Enron: The Accounting Scandal

ENRON- COMPANY BACKGROUND

Enron Corporation was an American energy, commodities, and services company based in Houston, Texas Before its bankruptcy on December 2, 2001, Enron employed approximately 20,000 staff It was one of the world's major electricity, natural gas, communications, and pulp and paper companies It claimed revenues of nearly $101 billion during 2000 Fortune named Enron "America's Most Innovative Company" for six consecutive years

Causes of Downfall of Enron

At the end of 2001, it was revealed that its reported financial condition was sustained by creatively planned accounting fraud, known since as the Enron scandal The company used unethical practices to misrepresent earnings and modify the balance sheet tos indicate favorable performance The primary motivations for Enron's accounting transactions was to keep reported income and reported cash flow up, asset values inflated, and liabilities off the books The company tried to hide its debt It created off-balance-sheet vehicles, complex financing structures, and deals

Reasons For Fraud

At the end of 2001, it was revealed that its reported financial condition was sustained by creatively planned accounting fraud, known since as the Enron scandal The pressure from stock market analysts to give constantly a good result

To stay ahead in competitive edge

Got false assurance from the politician regarding concealment of the fraud

The Accounting Manipulation

Enron reported entire value of each of its trade as revenue unprecedented Adopted mark to market accounting Once long time contract was signed, income is estimated as the present value of net future cash flow

Due to large discrepancies of attempting to match profit and cash, investors were given false of misleading reports

AccOuNtiNg MANiPulAtiON
Enron used 100s of special purpose entities like JEDI, CHEWCO, WHITE WING and LJM to manage its debts and losses The transactions with these entities were not reflected in its balance sheets Enron balance sheets understated its liabilities and over stated its earnings The booking cost of cancelled projects were made as assets

Fraud Discovery
Irregular accounting was uncovered in late 2001. Revealed that much of its profits and revenues were results of special transactions. Many of Enron's debt and losses were not reported in its financial statements. Accounting firm Arthur Anderson was caught in cross fire.

Fraud Discovery
In late 1990 Enron stock was trading for $ 80-90 per share. Enron was criticized for power crisis of California in 2000-2001. In mid july 2001 , Enron reported earnings of $50.1 billon In August 2001, Jefferey skilling, CEO announced resignation.

Fraud Discovery
Skilling sold 4,50,000 shares of Enron stock worth $ 33 Million. Financial analyst could not tell if Enron was making or losing money. In mid- October 2001, Enron announced a financial loss of $ 01 billion.

In late October 2001, stock fell from $ 20.65 to $ 5.40 in one day.
Enron filed bankruptcy in December 2001. Many companies loss money that had invested or loaned money to Enron. Unable to pay Tax. The officers of the company were charged with fraud, financial crimes etc.

Fraud Discovery
Skilling Pressured Enron Executions to hide dept and loss. Fastow CFO & other executives created off- balance sheets, complex financial structures and deals. Enrons complex financial statements were confusing to shareholders & analysts. Kept reported income, and reported cash flow up, asset values inflated and liabilities off the books. This led to extensive expansion of 65% per year.

Post Fraud Consequences

Formation of SOX Enron's stock price (former NYSE ticker symbol: ENE) from August 23, 2000 ($90) to January 11, 2002 ($0.12). As a result of the decrease of the stock price, shareholders lost nearly $11 billion

Post Fraud Consequences

Post Fraud ConsequencesSarbanesOxley Act

The bill was enacted as a reaction to a number of major corporate and accounting scandals including those affecting Enron, Tyco International, Adelphia, Peregrine Systems SarbanesOxley Act (SOX) was enacted to carry out accounting reform and to increase investors protect

SOX-type laws have been subsequently enacted in Japan, Germany, France, Italy, Australia, Israel, India, South Africa, and Turkey.

Between December 2001 and April 2002, the Senate Committee on Banking, Housing, and Urban Affairs and the House Committee on Financial Services held multiple hearings about the Enron scandal
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Post Fraud ConsequencesSarbanesOxley Act

Fraud led to the formation of the Sarbanes-Oxley Act on July 30, 2002 The main provisions of the Sarbanes-Oxley Act included the establishment of the Public Company Accounting Oversight Board to
develop standards for the preparation of audit reports;

the restriction of public accounting companies from providing any non-auditing services when auditing; provisions for the independence of audit committee members, executives being required to sign off on financial reports relinquishment of certain executives' bonuses in case of financial restatements; expanded financial disclosure of companies ' relationships with unconsolidated entities.[

Arthur Anderson- The Auditing Firm

Enrons auditor firm , Arthur Anderson, was accused of applying reckless standards in its audits to receive high auditing and consulting fees. Securities and exchange commission filed a lawsuit against Arthur Anderson. Arthur Anderson was dissolved due to several law suits including world com.

Top official executive i.e CFO , CEO and other executive were involved in the manipulation of accounting calculation

Arthur Anderson- The Auditing Firm

Arthur Andersen was charged with shredding the thousands of documents a Arthur Andersen was charged with deleting e-mails and company files that tied the firm to its audit of Enron the firm was effectively put out of business; the SEC is not allowed to accept audits from convicted felons company surrendered its CPA license on August 31, 2002, and 85,000 employees lost their jobs the damage to the Andersen name has been so great that it has not returned as a viable business even on a limited scale.

Conclusion
A good way to avoid management oversights is to subject the control mechanisms themselves to periodic surprise audits The point is to make sure that internal audits and controls are functioning as planned

It is a case of inspecting the inspectors and taking the necessary steps to keep the controls working efficiently
It is up to Top Management to send a clear & pragmatic message to all employees that good ethics is still the foundation of good business

References
CSR report for Congress: Research Service paper http://www.bica.bs/pdf/casestudy/WorldCom.pdf http://www.ecommercetimes.com/story/45542.html

http://www.foxnews.com/story/0,2933,56233,00.html

A Short Documentary on WorldCom Accounting Scandal