Enron hid large loans

$3.9 billion in debt counted as hedges, industry analysts say

Group set to change rules

Though legal, result was to cover up worsening situation


In addition to debt that it hid in partnerships, Enron took advantage of accounting rules to count billions of dollars in loans as financial hedges instead of debt on its balance sheet, accountants and industry analysts said. The effect was to mask the company's weakening financial condition.

Records held by Arthur Andersen, Enron's longtime auditor, and people close to the transactions show that Enron received $3.9 billion worth of such loans from 1992 through last year, including at least $2.5 billion in the three years before the company declared bankruptcy.

Those loans were in addition to the $8 billion to $10 billion in long-term and short-term debt that the company disclosed in its financial reports in those last three years.

If Enron had disclosed all the money as debt, then credit rating agencies, industry analysts and investors would have known earlier on that the company was riskier than it appeared.

Partly because of the way the loans were accounted for, the company reported a surge in its hedging activity, accomplished using financial contracts called derivatives, during its last few years. When pressed about the increase by skeptical analysts, Enron officials said the numbers reflected hedges for commodities trades, not new financing, the analysts said.

"They'd always tell us, `Don't worry about that, it's just hedging activity,'" said John E. Olson, research director at Sanders Morris Harris, who was one of the first analysts to challenge Enron's practices.

Enron officials did not answer requests for information on the accounting.

Enron's accounting treatment conformed to recommendations from the Financial Accounting Standards Board, the nation's accounting rule maker, said Timothy S. Lucas, director of research and technical activities at the accounting board. But the group will soon reveal a new recommendation, he said, requiring that such transactions be accounted for as loans as well. The board began reconsidering its policy in September, before Enron's collapse.

To keep growing at a brisk pace in its final years, Enron needed billions in financing. Had the company raised the money by issuing more debt or taking out conventional loans, rating agencies might have become concerned and downgraded its credit, making it harder and more expensive for Enron to borrow in the future.

So instead, Enron engaged in sophisticated transactions with Citigroup and Credit Suisse First Boston.

Enron entered into derivative contracts that mimicked loans but could be accounted for in less obvious ways. Some of the loans were arranged through a shell company, Mahonia, but the banks also made loans directly to Enron.

From late 1999 through early 2001, Citigroup lent Enron $2.4 billion in a series of transactions known as prepaid swaps, said people close to the deals. In a swap, two parties trade the future returns on specified investments over a set period of time.

For example, one party might pay a small amount to receive a fixed interest rate on a corporate bond in lieu of uncertain gains on the same corporation's stock.

The counterparty would accept the payment and swap the return on the bond for the return on the stock. Neither party needs to hold the underlying assets as long as the payments are made.

Typically, neither party in a swap exchange receives all the agreed payments up front. In these transactions, though, Citigroup paid an estimate of the fair value of its portion of the swaps - hundreds of millions of dollars each time - immediately. Enron was obliged to repay the cash over five years, though its payments might have varied with market conditions. The transactions, though technically prepaid swaps, perfectly replicated loans.

Citigroup did not answer repeated questions about whether it had booked the transactions as loans.

Credit Suisse First Boston also lent Enron money using trades in derivatives.

In 2000, the bank gave Enron $150 million to be repaid over two years. Enron's payments would vary with the price of oil.

Technically, the transaction was a swap. But because Credit Suisse First Boston paid Enron up front, the transaction took on the characteristics of a loan - as noted by the bank. "It was like a floating-rate loan," said Pen Pendleton, a CSFB spokesman. "We booked the transaction as a loan."

Enron's balance sheet told a different story. The company posted the banks' loans as "assets from price risk management" and possibly, to a far lesser extent, as accounts receivable, said Charlie Leonard, a spokesman for Andersen.

The repayments that Enron owed the banks were listed as "liabilities from price risk management" and possibly a small amount as accounts payable, Leonard said.

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