U.S. Lawmakers Push for More Oversight
By Michael Schroeder
Staff Reporter
01/28/2002
C1
(Copyright (c) 2002, Dow Jones & Company, Inc.)
WASHINGTON -- As the significant role that derivatives played in Enron Corp.'s downfall comes into focus, lawmakers and regulators are lining up in favor of more oversight of these risky investments.
While the Houston-based company's core energy operations involved natural-gas and electricity transmission, its largest and most-profitable business was trading derivatives -- unregulated financial instruments that derive their value from an underlying commodity or wager on the future. Now, information is surfacing that Enron's derivatives trading may have been used to mask weakness in the company's other businesses such as fiber-optic bandwidth, retail gas and power, and water systems.
"Enron was more of a hedge fund than an energy company," said Rep. Richard Baker (R., La.), chairman of a Financial Services Committee panel that is looking into the derivatives issue, in an interview.
After listening to testimony at his committee's Enron hearing last week, Senate Governmental Affairs Chairman Joseph Lieberman said he would hold a hearing specifically on the need for derivatives regulation. The Connecticut Democrat was responding in part to the testimony of San Diego University law professor Frank Partnoy, who outlined a series of methods that he said Enron used "to create false profit and loss entries for the derivatives Enron traded."
To ensure that Enron met Wall Street quarterly earnings estimates, it used derivatives and off-balance-sheet partnerships, or so-called special-purpose vehicles, to hide losses on technology stocks and debts incurred to finance unprofitable businesses, Mr. Partnoy said. In addition, he said, "it appears that some Enron employees used dummy accounts and rigged valuation methodologies." The entries, he said, "were systematic and occurred over several years, beginning as early as 1997."
Based on independent research and conversations with Enron traders, Mr. Partnoy said he learned that some traders apparently hid losses and understated profits, which had the effect of making derivatives trading appear less volatile than it was. Randall Dodd, director of the Derivatives Study Center, an independent, nonpartisan Washington group, said in an interview that he has reached similar conclusions. Mr. Dodd is advising three government agencies and three congressional committees investigating Enron.
Declining to address specific allegations, Enron spokesman Vance Meyer said in a statement, "Derivatives were not our business. They complemented our core business of buying and selling natural gas and power." Mr. Meyer also said: "I think it's safe to say that we are not going to agree with every view about Enron presented in the congressional hearings, but we do respect the process and hope, when all is said and done, that something positive will come out of it."
In 1989, the energy company, originally a utility that produced and transported natural gas and electricity, had begun shifting its focus to energy trading. The derivatives included not only Enron's very profitable trading operations in natural-gas derivatives, but also the more-esoteric financial instruments it began trading recently -- such as fiber-optic bandwidth and weather derivatives.
During 2000 alone, Enron's derivatives-related assets increased from $2.2 billion to $12 billion, with most of the growth coming from increased trading through its EnronOnline, an Internet trading system, according to Enron's financial reports. Mr. Dodd figures that if Enron were a bank, it would rank as the 10th largest derivatives dealer.
Innovations in technology and finance have helped obliterate clear distinctions between banks, brokerage firms and newer hybrids, such as Enron. But financial regulators hew to decades-old divisions of authority, continuing to keep a close watch on banks, brokerage firms and conventional exchanges, while leaving new entrants such as Enron to police themselves.
In late 2000, Congress passed legislation that exempted from regulation over-the-counter derivatives, which are contracts arranged among sophisticated buyers and sellers such as banks, Wall Street firms and public companies. The measure had support from both parties, as well as the Federal Reserve and the Clinton administration.
Advocates of derivatives say the instruments give companies, investors and lenders a way to reduce their exposure to many kinds of financial risks. Most regulators and financial-industry executives insist that the country's financial system remains sound.
But the Enron scandal spotlights an enormous void in the nation's system of financial regulation, and it is rekindling a thorny debate over just how that gap should be filled.
As a publicly traded company, Enron routinely provided the SEC with general information about its finances but wasn't obliged to divulge to any agency detailed information about its over-the-counter trading activities.
In the wake of Enron's bankruptcy, federal energy regulators say they plan rules for energy-derivatives accounting. Treasury Secretary Paul O'Neill said derivatives regulations may need modernizing.
"In this case, I think it's fair to say it may be that our rules and regulations have gotten behind practices," Mr. O'Neill said in a recent interview on the "Charlie Rose Show."
By Michael Schroeder
Staff Reporter
01/29/2002
(Copyright (c) 2002, Dow Jones & Company, Inc.)
WASHINGTON -- As the significant role that derivatives played in Enron Corp.'s downfall comes into focus U.S. lawmakers and regulators are lining up in favor of more oversight of these risky investments.
While the Houston-based company's core energy operations involved natural-gas and electricity transmission, its largest and most-profitable business was trading derivatives -- unregulated financial instruments that derive their value from an underlying commodity or wager on the future. Now, information is surfacing that Enron's derivatives trading may have been used to mask weakness in the company's other businesses such as fiber-optic bandwidth, retail gas and power, and water systems.
"Enron was more of a hedge fund than an energy company," said Rep. Richard Baker, a Louisiana Republican and chairman of a Financial Services Committee panel that is looking into the derivatives issue, in an interview.
After listening to testimony at his committee's Enron hearing last week, Senate Governmental Affairs Chairman Joseph Lieberman said he would hold a hearing specifically on the need for derivatives regulation. The Connecticut Democrat was responding in part to the testimony of San Diego University law professor Frank Partnoy, who outlined a series of methods that he said Enron used "to create false profit and loss entries for the derivatives Enron traded."
To ensure that Enron met Wall Street quarterly earnings estimates, it used derivatives and off-balance-sheet partnerships, or so-called special-purpose vehicles, to hide losses on technology stocks and debts incurred to finance unprofitable businesses, Mr. Partnoy said. In addition, he said, "it appears that some Enron employees used dummy accounts and rigged valuation methodologies." The entries, he said, "were systematic and occurred over several years, beginning as early as 1997."
Based on independent research and conversations with Enron traders, Mr. Partnoy said he learned that some traders apparently hid losses and understated profits, which had the effect of making derivatives trading appear less volatile than it was. Randall Dodd, director of the Derivatives Study Center, an independent, nonpartisan Washington group, said in an interview that he has reached similar conclusions. Mr. Dodd is advising three government agencies and three congressional committees investigating Enron.
Declining to address specific allegations, Enron spokesman Vance Meyer said in a statement, "Derivatives were not our business. They complemented our core business of buying and selling natural gas and power." Mr. Meyer also said: "I think it's safe to say that we are not going to agree with every view about Enron presented in the congressional hearings, but we do respect the process and hope, when all is said and done, that something positive will come out of it."
In 1989, the energy company, originally a utility that produced and transported natural gas and electricity, had begun shifting its focus to energy trading. The derivatives included not only Enron's very profitable trading operations in natural-gas derivatives, but also the more-esoteric financial instruments it began trading recently -- such as fiber-optic bandwidth and weather derivatives.
During 2000 alone, Enron's derivatives-related assets increased from $2.2 billion to $12 billion, with most of the growth coming from increased trading through its EnronOnline, an Internet trading system, according to Enron's financial reports. Mr. Dodd figures that if Enron were a bank, it would rank as the 10th largest derivatives dealer.
Innovations in technology and finance have helped obliterate clear distinctions between banks, brokerage firms and newer hybrids, such as Enron. But financial regulators hew to decades-old divisions of authority, continuing to keep a close watch on banks, brokerage firms and conventional exchanges, while leaving new entrants such as Enron to police themselves.
In late 2000, Congress passed legislation that exempted from regulation over-the-counter derivatives, which are contracts arranged among sophisticated buyers and sellers such as banks, Wall Street firms and public companies. The measure had support from both parties, as well as the Federal Reserve and the administration of President Bill Clinton.
Advocates of derivatives say the instruments give companies, investors and lenders a way to reduce their exposure to many kinds of financial risks. Most regulators and financial-industry executives insist that the country's financial system remains sound.
But the Enron scandal spotlights an enormous void in the nation's system of financial regulation, and it is rekindling a thorny debate over just how that gap should be filled.
THE
NATION THE FALL OF ENRON
Enron's
Web of Complex Hedges, Bets Finances:
Massive trading of derivatives may have clouded the firm's books, experts say.
MICHAEL A. HILTZIK
TIMES STAFF WRITER
01/31/2002
Home Edition
A-1
Copyright 2002 / The Times Mirror Company
As accountants and investigators begin poring over Enron Corp.'s books, they are likely to collide head-on with a factor that makes its finances particularly impenetrable--the extent to which the company relied on financial instruments known as commodity derivatives to inflate income, hide losses and misrepresent the true nature of its business.
Although to this day Enron is generally known as an energy trading company, a close review of financial records and interviews with accounting experts show that at its heart it had become a massive trading operation in derivatives, which are financial contracts that can entail significant risks.
Missteps in such trading have cost highly sophisticated investors billions in past years. Among other cases, derivatives trading was behind Orange County's bankruptcy filing in 1994 and the failure of Barings Bank in 1995.
Derivatives, which come in many forms, allow investors to bet with other investors on changes in an underlying asset or index, such as stocks, interest rates, weather or electricity prices. Properly used, derivatives are effective at hedging against an almost infinite variety of business risks ranging from crop failures to changes in interest rates and oil prices. But they can sharply exaggerate market gains or losses.
There are signs that, in the company's hands, derivatives evolved into more than risk-hedging devices. They became tools of fiscal concealment and manipulation, some experts say.
Among other things, derivatives allowed Enron to inflate the value of its assets and transactions while understating their risks and obscuring their real nature, they say.
"Enron used derivatives to manipulate accounting standards and tax reporting," said Randall Dodd, head of the Derivatives Study Group, an economics watchdog. "They used them to fabricate income. It was a bit of a shell game."
Enron spokesman Mark Palmer on Wednesday declined to discuss the company's accounting. He said the issue "is being investigated by a special committee of our board, the Securities and Exchange Commission and the Department of Justice. They may reveal facts that may lead us to take further action."
It is still unclear to investors and government investigators how big a role losses on these contracts played in Enron's collapse. Nor is the full extent of the damage yet known. Some analysts believe the company still may be losing money on some contracts.
Much Derivatives Trading Unregulated
Enron could engage in its complex trading strategy without fear of regulatory intervention because the government explicitly exempted much derivatives trading from oversight. That's at least in small part because of a ruling by the Commodity Futures Trading Commission's former chairwoman, Wendy L. Gramm, just five weeks before she joined the Enron board in 1993. Gramm is the wife of Sen. Phil Gramm (R-Texas).
The trading market for the contracts has blossomed in the last decade, with nearly $100 trillion traded worldwide as of last June, according to the Bank for International Settlements.
Most of these were so-called over-the-counter or OTC derivatives--those not traded on a registered futures or options exchange, but rather contracts between big investors.
Enron did not entirely conceal that aspect of its business. As early as October 1999, its then-chief financial officer, Andrew S. Fastow, told CFO Magazine that the company's finance business would "buy and sell risk positions."
"Enron may have been just an energy company when it was created in 1985," said Frank Partnoy, a law professor at the University of San Diego who testified before the Senate last week. "But by the end it had become a full-blown OTC derivatives trading firm."
The world of derivatives was almost tailor-made for the aggressively secretive Enron. Accountants still have not settled on a consistent way to represent their value and risk on a company's books. The relevant standard set by the Financial Accounting Standards Board, an independent agency that sets guidelines for corporate auditors, is Rule 133--a behemoth that stands at more than 800 pages.
Enron's derivatives-related assets soared to $21 billion in 2000 from $3.1 billion the year before, according to the company's 2000 annual report. This enormous growth, apparently related to its Internet trading system, Enron Online, made it the fifth-largest commodity derivatives dealer in the U.S., according to figures compiled by Swaps Monitor, a market research firm.
Nevertheless, the company also reported last year that its net financial exposure to derivatives was only $66 million. Although that figure tripled from the year before, analysts contend that it is absurdly low, considering that a large portion of the contracts covered long-term energy deals subject to dramatic price fluctuations.
"Clearly these values are no longer credible," said Robert McCullough, a Portland, Ore., energy consultant.
Enron's accounting treatment of these highly complex transactions, including stock options and loan guarantees, raises the possibility that millions more in liabilities lie concealed in transactions yet to be unwound.
In one deal alone, a financing arrangement with a partnership called Whitewing, formed to hold a melange of Enron assets including a Brazilian utility and European power plants, Enron's exposure to losses may be as much as $2.1 billion rather than the $600 million the company has disclosed.
"These are transactions evolving daily, but disclosed only periodically," said McCullough, who analyzed the deal. "This is a bucking bronco by any investment standard."
Moreover, because trades in OTC contracts are entirely unregulated, "OTC derivatives dealers don't have to register, report, maintain a capital base," Dodd said. "You could set up a lemonade stand and run a $250-billion derivatives book."
Former regulator Gramm's ruling covered only a small category of swaps negotiated between two parties. But it helped open the floodgates to a huge variety of derivatives contracts, which were labeled "swaps" to fit within the ruling.
Still, it was unclear whether all OTC derivatives could remain unregulated indefinitely.
Banks, hedge funds and traders, including Enron and its fellow energy trading companies, strove desperately to keep government hands off. They argued that the participants in the market were mostly huge institutions savvy enough to protect themselves from fraud without government help.
When the Commodity Futures Trading Commission proposed in 1998 regulating the OTC market, "the large derivative interests, including Enron, went up in arms," recalled I. Michael Greenberger, then the commission's director of trading and markets and now a law professor at the University of Maryland.
The traders won the battle in December 2000, when Congress passed a law rendering OTC derivatives permanently exempt from regulation.
Around that time, Enron's participation in the market mushroomed.
Enron's ability to keep losses off its books through complex swaps and option contracts is demonstrated in its deal with Raptor, one of the investment partnerships about which Enron Vice President Sherron S. Watkins raised questions in a now-famous anonymous letter in August to Chairman Kenneth L. Lay.
Enron had transferred to Raptor ownership of $1.2 billion in shares in Rhythms NetConnections, a high-tech company whose stock had rocketed in value after Enron invested in it. Enron recorded the transfer as a financial gain, but did not clearly disclose that it also entered a derivatives contract that required it to cover Raptor's losses if Rhythms declined in value, as it eventually did.
Inside the web of this transaction, hundreds of millions of dollars in losses in Rhythms fell through the cracks, unrecorded on Enron's books. The complexity confounded Watkins.
"I can't find an equity or debt holder that bears that loss," Watkins told Lay. Nevertheless, she suspected the truth--that the losses belonged on Enron's books. "If it's Enron," she wrote, "then I think we do not have a fact pattern that would look good to the SEC or investors."
In at least one case, Enron apparently used derivatives to help inflate the value of an asset as it was transferred off its books. This may have allowed the company to revalue similar assets that remained in its hands, using the inflated value as a benchmark.
The asset in question was "dark" fiber-optic cable that Enron transferred in June 2000 to LJM2, a partnership managed by Fastow, then its own CFO. At the time the real value of dark fiber--installed data lines not yet equipped to carry traffic--was conjectural. About 40 million miles of fiber optics had been installed in the U.S., but within a year a glut would bankrupt several communications companies.
LJM paid $100 million in cash and credit to Enron, which promptly claimed a $67-million profit on the deal, suggesting that the real value of the fiber was $33 million.
LJM subsequently transferred most of the fiber to yet another Enron-associated partnership, this time for $113 million. This step implicitly revalued the fiber at more than triple its original value.
Supporting the second sale, however, was a derivative issued by Enron, in effect covering any loss the buyers might incur if the fiber's value collapsed, as it did during 2001.
Eventually Enron would have to declare the loss on its own books. But Watkins' letter suggests that this would not happen until the partnerships were closed out in 2002 and 2003--years after Enron reported a profit from the original sale.
'Not the Only One of Its Kind'
Analysts suspect deals like this were more common than Enron has disclosed.
"It seems likely that the 'dark fiber' deal was not the only one of its kind," Partnoy said last week in testimony before Congress.
He and others also believe that Enron traders may have manipulated their profit and loss figures by improperly valuing derivative contracts in illiquid markets--that is, those in which there is so little activity that a small transaction can move prices sharply. These include contracts to deliver energy at some point far in the future; indeed, the company disclosed that at year-end 2000, it held about $13 billion in energy contracts denominated in terms of up to 24 years.
Palmer, the Enron spokesman, rejected any suggestion that the company's traders manipulated energy prices. "This is stuff that's in the past and been investigated by half the Western world," he said, referring to probes of West Coast electricity price spikes during the power crisis last year. "We need to look ahead, not engage in this sort of proctology."
Accountants are well aware that such derivatives are prone to "mismarking."
"We recognize that some fair values are more difficult to set than others," said Timothy S. Lucas, director of research and technical activities for the Financial Accounting Standards Board. "In some cases, we may not have a really good idea of fair value."
To some professionals this is only a further sign that Congress erred in removing OTC derivatives from regulatory oversight.
"OTC derivatives are as powerful as futures and securities," Greenberger said. "If there's anything we're learning, it's that the big boys maybe can't take care of themselves."
Enron's
Fall Prompts Scrutiny of OTC Trade.
01/24/2002
(c) 2002 Energy Intelligence Group. All rights reserved.
Congress is set to kick off today several high-profile hearings on Enron's sudden downfall that will likely bring politics and theater into full play (see table,p2).
Lost amid all the scandal is the possibility that stricter rules may be imposed on energy trading, with far-reaching consequences for the industry.
The 10 congressional hearings announced so far, with two scheduled today, will not want for high drama. Democrats are expected to make political hay out of ties between President Bush and White House officials to Texas-based Enron. Adding to the drama are reports of document destruction by both Enron and its former auditor Andersen.
But beyond this, Congress is also starting to examine whether changes are necessary in the operation of private energy trading markets.
The committees likely to take a lead role on that issue will be the House Energy and Commerce Committee and the Senate Energy and Natural Resources Committee.
Rep. W.J. "Billy" Tauzin (R-La.) is keenly interested in studying the working of "energy trading structures" and legislation cannot be ruled out if he thinks there is room for improvement, said a House aide. The House committee will hold a hearing today on the shredding of Enron documents by Andersen and will follow up with a hearing next week on a range of issues the committee is probing.
The Senate Energy Committee will at a Jan. 29 hearing focus on the impact of Enron's collapse on the energy market. Officials from the Commodity Futures Trading Commission and New York Mercantile Exchange (Nymex) have been invited to testify.
Little is known of the committee's legislative intentions, but Chairman Jeff Bingaman (D-N.M.) has some concerns over existing rules for energy markets. "The structures to regulate these emerging market forces, particularly with respect to trading in natural gas and electricity, are not fully developed, as the collapse of Enron has shown," Bingaman wrote in an opinion piece.
In addition to current efforts to bring greater transparency to energy markets, Enron's collapse has turned interest once again to the regulation of over-the-counter (OTC), or derivatives, markets.
Nymex was clearly unhappy with the Commodity Futures Modernization Act, particularly a provision that exempted derivatives exchanges from regulation. "There are several congressional offices that are developing a responsible legislative response to Enron's failure. It is designed to introduce capital standards and reporting requirements to these unregulated and non-transparent OTC derivatives markets," said Randall Dodd, director of the Derivatives Study Center, a non-profit research organization.
Stacey Carey, policy director of the International Swaps and Derivatives Association, challenged the need for reform, saying that trade in derivatives is not what caused Enron's financial collapse. "We don't think regulation is warranted. It could have negative effects on the global derivatives market," she said.
But Dodd argues that, "OTC derivatives were used extensively by Enron to construct these deceitful partnerships that hid debts and fabricated incomes."
Congress is also likely to consider tightening standards for the accounting industry. In particular, members are concerned over accounting firms performing the dual role of auditor and consultant to a client, as Andersen did in the case of Enron.
There is some embarrassment in Congress that lawmakers thwarted former Securities and Exchange Commission Chairman Arthur Levitt from making changes to this effect. Levitt will be the star witness at the Senate Government Affairs Committee hearing today. Tougher laws for employer-sponsored pension plans in order to protect employees are also being mulled.
As for Enron, it is will face scrutiny for securities fraud and alleged tax evasion. The Senate Finance Committee is looking into those aspects. Enron Chairman Ken Lay is expected to testify in the Senate Commerce Committee on Feb. 4.
Manimoli Dinesh.
CRAIG GILBERT
Journal Sentinel staff
01/27/2002
Final
06A
Enron debacle intensifies campaign finance debate
Lawmakers question whether firm benefited from contributions
Sunday, January 27, 2002
Washington -- Amid the outcry over Enron, supporters of campaign reform have made at least two arguments about the role political donations played in the saga.
One is that Enron executives got favors for their millions in campaign gifts.
Another is that Enron's lavish giving made it impossible for the government to intervene in the firm's demise -- and help victimized workers -- without looking corrupt.
Can both things be true?
That big money buys favors? That it also does the opposite -- creates such a taint that politicians are paralyzed to act?
"There's truth in both statements," House Democratic leader Dick Gephardt insisted Friday, although he owned up to the contradiction.
That's just one wrinkle in an unfolding debate over the political lessons of the Enron debacle.
The story has been a public relations boon to the campaign reform movement. Supporters of a high-profile bill to rein in big donations won enough support Friday in the House to force Republican leaders to schedule a vote on the measure. A similar bill, co-written by Wisconsin's Russ Feingold, passed the Senate last year, then died in the House.
But just as there's deep disagreement over that bill, there's sharp debate over the meaning of Enron.
The bill's opponents say the firm's rise and fall offers no particular rationale for sweeping new campaign laws, including a ban on unlimited "soft money" gifts to parties. Enron gave more than $3 million in soft money to the two parties over the past 10 years and more than $2 million to federal candidates, according to the Center for Responsive Politics.
"What did all of Enron's contributions get them? They're broke. There are going to be some people going to jail," said F. James Sensenbrenner Jr. (R-Menomonee Falls), chairman of the House Judiciary Committee.
While the Bush campaign got lots of Enron cash, the argument goes, the administration spurned Enron's desperate pleas for help; the system worked.
Rep. Mark Green said: "There are lots of good reasons for campaign finance reform. But Enron probably isn't one of them."
Green (R-Green Bay) notes that the company gave money to many powerful people in both parties, "yet when Enron probably wanted their help the most, their favors the most, their 'friends' weren't there."
He said the Enron saga argues more for lobbying reform and "reform of our corporate reporting system."
That's one view.
The bill's backers have another: that Enron is vivid proof of the problems they're trying to fix.
Here is a closer look at some of their arguments, and whether the high-profile reform plan before Congress addresses the issues raised by the Enron scandal.
Free rein?
Argument No. 1: As Enron grew into an energy giant, it did get something for its money -- relief from oversight and accountability, thanks to Congress and regulators.
Reform groups point to a series of decisions helpful to the firm by such agencies as the Securities and Exchange Commission and Federal Energy Regulatory Commission. In some cases, federal lawmakers lobbied regulators on Enron's behalf.
"That's how Enron got to these regulatory agencies, by establishing very close relations with members of Congress," said Tyson Slocum of Public Citizen, an advocacy group that supports campaign finance reform.
One example that has captured attention is a complex bill enacted at the end of the Clinton presidency, the Commodity Futures Modernization Act. The measure liberalized rules for the burgeoning market in financial instruments known as over-the-counter derivatives. One provision exempted trading in energy futures from the oversight of the Commodity Futures Trading Commission.
The change allowed Enron to trade privately instead of on regulated public exchanges.
"It was huge. This gave them not only a green light, but much wider running room to operate," said economist Randall Dodd of the Derivatives Study Center, a non-profit group that takes a critical view of the financial markets.
Spotlight on Gramm
The energy exemption has drawn even more interest because of the role of Sen. Phil Gramm (R-Texas). Gramm got nearly $100,000 in Enron contributions over the past 10 years, according to the Center for Responsive Politics.
Gramm had a prime role in the bill but says he wasn't involved in the provision that benefited Enron. But Gramm's wife, Wendy, helped craft the original energy exemption when she was chairwoman of the Commodity Futures Trading Commission in the early 1990s, then joined Enron's board weeks after leaving the agency.
Argument No. 2: When Enron began to unravel, its history of campaign giving was so conspicuous that government officials were reluctant to intervene, even properly, in the company's collapse.
But in a breakfast meeting with reporters Friday, Gephardt questioned whether the administration could have acted earlier "when they found out this thing was imploding, to safeguard the pensions of the people that were there."
Gephardt suggested that big donations might make an administration less willing to act on a problem "because they're worried about the appearance of impropriety."
Gephardt called that "the question we ought to look at going forward."
Another reform supporter, Sen. Fred Thompson (R-Tennessee), went even further with this line of thinking last week.
"I don't know when corporate executives are going to realize that far from buying anything with these large amounts of money, they're taking themselves out of play. They can't get legitimate redress of their concerns," Thompson said.
Perception clouded
Argument No. 3: That whether Enron's contributions influenced the behavior of government officials, they create a terrible perception.
This is the most popular argument among reformers -- and requires no evidence of a quid pro quo.
"I don't know what Enron got or didn't get," Gephardt said.
But with all the money the firm gave, he said, "people are going to suspect, whether it actually turns out to have happened or not, that they got something they shouldn't have gotten."
Feingold also makes this case.
"Perhaps there isn't a quid pro quo," he said in a recent interview. "The issue here has always not just been the reality of impropriety but the appearance of impropriety, and that is just overwhelming."
Would Feingold's bill, in theory, address the issues that reformers say are raised by Enron?
Yes and no.
The Enron scandal has prompted numerous lawmakers who received contributions from the company to publicly renounce the gifts, even modest donations made years ago. Green, who is one of almost 200 current House members to get contributions from Enron ($1,500 between 1997 and 2000), said Friday that he was sending it back, in a check directed to a fund for Enron workers. He sees nothing wrong "in any way" with the money he got but said "I suspect those employees need it more than I do."
But Green also points out that such gifts still would be legal under Feingold's bill and its companion in the House. In fact, the bill allows for bigger contributions to federal candidates than under current law.
On the other hand, the measure would outlaw the unlimited "soft money" donations that can now be made to parties.
Enron gave roughly $3.5 million to the parties since 1990, more to Republicans than Democrats, according to the Center for Responsive Politics. Reformers argue that those gifts are more troubling, both because they're unregulated and because no individual office-holders have to answer to voters for the money. It all goes to the party.
"There is no accountability in soft money," Rep. Zack Wamp (R- Tennessee) said last week. "None."
Building the House of Enron: As Enron's Derivatives Trading Comes Into Focus, Gap in Oversight Is Spotlighted
01/28/2002
(c) 2002 Energy Intelligence Group. All rights reserved.
Stating that the Enron scandal has "exposed gaping holes" in federal oversight of markets, Rep. Peter DeFazio (D-Ore.) on Friday announced plans to craft legislation that would set new rules for over-the-counter (OTC) trade, including energy derivatives.
DeFazio joined Reps. Dennis Kucinich (D-Ohio) and Bernie Sanders (I-Vt.) in a three-pronged effort. Kucinich and Sanders will offer separate pieces of legislation to reform corporate auditing and protect worker pensions. The three members will work in tandem to promote the passage of these measures, aides said.
"The collapse of Enron and Long-Term Capital, both of which were heavily involved in derivatives, highlight the need to strengthen federal oversight of financial markets to protect the integrity of these markets and to protect consumers from spectacular failure that could spread to the entire financial system," DeFazio said.
There has been renewed focus in Congress on unregulated derivatives markets, amid suggestions that Enron used derivatives to manipulate its financial statements. Enron was a leader in US energy derivatives trade.
For now, most traders and executives at trading exchanges are keeping quiet on the issue of reforms. "This is not an environment where people want to shout 'no regulation,'" said one executive.
But some industry groups are speaking out. "When people sort through the issue, I think that most will conclude that additional trading regulations are not necessary," said Stacy Carey, policy director of the International Swaps and Derivatives Association.
With Enron's troubles, "the lights didn't go out," she said, arguing that this demonstrates that the current energy trading environment works.
Regulation of derivatives was a hot topic when the Commodity Futures Modernization Act (CFMA) was debated in 2000.
In response to concerns after the collapse of the Long-Term Capital Management hedge fund and Russia's economic crisis in the late 1990s, the CFMA gave derivatives legal certainty and ensured that the terms of contracts were enforceable. This headed off the threat that a party with heavy, negative exposure might argue that OTC contracts were really unauthorized futures deals, and renege on the arrangement.
But at the same time, the CFMA ruled that only energy futures exchanges would be subject to regulation. A special clause essentially freed energy and metals derivatives trade from regulation, limiting oversight to requirements on preventing fraud and manipulation. The main beneficiaries of this ruling were two electronic platforms, EnronOnline and the Big Oil-backed IntercontinentalExchange.
CFMA enjoyed strong support, but a sizable number of members were concerned about the exemption of derivatives from federal oversight. Rep. Carolyn Maloney (D-N.Y.), a critic of the oil industry, had warned that trades would not leave the audit trail available to reconstruct fraud.
At that time, the regulated New York Mercantile Exchange also protested strongly that it was put at a disadvantage by the lack of derivatives regulation. It expressed concern that the CFMA would encourage migration of energy trading to unregulated markets.
Congress, in a hurry to wrap an already prolonged session, passed CFMA in December 2000 as part of an appropriations bill.
DeFazio's proposed legislation would establish "safety and soundness" rules for derivatives and make the markets transparent. In order to prevent regulatory loopholes, the legislation would merge the Commodity Futures Trading Commission (CFTC) and the Securities and Exchange Commission (SEC) into a single independent regulatory body - the Securities and Derivatives Oversight Commission (SDOC).
In addition to the current functions of CFTC and SEC, the new regulatory body would regulate OTC derivatives. Derivatives dealers would have to register with the SDOC and report to federal regulators on their market activities. Further, they would also have to maintain adequate capital as a financial institution, and collateral on their transactions.
A DeFazio aide was confident that the proposed legislation would garner interest and support, saying "it is a changed atmosphere now," after the Enron debacle.
Randall Dodd, director of the non-profit Derivatives Study Center, supports such regulation.
He argued that Enron's derivatives dealing business was not separately capitalized, and that this contributed to the firm's decline.
Manimoli Dinesh, Jeff Gosmano.
Enron's Aggressive Lobbying in Washington Sometimes Backfired
January 28, 2002
2002-01-28 15:03 (New York)
Enron's Aggressive Lobbying in Washington Sometimes Backfired
Washington, Jan. 28 (Bloomberg) -- Representative Joe Barton threw Enron Corp.'s then-Chief Executive Officer Jeffrey Skilling out of his office in 1999 for pushing too hard for legislation to force states to open their electricity markets to competition.
``He was very intense and very assertive that the company's position was the only one that was acceptable in a philosophical or moral sense,'' said the Texas Republican, the bill's sponsor and chairman of a House energy subcommittee. ``I encouraged him to leave sooner rather than later.''
So it often went for Enron's lobbying efforts in Washington, where the company pushed bills in Congress, sought regulatory changes and protected an expanding array of interests over the last decade, from pipeline safety to broadband communications.
Deploying people from both parties to blanket the White House, Capitol Hill and a handful of federal agencies, the company won some and lost some -- and often alienated Washington officials with an uncompromising and headstrong approach, according to lawmakers, competitors and lobbyists.
``They had this attitude that `We're Enron, dammit,''' said Jeff MacKinnon, a lobbyist with a firm representing Edison Electric Institute, a trade group that often opposed Enron. ``It was part of their corporate arrogance. It was well known that they didn't work well with others.''
Enron successfully got Vice President Dick Cheney and other top administration officials to lobby for its interests in India. It got its trading business exempted from the Commodity Futures Modernization Act of 2000. Yet when it came to its lodestar issue -- federal deregulation of energy markets -- Enron came up empty. And when the company went bankrupt in December, it received subpoenas rather than help from the nation's capital.
Washington Money
Enron spent $2.1 million on lobbying in 2000. That's almost double its 1997 bill, bringing it to the level of other companies its size such as United Parcel Service Inc.
The lobbying as bolstered by more than $2.4 million in campaign contributions in the last election -- part of almost $6 million since 1989, according to the Center for Responsive Politics, which tracks campaign finance. The company gave to 43 percent of the House, 71 percent of the Senate and was the 12th-largest contributor to President George W. Bush's presidential race.
Enron's Washington office had about two dozen lobbyists, regulatory lawyers and staff, and used several outside firms that addressed specific issues.
Big-Name Lobbyists
It hired former Senate Energy Committee Chairman J. Bennett Johnston, a Democrat, to push policies on carbon dioxide emissions, former New York Representative Bill Paxon, a Republican, to lobby on electricity deregulation, and former Montana governor Marc Racicot to advise it on California's energy crisis.
Racicot, a friend of Bush who was named chairman of the Republican National Committee, was criticized for his ties to the company and decided to forgo lobbying while he holds the post.
Enron also had Quinn Gillespie & Associates working on deregulation. Jack Quinn was the lobbyist and former Democratic White House counsel who helped secure a pardon for fugitive commodities trader Marc Rich. Ed Gillespie is a former aide to Republican House Majority Leader Richard Armey.
All that came in addition to the handful of Enron lobbyists in cities such as New York and Minneapolis who worked with local lobbying shops to boost the company's agenda in state governments.
`Their Own Best Interests'
Enron relied on its own executives as its primary voice.
``In their mind, they knew their own best interests,'' said Rick Davis, campaign manager for Republican Senator John McCain, who worked with Enron as a lobbyist in Puerto Rico. ``They would get people who could get meetings, then make their own pitch.''
The company has former employees working in the White House, the Pentagon and the Commerce Department and elsewhere. Its strongest force was former chairman Kenneth Lay, Bush's longtime friend, adviser and financial backer.
Lay wasn't shy about using his connections.
Last February, he talked with Curt Hebert, then chairman of the Federal Energy Regulatory Commission (FERC) and Washington's top electricity regulator.
In a widely publicized conversation that led Democrats to call for an investigation, Hebert said Lay offered him a deal: if he changed his position on deregulation of the energy grid, Enron would support keeping him in his post in the new administration. Lay recalled it differently, saying it was Hebert who asked for his support at the White House.
Whatever the case, Hebert didn't change his position and later lost the job. Lay said there was no tie between the events, and an August report by the General Accounting Office, the investigative arm of Congress, found nothing improper.
Winning on the Margins
Enron was often successful behind the scenes.
For example, Cheney, Bush's economic adviser Larry Lindsey and others in the administration were part of a drive to help Enron resolve a dispute with India over a troubled power plant project as late as November, according to government records.
The quarrel involved the Dabhol Power Co., a power generator and Enron's largest overseas investment. The company's only customer, an Indian electricity board, had more than $250 million in unpaid bills, payments guaranteed by in part by India's government.
In November, the Overseas Private Investment Corp, a U.S. agency with $360 million in risk insurance and loan guarantees tied up in Dabhol, wrote a letter to Indian officials.
``The acute lack of progress in this matter has forced Dabhol to rise to the highest levels of the United States government,'' it said.
In June, Cheney met with Indian leaders to discuss Dabhol, government records show. Lindsey met with India's national security adviser, Brajesh Mishra, in November, without discussing Dabhol after the White House Counsel's office recommended it, administration officials said.
Lindsey was paid $50,000 by Enron in 2000 to serve on an advisory board and, last year, directed a White House review of the effects of Enron's potential collapse.
Derivative Regulation
In another case, Enron got active on a bill overhauling how derivatives are regulated. Derivatives are complex financial instruments involving private contracts whose value is based on an underlying commodity, stock, bond, currency or other asset. Enron was an active trader and did not want to be regulated like an exchange.
The Commodities Futures Modernization Act of 2000 effectively exempted trading systems like Enron's from regulation by the Commodities Futures Trading Commission, which oversees the Chicago Board of Trade and other futures exchanges.
``The bill eliminated all federal oversight of the over-the-counter derivatives market,'' said Randall Dodd, a former economist with the CFTC who is now director of the Derivatives
Studies Center.
The `Enron Exemption'
Enron stood with many other companies as part of the Energy Group, a consortium of power companies such as Koch Industries Inc. that wanted to avoid regulation. They were represented by Ken Raisler at Sullivan & Cromwell, a former CFTC general counsel.
Raisler said Enron was ``one of the more active participants'' in the consortium. ``We were looking for hands-on help explaining the business on Capitol Hill and at the CFTC,'' he said. ``They had resources.''
A piece of the act also specifically exempted energy futures traded under a system like Enron's, said Michael Greenberger, former director of the CFTC's Division of Trading and Markets who now teaches law at the University of Maryland.
It came to be known as the ``Enron Exemption.'' ``It was an exemption created to match Enron's peculiar way of trading,'' Greenberger said.
`That Idea Died Very Hard'
Enron's primary objective was never met. For years, the company threw all its weight behind a bill to open electricity markets, going so far as to run image ads in the 1997 Superbowl to tout the value of deregulation.
It wasn't enough to overcome the local utilities, however, which have their own strong lobby and close ties to their local Congress members.
``A consensus emerged that a federal mandate for retail competition was not the thing to do,'' said Tom Kuhn, president of the Edison Electric Institute, which represents investor-owned electric utilities, and a classmate of Bush's at Yale University.
For Enron, he said, ``that idea died very hard.''
The company responded in pragmatic fashion. When it became clear that deregulation legislation was not going to happen, Enron began to turn to the FERC to get favorable regulatory changes – a strategy that was cemented with Bush's election. The president appoints all five FERC commissioners with Senate confirmation.
That put the company in the position of fighting to empower the FERC -- a regulator. Enron has a case pending in the U.S. Supreme Court where it argued that FERC should be able to order local utilities to open their transmission.
`Dramatic Pivot'
Enron's pragmatism sometimes raised the hackles of the Republican Party faithful.
``They were completely non-ideological,'' Rick Davis said. ``They are all about what's good for Enron.''
Such was the case when Enron called for the U.S. to ratify the international treaty on global warming, known as the Kyoto protocol.
Many Republicans and the Bush administration opposed the international treaty to cut carbon dioxide and other ``greenhouse gases.'' Enron hoped it would open a market in CO2 credits that companies could trade through Enron, as they do with credits for sulfur-dioxide emissions under the Clean Air Act.
Though he rarely mentioned Kyoto specifically, Lay began speaking out, and wound up opposite the administration when Bush walked away from the accord last year.
``Their CO2 position was a dramatic pivot from their presumed free-market ideology,'' said Chris Horner, a senior fellow at the Competitive Enterprise Institute who worked in Enron's Washington office briefly in 1997.
`Not How Washington Works'
Many who worked with Enron say its tactics often rankled.
``The personality of the company was such that they needed to run the show,'' said Randy Davis, a lobbyist with Stuntz, Davis & Staffier who represents a group of investor-owned utilities. ``Or they didn't want to participate in the show.''
Barton, who was Enron's third-largest House recipient of campaign contributions since 1989 with $28,000, said, ``When they had a policy position, they tended to want it heard immediately and adopted immediately. That's just not how Washington works.''
Competitors saw it too. Erle Nye, chief executive officer and chairman of TXU Corp., the largest utility in Texas, and chairman of the Edison Electric Institute, gave the company credit for promoting deregulation while criticizing its approach.
``I never liked their style,'' he said. ``They were so overbearing, so aggressive.''
Washington Office Sacked
Joe Hillings, Enron's former general manager for federal government affairs, declined comment. In interview in October 2000, he agreed the company was aggressive.
``We pull out the stops on everything,'' he said.
Hillings painted a picture of a dynamic office that regularly reviewed and reshaped priorities. He said that Lay was ``very public policy minded'' and intimately involved with the Washington office, along with other high company officials. And, he defended Enron and its strategies under his tenure.
``We are human beings in this office and we are not always picture-perfect,'' he said.
The company's approach began to soften after it began to reshape the office in October 2000.
Hillings retired and Cynthia Sandherr, another Enron lobbyist who had been Barton's legislative director, left to represent Enron affiliate New Power Co. of Purchase, New York. Sandherr didn't return phone calls.
`Dem-ron'
In their place came Linda Robertson, an assistant Treasury secretary for legislative affairs in the Clinton administration and a Democrat. The move caused waves in Republican circles. Some Capitol Hill aides began calling the company ``Dem-ron.''
Employees say the Washington office was being re-drafted to reflect Enron's business interests and that control was shifting toward Houston. Office desks were re-arranged to resemble a trading floor.
``That's when they were more effective,'' MacKinnon said, ``but they weren't asking for much.''
On Dec. 3, one day after Enron filed for bankruptcy, much of the lobbying staff received notice they were no longer employed. Outside lobbyists, such as Bracewell & Patterson, walked away from their contracts -- in that case a roughly $1 million tab.
The company's work has since shifted toward the legal arena. Enron hired lawyer Robert Bennett, who represented former president Bill Clinton in his impeachment fight.
When Lay sought assistance, contacting Treasury Secretary Paul O'Neill, Commerce Secretary Don Evans and Federal Reserve Chairman Alan Greenspan, the administration did not act.
Some lawmakers have returned or given away campaign contributions after the bankruptcy. Such was the case with Representative Martin Frost, a Texas Democrat, who gave his $1,000 to charity.
``When they really needed help,'' said Rick Davis, ``nobody really lifted for them.''
--Glen Justice in Washington (202) 624-1984 or
gjustice@bloomberg.net with reporting by Steve Stroth in Chicago
and Bob Parry in Washington. Editors: Gettinger, Willen
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