Name: BOCALAN, MICHELLE DIANNE G.
Date: March 17, 2021
Section: BS ACCOUNTANCY 2-3
Case study: Enron Scandal
Activity 1: Watch the video in YouTube: Enron – The biggest Fraud in History.
Prepare a reflection paper about Enron Case. Describe the Corporate Governance Failure in Enron.
You can identify the principles in Code of Corporate of Governance violated by Enron.
ENRON SCANDAL, THE BIGGEST SCAM IN HISTORY
In 1985, Enron Corporation was incorporated as energy supply company mainly dealing with
natural gas, commodities and services company based in Houston, Texas that was founded by Kenneth
Lay as a result of the merger of Houston Natural Gas and InterNorth. They were recognized as
the"America's Most Innovative Company"
for the next six years. The corporation employed an
approximately 20,000 staffs and was able to gain a revenue worth of S101 billion during 2000.
But eventually, Enron scandal considered as the biggest fraud in the history and most notorious
accounting scandal of all time. Enron Corporation deceived through accounting tricks and incorporating
fake holding and was able to trick its investors into thinking that the firm was doing much better and
stable than it actually was. Approximately twenty-two thousands employees loss their jobs, $700 Million
of Net earnings and $1.2 Billion of Equity Shareholders disappeared and over $4 billion hidden liabilities.
Many of Enron’s recorded assets and profits were inflated or totally fraudulent and non-existent. Their
success was just temporary where in just less than one month they ended up as a bankrupt business. But
what are the reasons that leads the business to failure or bankruptcy?
1) Strengthening the Internal Control System and Enterprise Risk Management Framework . (2)
Transparency and Disclosure. They failed to have a strong and effective internal control system since
year 2001 where the CFO ‘s legal counsel instructed auditors to destroy the files of Enron and asked to
maintain only the utility or necessary information.
(3) Strengthening Board Ethics. Enron’s board members has a critical role in developing an ethical
culture and influencing their stakeholders. But they were blinded with their goal of gaining an excessive
amount for a short period of time and excessive interest in mantaining stock prices.
(4) Establishing Clear Roles and Responsibilities of the Board and Assessing Board Performance. The
corporation's core business and transactions were not properly overseen by the Board. The Board
ineffectively monitor or evaluate the execution of the Company's code of conduct or regulation,
enabling selfish managers to act on their self-interest at the detriment of the Corporation. Furthermore,
the Board failed to create an environment in which the external auditor, internal audit function, and
whistleblower could operate freely.
(5) Strengthening the External Auditor’s Independence and Improving Audit Quality. The auditor's job
is to provide reasonable assurance that audited financial reporting is free of material misstatement and
was presented fairly and trufully. But Enron’s auditor turned a blind eye to improper accounting
practices where he is actively involved in devising complex financial structures and transactions in the
corporation.
(6) Enhancing Company Disclosure Policies and Procedure. They failed to follow the policies the right
procedures set by regulatory agencies in considering significant transactions. For instance, Arthur
Andersen violated the regulations of a Public Accountant practices because he is the both internal and
external auditor and acquiesced with the wrongdoings of Enron’s management.
(7) Establishing a Competent Board. The company should be headed by competent , responsible to
meet the prescribed requirement of the Code and achieve long term best interests of its shareholds and
other stakeholders. But this is impossible since conflicts of interest were clearly shown when the CFO
was approved to become the sole manager and also the general partner of LMJ1, allowing him to make
millions of dollars by performing Enron-Swap Sub transactions.
The goals of Enron Corporation were deceiving in all their stakeholders. These goals could have
contributed them a sustainable growth if each of them did their duties and responsibilities and never
consider their self interest. The case of Enranos Scandal could have avoided if different principles of
Code of Corporate of Governance were maintained.
The Enron corporation and its management resorted to an unethical scheme and
malpractice of off-balance-sheet mechanism. In 19988 , Andrew Fastow became the Chief
Financial Officer that creates the SPVs, a separate legal entity that would transfer the quickly-earned
money in the form of profit by the rising stock to them and receive cash in return. It had created these
SPV’s mostly to hide these billions of dollars in debt, which resulted from failed projects and deals or
overstating their earnings. Enron disclosed the existence of special purpose vehicles to the
investors and the public, but few people understood the complexity of transactions
done using the special purpose vehicles.
However, it resorted to bad accounting practices. It was involved in the creation of
special purpose vehicles, utilized to hide the rising debt of the Enron incorporation, and
this led to the failure and downfall of the business.
In 2000, the business started to crumble. CEO Jeffrey Skilling concealed all financial
losses resulting from the trading business and broadband projects by applying the
accounting concept of mark-to-market accounting. The company kept building assets. It
reported profits that were yet to be earned. If the actual profit earned were less than the
reported earnings, the loss was never reported. Additionally, the business transferred
the asset to the off-the-books corporation. Like this, the corporation concealed their
losses.
.
3. WHAT MADE IT A SCANDAL? • During 2001, after a series of revelations involving
irregular accounting procedures bordering on fraud perpetrated throughout the 1990s
involving Enron and its accounting company Arthur Andersen, Enron suffered the largest
Chapter 11 bankruptcy in history • Some highlights of the scandal are:-
Many of
Enron’s recorded assets and profits were inflated or totally fraudulent and non-existent.
Debts and losses were put into entities formed offshore that were not included in the
company’s financial statements
art of Enron’s certified Independent Auditor Arthur
Anderson possibly arising out of conflict of interest from the consulting services engagements
from the parent companies balance sheet thus displaying a very desirable and flawlessly profitable
incurred by Enron 1st time in 4 years. Furthermore, the losses incurred were to the tune of $586
million which included rethe board of directors is to oversee corporate management with the purpose of protecting interest of
the shareholders, in 1999, Enron’s board waived conflict of interest rules to allow CFO Andrew
Like most large organizations, Enron also sponsored a pension plan for it’s employees who can
contribute to this with a portion of their pay on deferred tax basis. Almost 62% of this pension
scheme was Enron’s stock which crashed drastically from over $80 in early 2001 to a mere few
cents by the end of the same year. This questioned the laws and policies concerning such pension
Citigroup and J.P Morgan Chase also contribute to the downfall of Enron. Enron was lucrative
Investment banking business for the banks. In exchange of the potential profits from IB services, the
banks had lend money to Enron and promote it’s derivates and securities. Source: Random articles
available on Government websites and news articles
Clear goal shared by all key stakeholders
Lay and, particularly Skilling, engendered in all the staff of Enron the goal of driving up the share price to
the virtual exclusion of all else. The goal of achieving a long term satisfaction from a stable customer
base took a distant second place to signing up deals. In California, the customers were deliberately
exploited by the traders to the maximum extent their ingenuity could achieve. Even internally, the Chief
Finance Officer’s funding scheme was designed to make him rich at his employer’s expense.
Strategic management
As a McKinsey consultant specialising in strategy, Skilling had a very clear vision, at least initially, of what
he wanted Enron to achieve. However, he wasn’t interested in management per se and allowed
operational management to wither. But his vision of a huge trading enterprise wasn’t carried down to
the next level of developing and implementing practical business plans, as evidenced by his crazy launch
into broadband, a field in which he had no personal knowledge or experience and in which Enron had
almost no capability or likelihood of raising the funds required to implement the project
Organisation resourced to deliver
Skilling became COO on the departure of a very tough and experienced predecessor. Even at that point,
Enron had been expanding at a rate which outran its ability to set up appropriate and adequate
administrative systems and controls. Added to which it had always been short of funds. Skilling’s lack of
interest in operational management meant that on his appointment at COO, he made a poor situation
much worse by making bad managerial appointments. His focus on rapid growth incentivised by very
generous compensation schemes, and with inadequate spending controls, created a totally
dysfunctional organisation.
Transparency and accountability
From the early stages, Enron’s focus on earnings and share price growth and the related financial
incentives led to a necessary lack of transparency as the figures were fiddled.. One could argue that
Enron felt very much accountable to their shareholders for delivering consistent above average growth
in Enron’s market capitalisation. However, this growth was achieved by subterfuge and deception.
Certainly the dealings in California were as far from transparent as it was possible to be.
Finally, we bring a unique perspective to this Enron case study by using our proprietary survey tool, the
ACGi, to rate the company, as at June 2000, and drawing conclusions from the results.
Conclusion and rating by our Survey tool
The flaws in Enron should have been spotted from early on, and indeed were periodically commented
on by various observers from the early nineties onward. If independent ethical and corporate
governance surveys had been conducted by independent parties they would have highlighted the
growing problems. To illustrate, consider the hypothetical survey summarised in the following chart.
The scores out of ten (high is good) result from a set of questions which aim at deriving an independent,
unbiased view from the interviewees, based on observations of corporate behaviour. What we have
called the “sniff test” represents the personal view of the interviewee and would take into account their
gut feel about the corporation and its management and owners. The highlighted scores would point the
observer to clear problem areas.
=------------------------Which parts of the corporate governance system, internal and external, do you believe failed Enron
the most?The failures at Enron were so wide and deep, it is difficult to say which failed most. Clearly
Enron’s leadership – its Board and senior executives, failed to protect all stakeholders in the
company.Internally, although there were a few cases proven of malfeasance and illegal activities
and fraudulent reporting, much of the internal failure appears to have been a combination of
corporate culture failure and what many authors have characterized as “massive
incompetence.”Externally, it appears that nearly every institution which is part of the U.S.
governance system failed as a result of self-interest and greed.If pushed, it might be argued that the
massive failures and internal culture of accounting earnings and self-enrichment at all costs led to a
contagion of the external governance.Because many of Enron’s businesses such as power trading
fell between the cracks of many regulatory systems, some failures were inevitable. In other cases,
however, such as with its auditors and the debt and equity markets, the failures were in many cases
related to the self-enrichment and profits at all costs culture which permeated many of these
businesses inside and out.
Describe how you think each of the individual stakeholders and components of the corporate
governance system should have either prevented the problems at Enron or acted to resolve the
problems before they reached crisis proportions.As it turns out, much of what Enron reported as
earnings were not. Much of the debt raised by the company via a number of partnerships which was
not disclosed in corporate financial statements should have been.massive compensation packages
and bonuses earned by corporate officers were inappropriate.It appears that the executive officers of
the firm were successful in managing the Board of Directors towards their own goals. Management
had moved the company into a number of new markets in which the firm suffered substantial losses,
resulting in redoubled attempts on their part to somehow generate the earnings needed to meet Wall
Street’s unquenchable thirst for profitable growth.The Board failed in its duties to protect shareholder
interests due to lack of due diligence and most likely a faith in the officers which proved unfounded.
It is also notable that Enron’s legal advisors, some of whom report to the Board, also failed to
provide leadership on a number of instances of malfeasance.
Describe how you think each of the individual stakeholders and components of the corporate
governance system should have either prevented the problems at Enron or acted to resolve the
problems before they reached crisis proportions (continued).Enron’s auditors, Arthur Andersen,
committed serious errors in judgment regarding accounting treatment for many Enron activities
including the above partnerships. Andersen was reported to have had serious conflicts of interest,
earning roughly $5 million in auditing fees from Enron in 2001, but more than $50 million in
consulting fees in the same year.Enron’s analysts were, in a few cases, blinded by the sheer
euphoria over Enron’s latent successes in the mid to late 1990s, or working within investment banks
which were earning substantial investment banking fees related to the complex partnerships.
Although a few analysts continued to note that the company’s earnings seemed strangely large
relative to the falling cash flows reported, Enron’s management was generally successful in arguing
their point.
If all publicly-traded firms in the United States are operating within the same basic corporate
governance system as Enron, why would some people believe this was an isolated incident, and not
an example of many failures to come?This may, in the end, be the most critical question related to
Enron. Why did it happen? Was it indeed the “perfect storm,” in which the wrong combination of
leadership, business evolution, market behaviors, and the ‘times’ all combined to create a monster, or
was it something else?This is commonly the most hotly debated question in any classroom, and often
is the concluding thought for further debate. Many argue that although many of the corporate
governance and regulatory systems failed in the case of Enron, the core cause was human failure –
the failure of leadership in many organizations to do the numbers, know the law, and do the right thing.
12 What Happened at Enron?“What I can tell you straight up-front is that life hasn't been the same
ever since the collapse. Working at Enron was like dope. You couldn't get enough of it. You're
surrounded by talent, money is good, lavish expense accounts, and you're all on a race against a
snowball called MTM - aka, the accounting magic called market-to-market! Pretty exciting, huh? Well,
not if you were one of the thousands who ‘doubled or nothing’ their 401k’s on Enron... how's that for
starters? I see the corporate world and life under a whole different light now. Unfortunately, I see
Enrons everywhere. They are just not as good, and are probably still around because they are not as
greedy as Skilling, Fastow and Lay.” A former Enron employee
Scam, filled with lies, fraud political manipulation.
- Enron energy supplu company mainly dealing with natural gas
\
- companny well connected politically (1;44)
Enron- singlel biggest contributor to the George W Bush campaign
- shifting money to fake accounts to Mr. M. YASS
Worried auditors told that they dounf the 2 traders moving money to their accounts.
2 were convicted a fraud. Ken LAy bREckless gambling and theft. Employees working for 18 hrs
No transparency, dark blind system,
No moral compass
Federal responsibility issue
Loss of jobs
Cecur=ties fraud