The Enron's Ethics Breakdown

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executive action

no. 15

february 2002

The Enron Ethics Breakdown
By Ronald E. Berenbeim

It is perhaps the most compelling business ethics case in a generation—a textbook version of what can go wrong in an organization that lacks a true culture of ethical compliance. Investors and the media once considered Enron to be the company of the future, but as its demise suggests, it was in reality not a particularly modern business organization, especially in its approach to ethics. On the surface, at least, it appeared to reject progressive innovation in governance and ethics programs and instead sought to circumvent systems that were designed to protect the company and its shareholders. The purpose of this report is not to comment on the legal or political ramifications of the case but rather to focus on the business ethics issues raised by the conduct of the company’s directors and officers, its accountants, and lawyers as it is known to date. It is meant to be a reminder that simply having a detailed code of ethics on the books (as Enron certainly did) is not enough. Organizations need to infuse ethics and integrity throughout their corporate culture as well as into their definition of success.

After all, being ethically literate is not just about giving large sums of money to charity—something that Enron did. It is about recognizing and acting on potential ethical issues before they become legal problems. Here, Enron appears to get a failing grade. Now a detailed look into the ethics breakdown at Enron and what it can teach companies about the importance of developing an ethics-based corporate culture.

Failure of the Market to Perform and Professional Dilemmas
In reality, there is nothing wrong with markets failing to fulfill their task of leveling the playing field between buyer and seller. Such market failures are in fact how many organizations make their money—through patents (temporary monopolies) and the use of expertise that is not universally available (competitive advantage). Yet there are certain forms of this type of market failure that are so egregious that they unreasonably interfere with the rights of others and endanger the credibility of all legitimate transactions.

The most common form of market failure is information asymmetries—the business decision-maker knows something that the person at the other end of the transaction does not. Most of the time this is fine but there are circumstances where the unfairness of this asymmetry exceeds simple competitive advantage and is a threat to the rights of others and to the effective operation of the free market as a whole. This appears to be the case at Enron. Insider trading is one of the indefensible exploitations of information asymmetries. In due course, we will have a legal determination regarding whether or not Enron officers or directors engaged in this practice. But legal determinations aside, Enron officers should have been far more alert to the perception that they might benefit from exploitation of information asymmetry. Again ethical literacy is all about recognizing potential ethical issues before they become legal problems. And incidentally, since the U.S. Supreme Court’s Texas Gulf and Sulfur case in 1969 it has been unlawful for directors, as the Enron chairman was, who have inside price sensitive information to trade in that stock.

Truth and Disclosure
“Falsehood ceases to be falsehood, when the truth is not expected to be spoken”, wrote Henry Taylor, a 19th century statesman. It is recognized that a certain amount of puffing, exaggeration, and bluffing is part of the business game. But how much is too much? The “Taylor rule” certainly does not apply to audited financial statements, and it probably does not cover statements made to employees who were also concerned shareholders (according to media reports, 60 percent of employee 401(K) plans consisted of Enron stock). Were these statements false? It is a fact that the...
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