Abstract
The Enron Scandal was an accounting fraud perpetrated by senior executives of Enron Corporation. It comprised the extensive use of unethical practices, the breakdown of corporate governance structures, and the management’s influence on the company’s accounting firm to facilitate the concealment of the malpractices. Enron: The Smartest Guys in the Room is a crime documentary retracing how the world’s biggest fraud was perpetrated. Enron officials used mark-to-market and hypothetical future value accounting systems to execute the crime and assign the worthless and financial obligations to fictitious entities called special purpose vehicles. The documentary highlights numerous incidences of ethical dilemmas and provides useful lessons for accounting students.
Introduction
Enron: The Smartest Guys in the Room depicts incidences of conflicts of interest and the manipulation of the mark-to-market accounting system by Enron’s high-ranking executives to perpetrate fraud. The white-collar crime led to the bankruptcy and eventual collapse of one of the world’s most successful companies. Enron: The Smartest Guys in the Room illustrates the deterioration of ethics in corporate culture in which the senior employees engaged in fraudulent accounting activities. The management also created special purpose vehicles (SPVs) to facilitate the institutionalized and systematic racketeering, which helped to keep the spiraling losses and debts off the balance sheet. Although Enron’s executives wanted the energy sector deregulated and governmental influence eliminated to enhance the firm’s shareholder value, the move created ethical dilemmas for the company and contributed to the ultimate disintegration of the firm.
Background
Enron Corporation was an illustrious American company that had established itself as among the leading financial health organizations in the United States. At some point, the company ranked as the nation’s seventh-largest entity, valued at almost $70 billion (Sarkkinen, 2015). The corporation was praised for its innovative operational model, which was deemed the future of the energy and power sector, and was steered by America’s brightest. Ken Lay and Jeffrey Skilling were the top executives who drove the successful corporation (Sarkkinen, 2015). Enron divested its business plan to enhance profitability and ventured into various projects, including the construction of pipelines and power plant development. However, these capital-intensive engagements placed an enormous strain on the corporation’s resources since they required long gestation durations to generate profits (Hosseini & Mahesh, 2016). As a result, the executives were compelled to raise large amounts of finances from the money markets, effectively imperiling the company’s credit score. However, their desire to sustain an impressive credit rating and continue with operations forced them to devise an avenue through which they kept the rising debts off the balance sheet.
Enron Corporation’s executives concealed the firm’s financial obligations by instructing the accounting firm, Arthur Andersen, to create fictitious entities, known as SPVs, through which the accounting loopholes were exploited. Through the SPVs, Enron successfully concealed billions of dollars in debts incurred from failed projects, deals, and hedges (Coyne, 2017; Simpson, 2016). Indeed, the corporation’s Chief Financial Officer Andrew Fastow, alongside other senior employees, misled the board and audit committee on the adopted high-risk accounting practice of mark-to-market and pressured Arthur Andersen to disregard the issues (Sarkkinen, 2015). In this regard, the firm’s earnings and financial statements were misrepresented to reflect favorable performance, despite mounting losses (Sarkkinen, 2015). In 2000, Enron entered into a 20-year agreement with Blockbuster Video to introduce on-demand entertainment and went ahead to recognize the estimated profits of over $110 million in its books (Sarkkinen, 2015). For instance, Ken approved the recognition and the subsequent posting of revenues through a scheme Skilling called the hypothetical future value of projects. In another episode, Enron misreported a financial aid advanced to the corporation as a sale to hoodwink investors and make the company appear profitable in open incidences of an ethical dilemma.
Ethical Dilemma in the Movie
Enron: The Smartest Guys in the Room crime documentary highlights various instances and episodes of ethical dilemmas. Among such prominent occasions is when Ken Lay’s ambitions for a liberated and deregulated energy and natural gas market are overtaken by the desire to self-enrich. He aggressively advocated for minimal governmental influence and interference in energy to ensure consumers enjoyed prices determined by forces of demand and supply (Dibra, 2016). To reinvigorate the push of getting the government out of the oil business, Ken befriended Mr. George W. Bush’s family and initiated the single most important relationship between a corporation and a presidential family in American history (Sarkkinen, 2015). In subsequent years, George W. Bush helped Enron to get millions of dollars in government subsidies and promoted Lay’s public image to that of deregulation’s ambassador. This was an ethical dilemma in which Ken unscrupulously exploited his close association with the Bush family to gain an unfair advantage in the energy trade.
Additionally, Enron Corporation’s executives diverted the company’s profits to personal accounts, falsified financial statements, manipulated earnings, destroyed daily trading recordings, and hedged beyond what was authorized by the board. Notably, the motive to gamble excessive amounts of the corporation’s resources was primarily a result of failed ventures elsewhere (Sarkkinen, 2015). Consequently, Ken encouraged the executives to keep hedging instead of overseeing the systematic reduction of risk. This was an unethical dilemma since Lay, alongside other high-ranking staff, had to undertake a swift but fraudulent decision to alter Enron’s stocks to ensure the entity’s continuation. Moreover, despite Ken’s knowledge of the rogue traders’ unscrupulous dealings, Borget and Mastroeni, he declined to fire them. However, he replaced the two with Jeffrey Skilling after a Senate committee indicted them, highlighting Ken’s urge to keep making money for Enron through dubious means.
Further, Skilling introduced, operationalized, and orchestrated the mark-to-market accounting system’s abuse to reflect the profits they wanted investors to see. The highly subjective approach was left open to manipulation through its numerous loopholes. Skilling also championed the departure from this accounting method to the hypothetical future value, which provided an avenue through which the executives could add millions of dollars to the firm’s bottom lines as they wished (Abdel-Khalik, 2019). This was a major ethical dilemma in which the corporation’s executives abused and exploited the adopted accounting and bookkeeping practice as inspired by the unfettered desire to make the financial statements appear attractive.
Additionally, the high-ranking staff would use their influence to push the price of the stocks upwards and cash in their multi-million dollar options. The manipulation of the stock prices was achieved through exaggerated profit margins and compromised financial analysts. For instance, the Chief Financial Officer, Andrew Fastow, used the mark-to-market accounting to record $53 million from a deal that did not generate profits. However, the executives created hundreds of fictitious entities, such as Jedi, Raptors, LJM, and Chewco, to conceal these losses, stabilize the stock price, and instead post profits. In an open case of conflict of interest, the CFO used LJM to execute deals on behalf of Enron through his company (Sarkkinen, 2015). In this regard, Enron was stashing enormous debt volumes in these companies beyond the sight of investors. The accounting and law firms, Arthur & Andersen and Vinson & Elkins were handsomely paid to ensure the fraud was conducted without raising the alarm (Rashid, 2020; Trung, 2016). This is an ethical dilemma in which the executives felt pressured to post attractive financial statements by concealing debts and eliminating the controls to defeat the separation of powers.
Moreover, Enron officials used insider information to offload large volumes of their stock holdings and caused artificial power outages in California to fraudulently manipulate power prices. Notably, the deregulation of California’s energy sector was a monumental compromise of the state’s legislators and advocates of the liberal market, among them, Enron executives. Although the initial intention of liberalizing energy was to provide consumers with cheap power, the motive was overtaken by the uncontrolled pursuit of profits. Once in control of the state’s energy supply, they would export power to other areas amidst shortages to drive prices up and re-export it back once the charges skyrocketed. This was an ethical dilemma in which Enron exploited the loopholes in the deregulation policy to create shortages in California and benefit from them.
How the Documentary Resolved the Dilemma
Enron: The Smartest Guys in the Room crime documentary resolves the ethical dilemma by identifying the infringements on morality that occurred and depicting the contributing factors. For instance, the film highlights the accounting and law firms’ failures in discharging their responsibilities without the influence of the corporation’s executives. It proposes the upholding of objectivity and professionalism as the ideal safeguards and ensuring that employees’ self-interests do not overtake the shareholders’ (employers’) concerns. Additionally, the film resolves the dilemmas by referring to the essence of considering the consequences of the unethical practices and seeking external guidance to ensure the interests of the majority of the people are protected.
Possible Alternative Solutions
One possible alternative to resolving Enron’s ethical dilemma, particularly for the law and accounting firms, was to decline or terminate their professional engagement with the corporation due to the extensive influence and compromised objectivity. Moreover, the employees who knew about the perpetration of fraud should have sought an audience with the relevant regulatory authorities and divulged the unethical practices happening in the firm. Also, the organization’s board should have been more firm and demanded comprehensive justifications for the change in accounting policies and created employee incentive schemes that did not promote unethical conduct.
Lessons for Accounting Students
There are various paramount lessons from the Enron: The Smartest Guys in the Room crime documentary. Among such prominent enlightenment is the indispensability of ethics and integrity in the everyday running of a business. In this regard, the absence of these critical attributes in an accountant portends disaster and could harm so many people and their livelihoods. This implies that an accountant’s ultimate responsibility is to the general public instead of merely the owners of a company. As a result, accountants should strive to preserve their independence and ensure their professional judgment is not skewed or compromised by extraneous influences. Additionally, accounting students should discern that business executives cannot successfully perpetrate fraud without the assistance and input of accounting professionals.
Conclusion
Enron: The Smartest Guys in the Room is a crime documentary accentuating the depth and breadth of the world’s largest corporate scandal. Enron Corporation, an illustrious and immensely successful company, jeopardized its future by divesting from capital-intensive projects, which compelled the firm to raise enormous amounts of funds from the money markets, thereby imperiling its credit score. The film depicts how the failure to resolve ethical dilemmas can be disastrous and provides critical lessons for accounting students on the need for integrity, ethics, and professionalism.
References
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Rashid, M. M. (2020). Case analysis: Enron, ethics, social responsibility, and ethical accounting as inferior goods? Journal of Economics Library, 7(2), 97–105.
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