The History of Enron and WorldCom - Coursework Example

1.0 Introduction Over the years, the world has seen the birth and growth of many companies that can best be described as ‘giant companies’. These companies operate in different fields such as pharmaceuticals, telecommunication, automobile, oil exploration, sports, film, information and communication technology, fashion, tourism among others. The fact is, even though these companies are set up to make profit for their owners and shareholders, they are also beneficial to society in a lot of ways. For instance, the making of new models of automobiles day in and day continue to make travelling more and more affordable, comfortable, safe and convenient. The growth of information and communication technology companies continues to make accessibility and flow of information easier. According to UK’s Department for Education, ‘The increasing use of technology in all aspects of society makes confident, creative and productive use of ICT an essential skill for life’1. It continues to say that ‘ICT can be used to find, develop, analyse and present information, as well as to model situations and solve problems’2. But the greatest area of concern is the sustainability of these companies. Ironically, companies and corporations that people list expected their collapse file for bankruptcy and eventually collapse. Two of such giant corporations are Enron and WorldCom and the world will continue to seek to know the effective controls that were not put in place to manage risks in these the two corporations. 1.0 The History of Enron and WorldCom According to Kurdina A, (2005), ‘Enron Corporation was one of the largest global energy, services and commodities company. It sold natural gas and electricity, delivered energy and other commodities such as bandwidth internet connection, and provided risk management and financial services to the clients around the world.’3 Enron was founded in July 1985 and was based in Houston, Texas. Enron was formed by Kenneth Lay after merging two existing companies, Houston Natural Gas and InterNorth of Omaha in Nebraska. The company’s primary business, according to Kurdina A., was ‘delivering energy to brokering energy futures contracts on deregulated energy markets.’4 However in 1994, the company began selling electricity and in 1995, it announced its presence as a giant company when it penetrated the European energy market. The growth of the company in 1999 saw Enron launch a scheme of buying and selling access to high-speed Internet bandwidth and also launching a web-based trading site known as Enron Online. According to Healy et al (2003) ‘The stock of Enron increased by 56% in 1999 and a further 87% in 2000’5.Enron’s stock was priced at $83.13 by the close of December 2000 and its market capital exceeded $60 billion. In fact, for five years in a row, from 1996 to 2000, Enron was named "Americas most innovative Company" by Fortune magazine, and headed the list of Fortunes "100 best companies to Work for in America" in 2000 (Kurdina A, 2005). The figures did not continue to rise. In the year 2001, Enron’s reputation was called to question by rumours of bribery and political pressure with its objective of penetrating the South America, Central America, Philippines and African markets. The company was accused of dealing in non-transparent financial statements that did not depict the true figures of the company’s finances. According to McLean et al in their book The Smartest Guys in the Room, ‘The Enron scandal grew out of a steady accumulation of habits and values and actions that began years before and finally spiralled out of control.’6 Politically, Enron was accused of using its connections with the Clinton and Bush administrations to push for the rewards of their bids for contract. Emshwiller and Smith report that ‘The events were followed by a series of scandals involving irregular accounting methods bordering on fraud which involved Enron and Arthur Andersen accounting firm and led Enron on the verge of undergoing the largest bankruptcy in economic history in November 2001’.7 Since Enron was always considered a blue chip stock, the bankruptcy was a disastrous and unprecedented event in the global financial world. The story of WorldCom is not quite different – the company had a very good start and a wonderful growth rate but it finished poorly. The starting objective of the company in 1984 was to provide service as a long distance reseller company thus the name LDDS, which stands for Long Distance Discount Service. The company embarked on a lot of acquisitions in the 1990s and these acquisitions fuelled the company’s growth. The website, which reports mainly on WorldCom reports that ‘For 15 years it grew quickly through acquisitions and mergers. Its $40 billion merger with MCI in 1998 was the largest in history at the time.’8 The table below shows major companies that were bought or merged with WorldCom Company Year bought or merged Advanced Communications Corporation Resurgens Communication Group Metromedia Communication Corporation IDB Communications Group, Inc Williams Technology Group, Inc MFS Communication Company Digex (DIGX) 1992 1993 1993 1994 1995 1996 2001 The year 2002 however became the crisis year for the telecommunication giant that was once the second-largest long distance phone company in the U.S.9 The cause of the crisis as reported by Simon R. & Riva D. A, was because WorldCom was ‘plagued by the rapid erosion of its profits and an accounting scandal that created billions in illusory earnings’10. It was reported that WorldCom executives lied about the companys accounting numbers, blowing the companys assets up by around $12 billion dollars. The result of this was a swift bankruptcy that was followed by massive losses for investors of the company. 2.0 Potential Risks that all Companies are Likely to Face and how they may be Addressed One of the most prudent thoughts any investor or entrepreneur should have at the back of his mind is that the decision to start a company comes with a lot of risks. The word ‘risk’ sounds threatening but these company or business risks do not suggest that every business would fail at all cost. The truth rather is, when an investor or an entrepreneur is aware of these risks, he is put in a very good position to handle them when they begin merging their heads. An entrepreneur who does not learn about these risks however becomes found wanting when the risks begin showing their ugly head in his set up. This is why it is important for very business person to be aware of the risk of doing business and how to master these risks. The question then is what are some the risks every company is likely to face and will the company address them? The first of risks a company that aspires to be at the top is likely to face is undue competition from co-competitors and a desire to please clients and customers. According to Admin A (2010), ‘In any market you have a limited number of customers that businesses are competing for, so the more businesses there are the lesser your market share.’11 For this reason of lesser market shares, companies are always under pressure to win the favours of the few clients who have several businesses to choose from. Industries like telecommunication, automobile, ICT equipment manufacturers, oil marketers and airlines are examples of industries that are worse hit by the risk of market competition. Bharti, A. (2011) reports that the telecom industry ‘plays an important role in the world economy and global revenues in 2008 were USD 4 trillion, expected to grow at a steep 11% p.a.” With reports like this, the question that industry players ask then becomes, “How much of that money will come to my company.’12 Perhaps the best way to win the fight against undue competition from co-copetitors is to go by the principle, ‘do not please others to displease yourself’. Entrepreneurs must not for the harshness of the competition to win customers put in place policies that would affect the company in the long run. Most companies out of the pressure to please customers and make their companies the preferred choices over competing companies embark on customer promotions that bring the company no returns. Such promotions include ‘buy one get one free’. In the telecommunication industry, there has been promotions such as free night call, reduced call rate, double recharge and free txt messaging. The second risk that every entrepreneur should prepare to face is the risk of recruiting employees who would not deliver to the expectation of the entrepreneur. The problem with company set-up is that, it cannot be run by just one person. For this reason, executives and other workers would certainly be hired. But the risk the entrepreneur is likely to face is hiring the right person to do the right job. It is also very important to hire people who share in the dream and aspirations of the company. One group of brains behind the running of companies is the board of directors. According to Kennon J., ‘The primary responsibility of the board of directors is to protect the shareholders assets and ensure they receive a decent return on their investment.’13 This means that greater responsibility of the survival of the company rests on the board of directors. The risk therefore arises if the board of directors are not able to play their role well protect the interest of the entrepreneur and his reason for setting up the company. Even though board of directors are elected by shareholders, it is clear that once people from different background and with different sets of minds come together, they could occur the problem of ‘to whose direction do we paddle the canoe’ and this problem does not stay only with the top but goes down even to the ordinary labourer at post. To avoid the dangers of recruiting employees and other top executives who would come to promote their own agenda rather than the overall agenda of the company, entrepreneurs must enforce strict external supervision, auditing and checks on his employees. It is never enough to rely on internal auditors and supervisors only as with time, employees and executives who are keen on promoting their own agenda manage to lure into the hearts of these people. Even in the case of external auditors and supervisors, there must be constant change of these people so that the possibility of influencing them can be minimised. Above all, the entrepreneur must know that he is the only person who cannot be influenced by anybody to achieve the person’s evil motives against the growth of the company. He must therefore me firm and a law enforcer: someone who would be no respecter of persons in issuing sanctions to wrong doers. Next is the risk of external influence on the affairs of the company. This risk is largely common with so called giant and well established companies. Once a company grows to a certain level, all its affairs becomes of public interest. This is reasonable because the company runs based on the monetary contributions of individual customers, clients and shareholders. At such levels of growth, the biggest external influence the company is likely to face is political influence. Politicians gain a lot of interest and at times influence on companies because politicians have a lot of stake as to the bids that the company may win and the size of the bid. Even for the penetration of the company into newer grounds such as countries, a lot of political favours have to be rendered to make this possible. In some cases, politicians refuse the entry of certain companies into their countries because executives of the companies refused to pay bribes. But after requests of politicians have been heeded to and companies are finally established or huge bids are won, the politician rises his head again, trying to direct the affairs of the company because ‘it was through him that the company got to where it is’. Heeding to political favours may seem good to the entrepreneur but this is only a myopic thinking. As a matter of fact, political favours and influence on the growth of a company is a very dangerous risk that can best be described as recipe for collapse. The first risk of political influence on a company is a situation whereby politicians take advantage of the companies they have influence over to fulfil their political promises. Some of these political promises include the creation of employment. Even though informally, politicians can demand for a certain quota of the company’s employment rate being supplied from the top – government seat. In such a situation, the company may be faced with the risk of hiring the wrong people to fill the right vacancies. The second and perhaps the commonest risk is the fact that no politician remains in office forever. As a matter of fact, politicians come and go but companies remain forever. A company that has generally being tagged to be affiliated to one political party stands the risk of having unfair deals and treatments at the hands of opposition parties should the opposition parties now become incumbent parties. Taking about the need to have a politician as a company’s executive sponsor, Horwitz J., argues that ‘An executive sponsor is someone with the influence to mobilize and energize the people you need’14 but the most important question is what if this executive sponsor losses power? Does it mean the company will continue to change its executive sponsor? The case would even be worse if politicians from different sizes of the political coin realize that they are both being used by the company for its own market advantage. Finally, there is the risk of partnership, buying or merging with other companies. According to Reh F.J. (2010), ‘Merging two companies with their different policies, procedures, and culture will create stress for all the people involved.’15 This is a very frank assessment of merging or buying but at certain time in a company’s growth, this becomes inevitable. The entrepreneur must therefore be prepared for this risk. Major concerns that have been raised by reviewers as to what could be the dangers in merging or outright buying of another company includes the fact there may be the laying off of some employees and the fusing of new employees with old ones. There is also an occasional change of name which is characterized by the changing of all products, advertisements and new publicity strategies to get the new name down well with customers. MCI for instance was formally called LDDS and then LDDS WorldCom before coming to be WorldCom and these all changes came about as a result of company merging or outright sale of company. To avoid the negative sides of merging with a company or purchasing a new company, researchers have outline a numbers of factors to consider when going into this venture. According to Delaney, L., (2004), ‘Determine how much you can afford to invest in your international expansion efforts.’16 This is very important in order not to invest more than the strength of your existing company can take. Most often than not, entrepreneurs buy companies only to finish the deals and have no other monies left in their coffers to run the new companies formed. Todd H. (2010) also advise that ‘You should weigh in on the type of business the firm is’17. The entrepreneur must ensure that there is a direct relation between what he is doing in his present company and the company he wants to merge with or buy. If not, the entrepreneur must approach the deal as the birth of an entirely new company. On the part of Caldwell, D. S. (2008), he posses a question asking; ‘How does the company you are merging with operate? Will you be able to work together to adapt the overall operational style to make those involved satisfied while concentrating on the overall goal of increased production?’18 Then Hodge C. (2008) also asks ‘The most obvious question you have to ask is why the company is being put up for sale. Is the company not doing well financially, or is the owner of the company just not willing to have the company under his command anymore?’19 These are principles that would ensure that an entrepreneur does not get a bad deal for himself by virtue of merging with or buying a new company. 3.0 The Shortfalls of Executives of Enron and WorldCom in Managing their Company Risks through Effective Controls Both Enron and WorldCom might have had competent and learned men and women, leading it as its board of directors. But of course, good players do not always make a good team. It takes more than the assembling of good individual players to make a winning team. So even though both companies could boast of well resourced board of directors and other executives, certain managerial practices were out of place in managing the company risks of Enron and WorldCom. The question therefore becomes, which effective controls could have been put in place to manage the company risks of both companies? This discussion is going to be done in relation to the company risks discussed above to see where the board of directors fell short and how they could save their companies from collapse. Concerning the issue of undue competition, it is clear both Enron and WorldCom had an agenda of pleasing their shareholders and clients by pretending to possess stock records that suggested that their companies were the best for investors to invest in. According to Beresford et al (2003), in the report of investigation by the special investigative committee of the board of directors of WorldCom, inc., directors of WorldCom ‘used fraudulent accounting methods to mask its declining earnings by painting a false picture of financial growth and profitability to prop up the price of WorldCom’s stock’20. Enron also did the same thing as according to Healy et al (2003), ‘unethical practices required that the company use accounting limitations to misrepresent earnings and modify the balance sheet to portray a favorable depiction of its performance’21 It is true therefore to say the board of directors of both Enron and WorldCom did not have control over the risk of undue competition for customers and shareholders. As said earlier, it is the wish of every company to become the preferred choice for investors, clients and other customers but this is done in the midst of competition and by playing according to the rules of the game. It was in this quest that management of both companies failed. They actually wanted to get to the top without climbing the stairs. To the best of their knowledge, ‘giving the people good figures would make them trade with us’ but they were wrong. Being service providers providing electricity and telecommunication respectively, Enron and WorldCom could have won the hearts of customers and clients by providing the best of uninterrupted service to them. It is common knowledge today that cheap prices do not sell products and services faster but then good service. The two companies also had a serious problem with the kind of people who managed their affairs. Practices of the executives of both Enron and WorldCom proved that they were the wrong people at the wrong places. As a matter of fact, these people possessed motives that did not match the overall agenda of the companies. In the case of Enron there was reports of negligence on the part of Kenneth Lay who served as chairman of the company when he approved of the actions of Jeffrey Skilling and Andrew Fastow without asking for details. McLean et al (2004) report that ‘Skilling, constantly focused on meeting Wall Street expectations, pushed for the use of mark-to-market accounting and pressured Enron executives to find new ways to hide its debt.’22 (p.132-133).With regards to WorldCom, Healy et al (2003) report that ‘During 2001, Ebbers (CEO) persuaded WorldCom’s board of directors to provide him corporate loans and guarantees in excess of $400 million to cover his margin calls’23. The reports above talk of the wrong people directing the affairs of company that was owned by shares of several millions of people. Whiles the chairman of Enron looked on at a wrong without questioning, the CEO of WorldCom could persuade his entire board of directors into championing his selfish agenda. The control that the chairman of Enron and the Board of Directors of WorldCom should have possessed was the power to ask questions. Indeed if these two groups of people had played their roles well, their companies might have been functioning by now. Again, if there were the introduction of external auditors and supervisors at the early stages of the companies operations, some of these lapses would hardly have gone by unnoticed. Next is the risk of external influence that was left to grow into the two companies. Kurdina, A. Reports that ‘The Enron was blamed to use its connections with Clinton and Bush administrations to express pressure in their contracts’24 whiles Sidak, J. G. (2003) also questions Congress’s stands in the WorldCom scandal by asking ‘why should Congress delegate the making of transparently political decisions concerning telecommunications to a body whose comparative advantage is not supposed to be politics?’25 As a matter of fact, as soon issues of a company takes a political twist, society losses credibility in the company. The issue also is denied of fair assessment by the public as people pass their comments based on their political affiliations. It was therefore very important for the managers and executives of Enron and WorldCom to have managed their companies without allowing any political influence, pleasures or favours. Finally, the issues of merging companies and buying of new companies could have been handled in more thoughtful manner by directors of Enron and WorldCom. Wikipedia, the free encyclopedia reports that, ‘On November 10, 1997, WorldCom and MCI Communications announced their US$37 billion merger to form MCI WorldCom, making it the largest merger in US history.’26 This merger may seem good on the outside but once such huge mergers go on between companies, the issue of conflict of interest sets in. Of course, managers from the two parent companies fight in-house to ensure that they make bigger profits than the other partners and this is an issue that can lead to the collapse of businesses. In the case of Enron, when the company decided to merge with CalPERS, Healy et al (2003) reports that “Enron did not want to show any debt from taking over CalPERS stake in JEDI on its balance sheet.” To achieve this, Healy et al (2003) continues that the ‘Chief Financial Officer (CFO) Fastow developed the special purpose entity Chewco Investments L.P. which raised debt guaranteed by Enron and was used to acquire CalPERs joint venture stake for $383 million’27. As a matter of fact, Enron continued to fight this and other debts till the company was eventually pronounced bankrupt. Lack of foresight to control merging processes therefore were partly to blame as the board of director’s inefficiencies that led to the collapse of both Enron and WorldCom. 4.0 Conclusion The role of corporate governance comes to bare in the management of Enron and WorldCom. From all indications, simple company laws were either overlooked or misapplied, causing the collapse of these two companies which otherwise were giant companies in the United States of America. By all means, the collapse of Enron and WorldCom and other huge companies come with a lot of setbacks for shareholders and other clients. When companies collapse, a lot of people loss their job, thereby increasing the unemployment rate. It should therefore be the fervent task of entrepreneurs, corporate executives, board of directors and all other people who are concerned with the management and administration of companies to continue to exercise upmost control over the day-to-day running of their companies. All forms of egotistical interests should be eschewed and companies must not fear to let the world know what their true state is. It is important for companies to attract customers and shareholders but this must not be done in a way that would rather kill the existence of the company. Writer ID: 72030 Name: Isaac Koduah scholyking@yahoo.com REFERENCE LIST Admin, A., What are some of the negative effects of competition on a business organization?, Business-Organization, 2010, retrieved 19 January 2011, Beresford et al, Report of Investigation by The Special Investigative Committee of the Board of Directors of Worldcom, Inc., Archives, 2003, retrieved 18 January 2011, Bharti A, Rapidly developing China’s telecommunications industry in the reform process Telecom Industry Report. 2011, retrieved 18 January 2011, Caldwell, D. S., Important Factors Concerning Merging, ezinearticles, 2010, retrieved 17 January 2011 Delaney, L., 20 Factors to Consider before Going Global, Grow Your Business, 2004, retrieved 18 January 2011 Healy et al, The Fall of Enron (PDF). Journal of Economic Perspectives, 2003, 17 (2): 9. Retrieved 17 January 2011, Archived from the original on 2010-10-17. Hodge C. Factors to consider before acquiring a new company, Helium 2008, retrived 17 Janaury 2011 Horwitz J., Do You Have an Executive Sponsor With Political Influence and Budget Authority? Customer Think, 2010, retrieved 18 January 2011 Kennon J., The Board of Directors; Responsibility, Role, and Structure, Beginners Invest, 2010, retrieved Kurdina A, The Collapse of Enron: Managerial Aspects, ezinearticles, 2005, retrieved 18 January 2011, Mclean et al, 2004. The Smartest Guys In The Room: The Amazing Rise And Scandalous Fall Of Enron, Portfolio Publishers, 2004 Reh F. J., Managing Mergers Successfully, Management, 2010, retrieved 18 January 2011, Scharff, M M, WorldCom: A Failure of Moral and Ethical Values, All Business 2005, retrieved 19 January, 2011 http://www.allbusiness.com/legal/trial-procedure-fines-penalties/13477699-1.html Simon R. & Riva D. A, WorldCom’s Collapse: The Overview; WorldCom Files For Bankruptcy; Largest U.S. Case, Query NY Times, 2002, retrieved 18 January 201, Smith R, & Emshwiller J R., 24 Days. HarperCollins Publishers, London, 2003. The Framework for secondary ICT: Introduction, UK’s Department for Education, 2010 retrieved 17 January 2011, Todd H., Factors to consider before acquiring a new company, Helium, 2010, retrieved 17 January 2011 Read More