Enron Case Study

Words: 1766
Pages: 8

1. Historical Background of ENRON, its business and Market Size

Enron's life began in 1985 as an interstate pipeline company through the merger of Houston Natural Gas and Omaha-based InterNorth. Kenneth Lay, the former chief executive officer of Houston Natural Gas, became CEO, and the next year won the post of chairman.
The firm's business model evolved to focus on two related themes:
• the acquisition and operation of power plants and electric distribution companies, and
• Trading operations in which Enron created markets for trading gas and electricity and financial securities based on those commodities.
Enron's principal innovation in energy markets was to combine financial contracts with contracts for physical delivery. This innovation
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Sarbox (2002) Act
Sarbanes-Oxley provides for increased corporate governance and corporate accountability. Therefore, SOX is in place to be sure that fraud on the scale of Enron never takes place again.
If a publicly-traded company is not in compliance with the SOX law, the penalties are stiff. Multi-million dollar fines can result and imprisonment of the CEO or CFO. Penalties are based on the section of SOX that the company is not in compliance with.
4. What went wrong

On October 16, 2001, Enron announced it was reducing its after-tax net income by $544 million and its shareholders’ equity by $1.2 billion.
On November 8, 2001, Enron announced that, because of accounting errors, it was restating its previously reported net income for the years 1997–2000.
• These restatements reduced previously reported net income as follows:
– 1997, $28 million (27% of previously reported $105 million);
– 1998, $133 million (19% of previously reported $703 million);
– 1999, $248 million (28% of previously reported $893 million);
– 2000, $99 million (10% of previously reported $979 million).
• These changes reduced its stockholders’ equity by $508 million. Thus, within a month, Enron’s stockholders’ equity was lower by $1.7 billion (18% of previously reported $9.6 billion at September 30,
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With assets of $63.4 billion, it is the largest US corporate bankruptcy.
• The price of Enron’s stock, which had increased spectacularly over the 1990s from a low of about $7 to a high of $90 a share in mid-2000, declined to under $1 by year-end 2001.
• Many Enron employees who had invested their tax deferred retirement plans in Enron stock saw their assets go from hundreds of thousands and even millions of dollars to almost nothing.
• The following four accounting and auditing issues are of primary importance, since they were used extensively by Enron to manipulate its reported figures:
– The accounting policy of not consolidating SPEs that appears to have permitted Enron to hide losses and debt from investors.
– The accounting treatment of sales of Enron’s merchant investments to unconsolidated SPEs as if these was arm’s length transactions.
– Enron’s income recognition practice of recording “as current” income fees for services rendered in “future” periods and recording revenue from sales of forward contracts, which were, in effect, disguised loans.
Fair-value accounting resulting in restatements of merchant investments that were not based on trustworthy