Case

Unethical Leadership at Enron

Enron was an energy and communications company that grew rapidly after the 1988 deregulation of the energy markets in the United States. Early in 2001, the company employed around 22,000 people, and at that time Kenneth Lay was the Chairman of the Board and the CEO was Jeffrey Skilling. Fortune magazine named Enron Americas Most Innovative Company for 6 consecutive years from 1996 to 2001. The company was on Fortunes list of 100 best companies to work for in America for the year 2000, and it was widely praised for having good benefits and for effective management. However, the public image of benevolence and effective management was false, and the company was not as successful as it appeared.

With the help of their accountants and attorneys, top executives created subsidiaries that looked like partnerships and made it possible to sell assets and create false earnings. Offshore entities were used to avoid taxes, inflate assets and profits, and hide losses. Risky new ventures were initiated, such as EnronOnline, a web-based service for buying, selling, and trading energy contracts. Conflict-of-interest rules were relaxed to allow executives to benefit personally from questionable ventures that in most cases were a drain on company funds and resulted in losses. Contorted financial deceptions were used to hide losses and create the illusion of billions in profits. This practice drove up the price of Enron stock to new levels, and in August of 2000, the stock reached its highest value of $90.

Unethical practices were not limited to top executives, and the company culture of individualism, innovation, and unrestrained pursuit of profits eroded the ethical behavior of many Enron employees. In one scheme used to increase profits, energy was transferred out of California to create blackouts and increase the price of electricity. Then the energy was transferred back to California and sold at higher prices, generating billions of dollars in extra profits. Under Skilling, Enron began using an accounting practice in which anticipated future revenues from any deal were counted as actual earnings in the current reporting period. To attain unrealistic profit objectives and increase their bonuses, employees were encouraged to exaggerate estimated future profits from sales. Employees involved in arranging sales were pressured to out-perform each other wherever possible. Each year 15 to 20% of the employees with the lowest performance were fired and replaced by new employees. Anyone who questioned the unethical practices or conflict of interests at Enron was fired, reassigned, or passed over for promotion.

Top executives at Enron who knew about the financial deceptions and growing losses began selling millions of dollars worth of their own company stock. At the same time, they told the investors and employees to buy the stock because it would continue to climb much higher. As executives sold their shares, the price began to drop, but Kenneth Lay made appearances to calm investors and assure them that Enron was headed in the right direction. Skilling resigned in August of 2001 for personal reasons and was allowed to sell significant amounts of stock at a premium price. He was replaced as CEO by Kenneth Lay, who promised the public there were no hidden problems at Enron. By August 15, 2001, the stock price was down to $15, but many investors still trusted Lay and continued to hold their stock or buy more of it. The final plunge in stock values occurred after the discovery that Enrons recorded assets and profits were inflated and the companys debts and losses were not being reported accurately. At that point some executives attempted to cover up their unethical actions by destroying records that could be used as evidence against them, and they attempted to shift the blame for the problems to others.

Enron filed for bankruptcy in December, 2001. It was the biggest and most complex bankruptcy case in U.S. history, and it had a devastating effect on thousands of employees and investors. The scandal also caused the dissolution of Arthur Andersen, one of the largest accounting firms at the time, after employees of the firm were discovered to have destroyed documents concerning the auditing of Enron finances. Andersen was supposedly serving as an independent auditor of Enron finances while at the same time charging millions of dollars in fees as a management consultant. This conflict of interest could explain why Enrons financial deceptions were not revealed by Andersen audits.

Questions

1. How can the theories in this chapter be used to explain the unethical practices at Enron?

2. What can be done to reduce this type of unethical leadership in the future?