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Lay, Skilling Trial Picks Up Pace -- Slightly

The trial of Enron Corp. founder Kenneth Lay and ex-CEO Jeffrey Skilling moves into its fourth week on Tuesday, and while it has at times been dull and colorless, the pace picked up last week following a stern request by U.S. District Judge Sim Lake to hear "questions" and not just "statements" by the trial lawyers.

Skilling is facing 31 criminal counts of fraud, conspiracy, insider trading and lying to auditors and investors, while Lay faces seven counts of fraud and conspiracy related to the months after he replaced Skilling as CEO in August 2001 and until the company dissolved into bankruptcy four months later.

Complimenting the lawyers on Thursday after he had dismissed the jury, Lake said, "This case is moving very efficiently. You are trying the case and not each other or the court."

Lake's remarks followed eight days on the witness stand by Mark Koenig, Enron's ex-investor relations chief. Koenig, who was the first witness on the stand, finally completed his testimony early Tuesday. In his testimony last week, Koenig said the special purpose entities (SPE) designed by former CFO Andrew Fastow were criticized internally at least two years before the company went bankrupt. The defense team, which contends Enron's downfall was led by Fastow and a few others -- and not Lay or Skilling -- spent hours grilling Koenig about the former CFO.

Lay attorney Mike Ramsey asked Koenig if anyone at Enron questioned Fastow's financial dealings before the dismal third quarter earnings report was issued in October 2001.

"Oh, yes," Koenig said. "A lot of people were complaining about the partnerships and the amount of money [Fastow] might have made."

Asked if anyone at Enron accused Fastow of theft, Koenig answered, "I don't think anyone ever mentioned the words, 'stealing from the house.'" (Fastow pleaded guilty to conspiracy to commit wire fraud and conspiracy to commit securities fraud in January 2004, and he faces up to 10 years in prison (see NGI, Jan. 19, 2004). He is expected to testify in the trial.)

In 1999, Fastow created several off-balance-sheet transactions which he supervised, including the LJM partnerships, named after the first initials of his wife Lea and two sons. According to the government, LJM enabled Enron, Fastow and "others" to, among other things, manipulate Enron's financial results by fraudulently moving poorly performing assets off the company's balance sheet, by manufacturing earnings for Enron through sham transactions with the LJM entities when Enron was having trouble meeting its goals for a quarter, and by improperly inflating the value of Enron's investments by backdating transaction documents to dates advantageous to Enron. Fastow is alleged to have earned at least $25 million in fees from the partnership's Enron-related deals while still serving as the company's CFO.

According to Koenig, former Enron executives who questioned Fastow's dealings included Richard B. Buy, the former chief risk officer, Jeffrey McMahon, the former treasurer, and Ray Bowen, a former CFO. Koenig also testified that investors were calling him with concerns about the partnerships and Fastow's possible conflicts of interest.

In his cross examination of Koenig, Ramsey attempted to show jurors that Lay was upfront with investors in late 2001 -- the time period in which the government claims Lay deceived investors -- and replayed a conference call led by the former chairman in October 2001, a day after Enron acknowledged that it was being questioned by the Securities and Exchange Commission (SEC) concerning equity reductions and the SPEs (see NGI, Oct. 22, 2001).

Sounding clearly concerned about the fall in the company's share price, which at the time was edging around $19/share, Lay said on the conference call that the company was cooperating with the SEC and promised to hold conference calls "on a regular basis for a while."

Lay then turned the call over to Fastow to discuss Enron's liquidity position, and in his introduction, Lay said Enron continues "to have the highest faith in Andy, and I think he's doing an outstanding job as CFO." Lay said he took issue with reports concerning Fastow's character, which he said were unfounded. After Fastow had explained Enron's liquidity position, the call was turned over to phoned in questions from investors and analysts, who criticized the company's lack of clear communication regarding its operations.

"We are trying to be as transparent as we can," Lay told analysts. "We are not trying to hold anything back... My commitment is to get everything out there and make sure that the analysts and the shareholders know what's going on there."

The following day, Fastow was put on an "indefinite leave of absence" (see NGI, Oct. 29, 2001), and a week later, the SEC launched a formal investigation into the company's business practices.

On Tuesday, the ex-CEO of Enron Broadband Services (EBS) Kenneth Rice testified Skilling approved of LJM as a way to help the poorly performing unit boost its booked revenue. Rice, who worked at Enron for 21 years in various management positions, was named co-CEO of EBS in mid-1999. He resigned from Enron about five months before the company declared bankruptcy in December 2001, and in 2004 he pleaded guilty to one count of securities fraud and agreed to pay a $13.7 million fine (see NGI, Aug. 2, 2004).

Enron Task Force Director Sean Berkowitz asked Rice if EBS, which was officially rolled out in early 2000, ever made a profit. "No," Rice answered. EBS struggled to generate revenues, and in 1999, almost all of the unit's earnings came from a speculative investment in a dot-com stock and from $55 million in sales of dark fiber cable, used in broadband, to LJM.

According to Rice, Skilling said the transactions with LJM were legitimate. "I didn't agree with him," Rice said. "I thought it looked goofy... Mr. Skilling explained that it was something that would facilitate getting transactions done. He said we needed it so that we weren't being stuck by the banks at the last minute to get transactions done."

However, even with the sales to LJM, a possible video deal with Blockbuster and stock investments, the future of EBS looked grim at the end of 2000, Rice testified.

"We were not generating any new transactions," Rice testified. "Virtually all of our trades were break-even or losing money. We were trying to demonstrate that broadband was a commodity that could be traded. But I was increasingly concerned about our ability to hit our earnings numbers."

Rice testified that Skilling wanted EBS and another new unit, Enron Energy Services (EES), to show growth so that Enron's stock price would increase.

"Mr. Skilling said he wanted to substantially increase the value of Enron's stock price and to do that we needed to grow the multiple of EES and EBS," Rice testified.

In the budget projections for 2001, EBS internally forecast a $489 million loss. Rice said a revised budget was then done to reduce losses to $110 million. However, in a November 2000 budget meeting with Skilling, Rice testified Skilling wanted EBS to post a loss of $65 million in 2001.

"I thought that number was very unlikely," Rice said. Still, he agreed to make the changes. Asked why he didn't tell Skilling the figures weren't achievable, Rice said, "I didn't feel like I had any choice...because there really wasn't an option because he said this is the number; this is what the number is going to be."

He also said Skilling approved laying off some EBS employees to trim costs. Skilling later told analysts that EBS was not laying off workers but instead was shifting them to other areas of the company. Rice also testified Skilling helped prepare presentations for a Jan. 25, 2001 analyst conference (see NGI, Jan. 29, 2001). He said Skilling wanted Enron's presenters at the conference to appear confident in front of analysts and told them "body language" was important. Rice testified Skilling intended to mislead Wall Street about the health of EBS at the conference.

"I lied to them [analysts] about the status of our network and the things our network could do... I also withheld the true state of our business," Rice testified.

Rice also testified Skilling wanted him to offer an optimistic forecast of his unit for the company's board of directors in mid-2001 to mirror misleading statements Rice made to financial analysts earlier in the year. However, Rice never said Skilling lied to investors about the company's health. Rice also admitted he had no documents and only his recollection as proof of a conversation with Skilling in May 2001 concerning a board of directors meeting to discuss EBS.

In January 2001, Rice testified he told financial analysts that EBS was well positioned for long-term financial performance. However, he said he did not reveal that EBS was spending about $100 million every quarter, with little revenue or business. As he prepared for a May 2001 meeting of the board of directors, Skilling "wanted me to put a presentation together that was more consistent with the analyst conference and less direct on some of the challenges we were facing at EBS," Rice said.

"What I presented to [the] board was inconsistent with what was going on at EBS," Rice said. He also told Holscher, "I knew that Mr. Skilling and I had misled investors on a number of occasions on the prospects of our business within EBS."

Asked if he had ever expressed his concerns to Skilling about the misleading statements, Rice said, "I don't know if I did."

Rice also testified that a 2000 sale of unused dark fiber owned by EBS to LJM was considered a legitimate "arm's-length" transaction that created actual profits for EBS. EBS paid about $1,100/fiber mile, but when it found no buyers for the material, it sold LJM the fiber for about $1,400/mile. LJM then resold it over the open market for $1,800/mile, and EBS received a share of the profits under the earlier purchase provisions, Rice said. He testified the sales were a standard part of the unit's strategy.

Under cross examination, Rice testified that in July 2001, he told Skilling during a breakfast meeting that he wanted to resign from Enron. He said EBS was going to merge into Enron's wholesale trading business to hide problems within the division. Essentially, Rice would be working under people he considered his peers, and he told Skilling he wasn't having any fun any more.

Rice said that Skilling agreed with him, that Enron was no longer "fun," and "the traders have taken over," Skilling said. "I can't control the traders, and it's not fun for me," Rice said Skilling told him. Rice testified he thought Skilling was referring to executives within Enron's wholesale trading business. A couple of weeks later, Rice met Skilling for lunch, and was surprised when Skilling told him he also planned to resign.

"I said, 'I'm surprised. I didn't see this coming,'" Rice testified. "I didn't realize when I talked to him a few weeks before about leaving he was going to leave." Rice said Skilling talked about buying a boat and sailing around the world. After lunch, Rice said he returned to his office and sold some of his Enron stock, a fact later included in the indictment against him.

Rice said when Skilling resigned abruptly in Aug. 2001, he still thought Enron was a "great company." However, Enron had grown from $5 billion to $60 billion in market capitalization in seven years, and in an e-mail to a cousin, Rice wrote that several members of Skilling's management team were not "cut out to be managers of that kind of company." In another e-mail to a friend, Rice wrote, "This is best for Jeff, though not the company."

Rice testified he also told his cousin he planned to step down officially from Enron in October 2001, but "for all intents and purposes, I am already gone." He told the jury he was "really excited about EBS," but "the last six months at EBS were not fun. It's true I was losing my passion."

Skilling lawyer Mark Holscher challenged many of Rice's statements, and questioned his commitment to Enron in early 2001, when EBS was not doing well. Holscher asked Rice if he had "started to check out of Enron" in early 2001 by devoting more time to his hobby of racing sports cars.

"No, I raced cars on weekends," Rice said.

Asked if anyone had complained about his performance, Rice said, "A number of employees came to me and thought the wheels were falling off Enron broadband and were critical of the way I was handling it."

The defense attempted to show Rice did not believe he was guilty of any crime and only agreed to cooperate after the government seized his assets and several other people were indicted.

Rice testified that after he was indicted, he was offered a plea bargain but turned it down. He only decided to agree to the government's terms when former Dynegy Inc. employee Jamie Olis was sentenced in 2003 to 24 years in prison for Dynegy's Project Alpha scheme. Olis' sentence was overturned last November (see NGI, Dec. 26, 2005).

"I knew from the day that I got indicted that I was facing a lot of time, and the sentencing of the Dynegy executive simply reinforced that," Rice said.

Rice also testified about an e-mail he sent to Skilling in June 2000 concerning his future at EBS. At the time, Rice was co-CEO of EBS with Joe Hirko. Rice wrote Skilling that if EBS could be modeled like Enron's wholesale gas trading operation, "this business has the potential to be truly awesome. We'll be like kids in a candy store in a year or so."

The e-mail to Skilling indicated Rice did not think Hirko was up to the job as co-CEO, and he added, "I like my chances of getting rich faster if I am running the business." Less than a month later, Hirko was out and Rice was the EBS CEO. Hirko provided some consulting work for EBS, but he left Enron a few months later.

Lake became visibly distressed last week when the defense said it was going to introduce another audiotape into evidence. In the second week of the trial, defense lawyers played nearly eight hours of video and audio recordings of Enron webcasts and analyst conference calls in an attempt to show the jury "context." Skilling lawyer Holscher, who said he wanted to play a "one hour or so" videotape to provide an "accurate summary of EBS's capabilities, which [Rice] now contends is incorrect," Lake questioned why the tape was being show.

"It seems to be a waste of time so far," Lake said. "If you're going to question him about Shakespeare, you don't have to start with the invention of the alphabet," Lake said to Holscher. "I'm tired of hearing statements...Let's get to some questions."

Holscher argued the tape was part of the core of allegations in the indictment against Skilling, which indicates he made false statements about the company in analyst meetings. Holscher said he wanted to show the jury that Rice and EBS COO Kevin Hannon (who will be testifying in the future for the prosecution) presented a positive view of the business.

Without presenting the tape, said Holscher, it is "impossible to get a feel of how bullish Mr. Hannon and Mr. Rice were of the business."

Prosecutor Sean Berkowitz also argued the defense was "trying to have a mini-trial of if Mr. Rice is guilty of what he pled guilty to."

Lake ruled the defense would not be permitted to replay the entire presentation. However, he allowed the defense to play the closing statements by Skilling, when Skilling said, "I think we have customers and specific products and services for the marketplace."

The third witness to testify, Terry West, is an accountant who still works for Enron. Late Thursday, she told jurors she was ordered to change a projected 4Q2000 profit by one cent. She said she was told to start with a figure of 35 cents/share, and then work backward to calculate the net income required to achieve it. a per-share figure of 35 cents and working backward to calculate the net income required. Financial analysts were forecasting Enron would earn 35 cents/share in 4Q2000. In its financial filings, Enron reported a 41 cents/share profit excluding special items in the final quarter of 2000.

Under cross examination by Holscher, West, who is expected to complete her testimony Tuesday, said she did not know all of the factors that went into the final earnings calculation.

Paula Rieker, Enron's former corporate secretary, is scheduled to be the next witness for the prosecution. Rieker pleaded guilty in May 2004 to one felony count of insider trading and agreed to pay nearly $500,000 to the SEC to settle separate charges concerning the profit she made on the sale of Enron stock a few months before the company declared bankruptcy in December 2001 (see NGI, May 24, 2004).

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