49237901 Enron Case Study

7/30/2019 49237901 Enron Case Study

1/15

ENRON


2/15


3/15

They would then hedge on those contracts in other marketsas well

Enron rolled out its online trading of energy as a commodityand had 1800 contracts in that online market

When the competition began to heat up in energy trading,

Enron started diversification activities which proved to be adisaster

They invested money in power plants in Brazil and India andforayed into fibre optics and the broadband market

Their 1 billion investment in the Indian power plant got intodispute due to which the government stopped paying its billfor the power


4/15

Over anticipation of the market let Enron to experience losses

in the broadband segment On October 16, 2001, in the first major public sign of

trouble, Enron announces huge third-quarter loss of $618million.

On October 22, 2001, the Securities and ExchangeCommission (SEC) begins an inquiry into Enrons accountingpractices.

On December 2, 2001, Enron files for


5/15

Enrons Breach of Ethics: Energy

Trading Strategy Enron would schedule electric power transmission on a

congested line from bus A to bus B in the opposite directionto demand, thus enabling them to collect a congestion

reduction fee for seemingly relieving congestion on this line. Enron would then schedule the routing of this energy all the

way back to bus A so that no energy was actually bought orsold by Enron in net terms. It was purely a routing scheme.


6/15

Accounting Schemes started about

1993 when it teamed with (Calif. Public RetirementSystem) to create (Joint Energy DevelopmentInvestments) fund.

anotherpartner to take at least a 3% stake, Enron was not required toreport the partnerships financial condition in its ownfinancial statements.

made onspeculative assets by selling these assets to the partnerships inreturn for IOUs backed by Enron stock as collateral! (over $1billion by 2002)


7/15


8/15

Enron received $10 million in guarantee fee + fee basedon loan balance to JEDI.

Enron received a total of $25.7 mil revenues from thissource.

In first quarter of 2000, the increase in price of Enronstock held by JEDI resulted in $126 million in profits to

Enron.

In November 2001, Enron admitted to the SEC that

Chewco was not truly independent of Enron. Chewco went bankrupt shortly after this admission by

Enron.


9/15

Where Enron Faltered

The practice of mark to market accounting proved to beparticularly hazardous for Enron management because theirbonuses and performance ratings were tied to meetingearnings goals

The result was that their judgment on the fair value of theseenergy contracts was greatly biased in favour of presentrecognition of substantial value

The assumptions and variables used in this practice is not

discussed in financial statements The company also made also made minimal disclosures about

its off- the- balance-sheet liabilities that it was carrying The death star scheme


10/15

Who is to blame?

CEO Kenneth Lay

Charges: Fraud,False StatementsDied 23/7/06 with charges pending

CEO Jeffrey SkillingCharges: Conspiracy, securities fraud,

false statement, insider trading24 year prison sentence (23/10/06)


11/15

David DuncanCharges: Rogue auditor from

Arthur AndersonFired on 15/1/02

CFO Andrew FastowCharges: Conspiracy, securities fraud,

False statement, insider trading,setting up the partnerships

(6 year prison sentence on 26/9/2004)


12/15

Conclusion Demonstrated the need for significant reform in accounting

and corporate governance in the U.S.

U.S. legislative response to recent spate of accountingscandals was the compliance with comprehensive reform of

accounting procedures is now required for publicly heldcompanies


13/15

Sarbanes Oxley Act 2002 Companies must list and track performance of their material

risks and associated control procedures.

CEOs are required to vouch for the financial statements oftheir companies.

Boards of Directors must have Audit Committees whosemembers are independent of companysenior management.

Companies can no longer make loans to company directors.


14/15

Suggestions

They should not have diversified into broadband and powerplants where they invested a lot of money

They created a complex web of partnerships which shouldhave been avoided

They should have kept their accounting transparent andavoided deception


15/15

49237901 Enron Case Study

Documents