Enron as “The Smartest Guys in the Room”: Case Memo

Enron, once a dormant natural gas pipeline company grew to become the seventh largest publicly-held company in the United States, collapsed in December 2001 because of its “Ponzi” schemes and shoddy business practices. The theory of moral muteness played a large role in the collapse of Enron. Moral muteness refers to the failure to forthright one’s moral concerns regarding issues about which one possesses moral convictions. Enron had a quick decline to bankruptcy and there were many people in the company involved in this bankruptcy that chose not to voice their concerns for many different reasons for a long period of time.

Essentially Enron’s downfall occurred because the top executives were taking big risks which were not paying out. To cover up the large losses financially, the financial statements were altered and even the accounting firm was used to cover up a lot of the losses. By doing this, the company was able to get away with not revealing the impending bankruptcy coming to Enron and allowing others to invest to try and cut down on the debt. The drive to maintain reported earnings, growth and therefore higher shares price led to aggressive accounting practices. These aggressive accounting practices opened the ways of market-to-market accounting known as Volumetric Production Payments. These payments had predictable future cash flows which were treated as “merchant assets”. When the top officials realized that the company was for sure not going to recover, the top executives sold off all of their stocks prior to revealing that the company was bankrupt. In the process of all of this occurring, the outsiders seemed to think it was strange for a company to continue to have such great financial success despite all of the major business blunders they were suffering. Yet, the success was shown in the numbers and consumers and stockholder continued to invest. It was mentioned in the Netflix documentary that multiple individuals were skeptical that this was too good to be true but decided that they were making money so maybe it wasn’t so bad after all.

Who Was at Fault?

The 16 former Enron executives led by Jeffrey Skilling and Kenneth Lay, the audit chain including the audit committee, and the independent public auditor who aided in the misrepresentation of Enron’s financial condition are responsible for Enron’s downfall. I believe the culture of an organization is a derivative of what the top management preaches. In case of Enron, the top management knew about the corruption and questionable accounting practice, and instead of correcting it, they maintained moral muteness. The breach of the public trust and malpractices came to attention when the whistleblower Ms. Watkins wrote a letter to Mr. Lay commenting on the off-balance sheet accounting arrangements employed by Enron to obscure massive losses.

Significance of the Theory of Moral Muteness (the three ‘threats’) to Enron

At Enron, the culture of fraudulent accounting practices continued for a while since it was shadowed by the top management and as a result, there was no room for disagreements as that would have resulted in one against many, which goes to back to the concept of threat to the harmony of moral muteness. Any moral discourse would have caused management to mend their ways and find effective solutions to deal with loses, which would have been a significant threat to their image, power and effectiveness.

Enron was going on top speed with shares trading at $90.75 and hence as explained by the concept of threat to efficiency, any moral discourse would have caused slowing down things. This was eventually caused when the whistleblower Ms. Watkins created a wave or morality within Enron resulting in investigations and caused shares to plummet down to $0.67.

Conclusion:

This case teaches an interesting lesson that problems occur when individuals don’t see the ethical issues. Finding some way to rationalize not speaking up about an ethical issue can delay the bubble burst for a while but eventually, the bubble grows and impacts on a larger scale. The long list of corporate scandals including Worldcom (2002), AIG (2005), Lehman Brothers (2008), and Wells Fargo (2017) etc. have caused SEC and other governing bodies to implement stricter controls through well-defined accounting standard with frequent audits. And while Enron won't be the last case of corporate malfeasance, its tale did initiate talks of business ethics and corporate integrity.