Enron Scandal
Module Title & Code: Finance & Accounting for Business (BUS7C2)
Student Name: Parvinder Singh
Table of Contents
Introduction................................................................................................................................3
Background of Enron Scandal...................................................................................................3
Auditing Irregularities................................................................................................................5
Lessons Learnt from Scandal.....................................................................................................7
Conclusion..................................................................................................................................8
References................................................................................................................................10
Introduction
Enron went into biggest corporate bankruptcy in America which was once lauded as most
innovative company in the United States of America. The bankruptcy was caused by
accounting scandal in the company. Accounting scandal is caused due to irregularities in the
financial statements of the company. The irregularities are caused by decreasing the liabilities
and inflating the revenue of the company. All such activities are performed to attract
investors and creditors from the market as they make positive impact on them. In reality,
these activities negatively affect the company, investors and creditors when the scandal is
uncovered and investigation is launched. It leads to higher loss of investor and creditor
money in the economy. Enron scandal one such biggest fraud which led Enron to bankruptcy
in the future as they tried to give positive impression to public and its competitors in the
market. They showed profits of the company are highly growing but it was just on paper and
not in reality. Unethical practices were adopted by Enron which encouraged their managerial
position staff to perform certain activities and commit crime for doing this scandal. After the
happening of such frauds, economy of the company is negatively impacted as creditors,
investors and shareholders become disappointed and get into loss.
Background of Enron Scandal
Enron company was the result of merger of two natural gas transmission companies. These
companies were InterNorth, Inc and Houston natural Gas Corporation. Hence, Enron came
into existence in 1985 and it was founded by the Kenneth Lay (UkEssays, 2023). Initially, the
company was named as HNG InterNorth after the merger but then it was renamed as Enron in
the year of 1986. The company had seen rapid growth during the bull market of 1990 and the
company traded in various commodities which included coal, steel, paper and electricity. It
was even working for weather. Company also launched Enron Online which was one trading
division and it was conducting online trade which were worth $2.5 billion dollars per day.
Investments were also being made in establishing broadband telecommunications network so
that high-speed trading can be facilitated. However, Enron started facing more competition in
the business of energy-trading after the end of boom years (Bondarenko, 2024). Shareholders
created pressure on the company and the executives of the company adopted dubious
accounting practices. One such practice included “Mark-to-Marketing Accounting” in order
to conceal the troubles of the company. In the techniques, unrealized future gains were
written by the company in order to trade some contracts into current income statements. It
gave illusion of higher current profits of the company. There were so many troubled
operations of Enron which were transferred to Special Purpose Entities whose partnership is
limited which is created with external parties (UkEssays, 2023). Although there are so many
companies which distribute their assets into Special Purpose Entities but highly abused
practices were adopted by Enron for using Special Purpose Entities as it was used as dump
site for its troubled assets. Those assets which were transferred to SPEs were actually kept
away from the books of Enron which made its losses look less severe than reality. Some
SPEs were operated by Andrew Fastow who was the chief financial officer of the company.
Those time, Arthur Anderson was serving as auditor and consultant of the Enron.
Skilling became CEO of Enron in 2001 and Lay was Chairman. But Skilling resigned
abruptly in August and Lay became CEO. Anonymous memo was received by Lay from
Sherron Watkins who was the Vice President of Enron and was more worried about the
partnerships of Fastow and he had warned about frauds in accounting of Enron company
(UkEssays, 2023). When the financial statements of Enron were released publicly, the
situation started becoming apparent during mid-2001 as many analysts had started digging
the details of financial statement. Investors more highly shocked by Enron in October when
the company announced about posting $638 million loss for the 3rd quarter. The company was
about taking reduction of $1.2 billion of shareholder equity to Fastow’s partnerships.
Subsequently, United States Securities and Exchange Commission had started investigating
the transactions which were made between Fastow’s SPEs and the Enron Company (Jerotich,
2023). The details of the accounting fraud were uncovered and Enron collapsed. Fastow was
fired from the company and the share price of the company fell from $90 per share to $12 per
share. This disaster was being attempted to be avoided by the Enron as the company agreed
to be acquired by Dynegy. But Dynegy got off from the deal after some weeks. This news led
to dropping of the share price of Enron to $1 per share. In this situation, the 401(k) pensions
program which is a retirement saving program organized by employers but funded through
paycheck deductions of workers were taken down as it was tied to the stocks of the company.
Auditing Irregularities
The scandal in Enron company was exposed in November 2021 which led to downfall and
bankruptcy of the company and it also went down from the favourite of Wall Street. The
scandal came ahead from the analysts who were examining the Enron’s accounting
statements. Loss of $618 billion was declared by the Enron and there was $1.2 billion
reduction in the shareholder equity. It was revealed by Enron in November 2001 that earnings
of the company were inflated about $586 billion (Jerotich, 2023). Therefore, the stock price
of the company dropped from 90 dollar per share to 26 cent per share. It was the biggest
downfall in the share price of the Enron Company. There was a loss of $74 billion of shares
by the shareholders which created bankruptcy for the Enron company. Subsequently, New
York Securities Exchange had delisted the company from its list. Securities and Exchange
Commission started investigation into the transactions which were made in the financial
statements. Enron Task force including SEC, prosecutors, multi-agency and analysts started
deep investigation into the case. Criminal charges were registered against all of the
executives which were involved in fraud, insider trading, conspiracy, and obstruction of
justice (Jerotich, 2023). The major irregularities in the scandal were creation of Special
Purpose Entities which were utilized to conceal the debts of the company from its investors
and creditors. The company did not follow the GAAP standards and accounting standards
which led to fraudulent reporting practices in the finances. Next to it, indispensable role in
the downfall of the company was played by Mark-To-Market accounting technique.
Imaginary profits to the public were shown through the projected earnings from the
transactions of the company. The auditor of Enron, Arthur Anderson, started devising
complex financial transactions and structures after turning a blind eye in the company.
Certification under auditor reveals that all of the financial statements of the company are in
line with the Generally Accepted Accounting Principles (GAAP). It is not a question of
violations of GAAP rules, it questions that if corporations are allowed to play number games
under the incumbent accounting standards and if investors get to know about the risks from
the financial statements which do not have consistency and clarity (CRSWeb, 2004).
Financial Accounting Standards Board usually set the accounting standards for companies
and the requirements of the Securities and Exchange Board must be fulfilled. There was
unqualified opinion for the original audit of Enron company where the statements were made
by auditor about the financial statements to be true and fair which are prepared in lines of
GAAP rules. But actual errors which were later demonstrated had led to downfall of the
Enron company. Throughout the entire disclosure, there was lack of GAAP principles about
the financial statements of the company. While preparing and presenting the accounting
statements, the act of Enron corporation was not right because incompleteness had been
showing within the income statement and balance sheet of the company (Idowu, 2015). The
actual operations of the Enron were going on the basis of concern.
Lessons Learnt from Scandal
Enron scandal has taught a number of lessons which are related to the importance of the
corporate accountability and transparency. Dangers of hiding financial information were
exposed through the Enron scandal and it demonstrated how questionable accounting
practices were used to deceive the investors in the market.
The scandal showed that there must be honesty and integrity in the companies and its
executives. They must always be honest about the financial health of the company. If any
fraudulent activity come forward, they must always be held accountable for such activities
(Meagher, 2023). There were many poorly implemented internal controls and insufficient
vigilance through which the issue of frauded imploded. Corporations must ensure that there
must be proper review of the critical matters regarding finance by the audit and compliance
committees (Peregrine, 2021).
Necessary independence was actually lacked about recognizing the red flags which started
showing before them. But there were varied relationships with the leaderships of the
company which made them highly comfortable in believing what they were told about the
current situation of the company. It was difficult for them to realize the dangers of warning
signals which were generally caused by the conflicted transactions in the company. All these
red flags attracted the attention of media which led to downfall of the company in the future.
Another lesson which can be learnt from the Enron Scandal is the importance of protecting
shareholder value in the company. Executives of the Enron company enriched themselves
through insider trading and fraud at the expense of shareholder value of the company. Here
all companies are acquired to work and act for the best interests of their shareholders so that
long-term value can be prioritized over the short-term gains of the company or its executives.
The aggressive conduct of executives contributed towards downfall of the Enron as there was
absence of corporate culture of ethics and compliance. It showed that weak board oversight
practices can become the disaster for any company in long-term (Peregrine, 2021).
There is strong need of the rules, regulations and oversight of business world. There is
Sarbanes-Oxley Act and many other reforms which helped in improving the financial
reporting and corporate governance of the companies after the exposure of Enron scandal
(Meagher, 2023). However, improvements are required from time to time, and regulators and
lawmakers must be vigilant and aware to bring such laws which prevent corporate financial
scandals in the future.
Conclusion
In the conclusion, Enron worked as biggest giant whose executives worked hard and led to
global expansion of the company. They gained so much knowledge of its failings. These
executives had goal of creating an appealing image, great history. They wanted so great
reputation for the company that it attracts more investors from the market. The team of
executives not only changed the policy of doing business but also succeeded in building
outstanding reputation for the company in the business world. This reputation was so
outstanding that the annual turnover of the company went over $100 million and the stock
price of companies was between $80 and $100 per share. But its engagement in unethical
practices after the end of boom period led to commitment of some fraudulent activities. The
Enron started advocating the idea of Free market where the success of person is determined
by his wealth. When Enron collapsed, it was viewed as biggest corporate bankruptcy in the
United States which did not only hit US economy but also other economies of the world.
Resultantly, a number of its top executives were sent in prison. Enron Bankruptcy was largest
in the century but it happened due to its over actions which were accumulation of both
political and economic aspects.
References
Bondarenko, P., 2024. Enron Scandal. [Online]
Available at: https://www.britannica.com/event/Enron-scandal
CRSWeb, 2004. The Enron Collapse: An Overview of Financial Issues. CRS report for
Congress.
Idowu, S., 2015. Enron: How Arthur Andersen’s contributory negligence led to the biggest
corporate collapses in US history. [Online]
Available at: https://www.linkedin.com/pulse/enron-how-arthur-andersens-contributory-
negligence-led-idowu/
Jerotich, R., 2023. The Rise and Fall of Enron: A Tale of Corporate Greed and Corruption
that Collapsed an Empire. [Online]
Available at: https://www.linkedin.com/pulse/rise-fall-enron-tale-corporate-greed-corruption-
jerotich-cpa-fmva-/
Meagher, P., 2023. The Enron Scandal: A Comprehensive Overview. [Online]
Available at: https://www.learnsignal.com/blog/the-enron-scandal-overview/
Peregrine, M., 2021. Twenty Years Later: The Lasting Lessons of Enron. [Online]
Available at: https://corpgov.law.harvard.edu/2021/04/05/twenty-years-later-the-lasting-
lessons-of-enron/
UkEssays, 2023. Enron: The fall of a Corporate Giant. [Online]
Available at: https://www.ukessays.com/assignments/enron-the-fall-of-a-corporate-giant-
2021.php#:~:text=Its%20investors%20knew%20nothing%20of,Bankruptcy%20Code%20in
%20late%202001.
