Enron’s Accounting Fraud Essay Example

attract new investors and maintain the satisfaction of current ones. A prime example of this deceitful behavior can be seen in ENRON's executives, who diverted investment funds for personal gain while presenting fraudulent earnings reports to shareholders. As a result, existing investors were enticed to increase their investments, and potential investors sought to benefit from ENRON's seemingly prosperous financial condition.

The temptation for managers to manipulate company earnings in order to receive large bonuses is evident since these bonuses are directly linked to the company's earnings. In 2001, ENRON shares suffered a significant drop from US$ 85 to US$ 0.30 as a consequence of this accounting scandal. Many of the losses incurred by ENRON were not disclosed in their financial statements, which characterized the ENRON fraud case as a highly intricate situation involving fraudulent accounting practices. The origins of the ENRON scandal can be traced back to the early 1990s.

Jeff Skilling, the president of ENRON's trading operations in the 1990s, was able to convince federal regulators to allow ENRON to use market-based accounting. Market-based accounting can be used unethically, involving intentional deception during the exchange of stocks, bonds, and other securities. This is exactly what ENRON did by extensively employing market-based accounting for its energy segment and trading transactions.

Under this accounting rule, companies are required to assess outstanding contracts or energy-related contracts on their balance sheets using fair value at the end of a quarter. They must also record any unrealized gains and losses on the quarterly income statement. The challenge lies in valuing long-term future contracts for commodities like gas, as there are no quoted prices available. ENRON took advantage of market-based accounting, which

enabled them to include projected earnings from long-term energy contracts as current income. These contracts represented funds that may not have been received for several years.

Investigators discovered that ENRON used an accounting method to manipulate future revenue and overstate their earnings. For example, a portion of the reported income before taxes for 2000, amounting to a little over $1.1 billion, was derived from unrealized gains. This and other questionable accounting measures made it challenging for the public to comprehend ENRON's business model. Although the numbers were recorded in their books, the company evaded paying taxes on the equivalent amount. In order to hide losses, ENRON also created entities off their balance sheet.

Additionally, it is known that ENRON acquired numerous promising ventures and established off balance sheet entities to mitigate financial statement risks. Due to the aforementioned market-based accounting approach, ENRON recorded exceptionally high revenues. Consequently, the company sought further expansion into various industries. As an illustration, ENRON would purchase or develop an asset, like a pipeline, and then proceed with vertical integration by acquiring retail businesses connected to that pipeline.

This approach necessitated significant initial investments and would not yield immediate profits or cash flow. If ENRON chose to include this approach in their financial statements, it would have negatively impacted the company's ratios and credit ratings, which were vital for their energy trading business. To resolve this problem, ENRON sought external investors who were interested in participating in these deals. These joint investments necessitated that ENRON provide a guarantee or some other form of credit proof.

ENRON made the decision to organize its investments as Special Purpose Entities (SPE) due to this reason. ENRON accomplished

this by creating the Raptors, a network of special purpose entities, to protect against losses incurred by these SPEs if their stocks were depreciating. When the telecommunications industry faced its initial decline, ENRON also suffered from weak financial performance. In fact, when ENRON's stocks fell below a specific threshold, it resulted in the collapse of the Raptor's stock. This occurred primarily because the Raptors' stocks were supported by ENRON's stock.

The telecom industry downturn exposed the fraudulent scheme at ENRON. Timothy Belden, the head of ENRON's energy-trading operation, engaged in wire fraud by participating in the manipulation of California's energy market. This manipulation led to an artificial increase in power prices. Belden played his part in this fraud by purchasing California's power at low prices with caps. Then, he redirected the power outside of California and sold it back into the state at significantly inflated prices.

Upon retrospective analysis, numerous historians and economists believe that the ENRON executives deliberately created this crisis as a preemptive measure for the impending exposure of their fraudulent activities. Despite benefiting from investment funds, the ENRON corporation itself was on the verge of bankruptcy.

ENRON executives successfully sought government deregulation, which is typically the government's authorization and regulation of commercial activity and behavior within a corporate setting.

Due to the declaration of deregulation, ENRON executives could control the earnings reports shared with both investors and employees. This control resulted in highly biased earning reports which did not accurately reflect the losses, leading to increased investments from investors who believed ENRON was a profitable company.

ENRON faced severe consequences as a result of the actions of its executives. These actions led to the company's bankruptcy,

causing investors to suffer losses exceeding $70 billion. Additionally, trustees and employees endured losses amounting to $2 billion through misappropriated investments, pension funds, stock options, and savings plans. Despite government regulations and the ENRON Corporation's limited liability status, only a small portion of the lost funds were recovered.