Enron was an energy company formed as part of a merger between two gas companies, InterNorth and HNG, in 1985. From 1987 onward it began aggressively expanding into newly deregulated energy markets across the US and the world, through both new ventures and mergers.
It also became involved in energy futures markets (which allow firms and investors to both hedge against and speculate on movements in energy prices) and attempted to become an important player in the telecommunications market.
How did this work out?
Although legitimate, Enron's businesses were unprofitable.To hide this, the management fiddled the finances.It treated the total amount of money traded on its energy exchanges as revenue, for example (the standard practice is to count only profits and trading commissions).It counted expected future profits from its deals as current profits. And to hide losses and mounting debts, it set up a complicated structure of off-balance-sheet "special purpose vehicles" to borrow money against Enron's stock.
Subscribe to MoneyWeek
Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE
Sign up to Money Morning
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter
What happened next?
While Enron's stock was rising, its creditors were willing to lend more money. But the bear market that accompanied the bursting of the technology bubble caused its share price to decline.
At this time The Wall Street Journal ran a critical article about Enron's accounting, causing other analysts to start to ask questions. With creditors now demanding repayment, and its credit lines drying up, Enron's executives were forced to admit that they had overstated earnings between 1996 and 2000, which made the problems even worse. After rival Dynergy abandoned its planned bid for Enron, the company filed for bankruptcy in December 2001.
Lessons for investors
CEOs Jeffrey Skilling (pictured) and Ken Lay were convicted of fraud and CFO Andrew Fastow (along with 12 other Enron executives) also pleaded guilty. Shareholders were wiped out, although the banks that facilitated Enron's deceptive deals paid some later shareholders around $7 a share (less than 10% of the peak value).
The Enron debacle shows it is a good idea to avoid firms that structure their finances in overly complicated or opaque ways. Insider selling is also a big red flag Enron's executives dumped their shares at the same time as encouraging their employees to use their savings to buy them.
-
Water companies blocked from using customer money to pay “undeserved” bonusesThe regulator has blocked three water companies from using billpayer money to pay £1.5 million in exec bonuses
-
Will the Bitcoin price hit $100,000?With Bitcoin prices trading just below $100,000, we explore whether the cryptocurrency can hit the milestone.
-
Christopher Columbus Wilson: the spiv who cashed in on new-fangled radiosProfiles Christopher Columbus Wilson gave radios away to drum up business in his United Wireless Telegraph Company. The company went bankrupt and Wilson was convicted of fraud.
-
Great frauds in history: Philip Arnold’s big diamond hoaxProfiles Philip Arnold and his cousin John Slack lured investors into their mining company by claiming to have discovered large deposit of diamonds. There were no diamonds.
-
Great frauds in history: John MacGregor’s dodgy loans
Profiles When the Royal British Bank fell on hard times, founder John MacGregor started falsifying the accounts and paying dividends out of capital. The bank finally collapsed with liabilities of £539,131
-
Great frauds in history: the Independent West Middlesex Fire and Life Assurance Company's early Ponzi scheme
Profiles The Independent West Middlesex Fire and Life Assurance Company (IWM) offered annuities and life insurance policies at rates that proved too good to be true – thousands of policyholders who had handed over large sums were left with nothing.
-
Great frauds in history: Alan Bond’s debt-fuelled empireProfiles Alan Bond built an empire that encompassed brewing, mining, television on unsustainable amounts of debt, which led to his downfall and imprisonment.
-
Great frauds in history: Martin Grass’s debt bingeProfiles AS CEO of pharmacy chain Rite Aid. Martin Grass borrowed heavily to fund a string of acquisitions, then cooked the books to manage the debt, inflating profits by $1.6bn.
-
Great frauds in history: Tino De Angelis’ salad-oil scamProfiles Anthony “Tino” De Angelis decided to corner the market in soybean oil and borrowed large amounts of money secured against the salad oil in his company’s storage tanks. Salad oil that turned out to be water.
-
Great frauds in history: Gerard Lee Bevan’s dangerous debtsProfiles Gerard Lee Bevan bankrupted a stockbroker and an insurer, wiping out shareholders and partners alike.
