AIM_Case Study_Enron Financial Disaster

7/28/2019 AIM_Case Study_Enron Financial Disaster

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Case Study: Enron Financial disaster

The major reasons for downfall of corporate giant like Enron are the corporate governance andlack of work ethics and greed. Enron the energygiant held the reputation of being 7th largestcorporate giant in U.S., but with its accounting messesand personal greed of the chief financialofficer and many others it was reduced to trashes. The key issues here were:

Hiding debt in disguise of SPVs and to show inflated profits This led to downslide in share prices and decreasing credit rating of the company

The retire4ment savingsof the employees was totally lost due to bad financial accounting.

Arthur Anderson and Enron hid the financial situation from everyone will it was out in

public. They even shredded the important financial documents and audit relateddocuments

Results of Enron Fall outThis collapse puts a big question mark on the free trade policy and regulations of government,tax evasion of rich and powerful and heavy taxes levied on poor and middle classThe myth of deregulation has been busted as had there been powerful and strict norms ofregulation related to power , energy and energy derivatives such kindof financial disaster could

have been diverted.Campaign Finance Reform prevalent in U.S has been given a high empowerment as Enron wasfinancing campaigns of G.W. Bush in the country with huge amounts just to get some politicalfavours.The dual face of wall Street was also uncovered due to fall of Enron , on one hand the big bankspush big investments by granting loans and on the other hand they create enthusiasm for thesestocks in the financial markets thus befooling the shareholders.Since the life savings of several employees was wiped out due to collapse of Enron thegovernment needed to take a look its taxpaying schemes and allow the tax payers to save andinvest some amount into their private accounts.This finally leads to the culture of greed which has been breeding in the society at all the levels;

however it was because of financial accounting disaster, but the bottom-line out here is just greedand not following the ethics.

There has to be a total overhauling of the structure of the system.

The cases related to corporate irresponsibility needs to be punished with dire

consequences to teach them lesson. The employees should get more powers and participation in management decisions or

corporate decision making process. Free markets and the capitalism should be questioned very closely.( Puscas 2002)

WorldCom Fallout

Clarke, T. Has highlighted that the reason for major financial scandal of a company likeWorldCom are not just financial issues , there are stringent corporate governance lack and ethicsless society which has lead to the downfall of World com.(WorldCom Case study 1999)

Used illusionary accounts to fool shareholders

Overstated profits

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Sullivan gave instructions to record expenses as capital investments to show WorldCom

as financially stable company. Wrong spreading of operation costs by WorldCom

They gave hefty personal loans to Ebber and recorded them as financial losses

This resulted in profit irregularities in company

Department were standing competitors against each other thus raising internal politics inthe organization

Autocratic leadership roles performed by the topmost leaders

Negligence of achieving targets or results through the right way

Followed the philosophy of ends justifying the means.

Main tools used for achieving results were external rewards, punishment or power.

The organizational structure was totally hierarchical and the leaders followed the policy

of command and control. The primarymotivators out here were money, fear and perkthat it. The only relationship

that existed in the organization was work and get pay checks.This culture of greed followed led to the downfall of WorldCom. As there were no ethics

training or complained programs. The leaders followed the autocratic rule and the workers weretreated with disrespects and dishonour. The leaders never followed the policy of executiveleadership which could have brought ethical and law abiding climate in the organization. Sincethe workers never exercised autonomy and never acted as per free will so they never feltresponsible for any actions they took personally. On the other hand the autonomous workers areallowed to organize and take decision while working and they have the power to control theirwork too. It is not just training which can bring change but the leaders have to be autonomous tobring the change and an effective work culture. The main issue which gets highlighted out hereso leadership and corporate governance which has to be ethical in any case for an organization torun successfully in the long run. There is dire need of re learning for corporate executives to leadtheir organization and then only we can expect some change in work culture. SO its is not all

about greed it is a mix of many issues like work culture, corporate governance, ethics etc. (Sarno,J.J. 2009)

1. Answer the questions to the Wearing Enron case using material covered this semester.

1. Discuss the relative risks of companies with substantial physical assetsCompared with companies which have substantial intangible assets.If we compare the risk factor of companies with substantial physical assets to the companies with

intangible assets, it is very well evident from the Enron Case that having physical assets makesthe company more secure and the skewing towards risk factor becomes leer. While in case ofcompanies with intangible assets the risk factor is much more. The reason being if there is anyrisk to a company which has many physical assets it can cover its losses and risk by selling offthose physical assets and we saw that till the time Enron was investing in gaining physical assetsit was much safer. But as it started investing in intangible assets like Weather derivatives andshares etc. Its capacity to recover the risks decreased and finally resulted in its fall out.

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Merrill Lynch: It was fined $80 million for doing a transaction with Enron where it

earned a profit of just $500, 00.

1. Discuss whether potential whistleblowers should be encouraged to report their concerns

of poor corporate governance. Should they report their concerns within or outside theorganization?Potential whistleblowers should be definitely encouraged as they help in lifting the curtain offfrom the big corporate giants like Enron; just like in case of Enron Sharron Watkins thewhistleblower took the courageous step to take her concerns to the top management. They shouldreport their concern within and outside the organization, because corporate generally take themas bad people trying to harm the interests of the company. But they should take legal help andhelp from media too to raise awareness amongst people and shareholders about the issues ofcorporate governance.

1. What particular features about Enrons board of directors reduced the likelihoodThat the companys problems would be properly addressed?The main features of the board of directors which resulted in not addressing eth companysproblems properly were an audit committee was set up and that too very strategically to avert thefinancial disaster on behalf of the board of directors. They were situated at remote and farlocations and did not have the nerves to challenge the engineers beforehand. They were too muchdependant on the management and during the meetings with management they did ask manyquestions and did not bother to challenge the decision taken by management. All this led tocollapse of Enron.

1. Answer the questions to the Wearing WorldCom Case using material covered thissemester.

1. Is it possible that the UK quoted company sector could experience its own version ofWorldCom?

This is very true that even UK has chances of experiencing its own version of WorldCom,because in recent past it has experienced many such financial scandals like Maxwell Polly peckand BCCI. Financial reporting, auditing and corporate governance were not the only majorreasons for downfall of WorldCom. If UK has perfect systems and guidelines for auditing ,financial reporting and policies for corporate governance even US has these policies , howeverthere might be some differences in few policies, but here the big questions is ethics. These are

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the same worldwide. So mainly if Ebbers would have followed business ethics and properfinancial management this wearing of WorldCom would have never happened out here in US.Although Peter Wyman, 2002 said that all the financial policies and auditing is perfect in UK butafter major scandals too Beth Holmes says that UK has not learned anything from these scandalsin the past, there are not any major changes in corporate governance policies in UK, so they have

been just lucky to divert WorldCom or Enron like financial fall downs however they are equallysusceptible to them.

1. Should short-sellers be described as stakeholders?Short sellers are mainly the investors who ask the broker to shorten N number of shares in somecompany say WorldCom. The broker does so by borrowing N number of shares from anotherclient and then sells these shares in the market. The position or time period of short selling ismaintained till the broker has option of buying these shares from another client. Now the investorwill buy these N numbers of shares form the market and close the position.Thus here the sale andpurchase of the shares is exactly equal. The main motive of any investor out here in short selling

is to increase the share price of its company by creating demand or short fall of the shares in themarket.Thus if there are lesser shares in the market people will be tempted to buy it more andthus the selling is done beforehand any purchase.Thus the stake holders can be or mostly havebeen seen as the part of short selling especially here in case of WorldCom.(Wearing R.T. 2006)

1. Identify the stakeholders who lost out when WorldCom filed for bankruptcy anddescribe the extent of their losses.

Bernard Ebbers: He was the key stakeholder and the founder of WorldCom was asked and ratherforced to resign in March 2002 because of bankruptcy of WorldCom.Scott Sullivan: He was the main mastermind behind the whole scandal and was theChiefFinancial officer who was fired because he was the part of the financial scandal.David Myers: He was senior Vice President and controller of WorldCom, he too was fired andthe reason is part of the financial scandal.Buford Yates: He was the former director of Accounting of WorldCom and he too was fired.Betty Vinson: She was former Accounting Department manager at WorldCom and even she waspressurised to resign due to her alleged involvement in the scandal.Arthur Anderson: were removed as financial auditors of World Com and were replaced byKPMG.(WorldCom Case study 1999)

1. Identify the main lessons that can be learned from WorldComs Bankruptcy?The main lessons that can be learnt from WorldCom bankruptcy are:The company although so big ignored the mobile communications market and just concentratedon internet basic services only which were very important.It tells us that the disaster of WorldCom is not just greed driven but also due to conservativecorporate culture which was fostering dependent workers and workers with low self esteem.This

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resulted in workers who just worked for external rewards and were never allowed to exercisefree will.Thus promote work culture which is not active and optimistic.Since the values of WorldCom were materialistic and deterministic there were no code ofconducts or programmes for work compliance or ethics training , SO every organization shouldhave them in proper state.

The corporate governance should make lows so that organizations cannot promote personalinterest and profits and should not just work towards making the shareholder value high at anycost.Leadership has to be transparent and can be evaluated at any given point of time. The leadersshould be not autocratic and should be open to any kind of information sharing and givingfeedbacks. Thus it should be holistic in approach and should offer free will transparency andpersonal responsibility.(Sarno, J.J. 2009)

1. To what part can ethics be considered part of the solution to prevent future bankruptciessuch as WorldCom?

Ethics plays an important role and are a key role player in preventing financial scandals like

WorldCom. Ethics like open communication should be encouraged so that the whistleblowerscan avert such financial crisis without any fear. It will promote whistleblowers which will betreated both legally important issues and will help in sharing information and the need o bringchange in any organization.Although coaching along with mentoring are very important parts of any corporate ethics.Thiswill bring self esteem and dignify any kind of worker in the organization. Thusethics play veryimportant part by developing trend of transparent leadership. Ethics needs to be combined withthe work culture in the organization for a better and stable organization , just ethics training orcompliance programs will not work well if the work environment is totally materialistic or if theworkers are not respected and treated with dignity in the organization. This is what happened inWorldCom and led to its downfall.(Sarno, J.J. 2009)

Reference

Puscas, D. 2002, A Guide to the Enron Collapse: A few points for clearer Understanding,

Polaris Institute.

Sarno, J.J. 2009, Lessons from WorldCom, Employers association of New

Jersey.http://www.slideshare.net/JohnJS/lessons-from-world-com-presentation

Wearing R.T. 2006, Are short-sellers stakeholders? University of Essex, Essex

WorldCom Case study, Ethics Institute of South Africa, 1999, South Africa, viewed on

21 October 2011 from http://www.irmsa.org.za/library/WorldCom.pdf

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http://www.slideshare.net/JohnJS/lessons-from-world-com-presentationhttp://www.irmsa.org.za/library/WorldCom.pdfhttp://www.irmsa.org.za/library/WorldCom.pdfhttp://www.slideshare.net/JohnJS/lessons-from-world-com-presentation

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