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7/29/2019 Creative Accounting - Enron
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ENRONMade by:-
1. Aastha Thakur (211003)
2. Aman Raaj Narang (211014)
3. Farhan Aqeel (211045)
4. Gandharv Arora (211046)5. Hitesh Nayyar (211052)
6. Hitesh Munjal (211054)
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INTRODUCTION
Enron Corporation was an American energy,commodities, and services company based in Houston,Texas.
Enron was heavily involved in energy brokering,electronic energy trading, global commodity and
options trading, etc. Before its bankruptcy on December 2, 2001, Enron
employed approximately 20,000 staff with claimedrevenues of nearly $101 billion in 2000.
Fortune named Enron "America's Most InnovativeCompany" for six consecutive years
a factor in the creation of the SarbanesOxley Act of2002
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ENRON
EnergyIndustryHouston, Texas, United StatesHeadquarters
Kenneth Lay, Founder, formerChairman
Jeffrey Skilling, formerPresident, CEO
Andrew Fastow , CFO
Key people
$101 billion (in 2000)Revenue
approx. 22,000 in 2000Employees
http://www.enron.com/Website
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ENRON
Enron, the 7th largest U.S. company in 2001,
filed for bankruptcy in December 2001.
Enron investors and retirees were left with
worthless stock.
Enron was charged with securities fraud
(fraudulent manipulation of publicly reported
financial results, lying to SEC,)
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RISE OF ENRON
1985- Kenneth Lay merged the natural gas pipelinecompanies of Houston Natural Gas and InterNorth to
form Enron.
Early 1990s- He helped to initiate the selling of
electricity at market prices and, soon after, theUnited States Congress passed legislation
deregulating the sale of natural gas.
Enron rose to become the largest seller of natural gas
in North America by 1992.
November 1999 - creation of the EnronOnline
trading website.
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To achieve further growth, Enron pursued a
diversification strategy.
Enron's stock rose from the start of the 1990s until
year-end 1998 by 311% percent.
Enron was rated the most innovative large companyin America in Fortune's Most Admired Companies
survey
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ACCOUNTING PRACTICES
Nontransparent Financial statements and complex
business model.
Created Partnerships structured as Special Purpose
Entities(SPE)
SPE 3% Rule: No consolidation needed if
at least 3% of SPE total capital was owned
independently of Enron.
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ENRONS REVENUE ACCOUNTING
TECHNIQUES
o INFLATED REVENUES
In 4 years, Enrons Revenues increased by 750%($13.3bn to$100.8bn)
o MARK TO MARKET (Fair Value Accounting)
All Assets and Liabilities are Revalued at Fair Market Value( Market Value= Present Value of Future Cash Flows)
Used by Enron for its Energy Contracts
Allowed Enron to count projected future earnings asCurrent Income
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MARK TO MARKET (contd.)
o VIOLATES BASIC CRITERIA FOR REVENUE
RECOGNITION:
The service has been provided/mostly provided
Revenue is reasonably certain
o ALSO VIOLATES PRINCIPLE OF
CONSERVATISM
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ENRONS REVENUE ACCOUNTING
TECHNIQUES
o MERCHANT MODEL OF REVENUES
Enron adopted an aggressive interpretation of
what constitutes Revenue in the trades that tookplace over its Enron Online Trading Platform
Reported entire value of each trade as Revenue
o Traditional Trading firms like Goldman Sachs
used the more conservative AGENT MODEL
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INFLATED REVENUES
Gross Profit is a Reasonable indicator of the actual revenue that would have
been reported by Enron, under the Agent Model without MTM assumptions.
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S.P.ESpecial Purpose entities are used to fulfill a temporary
or specific purposeto fund or manage risks associatedwith specific assets.
SPE 3% Rule: No consolidation needed if at least 3%
of SPE total capital was owned independently.
Enron transferred troubled assets that were falling
in value to SPEs which meant that their losses would
be kept off Enrons books .
In return IOUs were issued , backed by Enrons
stock as collateral.
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In 1993 it teamed with Calpers (California Public Retirement System) to createJEDI (Joint
Energy Development Investments) fund.
ENRON CALPERS
JEDI
HIGH RISK
ASSETSIOUs
INVESTMENTINVESTMENT
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In Nov 1997, Calpers wanted to cash out of
JEDI.
To keep JEDI afloat, Enron needed new 3%
partner.
It created another partnership Chewco to buyout Calpers stake in JEDI for $383 million.
Enron plans to back short-term loans to
Chewco to permit it to buy out Calpers stakefor $383 million.
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ENRON
CHEWCO
Short-term loans
$383 million buyout
$383 million
JEDICALPERS
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CHEWCOS CAPITAL STRUCTURE
Chewco needs $383 million dollars to give calpers
It gets :
$240 mil from Barclays bank(Enron guarantee)
$132 mil from JEDI To avoid inclusion of JEDIs debt on Enrons books the
remaining 3% (about 11.5 mil) from outside sources:
$125,000 from William Dodson and MichaelKopper(Enrons CFOs aide)
$11.4 mil loans from Big River and SmallRiver(security cash reserve paid by JEDI )
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HOW THEY PLAYED THE SPE GAME
CALPERSENRON
JEDIEnron now sole
partner
BARCLAYS BANK
KOPPER
BIG RIVER AND
LITTLE RIVER
CHEWCOAn entity supposedlyindependent of
Enron
383 Mil
132 Mil
125k
240 MilEnron
guarantee
6.6mil
11.4mil
11.4mil
Enron aid
JEDI
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WHAT ENRON EARNED FROM ALL THIS
Enron received $10 mil in guarantee fee + fee based
on loan balance to JEDI
Enron received a total of $25.7 mil from this source
In the first quarter of 2000, the increase in price ofEnron stock held by JEDI resulted in 126 million in
profit to Enron
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BUT
Everything fell apart when Enrons stock prices began
to decline in fall of 2000
This started a chain reaction: Enron had hedged
against its own stock, so as long as the stock priceswere declining, it could not recover from the losses
In November 2001 Enron admitted to SEC that
Chewco was not truly independent of Enron
Chewco went bankrupt shortly after its admission in
Enron
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AFTERMATH
Enron Corp. is rechristened to Enron Creditors Recovery Corp.(ECRC). ECRC's sole mission is to reorganize and liquidate the
operations and assets of "pre-bankruptcy" Enron.
Enron's shareholders lost $74 billion in the four years before
the company's bankruptcy. In November 2004 (emergence from bankruptcy), a new
board of directors was appointed, and they adopted this
mandate: obtain the highest value from the company's
remaining assets and distribute the proceeds to the
company's creditors.
Once ECRC has completed all outstanding litigation and
monetized all assets, it will make a final distribution to
creditors. After that, the company will cease to exist.
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ARTHUR ANDERSON
In 2002, the firm voluntarily surrendered its licenses topractice as Certified Public Accountants in the UnitedStates. Even before voluntarily surrendering its right topractice before the SEC, it had many of its state
licenses revoked. From a high of 28,000 employees in the US and 85,000
worldwide, the firm is now down to around 200.
As of 2011, Arthur Andersen LLP has not been formallydissolved nor has it declared bankruptcy. Ownership of
the partnership has been ceded to four limited liabilitycorporations named Omega Management I through IV.As of 2011, Arthur Andersen LLP still operates the QCenter conference center in St. Charles, nowadaysmostly used for Accenture trainings.
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LESSONS
Demonstrated the importance of old economy
questions: How does the company actually make its
money? Is it sustainable over the long haul? Is it
legal! Demonstrated the need for significant reform in
accounting and corporate governance in the U.S.
Does this necessarily mean government regulation
can fix the problem?