Enron market capitalization exceeded $60 billion by the growth of 50% in a decade. But the company collapsed after the revelation of $1. 2 billion with the hidden debt. Enron grown in such a way by providing real value to its customers. But how the hidden debts are existed? Anyhow the Enron collapsed with innovative markets were unwilling to engage in the purchasing or selling of a long-term contract.
The trust business companies are banks and life insurance companies. Enron’s business is also in the line of trust. Enron’s largest business was natural gas and created long-term natural gas market. No doubt Enron is market maker and offered to buy or sell long-term natural gas contracts. But in all transactions Enron is a party where buyers and sellers did not contract with each other but with Enron only. It becomes major exposure to Enron and buyers are ready to prepay and sellers ask for more where the buyers began to bid lower which caused the profit disappeared and Enron’s collapse.
Here the Enron is only traded with the other’s products for the quality of the product not analyzed but where it is on the trust of Enron only. Enron bought and sold several contracts like bank or Insurance Company and also involved long term financial services. But the Enron’s management failed to see the key role of trust in its business, which was caused by the Arthur Andersen, Enron’s Auditor. The auditor not advised properly on the facts. Enron executives very well known that Enron business is based on trust only.
Enron’s hedging and options trading required trust in the creditworthiness of the company and when the trust was destroyed it leaded to collapsed. It is a financial scandal of Enron. Due to financial scandals with the companies like Enron and WorldCom, once again legal reformation is required with respect to Corporate Governance in America. Market system become corrupted and was unable to meet the needs of investors. Enron and WorldCom revealed accounting techniques which effectively created revenues with the underlying reflected costs.
It is no doubt that the auditors and financial analysts/executives of Enron continued misrepresent the financial information which leads to committing fraud though it attract civil/criminal penalties of Law. It is nothing but Auditors responsibility to continue such misrepresentation of financial information. The legal liability of auditors is governed by the Securities Exchange Act, 1934 (Rule 10b-5) when they certify that the financial reports comply with the generally accepted accounting principles (GAAP) and generally accepted auditing standards (GAAS).
It is not only to Enron’s natural gas but to extended all other markets like Electricity, plastics, chemicals, metals, oil, fertilizers, coal, freight, tradable emissions permits, steel and other markets where the Enron existed. Even Enron not left the hedges against bad weather. Due to legal reformation with respect to corporate governance, in the United States, the Sarbanes-Oxley Act established and specifically designed to prevent the kind of violation of trust committed by Enron and Arthur Andersen.
There is a chance if the Act had been passed earlier, the Enron would have been collapsed in different way but not with the existing facts. The Act requires auditors to issue a report attesting to a required written assessment of internal control made by management and that should be included in its annual report. The Act aimed to improve the reporting standards with respect to trust. The Act focused so that investors will be more transparent. For example prepaid swaps of Enron not visible. But with this Act such prepaid swaps are transparent to investors. No doubt if the Act passed in 1992, it is impossible to the Enron to hide debts.