1 What Problems Did Enron EncounteredMany

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1. What problems did Enron encountered?

Many went sour in the early months of 2001 as Enron’s stock price and debt rating imploded because of loss of investor and creditor trust Methods the company used to disclose (or creatively obscure) it’s complicated financial dealings were erroneous and, in the view of some, downright deceptive The company’s lack of transparency in reporting its financial affairs, followed by financial restatements disclosing billions of dollars of omitted liabilities and losses, contributed to its demise

2. How did the management react?

Enron did not report debt on its balance sheet. Through collaboration with major banks, SPEs borrowed money, often with direct or indirect guarantees from Enron. The cash was used to benefit Enron, but was not necessarily transferred to Enron. Enron did not report debt on its financial reports. It did not disclose the contingent liability for the debt as required by GAAP. Various methods described next were used to transfer the cash and further manipulate financial reports.

Enron had investments in companies (which were not SPEs) that it consolidated or reported on the equity method. When the investments began to show losses, they were transferred to SPEs so Enron would not reflect the losses. Enron did not consolidate or report the SPEs on the equity method, and thus avoided reporting the loss. Often the “sale” of the investment to the SPE generated a reported gain, and a cash payment from the SPE to Enron to pay for the investment could be used to transfer borrowed cash. This process allowed Enron to manipulate its reported cash flow by disguising cash from borrowing as cash flow from sale of investments.

Enron sold services to SPEs for large amounts in order to inflate its sales revenue and income. Because Enron did not use the equity method of accounting, the cost to the SPE was not reflected by Enron. The cash payment from the SPE to Enron for the “services” could be borrowed cash....
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