GR7 TobiasPavel MyleneEncontro ENRON

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The Enron scandal

Tobias Pavel
Mylene Encontro

910422
850224

Chalmers University of Technology
Finacial Risk, MVE220
Examiner: Holger Rootzén
2012-12-02 Göteborg

 

This report has been written and analyzed by both group members jointly.

Abstract
From the 1990's until the fall of 2001, Enron was famous throughout the business world and was known as an innovator, technology powerhouse, and a corporation with no fear. The sudden fall of Enron in the end of 2001 shattered not just the business world but also the lives of their employees and the people who believed that their soar to greatness was genuine. Their collapse was followed by a series of revelations on how they manipulated their success.

Introduction
Enron shocked the world from being “America’s most innovative company” to America's biggest corporate bankruptcy at its time. At its peak, Enron was America's seventh largest corporation. Enron gave the illusion that it was a steady company with good revenue but that was not the case, a large part of Enron’s profits were made of paper. This was made possible by masterfully designed accounting and morally questionable acts by traders and executives. Deep debt and surfacing information about hiding losses gave the company big problems and in the late 2001 Enron declared bankruptcy under Chapter 11 of the United States Bankruptcy Code.

Many factors affected Enron's surge to the top and its sudden fall. In this report we will discuss and present what we think were the main reasons of their rise and fall.

 

Enron’s surge to the top
From energy to trading
Kenneth Lay was one of the key spokesmen when it came to deregulation of the energy market, much because of his personal connection to the Bush family. In the early 1990's the United States congress approved a legislation that deregulated the sale of natural gas. Not long before this Lay was one of the initiators that made it possible to sell electricity on the free market. This major deregulation in the energy market gave Enron the opportunity to sell their energy at higher prices, which equivalently lead to greater revenue. This was the start of Enron's journey from an energy company to a trading company. The focus went from energy markets to finding new ways of earning money. Large investments were made around the world to expand its business and open itself for new markets. Enron was named America’s most innovative company six years in a row by Fortune's Most Admired Companies survey. This made the company attractive for top graduates out of the best universities across America, which gave the company more competence and a big urge to strive forward. The strive forward was the same as the aim to increase the stock price. Enron employees were partly paid in stocks so increasing the stock price became a main interest.

Mark-to-market Accounting
In 1990, Jeffery Skilling joined Enron Corporation and in 1997, he was appointed as the company's Chief Executive Officer. Skilling demanded to change Enron's accounting system from a straightforward kind of accounting were Enron had listed actual revenue and costs of supplying and selling gas to the mark-to-market accounting system. The mark-to-market method requires estimations of future incomes when a long-term contract is signed. These estimations were based on the future net value of the cash flow, costs related to the contract were often hard to predict. This means that the estimated income from projects were included

in Enron's accounting even though the money was not yet received and if there were any changes such as additional income or loss it would show up in subsequent periods. Investors were given misleading information because of the deviation in the estimations. Enron was the first non-financial company to use the mark-to-market method. The U.S. Securities and Exchange Commission gave Enron their approval to use the method on January 30,1992. (The smartest guy in the...
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