Corporate Governance: Enron Case Study Analysis

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Case Study Details

• Document Type: Coursework
• Subject: Business
• Citation/Referencing Style: Chicago

The handout contains information about the Board of Directors at Enron just before the company went bankrupt in 2001. Consider that Enron’s Board had been named the 3^rd Best Board by Chief Executive magazine … in 2001. In particular consider:

1. Number of board memberships
2. Experience: related industry
3. Meeting attendance
4. Committees and committee membership
5. External/internal directors and director independence

ENRON Analysis

• Enron was founded in July 1985 with the merger of Houston Natural Gas and Omaha-based The chairman and chief executive was Kenneth Lay.
• After the merger the company was renamed as ENRON.
• In the process of the merger Enron acquired huge debts and began to look for innovative business strategies to generate profits and cash
• Ken Lay was a close, personal friend of the Bush family and Enron provided millions of dollars to finance the Bush 2000 election campaign.
• The deregulation of the energy markets allowed companies to operate largely free from US government scrutiny and Enron began trading energy online, like stocks and bonds, placing bets on future
• The company then poured billions of dollars into other trading ventures. These were converted into contracts, called derivatives that were sold to investors.
• One of the Big Five accounting firms, Arthur Andersen LLP, provided auditing, tax, and consulting services to the Enron
• Huge debts inside the corporation were beginning to grow but executives were able to hide the debts by setting up partnerships in which the losses could be buried and generating imaginary revenues.
• The corporation kept their huge debts off the balance sheets by misrepresentation. Assets and profits were inflated, and in some cases, completely fraudulent and ..
• Enron created artificial power shortages in California, helping to trigger an energy crisis in 2000 and The corporation was able to manipulate power supplies and charge excessive prices.
• On December 31, 2000, Enron’s stock was priced at $83.13 and its market capitalization exceeded $60 billion.
• Enron shareholders filed a $40 billion lawsuit after the company’s stock price, which achieved a high of US$90.75 per share in mid-2000, plummeted to less than $1 by the end of November 2001.
• The S. Securities and Exchange Commission (SEC) began an investigation
• On December 2, 2001, Enron filed for bankruptcy under Chapter 11 of the United States Bankruptcy Code. Enron’s $63.4 billion in assets made it the largest corporate bankruptcy in U.S. history until the WorldCom scandal the next year.

On 8 July 2002, the US Congress identified several failures at the Board level that contributed to the collapse of Enron: fiduciary failure, high risk accounting practices, inappropriate conflicts of interest, extensive undisclosed off-the-book activity, excessive compensation, lack of independence. This finding was only made with the benefit of hindsight. Note: while mark to market accounting was used by Enron in its accounting practices, it is a legitimate practice, albeit high- risk. The Board thus had a responsibility to ensure that the principles used in making valuation judgements were the most appropriate. The problem began when high risk off the book transactions was used to disguise Enron’s true financial situation.

The Objective of the workshop is to gain an understanding of how the structure of the board may have affected corporate governance at Enron and contributed to its downfall.

Online Activities

Online Activity 8: Enron Analysis: Governance

Select the table below, copy it and then paste it into a spreadsheet (this works in Excel). Then for each row, determine if the person named is an independent board member and which sub-committee the person belongs to. If the person is independent, indicate with ‘Y’ in the appropriate cell, if not use ‘N’. Do likewise for each sub-committee.

Answer all 8 questions. About 5 -8 sentences per question

1. Assess the level of board independence. Outline if the level of independence is acceptable or not, providing reasons for your assessment.
2. Assess the membership of the Audit subcommittee. Based on the table you constructed, would you regard the Audit subcommittee as reliable? Provide reasons for your assessment.
3. Assess the membership of the Nominating subcommittee. Based on the table you constructed, would you regard the Nominating subcommittee as reliable? Provide reasons for your assessment.
4. Assess the membership of the Executive subcommittee. Based on the table you constructed, would you regard the Executive subcommittee as reliable? Provide reasons for your assessment.
5. Assess the membership of the Compensation subcommittee. Based on the table you constructed, would you regard the Compensation subcommittee as reliable? Provide reasons for your assessment.
6. Assess the membership of the Finance subcommittee. Based on the table you constructed, would you regard the Finance subcommittee as reliable? Provide reasons for your assessment.
7. Does any board member sit on an excessive number of boards? Why do you think that?
8. Based on the analysis you conducted, assess the structure of the Enron board. Is it structurally sound?

Additional notes:

What are some other key features you could look at to determine the independence/effectiveness of the Board?
Consider the following:

1. External/internal directors and director independence
2. Number of board memberships (usually limit to 3 – 5 members)
3. Experience: amount of related industry experience
4. Meeting attendance
5. Committees and committee membership

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