Summer reading: Flowers, strippers, lies, billions and bankruptcy

By JIM EAGLES

Robert Bryce: Pipedreams: Greed, Ego and the death of Enron

Public Affairs (distributed in New Zealand by Southern Publishers Group)

$69.95


The off balance-sheet transactions which eventually brought down energy giant Enron - and sparked off a global revolt against dishonest accounting - were actually extremely profitable.

Not for Enron, true. But for the company's chief financial officer, Andy Fastow, they were incredibly good.

Fastow, who set the deals up to disguise Enron's growing debt burden, put US$4.9 million ($9.47 million) of his own money into two companies which acted as the main vehicles for the manoeuvre.

In return for that investment he made sure Enron paid the companies enough for him to be able to take US$45 million in profits over two years.

Even the notoriously carefree Enron board, which was well used to the company's being plundered by its executives, was gob-smacked at that revelation.

After all, it isn't as though Fastow was poorly rewarded by the company.

During his three-year reign presiding over the company's finances he received hundreds of thousands of Enron shares which he sold off before the crash for US$33.67 million.

That was on top of an annual salary of US$440,698 and bonuses of more than US$3 million.

Plus, like all the Enron executives, he enjoyed unlimited access to corporate perks such as travel, food, alcohol, flowers, strippers and just about anything else they could want.

The story of how Fastow ripped off Enron at the same time as he was helping Enron rip off investors is one of thousands collected by Texas investigative journalist Robert Bryce for his book PIPEDREAMS: Greed, Ego and the death of Enron which has just been issued in New Zealand.

It is a fascinating story of almost unbelievable corporate greed, overweening executive egos, astounding dishonesty, and, ultimately, extraordinary stupidity.

The cumulative effect was to destroy a company which was once one of the symbols of US corporate might.

Bryce's conclusion after all his research is that "the answer to why Enron failed could be boiled down to one word - a word that business management gurus love to spout off about.

"It's a word that consultants and authors charge $1000 a day to discuss with management. It's an expensive word, a word that has defined civilizations - and companies - for generations. It was the culture, stupid.

"Fish rot at the head.

"Enron failed because its leadership was morally, ethically and financially corrupt.

"Whether the question was accounting or marital fidelity, the executives who inhabited the the fiftieth floor at Enron's headquarters became incapable of telling the truth, to the Securities and Exchange Commission, to their spouses or their employees.

"That corruption permeated everything they did and it spread through the company like wildfire."

Enron started life as Houston Natural Gas and through a series of mergers ended up as a significant energy company with gas fields, gas pipelines, oil wells, coal mines, petrochemical plants and oil refineries.

But that all changed with the arrival of Jeff Skilling, a former McKinsey whiz-kid, with big plans for turning this stodgy old energy business into a livewire commodity trading operation.

First, he persuaded Enron not just to sell gas, but to sell gas hedges, in other words to guarantee to provide businesses such as gas-fired power stations with a supply of gas at a set price years or even decades into the future.

Second, he convinced Enron that instead of the traditional approach of recording the profit on these gas supply contracts as it occurred - in other words, when the gas was actually delivered - they should calculate the profit in advance and include it in the accounts as soon as the contract was signed.

This approach looked to be good for Enron because its revenues seemed to boom and its share price rocketed under the impetus of this new approach.

It was certainly good for Skilling because he was paid vast bonuses based on the size of the mythical profits he was generating.

Others in the company decided they would like to be on the same gravy train, and soon Enron bigshots were circling the globe signing contracts to pipe gas, build power stations, sell newsprint hedges, supply water, provide internet bandwidth ... anything that would allow them to book massive theoretical future profits and collect their multimillion-dollar bonuses.

The champion was probably Lou Pai, chairman of Enron's New Power Company, who preferred to be rewarded for his complex, long-term energy deals - none of which made any real money - in stock options, which he sold well before the crash for US$270 million.

All those bonus-driven deals in turn saw Enron's accounts boosted by the same theoretical profits ... especially when Skilling - who was soon promoted to the chief executive's job in recognition of his innovative approach - realised he could adjust the company's revenues simply by changing its assumption of what the price of gas or newsprint or electricity or whatever might be in the future.

Ken Lay, the chairman of Enron throughout all this, found himself presiding over a vast money machine.

Some was used to boost Enron's influence by hiring big shots (most notably former secretary of state James Baker), making huge political contributions (especially to President George Bush and his son, President George W. Bush), funding popular causes (such as getting naming rights for the Houston Astros home ground) and generally giving money to anyone or anything that might be helpful.

Still more was spent making sure the investment banks, on which many investors rely for advice, kept pumping out a favourable message about the company. Enron achieved this by using banks a great deal, making it Wall Street's biggest client, and sharing its work among all the main banks, so they all wanted to keep the company sweet.

Bryce's investigations suggest that at its death, Enron owed Chase Manhattan US$185 million, UBS Warburg US$74 million, Credit Suisse First Boston US$71 million, Bear Stearns US$69 million and Commerzbank US$45 million - and they weren't the only banks it used - giving some idea of how much the Wall Street operators needed to keep the energy star shining and the fees rolling in.

Enron also used the value of its business to keep Arthur Andersen, its accountant and auditor, on-side. Enron gave Andersen so much auditing, consulting and tax work that by the late 1990s it was the biggest client, paying out more than US$50 million a year.

Andersen simply could not afford to lose the business and so it was easily bullied into approving Enron's dodgy accounting and even taking accountants who asked too many questions off the account.

But even that spending was dwarfed by the vast torrent of money used to maintain the extraordinary Enron lifestyle.

Enron people were transported in limousines, they flew either in the company's own corporate jets, in chartered aircraft or, at worst, first-class, they stayed in the finest hotels, ate the finest food, used the latest computers and palm pilots, had their offices remodelled regularly according to the latest corporate taste and hung the most expensive art on the walls.

The whole attitude was probably summed up by the spending on flowers, which in one year alone cost Enron US$2 million. "Oh yeah," said an auditor interviewed by Bryce, "we had secretaries sending their bosses flowers, bosses sending their secretaries flowers. We found out some secretaries were sending flowers to their friends so the secretaries could get the pretty vases the flowers came in. For a while we were the biggest customer for about five florists all over Houston."

The problem with this vast edifice was that it was built on sand.

All the political donations, bank fees, bonuses, airplanes and flowers were paid in cash.

But Enron's big deals were based not on cash but on theoretical future profits.

In the third quarter of last year, for instance, Enron reported revenues of US$138 billion but its cash flow was negative to the tune of US$753 million.

Worse still, a lot of those deals on which fat bonuses had been paid out and big revenues reported were turning bad.

In California, for instance, Enron was involved in a vast array of energy hedges signed up when gas was selling for about US$3 per unit and electricity for US$30 a unit and mostly assuming the price would fall. But by 2001 the energy crisis in the state saw the gas price rise to US$60 and electricity to as much as US$1500.

In other words, instead of making money, as the accounts had recorded, the hedges were losing bucketloads of it. By the end of 2000 its liabilities in the California energy market alone were US$6.1 billion.

Small wonder that in the first quarter of last year Enron had to borrow US$1.2 billion just to stay afloat and its long-term debt rose to US$9.7 billion.

Of course, all that debt didn't look good, which is where Andy Fastow's off balance-sheet sleight of hand came in.

As early as 1997, Fastow started creating companies, ostensibly controlled independently by himself or some of his colleagues, to which he transferred some of the worst deals. That helped keep the share price up but it didn't do anything to solve the basic problem.

Eventually, of course, the technique of borrowing billions just to pay the day-to-day bills just couldn't work any more.

Questions started to be asked, the share price started to slide and several of its top people, such as Fastow, Skilling and Pai, cashed in their benefits and ran.

In the company's final months, Lay used all of his once-huge influence to try to find a way out. President George W. Bush, Federal Reserve chairman Alan Greenspan, billionaire Saudi prince Alwaleed Bin Talal and rival energy trader Dynergy were among those to get the call for help but they all smelled trouble and fled.

Finally, at 10.57am on November 28 last year, the inevitable happened. Standard & Poor's slashed Enron's credit rating to junk bond status. Moody's and Fitch followed suit.

The market response was brutal.

Enron's share price - which on August 23, 2000, hit a high of US$90 - had closed the previous day at US$4.11. Immediately after the announcement, 342 million shares changed hands and the price collapsed to US60c.

Three days later the board met and declared bankruptcy. There was no cash coming in and they could no longer borrow to keep up appearances.

Thousands of Enron employees lost their jobs. Thousands of investors lost their savings. But those responsible for it all are mostly sitting pretty.

Fastow was recently charged with fraud and conspiracy. One of his assistants, Michael Kopper, has pleaded guilty to charges of wire fraud and money laundering. Arthur Andersen has been convicted of obstruction of justice and has gone out of existence.

The others continue to enjoy the good life in their multimillion-dollar mansions.

True, most of them face civil suits but, as Bryce explains, even if the suits do go anywhere, they can relax in the knowledge that Texas has the most generous bankruptcy laws in the US.

This would be an amazing story if it was a novel - and certainly it reads like one of Jeffrey Archer's bestsellers - but the fact that it is all true, and has all been meticulously researched by Bryce, makes it an astounding effort.

It will fascinate and appal anyone with an interest in business, investment, markets and human nature. It is also a cracking good read.