How Enron FraudHow Enron FraudEnron has involved in several illegal and unethical actions that all combined together caused it collapse in a very short time.Enron has a lot of special purpose entities to hiding its financing debts and reveal only âbright sideâ of performance that misleading investors. Firstly, its debts and the losses were not reported in its financial statements because much of its profits and revenue were deals with special purpose entities. Hence, it caused balance sheet understated liabilities and overstated its equity& earnings. Example is White- winged Dove that bought assets from Enron but transfer of assets is not true and should have been treated as loan due to financing from this special entity. It reflect by behavior of Andrew Fastow CFO of Enron, he creates a network of shell companies designed solely to do business with Enron for dual purposes of sending Enron money and hiding its increasing debts. He has a vested stake in these ventures and using them to defraud Enron millions of dollars. Fastow also using Wall Street Investment banks whoâs invested its entities and conduct business deals with him. It is a manipulation by top executives toward financial performance data.
Enron seeks to beguile stock market analysts by push up stock prices and then cash in their multi- million dollar options in a process called âpump and dumpâ. Besides, it portrays itself through public- relation campaign that it is a profitable and stable while worldwide operations are performing poorly. One of the method used is it records nonexistent profits for its ventures using âMark- to- market model accountingâ. It requires once a long term contract was signed, income is estimated as the present value of net future cash flow. Analysts being given misleading reports due to difficulty of estimation on contract costs and variables during their analysis job performed. This treatment
is a problem because the company uses âmark-up-and-dumpâ, which is a technique of accounting that does NOT allow for price adjustment to explain the profitability.
âpump and dumpâ is more profitable at one point or another.
âpump and dump and many other schemes may be successful.
âpump and dump provides a safe harbor of liquidity so that a market can avoid problems.
âpump and dump provides investors with a means that should be avoided.
âpump and dump doesn’t work if investors don’t know there is any risk.
âpump and dump has no market-level benefit in a stock market that has been heavily manipulated for over 35 years.
âpump and dump is also more valuable than share to investors which might lead to less liquidation.
âpump and dump is not a very good strategy in a stock market that continues to move at a steady rate of near-zero growth.
âpump and dump has the greatest possibility of failure if investors buy only in a market that is unstable.
âpump and dump provides investors a market of uncertain returns whereas, the only market where stocks continue to perform reasonably well is the financial industry.
âpump and dump is highly efficient because, if one chooses a low capital allocation, allocating capital costs will not change for a longer long period than a market where allocating costs decrease. A fund with high capital allocation should focus for periods that are short rather than longer, and avoid investment in stocks more than in high-cost or small-cap funds.
âpump and dump is likely to sell the stock in a few short years unless the price in the market rises substantially.
âpump and dump also is a way to artificially lower expectations.
âpump and dump also prevents the trading of U.S. stocks with a higher cost relative to foreign buyers.
âpump and dump can lead to further dilution of global markets and/or lower profits, which can harm stock market performance.
âpump and dump is a more appropriate business strategy if trading is limited after the risk of loss outweighs the risk of loss.
âThis post is one of 16 posts by James R. Smith of the Washington College of Law. It has been endorsed and moderated by the Free Thought Project at NYU’s Mercatus Center.