Multilayered system of checks largely failed in Enron's case

Auditors, regulators, directors seem tangled in company's collapse


WASHINGTON -- The multilayered system of safeguards that was put in place over the years to protect investors and employees from a catastrophic corporate implosion largely failed to detect or address the problems that felled the Enron Corp., say regulators, investors, business executives and scholars.

The breakdown in checks and balances encompassed the company's auditors, lawyers and directors and extended to groups monitoring Enron from the outside, such as regulators, financial analysts, credit-rating agencies and Congress, which in the coming week will open a blizzard of hearings into the company's downfall.

"This was a massive failure in the governance system," said Robert E. Litan, director of economic studies at the Brookings Institution, the research organization. "You can look at the system as a series of concentric circles, from management to directors and the audit committee to regulators and analysts and so forth. This was like a nuclear meltdown where the core melted through all the layers."

It could be months before criminal, civil and congressional investigations unearth all the facts of Enron's collapse, and there is likely to be plenty of blame to go around.

But much of the early attention has focused on the performance of Enron's accounting firm, Arthur Andersen, whose primary function was to assure that the company was accurately and completely disclosing its financial results and condition.

At the back of Enron's last annual report were two statements from Arthur Andersen. One attested to Arthur Andersen's opinion that Enron's internal accounting system "was adequate to provide reasonable assurance as to the reliability of financial statements." The other stated its opinion that Enron's financial reports "present fairly, in all material respects, the financial condition" of the company and its subsidiaries. The statements amounted to a seal of approval for Enron's books.

Arthur Andersen may have had reason to view Enron through a flattering lens, given its symbiotic relationship with the company, one sure to be examined in depth in the investigations. At the same time that it was acting as Enron's auditor, it was seeking and getting lucrative consulting work from Enron. Arthur Andersen was also successfully lobbying against the Securities and Exchange Commission's effort two years ago to limit that type of dual role.

Moreover, Enron turned over to Arthur Andersen some responsibility for its internal bookkeeping, blurring a division of responsibilities that companies employ to assure the honesty and completeness of their financial figures. Further obscuring the line between an independent outside auditor and corporate management, many of Enron's financial executives had moved to the company from Arthur Andersen.

In the end, Enron was forced to restate earnings for the past five years by nearly $600 million, mocking Arthur Andersen's assurances that the original numbers were complete and accurate. Questions raised in a whistleblower letter made public last week suggest that still more reported earnings will have to be re-examined as the company and its creditors unravel the web of partnerships it set up to carry much of the company's debt. Enron dismissed Arthur Andersen as its auditor last week. Arthur Andersen's chief executive, Joseph F. Berardino, has defended his firm's conduct and denied wrongdoing.

From a government and regulatory perspective, Enron, as one of its executives said last year, thrived in a "regulatory black hole" that the company labored to create. At the Federal Energy Regulatory Commission, Enron lobbied in the 1990s for a rule that exempted trading in electricity derivatives from reporting requirements.

The lack of scrutiny by the energy regulatory commission was one reason that William A. Rainier, the chairman of the Commodity Futures Trading Commission, told Congress in 2000 that he was "deeply concerned" about a bill that would exempt energy trading from his commission's review because dealers in energy derivatives had no other regulator. Rainer's objections were largely ignored, and the exemption, heavily backed by Enron, became law.

Enron was not shy in making its views known on Capitol Hill or in spreading campaign contributions to Republicans and Democrats to ensure it would get a hearing. Since 1989, Enron has given $5.95 million to the two parties, with 74 percent going to Republicans, according to figures compiled by the Center for Responsive Politics, a watchdog group.

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