Shades of Gray The fine line between honesty and criminality in corporate America

Greg Farrell Reporter USA TODAY –Enron –Arthur Andersen –WorldCom –HealthSouth –Cendant

Character references Ken Lay Jeff Skilling Bernie Ebbers Richard Scrushy Walter Forbes Martha Stewart

Corporate Crooks Destruction of $200 billion Congress helped it happen –Penalized salaries over $1 million –Underfunded the SEC –Made it more difficult for investors to sue –Allowed auditors to act as consultants

Corporate Crooks II What is a crook? Bad guys lie Bad guys steal Easy to recognize

Good guys? Successful Innovative Charismatic Media stars White House Davos

What unites these men? Jeff Skilling, fraud at Enron Walter Forbes, fraud at Cendant Paul Bilzerian, securities fraud Alan Bond, investment fraud

Harvard Business School

White-collar crime It’s not “black or white” The world is gray

Statistical Ethics Normal distribution Pure evil? Unadulterated good? Most in middle

Case studies Middle manager at WorldCom Senior manager at Enron

WorldCom Born during the breakup of AT&T Incremental growth ( ) Stunning growth ( ) Acquisition of MCI, $5 billion income Correlation with Internet bubble

Trouble in 2000 CEO Bernie Ebbers’ stock Sinks from $1 billion to $500 million CFO Scott Sullivan’s millions Ebbers tells Sullivan to fix numbers.

Cooking WorldCom’s books Impossible for one Sullivan recruits four Conspiracy is born

Betty Vinson Careful bookkeeper Married, one daughter Family breadwinner 1996 salary: $50, salary: $80,000

Sullivan’s scheme Reverse accrual accounts Appalled, but colleague convinces her Threatens to resign a few days later Conversation in Sullivan’s office

Sullivan’s scheme II Vinson comes around Sullivan’s stellar reputation Vinson’s salary tough to replace Finding a new job difficult, arduous

WorldCom’s slide gets worse $544 million shortfall No more accruals accounts to raid Desperate tactics Capitalize line costs

Vinson’s dilemma Knows that capitalization of line costs is wrong Resolves to put her resume together and seek new job Participates in conspiracy Does it for 3 more quarters

Meet the New Betty By 2002, an innocent no more She’s part of the conspiracy What happened to “resume,” “new job”? Rationalized each step Focused on loss of $80,000 job Never saw bigger threat ahead

Planet Enron Most elaborate fraud in US history Pervasive greed Criminal company?

Brief history Natural gas pipeline (1985) At the mercy of gas prices 1990: creation of the “gas bank” Creation of new market Enron becomes leading innovator

Enron in the 1990s Total focus on stock price Attempts to duplicate “gas bank” strategy: –Deregulation of electricity markets –Enron Energy Services –Enron Broadband

Enron: 1998 Trouble maintaining 15% growth rate Need to buy/sell assets at quarter’s end Problem finding third parties

Fastow to the rescue CFO forms partnership No pesky “3 rd party” Buys lousy assets No questions asked Never loses money Stole $30 million

Other tricks Disguised bank loans as “sales” Hid California profits in “cookie jar” Assigned bogus values to assets –$80,000 lemonade stand

Fraud at Enron Systemic Not just 3 or 4 people 16 guilty pleas 5 convictions 100 unindicted co-conspirators

Criminal trial of Lay, Skilling Government alleges massive conspiracy Lay, Skilling accused of lying to investors Parade of cooperating witnesses

Defense argument Enron was actually making money Implausibility of conspiracy Logic: someone would have objected

David Delainey Rising star Named head of EES EES losses worsen Skilling’s solution March 2001 meeting EES losses hidden

Conspiracy No guns required Tacit support Difficult to resist

Whistleblowers Sherron Watkins Special personality Ostracized Demeaned by defense Lonely role

Conclusions Nobody intends to break the law Compliance techniques vary Rationalizations Are you willing to walk?