Selects: How Enron Fooled the World

Stuff You Should Know

This episode of Stuff You Should Know explores the rise and fall of Enron, a company once hailed as the most innovative in America, which collapsed in 2001 due to widespread accounting fraud, deceptive practices, and corporate greed. It details how Enron used complex financial instruments, special purpose entities, and manipulated energy markets to inflate profits and hide debt, ultimately leading

Key takeaways

• Enron's collapse was fueled by a toxic corporate culture that rewarded deception and cutthroat competition.
• The company used special purpose entities (SPEs) like LSM to hide billions in debt and losses from public view.
• Enron exploited deregulation in California’s energy market, creating artificial shortages to profit from inflated electricity prices.

Transcript preview

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Do you realize how legendary you are? I appreciate that. I'd be seeing it but I'm like man I still got like so much more to do like Prince he dropped like 30 albums. We dropped like five right now that's the rate we got to be going. Yeah that's a good attitude. No matter the era, Drink Champs brings you the biggest names and the biggest names and the most and the most Listen to Drink Champs from the Black Effect Podcast Network on the I-Heart Radio app, Apple Podcasts, or wherever you get your podcast. Hey guys, it's me Josh, and for this week's select I've chosen our 2023 episode on the Enron scandal. It's a pretty interesting episode. At the very least, just because of the mind-bogglingly nut stuff that these guys did all in the pursuit of money and personal gain. Not only did they swindle entire states. They also, as a nice cherry on top, wiped out the life savings of thousands of their own employees. It's the kind of thing that was such a big deal. It left a stain on American society as a whole, just by how cynical it made everybody about what people can get away with, just in the pursuit of wealth. At any rate, I hope you enjoy this episode. It's a good one. Hey and welcome to the podcast I'm Josh and there's Chuck and Jerry's here and it's stuff you should know we mean it you should know this stuff because this is serious corporate malfeasance that I think it's probably not an American over the age of 20 walking around who doesn't know about this somehow some way to some degree I know they teach about this stuff in business school been written on extensively, but I mean I didn't understand the ins and outs of it until I started researching this and it's quite shocking and that shocking thing that I'm talking about is the rise and fall of Enron one of the greatest swindles in corporate American history, maybe in corporate history in the world, definitely in corporate American history. For sure. I'm really glad you picked this because I didn't know all the ins and outs either. because this is you know when I was a young late 20s early 30 something didn't have a care in the world sure and I finally watched the smartest guys in the room today yeah I saw it last night yeah the documentary based on the book and we'll get to the authors and stuff it was Peter Elkind and who was a co-author Bethany McClain okay she was the lead author even okay I knew she wrote the original artist in Forbes so she co-authored the book and she is in the documentary as is Elkland and it really is worth the watch but just want to point out that this is an overview of the Enron scandal it's pretty clear once you start poking around that this could be like a ten-part series yeah for sure and there probably is a podcast series out there that covered just Enron so there's lots of sort of ends and outs that we won't be able to touch on but we can definitely give her the overview was a corporation, originally it was a natural gas line pipeline operator, but they quickly, well not quickly, they got out of that business almost entirely when certain people were hired and we'll sort of get to all this in a minute too. Certain people are right. When certain people were hired that basically said you know what, we don't, we shouldn't even be in the pipeline industry. We should even be in the pipeline industry. We should invent almost a new kind of industry which is to use energy as financial instruments and we should become a trading company that trades natural gas and eventually paper pulp and electricity and you name it like we'll get into all the things that they sort of pivoted to but Enron started I guess we should start at the beginning when they in 1985 when Houston Gas company merged with a company called Enter North. And they combined to form this large Energy Corporation in Texas, mainly Natural Gas, and the chief executive of HNG at the time was a man named Ken or Kenneth Lay, who you might have heard of. Yeah, and if you haven't prepared to meet Ken Lay several times across this episode, from the outset, I think Houston Natural Gas. and Inner North were both profitable, but I saw that neither one of the companies really benefited from the merger, although it did expand their pipeline network. Really it just protected them from a hostile takeover. But it was just a standard gas company, you know, no big frills or anything like that. I think the first year it posted a 14 million dollar loss. Put that in your hat and smoke it later with a pin. in that the first year and Ron was around in 1985 it posted a $14 million loss just remember that for later okay yeah also something else you should put in your hat for later is the fact that Kenneth Lay the gentleman I mentioned who was CEO of Houston natural gas was also a very very tight with the Bush family originally the elder Bush and later on George W. donor to their causes politically and they ended up having a very sort of you scratch my back, I'll scratch yours kind of relationship. Yeah it's, I mean like I just started twirling around over and over again out of anger like multiple times throughout the documentary because they really go into some good details about that but the upshot of the whole thing is George H. W. Bush. probably have been able to help Enron out as much as they did had it not been for of course Ronald Reagan and the sweeping deregulations that occurred in starting in the 80s. There was just a spirit of deregulation which was this Ronald Reagan said and they quoted in the documentary government's not the solution to our problems. Government is the problem and there was this idea that was really huge in the 80s that if you got government out of the way competition was going to drive innovation, was going to lower prices, was going to benefit society in myriad ways. That is not untrue. The problem is when you deregulate fully and just basically say, we're checked out from now on until something really bad happens, something bad always happens. That's the problem with deregulation in the 80s. Not that there's a problem with deregulation, that it was done incorrectly like it seems to be every single time. I mean Reagan is also in the documentary quoted as talking about the magic of the marketplace and we talked about this over and over on the show and this is not an attack on conservatism but deregulation in the marketplace and letting the free market decide things is one of the core tenets of conservatism generally and what we've always kind of hammered home here after years and you said it in one way but I'll say it in another is it never takes into account humans are the ones that are operating these systems. And when you have money, lots and lots of money, and you have humans operating systems, there are inevitably going to be greedy humans with so much hubris that they sell their souls to make money. And that's what happens every single time, yet it's still, lessons are still not learned that there are certain kinds of humans and they always seem to be, they always seem to be the ones in charge. here of these systems, they will take advantage of them to the detriment of the little guy and the little lady and that is the 100% what happened with Enron. Yeah, and I don't know if it's always like they're not taking into account human greed. I think most of the people who are powerful enough to deregulate federal energy regulations don't really care in a lot of cases. They know that they're going to make a boat load of money by the time the thing really kind of blows up sometimes the thing time down the line. I think it could be either one. But there was a big sea change in 1984, a big change to regulation. The Federal Energy Regulatory Commission said, hey, you can now buy and sell gas, natural gas from any seller anywhere in the United States. You don't have to just buy and sell within your state. And that opened up an entirely new market. And all of a sudden you can make a a lot more money moving this stuff around. But like you said, they figured out at Enron, you could make even more money by selling this stuff as commodities and trading on like futures and turning them into financial instruments. Not actual just natural gas or oil or electricity, but the concepts of them, the right to sell it or buy that sometime down the road, that changed absolutely everything. Yeah, and this is when things, when you get into finance like this. my eyeballs glaze over it just becomes almost and I say almost not real because it is kind of not real it's it becomes a form of gambling right in a way and that's very much what happened in Enron in a lot of ways and you'll you'll kind of see here and there throughout the episode but they as a company after that 84 decision made a very faithful decision of their own in 1989 just a few years later they got a consulting firm on board, McKinsey & Company, and in particular a consultant for that company named Jeffrey Skilling to create what they called a gas bank, which was basically like I said earlier, like hey why don't we just be an intermediary between buying and selling of gas? And it was going so well that two short years later, skilling left there and went to work full time at Enron. Yeah, that's an ongoing theme. Oh sure. And eventually working to the CEO of that company. Yes, so he was he but for the most part he was the right-hand man but essentially co- CEO with Ken Lay who I think took him on as a protege and Jeffrey Skilling was the one who said let's set up this market and he also transformed the company's culture. One of the things he came up with was a rate every employee and the bottom 10% of employees should be fired. So every year he was planning on firing 10% of their workforce. So about 2,000 people every year and the reason he was doing this is because he's saying we can do better, we can hire the best and the brightest, we'll replace those people with much better people and then the ones who are doing really well now will get moved to the back and we'll just constantly be improving on the people that we're hiring. It makes sense in a really of way but it's also psychotic as well. Yeah and the way I understood it from the documentary it wasn't just like regular upper management reviews of the people that report to them but it was all the employees rating one another like within their department isn't that right? Yeah that's what I took it as too. So I mean you don't have to like be a soothsayer to see where that heads when and it certainly creates competition if that's what they're all about with the sort of the charter of the company creating more competition by deregulating. They sort of did the same thing within the ranks and created a very, I mean I've seen it described everywhere as just overly macho and testosterone fueled. It seems like the traders there were hired and kept on that were especially aggressive and there are interviews in the documentary about some of these men who were that were like you would cut the throat of the guy next to you on the trading floor, your fellow employee if you felt like you could make a few extra bucks. Yeah and that was very much encouraged not just by Jeffrey Skilling but Ken Lay had a history of at the very least turning a blind eye if not actively encouraging people to break the law, do immoral stuff that may or may not have been legal. All in the interest of maximizing profit. It's like if you were making money and you got in trouble, you didn't get fired because you made money for the company. That's all that mattered was making money for the company. So in that sense, Jeffrey Skilling was a really great protégé for Ken Lay. But he was like Ken Lay on steroids. And I get the impression, Ken Lay is always, or back in the day, he was a master at presenting this really laid back, almost detached. persona, but if you watch the documentary and you read about him, you really get the impression that he knew exactly what outcome was 10 steps down the road by just nudging this thing over here, nudging that thing over there, all with plausible deniability, but at the same time presiding over this incredibly complex, complicated masterful machination that was all dedicated to the service of making money by whatever means possible. Yeah, and lay, I mean, the reason the documentary is called the smartest guys in the room is because I think unequivocally everyone would admit that Ken Lay and Jeffrey Skilling and we should introduce you to a younger recruit named Andrew Fastow, who was a key player eventually becoming the CFO and was up to all kinds of shenanigans. But these were brilliant guys with amazing ideas and a lot of the ideas that they had for this company were really good. and ahead of their time, but they had the notion that you should be able to trade and make money off of great ideas and not necessarily the results of those great ideas. Because time and time again, as you'll see as we tell this story, these ideas were not making actual money. Maybe because some of them were ahead of their time, but that didn't matter because they had ways, very creative ways to hide those debts and losses and that's... followed Enron is wrapped up in that statement but these are all really really smart guys and They were really really good at making money and maybe we should take a break there It's a nice little set up. All right and we'll come back and talk a little bit more about their lobby to deregulate and then some of the early shenanigans right after this Hey I'm Hoda Kottby, host of the podcast Joy 101 with Hoda Kottby. 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