Custom «Business and Corporate Law: Enron» Essay Paper Sample
Fourteen years have passed, but one still talks about one of the greatest financial scandals in the US history. American Energy Company with headquarters in Houston went bankrupt quite unexpectedly for the entire world. This paper is aimed to analyze the underlying reasons of this huge Enron’s collapse.
In his article, McLean (2004) asked an urgent question about how “America’s seventh biggest company could just blow up?” (10). Enron Corporation was a leading company, which has worked in more than forty countries in the world. It has become the first company, with the large chain of gas pipelines in the US. The number of employees was huge as well as the responsibility of these people including not only workers, but also company’s business partners and clients from all over the world. Before the collapse, Enron produced electrical energy, transported and supplied the natural gas, dealt with communications, pulp and paper industry. The manufacturing side of its activity was quite clear. It was the sixth largest energy company in the world. However, it conducted activities in non-manufacturing areas such as futures trading and derivative instruments operations. The company played a role of the experienced financial and risk advisors at the New York stock exchange. Fortune recognized Enron as America's Most Innovative Company for six consecutive years. Nevertheless, nowadays, the name of it founder Kenneth Lay is associated with corruption and accounting fraud. This businessman was the CEO and chairman of Enron for almost seventeen years: since 1985 until the beginning of 2002. Mainly the relations with Arthur Andersen accounting firm, which was the member of the “Big Five” and impressive contacts in the politic sphere, especially among the Republicans, contributed to the possibilities of the company to earn in an unfair way. Enron has got unprecedented share of state’s energy supply and rather high tax benefits due to the above mentioned contacts. Nevertheless, the twentieth century has begun with the hugest financial scandal that the world has never seen before – Enron’s crash. Some analysts emphasized that the reason was the company’s green light for all its activities.
In 1980s, numerous changes in the regulation norms of the natural gas market caused the prices deregulation and more adjusting arrangements (Healy& Palepu 5). That is why Enron, which had the dominant position on the market, got an opportunity to manipulate the price of the energy on the state’s level. According to Coffee (2002), Enron became “an indicator of any systematic governance failure” (2). The company successfully used the drawbacks in the legislation. Its partner in the accounting issues Arthur Andersen has applied a lot of existing legal tricks, which led to a “failure of Enron’s internal control” (Schwarcz 1310). The US Justice Department and the Securities Exchange Commission figured out that the company has broken the law concerning the improper methods of accounting and hiding and keeping in the secret the multibillion debts. The key players used the insider’s information to get profits. Moreover, Enron has broken the law for securities and rules of NASD. The company conducted many transactions that seemed to be in accordance with the law, but still appeared to be unfair. It violated the tax legislation, as it did not pay the federal corporate taxes for four years. As a result, the company was accused of violation of the corporate and anticorruption legislation, accounting frauds and market manipulations.
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Enron’s downfall can be defined as consequence of “a classic bubble that overtook the equity markets” (Coffee 17). In the end of 2001, it became clear that the financial position of the company was falsified by accounting fraud that was planned quite wisely. Enron’s top manager designed and applied the most difficult scheme, which helped to hide particular data not only from the public, but from the stockholders and investors, too. It was aimed primarily at misrepresentation of financial position. Thousands of offshore legal entities were created. They gave absolutely legal information and proper reports for tax authorities. The offshore activity was supported by the board, layers and auditors from Arthur Andersen. However, Enron used special entities in order to “fund or manage risks associated with specific assets” (Healy& Palepu 10). On one side, the company’s scheme was complicated, but on the other - rather simple in use. First, the transactions, which were performed through subsidiaries, gave the possibility to make the prime cost bigger and, as a result, the cost of energy sold was bigger either. The offshores hid not profits, but losses of the company. It helped to make financial indexes better and attractive for the investors and made the price of stocks rise. Enron had a huge share on the market. The board and other employees got multibillion premiums and bonuses. The company decreased taxable income with the help of these premiums. For example, after paying the taxes of one hundred dollars, it got two hundred dollars of tax return. It was unclear how the company could continue earning high returns from gas trading (Healy& Palepu 7). To sum it up, it looked like Enron was unprofitable for tax authorities. It did not pay the income tax at all. It is ridiculous, but the company has been receiving the huge amount of compensation from government treasury.
The prosecution of the key players was complicated. The US Justice Department tried to charge several executives for fraud and money laundering. However, it was difficult to make them confess. The key players were Andrew Fastow, Kenneth Lay, David Duncan, Joseph Berardino, Jeffrey Skilling and Sherron Watkins. All of them refused to speak about Enron’s affair to avoid their incrimination. The court began on January, 30 in 2006. It took four years for the lawsuit preparation. The chairman Ken Lay and CEO Jeffrey Skilling were convicted by the jury for falsification of the financial statements. Lay was found guilty of six fraud cases and Skilling – for twenty-eight. Lay has got around ten years in prison, but he has died until he knew the judgment. Andrew Fastow was pleading not guilty. Nevertheless, he was accused of almost eighty crimes. Fastow was sentenced to six years and just two years of probation. In contrast, David Duncan who checked Enron's accounts was convicted immediately. He was accused of lax standards application in his audits because of conflict of interests based on “the consulting fees generated by Enron“(Healy& Palepu 15). In addition, Andersen's chief executive Joseph Berardino decisively defended his company’s role in the Enron’s scandal. Sherron Watkins is known as whistleblower in the case. She claimed that Lay was cheated and blamed Jeffrey Skilling and Andrew Fastow.
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Enron's collapse led to new regulations of financial reporting for publicly held companies. President Bush signed the Sarbanes-Oxley Act (the SOX) in July, 2002, intended to prevent corporate scandals and enhance corporate responsibility. Congress wished to avoid another Enron. The SOX is created to make effective barriers for possible accounting frauds by obligating the companies to organize an internal control. This regulation has eleven sections, which comprise all possible guidelines for conducting business activity. For instance, it establishes new standards for external auditor independence to prevent the cases of conflicts of interest. It requires creating a central oversight board, which performs more accurate quality control. The external auditors have to signalize about any significant shortcomings in the company’s accounting system. Specific penalties for accounting frauds such as manipulation of data are used. According to the new regulation, the chairmen and CFOs have to sign the financial statements only by themselves. Moreover, the one of SOX’s titles consists of the section about the obligatory CEO’s signature on the firm’s tax return. Generally speaking, the SOX benefits to firms and investors, but there is the opinion that this kind of regulation displaced some part of business from the US to other world financial centers, where regulation is softer. The implementation of the same rules to Enron earlier would let to avoid the scandal that had happened through limiting the ability of the financial fraud.
Nowadays, considerations of ethical and social responsibility are the key issues. The cases of window dressing or empty promises are common things in the business sphere. There is no obligatory legal regulation for corporate social responsibility, which would be effective. The international ethic and social standards are optional. No wonder that SOX includes the section about corporate responsibility. It assumes close interaction between internal and external auditors and senior executive individual responsibility. It is important that from now the non-compliance of the SCR’s principles may lead to civil penalties. However, the crash of such giants as Enron is the evidence that the violation of the corporate social responsibility can lead to the serious negative consequences.
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In conclusion, it is important to remember that particular types of companies’ economic behavior can lead to either a rise of the business or its downfall. The fall of Enron was unexpected and had tremendous consequences for the US. Today, there are thousands ways to prevent conflict situations as the economy is becoming more global and SOX contributes to it a lot. Moreover, nowadays, the compliance of the corporate social responsibility attracts the attention of regulating authorities, investors and the public stakeholders.