Enron’s accounting, tax and financial measures

analysisEnron’s share price peaked at $90.75 in August 2000, began 2001 at $83.13 and fell to $27.23 by 28 September 2001, according to the Joint Committee on Taxation. Public statements in late 2000 and early 2001 disputed earnings-warning rumours and affirmed management’s outlook. Prosecutors later alleged that senior executives’ statements concealed the company’s condition. The price chronology and existence of the statements are distinguishable from the prosecution’s allegations about fraudulent intent. Lay’s convictions were later vacated; Skilling’s case had a different appeal and sentencing history. ^{1 2}

analysisThe Joint Committee on Taxation reported that third-quarter write-downs and restatements reduced Enron’s 1997–2001 net income by approximately $1.7 billion. Its components included JEDI/Chewco, LJM1, LJM2/Raptor, Azurix and broadband adjustments. The report’s cumulative net-income measure is different from the November 2001 annual restatement table and must not be added to it as a separate loss. ²

analysisThe Joint Committee on Taxation described approximately 1,300 foreign Enron entities at the end of 2001, including more than 400 in the Cayman Islands and more than 140 in the Netherlands. Enron’s 2000 consolidated tax return listed 346 members; separate single-member entities and foreign subsidiaries used different reporting boundaries. Its tax department grew from 83 employees in 1996 to 253 in 2000 as international tax planning expanded; that staffing measure is separate from legal-entity counts. Tax-group membership, foreign-entity counts and financial-statement consolidation are not interchangeable. Incorporation in an offshore jurisdiction is not proof of unlawful conduct. ²

analysisThe SEC alleged that Enron used undisclosed wholesale-trading reserves to smooth volatile earnings and cover losses in merchant investments and Enron Energy Services. It said reserves exceeded $1 billion by early 2001 and also challenged the movement of segment expenses and broadband losses. These accounts distinguish actual trading profits from the alleged manipulation of their timing and segment presentation. They do not imply that every trading transaction was fictitious. Delainey and Causey settled their SEC cases without admitting or denying the civil allegations; Skilling’s civil case later resulted in summary judgment. Delainey and Causey separately pleaded guilty in criminal proceedings.

analysisThe SEC alleged that Project Greyhawk transactions involving Enron and JEDI allowed Enron to recognise approximately $85 million from appreciation in its own shares following a January 2000 broadband presentation. This describes the SEC’s allegation about the accounting mechanism. It is not an independently adjudicated finding against every party mentioned in the transaction. ⁴

analysisIn February 2001 Enron issued $1.9 billion face value of 20-year zero-coupon notes, receiving approximately $1.25 billion, largely for refinancing. Face value at maturity and issuance proceeds are different quantities; the difference must not be represented as an immediate cash loss. ²

analysisEnron told the SEC that it had no independent auditor, considered hiring one infeasible and did not intend to provide audited fiscal-2001 statements or subsequent unaudited quarterly statements. The Joint Committee on Taxation described a possible $14 billion GAAP asset write-down; the Senate also discussed a separate proposed $10 billion reduction in price-risk-management assets. These were estimates and proposed adjustments, not completed audited restatements. Their scopes differ from earlier third-quarter charges. ^{2 7}

analysisThe Joint Committee on Taxation reported no federal income-tax liability on Enron’s returns for 1996–1999, a $63.2 million liability for 2000, substantial loss carryforwards and Project NOLy transactions generating income in 2000 and losses on unwind in 2001. Earlier IRS audit cycles closed with net assessments of approximately $4.3 million; the 1995–2001 cycle remained open when the report was written. Taxable income, financial-statement earnings and cash tax payments use different rules and periods. No federal tax liability in a year does not itself establish evasion. The bankruptcy filing listed a tax refund asset and an IRS claim of unknown amount. ²

analysisBatson’s final report compared Enron’s $12.978 billion GAAP debt at 30 September 2001 with a $38.094 billion debt presentation to banks. The $25.116 billion difference included unconsolidated affiliates, commodity financing, share trusts and other structures. The examiner also reported that six types of special-purpose transactions generated 96% of reported 2000 net income and 105% of operating cash flow and reduced reported debt from an estimated $22.1 billion to $10.2 billion. The bank presentation used a broader debt concept than the balance sheet; it is not a simple addition to audited debt. The 96% and 105% measures concern different denominators and do not imply that all revenue was fictitious. ⁸

analysisBatson attributed $886.5 million of net income during 1995–September 2001 to Enron tax transactions. BT/Deutsche helped develop or participate in transactions including Teresa, Steele, Tomas and Cochise and received approximately $43 million in fees from 1997 to bankruptcy. These are the examiner’s reconstruction and assessment of accounting income, not cash tax savings. His conclusions about possible liability were not court judgments. ⁹

analysisThe examiner described at least 11 special-purpose transactions closed in the last two weeks of 1999 that produced $114 million of reported net income and more than $1.2 billion of operating cash flow while repayment obligations were off balance sheet or classified outside ordinary debt. The identified effects concern reported presentation, not a conclusion that the same amounts were economically earned. Bank groups’ bankruptcy-claim rankings are a different measure. ⁹

analysisThe examiner described Enron’s 2000 Azurix impairment and equity-method losses and compared the group’s $10.119 billion international-asset carrying value at 30 June 2001 with an internal risk valuation of $4.480–6.927 billion. Elektro and Dabhol were major capital exposures. The $326 million impairment and $428 million investment loss were distinct accounting measures, not a reconciled additive loss total. The internal valuation range was not a realised loss or judicial determination of value. ⁹