Posted on 12/01/2002 3:37:18 AM PST by snopercod
THE PROBLEM: Enron's collapse raised alarms about the reliability of audits. Enron auditor Arthur Andersen failed to stop the company from improperly accounting for off-balance-sheet "special purpose entities." Revelations about those entities prompted the company to restate earnings and sent Enron spinning toward bankruptcy. Questions also have been raised about Enron's use of "mark-to-market" accounting, which allowed the company to book all the projected earnings of a multiyear deal in one quarter. Companies also have played games with financial derivatives, inflating their value to pump up quarterly statements. Critics also say accounting firms are too dependent on consulting fees to challenge questionable accounting decisions.
THE IMPACT: By convicting Andersen of obstruction of justice, prosecutors have reduced the Big Five accounting firms to the Final Four. Congress has barred accounting firms from providing certain consulting services to companies they audit. It also created an accounting oversight board, armed with subpoena power. But the first chairman, William Webster, former head of the FBI, resigned after it was revealed he served on the audit committee of a company being investigated for fraud. The uproar also brought down Securities and Exchange Commission Chairman Harvey Pitt. The SEC now requires top executives to personally certify all financial reports, on pain of perjury, and has proposed new rules forcing companies to disclose details about off-balance-sheet partnerships. The Financial Accounting Standards Board, meanwhile, has rescinded a four-year-old rule allowing companies to use mark-to-market accounting to book profits from energy-supply contracts. Financial derivatives must now be recorded as assets or liabilities and changes in their value must be reported in earnings.
THE PROBLEM: Enron retirement accounts were ravaged by the company's collapse. More than half the assets in the 401(k) plan were in Enron stock because the company matched employees' cash contributions with its own shares, which could not be sold until a worker reached age 50. When Enron filed for bankruptcy, those shares became virtually worthless. Enron employees and retirees also were barred from selling any retirement-plan shares during a blackout period when Enron was changing plan administrators. Company executives were likewise blocked from divesting Enron stock in the plan. But they could, and did, sell Enron shares awarded through stock options.
THE IMPACT: Not much, yet. The Republican-led House approved a bill to require employers who match 401(k) contributions with company stock to allow employees to trade those shares for a comparable investment in a mutual fund. The Senate took no similar action. Congress did approve a law that bars corporate insiders from selling any company shares during a blackout period of more than three business days. The Securities and Exchange Commission is considering making that rule even more restrictive. Lawmakers also approved a measure forcing employers to give 401(k) plan participants 30 days notice before the start of any blackout period -- a test Enron would have passed.
THE PROBLEM: Critics say boards of directors are too cozy with management. Former Enron Chief Executive Officer Ken Lay once said a board should give "a lot of really good advice, but not too much." His directors sported glittering academic, government and business credentials. But instead of exercising rigorous oversight, the board -- especially its audit committee -- repeatedly rubber-stamped questionable financial and ethical decisions. Among the worst was allowing Chief Financial Officer Andrew Fastow to manage off-the-books partnerships that negotiated contracts with Enron itself.
THE IMPACT: The New York Stock Exchange has proposed a rule requiring that outside directors -- board members not otherwise affiliated with the company -- hold a majority of board seats. The key committees of audit, compensation, and nominating/corporate governance would have to be made up exclusively of outside directors. But critics note that Enron's former board had a majority of outside directors. A survey of the top 200 companies found that the average director makes nearly $139,000 a year for serving on a board, prompting Leo Strine Jr., vice chancellor of the Delaware Court of Chancery, to ask whether a director could ever be truly independent. Companies complain in the wake of the Enron scandal that they are having trouble attracting qualified directors because of liability concerns.
THE PROBLEM: Most of Wall Street's stock research is done by analysts employed by large brokerage firms. Such firms can coax or coerce analysts into touting a stock so they can reap hefty investment banking fees from the flattered company. Wall Street analysts didn't challenge Enron's finances and continually rated its stock a "buy." Houston-based energy analyst John Olson says he was "restructured" out of a job for refusing to upgrade his rating on Enron. And Enron was not unique. New York Attorney General Eliot Spitzer released e-mails from Merrill Lynch & Co. analysts belittling Internet stocks they had publicly lauded. Now Spitzer's office is investigating whether Citigroup telecommunications analyst Jack Grubman changed his rating on AT&T in exchange for investment banking fees and two coveted slots at a Manhattan nursery school.
THE IMPACT: To get Spitzer off its back and buff its begrimed image, Merrill Lynch agreed to pay a $100 million fine and change the way it pays its analysts. Citigroup, also under fire, plans to create a new unit for analysis and brokerage that would operate independently of its investment banking business. Unpersuaded, Spitzer and the SEC have proposed that large investment firms pony up millions of dollars a year, to be distributed among independent research firms. The large brokerage firms would then give investors the research generated by those independent firms, along with their own. While those firms already under fire are going along, others are crying foul, arguing the proposal is unworkable. Broker Charles Schwab described it as "ludicrous." No final rule will emerge until Pitt is replaced at the SEC, if then.
THE PROBLEM: Credit rating agencies blew it on Enron. The supposed watchdogs of lending risk failed to see that Enron had $4 billion in debt coming due. They were unaware some of its debt had a "trigger" that forced Enron to repay $690 million in debt when the company's stock and credit rating dropped simultaneously to certain levels (which they did). Reluctant to downgrade Enron's rating for fear of pushing the company over the edge, Standard & Poor's and Moody's Investors Services didn't cut its rating to junk status until four days before Enron went belly-up. And Enron may not have been an anomaly. A study by Moody's found that 88 percent of all companies surveyed had some kind of debt trigger, although less than a quarter of them actually disclosed that fact to investors. S&P, in a survey of 1,000 companies in the United States and Europe, identified 15 U.S firms saddled with what it called "credit cliffs," provisions so onerous they could sink a company if triggered. Five of those companies -- Dynegy, Halliburton, Petroleum Geo-Services, Reliant Resources and Williams Cos. -- are based or have a sizable presence in Houston.
THE IMPACT: The agencies are now cracking down on energy trading companies, so much so that that critics say they have all but eviscerated the industry. S&P alone has hit energy merchants with 78 downgrades in six months. Dynegy, El Paso Corp. and Halliburton, among others, have all moved to refinance their debt to remove triggers embedded in their loan agreements. All told, energy trading firms are trying to refinance $90 billion worth of debt, making this what S&P calls "one of the worst times in recent history to refinance." And now, after getting tough, do the credit rating agencies really have a better handle on credit risk? According to a recent survey by the Association for Financial Professionals, 29 percent of the executives polled believe their own firms' credit ratings are inaccurate and 40 percent say they're out of date.
THE PROBLEM: Enron cut ethical corners every imaginable way, but the federal government has no way to require companies to have a moral compass. The Ethics Officer Association was formed to help companies figure out ways to root out internal problems and alert top management to potential wrongdoing. (Enron was never a member.) Many such programs looked good but proved ineffectual. Some of the best were launched by companies struggling to live down their own scandals, including Houston-based trash hauler Waste Management. Arthur Andersen, Enron's disgraced former auditor, had a thriving consulting business teaching companies how to set up ethics-compliance offices. Andersen, however, did not have one of its own.
THE IMPACT: Investors remain wary of Houston firms. "The perception outside of Texas is that every company in Houston is run by a crook," said Halliburton Chief Executive Officer David Lesar. To help reassure investors, the New York Stock Exchange has proposed a rule requiring listed companies to have an ethics program. More than 100 new members have joined the Ethics Officer Association, including scandal-plagued WorldCom and Tyco. Employee hot lines having proved ineffectual, new strategies call for ethics "guidance" lines, which workers are more likely to use before a situation becomes dire.
THE PROBLEM: Enron was at the forefront of the political fight to open electricity markets to competition. But when California suffered rolling blackouts and rocketing electricity bills, state officials immediately began pointing fingers at Enron and other Texas energy companies. Initially, those allegations seemed little more than political posturing. But Enron later revealed a series of trading strategies had been used to take advantage of gaps in California's deregulation regime. In October, the former head of Enron's western power desk pleaded guilty to conspiracy to commit wire fraud. Other energy traders have admitted to participating in sham "wash trades" to drive up their trading volume.
THE IMPACT: Opponents of deregulation in California and elsewhere have tried to use the Enron example to slow deregulation, but it still has powerful support. Federal Energy Regulatory Commission Chairman Pat Wood III, a former Texas energy regulator, continues to push for electricity deregulation. The FERC has drawn up a "standard market design plan" designed to allow states to deregulate wholesale power markets while avoiding the pitfalls of the California fiasco. Regulators have included in that plan safeguards they hope will protect against further Enronesque behavior. California officials remain skeptical.
It still remains to be seen if taking advantage of loopholes in a poorly-planned government scheme is a crime.
Maybe there is hope! Thank you for sharing this.
Curious that it was unsigned...
Enron's legacy: massive change - Reformers' ideas lauded, loathed
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