Transcript NOTES ON ENRON

NOTES ON ENRON
Death of a Corporation
Idiots v. Crooks
FIRST:
• Let’s Discuss BUSINESS
ORGANIZATION.
– NOTE: This isn’t in the
book – but it is a sample of
Microeconomics and
current events – since
ENRON is still in the
news.
• You will work for one
type of organization in
your future.
The Three Types of Business
Organization
• Sole Proprietorship
• Partnerships
• Corporations
Sole Proprietorship
• If you alone own and
control the service.
Opportunity Benefits of Sole
Proprietorships
• Owner has direct
control
• Small initial
investment
• Owner receives all
profits
• Owner can dissolve
business when
necessary.
Opportunity Costs of Sole
Proprietorships
• All losses are borne by
owner
• Difficulty in raising
financial capital
– Limited growth potential
• Only one person in
authority
• Lack of longevity
• Unlimited liability
Partnerships
• A business owned and
controlled by two or
more people.
• Ben and Jerry were
college buddies that
found after certain
“experiences” at
Berkeley in the 60s
– they were really
hungry for ice
cream.
REMEMBER!
• Partnerships don’t
have to be just two
people.
• JC Penney: The man
with a thousand
partners.
• Ben and Jerry today
at a “Legalize
Hemp” Festival
• Essay contest and now
their company is part of
Borden.
Two forms of partnerships
• General Partnerships:
Equal decision making.
• Limited Partnerships:
Partners join as investors,
offering capital, but little,
if any, role in decision
making.
– VENTURE CAPITALISTS
– Famous Dave made
great barbecue – but
had no sense of
business.
– Going broke
UNTIL
Willy Theisen
• Founded Godfather’s
Pizza in 1973 and
made a fortune – sold
out the chain to
Pillsbury and now is a
Venture Capitalist
creating partnerships
like Famous Dave
Advantages of Partnerships
• Two or more individuals
own the business.
– Specialization
• Losses are shared by
partners.
• More money is available
to invest in business
• Sharing management
responsibilities
• Taxes are shared by
partners
Disadvantages of Partnerships
• Division of authority
• Unlimited liability.
• Difficulty in raising
additional capital.
• Lack of longevity.
• Legal complications
when there is a change
in ownership.
Advantages of Corporations
Limited liability.
Easy to raise needed capital.
Business owned by a group
of individuals.
Responsibilities for running
the business divided
among many individuals
Easy change in ownership
and business continues as
long as it makes profits. –
LONGEVITY.
Disadvantages of Corporations
• Corporate charters are
$$$
• Federal and state
govts. monitor
corporations more.
• ***Slow process of
decision making.
Corporations
• Legally distinct from their
owners and treated as if
individuals.
– Corporations can
•
•
•
•
•
•
Own property
Hire workers
Make contracts
Pay taxes
Sue and be sued
Make and sell products.
What kind of companies are
organized as corporations?
• USUALLY – food, steel, oil companies are
corporations.
• Insurance companies, supermarket chains,
major companies.
Forming a corporation
• When expansion calls
for more than adding
more partners.
• GET A LAWYER!
Forming a corporation:
• Lawyer applies for a
state license:
ARTICLES OF
INCORPORATION.
• Reviewed by state
officials. If all in order
they grant
– CORPORATE
CHARTERS
Corporate Structure
• The corporate charter
identifies the officers.
– Chairman of the board
– symbolic head of the
corporation.
– CEO – Chief Executive
Officer – the REAL
power.
– Martha Stewart – before
prison was BOTH
Chairman and CEO of
her corporation.
Corporate Structure
• Board of Directors –
people from inside or
outside the company.
– Key decision making body.
• Decide on product lines.
• Hires / fires corporate
officers to do the day-today running of the
corporation.
– Sees that boards policies
are carried out.
Corporate Finances
• Most common way to
raise money is selling
STOCK.
– STOCK – represents
ownership of the firm.
– Ownership is issued in
portions called
SHARES.
Corporate finances
• If you buy 100 shares
of stock in a company,
you own 100 pieces of
that company. If that
company has a total of
10,000 shares
available – you own
1% of the company.
Why own stock?
• DIVIDENDS – profits
on your investment.
– PREFERRED STOCK
– guarantees dividends.
– COMMON STOCK –
potential for dividends.
Why own stock?
• SOMETIMES can
make more money for
you.
• The “fun” of being
involved with a
corporation or a
product.
Benefits for stockholders
• Flexibility of
ownership.
• Limited liability.
– Can’t be sued for
corporate problems.
– If the corporation
folds, you only lose
what you invested.
– Private assets can’t be
seized.
– Coors shareholders
can’t be sued by a
MAD mother.
The trade-off
• Common stock
ownership allows a
“voice” on how the
company is run.
• Preferred stock does
not.
• ATT, DISNEY have
had their CEOs
replaced by the
majority
shareholders voting.
IMPORTANT ADVICE TO FUTURE
CORPORATE HEADS!!!
• ALWAYS hold or
directly control 51%
of your company’s
stock.
• OR have a lack of
control at annual
shareholder meetings.
• You can lose your job!
• As Steve Jobs
found out!
The corporation raises money
• If there are thousands
of shareholders, there
is enormous amounts
of money through the
sale of stock.
• eBay has 6,643,058
shares available.
Other ways corporations raise $$.
• Corporate bonds.
– You loan your money to the
company.
– You DO NOT own the
company.
– Repaid the principal and the
interest.
• Principal – the actual
money borrowed.
• Interest – the price you
gave to that principal.
Example of Corporate Bonds
• You hold a 1 year
$1,000 bond.
• At the end of the year
you are paid back the
$1,000 principal AND
the 5% ($50) interest.
Corporate Combinations
• Most corporations
seek to expand.
– Build new facilities
– Legally combines with
another enterprise.
• MERGERS!
Three types of Mergers (corporate
combinations)
• Horizontal
• Vertical
• Conglomerate
Horizontal Combination
• Buying up companies
involved in the same
industry.
• THINK STANDARD
OIL – John D.
Rockefeller.
• IF on any future test
there is a Standard
Oil question – just
skip to the
horizontal answer.
Horizontal combinations
• All the companies
merging do the same
thing.
• Standard Oil: all the
companies Rockefeller
bought, processed oil
into gas.
• Enron started as a
horizontal
combination.
Vertical Combination
• A merger between two
or more companies
involved in different
production phases of
the same good or
service.
• THINK US STEEL /
Andrew Carnegie.
Conglomerates
• Merger of companies
producing unrelated
products.
• Subsidiaries.
• Started in the 1960s.
– Kind of started by
Warren Buffet
BERKSHIRE HATHAWAY INC.
Acme Brick Company
Johns Manville
Ben Bridge Jeweler
Jordan's Furniture
Benjamin Moore & Co.
Justin Brands
Berkshire Hathaway Group
Larson-Juhl
Berkshire Hathaway
Homestates Companies
McLane Company
Borsheim's Fine Jewelry
MidAmerican Energy
Holdings Company
Buffalo NEWS, Buffalo NY
MiTek Inc.
Borsheim's Fine Jewelry
MidAmerican Energy Holdings
Company
Buffalo NEWS, Buffalo NY
MiTek Inc.
Central States Indemnity Company
National Indemnity Company
Clayton Homes
Nebraska Furniture Mart
CORT Business Services
NetJets®
CTB Inc.
The Pampered Chef®
And ..
• GEICO!
• There is a lot more –
but I don’t have
room!
Opportunity Benefits of
Combinations
• Efficiency –
centralized decision
making.
• Potential lower costs.
• Easier to acquire
financial capital.
Opportunity Costs of
Combinations
• Can lead to
unemployment (don’t
need to double the
jobs)
• Reduced competition
in the market place.
– MONOPOLIES.
Franchises
• One company agrees –
for a fee – to let
another person or
group set up a
FRANCHISE.
– Have to uphold the
reputation of the parent
company.
– Get training and
advertising.
Cooperatives
• Co-ops – businesses
owned by their
members.
– Membership gives
privileges.
Cooperatives
Nonprofit Organizations
• Does not focus on
financial gain and
profits.
• Business organization
but pursues other
goals.
• Income isn’t taxed.
So What About ENRON?
Enron History
Created in 1985 with a
merger between two
companies
Houston Natural Gas
and InterNorth in
Omaha, NE.
Horizontal merger
between two gas
pipeline companies.
BTW:
• BAD feelings about
Enron in Omaha!
• Ken Lay of Enron
promised to keep
Omaha as a central
headquarters for
Enron.
– Broke the promise in
six months and moved
everything to Houston.
Enron History
• Branched out of the
natural gas business into
power plants, pipelines
for gas and energy.
• Ken Lay CEO and later
Chairman
• Jeff Skilling came in and
took the company into
conglomerate enterprises.
Enron
• By 2000, Enron was
the SEVENTH largest
corporation in the
country and a darling
of Wall Street with
great earnings report.
– They sell energy – so
how could they go
wrong?
• A needed good!
So, what went wrong?
• It is still being sorted
out.
• Problems with people
not talking.
• Evidence was
destroyed.
• Political pressure not
to investigate too
much????
So, what went wrong?
• Primary question:
Were they idiots or
crooks?
• Brian Cruver’s story
is about his time at
Enron – about the last
six months of the
company and his
observations.
What happened at ENRON?
• Enron branched into
operations they didn’t
really “know” about.
– Didn’t have a
corporate board that
was based on knowing
the business world.
In just 5 years Enron branched
into fields like:
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Oil & LNG Transportation
Broadband
Petrochemicals*
Plastics*
Power*
Principal Investments
Pulp & Paper*
Risk Management for
Commodities
Shipping / Freight
Steel*
Streaming Media
Water & Wastewater
Computer Chips
Weather Risk Management
No one really was an expert in
any of these fields …
• If mistakes were made
– they simply went to
find another business
to get into.
Management Problems
• Managers that weren’t
managing their people.
• Personnel afraid of the
reviews that
“automatically deployed”
the lowest 15% based on
peer reviews.
– No one wanted to make
anyone mad at them!
– Lack of accountability.
Management Problems
• “No bad news” the
Enron motto.
• Falsifying reports that
might make
“unfavorable” news
about the people or
company.
• Enron = power +
success
Yes! It is True!
• Enron employed a
number of people
solely on their looks.
• People think beauty =
success.
• STRIPPERS were
hired to work in the
offices.
Cooking the Books
• Andy Fastow CFO
(Chief Financial
Officer) cooked the
books.
• As bad deals kept
happening a
corporation has two
choices:
Cooking the Books
• Revealing the bad
deals.
– Makes the value of the
stock go down.
– People lose their jobs.
• Hide the debt
– Keep the stock price
up.
– People keep their jobs.
Virtual Assets
• Fastow’s creation.
• What does VIRTUAL
mean?
• What does assets
mean?
Virtual Assets
• For years, no one
questioned the term.
• They were counting on
deals to pay off before
they actually paid off.
– Example: Living like you
already have a million
dollars because you know
someday you will win the
lottery, since you buy a
ticket a week.
Virtual Assets
• The SEC and Wall
Street demand a
balance sheet that
when a company says
“We made 100-billion
in profits” – that it is
true.
– Arthur Andersen
Auditors come in.
Buying off the auditors
• Enron executives “bought
off” the Arthur Andersen
Company to keep the lie
of profits based on
“virtual assets” going.
– Note how that info is just
“slipped in” to Brian
Cruver’s training.
– They also helped shred
evidence about who knew
what and when.
Enron Image
• If people saw Enron
employees living well
– it gave the
impression that the
company was doing
great.
– Encouraged
employees to live
beyond their means???
Political Influences?
• The movie brings up the
connections to George
Bush and Dick Cheney –
and there are legitimate
questions there.
• But Enron was also
contributing to both sides
of the aisle.
– Note Mr. Blue’s insider
trading.
– Note the news flashes of
helping politicians.
Ken Lay’s Role in Enron
• He encouraged the
employees to buy the
stock.
– Creating demand to bring
the price up.
– But he sold his stock when
the price went up.
– His son was short-selling
Enron.
• Betting the stock would
go down in value and
collecting a payoff.
Characters to know:
• Ken Lay
– Founder of Enron
– Chairman and CEO
Jeff Skilling
• CEO of Enron
• ARROGANCE in his
management style and
encouraged it in the
company.
Andy Fastow
• CFO
“Mr. Blue”
• Real life name: J.
Clifford Baxter.