Enron, once one of the largest energy public companies globally, achieved a $65 billion asset volume but only took 24 days to go bankrupt. Initially, its main service is extracting natural gas and manufacturing energy-using products, but the excessively aggressive and benefit-oriented type of operation makes the company create lots of so-called “innovative” investment department and financial products. All these activities played as the foundation of its bankruptcy.
Suddenly, all previous glory and pride fell to the ground tragically, and private and institutional investors lost more than 90% of their investment, and innumerable other business partners and stakeholders were drawn into the deceitful dealings, which seemed never to end. After a long period of federal investigation, the public finally found out the inevitable factors hidden behind the accidental factors from this, one of the world’s largest business scandal. Superficially, Enron had already met or exceeded most governance standards, such as diversified functions of the board of directors, independent compensation and audit committees, etc. Krishna Palepu, Paul. M Haley. The Fall of Enron)
However, superficial prosperity offered sufficient opportunities for the management to reap private benefits; because of Enron’s complex reporting and accounting methods, outsiders were never able to detect this. It’s reasonable for anyone to condemn the inappropriate ethical leadership of Enron’s board, but changing the ethics of business behavior and the “sociology” of the boardroom cannot be accomplished through structural changes alone. De Kluyver, Page 73) Culture, supervision, and participation: all of these should be the software to catalyze ethical leadership, sound practical execution, and the company’s sustainable development. To some extent, before figuring out the real purpose, employees and stakeholders were proud of having such a talented CEO and CFO as Jeffery Skilling and Andrew Fastow, It was unusual for a traditional energy company to invent so many innovative financial products and services and fancy business models.
After the legal investigation, the Senate found that Skilling had used accounting loopholes (Mark-to-market accounting), special purpose entities, and poor financial reportings to hide billions of debt, which allowed Enron to sustain a mechanical enlargement of its business scale for more than 10 years. Fastow, Enron’s financial management expert and CFO, created off-balance-sheet vehicles, complex financing structures that few people could understand, misleading members on the board, and particularly on the audit committee. the Senate report indicates that the audit committee knew what was going on] These two key decision maker instigated the most immoral business shell games, which caused longstanding negative impacts of all internal and external stakeholders, such as employees, investors, partners, community, country, etc. Nevertheless, I believe that if Enron had had positive morale and a productive supervision mechanism, it would not have been so easy to incubate the so much greed and deception.
According to my personal perspective, I consider two main reasons which are relevant to culture leaded Enron to ruin gradually in about ten years. The first one is centralization. Complicated internal company structure confused all stakeholders superficially, but the essence of Enron’s model was to help cover up insider trading, derail external investigations, and defraud shareholders to guarantee existing benefits for the management. Three key executives– Kenneth Lay, Jeffery Skilling, Andrew Fastow–, controlled almost all business relations with partners and power of decisions.
These key decision makers not only overly mastered all imperative resources in Enron, but also had unexpected authority to collude with the auditing firm (Arthur Anderson) and investment organizations. “If you want to be the most popular guy on the wall street, you’re gonna do ever you had done with Enron” (Gibney, A. Enron: The Smartest Guys in the Room). This unethical thought was fashionable during that period, that could be a direct evidence of collusion between the management and so-called impartial third parties. Another huge reason is benefit-oriented.
As Hamilton writes, Enron sought to translate any deal into a mathematical formula that could be traded or sold on (Hamilton. S, Case Study, Page 14). was the visualized point to illustrate management’s greedy ideas at Enron. To many superior financial products and type of services were invented and introduced into the daily operation in an Energy company. These creative services which were unrelated to its main services, such as wholesale trading, futures trading, and investment banking offered numerous ways to build up the foundation of the greedy empire.
Also, the management’s working style and thoughts deeply influenced employees, such as traders and managers, who solely pursue for high return but never foresee the big picture of country and community. The consequence is to raise the price of electricity in California for futures trading, Enron shut down power plants subjectively and never ethically thought about local residents’ normal life. Traders soon discovered, by shutting down power plants, that they could create artificial shortage that would push prices even higher. Gibney, A. Enron: The Smartest Guys in the Room). Apparently, if negative features infected most employees and managers through all important departments in Enron, the bankruptcy of the company seemed that rational. Invalid internal and external governance certainly were responsible for the immense negative social and industrial impacts of Enron’s collapse. A firm needs to create appropriate linkages of information, incentives, and governance between managers and investors.
This process is supposed to be carried out through a network of intermediaries that include assurance professionals such as external auditors; and internal governance agents such as corporate boards. (Krishna Palepu, Paul. M Haley. The Fall of Enron). Obviously, the essential linkages were totally dysfunctional obviously in the whole Enron’s ecosystem including all relevant stakeholders. Internally, the management centralized all main powers and persuaded other members on the boards or managers to join the benefit chain.
Externally, the third party auditing firm was mainly controlled and colluded with by Enron’s management because it had a sustainable partnership with its largest client and a steady revenue inflow. So, the auditing firm didn’t persist in establishing its independent credibility and pursuing justice to evaluate the real financial condition of Enron but became to be the conspirator to help Enron seek profits from other stakeholders. Apparently, Enron’s cheating game only benefited a small number of of beneficiaries, the most of stakeholders afforded the huge cost of Enron’s bankruptcy.
During the long process facing ruin, Enron itself and its stakeholders experienced multitudinous conflicts periodically. For Enron, it was an energy firm, which main service should be manufacturing natural gas and electricity. When Skilling brought out the idea of change the type of service and internal structures caused the extensive earthquake internally. But CEO’s thoughts and ideas were sound like bible at that period, trading, risk management, and investment banking divisions were set up immediately.
For sustaining high rating and gorgeous financial performance, Enron used lots of methods to cover its large irreversible debt. Setting up special purpose entities globally to peel non-performing assets and unhealthy debt from the parent firm, using non-transparent financial statement to shareholders and analyst, building extremely complicated business model that no one can understand, deceiving shareholders by offering fake formal information. Meanwhile, due to brilliant revenue and performance facially, Enron served as the model of energy industry previously.
Enron elected to report the entire value of its trader as value trading revenue accounting approach, which was popularly accepted and used by other energy firms. The industrial and business order was deeply interrupted by Enron’s unethical behaviors. For investors, employees, and shareholders, they only had a limited return in lawsuits. Who would compensate their belief of Enron? No one knows. Enron’s scandal was worth thinking about the reason, and it also gave the public companies one opportunity to inspect their own financial condition and remedy internal management problems.
The Enron scandal partly led to the passage of the Sarbanes-Oxley Act on July 30, 2002. The Act is nearly “a mirror image of Enron: the company’s perceived corporate governance failings are matched virtually point for point in the principal provisions of the Act”. The Public Company Accounting Oversight Board (PCAOB) needed to exist in each public company to guarantee the non-existence of fraud and shield of real financial performance without manipulation. Auditors from auditing firm should sustain their credibility and independence when evaluating and investigating company’s financial statements.
In addition, the Act emphasizes the need to control conflicts of interests to prevent insider trading and other illegal financial activities that destroyed business orders and investment principles. Furthermore, Independence of imperative stakeholders for one public company needed to be completely independent. The independence of the Enron Board of Directors was compromised by financial ties between the company and certain Board members. (US Senate: Senate Report: The Role of The Board of Directors in Enron’s Collapse).
For Enron’s problem, the Board also failed to ensure the independence of the company’s auditor, allowing Andersen to provide internal audit and consulting services while serving as Enron’s outside auditor. In sum, culture, morale, mechanism are indispensable foundation of the ethical leadership from the sustainable development perspective. On the other side, internal and external legislation can well implement the execution of ethical leadership and make it into a practical one. Reference De Kluyer, C. A. (2009). A primer on corporate governance. New York: Business Primer Press. Page 73. U. S.
Senate, Permanent Subcommittee on Investigations (2002, July 8). Senate Report: The Role of The Board of Directors in Enron’s Collapse. 107th Congress, 2d session. Page 6. Gibney, A. (2005). Enron: The Smartest Guys in the Room. New York, NY: Magnolia Pictures Hamilton, S. (2003). Case study: The Enron collapse. In Ethical issues in business: A philosophical approach, 8th ed.. Edited by Thomas Donaldson and Patricia Werhane. Upper Saddle River, NJ: Pearson/ Prentice Hall. Page 14. Palepu, K. , & Haley, P. (2003). The Fall of Enron. Harvard Business School; National Bureau of Economic Research (NBER).