Enron: Where did all my money go?

Essential Question(s): Is it possible for something to start off flawed become good down the road? What does corruption look like inside a company? Are you good at identifying corruption at such a large scale and still want to speak up about it? How can company culture really hide what is really going on behind the scenes?

Part 1. The Early Days of Promise

1. Enron was essentially “birthed” in 1985 when natural gas giants Houston Natural Gas and Internorth merged into one company. 

2. However, the company didn’t have that famous Enron name during its first year as it was dealing with a bit of an identity crisis

   1. The first CEO was voted out and Kenneth Lay was voted in. 

   2. I am not too sure how much Lay had an influence over the ousting of the first CEO, but I do know that Lay did help orchestrate the merger of HNG and Internorth.

   3. As soon as Lay took office, he immediately dumped $100,000 into focus groups and consultants who put together the name “Enteron” to represent the new company. 

   4. However, the board couldn’t settle on Enteron as a name because Enteron is the medical word for intestines. 

   5. Eventually the name of “Enron” was agreed upon and that is what history would remember as one of history’s greatest financial dumpster fires. 

3. Moving into the early 90s, the Federal Government passed deregulation of natural gas sales nationwide. 

   1. According to the Low Income Home Energy Assistance Program (LIHEAP) stated that deregulation of natural gas was done to eliminate monopolies, introduce competition, lower prices, and address supply shortages. 

   2. I couldn’t find too much background of the discussion to deregulate natural gas or who the lobbyists were, but it wouldn’t surprise me if companies like Enron fostered the idea and encouraged deregulation to take place. 

   3. However, on the surface, this deregulation of natural gas would be a huge problem for a company like Enron. However, it was the exact opposite. 

   4. Before deregulation, Enron could essentially move into a market with natural gas needs and set up a monopoly and sell to customers. However, with deregulation, any company could come into a market and start competing with each other to sell natural gas at a lower price. 

4. However, once a former consultant but now turned chief operating officer, Jeffrey Skilling had a brilliant idea:

   1. Instead of competing with other natural gas companies to generate lower and lower prices and margins, why not just do what the Federal government did during regulation times and work with other companies to establish fixed rate contracts for natural gas. 

   2. In other words, your natural gas company could go to Enron to have them draw up a contract in a market between your company and the buyers at a fixed rate and as a result stabilize the prices for a long time. This would be done at a substantial fee of course… 

   3. But if we were to negotiate contracts with enough natural gas companies across the nation, then eventually every major provider would be able to sell their wares for a fixed rate for years to come regardless of the production rates changing. Yes, there would be some periods where the profit margins would be huge and other periods where they would be pretty small, but no matter what, a profit was going to be made no matter what. 

      1. Oh and lets not forget one other key component… Enron was the company that would help lock in rates for energy companies, it was also the same entity that helped buyers lock in buying contracts, at a fee of course. 

5. Under Skilling's leadership, it wasn’t long before Enron absolutely dominated the natural gas contract market with tens of billions of dollars in revenue.

6. Skilling also changed the culture of the company during the 90s. 

   1. He sent recruiters to MBA programs across the country to cherry pick aspiring candidates to take part in this new company.

   2. He changed the culture to become extremely competitive in which the focus was to close as many cash generating deals as possible in the shortest amount of time. 

   3. It wasn’t long before the quiet corporate environment would give way to raucous shouting matches, account managers fighting account managers and the good old fashioned chicanery to win the most amount of money. 

   4. One such character who rose through the ranks very early on was Andrew Fastow who eventually became the chief financial officer. 

7. At the helm of all this growth was Kenneth Lay. Reporting to him were Jeffrey Skilling who oversaw the building of the wild trading operation and Andrew Fastow oversaw investment strategies through very complicated means. 

Part 2. Doing things differently

1. Enron unabashedly promoted itself as a pioneer of innovation and doing things differently. 

   1. Take a listen to this audio clip from Lay and Schilling explaining what makes Enron different: Play Enron Clip Promotion

2. From the employee’s perspective, the culture was extremely innovative but perhaps common to today’s workplace environments.

   1. Enron focused on individual employees having their own “business within a business” mentality. 

   2. Yes, your paycheck will show that it’s from Enron, but the money you make is based on everyone’s individual book of businesses coming together for Enron. 

   3. Play: Enron Brainwashed Chick clip

   4. The idea is that you work for yourself. You are your own boss and how much money you want to make depends on the amount of time and effort you put in. 

3. Ask yourself, have you seen this type of culture before in your current job or past jobs? 

4. Better yet, what if you’re the type of person who isn’t the "entrepreneur type”? What if you like solving problems and you derive a great deal of satisfaction from that line of work? Well Enron’s got you covered. 

   1. Take a listen to this 17 year veteran: Enron Another Brainwashed Chick clip.

5. I’m not going to lie, I kinda prefer to work for a company that gives you a lot of free range to do what you think is right. I think most people would be on board with that. 

6. During the 90s Enron would be considered one of the most profitable companies in America:

1. Fortune Magazine Most Innovative Company- awarded for 6 consecutive years

2. Fortune “Most Admired Companies”- consistently ranked among the top companies for quality of management, quality of products/services, and employee talent

3. Horatio Alger Award (1998)- Awarded to CEO Ken Lay

4. Chairman’s Award (1999)- an internal, employee driven program highlighting excellence. 

5. Financial Times’ Energy Company of the Year

6. OPIC Support- Between 1993 and 2000, Enron secured over $2.2 billion in loans and insurance from the Overseas Private Investment Corporation for overseas projects, indicating high confidence from US agencies according to Texas State Historical Association.

8. The 90s saw the rise of a multi-faceted company that I feel genuinely wanted to do things differently. 

9. To the employees and the public, Enron was on a trajectory to change how the white collar working scene looked and behaved. 

10. Employee reviews weren’t the only measure of Enron’s success:

    1. From the early 1990s to 2000, Enron’s annual revenue grew from $10 billion to $100.8 billion. That is an annual growth rate of 65% every year! VERY FEW companies have achieved that level of growth. 

    2. Stock prices in the early 90s went from $7/share to $90.75/share. 

       1. That means in the early 90s if you invested $10,000 in Enron ($25,000 by today’s value), that you net you 1,429 shares. If you sat on those shares and sold them by 2000 (and you would want to, trust me lol) then you would have $129,642 ($245,600 by today’s value!). 

       2. If you kept reinvesting your dividends every year, then you could easily be worth nearly $1 million. 

11. Enron was going places and it was still a very young company. There shouldn’t be any reason why Enron couldn’t become the greatest company that ever existed. To be honest, it wouldn’t have surprised me if extra terrestrial visits rose in the 90s so they could get a piece of the Enron action. 

12. What could possibly go wrong?

Part 3. How Was This Approved?!?!

1. It is well established that Enron was a very progressive company (and I do think they were fairly genuine in their approach when it came to hiring people). It’s one of those things where the lower you are on the totem pole the better the experience. 

2. It is also well established that from 1990 to 2000, Enron was stupidly profitable with earnings and assets in the billions of dollars. 

3. But the question remains: how in the world did Enron become so profitable? Why was their stock selling like crazy with no end in sight in terms of when it would slow down. 

4. To get an idea of how Enron was making so much money in the 90s let’s take a quick look at stocks and publicly traded companies. 

   1. If a company wants to make a lot of money super fast, then it can sell tiny pieces of itself called shares. Instead of shelling out hundreds of millions and even billions of dollars to own a part of a company, investors can spend thousands of dollars to buy a little piece of the company. 

   2. The idea is that you give a company some money and they give you a piece of it which can make money on its own over time and pass that along to you. 

      1. For example, if I give a company $1,000 to buy 100 shares, I am buying each share at $10 a piece. If the company keeps to its earnings and goals and what not, it can promise a 10% return so each share could go up $1 per share and multiply that by how many shares, then you have made $100. 

      2. Meanwhile the company will take your $1000 and use it to expand, hire more people, or do whatever is necessary to become bigger and more profitable. The bigger the returns, the more investors, the more investors means more money being invested, which means the investors make more money and so on. 

      3. If you gave Microsoft $100,000 in the beginning, then by today you’d be worth hundreds of millions of dollars! The same could be said for all of the biggest companies today that are publicly traded. If you’re careful and the timing is just right, then you can make boat loads of money!. 

5. Based on this brief description of stocks / shares / dividends and what not, another question comes up: If a company is selling shares for $10 each, who or what establishes that price? Who determines a company is only worth $.50 a share and another company is worth $900 a share?

   1. The answer to this question is not simple. There are multiple factors that determine a company’s stock price. 

   2. Initially a company goes through an IPO or Initial Public Offering which is like a gigantic audit of the company:

      1. Market Demand- how much interest is there in the market

      2. Industry Comparables- are there other businesses in the market that are similar to the company in question to compare their stock prices to the IPO

      3. Growth Potential- what are the company’s financial growth goals for the future (don’t forget about this one!). A company can really embellish this category with little oversight. 

      4. Corporate Narrative- what is the company offering that is new and cutting edge? For example some 90s companies received billions of dollars in valuations and they haven’t even produced anything yet, but their visions were revolutionary. 

   3. So when a company goes “public” it’s a pretty big deal. For example look at Steve Jobs before and after Apple went public. Before December 12, 1980, Jobs was worth about $1 million or just shy of $4 million today. After Apple went public, he exceeded over $200 million or just shy of $800 million today. And that was only with a 15% ownership of the stock! If he still held onto that 15% today, he would be worth $600 billion!!!

6. Ok cool that’s an initial evaluation, but stock prices change everyday if not every minute. Why do they change?

   1. There are a ton of factors that determines stock prices on a continuous basis:

      1. Company Performance- strong earnings reports, revenue growth, and positive future outlook of growth

      2. Economic Indicators- interest rates, inflation, and general economic health

      3. Market Sentiment- investor psychology, fear, greed, and general market trends

      4. Industry Trends- news affecting a specific sector 

      5. Operating Ratios- how much money is the company making divided by how much it’s spending. The lower the OR the better. 

   2. I’m not exactly sure what goes into making the stock prices rise and fall minute by minute, but I’m sure there is some logical algorithm involved. 

7. So what did Lay, Skilling, and Fastow do to make so much money for Enron during this time with the stock market as I explained it?

   1. One way for a company such as Enron to “make money” is to take out loans to progress development. To you and I this sounds beyond sketchy / backwards, but it’s how a lot of businesses work today. 

   2. On top of impressing shareholders to keep buying your stock, banks will throw money at you if they feel that you’re a sure bet. The nice thing about banks is that they are not necessarily buying ownership of the company. Instead they are giving you money with the promise that you’ll pay them back over time and with interest. 

   3. So as long as you can post really good figures, investors and banks will throw money at you from different avenues. 

8. So this is a weird way for Enron to make money. However, Enron set up an even stranger means of making money and I’m not sure how the SEC allowed it. 

9. Introduce “mark to market” accounting scheme:

   1. Let’s say I want to borrow money from a bank so that I can use it to make another purchase that will improve our revenue stream. The bank is going to want some sort of assurances that their money will return some sort of value.

   2. I of course have not been making much money because everything I’ve done has been solely asking money from people. 

      1. So I tell the bank that I “promise” the millions of dollars I am asking for will turn my investment into $50 million from $25 million. 

      2. Therefore, instead of waiting for my investment to come to fruition, the bank might as well treat me as though I have the $50 million instead of $25 million because that’s going to happen anyways. 

   3. In the case of Enron, they were telling the banks what the company was going to be worth down the road to gain favorable loan terms such as amount, interest, and repayment options. 

   4. It’s kinda like financing a Ferrari which is a $250,000 car for $300 / month without a down payment because in the future I’ll be worth millions of dollars some day even though I might be living out of a trailer without a job to my name. 

10. And somehow the Securities Exchange Commission approved this accounting tactic with both Lay and Skilling eagerly waiting on the decision. 

    1. They were actually in the middle of making a deal based on mark to market strategy hoping to god that it would be approved in time. 

11. This mark to market approach is what made Enron billions of dollars in the 90s. 

Part 4. It’s Best to Not Ask Questions

1. Mark to Market wasn’t Skilling’s only tactic, because even though Enron was green lit to essentially cook the books legally to get whatever favorable bank terms they wanted, there were some flaws to the approach that needed to be addressed. 

2. Remember the OR thing I mentioned earlier? The operation costs divided by the revenue and the lower the percentage the better off you are? Well what do you do if you made an investment into a company that was 100% the wrong bet and it lost money hand over fist?

   1. By the mid to late 90s, Enron moved on from just being a natural gas company to become some weird investment firm:

      1. Electrical power plants

      2. Natural gas pipelines

      3. Broadband internet (and even tried to turn Blockbuster into a version of Netflix we see today with on demand movie streaming)

      4. International projects

      5. Paper

      6. Steel

      7. Plastics

      8. They even invested in the weather!!!!

   2. Some of these investments weren’t all that bad, but way too early such as broadband internet: Insert Enron Online Clip

   3. This commercial was around 2000 and it demonstrates the shift that Enron was trying to make. 

   4. However, high speed fiber optic networks simply weren’t viable at the time. Technically the innovation was there but it wasn’t scalable or mature enough to be installed everywhere. 

   5. This really hampered their online video on demand idea that Netflix would dominate in about 15 years. 

3. But that’s okay, if a business enterprise failed horrifically, then Andrew Fastow had a way to make those failures disappear. 

   1. Fastow came up with the idea of Special Purpose Entities or SPE’s. 

   2. These were companies, that were established so that the debt from failed business ventures could be funneled into them so that they could be hidden from the public trading. 

      1. These entities could be dissolved, staff let go, and everything shredded in a moment’s notice to essentially wash poorly performing assets down the drain so they couldn’t negatively affect Enron’s overall financial stability. 

   3. Fastow would also sell products to other investment firms only to have them sell everything back after a short period of time. This was to make it look like that Enron was actually selling stuff when it needed to show that it was a viable company.

4. Enron would invest in derivatives that were insanely long term such as long dated energy contracts. This would almost make it fall off the radar because it would be so old. 

5. To make matters worse, Enron focused on California which was suffering blackouts and power outages for extended periods of time. 

   1. Enron merged with PG&E which was CA’s main power company. 

   2. However, things only got worse… With Enron’s help, CA had twice the electrical output but was nonetheless still dealing with outages. 

   3. It turns out, it had to do with the super complicated practices mentioned earlier where Enron would negotiate rates with suppliers and consumers and negotiate rates between consumers and entities needing the electricity. This mean that they could control entire markets… like California.

   4. What this meant was that Enron was selling CA’s electricity to buyers outside of the state to reduce CA’s electrical capacity which drove the price up since supply was low and the demand was high. 

   5. Enron would also reach out to power plants and told them to shut down to further increase the rates for electricity.

   6. This whole ordeal cost CA over $30 billion. 

      1. Elected officials in CA wanted the federal government to assist with this because it was an out of state company like Enron that was causing this financial blow to the CA residents. 

      2. However, one of Lay’s best friends was none other than President George W. Bush and he turned a blind eye to the matter. 

      3. When the US congress got involved, they got the Federal Energy Regulatory Commission involved which was headed up by another one of Lay’s friends so it got swept under the rug. 

6. To really make things nice and clean, Enron’s financial audit company: Arthur Andersen LLP worked really hard to cook the books to the point where they were incinerated. 

   1. Being one of the top five accounting firms that every major company turned to make sure they were doing everything, Enron instead paid them millions extra to sweep issues under the rug and to not tell anyone anything. 

7. Perhaps one of my favorite Enron actions is when it partnered up with Blockbuster to sell a video on demand service like what Netflix does today. 

   1. It was a premature idea since in 2001, no one had access to abundant high speed internet to support such a venture. 

   2. Enron used its Mark to Market approach and claimed that it had made $110 million dollars profit from Blockbuster because it was going so well and yet we all know what happened to Blockbuster. 

8. It was the Blockbuster debacle that started a shift from “Enron being one of the most innovative companies in America” to “how in the hell is Enron actually making money to begin with?”

Part 5. The Wheels on the Bus Fall Off

1. We now enter into March 5, 2001. Journalist Bethany McLean publishes an article “Is Enron Overpriced?” in Fortune Magazine. 

   1. This article was the first time someone publicly mentions that no one, especially the investors, really understands how Enron makes money or what they sell. 

   2. Skilling even met with reporters and was asked the same question. He told them that he wasn’t an accountant so he left the room and brought in Fastow. 

   3. At the end of the meeting, Fastow told a reporter, “I don’t care what you write about Enron, just don’t make us look bad…”

2. On August 14, 2001, Skilling resigned from Enron out of the blue leaving Lay to run things completely alone like the days before Skilling came aboard. 

   1. This was probably done on purpose. No one really knows exactly why Skilling resigned but it’s pretty easy to guess once you see what happened shortly after. 

   2. There was no way that Lay could run things on his own. The marketing and business operations of Enron got so convoluted and complicated that no one person could sort things out and Lay was getting up there in age. 

3. A day later on August 15, the Vice President of Development, Sherron Watkins sends an anonymous letter to Lay bringing up some concerns that she had about how the company was operating and that Enron “will implode in a wave of accounting scandals”

4. On August 22, Watkins meets with Lay and gives him a 6 page letter detailing problems with Enron’s accounting practices. 

   1. Lay, being the CEO type, promised to take her concerns to the company’s law firm Vinson & Ellis where it probably died. 

5. However, by the 3rd quarter of 2001, Enron’s firm grip on continuous success was starting to fall apart as more and more details leaked out shedding light on the many shady business dealings Enron was engaging in. 

6. By October 16th, Enron announced that it was going to restate earnings from 1997 to 2000 to fix accounting mistakes and violations. 

   1. This would mark the true beginning of the investor exodus that would result in Enron’s collapse. 

   2. Correcting all the earnings Enron made for 3 years means that all the dividends that paid out during those years as well as all the employees that dumped their life savings and bonuses into the Enron 401k program would have to be reevaluated and tens of thousands of employees were going to potentially have to pay all that back. 

7. On October 22nd, Enron’s board discovers that Fastow set up a side business to shed Enron’s debts and from that he made more than $30 million from that side hustle. 

   1. Word got out about Fastow’s actions and what he did to hide lost money and subsequent firing. 

   2. By October 24th, Enron’s stock dropped by 20% when the SEC announces that it was going to formally investigate Enron’s shady deals. 

8. On October 24, Andrew Fastow was fired. 

9. Meanwhile Lay is telling the employees to keep investing in Enron and to keep dumping money into the 401k. This was probably some attempt to keep the stock prices high or at least leveled off for a short period of time. 

   1. This was because as he was telling his employees to no worry and keep investing… Lay had sold 918,000 shares of Enron stock he owned… but don’t forget, Enron is doing great! Nothing to worry about here!!!

10. At the end of October of 2001, Enron’s credit rating plumets… I can’t imagine…

11. At this point, Enron is in a freefall with bankruptcy waiting on the ground. To stave off bankruptcy, Enron offers to sell itself to competitor Dynergy. 

    1. Dynergy was probably a company in good standing and it wasn’t going to touch Enron with a 10 foot pole. 

    2. In a few short months, Enron went from being the handsome man that every girl wanted to date to a homeless bum covered in syphilitic pustules. 

12. By Thanksgiving of 2001 Enron’s credit rating was reduced to “junk status” and this resulted in Enron’s stock price falling to $0.61. 

13. On December 2nd, 2001 Enron filed for Chapter 11.

    1. With this filing, tens of thousands of employees witness their life savings, retirement plans, their careers, and livelihoods evaporate into nothingness. 

    2. The executives pilfer assets and sell off what they can so they walk away with millions upon millions of dollars. This is on top of everything they made prior… thankfully they did okay… right?

    3. It is right around this time that Skilling tells the NY Times that, “I had no idea that the company was in anything but excellent shape.”

14. On January 23rd, 2002, Lay resigned as Enron’s chairman and CEO. But honestly, who cares.

15. At one point in time the Federal Government didn’t want to interfere with Enron’s success, but now it was super involved and started to conduct hearings. 

    1. In one hearing Skilling invokes the 5th Amendment and refuses to testify. 

16. Now we turn our attention to auditing and accounting firm Arthur Andersen. 

    1. Around October and November of 2001, Arthur Andersen started to shred every single record it had with Enron, especially the juicy parts about all the corrupt deals and shady practices. 

    2. Arthur Andersen destroyed thousands of pounds of paper records and wiped out thousands of hard drives full of Enron data. 

    3. But it was too little too late. Federal agents raided Arthur Andersen and found enough information to thoroughly incriminate the accounting firm. 

    4. Between October and November of 2001, FBI agents raided Enron’s 50 story headquarters and for 9 days pulled out 400 boxes of details surrounding all the chicanery Enron was up to which closely tied them to Arthur Andersen. 

    5. In January of 2002, Arthur Anderson was convicted of obstruction of justice and it was required to surrender its CPA license.

       1. This resulted in over 85,000 employees losing their jobs even if they had nothing to do with the Enron case. 

       2. This is what is so frustrating about this whole dumpster fire. It’s the hundred+ thousands of innocent hardworking people that felt that they were a part of the future of commerce who literally lost everything including retirements. Some folks had been around for over 20 years and were getting close to retirement and now they would have to work for the rest of their lives just to make ends meet. 

17. October 31st, 2003 roles around:

    1. Andy Fastow is indicted on 78 counts of fraudulent conduct

    2. On May 1, 2003, Lea Fastow (Andy Fastow’s wife) was charged with conspiracy and tax evasion. 

18. January 14th, 2004: Andy Fastow enters into a plea agreement and promises to cooperate in the prosecution of other Enron executives. 

    1. This would result in Skilling and Lay getting into serious trouble…

19. February 18th, Jeff Skilling is indicted on 35 counts of fraud, insider trading, and conspiracy

20. July 7th, Ken lay is indicted on 11 counts of wire fraud, securities fraud, bank fraud, and conspiracy and the next day he surrenders himself to the FBI. 

21. This would begin the trial of the century!

Part 6. The Aftermath

1. May 25th, 2006 Ken Lay is convicted on all 6 counts of fraud. Shortly before he was to be sentenced (he was potentially up for 44 years in prison) Lay was staying in a cabin with his wife where he had a massive heart attack and died. He was 64 years old.

2. September 26th, 2006, Andy Fastow was sentenced to 6 years in federal prison followed by 2 years of probation. Fastow was released in 2011 and does public speaking on business ethics and principals to corporate executives, auditors and law students in grey area decisions. 

3. May 25th, 2006 Jeff Skilling was convicted of 19 of 28 counts filed against him. He is sentenced to 24 years in prison and a $45 million fine. He ultimately served 12 years and is currently free today.  Today he keeps a low profile but has been trying to get another company off the ground called Veld LLC. He has been reported to reach out to former Enron employees to get back into the natural gas and electricity business. Technically speaking, he can’t be an officer at another publicly traded company, however, he can do as he pleases if it is privately owned. So who knows how this will turn out.

Sources

https://famous-trials.com/enron/1789-chronology

https://www.tshaonline.org/handbook/entries/enron-corporation

https://liheapch.acf.gov/dereg/gasoview.htm

https://www.britannica.com/event/Enron-scandal

https://www.fbi.gov/history/famous-cases/enron

https://www.bccpa.ca/news-events/cpabc-newsroom/2022/march/twenty-years-later-lessons-from-enron/.

https://www.investopedia.com/articles/financial-theory/11/how-an-ipo-is-valued.asp

https://www.investopedia.com/updates/enron-scandal-summary/