The Enron Scandal

Case 4.1

The Enron scandal, which was brought to light in 2001, marked a memorable time in Corporate America. The scandal revealed many accounting loop-holes that corporations were able to exploit, in order to hide financial problems to present a positive outlook of the company to investors. Following the scandal and the fall of Arthur Anderson LLP., due to their involvement, many policies and accounting regulations were established to protect investors from the loop-holes that lead to many fraudulent business practices. This was prior to the implementation of Sarbanes Oxley.

Enron appeared to be a company on the rise in the 1990’s and into the new century. However, Enron discovered many loop-holes in their financial reporting and inherited a large number of risks that later brought about the company’s demise. Enron established SPE’s through fraudulent relationships that essentially made it look as if Enron had sold off several assets to other companies and in return reported earnings for those assets. These deals were established by other companies agreeing to take on and account for Enron’s least productive assets. In return these companies received commission from Enron stock and backing with the guarantee to recover investors with any losses incurred if the assets were sold at a loss. In addition to SPE’s, Enron established “Raptors” to protect against any losses they incurred through their own investment portfolio. The raptors were backed by Enron stock, so essentially Enron was able to hide debt and investment losses from their financial statements that were secure as long as the company’s stock performed well. However, the scandals developed once Enron’s stock price began falling and they were faced with repaying all the debt back to their investors.

The Enron scandal occurred as a result of corrupt management and risky behaviors from Enron’s management. These policies could have been avoided if Enron’s Board of Directors performed their duties to oversee management. The Board of Directors bear the responsibility to make sure management is acting in a way that is beneficial to their investors. The Board of Directors should have been more aware of the issues and the lack of independence with Enron’s SPE’s. The Enron scandal could have been prevented if the audit committee and Board of Directors took notice of the significant changes in the financial statements that took place through the issuance of SPE’s. They should have conducted their own research and audited the internal procedures that management was implementing. The Board of Directors should have been aware of the red flag when they noticed that management began to sell their own stakes in the company’s stock for high profits.

The corrupt behavior of Enron was due in part because their external auditing firm, Arthur Anderson, which failed to provide