Enron Company Failure Analysis - Assignment Example

Governance and Fraud Name: Course: Tutor: Institution: Date: Part 1: Enron Company Failure Analysis Question 1: Corporate culture at Enron. Normative theory of ethics in decision making process In the evaluation of Enron Company fraud and eventual failure in 2001, it is vital to establish the underlying causes of the failure. In this context, this analysis explores two of the main perceived causes of that failure, namely the existing corporate culture, as well as the applied normative theory in decision making. First, it is important to understand the key description and definition of an organizational corporate culture. As Schein (2010, p.27) described it, an organizational corporate culture is the manner and belief through which an organization executes its functions and operations in the market. In this context, an existing culture has direct control in the adopted practices as well as in the overall behavior and ethical approach by an entity. An evaluation of the Enron Company operations indicates that there was a culture of self interest among both the employees and the executive workforce. In this regard, theoretically, the venture applied a culture of safeguarding self interest for the management and employees at the expense of the others in the society as well as the shareholders’ interests respectively. The self interest culture can be illustrated through a number of operations’ and activities by the company. For instance, the venture executive management sought to increase the perceived market profitability in its financial statements. The existing reward and remuneration system for the executive management was hedged on the organizational performance levels as well as the overall profitability levels in the market. Thus, the higher the overall venture profitability, the higher the rewards for the executive management. In normal operational cultures, the managers would be geared towards increasing operational and systems efficiency, as a means of developing effective market operations and increased profitability in the long run period. Instead, the executive management was involved in a self interest culture to manipulate the overall organizational financial statements and records for their own gains and benefits respectively. This was basically achieved through main approaches on special entities accounting, where liabilities and debts for the corporation were leveraged as different special entities (Mackey and Levan, 2013, p.341). This had the overall effect of raising the overall credit rating and financial health for the corporation, a move that increased the perceived efficiency in market performances, as well as the overall profitability levels recorded on the organizational key records. A second self interest manifestation culture was illustrated through the use if mark to market accounting system use. This system, not only complicated the financial accounts developed, but also allowed for the use of future speculated, often overrated profits, to the venture through future expected projects to be included as current financial gains and profits. A combination of the above faulty systems adoption, increased the perceived venture success and effectiveness’, allowing the management more earning as the stock prices and value for the company increased. An additional illustration for the existence of a self interest corporate culture was in the lack of proper internal control systems. In this context, the venture board of management was mainly comprised of executive managers and there were minimal if any internal control and auditing systems. This propelled the development and rapid growth of a culture of self interest where the employees could engage in illegal and unethical activities for their own remunerations and gains, at the expense of the overall corporations’ earnings and profitability in the long run period. It is this self deserving and interest culture that led to the eventual decline and fall of the corporation in 2001, as it was no longer able to hide the greed and self inward looking culture form the public anymore. Under normative decision making theories, there are three main categories, namely the consequential non-consequential, and agent centered theories respectively. An overall evaluation of the Enron Company approach to decision making is closely linked to the consequential normative theory. In this case, a focus and concern for the overall outcomes was the main and key driving force for all the developed decisions. In this case, the ethicality and appropriateness of a decision was second and tertially to the focus in the decision making process. As such, the process of Enron decision making could be summarized as an end justifies the means. Hence, although the means of achieving the desired results could have negative implications, the self interest gains acquired at the end justifies such means. In particular, this analysis asserts that the company applied the Egoism consequential normative theory. Under this theory, Kirkpatrick (2009, p.64) noted that individuals’ are motivated and geared towards the formulation of key decisions that promote their self interests. A recap of the already described decisions and a corporate culture in the organization could be an evidence and illustration enough. For instance, at the expense of misrepresenting the venture gains and as such risking operational and liquidity crisis in the future, the executive management overprices the profits to ensure that they acquired a higher financial reward over the years. Thus, although the process of attaining such high profits ratings and records in the market harmed a large proportion of the stakeholders including the shareholders and employee, the executive management would rationalize this as a means justified by the end result of their increased earnings, and rising organizational share price in the New York Stock exchange on a continuous basis. In summary an exploration of the organizational self interest culture, supported by the self interest based decision making process, the egoism theory, were the key contributing ad motivating factors that hailed and propelled Enron Company to its ultimate failure in the market. As such, the deliberate failure by the managers to apply the law of agency in business, to make decisions not on their own behalf, but on behalf of all stakeholders, both internal and external, was the main source of all the challenges. Thus, this evaluation of Enron Company concludes that one strategic measure through which organizational managements could reduce the risk of venture failure and frauds occurrences would be through the adoption and respect of the law of agency principles when formulating key organizational decisions. Question 2: JESS Skilling stages on moral reasoning on Kohlberg theory In ethical decision making theory analysis, a number of theories guide the decision making process, however, only a few are applied to gauge the ethical level of a decision maker based on their applied approach and reasoning in the decision making process. One such approach is the Kohlberg theory or moral reasoning. The theory holds that through the manner that a decision maker formulates a majority of their decisions, it is possible to establish their level and ranking on moral reasoning and regard (Walker, 1984, p.679). In its fundamental theoretical nature, the theory argues that there are three main level of moral reasoning, namely the pre-conventional, conventional and the post conventional stages respectively. Each of the three identified levels in the moral reasoning process has each tow levels. This makes the entire reasoning model a six stage ranks process. A cross examination of Skilling actions indicates that he applied the pre-conventional self interact level; in a majority of the decision making process. On one hand, there was need to ensure that the developed financial reports were by and large within the legal framework and complexities. As such, the developed financial statements, although inaccurate were presented in a legal manner and disclosed as required by law. However, there was need to align the overall financial statements outcomes with his personal needs and gains. Personally, he would benefit if the financial statements were viewed as accurate, legal, and representing a high financial performance rating and success for the corporation. A key example decision is the use of mark to market and special purpose entities approaches in the development of the organizational financial statement. In order to ensure that the SPE were managed as independent entities, he made the decision to pay the CFO as a means of managing such SPE. The decision to pay up for the SPE was not derived from the overall need to cater and actualize the shareholders value in the long run period. Instead, the decision was motivated by the potential self interest gains such a management structure would yield to his advantage. For instance, through managing SPEs as special entities, the risk of including their expenses and liabilities in the overall Enron financial balance sheets was reduced. This, this ensured that although Enron was crippling in debts, its overall financial records reflected a healthy financial outlook and status. Thus, this allowed for profitability and increased credit rating for the corporation. A combination of all the above elements served Skilling’s self interests through allowing loopholes for looting the company assets and finances, as well as increasing his proportion of profitability gained earnings on an annual basis as advanced by the Enron Company policies. The above analysis indicates that self interest level of moral reasoning is detrimental to the overall business wellbeing in the global market. The fact that it ignores the long run well being of the key market stakeholders leads to a biased decision making process, a process that lead to eventual dissatisfaction and injustice for most of the organizational stakeholders such as the employees and shareholders respectively. Part 2: Fraud case studies Case 1: Asset Misappropriation Fraud at Orion Asset Management Corporation in Australia Fraud Context The first examples case study form the Australian market is on assets misappropriation. The theoretical analysis as Coram, Ferguson and Moroney (2008, p.546) argued perceives assets misappropriation as the process through which an organizational assets, including cash assets are misappropriated by either the employees or the management respectively. In this case, it is imperative to understand that assets are not just limited to cash and financial assets, but also to information and core vital sources whose diversion to a third party and public is not allowed. The case of Orion Asset Management Corporation executive manager diversion of key confidential information is such an example of asset misappropriation in the market. Harman, the Corporation CEO advanced private and confidential information to Curtis an investment banker on the times and cost at which to buy and sell contracts for different financial instruments. Through the insider information diversion, the process enabled Curtis illegally makes huge profits in the periods between May 2007 and June 2008. Once the profits were earned, the two shared the profits. The case is an illustration of how the misappropriation of key assets in an organization could be used to propel financial frauds in the market. The fraud and the misappropriation of the Orion Asset Management corporation information assets was discovered and un earthed through an anonymous compliant that was later on investigated and prosecuted by the State. The Orion Asset management could control the misappropriation of assets by the employees, especially on financial assets and information for financial gains through conducting employee lifestyle audits. In this context, such a lifestyle audit would include evaluation employee earnings against their overall living standards to establish of the two matches. In the event that the employee has a higher level of living that their earnings and additional investments could justify, a red flag could be raised respectively (Hoer, 2016). For instance, in the case of Harman, his earnings could not explain how he gained and acquired Ducatti $20,000 motor cycle and $60,000 Mini Copper within a year. The use of these tools would have been a major red flag for the corporation. Theoretical Analysis Using the fraud triangle, an evaluation of the pressure and motivation to commit the fraud for Harman was a low wage and reward system at Orion Asset Management Corporation. This meant that the earning levels would barely support his desired lifestyle. Moreover, the opportunity of having a neighbor and child hood friend who was an investment banker, as well as the lack of critical internal employee audit systems combined to provide a viable asset misappropriation fraud opportunity. Finally, the fact that the process was perceived as legal, and did not involve his direct defrauding for the corporation made his justification basis. The fraud led to his contract of employment termination and eventual audit and jail term for Harman. Although it had minimal impact on the corporation, it led to the introduction of new employee lifestyle audit systems, as well as encouraging the Australian authorities to reconsider corporate auditing systems re-inspections. This has been mainly fueled by the technical challenges faced by the prosecution against Curtis, the investment banker in question. Case 2: Financial Statements Fraud by Xerox Company Context An example of financial statements fraud could be illustrated through case study of the Xerox Company, a multinational copier corporation in the USA and European markets respectively. According to the legal documents presented on the case for the company, it is estimated that between the years 1997 and 2000, the company used a variety of accounting actions to manipulate its financial statements. At this period the venture was experiencing declining profitability and performance levels. However, the executive management aimed at ensuring that the venture met and exceeded the Wall Street investments expectations. Through meeting such expectations, it not only allowed for increased investment attractiveness, but also increased its overall share value and price in the market. The Fraud was uncovered through an internal whistle blowing process, where the key documents and sensitive information was leaked on how the venture controlled and manipulated its accounts over the period. Consequently, the venture was sued for the violation of financial rules and policies, and consequently charged a fine of $10 Million for the offence (Dickie, 2006, p.27). A critical evaluation of the financial statements fraud indicates that the main challenge was through the lack of proper corporate governance as well as efficient internal audit control systems. First, the executive management agreed to bend the law and manipulate the financial statements due to proper corporate governance structures. Thus, an internal audit system for the corporation would be beneficial if its focus would be extended to include an evaluation of existing leadership challenges and loopholes, and how accountability and effectiveness in leadership would be improved. Moreover, an independent internal audit system for the corporation would ensure that the fraud was detected and pointed out to the shareholders well in advance before the end of the first year of manipulation. Analysis An evaluation of the crisis through the fraud triangle illustrates that the motivation and pressure by the executive management to manipulate the organizational financial statements emanated from the shareholders performance pressure. In this case, the shareholders had resolved that the venture should meet the Wall Street expectations and standards to ensure increased share price. Thus, there was the risk of job loss for the executive management in the event that the shareholders set goals were unachieved. Secondly, in terms of opportunity, the key opportunity was the lack of well established corporate governance structures and internal auditing systems. In the event that the above structures were present, the management would have found it extremely difficult to manipulate organizational accounts for four consecutive years without notice or being detected. The systems would have caught up with them sooner or later. Finally, the justification was that the executive management did not serve their own interests but the shareholders interests, and thus arguing that the actions were within the law of agency principles (Miller and Jentz, 2008, p.516). Although the corporation share prices declined temporality upon the fraud detection, the promise and enactment of rapid reforms allowed for its business continuity. Moreover, the key executive management was investigated and each prosecuted for their role in the fraud. This ensured justice to all in the fraud aftermath. Case 3: Corruption Fraud by GlaxoSmithKline Company in China Case Study Context The third case study is on corruption as a major fraud in the global enterprises. In this case, this case study is developed on the GlaxoSmithKline Company China, subsidiary of the International pharmaceutical corporation in the global market. The organization in the period between 2012 and 2014 was accused of paying bribes in corruption deals to non-government personnel and officials in the market. The mentioned corruption and bribery deals were attributed to acquisitioning a large market base. Some of the bribery claims included bribes advanced to healthcare professionals and hospitals to ensure that their products were administered as a main prescription for the patients. Through such a trade deal, the venture acquired a high proportion of hospital prescriptions in China. This played a role in promoting its perceived earnings and market share growth in China (BBC News, 2014). The Fraud was uncovered in the resulting Chinese government bribery and corruption campaign in 2014, mainly focusing on multinational corporations in the market. This led to investigations and persecution of the company, where a fine of over $500 Million was imposed on the company for the offences accrued over the period. The above case study illustrates failures in both internal and external auditing systems. On one hand, the internal auditors would have effectively controlled this vice through controlling and monitoring the flow of financial resources in the venture. Thus, any funds allocated to non documented expenses would be easily detected and uncovered. Similarly, the organizational external auditors would have played a key role in evaluating and establishing any non disclosed and unaccounted for expense by the corporation. In most incidences, bribes are not recorded in the financial statements, and thus a cash trail by the external auditors would establish such funds destinations and intention of use. Analysis A fraud triangle analysis of the fraud indicates that the key pressure and motivation for the fraud was the rising pharmaceutical industry competition in China. As such, the need to ensure that the pharmaceutical industry venture earns increased profits in the market led to a pressure to use bribes to influence the prescriptions process in the market. Secondly, the opportunity to explore on this corruption and fraud cases in the market is the exiting Chinese market culture. In its business culture, the market follows the use of Guanxi principles. This implies that friendship and offering of gifts is acceptable among business partners. Consequently, this allowed the opportunity through which the pharmaceutical company managers would advance bribes to the health professionals under the guise of offering gifts in the market. Finally, an exploration of the fraud justification is hedged on the commonality of bribes in the market. In this case, pre to the corruption campaign period, the market was saturated with corruption in the market (Luo, 2008, p.189). As such, most of the organizations offered the bribes and categorized them as a cost of doing business in the market. Thus, this was offered as a justification by most corporations that corruption is a key cost of doing business and a general practice in the market. References BBC News, 2014, GlaxoSmithKline fined $490m by China for bribery. [Online] Available at: [Accessed: 12th May 2016] Coram, P., Ferguson, C., & Moroney, R. 2008, ‘Internal audit, alternative internal audit structures and the level of misappropriation of assets fraud’, Accounting & Finance, vol. 48, no. 4, pp. 543-559. Dickie, R. B. 2006, Financial statement analysis and business valuation for the practical lawyer, ABA Section of Business Law, American Bar Association, Chicago. Hoer, J., (2016) Sydney investment banker Oliver Curtis faces court on insider trading charges, Sydney News. [Online] Available at: [Accessed: 12th May 2016] Kirkpatrick, G. 2009, ‘The corporate governance lessons from the financial crisis’, OECD Journal: Financial Market Trends, vol. 2009, no. 1, pp. 61-87. Luo, Y. 2008, ‘The changing Chinese culture and business behavior: The perspective of intertwinement between guanxi and corruption’, International Business Review, vol. 7, no. 2, pp. 188-193. Mackey, D. A., & Levan, K. 2013, Crime prevention. Burlington, Mass: Jones & Bartlett Learning. Miller, R. L. R., & Jentz, G. A. 2008, Business law today: The essentials : text & summarized cases--e-commerce, legal, ethical, and international environment, Thomson/South-Western West, Australia Schein, E. H. 2010, Organizational culture and leadership. San Francisco: Jossey-Bass. Walker, L. J. 1984, ‘Sex differences in the development of moral reasoning: A critical review’, Child development, vol. 4, no. 5, pp677-691. Read More