Enron may have hid US$1bn in losses

Enron Corp executives amassed fortunes by creating affiliated partnerships that hid at least US$1 billion in losses, part of "a deeper and more serious problem" that experts hired by the bankrupt energy trader found.

A report on Saturday by a three-member team headed by University of Texas Law School Dean William Powers stops short of accusing Enron officials of illegality, while placing blame on management, the board, an outside law firm and auditors Arthur Andersen LLP.

With its wealth of new detail, the 203-page report could give more ammunition to Enron critics, putting former Chairman Kenneth Lay and Andersen officials on the spot when they testify Monday before congressional committees investigating Enron's collapse in the largest bankruptcy in US history.

"As the Enron story unravels, the more outraged I become," said Securities and Exchange Commission Chairman Harvey Pitt, who represented Andersen and other top accounting firms while in private practice. He is considered sympathetic to the industry.

Enron lawyer Robert Bennett said the report, commissioned by Enron's board, was "thorough and honorable," demonstrating a commitment to get to the facts and showing that earlier "the board was not provided a great deal of information that it should have had."

Andersen spokesman Patrick Dorton called the report "self-serving" in playing down the board's responsibility. "The authors, whose independence is already in question, were handpicked by Enron's board," Dorton said. "The authors failed to consult with Andersen in any substantial way."

The report said the board's audit committee shared in the blame for inadequate disclosures in Enron's public filings, along with management, Andersen and the company's longtime Houston law firm, Vinson & Elkins.

"We were told by more than one person that the company spent considerable time and effort working to say as little as possible about the LJM transactions in the disclosure documents," the report said.

"That impulse to avoid public exposure, coupled with the significance of the transactions for Enron's income statements and balance sheets, should have raised red flags for senior management, as well as for Enron's outside auditors and lawyers. Unfortunately, it apparently did not."

Lay, a major contributor to President George W. Bush, "bears significant responsibility" for "flawed decisions" in approving some transactions, the report said.

Enron employees involved with affiliated partnerships, known as special purpose entities, enriched themselves "by tens of millions of dollars they should never have received," the report said. Former Chief Financial Officer Andrew Fastow made at least US$30 million, former General Manager Michael Kopper got at least US$10 million, and two other employees made at least US$1 million each, the report said.

"This personal enrichment of Enron employees, however, was merely one aspect of a deeper and more serious problem," the report said. "These partnerships -- Chewco, LJM1 and LJM2 -- were used by Enron management to enter into transactions that it could not, or would not, do with unrelated commercial entities."

Transactions used to hide debts and offset losses didn't follow accounting rules and were implemented "improperly," the report said. The transactions resulted in Enron overstating earnings from the third quarter of 2000 through the third quarter of last year by about US$1 billion, the report said.

"Many of the most significant transactions apparently were designed to accomplish favorable financial statement results, not to achieve bona fide economic objectives or to transfer risk," the report said. "They allowed Enron to conceal from the market very large losses resulting from Enron's merchant investments by creating an appearance that these investments were hedged."

"They have basically agreed that Fastow had gone beyond his authority," said Robert McCullough, a consultant and adjunct professor at Portland State University who is helping draft questions for the Enron hearings. "They've thrown him to the wolves."

Fastow set up dozens of private partnerships to reshuffle Enron assets. Kopper worked with Fastow at Enron to help market some of the partnerships to investors and left the company to run LJM2, according to company filings and court records.

Fastow formed LJM2 in 1999, and the partnership acquired energy and telecommunications assets from Enron, including an 30,000km fiber-optic network it bought in June 2000 in a transaction that resulted in a US$67 million profit for Enron.

Jeffrey McMahon, then Enron's treasurer, said he told then-Chief Executive Officer Jeffrey Skilling in March 2000 "that Fastow was pressuring Enron employees who were negotiating with LJM," according to the report.

McMahon told Skilling that Fastow was wearing "2 hats" and that "upside comp is so great creates a conflict I am right in the middle of. I find myself negotiating with Andy [Fastow] on Enron matters and am pressured to do a deal that I do not believe is in the best interests of the shareholders. Bonuses do get affected," according to McMahon's notes of the conversation.

McMahon's complaint, almost two years ago, was the earliest known alert about the conflicts of interest involved in the partnership transactions. Based on McMahon's version of the talk, Skilling took no action. The report said McMahon, who is now Enron's president, didn't approach Lay or the board.

In August 2001, Enron Vice President Sherron Watkins sent an anonymous letter to Lay raising questions about the partnership and saying "I am incredibly nervous that we will implode in a wave of accounting scandals."