The_Arthur_Anderson_and_Enron_Scandals

The Enron and WorldCom Scandals Enron 1.Which segment of its operations got Enron into difficulties' SPE’s , These are Special Purpose Entities. “A special purpose entity, or SPE, is an entity created solely to carry out an activity or series of transactions directly related to a specific purpose. An SPE may take the legal form of a corporation, a partnership, a limited liability company, or even a trust. Typically, an SPE is created for one purpose, usually with little or no other activity and usually benefiting only one company.” (For the Record, 2001) 3. Did Enron’s directors understand how profits were being made in this segment' Why or why not' It would appear that the board of directors knew what was going on as they allowed Enron to “engage in high risk accounting, inappropriate conflict of interest transactions, extensive undisclosed off-the-books activities, and excessive executive compensation.” (Brooks, 2007) “Enron's board of directors is in a tight spot. Like Lay, the directors blessed or signed off on practically all of the company's controversial accounting practices. It waived the company's code of ethics in 1999 to allow Fastow to manage some of the partnerships. Not surprisingly, the Powers Report, commissioned by the board, provides some cover: It blames Enron managers for hiding key facts about some of the limited partnerships from the board.” (Greg Farrell, Jayne O'Donnell, 2002) 5. Ken Lay was the chair of the board and the CEO for much of the time. How did this probably contribute to the lack of proper governance' governance - the act of governing; exercising authority; Definition from http://www.thefreedictionary.com/governance Ken Lay allowed somewhat of a high-risk, free-wheeling environment. “…believed that if Enron's employees were constantly cost-centered, it would hinder original thinking. As a result, extravagant spending was rampant throughout the company, especially among the executives. Employees had large expense accounts and many executives were paid sometimes twice as much as competitors. In 1998, the top 200 highest-paid employees earned $193 million from salaries, bonuses, and stock. Two years later, the figure jumped to $1.4 billion.” (McLean, Bethany; Peter Elkind, 2003) 6. What aspects of the Enron governance system failed to work properly, and why' Initially, I would have to say their accounting system. It seemed that it was not providing a real clear picture as to what was going on to those that mattered. For the most part, it seems that this was intentional. Although on the part of Athur Andersen, some of their part may have been stupidity and incompetency. 9. Identify conflicts of interests in: • SPE activities “Many of the schemes used by Fastow to mislead investors and strip money out of Enron relied upon the participation of large financial institutions like Barclays Bank in the Rhythms hedge transaction. Many bank personnel knew that the deals they were being called to finance were not serving a wholesome economic purpose. They knew that bank funds were being passed through to finance Enron in off-balance sheet schemes that would mislead investors. Enron’s banks were knowledgeable accomplices— aiding and abetting—in the schemes to defraud Enron’s investors, and have since faced sanctions and lawsuits from the SEC, the State of New York and others.” (Brooks, 2007) • Arthur Andersen’s activities “The once-proud firm that defined the standard for integrity occupied the following roles with regard to Enron: • Auditor • Consultant on accounting and other matters, including SPE transactions • Internal auditor, since this function was contracted out by Enron to AA • Advisor on tax matters • Advisor, reviewer of financial disclosure For the year 2000, AA is said to have received fees of approximately $52 million: $25 million for audit work and $27 million for other services.” (Brooks, 2007) Clearly Enron was one of their biggest clients. Revenue is KING and appeared to win out! • Executive activities “One of the unexplained Enron conundrums is why the following men who occupied senior positions at Enron, all of whom had continuous interaction withboard members, apparently did not come forward with concerns: • Richard Causey, Chief Accounting Officer • Richard Buy, Chief Risk Officer • Ben Glisan, Treasurer and senior accountant Why weren’t they loyal agents of Enron' Perhaps they were just too anxious to keep Andrew Fastow happy. Perhaps their lack of loyalty had something to do with the desire to please Fastow and Lay, who had a significant influence over Enron’s stock option incentive plan. It was a particularly lucrative plan..” (Brooks, 2007) WorldCom 1.Describe the mechanisms that WorldCom’s management used to transfer profit from other time periods to inflate the current period. “First, WorldCom improperly released certain reserves held against operating expenses. Second, WorldCom improperly recharacterized certain operating costs as capital assets. Neither practice was in conformity with generally accepted accounting principles (“GAAP”). Neither practice was disclosed to WorldCom’s investors, despite the fact that both practices constituted changes from WorldCom’s previous accounting practices. Both practices artificially and materially inflated the income WorldCom reported to the public in its financial statements from 1999 through the first quarter of 2002.” (Brooks, 2007) 3. How should WorldCom’s board of directors have prevented the manipulations that management used' They could have prevented some of the manipulations by being more effective at what they were supposed to do and also by being more aware. But possibly, they weren’t being given the true story to begin with and therefore didn’t see a need to intervene until it was too late. “The Board of Directors does not appear to have known of the fraud, nor did it receive information we believe should have put it on notice. However, the Board was so passive and reliant on Ebbers and Sullivan that it had little opportunity to learn of the fraud.” (Beresford, March 31, 2003) 4. Bernie Ebbers was not an accountant, so he needed the cooperation of accountants to make his manipulations work. Why did WorldCom’s accountants go along' Most likely, for 2 reasons. First, being the amount of stock owned by some, and second, fear. “Ebbers had been allocated exercisable stock options on 8,616.365 shares and Sullivan on 2,811,927. In order to capitalize on the options, Ebbers and Sullivan (and other senior employees) needed the stock price to rise.” (Brooks, 2007) This is a pretty good incentive to want to keeps things going for as long as possible. The fear of losing a job, especially one that may be paying a huge yearly salary, is enough incentive for many to overlook certain situations. 5. Why would a board of directors approve giving its Chair and CEO loans of over $408 million' The loans that were given to Bernie Ebbers and WorldCom were supposed to go to purchase World Com stock or to use for margin calls as the stock price of WorldCom. The intent was most probably to help the company stay in business. It was not supposed to be used by Ebbers to purchase “personal items.” Student Note After reading this chapter and researching some of the answers to the questions, it is obvious to me that this is an extremely complicated, confusing, and difficult case. Anyone trying to figure all of this out and how and why and what happened had to be shaking their heads and pulling their hair out. It is truly just an unbelievable sequence of events.