1. Enron, USA The case of Enron, the Houston-based energy concern, has been widely reported and analyzed in the press given its dubious honor as one of the single largest bankruptcies in US corporate history. Although we will not go into extreme detail on the Enron case, there is much to draw on when considering aspects of flawed governance; indeed, the activities of Enron (and its auditor, Andersen) were catalysts in the creation and passage of protective legislation (such as the Sarbanes–Oxley Act). 
2. Enron was created in 1985 through the merger of natural gas pipeline companies in Nebraska and Texas; Lay assumed the role of chairperson and CEO, a position he held through most of the next 16 years until the company’s downfall in 2001. Although Enron remained focused on its core integrated gas delivery business for several years, it began refocusing its operations in the early 1990s: rather than delivering natural gas via pipeline, the company started matching buyers and sellers of gas, taking fees for intermediating. This model proved successful, and became the basis for future trading and risk management endeavors’. The process accelerated when Skilling, future president (and, for a time in 2001, CEO), joined from consultant McKinsey to implement greater strategic changes. Under Skilling’s direction, the company shed more of its physical properties, converting from an asset-intensive natural gas pipeline to an “asset-light,” supposedly market-savvy, “new economy” trader, resembling, in many ways, a Wall Street financial trading institution. As the US energy market deregulated and energy prices grew more volatile, Enron’s model appeared sound; revenues grew rapidly, and permitted expansion into new areas. During the boom years of the late 1990s, the company positioned itself as a trader of virtually any type of asset: pulp and paper, weather, commodities, credits, and so on. It also expanded into areas that it thought would benefit from rapid growth, including water (following deregulation measures), fiber optic capacity/Internet bandwidth and so on. These were capital-intensive businesses that were not, however, profitable; indeed, the company would ultimately lose an estimated US$7 billion on its ill-advised investments in bandwidth and water (as well as energy operations in Brazil and India). The board of directors appears to have supported management steadfastly in its efforts to sell physical assets and refocus on trading and “diversified investments.” Analysts and investors were positive about Enron and its prospects; quarter after quarter of improving EPS in the 1990s caused the stock price to increase steadily (including doublings in 1998 and 1999). The rising stock was tremendous currency for attracting additional talent, and by the turn of the millennium, the company had 20,000 employees (many with increasingly concentrated positions in Enron stock in their 401(K) savings plans and retirement programs). 
3. In early 2001, as Lay handed the CEO role to Skilling, Enron reached an apex: the company reported revenues of US$100 billion and ranked seventh on the Fortune 500 list of largest global companies. It was rated the “best place to work” in numerous polls, and served as a corporate model for other energy trading firms who hoped to mimic its apparent success). With a record stock price near US$90, Enron’s market capitalization reached US$60 billion, far greater than many industrial companies and financial institutions. In early 2001, however, the company’s problems started mounting: the Internet and telecom bubble burst, calling into question the firm’s aggressive and expensive expansion into the broadband sector. With a slowing economy and a sliding stock market, Enron’s own stock price started falling, triggering financial obligations that would ultimately prove fatal. In August 2001 CEO Skilling left the company for “personal reasons,” unsettling investors even further. Former CEO Lay returned to his old role (retaining the board chair as well). While this was under way, whistle blowers within the firm – aware of widespread financial improprieties – were attempting to convey information to the board of directors; one employee, Watkins, was finally successful in alerting certain board members that all was not well. The house of cards began collapsing shortly thereafter, as disclosure of financial errors and manipulation radically changed the financial profile of the company. Much of the problem centred on obscure and complex dealings between Enron and various special purpose entities (SPEs), including LJM1, LJM2, JEDI 1, JEDI 2, Chewco, and Raptors I–IV; although these were meant to be “arm’s length” dealings they were intricately entwined with Enron’s own financial structure and performance. In mid-October 2001 the company announced a US$544 million after-tax charge against LJM2, an SPE created and managed by Enron CFO Fastow. The firm also announced a US$1.2 billion reduction in shareholders’ equity as a result of improperly accounted transactions between Enron and LJM2: the news shocked investors and analysts, who had come to believe and support the Enron strategy and growth story (and ever-escalating share price). 
4. Just one month later the firm was forced to restate its earnings from 1997 to 2001 as a result of accounting errors between Enron, LJM1, and Chewco Investments (Chewco itself was managed by one of Fastow’s employees, Kopper). The LJM1 and Chewco restatements reduced net income over the four year period by nearly US$1 billion, lowered shareholder’s equity by US$2.1 billion and brought an additional US$2.58 billion of debt onto the balance sheet, changing, rather dramatically, the company’s already significant leverage profile, and making clearer the fact that Enron’s supposedly strong record of earnings was largely a fabrication. The news was accompanied by the fact that several Enron employees had profited significantly from the partnership transactions (including Fastow and Kopper, who earned at least US$30 million and US$10 million, respectively). Lay announced at that time that Fastow had been terminated, and the board commenced a formal internal (if limited) inquiry of its own. Andersen, Enron’s external auditor and architect of the partnerships (for which it earned many millions in fees), indicated that it had not accounted for the SPEs correctly; as a result of errors early in the process, the SPEs were not consolidated on Enron’s balance sheet as they should have been, forcing the restatements. Many of the SPE transactions between Enron and the LJM1, LJM2, and Chewco partnerships were arranged because the company could not, or would not, do them with third parties; the end-game in all cases appears to have been financial window dressing rather than genuine risk transfer. From this point on, Enron’s downfall accelerated; although fragmented details were reported in the financial press daily during late 2001, the full picture of the company’s problems did not become clear for some time afterwards. The final act took place in November 2001 when banks started cancelling Enron’s remaining liquidity facilities; rumours’ of imminent bankruptcy were rampant, and rating agencies began downgrading the company’s debt, triggering more liabilities and constraining its financial position even further. The firm’s core trading business suffered considerably as the company was forced to post collateral it did not have. When it became clear that Enron could no longer survive the crisis of confidence, Lay attempted to team up with cross-town rival Dynegy for an eleventh-hour merger. Dynegy, however, did not like what it uncovered in its due diligence and scuttled the deal days later. Enron filed for bankruptcy in early December 2001.Most stakeholders suffered considerably: shareholders saw the value of their investments vaporize almost completely, thousands of employees lost their jobs (along with an estimated US$800 million in employee pension assets, invested in worthless Enron stock) and creditors lost billions of dollars. During subsequent investigations, it became clear that the company suffered from widespread financial misrepresentation, fraud, self-dealing, conflicts of interest, and unethical behavior, as well as weak controls and a completely ineffective board of directors. While most stakeholders lost quite heavily, some executives did very well, selling Enron stock even as they urged employees to buy. Certain other groups, including investment and commercial banks, tax advisers, law firms, and accountants, received tens of millions of dollars in fees over the years as they helped build Enron’s capabilities. Some of these firms, however, were ultimately damaged by the collapse. The most direct failure was Andersen, which filed for bankruptcy just seven months after Enron’s filing. Commercial and investment banks also suffered, largely from helping develop mechanisms that perpetuated Enron’s deception. For instance JP Morgan Chase, Citibank, and Merrill Lynch actively lent and/or structured transactions that helped the company increase its leverage or misstate earnings. In the fourth quarter of 2002 JP Morgan Chase took a US$1.3 billion charge to settle litigation over Enron (including nearly US$400 million related to a lawsuit with insurers who owed the bank US$1 billion on various surety transactions).
5. The bank was accused of creating and financing deals, SPEs and off-balance-sheet transactions that helped hide Enron’s true leverage position (although claims that the bank helped the company commit financial statement fraud were dismissed). Similarly, Citibank entered into settlement talks with the SEC over its role in financing the company through the Yosemite offshore vehicle (which appeared on Enron’s balance sheet as a risk management position rather than a loan). Merrill Lynch pleaded no contest and paid US$80 million to settle civil charges that it fraudulently helped the company overstate earnings through various trading strategies and vehicles; it also fired several senior executives. Many other banks, law firms, and accounting firms were implicated and settled or defended (including Deutsche Bank, Shearman and Sterling, Ernst and Young, and Deloitte and Touche). Fastow and various other senior Enron executives were ultimately charged with a variety of civil and criminal violations.
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7. Required: 
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9. From the case above, Identify:
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11. i) Agency relationships 
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13. ii) Governance flaws.