Enron:
The Rise and Fall of the Heavy Weight Champion of Deregulation

Dec 3, 2001

Enron, one of the largest companies in the country, ranked seventh on the Fortune 500, is close to bankruptcy. Its stock has fallen by more than 95% in a year. Meanwhile, the U.S. Securities and Exchange Commission (SEC) has begun an investigation into how the company keeps its books.

Yet, up until just a few short months ago, Enron was presented as a great corporate success story, a pioneer in pushing through and profiting from the deregulation of the natural gas and electricity industries, and becoming the biggest trading company in both those industries.

Enron makes money by .... making money

Enron was formed about 17 years ago, when two medium-sized Texas operators of natural gas pipelines merged. At the time, the natural gas industry, like electricity, was dominated by legal monopolies that were regulated by the government. In the mid-1980s, Enron and other such companies lobbied very hard for the federal government to deregulate the natural gas industry, and Enron soon became the largest marketer in that industry. Enron then set its sights on the deregulation of the electricity industry. Under big business urging, Congress then began the process of deregulating the production and sale of electric power, and Enron again rushed in. By 1997, Enron controlled about one-fourth of the new electricity trading market.

Of course, Enron and the politicians promised that the deregulation of energy markets would increase competition and lead to lower prices. While deregulation often did mean lower energy prices for big industries, consumers were hit by much higher bills.

Enron did own some gas pipelines and an electric utility in Portland, Oregon. But this only made up a very small part of its business. Enron, itself, produced or transported little of the gas and electricity it was trading. Instead, it made its money simply as the middleman, in effect taking a slice out of much of the electricity and gas consumed by the public. Enron was a capitalist’s dream–making money by buying and selling without ever having to worry about production. Wall Street rewarded the company with stock prices that, for a time, rose faster than the company’s sales and profits. Banks lined up to loan Enron money, and each new issuance of stock was snapped up like hot cakes.

As more of the electricity market was deregulated in the late 1990s, Enron’s trading operations really took off. Last year, Enron was the largest of the five big energy companies that, along with the big electric utilities, helped push electricity prices in California to record levels. California’s electricity crisis, with its shortages and blackouts, was merely a means to transfer tens of billions of dollars from taxpayers and consumers to companies like Enron.

These great successes encouraged Enron to branch out. It bought up a water company in order to begin to trade water. It also bought and sold large amounts of timber and internet capacity (called bandwidth). At the same time, it expanded its trading operations overseas. And it used its wealth to forge important political alliances. Its founder and chairman, Kenneth Lay, is very good friends with President George W. Bush, and Enron was one of the largest campaign contributors to Bush’s campaign and the Republican Party.

The company’s growth was spectacular. In its first 10 years, sales increased nine-fold. Then it grew even faster. In 1997, Enron’s sales stood at 20 billion dollars. By the third quarter of 2001, its annual sales were on track to reach nearly 200 billion dollars. In February, its newly appointed president and CEO, Jeffrey Skilling, became an instant celebrity and made the cover of Business Week.

The Bubble Burst

The first inkling of Enron’s problems came in August, when Skilling, the new CEO, abruptly resigned. In October, Enron announced that it had lost 650 million dollars for the quarter. Less than a month later, Enron revised downward its profit figures for the previous three years. Then, within a matter of days, Enron admitted that it had hidden both tens of billions of dollars in company debt as well as untold losses in extremely complicated financial arrangements with outside partnerships–in other words with skimming Enron’s money into the pockets of its individual “entrepreneurs.”

Wall Street and the U.S. regulatory agencies had been perfectly willing to close their eyes to Enron’s questionable accounting procedures, its extremely risky and secret dealings and hidden debts, as long as the company seemed to be growing and making money. But it was quite another matter once Enron could no longer hide its losses. Enron’s stock was hit with panic selling that only halted temporarily when Dynergy, a much smaller energy trading company announced that it was going to buy Enron, and immediately extend a new loan of over 1.5 billion dollars to the company. Since 27% of Dynergy is owned by the giant Texaco-Chevron oil company and therefore has very deep pockets, Wall Street gave the deal its blessings, and the Enron stock rose a bit. But Enron could not stanch its losses, many companies lost confidence in Enron and began to avoid doing business with it, and its stock plunged anew. There was a real danger that Enron could soon run out of both cash and credit.

The crisis

If Enron were to go bankrupt, it could set off a multi-dimensional crisis, in much the same way that the collapse of the electric utility “pyramid” helped set off and keep going the financial collapse of 1929-40. Because Enron is so dominant in such markets as gas, electricity, coal, metals, fertilizer, as well as bandwidth for the internet, its failure could create gridlock for the basic building blocks of the U.S. economy, starting with the electric and gas utilities. It could also set off major tremors for the financial structure as well. Not only are several large commercial and investment banks important creditors to Enron, many of them also set up their own units to trade and market gas and electricity and therefore have many business dealings with Enron. This is especially true of the JP Morgan Chase bank, a very large trader in electricity and natural gas.

So far, the biggest casualties of Enron’s collapse have been its 20,000 employees. They have been facing one round after another of layoffs... and the loss of much of their retirement savings. All along, while assuring Enron employees of the company’s prospects, top Enron executives had been selling Enron stock. Over the last three years, Kenneth Lay made 140 million dollars by cashing in his stock options. Skilling cashed in more than 60 million dollars worth. Meanwhile these executives froze their employees’ 401 (k) accounts, heavily laden with Enron stock, claiming that the firm was in the midst of changing account managers. This meant that employees were forced to hold onto their Enron shares, as their value plunged almost to zero.

The rise and fall of Enron reflects not only the extraordinary profits that were made from deregulation, but also the extraordinary risks that the speculation which was part and parcel of deregulation carried. Does that mean deregulation will be halted? Not if it depends on big business and its government.