Financial Analysis: Enron's Internal Control, Ethics, and Policy

This report provides a detailed analysis of the Enron case study, examining the internal control procedures, violations, and unethical behaviors that led to the company's downfall. It discusses the significance of internal controls in ensuring accurate financial reporting and identifies specific control failures within Enron, such as fiduciary failures, high-risk accounting practices, and conflicts of interest. The report assesses the causes of unethical behavior, including the use of special purpose entities to hide liabilities and the manipulation of financial statements. It also proposes solutions for improving internal control processes, such as strengthening the independence of external auditors and implementing stricter policies against fraudulent activities. Finally, the report offers recommendations to the Board of Directors regarding policy improvements, emphasizing the importance of internal audits, external audits, and enhanced ethical oversight to prevent future scandals and maintain stakeholder trust. The report concludes that effective internal controls and ethical conduct are crucial for financial stability and corporate integrity.

Accounting

TABLE OF CONTENTS
INTRODUCTION......................................................................................................................3
Discussing the internal control procedure in the context of Enron case study......................3
Identifying the control that is being violated.........................................................................3
Proposing a solution for internal control process that is violated..........................................5
Assessing and explaining the causes of unethical behavior in relation to the case situation.6
Providing recommendations to the Board of Directors regarding policy improvement........7
CONCLUSION..........................................................................................................................8
REFERENCES...........................................................................................................................9
BIBLIOGRAPHY....................................................................................................................10

INTRODUCTION
In the recent times, every business unit places high level of emphasis on accounting
with the motive to present fair view of financial position and performance. This in turn helps
both managers as well as investors in making suitable decision regarding investment. This
project report is based on the case situation of Enron which was one of the leading energy
providers of US. It attained leading position in the field of electricity, natural gas,
communications, pulp and paper. Company creatively and systematically planned accounting
fraud that is considered as an ‘Enron Scandal’. In this, report will provide deeper insight
about the aspect of internal control violation and unethical behavior performed by Enron.
Further, it will also shed light on the policies that BOD should employ for making
improvement in the position and performance.
Discussing the internal control procedure in the context of Enron case study
Internal control process is highly significant and required for reflecting the accurate
view of financials. For controlling financial loopholes, system of auditing practiced by the
Enron. On the basis of cited case situation, focus of the company in regards to internal control
reduced along with expansion. However, due to some discrepancies or mistakes done by the
management organization faced issues. Case study of Enron clearly presents that
management of the company stopped applying an existing internal control system. Further,
business unit also failed to introduce effectual new control system (Bhasin, 2016). In addition
to this, in some cases firm undertook old system without making evaluation of reliability and
usability. Manager of Enron also relied on new system but avoided the main aspects in
relation to checking their accuracy and timeliness. Through assessment, it has been identified
that Enron assigned or allocated roles and responsibilities without defining reporting lines.
Thus, it can be said that due to some specific issues pertaining to internal control issues such
as accounting scandal faced by Enron.
Identifying the control that is being violated
By doing investigation, it has been identified that there are several reasons due to
which internal control is violated such as:
 Fiduciary failure: Case study of Enron presents that Board of Directors failed to
offer protection to the shareholders. The main reasons behind this, BOD allows Enron
to undertake high risk accounting practices. Along with this, due to the inappropriate

conflict of interest transaction business organization failed to contribute in the
category of seventh largest public company in US.
 High risk accounting: BOD also permitted Enron to undertake riskier accounting
practices. For example: Company’s BOD allowed and encouraged Enron to
manipulate the level of debt through the means of special purpose or business entities.
In order to hide the losses and reflect higher margin firm manipulated the financial
records. Along with this, debt level is also not reflected by the firm in balance sheet
that is considered as higher risky accounting (Enron the use and abuse of special
purpose entities in corporate structures, 2017). Moreover, the main objectives behind
such aspect are to attract more investors and maintaining the faith of existing
stakeholders.
 Inappropriate conflicts of interest: Investigation report shows that Board exercised
inadequate oversight pertaining to LJM transaction and failed to protect Enron
shareholders from unfair dealing. Along with this, irrespective of the aspect of clear
interest of conflicts BOD of Enron was given approval in relation to establishing and
operating LJM private equity funds.
 Excessive compensation: At the time of accounting scandal, high level of
compensation was approved by the executives of Enron (Lin, 2013). During this time,
business unit failed to assess and monitor the cumulative cash drain or halt abuse that
was done by the chairman & CEO.
 Lack of independence: Due to the financial ties take place between the company and
some BOD they failed to give high level of independence to the auditors.
 Extensive undisclosed off: With the aim to present the financial condition better BOD
of Enron allowed in relation to conducting billions of dollars in off-the-books activity.
Thus, to fulfill such objective firm failed to present or disclose adequate liabilities
which in turn contributed in Enron collapse.

(Source: Management controls: the organizational fraud triangle of leadership, culture and
control in Enron, 2017)
Proposing a solution for internal control process that is violated
In the business unit, team of higher management makes more focus on applying the
policies that ensures high level of reliability of accounting system. Moreover, without having
appropriate records manager is not in position to take suitable decision regarding financial
aspects. Hence, as per the assessed violation following recommendations have been made:
 It is suggested to the BOD of Enron to apply the specific solution on which majority
of the members of board give their consensus. Hence, Enron should make focus on
developing the strategies that presents ethical responses and assists it in attaining the
leading position.
 Besides this, Enron should streamline the process of accounting which in turn helps in
avoiding the misleading results. Moreover, company can build and maintain the trust
of shareholders if it will present the fair view of monetary aspects.
 BOD of Enron should take decision in relation to giving compensation and other
financial aspects after making assessment of the current condition or position (Enron
the use and abuse of special purpose entities in corporate structure, 2017). Moreover,
in the case of excessive offering monetary position and performance of firm is
affected negatively.
 Further, it is recommended to Enron to provide external auditors with the high level
of independence. As per US GAAP and standardized accounting rules firm should
give proper independence to the auditors in relation to investigating the accounting

records. By doing this, Enron would become able to detect and rectify the errors that
prevailed in the financial accounts and reports.
 For revitalizing the brand image it is vital for the firm to strengthen the internal
control system. In this regard, business unit needs to make focus on the application or
adoption of IAS and IFRS while determining the amount of assets and liabilities.
Moreover, overestimation of assets and underestimation of liabilities is not good
because it ruins image of firm.
Hence, by undertaking and applying all the above depicted measures Enron can improve
the internal control system in a prominent way. All such identified measures will assist firm
in getting the desired level of outcome or success.
Assessing and explaining the causes of unethical behavior in relation to the case situation
From assessment, it has been identified that Enron used wide range of deceptive
and fraudulent activities with the aim to hide undesired aspects in reporting. In addition to
this, Special Purpose Entities (SPE) was created by the firm to hide liabilities from the
financial statements. This is considered as an unethical behavior because it is the
accountability of the company to present fair view of monetary performance in front of
stakeholders. For instance: As per the case study, real debt and financial position is not
presented by Enron to the shareholders (Enron: Corporate Failure, Market Success, 2017).
This activity of firm is highly unethical because company owe responsibility towards the
shareholders in relation to giving appropriate information about the financial performance.
Company has obligation to present the fair information regarding revenue, profit, expenses,
assets and liabilities.
Usually, investors prefer to invest money in the company that has high assets and
fewer liabilities. Moreover, shareholders feel secure when company maintains higher assets
and fewer liabilities. By keeping such aspect in mind Enron manipulated the amount of
liabilities. Thus, it is one of the main aspects due to which unethical activities performed by
the executives of Enron. Such undesirable activity negatively influenced the brand image
and market share of Enron to a great extent. Along with this, business unit presented high
level of sales revenue and profit margin as compared to the actual one. Hence, misleading
financial statements are presented by the organization which is recognized as unethical
behavior (Enron: Corporate Failure, Market Success, 2017). Enron has highlighted higher
amount of profit with the aim to build and faith among the investors. Besides this, with the

motive to attract large number of investors company performed such kind of unethical
practices.
In addition to this, due to the concerned accounting scandal of Enron several
individuals lost their jobs. Apart from this, some of the personnel lost pension, whereas
money of the shareholders also gone away. This aspect shows that activities of CEO are
highly unethical and they had not given any justification for the same. Along with this,
members of the board also ignored feedbacks that provided by the whistleblowers. It exhibits
that Board team became morally blind and failed to comply with the obligation pertaining to
ethical awareness as well as strategic responsiveness. By taking into account all such aspects
it can be presented that Enron accounting scandal includes several unethical practices.
Providing recommendations to the Board of Directors regarding policy improvement
From assessment, it has been found that business unit performed unethical practices
regarding accounting and other financial aspects. According to the case scenario, Enron
presented higher profit margin while firm is actually losing money. Such activity negatively
influenced the brand image of Enron as well as stock price. In order to improve the current
position and performance of firm it is highly required for the Board of Directors to undertake
strategic actions such as:
 For avoiding the level of fraudulent activities Board of Directors should lay emphasis
on conducting internal audit on a periodical basis such as quarterly. By doing this,
higher management team of Enron can easily find the fraud related activities that
takes place within the organization. Thus, by taking corrective measure or action
within the suitable time frame business unit would become able to restrict such kind
of activities.
 Along with this, by conducting external audit Enron can avoid the level of biasness to
a great extent. Moreover, auditors present their views after evaluating each and every
figure in against to the vouchers. In the case of external audit, auditors present
financial statements after doing in-depth investigation of each element included in the
record (Financial Fraud - Importance of an Internal Control System, 2017). Thus, by
presenting the audited statements Enron would become able to develop faith among
the stakeholders such as investors, suppliers, other institutions etc. The rationale
behind this, stakeholders have high level of trust on the audited statements rather than
others.

 It is also recommended to the Board of Directors to frame and introduce highly strict
policies in against to the person who perform fraudulent activities. Moreover, punitive
activities create fear factor among the personnel. Thus, by indulging such policies
within the firm fraudulent activities can be restricted to the significant level.
 Further, it is advised to the BOD of Enron to enhance judgment integrity and
capability in relation to analyzing moral results. Management also needs to make
focus on strengthening the feedback system. By doing this, firm can undertake timely
action in against to unethical practices and thereby would become able to build
distinct image in the mind of stakeholders.
CONCLUSION
From the above report, it has been concluded that due to the less effectual internal
control system accounting scandal faced by Enron. Besides this, it can be inferred that higher
management team of the firm should make focus on investigate the causes of fraud. By doing
this, Enron can undertake suitable action for improvement. It can be seen in the report that
unethical practices performed by the business organization include representation of high
margin and hiding bank loan. Along with this, it has been articulated that BOD of Enron
should focus on the system of internal and external auditing. Hence, by adopting such
measures business unit can detect fraud and would become able to present financial
statements in a fair manner.

REFERENCES
Books and Journals
Bhasin, M. L., 2016. Debacle of Satyam Computers Limited: A Case Study of
Enron. Wulfenia Journal KLAGENFURT. 23(3). pp.124-162.
Lin, S.K., 2013. Resisting Corporate Corruption: Cases in Practical Ethics From Enron
Through The Financial Crisis, By Stephen V. Arbogast, Wiley-Scrivener, 2013; 552
Pages. Price US $75.00, ISBN 978-1-118-20855-7. Administrative Sciences. 3(2). pp.6-8.
Online
Enron the use and abuse of special purpose entities in corporate structures. 2017. [Online].
Available through: < http://scholarship.law.duke.edu/cgi/viewcontent.cgi?
article=2308&context=faculty_scholarship >. [Accessed on 27th August 2017].
Enron: Corporate Failure, Market Success. 2017. [pdf]. Available through:
<http://www.isda.org/whatsnew/pdf/EnronFinal4121.pdf>. [Accessed on 27th August
2017].
Financial Fraud - Importance of an Internal Control System. 2017. [Online]. Available
through: <
http://www.theseus.fi/bitstream/handle/10024/49666/Saarni_Jenna.pdf;jsessionid=722453
8C559D1305C087A50FCA532F48?sequence=1>. [Accessed on 27th August 2017].
Management controls: the organizational fraud triangle of leadership, culture and control in
Enron. 2017. [Online]. Available through:
<https://iveybusinessjournal.com/publication/management-controls-the-organizational-
fraud-triangle-of-leadership-culture-and-control-in-enron/>. [Accessed on 27th August
2017].

BIBLIOGRAPHY
https://iveybusinessjournal.com/publication/management-controls-the-organizational-fraud-
triangle-of-leadership-culture-and-control-in-enron/
http://www.isda.org/whatsnew/pdf/EnronFinal4121.pdf
http://scholarship.law.duke.edu/cgi/viewcontent.cgi?
article=2308&context=faculty_scholarship
http://www.theseus.fi/bitstream/handle/10024/49666/
Saarni_Jenna.pdf;jsessionid=7224538C559D1305C087A50FCA532F48?sequence=1