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Fastow Fingers Lay in Enron's Deception

After implicating Enron Corp.'s ex-CEO Jeffrey Skilling in many of the company's illegal deals, former CFO Andrew Fastow fingered Enron founder Kenneth Lay on Wednesday, testifying that Lay not only knew about the financial shenanigans before the company dissolved into bankruptcy, but also actively took part in deceiving shareholders and the news media.

In August 2001, shortly after Skilling had resigned from the company and Lay had assumed the CEO/chairman role, Fastow testified there were a lot of problems facing the company. He recounted a meeting on Aug. 20, 2001, in which Lay and other top Enron executives discussed issues associated with Enron's 3Q2001 projections.

"There was a pretty big hole in the earnings," Fastow testified about 3Q2001. "We were projecting earnings much lower than Wall Street was expecting at this point."

Fastow reiterated a long list of problems Enron was having in the quarter, including a $1.2 billion "accounting mistake" related to Fastow's Raptor special purpose entity (SPE), which was being unwound and written down at the end of the quarter. Enron also had "large reserves issues," and it was "taking a tremendous amount of risks with accounting." Lay was aware of those problems, Fastow noted.

He testified Lay was told Enron's international assets were overvalued and its investment partnerships faced losses that could force huge write-offs, reducing earnings. Fastow also told jurors he told Lay on Aug. 16, 2001 that Enron should consider a major restructuring because it had to recognize at least $5 billion in potential losses on a group of assets that "would eventually come home to roost...I said even if we're smart and we don't make a mistake and earn $1 billion a year, it'll take us five years to earn our way out of that problem."

However, a few days later, in an interview with BusinessWeek magazine, Lay was quoted as saying Enron "is probably in the strongest and best shape it has ever been in." After Skilling's departure, Lay also presided over a conference call with investors and analysts. On the call, played earlier in court, Lay said there were "no other shoes to fall" at Enron. He also told analysts there were no financial problems at the company.

Also, in a Sept. 26, 2001 electronic message to employees, Lay called Enron "fundamentally sound. The balance sheet is strong, our financial liquidity has never been stronger and we have record earnings and results." He also told employees the company's historic growth made its shares "an incredibly cheap stock."

Asked about the statements by prosecutor John Hueston, Fastow replied, "I think most of the statements in there were false," Fastow told jurors. "We had some shoes that fell in the third quarter."

Hueston asked if Lay had given a "clear" picture of Enron to analysts.

"I don't think so," Fastow said.

In the following weeks, a group of Enron executives, including Lay, Fastow and Enron North America CEO Greg Whalley, traveled to New York City to talk to financial analysts, Fastow testified. Following that meeting, the group was scheduled to go to Boston for additional meetings. However, Whalley decided to return to Houston, Fastow recalled.

Fastow said he asked Whalley why he was returning to Houston. "He said, 'If I went to Boston, I'd have to lie too much,'" Fastow testified.

"What was your reaction?" Hueston asked.

"I was stunned," Fastow said. But he recalled, "It was what Mr. Lay was saying, it was what the company was saying, and I was trying to keep up with the company as well."

"Was it a lie?"

"It was a lie."

In the fall of 2001, the Wall Street Journal submitted a list of 25 questions to Enron concerning the SPEs. The questions concerned how the off-balance-sheet transactions were set up, and they questioned how much Fastow was making on the side. Fastow said he met with Lay and company spokesman Mark Palmer to determine how to respond. Instead of answering the questions, Fastow said, Lay issued a one-paragraph statement about how thoroughly and vigorously the LJM SPEs were reviewed by lawyers and accountants.

Hueston asked if the questions from the Journal related to information the shareholders were entitled to know. Fastow said they did.

When it was time for Enron to report its 3Q2001 earnings in mid-October 2001, Fastow testified, Lay was presented with growing evidence of internal problems at Enron. However, Fastow said Lay decided to call a $1.2 billion equity investment loss in the third quarter of 2001 "nonrecurring," even though a gain on the same holding was earlier characterized as "recurring." By switching to nonrecurring, Fastow said Enron might convince outsiders the loss was insignificant.

"I thought that was an incorrect accounting treatment," Fastow testified.

The quarterly earnings were released on Oct. 16, 2001 (see Daily GPI, Oct. 17, 2001). By Oct. 23, Fastow said Enron's suppliers were refusing to trade with the company because they feared a bankruptcy. Fastow and Treasurer Ben Glisan Jr. then went to Lay to tell him about the problems.

"I said I thought this was a death spiral, a serious risk of bankruptcy," Fastow testified. "I said the majority of trades being done were to unwind positions." The next day, Fastow was fired (see Daily GPI, Oct. 25, 2001).

Once his direct testimony was completed, Fastow went toe-to-toe with Skilling lawyer Daniel Petrocelli in what was at times a loud and blistering cross-examination. Petrocelli attacked Fastow's character, and quickly launched into statements Fastow made Tuesday, including one in which he referred to himself as a "hero for Enron" by helping the company hide losses and boost its balance sheet.

"Within the culture of corruption Enron had, a culture that rewarded financial reporting rather than rewarding economic value, I believed I was being a hero," said Fastow. "I was not. It was not a good thing. That's why I'm here today."

"Were you a hero when you stole from Enron, yes or no?" asked Petrocelli.

"No I was not."

"Were you a hero to Enron when you cheated and defrauded Enron's shareholders?"

"That's when I believed I was being a hero," Fastow replied. "But that's why I'm here today."

Petrocelli asked Fastow if he had ever deceived Lay, Skilling, friends or family. "Yes," Fastow replied. Petrocelli asked if he had deceived the court. Fastow said he had not.

"You must be consumed with an insatiable greed -- is that fair to say?'' Petrocelli asked.

"I believe I was extremely greedy, and that I lost my moral compass, and I've done terrible things that I very much regret,'' Fastow replied.

"Your greed was so great that you allowed your wife to go to prison," Petrocelli stated, referring to Lea Fastow, who spent one year in federal prison after pleading guilty to tax evasion in an Enron-related scheme put together by her husband. "You let your wife to go to prison for a year because of your greed."

"I find it very difficult to believe that my wife was guilty," Fastow replied haltingly. "I accept that in her mind she might believe that she was guilty, but it was my actions that caused her to go to prison, and I'll live with that the rest of my life."

Petrocelli asked Fastow if he blamed Skilling for leaving Enron in August 2001, before it went bankrupt, and if he was angry that Skilling was not going to jail.

"The idea that you will sit in jail for 10 years while Mr. Skilling is a free man, that doesn't sit well with you, does it?" Petrocelli asked.

"I'm sad for any family who has go through anything like what I've put my family through," Fastow replied.

At one point, Petrocelli accused Fastow's testimony of being "well rehearsed." Fastow quickly responded, "With all due respect, your questions sound very rehearsed to me."

Petrocelli said he was going to ask Fastow "a lot of questions," to which the former CFO replied, "Yeah, I can see that by the binders," referring to the voluminous material holding exhibits for the court. Members of the jury laughed at the remark, along with some of the courtroom audience. But Petrocelli tried to stifle the humor.

"We're talking about the fact that your wife, because of your conduct, spent one year doing hard time," Petrocelli said. "And you think that's funny?"

"No sir, it is not funny at all," Fastow replied in a soft voice.

U.S. District Judge Sim Lake at one point stopped the questions and answers and warned the men to stop interrupting each other. But the harsh tone back and forth continued.

"You are a master of telling one person one thing and another person another," Petrocelli began. Fastow interrupted. "Mr. Petrocelli, I'm here to tell the truth. I've lied on many occasions. I've lied at Enron, but I'm telling the truth here."

After lunch, Petrocelli began questioning Fastow about some of the SPEs, in an attempt to distance his client from some of the wrongdoing. Fastow claims that Lay and Skilling were aware of the LJM partnerships set up by Fastow to benefit Enron, but apparently Skilling and Lay did not benefit from the Fastow-run SPEs known as RADR or Chewco, and they were not aware of them. Petrocelli detailed the RADR partnership, a transaction in which Fastow and some of his staff profited by buying Enron's wind power business.

"On RADR, ballpark at the end of the day, how much did you scam, $2 million?" Petrocelli asked.

"I'm sure you have that number...I don't have that number off the top of my head," Fastow replied.

Petrocelli told Fastow he made about $2 million from RADR. The defense attorney then detailed the Chewco transaction, in which he said Fastow and another Enron executive, Michael Kopper, scammed about $12 million from Enron. Skilling, said Fastow, made "zero" from Chewco.

Petrocelli also questioned Fastow about the LJM SPEs. Using a projection screen, he put up a list of words Fastow used on Tuesday to describe some of the deals involved in LJM1 and LJM2, including terms like "sham," "losses" and "hedge."

"Do you think the jury is going to decide this case based on words like that?" Petrocelli asked.

"I think these words are a fair representation of what went on at Enron," Fastow said.

But, Petrocelli noted, Fastow did not use those types of words when he presented the LJM deals to Enron executives.

Besides a full house of journalists from around the country, the former CEO of HealthSouth Corp., Richard Scrushy, also was in attendance at the trial on Wednesday. Scrushy was acquitted of criminal charges in 2005 related to wrongdoing at that company after he claimed he did not know what was going on. Scrushy, who said he was in Houston on business, told reporters he wanted to see the Lay and Skilling trial first-hand.

"I wanted to hear the truth versus trying to hear the media reports," Scrushy told reporters during a break in the trial.

Asked his opinion of Fastow's testimony, Scrushy said, "I see this guy as a very dishonest man...I wouldn't trust him if he said the buildings were on fire." He added that Fastow's testimony will have "zero" credibility with the jury, and said, "I don't think the CEO had any idea any of that was going on."

Asked which CEO he was talking about, Scrushy replied, "Lay."

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