Enron’s Scandal:The Fall of a Wall Street Darling
Abastract-
The Enron scandal revealed in October 2001, instantly led to the bankruptcy of the Enron Corporation an American based energy company.It affected thousands of employees and shook the wall street to its core . Enron at it’s peak had share price of $90.75. When it declared bankruptcy on December 2, 2001 ,they were trading at $0.26. While going through the Enron’s 2000 reported Revenue vs.similarily sized companies it seems like its too good to be true. Which means giant companies like Microsoft ,Dell Computers etc were no where in the competition with Enron. Enron was an innovative company but the downfall of Enron can be traced by considerable success and some of the extremely bad diversification decisions, and poorly implemented administrative practices that keeps on leading to blind gambling and unethical drift. This drift was started by bankers and advisors of Enron and lacked the attention of Enron’s board of directors and other watchdogs.
Broader market effects resulting from the rise and fall of Enron
By taking the advantage of informational market, Jeffrey Skilling acted like a finance guy ,not as an engineer. He played the energy market similar like a stock market and created the false demand to increase the marginal prices and after that bidding on account to further gas the price of marginal megawatts.Frantic and befuddled system operators, that tried to handle surge demand, saw the prices as high as 10x what they were accustomed to. Having creating the buying panic,Enron wheeled, through market option, apparent supply. Then they let the artificial market crisis subsidised and exercised options that allowed them to force sale of higher priced mega watts. Or, alternatively, they played calls, filling contracts executed as prices where rising quickly with mega watts they could purchase cheaply as markets reequilliberated. In one case they created a false demand in Southern California and supplied in Northern California. This is all classic stock market manipulation that Enron did.
Abastract-
The Enron scandal revealed in October 2001, instantly led to the bankruptcy of the Enron Corporation an American based energy company.It affected thousands of employees and shook the wall street to its core . Enron at it’s peak had share price of $90.75. When it declared bankruptcy on December 2, 2001 ,they were trading at $0.26. While going through the Enron’s 2000 reported Revenue vs.similarily sized companies it seems like its too good to be true. Which means giant companies like Microsoft ,Dell Computers etc were no where in the competition with Enron. Enron was an innovative company but the downfall of Enron can be traced by considerable success and some of the extremely bad diversification decisions, and poorly implemented administrative practices that keeps on leading to blind gambling and unethical drift. This drift was started by bankers and advisors of Enron and lacked the attention of Enron’s board of directors and other watchdogs.
Broader market effects resulting from the rise and fall of Enron
By taking the advantage of informational market, Jeffrey Skilling acted like a finance guy ,not as an engineer. He played the energy market similar like a stock market and created the false demand to increase the marginal prices and after that bidding on account to further gas the price of marginal megawatts.Frantic and befuddled system operators, that tried to handle surge demand, saw the prices as high as 10x what they were accustomed to. Having creating the buying panic,Enron wheeled, through market option, apparent supply. Then they let the artificial market crisis subsidised and exercised options that allowed them to force sale of higher priced mega watts. Or, alternatively, they played calls, filling contracts executed as prices where rising quickly with mega watts they could purchase cheaply as markets reequilliberated. In one case they created a false demand in Southern California and supplied in Northern California. This is all classic stock market manipulation that Enron did.
Factors that motivated down fall of Enron-
Mark-to-market accounting methodology was followed by Enron. They used this methodology for their financial and accounting statements. Using these statements they manipulate Enron’s profits and loss to show their company is in good profit. They used to hide their losses by unethical practices. The fair value of accounting leads to boast about company performance on paper while the company was in high loss.
Enron was also largely involved in the trading of derivatives. Professor Frank Partnoy of University of San Diego once stated on this “It will surprise many investors to learn that Enron was, at its core, a derivatives trading firm”. Enron was extremely profitable in trading of derivatives, but also lost money on everything it did.
Enron used derivatives both outside as well as inside the company. On the outside, they used to create Enron’s web off-balance sheet that deals with extremely complex financial partnerships known as special purpose vehicles. Special purpose vehicles and derivatives they used in three ways. First, it used hide speculator losses that suffered in technology stocks. Second, it hide huge debts that was generated by unprofitable businesses, including retail energy services. Third, it over exaggerated the value of other non performing business, including new ventures like fiber-optic bandwidth.
The above factors mixed with bad financial and management decisions led the company to be buried under huge amount of loss and debt. By 2001, the company crumbled under the weight of $38 billion in debt. At the time, it was the biggest bankruptcy in U.S history.
Risk mitigation techniques that could have been applied to minimise the Enron’s risk profile
In early 1997, Enron was an profitable and innovative player in the newly formed natural gas industry. Enron’s big idea was to create transparent markets for commodities like natural gas. Enron also came up with its concept called EnronOnline. EnronOnline was a web-based trading platform that became worlds largest e-commerce system in no time. They also came up with the concept called gas bank to fulfil their supply commitments. They also played a major role between
Mark-to-market accounting methodology was followed by Enron. They used this methodology for their financial and accounting statements. Using these statements they manipulate Enron’s profits and loss to show their company is in good profit. They used to hide their losses by unethical practices. The fair value of accounting leads to boast about company performance on paper while the company was in high loss.
Enron was also largely involved in the trading of derivatives. Professor Frank Partnoy of University of San Diego once stated on this “It will surprise many investors to learn that Enron was, at its core, a derivatives trading firm”. Enron was extremely profitable in trading of derivatives, but also lost money on everything it did.
Enron used derivatives both outside as well as inside the company. On the outside, they used to create Enron’s web off-balance sheet that deals with extremely complex financial partnerships known as special purpose vehicles. Special purpose vehicles and derivatives they used in three ways. First, it used hide speculator losses that suffered in technology stocks. Second, it hide huge debts that was generated by unprofitable businesses, including retail energy services. Third, it over exaggerated the value of other non performing business, including new ventures like fiber-optic bandwidth.
The above factors mixed with bad financial and management decisions led the company to be buried under huge amount of loss and debt. By 2001, the company crumbled under the weight of $38 billion in debt. At the time, it was the biggest bankruptcy in U.S history.
Risk mitigation techniques that could have been applied to minimise the Enron’s risk profile
In early 1997, Enron was an profitable and innovative player in the newly formed natural gas industry. Enron’s big idea was to create transparent markets for commodities like natural gas. Enron also came up with its concept called EnronOnline. EnronOnline was a web-based trading platform that became worlds largest e-commerce system in no time. They also came up with the concept called gas bank to fulfil their supply commitments. They also played a major role between
middleman and producers and consumers and that was the major advantage over
its competitors as it was nation's largest gas pipeline networks.
Majority of the Enron's investment gambles got unsuccessful to fulfil its greedy appetite for money to support its commodity and trading operations. In 1997, Enron’s profits got declined. This forced the company to sell overvalued, non performing assets. The idea behind it was to use these fact and figures in complex entities to manage their reported earnings, reduce their debt, and maintain the Enron’s credit ratings and overvalued the price of the stocks. They also used the off balance sheet to hedge its investments as much successful. The main problem was that these hedges were unreal, because Enron used to hedging with itself initially. To hide the company is bad financial position many outside bankers and advisors acquiesced too many of transactions that are questionable. Serious breakdowns are also experienced while analysing sophisticated risk and control system.
According to the case study Enron should strengthen its board oversight and also executives financial incentives preservation should be avoided. Should avoid unethical practices to mitigate the risk. Company should not exaggerating or hide its true economic performance. Disciplined decision making and good relationship with shareholders and employees could minimise the risk as well.
Majority of the Enron's investment gambles got unsuccessful to fulfil its greedy appetite for money to support its commodity and trading operations. In 1997, Enron’s profits got declined. This forced the company to sell overvalued, non performing assets. The idea behind it was to use these fact and figures in complex entities to manage their reported earnings, reduce their debt, and maintain the Enron’s credit ratings and overvalued the price of the stocks. They also used the off balance sheet to hedge its investments as much successful. The main problem was that these hedges were unreal, because Enron used to hedging with itself initially. To hide the company is bad financial position many outside bankers and advisors acquiesced too many of transactions that are questionable. Serious breakdowns are also experienced while analysing sophisticated risk and control system.
According to the case study Enron should strengthen its board oversight and also executives financial incentives preservation should be avoided. Should avoid unethical practices to mitigate the risk. Company should not exaggerating or hide its true economic performance. Disciplined decision making and good relationship with shareholders and employees could minimise the risk as well.
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