The day before one of the relatively few real Enron criminals is scheduled to be sentenced, an interesting letter to U.S. District Judge Sim Lake became public in regard to the sentencing of former Enron CEO Jeff Skilling.
During and after the Lay-Skilling trial, Heartland Institute economists Paul Fisher and Jim Johnston authored several articles (previous posts here) that challenged the myth that Enron was merely a house of cards propped up through the fraud of its leaders (that myth has been a recurring theme on this blog, see here, here, here, here, here, and here, to cite just a few posts).
Now, in this letter to U.S. District Judge Sim Lake, Fisher and Johnston urge Judge Lake — in connection with the sentencing of Skilling — to take into consideration the huge beneficial impact that Enron had on various important markets. In so doing, Fisher and Johnston remind us once again of the vacuous nature of the real presumption in the Lay-Skilling trial — that is, that Skilling and Lay were rich and Enron collapsed, so they must be guilty of something in connection with Enron’s descent into bankruptcy:
From an economic perspective, the harm [that Skilling and Lay caused] is difficult to calculate. For sure, the collapse caused a huge notional loss to investors and employees in the form of pension and savings plans. However, Ken Lay and Jeff Skilling were not convicted of causing the collapse. They were convicted of lying about Enron’s financial condition (and one count of insider trading [against Skilling]). If the misrepresentation of Enron’s financial condition in 2001 as alleged in the indictment had not occurred, presumably the bad news would have been known earlier. That in turn would have caused the Enron share price to collapse sooner and even less time would have been available for investors and employees to liquidate their holdings.
The implication of this reality is that there was no additional harm done to the investors and employees from the alleged hiding of Enron’s profits and losses. While it may have changed the identity of the losers it did not increase the totality of the losses.
On balance, the benefits created by Ken Lay and Jeffrey Skilling in building Enron seem to us to far outweigh any incremental harm done to investors from the alleged fraud. The economists we know who have carefully studied the risk management practices and techniques developed by Enron agree that they were beneficial and will continue to be so. Not giving this reasonable weight will send a potentially harmful message. That is not to excuse any fraud, but rather to recognize the context of the decision.
Meanwhile, this Carrie Johnson-Brooke Masters/WaPo article explores the dubious reasoning behind prison sentences for businesspersons convicted of fraud that are harsher than those handed down for first-degree murder or treason.
A couple of other questions. Does a witness at a prosecution have any potential civil liablility for lying to the detriment of another in order to benefit himself?
(This should be a new paragraph, but I don’t know how to make it show up.)
I noted also the story in today’s Chronicle about Fastow trying to curry favor with Enron shareholders and others by blaming the banks for prepays. I’ve never understood why prepays were deemed to be such a bad thing. As I undertand it Enron was selling future gas deliveries for cash to meet cash flow needs and also claiming it as cash flow from operations. Seems fine to me on both counts.
A major business operation of Enron was transacting obligations in energy markets. These consisted of obligation of others to Enron and vice versa. Obviously, Enron’s goal in this activity was to have the value of obligations to it outweigh its obligations to others. Seemingnly Enron succeeded handsomely in this: total obligations increased (more activity), but the net favorable balance to Enron increased more, especially in 2000 and the first part of 2001.
Now if Enron sells a package of such obligations which has a positive market value, obviously cash flow is generated. Since Enron continually operates to replentish the stock of obligations and has a track record of creating net positive obiligations, how, as a matter of substance is that not logically cash flow from operations?
If you’re with me so far, then a prepay (i.e. just selling an Enron obligation) can be thought of as just a short form (and therefore more efficient) version of the sale of such a package: in effect its only the net positive value that’s being sold, not balanced obligations. This makes the transaction simpler and less costly, but in principle its the same thing.
Now obviously, no one should be able to just willy nilly sell such prepays. Anyone paying out cash for these prepays (which is what the banks did) would look to the transacting enetities creditworthiness, particularily with regard to similar obligations. Thus the fact Enron had such a strong postive balance of these obligations tended to make this sort of transaction a “no brainer” from the point of view of the banks.
Now I know these obligations were classified as short and long term assets and liabilities on Enron’s balance sheet. Further I know that accountants look askance at counting the proceeds of asset transactions as cash flow from continuting operations.
Fine, but the subtance was that as part of its operations, Enron was in the business of creating these assets as an ongoinging activity. So why is it anything but a dysfunctional accounting technicality that these were misrepresented.