THE ENRON CASE

Team Members : NABIL HASSOUNE ;EL MOHSSINE AMINE;MOHAMED AFSAHI;IBRAHIM CHAHID KSABI;AMINA BENJELLOUN; GHASSEN

BELHADJ JRAD

12-13-14-15/03/2015

Business ETHICS" Dr. Majid Kaissar El Ghaib

"

How could Unethical corporate

governance leads to

Economical and social Downturn ?

The flip side of boundless corporate

culture built on performance Bulimia

1.The Issue2.Business zoom

i. Growth & crashii.The mechanism

3.Ethical zoomi. Stakeholdersii.Corporate governanceiii.Information transparencyiv.Conflicts of interests

4.Regulation authorities zoomi. Soxii.Contraints and limitations

5.Conclusion6.References

Executive summary

… Excessive policy of performance incentive usually lead to adverse effects and unethical practices to inflate corporate value…Misguiding personal financial reward motivation forfeited generating profits for shareholders as circumvented …. Boundless financial market deregulation open the roots for ambiguity which could mislead standard investor guidelines and opens corridor for interpretation…Enhance unethical beliefs that “anything could be turned into an economic product and traded for profit” (1) …..….. Unidentified ethical standards became legal issuesTransparency is not a matter of regulation (especially under common law legislation)…it is rather an ethical conduct based on conviction of fairness and integrity… Collusion of external stakeholders as related parties is a serious threat against corporate governance Best practices …

Ethical debacle powered by a cocktail of Market deregulation, Leadership arrogance & oversea complaisance

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

Issue intensity : Economical & Social

Empty pension funds (1)

5600 families without jobs (1)

Vice president suicide (2)

Lay sentenced to 150 years in prison (3)

 ML accused for fraud & conspiracy (3)

Dismantling in 2002 of Arthur Andersen (3)

1 Source http://www.lexpress.fr/actualite/monde/punis-pour-l-exemple_458471.html

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

2,3 Source : The Enron management team adapted from ‘Enron, the smartest guys in the room’

From 68 Billion dollars market capitalization to Bankruptcy (1)

………………… look on chronological events ?

From an explosive growth to a fatal crash !

But how does it happened ?4 Source : 2002 KRT Source :Enron, BBC, AP, Forbes, Business week, Yahoo

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

Production & Distribution of Energy (gas and Electricity)

Trading of Energy

Derivatives

Asset

Balance Sheet

Difficulty to rise funds

Affect the trading activity not the case

of competitor

Competitive advantage

Sold of assets

Attract investors

Product derivatives far from the core business of the

company

Create Special Purpose entities to integrate some risky or/and heavy assetsNot consolidated Rise the exposure to

riskLower profitability

Rise profitability by fictive transactionsRecord in the ledger unrealized profit for the long term contract

Not coherent diversification

(Bolivia, India, UK…)

The mechanism (1/2)

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

5 Source :http://content.time.com/time/interactive/0,31813,2020911,00.html

California : In 1998 the utilities haven’t

the right to be integrated and should buy their energy day

by day

Bad thinked Regulation Act

No Swap to hedge risk for utilities Error in price

fixation

Manipulation of Price by Trader particularly

Enron

Two of three utilities company bankrupt

Interest of authorities to ENRON financials statements

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

The mechanism (2/2)

…………………. what about Enron's supporting network ?5 Source :http://content.time.com/time/interactive/0,31813,2020911,00.html

Good board practices

Appropriate control environmen

t and process

Strong regime of disclosure

and transparen

cy

Corporate governance

Shareholders

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

Honesty intergrity and fairness : Pillars of Ethical CG

6 Source :MBA16 ENPC MATERIEL COURSE Part 1_Chapter 2_ Stakeholders_CSR_Corp Governance

A unethical Stakeholders relations (1/4)

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

White Collar crimeCoercive leadership

styleMoral philosophy « Individual self

direction Paramount »Greed and eagerness for

profit

5 Source :http://content.time.com/time/interactive/0,31813,2020911,00.html

Is there any Corporate Governance @ Enron ? (2/4)

The corporate governance model of Enron had everything to put in confidence and trust an investor :•Prestigious board of directors composed of famous representatives from the US business community (15 experienced members and 4 independant directors)•An audit committee chaired by a well known accountant and responsible, along with the auditor Andersen, for controlling and approving the company financial statements.

However, shareholders haven’t enough evaluated the quality and the independance of the board that was supposed to represent and defense their interest :•Multiplication of conflicts of interest between directors and the company•Lack of investigation about hidden transactions made in order to externalize risks and losses. Lack of implication in checking auditors independance and internal control efficiency.

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

6 Source :http://la dynamqique du gouvernement d’entreprise- Bertrand Richard-Dominique Miellet

Which lessons for Enron directors ? (2/4)

•The apparent quality of the company corporate governance and its prestigeous board of directors hasn’t been enough challenged by the shareholders, and particulary the analysts.

•Directors should imperatively master the strategy and operations issues of the company they represent.

•There is no more board independance since transactions are made between the company and some of its directors : important role to play by independant directors.

•The audit committe has to make an effective and independant control of operations made outside the balance sheet and also screen creative accounting made by the management. It should as well be accountable to shareholders independently of management.

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

6 Source :http://la dynamqique du gouvernement d’entreprise- Bertrand Richard-Dominique Miellet

Weak transparency standards supported by misleading auditing (3/4)

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

GAAP as Guidelines (not Regulations) open corridor of action to creative accounting practices.

Commercialization and Independence : Andersen was paid 27 Million for non audit-consulting fees (added to 25 millions for audit) Hence it acted as Enron’s external auditor and as its internal auditor.

Flexibility in Evaluation of Accounting (Materiality) : Many errors were known, but were dismissed by Andersen as immaterial.

Internal Control Weaknesses open the roots to management collusion fraud.

Induced GATE KEEPING Reforms Creation of new oversight body to regulate and discipline CPAs.

Inquiry of Certification by CEOs and CFOs of Fairness of Financial Reporting

Setting of Public Company Accounting Oversight Board (PCAOB).

Standards Setting Processes Integration of Management Control Systems and Financial Reporting

Source : http://gpae.bryant.edu/~gpae/Vol3/Enron%20and%20Aurhur%20Andersen.pdf

Ethical lessons : conflict of interest (4/4)

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

“Creative accounting” : Companies which are listed and/or practicing management incentive based on performance could be tempted to use practices in order to artificially inflate reported shareholders wealth (Inflating sales revenue, understating liabilities, overpricing to SPEs …)

over 3,000 SPEs ... used to manipulate financial reports … thru interlocking ownership ….

Related-Party Transactions Where CFO of Enron and/or other employees held equity interests …. Manage & operate SPE’s while being paid salaries by Enron without compensation from the SPE. Enron’s board of directors exempted its CFO from Enron’s conflict of interest policies. As a result, he was able to control both sides of transactions and enrich himself. Insider information deals

Source 7 :http://gpae.bryant.edu/~gpae/Vol3/Enron%20and%20Aurhur%20Andersen.pdf

The answer to Enrons debacleThe issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

Source 8 :ftp.ketera.com

SOX

Management

reporting

Board governan

ce

Management and board

conduct

Enforcement&

penalties

Auditors independen

ce

Management

certification

Audit committe

e standard

s

Accelerated

reporting to

insider trading

Public company oversight board (PCAOB)

Audit committee preaproval

all auditors services

Management report

on internal control

Prohibition of loan to Directors and

officers

Disclose code of conduct

for finance officers

Criminal penalties for

knowingly untrue certifications

Prohibits auditors

from certain

services

Protection of

whistleblowers

Lead audit partner

limited to 5 years

rotations

Area of

Emphasis

Key sections

Mar ket tr ustThe issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

Sox Overview

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

Contraints & limitations

SUSTAINABILITY

COST

Limits, Waiting for a new disaster to act …!!!

Implementation

Moralizati

on of

the financ

e sector

but how ?

Enable safeguards to protect ethical climate.Comprehensive understanding of assets tools and resources canprepare leadership and managers to find new solutions for newproblem encountredCore values guide the most useful principles Provide support and guidance thru ethics auditImplement system that measure of ethics initiativesVisible code of ethics to encourage ethical business decision

as apriorityRefuse any tolerance of misconduct from the Top downLeadership best paractice in term of transparency corporate

governancecommunication and centered leadership (Bandsuch, Pate &

Thies2008)

19

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

Recommendation : Ethics enhancement as the only reliable tool to avoid an Enron scandal remake

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

The question ?

Although the common law allows the US regulatory authority to adopt a proactive approach to economical system failures, the story further demonstrated through the 2008 crisis that this law could be a way to get the benefit of a system .

Is the common law a limit in itself for the development of the US economy or an accelerator for adjusting of economical mechanisms ?

The issue

Business Zoom

Ethical zoon

Regulation

authorities zoom

Conclusion

References

Slide 4 : Source 1,2,3 http://www.lexpress.fr/actualite/monde/punis-pour-l-exemple_458471.html / 2,3 Source : The Enron management team adapted from ‘Enron, the smartest guys in the room’Slide 5,6,7,8 :Source 4,5: 2002 KRT Source :Enron, BBC, AP, Forbes, Business week,Yahoo

Slide 9:6 Source :MBA16 ENPC MATERIEL COURSE Part 1_Chapter 2_ Stakeholders_CSR_Corp Governance

Slide 11 :6 Source :http://la dynamqique du gouvernement d’entreprise- Bertrand Richard-Dominique Miellet

Slide 12: http://gpae.bryant.edu/~gpae/Vol3/Enron%20and%20Aurhur%20Andersen.pdfSlide 13:Source 7 http://gpae.bryant.edu/~gpae/Vol3/Enron%20and%20Aurhur%20Andersen.pdfSlide 14: Source 8 :ftp.ketera.com