Energy Deals Were 'Incomprehensible'

LOS ANGELES -- The conference room on the 48th floor of Enron Corp.'s Houston headquarters -- the nerve center of the energy trader's convoluted and risky deals -- was at the opposite end of the hall from the company's outside accounting firm, Andersen.

The room was entirely paneled in whiteboards and furnished with a full supply of colored markers. There Enron executives were briefed on the dizzyingly complex structures the consultants had layered onto deals that had often started out as straightforward. The experience often left the dealmakers dumbfounded.

"You'd see things involving 30 or 40 different entities," said Clayton Vernon, a former research analyst and trading manager. "They would clear a whiteboard and draw a flow chart that would be absolutely incomprehensible."

Another former executive familiar with the conference room recalled, "They'd be drawing boxes and arrows going in every direction." The drawings would describe shell companies and offshore entities with intricate inter-relationships, all headed by mysterious figures designated on the whiteboards as "Mr. X" or "Mr. Y."

When pressed, accountants would identify the mystery figures only as "somebody who's a friend of the company," according to the executive, who asked to remain unidentified. These phantom executives, the accountants announced, were due payments of hundreds of thousands of dollars to play their shadowy roles in the transactions.

Andersen served Enron not only as its outside auditing firm, bound to ensure that the company's books complied with financial disclosure standards, but also as business consultants. The dual function, which may have subjected Andersen to a conflict of interest, is expected to come under intense scrutiny by the U.S. Congress as it begins looking into the Enron collapse.

In many cases the goal of the complex structures, the employees say, was twofold: to keep them off Enron's corporate balance sheet and thus out of view of the public and to enable Enron to record revenues from the deals before they were received -- often more revenues than the deals were likely to produce.

Whatever the rationale, this process is behind the extraordinary complexity of Enron's financial dealings and helps explain how profound problems in its numerous businesses eluded the comprehension of auditors, shareholders, regulators and tax authorities for years.

Enron's 2001 annual report lists roughly 3,800 subsidiaries, of which more than 700 are located in the Cayman Islands or other offshore financial havens. Most of these are known as "special purpose entities," or SPEs, created by Enron as vehicles for its complicated transactions.

These deals were among those lambasted by Enron vice president Sherron Watkins, who complained in a memo she wrote Aug. 15 to Enron chairman Kenneth Lay. The memo was released earlier this week by a congressional committee.

Public documents and interviews with former Enron employees suggest that over the last two years the company's deals became more complicated and their economic rationales more suspect.

The effect was to create transactions that, rather than benefiting Enron, tended largely to enrich senior executives who were entitled to special compensation for their roles in the partnerships. Andrew Fastow, Enron's former chief financial officer, was reportedly entitled to $30 million in such compensation.

The aim may also have been to produce the illusion of continued revenue gains for the company, which was facing slowing growth in many of its core businesses.

Even before that, the labyrinthine character of Enron deals was a byword in the company. In early 2000, four months after he joined the company, Vernon said he first saw deals that didn't seem quite right.

"But the transactions were so complicated I assumed there was some part I was missing that meant they were at least reasonable business propositions for the Enron shareholders. In hindsight, they should have raised more red flags."

Vernon and others say there were indications within Enron that high-level executives at Andersen approved of these maneuvers.

Andersen, which Tuesday fired the Houston-based partner overseeing the Enron account and suggested that lax oversight of the company was limited to its Houston office, declined to reply to questions Wednesday about the firm's involvement in structuring the transactions. An Andersen spokesman said the firm is looking into its actions and is cooperating with investigators.

Vernon said he asked Lay at a company session Sept. 26 if he was comfortable with Andersen's integrity and oversight. At the time, the company was facing the first wave of criticism over the offshore partnerships that had shielded liabilities from public scrutiny.

Lay replied in the affirmative, Vernon recalls, adding that not only Andersen's Houston office, but its national office, had approved the partnerships in advance. "Everything is done ethically," Lay said, Vernon recalled.

An Enron spokesman said Wednesday night that she could not confirm or deny that Lay made the remarks Vernon attributed to him. Recordings of this and other internal company meetings purportedly featuring Lay's reassurances have been requested from Enron by congressional investigators.

In any case, the complex structures did enable Enron to conceal the real ramifications to its bottom line of many of its deals with offshore partnerships.

Sources say the transactions became even more questionable beginning in early 2000.

"One of the games they played was to make them so complex that people couldn't see where the risk lay. You'd have to spend hours with the analysts to figure it out, and then you'd be told, 'Andersen's already signed off on this.'"