Corporate Governance Failure at Enron

Corporate Governance Failure at Enron

There are many factors that contributed to Enron’s downfall such as the role of top management, excessive risk taking to gain profits, the HR policies that encouraged cut-throat competition, the neglect on behalf of external auditors etc.

Arthur Andersen

The external auditors for any firm are supposed to work in the best interest of the shareholders by providing them with the most accurate of information. Arthur Andersen, Enron’s external auditor, failed in this regard.

Perhaps, one of the most important aspects of the fraud of Enron was the adoption of Mark-To-Market method of accounting. It allowed Enron to book profits for transactions based on a future estimated value, when in reality; the actual cash flows from the operations were minimal. When the market conditions reversed, Enron was supposed to mark down the losses, but either hid, ignored or delayed the losses.

In order to adjust the losses suggested above, Enron created Special Purpose Entities (SPEs), based on the recommendation of their CFO, Andy Fastow, who was later used as a scapegoat by the Chairman Ken Lay and ex-CEO Jeff Skilling. Andy Fastow had ownership in many of such SPEs most notably LMJ, Chewco and Raptors. Board of Directors at Enron exempted Fastow from the company’s conflict of interest’s policy. In effect, the CFO was acting both as seller and a buyer in the same transaction. Arthur Andersen, being the external auditor, was responsible to seek clarifications about such transactions but failed to do so.

As the fraud surfaced and Enron declared bankruptcy, Arthur Andersen shredded one tonne of documents containing information related to Enron. Arthur Andersen was aware that those documents could be used as evidence in the investigation by the SEC. They were charged with the conviction of ‘obstruction of justice’ for not supporting the investigation process.

Ken Lay & Jeff Skilling

The two principal architects of the fraud at Enron, Ken Lay and...