Enron scandal

            Enron Corporation, an American energy Company was headquartered in Texas. The scandal was exposed in October 2001which then led to bankruptcy of the Corporation (Sterling, 2002). The Company was one of the five largest accountancy and audit partnerships globally. It was also confirmed to be one of the largest bankruptcy organizations in the American history. Additionally, it was also recorded as the biggest audit failure. It was established in the year 1985 by Kenneth Lay after amalgamation with InterNorth and Houston Natural gas. Later after a number of years, Jeffrey Skilling was employed and he came up with a team of executives. They took advantage of poor financial reporting, accounting loopholes and other special entries and embezzled billions of money in arrears from projects and failed deals. Andrew Fastow being the chief finance officer, worked hand in hand with other executives to delude the auditing committee plus board of directors. They were misled on high risk accounting performance and Anderson was forced not to pay any attention to the issues (Sterling, 2002).

A law suit of forty million dollars was filed by Company shareholders after the stock price of the Company had gained more than ninety dollars per share in the year 2000. This nonetheless went down to less than a dollar by the year 2001 and this led to an investigation by the Exchange Commission (Ferrell, 2008). The competitor Dynegy volunteered to buy the Company at a cheaper cost. However, this deal did not succeed and on second December, Enron Company filed for bankruptcy stated under Chapter eleven of the U.S. Bankruptcy Code. The Company had over sixty three billion dollars in assets which became the leading corporate bankruptcy in the American history before the WorldCom’s bankruptcy in the year that followed. Most of the executive at Enron were charged for various charges which led some of them to be incarcerated. The auditor at Enron found Arthur guilty of destroying documents  . The documents were related to the SEC investigation which canceled their license to review public Companies and led to the closure of the business. It was the biggest scandal in the modern economy which involved unfair management, creative accounting and misleading communication. The initial regulation was a dishonest accounting (Ferrell, 2008).

The business used the system of mark to market in an unlawful way as they worked out the unspecified profits for the next twenty years which means long standing assumed profits. They also failed to pronounce all the expenses and influenced auxiliaries which are told self-determining when they fit in at least three percent of the capital. They did this to help them hide their debts and make their earnings better. The management in the Company, used the performance review of the staff members which is used to conduct them to work hard only to in the group of winners (Fusaro, 2002). The best employees were rewarded, offered savings and pensions. This was to make them feel interested in the best form of the Company and not complain against to swindle. They also managed to bribe some bankers, politicians and analysts through forcing them and giving funds and other advantages. This included the one million dollars earned by the Energy Regulatory Board. The marketing strategy at Enron was a diversification of the making of the fraud of analysts who would sponsor the new products. The Company started to show some irregularities in its structure when it started to have large amounts of debt during its establishment. The outcome of deregulation of the pipelines of the gas is that the Company did not have limited rights to its own pipelines. In order to solve the credit of Enron and revenues the CEO had to hire Skilling who later became the Chief Financial officer to the CEO of the Company in the year 1996. It was like an overnight when he turned the Company a main market middle man for energy that was meant to control the trading market. There seemed to be success for many years but cracks started to appear later. The final analysis was carried out and showed conspiracy which led to the fall down of the business because of the fraud, careless accounting, revenue false reporting and lack of ethics (Fusaro, 2002).

Before the scandal, the Company had grown to be among the most innovative businesses all the way through in 1990s. It had a unique business strategy which made it famous in the whole world. At first, the objective of the Company was to sell gas and electricity but it ventured to other businesses by 1990s (Knapp, 2014). These other businesses included paper and pulp Companies as well as communications. The success of the Company was shown by the increase in annual revenues between the year 1995 and 2000.  It was however revealed in 2001 that the Company had incurred a loss of over five hundred million dollars which contradicted their audit reports. This scandal was also caused by special purpose entities in order to manage the risks that were linked to specific assets. It created shell Companies through a sponsor but they were funded by equity investors who were independent as well as debt financing. By the year 2001, the Company had utilized hundreds of the entities to hide its debt. It also used several of those entities like in Thomas Condor tax shelters among others in the deal (Knapp, 2014).

The entities were used for other purposes other than mere circumventing conventions of accounting. There was one violation which led to their balance sheet to understate their liabilities and overstated their equity. This means that their earnings were exaggerated. Their shareholders discovered that they had dodged the risk in their illiquid savings (Datar, 1995). Little did the investors know that the entities were in using the firm’s own financial securities and stock to finance the hedges. This is what put a stop to the Company being defended from the downside risk. Risk management in the Company was very important before the scandal due to its rigid environment and also because of their business plan. The Company developed fixed commitments for a long term which required to be evaded in order to organize the constant variation of the energy prices in the future. The Collapse of the Company was associated with poor use of unoriginal and the entities. The Company was able to maintain its risks that were connected to the transactions through evading the risks it owned with the entities. This kind of arrangement had the Company employ evasions with itself. Anderson had a role to the fall down of the Company because he hindered justice by cut into strips the many documents and getting rid of e-mails as well as the files that attached the firm to its audit (Datar, 1995).

Arthur Anderson firms around the world had to close because of improper audit in Dallas, Texas. This is because his reputation declined because of his criminal outcome which then favorably affected the perception of the market and the quality of its audit. This is because the scandals of reputation are a serious issue when the independence of the auditor is damaged (Peytcheva, 2008). It was important to close the firms the clients around the world at that time were affected and their relationship changed a lot with the Company. The news of the scandal were all over the world and the market responded negatively especially to those clients. More prominently, it is clear that the measure of inadequacy was abnormal return is crucially more harmful when the market saw the independence of the auditor vulnerable. The firm had to be closed because there were irregular returns when the dismissal of Andersen was announced as an auditor. The reputation of auditors is very important and every auditor should practice positive reputation to avoid the impact. It is clear that when the quality explanation of the audit was announced, the firms dismissed Andersen immediately. The returns on the announcement were a bit higher when Companies changed to non Big 4 auditors than when the replacement was not announced (Peytcheva, 2008).

The reputation of auditors and independence has a great effect on the audit quality seen.  It is also significant for the trustworthiness of financial statements audited and also the market prices. Audit firms need to be very transparent in order to set a good example to the other firms that require their services (Peytcheva, 2008). They should not be ignorant like in this case but should always be on the lookout of what is happening in their firms. It is important to check the records on a regular basis in order to discover irregularities as early as possible. This is because if the faults are discovered early, then it is easier and possible to look for solutions without even being exposed to the whole world. This is also important as it would help in avoiding huge losses that take time to be solved. It was also fair to close all the firms by Andersen in order to teach a lesson to other firms who have the same issues. This helped other firms to be keen on what was happening in their Companies and carry out regular audits. It is not wise for such a Company to be allowed to offer services to Companies and to later turn around and offer the audited report of the financial outcome to the activities. It was important for the Andersen firm to be closed and announced to the whole world for him to realize his ignorance. This was meant to make him understand the importance of good management and care of the firm as well as the employees. The other big firms also had a lesson to learn from this that even if the firm looks perfect from the outside, it is important to check the inside to avoid scandals (Peytcheva, 2008).

 

 

 

 

 

 

 

 

 

 

 

 

 

 

References

Sterling, T. F. (2002). The Enron scandal. New York: Nova Science Pub.

Ferrell, O. C., Fraedrich, J., & Ferrell, L. (2008). Business ethics: Ethical decision making and cases. Boston: Houghton Mifflin Co.

Fusaro, P. C., & Miller, R. M. (2002). What went wrong at Enron: Everyone's guide to the largest bankruptcy in U.S. history. Hoboken, N.J: J. Wiley.

Knapp, M. C. (2014). Contemporary auditing: Real issues and cases.

Datar, S. M. (1995). The effects of auditor reputation in moral hazard and adverse selection settings. Ann Arbor, Mich: U.M.I. Dissertation Services.

Skinner, D. J., Srinivasan, S., & Harvard Business School. (2010). Audit quality and auditor reputation: Evidence from Japan. Boston: Harvard Business School.

Peytcheva, M. (2008). Accountability, reputation costs, and opportunistic auditor behavior.