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How ENRON's CEO Stole $2 Billion from Employee Pensions | The Kenneth Lay & Jeffrey Skilling Fraud — Transcript

by The Sleeping Economist · 2,941 words · 502 segments · language en · Watch on YouTube

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0:00In December 2001, a company worth $70
0:02billion filed for bankruptcy in just 24
0:05days. 20,000 employees lost their jobs
0:09overnight. Retirement accounts holding
0:11$2 billion in savings simply vanished.
0:14But here's what should terrify you. This
0:16wasn't some startup or risky venture.
0:19This was Enron, America's seventh
0:21largest corporation named America's most
0:24innovative company, six years in a row
0:27by Fortune magazine. The collapse didn't
0:29just destroy Enron. It took down Arthur
0:32Anderson, one of the world's big five
0:34accounting firms, a company that had
0:36survived the Great Depression and two
0:38world wars. 89 years of reputation gone.
0:4328,000 accountants lost their jobs
0:45because of one client. Today, you're
0:47going to learn exactly how fake
0:49revenues, hidden debt, and imaginary
0:52profits fooled the smartest investors on
0:55Wall Street. More importantly, you'll
0:57understand the warning signs that were
0:59hiding in plain sight. The same red
1:01flags that could protect your
1:02investments today. If you want to
1:04understand the economic stories that
1:06shaped our world while most people
1:07weren't paying attention, hit that
1:09subscribe button and ring the
1:10notification bell. This channel uncovers
1:13the financial events you slept through.
1:15And trust me, understanding Enron could
1:17save your retirement account someday.
1:19Chapter one, from pipelines to paper
1:22profits. To understand how Enron fooled
1:24everyone, you need to understand what
1:26they were supposed to be. In 1985, two
1:29pipeline companies merged to form Enron,
1:32a boring utility company that moved
1:34natural gas through pipes. Think of them
1:37like a toll road for energy. They
1:39charged fees to transport gas from
1:41producers to consumers. Simple,
1:43predictable, boring. But CEO Kenneth Lay
1:46had bigger dreams. In 1990, he hired
1:49Jeffrey Skielling, a McKenzie consultant
1:51with a radical idea. Instead of just
1:53moving gas through pipes, why not trade
1:56energy like stocks? Skiilling convinced
1:58Lei that Enron could become the gas
2:01bank, buying and selling energy
2:03contracts the way Wall Street trades
2:04securities. Here's where it gets
2:06interesting. Skiilling brought something
2:08called marktomarket accounting to Enron.
2:11Let me explain this simply. Imagine you
2:13sign a contract today to deliver pizzas
2:15every Friday for the next 10 years at
2:17$20 per pizza. Under normal accounting,
2:20you'd record $20 of revenue each time
2:23you actually deliver a pizza. But
2:25Marktomarket lets you calculate all the
2:27money you expect to make over 10 years
2:29and record it as profit today. So, if
2:31you expect to deliver 52 pizzas a year
2:34for 10 years at $20 each, you could
2:36immediately claim you made $10,400 in
2:39profit, even though you haven't
2:40delivered a single pizza yet. The SEC
2:44actually approved this for Enron in
2:451992. This single decision would enable
2:48everything that followed. By 1996, Enron
2:52wasn't just trading gas anymore. They
2:54were trading electricity, water rights,
2:56weather derivatives. They even tried to
2:58trade broadband internet like it was a
3:00commodity. Skiilling, now president and
3:02COO, pushed the company to act more like
3:04an investment bank than an energy
3:06company. Employees were ranked every 6
3:09months, and the bottom 15% were fired,
3:12creating a culture where showing profits
3:14mattered more than making them. The
3:16transformation seemed [music] to work
3:17brilliantly. Enron's stock price rose
3:20311% from 1990 to 1998. [music]
3:24Wall Street analysts couldn't get
3:26enough. The company reported revenues of
3:28$31 billion in 1998, then60 billion in
3:331999, [music] then 100 billion in 2000.
3:37Fortune magazine named them America's
3:38most innovative company 6 years
3:40straight. Chapter 2, the magic money
3:43machine. This brings us to the creative
3:45accounting that would destroy two
3:47companies. Remember marktomarket
3:49accounting? Enron's traders started
3:51using it for increasingly ridiculous
3:53things. They signed a 20-year deal to
3:56supply power to Indiana. Using Mark
3:58tomarket, they immediately booked $110
4:01million in profits. But here's the
4:03problem. They based those profits on
4:05their own internal projections. When the
4:08real profits came in much lower, they
4:10couldn't admit it without restating
4:11earnings. So CFO Andrew Fasto created a
4:14solution. Special purpose entities or
4:17SPEs. Think of these like separate
4:20companies that exist only on paper.
4:22Normally, if you have a bad investment
4:24losing money, it shows up on your
4:26financial statements. But if you sell
4:28that bad investment to an SPE, it
4:30disappears from your books. The loss
4:33becomes someone else's problem. Here's
4:35where it gets truly insane. Fasto
4:38created SPEs with names like Jedi,
4:41Chuco, LJM1, and LJM2. He then did
4:45something that should have been illegal.
4:47He made himself the manager of these
4:49SPEs. So Fasto was simultaneously
4:52Enron's CFO and the person running the
4:54companies Enron was secretly doing
4:56business with. Between 1999 and 2001,
5:00Fasto personally made $45 million from
5:03these SPEs while still collecting his
5:05Enron salary. These SPEs bought Enron's
5:08bad assets, hid Enron's debt, and
5:11created fake profits. If Enron had a
5:13power plant in India losing money,
5:15they'd sell it to an SPE. If Enron
5:18needed to show profit at the end of a
5:20quarter, they'd sell something to an SPE
5:23at an inflated price. By 2000, Enron had
5:26created over 3,000 SPEs. Their real debt
5:30wasn't the $13 billion on their balance
5:32sheet. It was closer to 38 billion. But
5:35here's what should have been the biggest
5:37red flag. Nobody could explain how Enron
5:40actually made money.
5:42In 2000, a Fortune reporter named
5:45Bethany Mlan asked a simple question.
5:48How exactly does Enron make its money?
5:51She couldn't match the reported profits
5:53to any actual business operations.
5:56When she called Enron for clarification,
5:58Skilling personally called her editor to
6:00complain, calling her questions
6:02unethical. The stock market didn't care
6:05about these questions. By December 2000,
6:08Enron's stock hit $90 per share. The
6:11company was worth $70 billion. Kenneth
6:14Lay was friends with President George W.
6:16Bush. Enron executives were cashing out
6:18stock options worth hundreds of millions
6:20while telling employees to keep buying
6:22shares for their 401k retirement
6:24accounts. Chapter 3. The heard
6:28around Wall Street. The unraveling began
6:31with one man named Jim Chanos, a short
6:34seller who made money betting against
6:35overvalued companies. In late 2000,
6:38Chanos noticed something odd. Enron's
6:41return on capital was only 7%, but they
6:44were borrowing money at 9%. Think about
6:46that. They were paying more to borrow
6:48money than they were earning from
6:50investing it. It's like paying 15%
6:52interest on a credit card to invest in
6:54something earning 10%. You're guaranteed
6:57to lose money. Then came the conference
6:59call that changed everything. On March
7:025th, 2001, Fortune published MLAN's
7:04article titled, "Is Enron overpriced?"
7:08During Enron's quarterly earnings call
7:10in April, Skilling was rattled. When
7:12hedge fund manager Richard Grubman asked
7:14why Enron didn't provide balance sheets
7:16with their earnings, Skielling lost his
7:19composure and called him an on
7:20the public call. Professional CEOs don't
7:23do that. Wall Street started paying
7:26attention. On August 14th, 2001, Jeffrey
7:29Skielling suddenly resigned as CEO after
7:31only 6 months in the position, citing
7:33personal reasons. He had just sold $60
7:36million in Enron stock. The stock price
7:39dropped from $45 to $39 in one day.
7:42Employees were terrified, but Kenlay
7:45returned as CEO and told them everything
7:46was fine. He even encouraged them to buy
7:49more stock for their retirement
7:50accounts. Then Sharon Watkins, an Enron
7:53vice president, sent an anonymous letter
7:55to Ken Lay. I am incredibly nervous that
7:58we will implode in a wave of accounting
8:00scandals, she wrote. She detailed how
8:02the SPEs were hiding losses and warned
8:05that Fasto's involvement was a massive
8:07conflict of interest. Lay's response, he
8:10asked Enron's law firm to investigate,
8:12the same law firm that had approved the
8:14SPEs in the first place. On October
8:1616th, 2001, Enron announced a $638
8:20million loss for the third quarter and
8:23reduced shareholder equity by $1.2
8:25billion. But they buried the real news
8:28in the fine print. They were under SEC
8:31investigation. The stock fell to $33.
8:352 days later, Fasto was forced to take a
8:38leave of absence. The Wall Street
8:40Journal revealed he had personally made
8:42$30 million from the SPEs. October 24th
8:45brought the death blow. Enron fired
8:47Fasto and admitted they might have to
8:49restate earnings back to 1997. Think
8:52about what that means. 5 years of
8:54financial statements were lies. The
8:57stock crashed to $16.
9:00Chapter 4. 24 days to zero. Once the
9:04truth started emerging, the collapse
9:05happened at breathtaking speed. On
9:08November 8th, 2001, Enron admitted they
9:10had overstated profits by $586 million
9:14since 1997.
9:15The SEC upgraded their inquiry to a
9:18formal investigation. The stock fell to
9:20$8. But here's where Arthur Anderson
9:23enters the death spiral.
9:25Anderson wasn't just Enron's auditor.
9:28They were practically business partners.
9:30In 2000 alone, Enron paid Anderson $52
9:34million.
9:3527 million for auditing and 25 million
9:38for consulting. Anderson had an entire
9:41floor in Enron's Houston headquarters.
9:43They signed off on every financial
9:45statement, approved every SPE, and never
9:47raised public concerns. When the SEC
9:50investigation was announced, Anderson
9:52partner David Duncan ordered his team to
9:54start shredding documents. Between
9:55October 23rd and November 9th, they
9:57destroyed tons of paper and deleted
9:59thousands of emails. They even called in
10:02extra shredding trucks. This wasn't
10:04cleaning up old files. This was
10:06destroying evidence. On November 28th,
10:082001, the major credit rating agencies
10:11downgraded Enron's debt to junk status.
10:14This triggered $4 billion in hidden
10:16obligations that came due immediately.
10:18Enron's stock fell to 61.
10:21On December 2nd, 2001, Enron filed for
10:24bankruptcy. At the time, the largest
10:27bankruptcy in American history. 20,000
10:29employees lost their jobs immediately.
10:32Many had their entire retirement savings
10:34in now worthless Enron stock. The human
10:37cost was staggering. Employees had been
10:39blocked from selling Enron stock in
10:41their 401k accounts during the final
10:43weeks, while executives cashed out
10:45hundreds of millions.
10:47Charles Preswood, a pipeline worker who
10:50had been with the company 33 years, lost
10:52$1.3 million in retirement savings. He
10:55had to go back to work at age 68.
10:58Thousands of similar stories emerged.
11:00Meanwhile, Arthur Anderson was finished.
11:02On January 10th, 2002, they admitted to
11:05shredding documents. On March 14th, the
11:08Department of Justice indicted the
11:10entire firm for obstruction of justice.
11:12Their clients fled immediately. By
11:14August 2002, Arthur Anderson, one of the
11:17big five accounting firms with 85,000
11:19employees worldwide, surrendered their
11:22licenses and ceased operations. 28,000
11:25US employees lost their jobs because of
11:27one client.
11:29Chapter 5:
11:31Orange Jumpsuits and New Rules. The
11:34trials began in 2004. Andrew Fasto
11:37pleaded guilty to conspiracy and agreed
11:39to testify against his former bosses. He
11:42served 6 years in federal prison.
11:44[music] His wife, Leah, who had been an
11:46assistant treasurer at Enron, served one
11:48year for tax crimes. [music]
11:50Together, they forfeited $30 million.
11:53Jeffrey Skielling was convicted on 19
11:55counts of conspiracy, fraud, and insider
11:58trading. He was sentenced to 24 years in
12:00prison and fined $45 million. The man
12:04who had once lectured at Harvard
12:05Business School about innovation spent
12:0712 years in federal prison before being
12:09released early in 2019. Ken Lelay was
12:12convicted on all counts, but died of a
12:15heart attack on July 5th, 2006 before
12:18sentencing.
12:19Because he died before appeals were
12:21exhausted, his conviction was vacated.
12:24His victims never saw justice completed.
12:27The regulatory response was swift and
12:29severe. Congress passed the Sarbain
12:32Oxley Act in July 2002, the most
12:34significant change to securities law
12:36since the 1930s.
12:38CEOs and CFOs now had to personally
12:41certify their company's financial
12:43statements. Lying meant up to 20 years
12:46in prison. Auditors could no longer
12:48provide consulting services to their
12:50audit clients. Companies had to have
12:52independent directors on their audit
12:54committees. The accounting industry
12:56consolidated from the big five to the
12:57big four overnight. Every major
13:00corporation in America had to change how
13:02they reported finances. The cost of
13:05being a public company increased
13:07dramatically. Small companies now spent
13:09millions just to comply with
13:11regulations. But here's what's
13:13fascinating. Mark-tomarket accounting,
13:15the technique that started it all, is
13:17still legal and widely used. After the
13:202008 financial crisis, banks used the
13:23same technique to value mortgage
13:24securities. The difference now is that
13:27regulators actually check the
13:28assumptions. The energy trading industry
13:30that Enron pioneered, it still exists
13:33and thrives. Companies like Goldman
13:36Sachs and Morgan Stanley took over
13:38Enron's trading operations. The idea of
13:40trading energy like securities wasn't
13:42fraudulent. Enron's execution was.
13:46Chapter 6. Your 401k is not a lottery
13:49ticket. So, what can regular investors
13:52learn from Enron? Let's start with the
13:54most painful lesson, the retirement
13:57massacre. When Enron collapsed,
13:59employees lost $1.2 billion in
14:02retirement savings. But here's the
14:04detail that should make your blood boil.
14:06During the final two weeks before
14:07bankruptcy, Enron locked employees out
14:10of their 401k accounts due to
14:12administrative changes while executives
14:14cashed out $116 million in stock. John
14:18Doe, a 58-year-old engineer, watched his
14:21401k drop from $700,000 to $20,000 while
14:25literally unable to click the sell
14:27button. He had to postpone retirement by
14:2915 years. This wasn't investing. This
14:32was corporate theft disguised as
14:34administrative procedure. Here's your
14:36first lesson. If your company ever
14:38restricts your ability to manage your
14:39own retirement account while executives
14:41are selling, that's not a red flag.
14:44That's a fire alarm. Get whatever money
14:46you can out immediately when the
14:48restriction lifts. Second, the company
14:50stock discount trap. Enron offered
14:53employees company stock at a 15%
14:55discount in their 401ks.
14:58Sounds great, right? Free money. But
15:00think about this. If your company fails,
15:03you lose your job and your retirement
15:05savings simultaneously. That's exactly
15:08what happened to thousands of Enron
15:10employees. Financial adviserss now
15:13recommend keeping company stock to less
15:14than 10% of your retirement portfolio.
15:17I'd say 5% maximum. Third, watch for
15:20complexity hiding incompetence.
15:23When analysts asked Enron [music]
15:25executives to explain their business
15:27model, the response was always some
15:29version of it's too complicated for
15:31outsiders to understand.
15:34Here's a truth Wall Street doesn't want
15:35you to know. Legitimate businesses can
15:37be explained in one sentence. McDonald's
15:40sells hamburgers. Microsoft sells
15:42software. Amazon delivers packages. If
15:46someone needs 45 minutes and a
15:47PowerPoint to explain how they make
15:49money, they probably don't. Fourth, the
15:52employee whistleblower pattern. Before
15:54every major corporate collapse,
15:56employees try to warn us. Sharon Watkins
15:58wrote her letter to Ken Lelay 3 months
16:00before bankruptcy. Employees were
16:03posting anonymous warnings on Yahoo
16:05Finance message boards throughout 2001.
16:07They described the rank and yank
16:09culture, the accounting games, the fear
16:12of speaking up. Today, websites like
16:14glass door and Reddit's various employee
16:16subreddits serve the same function. When
16:19employees are screaming warnings,
16:21listen. Fifth, understand the auditor
16:23conflict. Arthur Anderson made $25
16:26million consulting for Enron and 27
16:28million auditing them. How objective can
16:31you be about someone paying you $52
16:33million a year? Today, thanks to Sarbins
16:36Oxley, auditors can't provide consulting
16:39services to audit clients. But new
16:41conflicts emerged. Companies still pay
16:43their auditors, creating the same
16:45incentive to please the [music] client.
16:47When reading financial statements,
16:48remember the auditor was chosen and paid
16:50by the company they're supposedly
16:52checking. Here's something that might
16:53save your retirement. The earnings
16:56quality test. Real businesses generate
16:59cash. Enron reported billions in
17:01profits, but never had cash. They
17:03constantly issued new debt and stock to
17:06fund operations. [music] If a company
17:08reports consistent profits but always
17:09needs more money, something's wrong.
17:12Look at the cash flow statement, not
17:14just earnings. Cash is fact. Earnings
17:17are opinion. Let me tell you about the
17:19smart money myth. Enron's investors
17:22included the most sophisticated
17:24institutions on Wall Street. The
17:26company's board included a Stanford
17:28accounting professor, the former UK
17:30Secretary of State for Energy, and the
17:32dean of the University of Texas Business
17:34School. These weren't amateurs. They
17:37were experts who got fooled. Never
17:39assume that because smart, rich people
17:42are investing, [music]
17:43an investment is safe. Smart people
17:46believed in Theronos, FTX, and Bernie
17:48Maidoff, too. The geographic
17:50concentration risk is another hidden
17:52lesson. Houston lost 4,000 millionaires
17:54overnight when Enron collapsed. Local
17:57restaurants, car dealerships, and real
17:59estate markets crashed. If you live in a
18:01company town, Seattle with Amazon,
18:03Detroit with automakers, San Francisco
18:05with tech, diversify your investments
18:07away from your local industry. When your
18:10neighbor loses their job, your house
18:11value drops, too. Finally, remember that
18:14regulation is written in blood and
18:16poverty. Sarbain Oxley exists because
18:1920,000 Enron employees lost their jobs.
18:22The SEC's whistleblower program, which
18:25now pays millions to tipsters, exists
18:27because Sharon Watkins was ignored.
18:30These rules weren't created by
18:31bureaucrats who hate business. They were
18:34created because real people lost real
18:36retirements. But here's the terrifying
18:38truth. It's happening again, just
18:41differently.
18:43Today's SPEES are called special purpose
18:46acquisition companies or spaxs.
18:50Today's marktomarket accounting happens
18:52in cryptocurrency and NFT valuations.
18:56Today's Enron might be hiding in plain
18:58sight with a different acronym and a
19:00charismatic CEO on social media. The
19:02difference between Enron's victims and
19:04you, you're not sleeping through it
19:06anymore. You understand that when
19:08executives sell while employees buy,
19:11when accountants make more from
19:13consulting than auditing, when simple
19:15questions trigger angry responses, you
19:17now know those aren't just red flags.
19:19They're the same warning signs that
19:21appeared before Enron turned $70 billion
19:24into dust. Your 401k is not a lottery
19:27ticket. It's not a bet on your company's
19:29stock price. It's your future ability to
19:31eat, [music] pay for medicine, and keep
19:33a roof over your head. Protect it like
19:35your life depends on it, because one day
19:38it will. If stories like this, where we
19:41uncover the economic events that shaped
19:43our world while most people weren't
19:45paying attention, fascinate you, please
19:48like this video and subscribe to the
19:50channel because we're just getting
19:52started with these financial educational
19:54mysteries.

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