A study of Enron before the fall
With Enron's top executives, Kenneth Lay and Jeffrey Skilling, on trial for conspiracy and fraud–and a third, Andrew Fastow, testifying against them–the nightmare of the biggest bankruptcy in history is back. So are the questions that have dogged business experts since Enron's collapse: What really happened at the energy giant, and what can be learned from its demise? In a popular case study of the company, Robert Bruner, dean of the Darden Graduate School of Business Administration at the University of Virginia, and his coauthor, Samuel Bodily, a professor of business administration, have tried to provide a few answers– arguing, surprisingly, for a longer view of Enron's rise and fall. Bruner spoke with Senior Editor Justin Ewers:
Why did you decide to do a case study of Enron in 1999?
The thrust of the case was to look at the record of this company that Fortune magazine for seven years running had labeled as the most innovative company in the United States. We were interested in documenting what Enron had done to achieve that status.
You met with Enron execs the next year. What did they tell you?
We interviewed Lay, Skilling, Fastow, and [former Enron President] Greg Whalley, among others. What we received was a fair amount of detail on what I would call the company line–which I think we've all heard.
When Enron collapsed, did you feel betrayed?
No one can study the case of Enron without a deep sense of sadness for the fate of all the employees, the pensioners, the loss of liquidity in important markets, the destruction of one of the most innovative companies in the United States–and the loss of faith that these events spawned.
Still, you suggest Enron's demise was a mix of bad publicity and a rotten system. What went wrong?
At the core of Enron's collapse was what I'd call momentum thinking, which is the intense focus on delivering a steady percentage rate of increase in earnings per share, quarter by quarter, year after year. We can think of this almost as growth at any price. It resulted in a bet-the-farm kind of management of the company.
Could the company have saved itself?
The large debate is whether Enron was a fraud from the day it was founded in 1985. I would argue emphatically no. I would say Enron brought serious new value to the industries it serviced, particularly in the design of innovative contracts that offered its clients greater flexibility to hedge either price uncertainty or volume uncertainty or both. We as a society are better off because of the innovation and design of those contracts.
Still, Enron's collapse spooked many investors on energy contracts and financial securities. Have new regulations solved some of the problems revealed by the company's disintegration?
I would say that other than the major regulatory changes such as Sarbanes-Oxley, we see very few limitations yet placed on the design of these securities or their valuations.
What can other CEOs learn from Enron?
They need to avoid creating the psychological conditions of continuing to reach for higher and higher growth. Momentum thinking ultimately ends in tears. You can't grow very long in excess of the growth rate of the economy before you hit limits. Otherwise, you own the world economy.
Do you think Skilling and Lay are guilty?
I'm going to let the courts settle that.
What were they like?
Jeff Skilling is a kinetic personality–very bright, highly articulate, highly energetic. His [ideas] will probably go on to stimulate further innovation in the way firms do business. But he was guarded in his self-presentation in small ways: He was reluctant to talk about matters in personal life. Obviously, he had a strong opinion of himself and the role that Enron was playing in the larger business economy. He was a creation of his own enterprise–aggressive, forward-thinking, an apostle of momentum.
And what about Ken Lay?
Ken Lay was avuncular, folksy, and more approachable but had a real toughness as well. He spoke with almost religious fervor about the deregulation of energy markets and how this was necessary to stimulate economic growth. He brought a very macro view of Enron's role and the role of energy markets.
Did you trust them?
They were plausible and winning personalities. Trust would be too strong a word. We heard what was a very energizing line. They could point to tangible accomplishments, processes currently underway that would lead to future accomplishments. Beneath all of this, of course, were practices, policies, that put the firm at great risk.
In 2001, when the company was unraveling, could they have done anything to avoid bankruptcy?
It's like defusing a very big bomb. But if Ken Lay had gone public and said I've received this note from Sherron Watkins and we will unwind the special purpose entities, we will clean up the balance sheet, we will separate from the company those individuals who are responsible–we adhere to these core values and I will clean house—I could imagine that in August or September of that year it might have been early enough to save the company. Not without a serious fall in share price, of course.
Why didn't he do that? What do you think he knew at the time?
Well, two observations on that: One is that it's awfully easy in a large corporation for some employees to do things that are not in the interest of the corporation. The second point is that the CEO ought to know what's going on within the organization. The defense of simply not knowing or not being aware is insufficient. But, there's no substitute for integrity. The large lesson is that creating a culture that results in various heady percentage increases in earnings stretches integrity internally–and ultimately, it pushes people beyond what is acceptable behavior.