New York Times
February 3, 2002
Enron Panel Finds Inflated Profits and Few Controls
By KURT EICHENWALD
report from a special committee of the Enron Corporation (news/quote)'s board concluded yesterday that executives intentionally manipulated the company's profits, inflating them by almost $1 billion in the year before Enron's collapse through byzantine dealings with a group of partnerships.

The 217-page report describes an across-the-board failure of controls and ethics at almost every level of Enron, the Houston energy company. It was issued just before scheduled testimony in Congress by Enron's top executives, and during criminal and regulatory investigations into what has emerged as one of the landmark scandals of American business.

As oversight broke down at Enron, the report says, a culture emerged of self-dealing and self-enrichment at the expense of the energy company's shareholders. The report is also harshly critical of Enron's accountants at Arthur Andersen and the company's lawyers, saying they signed off on flawed and improper decisions every step of the way.

The transactions, which resulted in the collapse of the company, were caused by "a flawed idea, self-enrichment by employees, inadequately designed controls, poor implementation, inattentive oversight, simple (and not so simple) accounting mistakes, and overreaching in a culture that appears to have encouraged pushing the limits," the report says. "Our review indicates many of those consequences could and should have been avoided."

What emerged at Enron, as described in the report, was a culture of deception, where every effort was made to manipulate the rules and disguise the truth as part of an effort by executives to falsely pump up earnings and earn millions of dollars for themselves in the process.

When ownership of a particular partnership stake would have set off legal requirements, the holdings were put in the name of a domestic partner of one executive; in another instance, suggestions were made for stakes to be owned in the name of one executive's wife. Money was siphoned back and forth between multiple entities, disguising its true ownership and in turn providing false information about the financial state of Enron.

At bottom, the report makes clear, Enron failed to properly follow the dictates of the federal securities laws, and its executives engaged in numerous intentional acts to deceive investors, directors and, in some cases, one another.

The report was reviewed all day yesterday by the full board of Enron at a marathon meeting held in New York City in a 25th-floor conference room at the offices of Weil, Gotshal & Manges, the company's bankruptcy lawyers.

Directors began arriving at the conference room at 7 a.m. yesterday, where they were given a copy of the report. For hours, they read the report until they received their formal presentation from the investigating committee.

As the tales of deception and manipulation unfolded, the directors responded with rising anger, according to people who were there.

"The board was clearly very upset," said Thomas Roberts, a partner with Weil, Gotshal who attended the meeting.

According to the report, Enron entered into a series of transactions with the partnerships — which were controlled by the company's former chief financial officer, Andrew S. Fastow — that served no economic purpose other than to manipulate reported profits. An independent third party would never have entered into such dealings, the committee concluded.

Among those cited in the report for failures were Kenneth L. Lay, Enron's longtime chairman and chief executive, and his protégé, Jeffrey K. Skilling, who served as president and then chief executive before resigning in August.

In essence, both men were condemned for setting up a system in which Mr. Fastow would work as chief financial officer of Enron and general partner of the partnerships — putting him on both sides of each transaction — without ensuring that there was appropriate oversight.

Mr. Lay "bears significant responsibility for those flawed decisions, as well as for Enron's failure to implement sufficiently rigorous procedural controls to prevent the abuses that flowed from this inherent conflict of interest," the report says.

Earl J. Silbert, a lawyer for Mr. Lay, did not return phone calls.

The report is far more damning of Mr. Skilling. The former executive "certainly knew or should have known of the magnitude and the risks associated with these transactions," the report says. "Skilling, who prides himself on the controls he put in place at many areas of Enron, bears substantial responsibility for the failure of the system of internal controls to mitigate the risk inherent in the relationship between Enron and" the partnerships.

Indeed, according to the report, Mr. Skilling was warned in March 2000 by Enron's treasurer, Jeffrey McMahon, that there was reason for strong concern about the Fastow partnerships. "It appears Skilling did not take action" afterward, the report says. Mr. McMahon was named president of Enron last month and is helping lead its restructuring.

The report says that the committee obtained information showing that Mr. Skilling actively participated in efforts to disguise Enron's true performance and hid those efforts from the board.

"Although Skilling denies it, if the account of other Enron employees is accurate, Skilling both approved a transaction that was designed to conceal substantial losses in Enron's merchant investments and withheld from the board important information about that transaction," the report says.

A spokeswoman for Mr. Skilling said: "We believe the report bears out what Mr. Skilling has been saying for months. Mr. Skilling was not involved in any improprieties."

C. E. Andrews, global managing partner at Arthur Andersen, Enron's auditing firm, said in a statement that "the report overlooks the fundamental problem: the fact that poor business decisions on the part of Enron executives and its board ultimately brought the company down."

"This report fits Enron's established pattern of the last several months of attempting to shift blame to others."

Vinson & Elkins, Enron's major outside law firm, played a lesser but distinct supporting role in Enron's downfall, according to the report. Like Andersen, it failed to prevent Enron from issuing financial statements that obscured the essence of the partnerships, the report concluded. Nor did Vinson insist on full and clear disclosure of Mr. Fastow's conflicting interests.

Vinson's top managers were not able to get the report until late in the evening, according to Joe Householder, a spokesman for the firm. Harry Reasoner, the former managing partner who is coordinating Vinson's responses to Enron matters, is expected to comment on it today, Mr. Householder said. "But we are confident that when all the facts are known about the role we played, it will be seen that we met our professional obligations," he said.

The strongest criticism in the report is reserved for Mr. Fastow, who is described as having ultimately deceived the company and its directors as part of an effort to enrich himself.

In meetings with the board, what Mr. Fastow "presented as an arrangement intended to benefit Enron became, over time, a means of both enriching himself personally and facilitating manipulation of Enron's financial statements," says the report, which was filed with the federal bankruptcy court in New York that is overseeing Enron's case and was posted on the court's Web site about 6 p.m. Eastern time. "Both of these were inconsistent with Fastow's fiduciary responsibilities and anything the board authorized."

Gordon Andrew, a spokesman for Mr. Fastow, declined comment.

The committee, headed by William C. Powers Jr., the dean of the University of Texas Law School, was appointed in the wake of Enron's disclosure of its dealing with the partnerships. Its other members are Raymond S. Troubh, a New York financial consultant, and Herbert S. Winokur, the chairman and chief executive of Capricorn Holdings Inc., a private investment company. The directors hired William R. McLucas, a longtime official of the Securities and Exchange Commission, to oversee the inquiry.

Mr. Lay and Mr. Powers are expected to testify before Congressional committees tomorrow. Mr. Skilling and Mr. Fastow are scheduled to testify later in the week.

In October, the company took a charge against earnings of $544 million after Andersen concluded that some of the partnership results should have been consolidated with the company's. That decision also contributed to a reduction of $1.2 billion in shareholders' equity, a measure of the the company's value.

In the aftermath of those disclosures, Enron fell into a death spiral as confidence in the company and its reporting rapidly dwindled among banks, investors and traders. Ultimately, the company collapsed, filing for Chapter 11 bankruptcy protection in December.

W. Neil Eggleston, a lawyer who is representing Enron's outside directors, said that the report showed "that critical information was withheld from the board.

"The board and its committees were repeatedly assured that the controls that the board had ordered were adequate and being followed, but the board was misled," he added. Mr. Eggleston said the board had agreed to permit Enron to enter the transactions only on condition that "stringent controls were followed."

Robert Bennett, a lawyer for Enron, said the company would use the report as a tool in its efforts to resuscitate itself. "This company wants to get down to the bottom of what occurred and solve the problems and move forward into the future and stabilize itself," he said.

According to the report, several Enron executives used the partnerships for personal gain at the company's expense. "Enron employees involved in the partnerships were enriched, in the aggregate, by tens of millions of dollars they should never have received," the report says.

Mr. Fastow received at least $30 million from his partnership transactions, according to report. Another executive who worked with him, Michael J. Kopper, received at least $10 million. Two others received at least $1 million each, and two more obtained what the committee said appeared to amount to hundreds of thousands of dollars.

One transaction was cited as being of particular concern. According to the report, Mr. Fastow appears to have offered a group of Enron employees the opportunity to invest in Southampton Place, a partnership that provided spectacular returns.

In about two months, a $25,000 investment in Southampton netted Mr. Fastow some $4.5 million. Two other employees, who invested just $5,800, received $1 million in the same time period.

"We have seen no evidence that Fastow or any of these employees obtained clearance for those investments, as required by Enron's code of conduct," the report says.

The transactions with the partnerships were also improperly disclosed to investors, the report says. Many of the disclosures, it says, were crafted by Mr. Fastow's division, and did not communicate the nature or function of the partnerships.



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