Enron and the Dark Side of Shareholder Value - Literature review Example

Rise and fall of Enron Introduction Besides having been marked by the terrorist attacks of September 11, 2001 was also the year that broke one of the largest corporate scandals, the accounting fraud at Enron. This fraud was considered one of the largest of the season by many innovative and admirable. The case had a number of consequences beyond the bankruptcy of Enron, namely, the dissolution of one of the largest accounting firms in season (Arthur Andersen) and the creation of the Sarbanes-Oxley Act. Enron was an energy company that had the marketing of electricity and natural gas as its main activities. Its’ revenues in 2000 were (supposedly) of $ 100 billion and the market value of the company exceeded $ 60 billion, which meant 70 times earnings and six times book value (Thomas, pp.41). The company benefited from the deregulation of the energy market, facilitated by the company's own lobby in donations to political campaigns, but without the use of accounting gimmicks and management practices suspicions never had reached this level. Enron collapsed taking along with itself pension funds of its employees and other investors in the same category, a shortfall of at least $ 1.5 billion and dragging a debt of more than $ 13 billion. For years, the company's directors maligned balance sheets, wiped the losses and inflated profits. The magic book worked until the end of 2001. Enron is the product of stunning deregulation of the energy sector. It was a success and everyone wanted to invest in its actions as it was an excellent company with a higher rate of return, their investment valued up every month, even in times of crisis. The stock prices fell from a record high of $90 in 2000 to $0.60 at the end of 2001, after the scandal was revealed (Bratton, pp.1275). Trade operations of the company were based on complex financial transactions, most referring to businesses that would occur several years later, a practice that inflated their profits. Operators placed the value of the company's shares way high, suggesting that before these future actions would even appreciate, without having to justify the markdown price, was the mark-to-market. Mark-to-market means considering a company’s assets so highly valued that it is possible to liquidate them at any time by the current market price. The actions came to be worth about $ 85, behind the scenes; however, the company could only lose on failed projects internet and plants that never operated in India (Thomas, pp.50).  There is evidence that senior company executives were also involved in the fraud, as well as major banks.  The Securities and Exchange Commission initiated an investigation. Enron was forced to redo their balance sheets for the last five years and admit that its profit in the period was $ 600 million lower than originally reported (Thomas, pp.44).  Auditors Fabricating the Facts The company’s auditor was Arthur Andersen, one of the key executives of the company, which contributed to concealing the scam, while, manipulating the revenue recognition principles. Since being involved with the collapse of Enron, Andersen lost many prestigious clients. The company's employees took damage by losing their jobs; their savings in most cases were invested in Enron stock (Thomas, pp.46). The tragic end of Enron shook the confidence of the American financial system. According to the lawsuit filed by former shareholders, Enron hid the injury and decreasing profits with the connivance of accounting firm, Arthur Andersen auditor (Healy & Palepu, pp.12). Former Enron auditor approved fraudulent accounting practices and illegal schemes adopted to hide losses and then destroyed the evidence of the crime.  Involvement of White House  Enron was regarded as an innovator, admired (elected between 1996 and 2001 as one of the most admired companies according to Fortune magazine) and dynamic, and Kenneth Lay was a celebrity worlds of business (something that is not seen much in the post crisis, but was common in the days of dot com bubble), in addition to having high-level political connections (which includes the former U.S. president George W Bush). As with other scammers, Lay, the principal involved in the fraud, was charismatic and did everything to be well regarded by others, which helped to keep the scheme running. Also the example of others, when confronted or questioned, was arrogant and aggressive in their responses.  The Enron scandal knocks at the door of the White House (Healy & Palepu, pp.14).  The closeness of President George W. Bush and his family with Kenneth Lay, the founder and former president of Enron, and the bonds of several members of the first echelon of the current administration with the feed company Texan, was being speculated regarding the political impact that the scandalous bankruptcy company may have for the popular Bush. Speculation increased after the White House ordered a review of all contracts in force between the U.S. federal agency, on the one hand, and the Enron and its former auditor, Arthur Andersen on the other. The two companies had about $ 70 million in contracts with different departments of the U.S. government (Healy & Palepu, pp.18).  Judicial Inquiry and Penalties The gains of those involved in the fraud came from aggressive compensation packages that grew with high shares driven by false profits, all under consent of the board (chaired by Kenneth Lay, the company's founder and one of the fraudsters), who failed to monitor the direction of the company. Not content with these ill-gotten gains, they achieved additional profits operating the company's stock based on inside information. Everything was possible thanks to the collaboration with the audit firm, Arthur Andersen, which assisted the agents in internal fraud and then tried to cover their tracks by destroying incriminating documents. Because of the scandal, the firm ceased to exist, just as Enron. Considering the devastating impact the fraud had on the lives of thousands of employees and investors of the company, the judgments are being lenient with some of the principals involved. On 17 November this year, the U.S. judicial authorities sentenced two former company executives to prison. In a court in Houston, Texas, Michael Kopper, chief advisor of former Enron CFO Andrew Fastow, responsible for "makeup" accounting profits that invented nonexistent was sentenced for over three years for imprisonment. According to the prosecution's argument, from May 1997 to September 2001, Kooper took advantage of these makeup tricks to divert millions of dollars to his private account to the accounts of Fastow and other former senior executives of Enron, with full awareness that would undermine strongly the financial health of the company and its shareholders (Healy & Palepu, pp.23-26). The others sentenced included Mark Koenig, former head of investor services at Enron, for up to 18 months in prison for having contributed to the preparation of false financial reports with the permission of his superiors, in order to hide the true financial the corporation. The two former Enron executives were given sentences lower than expected due to not cooperation with prosecutors. Kopper returned about $ 12 million diverted illegally. Former company accountant, Richard Causey, was sentenced to five years in prison for having approved the false accounting that led the company into bankruptcy in 2001. Causey took the blame for the fraud in December 2005, weeks before going to trial along with Enron’s founder Ken Lay and chief executive Jeff Skilling, both found guilty in May. Lay escaped imprisonment since he died of a heart attack on July 5. He and Jeff Skilling were the central characters of the film by Alex Gibney based on the fraud. Skilling ended up suffering a harsher penalty and was sentenced to 24 years and three months in prison for his role in the fraud. The evidence showed that the former executive repeatedly and systematically lied to investors and employees. He was the last senior executive of the company to be convicted of the accounting scandal that turned into dust over $ 60 billion in company stock and more than $ 2 billion that made ​​the pension funds of employees (Healy & Palepu, pp.23-26). Post Scandal Reforms As a result of the scandal, the Sarbanes-Oxley Act came into existence, which sought to increase the transparency and quality of financial statements of public companies with shares traded in the United States (including ADRs from Brazilian companies).Another consequence was the destruction of the savings of the employees of the company, which applied much of the savings in company stock and lost almost everything in the bankruptcy of Enron (Coffee, pp269).  Conclusion We cannot say what the real causes of this tragic outcome of "Enron" were, but certainly, the market economy has had marked influence on the practice of fraud and accounting maneuvers that culminated in the bankruptcy of the company and the loss of thousands of investors, creditors and employees. Moreover, all actions committed by the officers of "Enron" confirm the fragility of its accounting and auditing as they were not able to curb abuses and prevent fraud affecting the market. Another serious conclusion which we reached was the need to have transparent practice among administrators of corporations, their investors and employees so that the true financial position of a company can be reflected. References Bratton, William W. "Enron and the dark side of shareholder value." Tul. L. Rev.76 (2001): 1275. Coffee Jr, John C. "What Caused Enron-A Capsule Social and Economic History of the 1990s." Cornell L. Rev. 89 (2003): 269. Healy, Paul M., and Krishna G. Palepu. "The fall of Enron." The Journal of Economic Perspectives 17.2 (2003): 3-26. Thomas, C. William. "The Rise and Fall of Enron." Journal of Accountancy-New York- 193.4 (2002): 41-52. Read More