The Fall of… Enron and Arthur Andersen ws/specials/enron/

What you will learn  History of Enron and Andersen  Key Players in Scandal  How investors were scammed Types of white-collar crime Types of white-collar crime  How scandal was discovered  Verdicts in Court  Effects on the financial industry: New legislation New legislation

What was Enron? Enron (former NYSE ticker symbol: ENE) Enron (former NYSE ticker symbol: ENE) world's leading electricity, natural gas, and energy company world's leading electricity, natural gas, and energy company based in Houston, Texas, based in Houston, Texas, 21,000 employees in over 30 countries 21,000 employees in over 30 countries stated revenues of more than $100 billion in the 1990s stated revenues of more than $100 billion in the 1990s

What was Arthur Andersen Accounting? one of the Big Five accounting firms for public and private companies around the world one of the Big Five accounting firms for public and private companies around the world over $9 billion in sales during over $9 billion in sales during ,000 employees working in 84 countries 85,000 employees working in 84 countries

Key Events 1.) August 15, 2001 Sherron Watkins sends a memo to (CEO) Kenneth Lay about accounting issues. 2) October 16, Enron announces a third quarter loss of $618 million 3) October 31, The SEC opens a formal investigation into Enron’s transactions

Key Events Continued… In October, Enron said it would reduce shareholder value by $1.2 billion. The company now blamed the losses on Andrew Fastow, the CFO, for allegedly arranging deceptive and failing partnerships what were being used to hide millions of dollars in Enron losses. The company now blamed the losses on Andrew Fastow, the CFO, for allegedly arranging deceptive and failing partnerships what were being used to hide millions of dollars in Enron losses. Falsifying Sales Falsifying Sales Falsifying records Falsifying records

Key Events Continued… 4.) During this time, the SEC publicly upgraded its inquiry into a formal investigation of Enron's suspected fraudulent financial statements. 5.) In early November, Enron conceded it had overstated its profits by nearly 16 percent, or $600 million, since Enron's auditors, Arthur Andersen, also alerted shareholders that they should not trust any financial reports issued before June 30, Enron's auditors, Arthur Andersen, also alerted shareholders that they should not trust any financial reports issued before June 30, Enron's market value plunged, as shareholders and investors sold their shares as fast as they could. Enron's market value plunged, as shareholders and investors sold their shares as fast as they could.

Key Events Continued… 6.) Faced with paying back millions of dollars in debt, Enron's executives and company board agreed to seek Chapter 11 bankruptcy protection in early December of The breathtaking speed of the energy giant's collapse became the subject of multiple investigations, including a criminal investigation into the company's allegedly fraudulent accounting methods.The breathtaking speed of the energy giant's collapse became the subject of multiple investigations, including a criminal investigation into the company's allegedly fraudulent accounting methods. On paper, it took Enron 24 days to go bankrupt !

Key people Key people 1.) Kenneth Lay 1.) Kenneth Lay  Enron's CEO and chairman from 1986 to January 2002.

Key people: Key people: )Jeffrey Skilling  President of Enron, heading Enron's North American operations.

Key people 3.)Andrew Fastow CFO CFO Fastow, who was promoted to CFO in his mid-thirties, earned accolades for diminishing Enron's debt and restructuring the company's finances to allow Enron to diversify its business. Fastow, who was promoted to CFO in his mid-thirties, earned accolades for diminishing Enron's debt and restructuring the company's finances to allow Enron to diversify its business. Created false business partnerships with fictional companies throughout the world in order to hide debt Created false business partnerships with fictional companies throughout the world in order to hide debt

Enron’s Stock Price from Jan Jan 2002

Key people 4.) Arthur Andersen Andersen served as Enron's sole internal auditor throughout the energy giant's sixteen years, also performing internal audits and consulting services. Andersen served as Enron's sole internal auditor throughout the energy giant's sixteen years, also performing internal audits and consulting services.

In 2002 the firm voluntarily surrendered its licenses to practice as Certified Public Accountants in the U.S. pending the result of prosecution by the Department of Justice over the firm's handling of the auditing of Enron In 2002 the firm voluntarily surrendered its licenses to practice as Certified Public Accountants in the U.S. pending the result of prosecution by the Department of Justice over the firm's handling of the auditing of Enron Jury Instructions Jury Instructions 2005-ended operation 2005-ended operation

White Collar Crimes that the SEC investigates and prosecutes Insider trading Insider trading Tipping off investors/friends/family of confidential financial info motivating them to either buy or sell a stock Tipping off investors/friends/family of confidential financial info motivating them to either buy or sell a stock Securities fraud Securities fraud providing false or misleading information about financial statements to motivate people to buy or sell stock providing false or misleading information about financial statements to motivate people to buy or sell stock Conspiracy Conspiracy A secret plan by a group to do something unlawful or harmful A secret plan by a group to do something unlawful or harmful Money Laundering Money Laundering Changing the source of income Changing the source of income

Lead Plaintiffs 1. The University of California 155,000 employees retirement funds tied to Enron stock 155,000 employees retirement funds tied to Enron stock Purchased over 2 million shares at inflated prices Purchased over 2 million shares at inflated prices Suffered damages of over $144 million Suffered damages of over $144 million 2. Washington State Investment Board Manages and invests state’s retirement funds Manages and invests state’s retirement funds Purchased debt securities at inflated prices Purchased debt securities at inflated prices

Lead Plaintiffs 3. San Francisco City and County Employees‘ Retirement System Provides benefits for retired employees Provides benefits for retired employees Purchased equity securities at inflated prices Purchased equity securities at inflated prices 4. Teamsters Nos.175 & 505 Pension Trust Fund Oversees retirement savings Oversees retirement savings Purchased debt securities at inflated prices Purchased debt securities at inflated prices 5. Hawaii Laborers Pension Plan Administers retirement savings Administers retirement savings Purchased debt securities at inflated prices Purchased debt securities at inflated prices

Defendants 1. Enron Kenneth Lay, Jeffrey Skilling, Andrew Fastow, and various other Executives Kenneth Lay, Jeffrey Skilling, Andrew Fastow, and various other Executives Accused of illegal insider trading Accused of illegal insider trading Accused of illegal insider trading Accused of illegal insider trading 2. “Andersen” consisted of Arthur Andersen LLP and Andersen Worldwide S.C. consisted of Arthur Andersen LLP and Andersen Worldwide S.C. 3. Law Firms Vinsin & Elkins, Kirkland & Ellis Vinsin & Elkins, Kirkland & Ellis 4. Investment Banks J.P. Morgan & Chase, CitiGroup, J.P. Morgan & Chase, CitiGroup, Bank of America, etc.

The Verdicts… v=di2XVJljadA&NR=1&feature=f vwp v=di2XVJljadA&NR=1&feature=f vwp v=di2XVJljadA&NR=1&feature=f vwp v=di2XVJljadA&NR=1&feature=f vwp

What happened to Kenneth Lay? On July 7, 2004, Lay was indicted and found guilty by a grand jury on 11 counts of conspiracy, securities fraud and related charges. On July 7, 2004, Lay was indicted and found guilty by a grand jury on 11 counts of conspiracy, securities fraud and related charges. Lay could have faced 20 to 30 years in prison. Lay could have faced 20 to 30 years in prison. However, he died while vacationing in Snowmass, Colorado on July 5, 2006, about three and a half months before his scheduled October 23 sentencing. However, he died while vacationing in Snowmass, Colorado on July 5, 2006, about three and a half months before his scheduled October 23 sentencing.

What happened to Jeffery Skilling? Skilling was indicted on 35 counts of fraud, insider trading, and other crimes related to the collapse of Enron. Skilling was indicted on 35 counts of fraud, insider trading, and other crimes related to the collapse of Enron. pleaded not guilty to all charges. pleaded not guilty to all charges. About a month after quitting Enron, Skilling sold almost $60 million of his stake in the company About a month after quitting Enron, Skilling sold almost $60 million of his stake in the company leading to the prosecutors' allegation that he sold those shares with inside information of Enron's impending bankruptcy. leading to the prosecutors' allegation that he sold those shares with inside information of Enron's impending bankruptcy. On October 23, 2006, Skilling was sentenced to 24 years and 4 months in prison, and fined $45 million. On October 23, 2006, Skilling was sentenced to 24 years and 4 months in prison, and fined $45 million.

What happened to Andrew Fastow? Despite entering into a plea agreement to serve 10 years in prison, on 26 September 2006, Fastow was sentenced to six years, followed by two years of probation. Despite entering into a plea agreement to serve 10 years in prison, on 26 September 2006, Fastow was sentenced to six years, followed by two years of probation.

Deregulation Commodity exchange: an organized market where future delivery contracts for graded commodities (as grains, cotton, sugar, coffee, wool) are bought and sold. federal deregulation of commodity exchanges has removed accountability and transparency from the energy sector, allowing corporations to manipulate price and supply of electricity and natural gas through the exercise of significant market power Enron developed mutually beneficial relationships with federal regulators and lawmakers to support policies that significantly curtailed government oversight of their operations.

Enron's business model was built entirely on the premise that it could make more money speculating on electricity contracts than it could by actually producing electricity at a power plant. Central to Enron's strategy of turning electricity into a speculative commodity was removing government oversight of its trading practices and exploiting market deficiencies to allow it to manipulate prices and supply. Dr. Wendy Gramm, in her capacity as chairwoman of the Commodity Futures Trading Commission (CFTC), exempted Enron's trading of futures contracts in response to a request for such an action by Enron in At the time, Enron was a significant source of campaign financing for Wendy Gramm's husband, U.S. Senator Phil Gramm. President Bush's presidential campaign received significant financial support from Enron ($1.14 million). Commodity Futures Act of 2000

Derivates Derivatives are used for two main purposes: to speculate and to hedge investments. Let’s look at a hedging example. Since the weather is difficult–if not impossible– to predict, orange growers in Florida rely on derivatives to hedge their exposure to bad weather that could destroy an entire season’s crop. Think of it as an insurance policy: farmers purchase derivatives that allow them to benefit if the weather damages or destroys their crop. If the weather is good, and the result is a bumper crop, then the farmer is only out the cost of purchasing the derivative. Most of the money Enron had came from derivates

Sarbanes-Oxley Act The Sarbanes-Oxley Act of 2002 The Sarbanes-Oxley Act of 2002 commonly called SOX commonly called SOX is a United States federal law signed on July 30, 2002 in response to a number of major corporate and accounting scandals, primarily led by Enron/Andersen is a United States federal law signed on July 30, 2002 in response to a number of major corporate and accounting scandals, primarily led by Enron/Andersen SOX SOX SOX