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Enron, Houston, TX, United States of America08Fall

Enron

Report on Enron

Prepared byGroup name: Universal FIN 301, Section: ANameID

Ali Ahmmed08202013

Sahadat Hossain13302019

Hasan Mohammad Forhad13202029

Shirajul Islam13302038

Avijit Sarkar Parag13302051

Porimal Chandra Sharker14202258

Submitted to

Mr. Sunan Islam

Faculty &

Course Instructor, FIN 301

Date of Submission: 26 March, 2015

ENRONCompany Overview:Enron, a corporation formed in 1985, headquartered in Houston, operated one of the largest natural gas transmission networks in North America, totaling over 36,000 miles, in addition to being the largest marketer of natural gas and electricity in the United States. Enron managed the world's largest portfolio of natural gas risk management contracts and pioneered innovative trading products. The company was onFortune's "Most Innovative" in the United States listing for several years running and reached 7 on theFortune 500list in 2000. Its bankruptcy in December 2001 was the largest such filing in United States history. The name Enron became synonymous with corporate greed and corruption, and its demise cost investors and employees over $70 billion in lost capitalization and retirement benefits. Before filing for bankruptcy in 2001, Enron Corporation was one of the largest integrated natural gas and electricity companies in the world. It marketed natural gas liquids worldwide and operated one of the largest natural gas transmission systems in the world, totaling more than 36,000 miles. It was also one of the largest independent developers and producers of electricity in the world, serving both industrial and emerging markets. Enron was also a major supplier of solar and wind renewable energy worldwide, managed the largest portfolio of natural gas-related risk management contracts in the world, and was one of the world's biggest independent oil and gas exploration companies. In North America, Enron was the largest wholesale marketer of natural gas and electricity. Enron pioneered innovative trading products, such as gas futures and weather futures, significantly modernizing the utilities industry. After a surge of growth in the early 1990s, the company ran into difficulties. The magnitude of Enron's losses was hidden from stockholders. The company folded after a failed merger deal with Dynegy Inc. in 2001 brought to light massive financial finagling. The company had ranked number seven on the Fortune 500, and its failure was the biggest bankruptcy in American history.

Introduction:At one time, the energy giant Enron was one of the biggest companies in the world, dealing in everything from natural gas production to telecommunications. In 2001, the Houston-based firm collapsed after accounting improprieties made public revealed that the company's booming financial success wasn't what it seemed.Enron began to flourish in 1985, which is the result of a merger of the two companies. After the merger, Enron became very aggressive to gain new market share. Enron business doing as bank commodity purchases directly from suppliers and sell it directly to the buyer. Enron continues to grow and add a variety of business types, until in 2000 became the leader in the business of energy commodities and services.The development effort grows drastically and diversifying too diverse, poses its own risks. Management were not aware of the emergence of the risk indicates the fragility of the internal systems began Enron.Andersen is one of the international accounting firms of the most prestigious in the world. Andersen serves major clients, which include companies that evolved significantly i.e. Enron and WorldCom.Accounting Principles, Auditing Standards and Disclosure Obligations (Disclosure) elements of financial statements in the United States that has been arranged with great detail it can be broken by the result of collusion, which made Enron and Andersen. Related offenses committed by mark-to-market accounting, financial reporting for Special Purpose Entities (SPEs), and reporting of the shares issued. Andersen also violate audit standards, in particular the principle of independence because it acts as an external auditor and consultant for Enron. Andersen also ignores the weakness of the Internal Control System in Enron, when the auditor should consider the important information is communicated to the client. Andersen-depth analysis of the information that there is magnified Serious Internal Control Weakness in Andersen. Nest associated with accounting policies of the central office, ignored by the auditors in the branch office of Texas. No controls ensure that advice has been followed.What was wrong with Enron?1. Financial Scandals: Society views the performance of Enron who has been a leader in the business of energy commodities and services are relatively good. The Enron indicates this Stock Price continues to increase significantly from 1997 to peak in mid 2000. The increase in Stock Price showed positive expectations of the public on the performance of Enron in the next period. However, in mid-2001 began to appear bad news about Enron's performance to its Stock Price claim down to near 0 at the end of 2002 when Enron was declared bankrupt. Poor performance of Enron began to unfold; there is the practice of the High Risk Accounting and Undisclosed Extensive Off-the-Books Activity by management. Revealed also acquired management Excessive Compensation. There is a gap between public expectations and the reality of the actual performance of Enron.2. Governance Failures and Risk Assessment:Enron and Andersen is clear evidence that the reporting system of the company at that time was not enough to protect the interests of investors and the public. The case was evidence that the management did not identify and manage risk ethics. This indicates that the management did not analyze in depth on business risk, resulting in adverse Governance Failures stakeholders.3. Synergy among Factors and Institutional Reinforcement:The relationship between the factors that influence public expectations on the ethical performance have been identified, but not carried out by the figures that play a role in the case of Enron and Andersen. Management failed to implement an ethical company policy. Auditor fails to embody ethics of conduct in the existing auditing standards. Analysts fail because it cannot detect a misstatement that made Enron and Andersen thus Stock Price Enron continued to rise to a peak in mid 2000. The lender / banker fails because it cannot analyze the permit so that Enron's financial lending too much. Regulators failed because the rules made there is stillroom for the occurrence of the violation. Intersection of various failures is an indication there is no synergy between these institutions.4. New Expectation for Business:There is a change of societal expectations. Public view that business exists to serve the public, not the opposite. Many people say that the business cannot be done with the basis of ethics, because too many things more important in order to maximize profit. However, the results of research studies show that businesses are not based ethics will only maximize short-term profits, but lower the long-term profit. Sustainable business must be maintained by implementing ethical business activities. The public also expect the company to be managed by the Governance and Accountability Mechanisms. Enron and Andersen make all parties more aware of the issue of ethics in business. Ethical Culture should be based on fairness, honesty, integrity, responsibility, and predictability which focuses on maintaining the trust, respect, and care for the interests of stakeholders. The case is clear evidence of the importance of ethics for companies and professionals in running the business.5. Mark-to-Market Accounting:Enron traded futures contracts that are classified as derivatives because they derive their value from an underlying asset. The market for futures reduces the volatility of prices for sellers and for buyers by fixing a price at a future date. Enron reported its derivatives using what it called mark- to-market accounting. Under this method, rather than the derivative being reported at historical cost, it is reported at fair market value of the underlying asset, which assumes the presence of a well-developed market. In the absence of quoted prices from active markets, the prices of similar assets or present value techniques may be used to establish a valuation.

Causes of Downfall:When energy giant Enron imploded in scandal and financial ruin, too many described it as a tale of political cronyism, greed and whatnot. The truth was deeper than that: Enron collapsed because it had turned itself into the poster child for what is wrong with the fractional reserve system and Wall Streetas institutions.1. Enrons Top Leadership:In the aftermath of Enrons bankruptcy filing, numerous Enron executives were charged with criminal acts, including fraud, money laundering, and insider trading.2. Enrons Corporate Culture:Enron has been described as having a culture of arrogance that led people to believe that they could handle increasingly greater risk without encountering any danger.3. Complicity of the Investment Banking Community:One of the most sordid aspects of the Enron scandal is the complicity of so many highly regarded Wall Street firms in enabling Enrons fraud as well as being partners to it.

4. Epilogue:The Enron Code of Ethics and its foundational values of respect, integrity, communication, and excellence obviously did little to help create an ethical environment at the company. The full extent and explanation of Enrons ethical collapse is yet to be determined as legal proceedings continue.Financial downtime of Enron:In 1990s Enron's stock was trading for $8090 per share in the stock market. In mid-July 2001, Enron reported revenues of $50.1 billion, almost triple year-to-date, and beating analysts' estimates by 3 cents a share.Despite this, Enron's profit margin had stayed at a modest average of about 2.1%, and its share price had decreased by more than 30% since the same quarter of 2000.As a result, some analysts said that Enron is overrated. Enrons share price is more than it earned. Enron was only company who never showed their financial balance sheet. Bad management tried to hide their financial work from the stockholders.

Picture: Starting and ending share price valueAt a stage, Enrons share price was huge but it could not hold its price level. It was bound to lose its stock price and the bonuses from the share.Enron, once a sleepy natural gas pipeline company, grew to become the nations seventh largest publicly held corporation. But its shoddy business practices, aided by bankers and advisors feeding from the gravy train, brought down the company in December 2001.

Revenue of Enron:Enron, one of the best energy suppliers of America who earned profit by 2 major steps with some sub steps. Enron earned profit by two major steps those are given below:

a. Risk management.b. Wholesale trading.In addition to1. Building and maintaining electric power plants,2.Natural gas pipelines, 3. Storage, and processing facilities, they can also earn profit by above process.When accepting the risk of buying and selling products, merchants are allowed to report the selling price as revenues and the products' costs as cost of goods sold. In contrast, an "agent" provides a service to the customer, but does not take the same risks as merchants for buying and selling. Service providers, when classified as agents, are able to report trading and brokerage fees as revenue, although not for the full value of the transaction.

Picture: EPS and Share price of EnronGoldman SachsandMerrill Lynch two best trading companies used the conventional "agent model" for reporting revenue (where only the trading or brokerage fee would be reported as revenue), Enron instead selected to report the entire value of each of its trades as revenue. This "merchant model" was considered much more aggressive in the accounting interpretation than the agent model.Enron's method of reporting inflated trading revenue was later adopted by other companies in the energy trading industry in an attempt to stay competitive with the company's large increase in revenue. Between 1996 and 2000, Enron's revenues increased by more than 750%, rising from $13.3 billion in 1996 to $100.8 billion in 2000. This extensive expansion of 65% per year was unprecedented in any industry, including the energy industry, which typically considered growth of 23% per year to be respectable. For just the first nine months of 2001, Enron reported $138.7 billion in revenues, which placed the company at the sixth position on theFortuneGlobal 500.

Accounting system of Enron:Enron used market-to-market accounting system. Enrons natural gas business, their accounting system was straightforward. In each time period they had listed actual costs of supplying the gas and actual revenues received from selling it. Enron became the first non-financial company to use the method to account for its complex long-term contracts. Mark-to-market accounting requires that once a long-term contract was signed, income is estimated as the present value of net future cash flow. Often, the viability of these contracts and their related costs were difficult to estimate. Due to the large discrepancies of attempting to match profits and cash, investors were typically given false or misleading reports. While using the method, income from projects could be recorded, although they might not have ever received the money, and in turn increasing financial earnings on the books. However, in future years, the profits could not be included, so new and additional income had to be included from more projects to develop additional growth to appease investors.As one Enron competitor stated, "If you accelerate your income, then you have to keep doing more and more deals to show the same or rising income."Despite potential pitfalls, theU.S. Securities and Exchange Commission(SEC) approved the accounting method for Enron in its trading of natural gas futures contracts on January 30, 1992.Financial audit of Enron:Arthur Andersen was the auditor firm of the Enron. The auditors method was complex and questioned as either being completed solely to receive its annual fees or for its lack of expertise in properly reviewing Enron's revenue recognition, special entities, derivatives, and other accounting practices.They earned $25 million in audit fees and $27 million in consulting fees(this amount accounted for roughly 27% of the audit fees of public clients for Arthur Andersen'sHoustonoffice).Enron Earned hired a numerous well-known and skilled Certified public accountants. Many of them worked to develop accounting rules for with theFinancial Accounting Standards Board(FASB). The accountants searched for new ways to save the company money, including capitalizing on loopholes found inGenerally Accepted Accounting Principles(GAAP), the accounting industry's standards.Enrons management pressured the Arthur Andersens auditor to hide their bad financial works. But Arthur Andersen could not do this work very easily. Thats why Enrons management appointed a new Audit firm for their work.As a result, they pressure Andersen into meeting Enron's earnings expectations; Enron would occasionally allow accounting companiesErnst & YoungorPricewaterhouseCoopersto complete accounting tasks to create the illusion of hiring a new company to replace Andersen.In early 2001, the accounting firm was one of the nations largest and most prosperous, regarded as a gold standard of integrityin the financial world. Within a year, it was decimated and marked as a corporate fraud after the mass shredding of documentsduring the Enron collapse.Some of the 85,000 Andersen workers who lost their jobs in the aftermath launched a new firm, with a new name, attemptingto distance themselves from the namesakes tarnished auditing practice and the fallout of Enrons vaporized billions in investorstock.As the firms auditor, it was Andersens job to ensure thefirm told investors the truth in its financial reports. Yet Andersen also benefited handsomely from Enrons millions in theform of consulting services. Some Andersen executives even took jobs on Enrons payroll.Audit committee of Enron:Though Enron had a large number of expert people for their Audit committee but they could not meet enough time in a year. It is criticized for their brief meeting and large number of material which they used in audit time. Here are some names of the audit committee of the Enron: Robert Jaedicke, ofStanford University, a widely respected accounting professor and former dean ofStanford Business School. John Mendelsohn, President of theUniversity of TexasM.D. Anderson Cancer Center. Paulo Pereira, former president and CEO of the State Bank of Rio de Janeiro in Brazil. John Wakeham, former United Kingdom Secretary for Energy. Ronnie Chan, aHong Kongbusinessman. Wendy Gramm, former Chair of U.S.Commodity Futures Trading Commission.One big problem found about the audit committee that-they did not have enough knowledge or technical knowledge about auditing. Thats why they could not asked question to the Enrons Audit firm about Auditing. They could not ask the question to the Audit Firms about major or special entities of the Enron.At the time of beginning Enron was an unstoppable company where profit is soaring. Because of corrupt management and bad auditing it could not keep its soaring for a long time. Here a quote about Enron is given below: "At the beginning of 2001, the Enron Corporation, the world's dominant energy trader, appeared unstoppable. The company's decade-long effort to persuade lawmakers to deregulate electricity markets had succeeded from California to New York. Its ties to the Bush administration assured that its views would be heard in Washington. Its sales, profits and stock were soaring."- (A. Berenson and R. A. Oppel, Jr.The New York Times, Oct 28, 2001.)

Risk management:Enron do not follow the common accounting system. They tried to do aggressive accounting, which was hidden, from the board members. Enron established long-term fixed commitments, which needed to be hedged to prepare for the invariable fluctuation of future energy prices.Enron's bankruptcy downfall was attributed to its reckless use of derivatives and special purpose entities

Sufferer for the Enron:The Enron story has produced many victims the most tragic of which is a former vice chairman of the company who committed suicide, apparently his connection with his role in the scandal. Another 4500 individuals had seen their careers ended abruptly by the reckless acts of a few.Enrons core values of respect, integrity, communication and excellence stand in crucial line after the scandal.Altogether, 16 former Enron execs including skilling had been sentenced to prison. Its former chairman, ken lay, was also convicted but because he passed away before his guilty verdict could be appealed, that case was thrown out. Now, though, an appeals court has reduced skillings sentencing because it said that the trial court had miscalculated the codified penalty.A lot of people have suffered, not the least of who are the shareholders and pensioners who lost it all. It was a sad ending to what had appeared to be a promising beginning to the new economy in which the Internet age would spread wealth and create jobs throughout the social spectrum. While Enron may be the crown jewel of corporate prosecutions, it was preceded by guilty verdicts for top execs at Adelphia communications, Tyco International and WorldCom.

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