwidth trading failed lamentably, and ventures in metals and pulp trading wereracking up losses.

The company was in a cash crunch and was trying to sell assets to raise cash. Skilling could see the writing on the wall, but so could most of Enron’s senior management. Many had been liquidating their holdings in Enron stock for months.

Many people suffered from Enron’s failure, but employees were hit especially hard. Thousands were laid off with just $4,500 in severance pay.

Enron had encouraged employees to invest their pension assets in the company’s stock. Employees who had foolishly done so lost pension savings as well as their jobs.

In June 2002, Arthur Andersen was convicted of obstruction of justice for its destruction of Enron documents. Andersen, which was once the largest accounting firm in the U.S., was barred from auditing clients.

The government nearly had a scandal on its hands, as many politicians had Enron as a major contributor to their campaigns.

The energy industry went through a crisis, since other companies in the industry were Enron copycats and had very similar deals and trading positions in place when Enron went down. And investors took a big hit.

Finally, even with its downfall, some good has come – regulators are seeking to improve standards and practices in accounting, corporate governance, risk control, and pension fund administration, to ensure that another Enron does not emerge.

Presented By :Vartika Gupta Shelley SharmaSyed SibtainOmar Fahmeed