Enron scandal

Enron scandal:

The “Enron Scandal” appeared in 2001 and as a result of this scandal the Enron company the world largest innovator, technology powerhouse became bankrupt not only this the audit firm “Arthur Andersen” of this company also dissolved.

Introduction:

Enron Corporation was public company listed on New York Stock Exchange is an American energy, commodities, and services company that were based in Houston Texas. It employed more than 20,000 employees and it was one of the world’s major electricity, natural gas, communication and pulp and paper companies. In 2000 its revenues was nearly $101 billion and it was in the fortune 500.

 In 2001, it was reported that the financial condition of the Enron Company sustained. But actually it was not sustainable and stable financial condition and it became famous scandal as Enron Scandal.

Enron has since became the well know example of fraud in corporate level.  The Sarbanes-Oxley Act is created as a result of this scandal to protect the shareholders.

The other effect of this fraud is the result of dissolution of the audit firm of the company. The name of audit firm is Arthur Andersen LLP is one of the Big Five firm in the world.

The main Causes of Enron’s bankruptcy:

Following are the main causes of Enron’s bankruptcy.

1.     Lack of Truthfulness

The main reason is lack of truthfulness by management about the health of the company according to an executive director for Applied Ethics. There is no evidence that when Enron’s CEO told the employees that the stock would probably rise that he also disclosed that he was selling stock.

 Moreover, the employees would not have learned of the stock sale within days or weeks, as is ordinarily the case. Only the investigation surrounding Enron’s bankruptcy enabled shareholders to learn of the CEO stock sell-off before February 14, 2002 which is when the sell-off would otherwise have been disclosed.

2.     Conflict of Interest

The conflicts of interest and a lack of independent oversight of management by Enron's board contributed to the firm's collapse. Some suggested that Enron’s compensation policies focus on the growth and price of the shares. The conflict of interest rose between the two roles played by Arthur Andersen, as auditor but also as consultant to Enron.  While investigations continue, Enron Company has sought to salvage its business by spinning off various assets.

3.     Reputation of Arthur Andersen and Enron Company

The irregularities started in accounting in the company in the third quarter of 2001 that focused the media to attention on Andersen the auditor of the company. The magnitude of the alleged accounting errors, combined with Andersen's role as Enron's auditor and the widespread media attention, provide a seemingly powerful setting to explore the impact of auditor reputation on client market prices around an audit failure.

 CP investigates the share price reaction of Andersen's clients to various information events that could lead investors to revise their beliefs regarding Andersen's reputation

4.     Accounting fraud - Mark to market

Mark to Market method requires that once a long-term contract was signed, the amount of which the asset theoretically will sell on the future market is reported on the current financial statement. In order to keep appeasing the investors to create a consistent profiting situation in the company, Enron traders were pressured to forecast high future cash flows and low discount rate on the long-term contract with Enron.

The difference between the calculated net present value and the originally paid value was regarded as the profit of Enron. In fact, the net present value reported by Enron might not happen during the future years of the long-term contract.

5.     Accounting fraud - Special Purpose Entity

Accounting rule allow a company to exclude a SPE from its own financial statements if an independent party has control of the SPE, and if this independent party owns at least 3 percent of the SPE.

This Way Enron found the way to hide its debts levels with lower investment. What Enron did, it transferred its debts to SPE with lower investment and that debts did not reflected in the financials of Enron books. And in this way it shows the profits and cash flows positive but actually the situation was reverse.

6.     The Enron Culture

In Enron, bonuses and incentives in form of cash or stock options came in bundles, only if you were good enough and if you were considered one of the moneymakers. This mentality made Enron a very competitive work place. Everyone was in a hurry to close deals (good or bad) because right after a closed deal, they got their bonuses regardless of the result of the deal. This became a problem since there were a lot of projects being made but no follow-ups No one wanted to be responsible of a done deal, they just wanted to close it and get their bonus.

Performance review committee was also a factor why employees in Enron were so aggressive. It created a culture within Enron that replaced cooperation with competition. The committee gave ratings from 1 to 5, 1 being the highest and in Enron, the 1 mark meant that you will get a good sum of bonus. If you were in the lowest 5 to 6 percent of this rankings, that meant that you are not good enough to stay in Enron and you had to pack your things because you will lose your job anytime soon.

7.     Key players

Enron was housed by bright and talented employees and everyone thinks they are so smart or smarter than the others that they think they could always get away with 'crime'.

Jeffrey Skilling was the one responsible in implementing mark-to-market accounting in the company. Company launched the Enron Online that was an internet based service, where contracts on energy commodities could be traded with Enron.

Who Responsible for collapse of ENRON?

Basically it Chairman, CEO and CFO are the responsible for the collapse of Enron. The acts of a corporation's managers are attributed to the corporation so long as the manager’s act within their authority However, the shareholders of Enron didn't know and realize this matter from the superficial high stock price. Therefore, the whole corporation was not of responsibility for this scandal. Actually, if the board and other shareholders paid more attention to those decisions made by the chief, CEO, CFO and those relevant staffs, ENRON can avoid this result

Aftermath of Enron’s bankruptcy

The bankruptcy affected at least 20,000 employees. The shareholder lost $74 billion in the fourth year when the before the declaration of bankruptcy. 20,000 former employees won a suit against Enron in May 2004 worth $85 million.

 A lot of people lost their steady income, their security to feed their families and many people's futures were shattered due to the loss of pension.

Sarbanes Oxley Act is a US federal law that came after the Enron scandal. The act contains a set of standards that regulate public company boards, management and public accounting firms. Some of the main regulations are that all companies must have a majority of independent directors, nominating and compensation committee has to have independent directors also the audit committee should consist of members that are financially educated and one of the members have to been an expert.

Conclusions:

To concluded that the executives and the traders were equally responsible for collapse of Enron. The main things that lead this to the dead end are the employees that are partially paid in stock which motivated workers to do the unethical in order to raise the prices of the shares /stocks.

Enron culture was very much influenced by the competition because the employees were motivated by with bounces and afraid to getting laid off.

Mark-to-market accounting mixed with the use of SPEs made Enron look financially healthy but actually the case was reverse. Misleading information given to the investors due to the wrong accounting practices.

So there are several factors that cause the downfall of the Enron Company. The main factors are Mark-to-Market, SPEs, and competitions in employees regarding the bonuses. It is not the story about complex accounting but also the people who made it possible. People made decision that not only affecting them but also affecting the other more than 20000 employees at Enron but also Country like America also.