Stealth Wealth Are you under the radar?

Enron came into existence in 1985 after federal deregulation of natural gas pipelines occurred. Enron was created from a merger of Houston Natural Gas and InterNorth. Through the merger Enron incurred a large debt and from deregulation no longer had exclusive rights to its pipelines. Kenneth Lay, who was CEO at the time, hired McKinsey and Company to help with developing Enron’s new business strategy to generate profits and cashflow. A young consultant named Jeffery Skilling was assigned to the Enron account. Skilling was a bright consultant with innovative ideas. His solution to Enron’s cashflow was to create a “gas bank” in which Enron would buy gas fron a network of suppliers and sell it to a network of consumers. Enron charged a fee for the transactions and assumed the associated risks involved. Lay was so impressed with Skilling’s innovative ideas that he created a new division in 1990 called Enron Finance Corp. and hired Skilling to run the operation. Now that Enron has Skilling’s leadership Enron dominated the market for natural gas contracts and had more customers than its competitors.

In 1996, Skilling convinced Lay that the same model of a gas bank could be applied to electric energy. Soon Skilling was loads of the brightest traders straight out of the top MBA programs in the country. One of his first hires was Andrew Fastow in 1990. Fastow became Skillings protégé and climbed his way swiftly up the corporate ladder to CFO in 1998. Traders where hired for a division of Enron known as Enron Capital and Trade Resources which turned into the nation’s largest wholesale buyer and seller of natural gas and electricity. Traders where paid on commission as to the amount of electricity or gas they could sell. Skilling encouraged traders and other employees to think outside of the box. Traders began to think of ways to make more money on sales to get profits up and so they could get a bigger bonus. Some traders would call power plants out in California and ask the plant manager to cut off the production for a few hours then power the plant back up, also asking the manager to make an excuse as to why the plant went down for a few hours. Those few hours that a plant would be down cause the state of California billions in the end after being done time after time by traders. Enron traders were pretty much causing the blackouts in California and were making millions while in the process. Causing shortages caused the demand for power skyrocket giving the traders higher sales figures. I saw a figure as to where the normal price on the commodities market was around $50, but it topped out at around $1,000 with traders tampering with the supply. The state of California said that they had more than enough kilowatts for the whole state and there is no way they could have a shortage.

One of the first ways that Enron fooled investors was inflating their earnings to show profit and heavy growth. Arthur Anderson approved Enron to use “mark to market” accounting which allows companies to count as current earnings profits they expect to earn in the future from energy-related contracts. This means that Enron could just make a guess at what they think they could receive in the future for services. Most of the time, they would use extreme numbers and would go beyond 10 times what they would really bring in on a contract. Enron had many divisions that were unprofitable, but was able to make them appear profitable by having their accounting periods end in different months. Each month, money would be shifted from one company to another to make it appear there was a cashflow and profit for the company. With all of the divisions appearing profitable analyst were happy with Enron’s income statement and rated the company a buy.

There was no one single unethical action that brought down the energy giant Enron. It was a combination of several different illusions. Illusions that kept investors and analyst focus on what they said they were receiving in revenues instead of what they were actually receiving. Company executives talked the stock up and strongly encouraged its employees and the public to invest in the company. While many of the employees were placing all of their retirement into Enron stock the price kept rising hitting $60 at one point. The executive team was screaming buy while selling under the table. Everyday news is coming out about other shenanigans that went on at Enron. If there is one moral that you could come away with reading this article it would be to always analyze a company yourself and don’t go buy what people in the market are saying. I know most people couldn’t tell about Enron because of faulty income statements, but for other investments you should do the research yourself and not rely on information from what people say on TV or on message boards without checking out to see if the information is valid or realistic.