With Capitol Hill feeding reporters a steady diet of Enron Corp. stories last week, it fast became the issue du jour. Who’s kidding who, it was the only story in a town that thrives on scandals — real or imagined. In fact, there was such a rapid fire of “new” disclosures about the energy trader’s financial sleight of hand, outside auditor Arthur Andersen’s extracurricular activities, and the Bush administration’s ties and Capitol Hill lawmakers’ links to the bankrupt corporation, that somewhere along the way last week it became one big blur.

In what was probably the most revealing development, the House Energy and Commerce Committee disclosed that an Enron whistle blower had warned Chairman Kenneth Lay months before the company’s financial collapse and descent into bankruptcy of serious problems with the company’s accounting treatment of its off-balance-sheet partnerships that hid debt and inflated profits. The letter also revealed the existence of heretofore unknown off-balance-sheet partnerships, which could force Enron to further have to restate its earnings.

“I am incredibly nervous that we will implode in a wave of accounting scandals,” wrote Sherron Watkins, Enron’s vice president of corporate development, in a letter to Lay last August. “It sure looks to the layman on the street that we are hiding losses,” she continued. “Is there a way our accounting gurus can unwind these deals now?” Watkins asked, although expressing doubt. “We are under too much scrutiny and there are probably one or two disgruntled ‘redeployed’ employees who know enough about the ‘funny’ accounting to get us in trouble.”

The committee said it obtained the Watkins’ letter as part of its wide-ranging investigation into the Enron financial debacle. In response to her concerns, Enron officials ordered its corporate lawyer Vinson & Elkins LLP to carry out an investigation. The law firm concluded that Watkins’ charges did not merit a “further widespread investigation by independent counsel and auditors,” but it warned that Enron faced a “serious risk of adverse publicity and litigation” due to the “bad cosmetics” surrounding its partnerships, the poor performance of the merchant investment assets in the partnerships and the declining value of its stock.

In addition to revealing Lay’s knowledge of the accounting problems, the Watkins’ letter to Lay raises the possibility that the company may have to reduce past earnings by another $1.3 billion. It discloses two investment vehicles — one not previously disclosed — which could cut into earnings more than its four-year restatement in an 8-K filing with the Securities and Exchange Commission (SEC) last November (see NGI, Nov. 26, 2001).

Although Watkins now has declined to comment and instead is speaking through an attorney, her letter unveiled the existence of yet another off-balance sheet entity, Condor, which she noted had been financed with Enron stock and which made investments that generated $800 million in cash for Enron. (A search by NGI of Enron’s web site found no documents relating to Condor.)

Watkins’ letter, first revealed by The New York Times and congressional investigators, also indicates that a previously disclosed entity, Raptor, generated $500 million in revenue — which Enron apparently also has not written off. Raptor is a company owned by Enron entity LJM2, one of the partnerships formerly managed by ex-CFO Andrew Fastow that was consolidated on financial statements last year. However, neither the $800 million nor the $500 million appear to have been identified as written off by Enron or restated in its financial statements for the period ending last September.

According to Watkins’ letter, Raptor, which invested in publicly traded stocks, rose in value in the beginning, with $500 million in revenue in 2000. However, by the beginning of 2001, the investments dropped and the collateral — Enron shares — dropped as well. Raptor’s $1 billion loss was then written off in the third quarter.

“Raptor looks to be a big bet,” Watkins wrote to Lay. “If the underlying stocks did well, then no one would be the wiser. If Enron stock did well, the stock issuance to these entities would decline, and the transactions would be less noticeable.” Ironically, she wrote, “all has gone against us.”

Watkins also referred to Condor, which appears no where on Enron’s financial statements or in its restatements to the SEC. However, in her letter, Watkins referred to Enron recognizing “funds flow of $800 million from merchant sales in 1999 by selling to a vehicle (Condor) that we capitalized with a promise of Enron stock in later years.”

In its restated financial earnings statements filed with the SEC, Enron consolidated several of its off-balance sheet partnerships, which deducted about $1.2 billion from its net worth. The consolidation also reduced profits from the previous four years by about $586 million. In its regular third quarter earnings statement, released last October, Enron also took charges of more than $1.01 billion in failed investments in the third quarter, mostly related poor investments in the water business, broadband trading and retail electricity. That write-off reduced shareholder equity and precipitated the horrifying rush toward bankruptcy.

Enron has made no comment about Watkins’ letter or any of its allegations. Other developments on Capitol Hill last week were:

In the series of developments in the market last week, Arthur Andersen fired its lead auditor of the Enron account (Duncan) and placed four other auditors — all based in Houston — on leave as part of its inquiry into the destruction of related auditing documents. Andersen said it would replace the management in the Houston office, noting that the Andersen partners there “have been relieved of their management responsibilities.” It also noted it would fire any other employees who participated in the “improper destruction of documents.”

The four partners placed on administrative leave were D. Stephen Goddard Jr., Michael M. Lowther, Gary B. Goolsby and Michael C. Odom. But Enron trumped Andersen’s moves last Thursday — it fired Andersen as its outside auditor.

In related action, attorneys for Samson Investment Co., a Tulsa-based natural gas-heavy energy company, filed a lawsuit against Andersen, accusing the Big 5 accountant of complicity in Enron’s bankruptcy. Samson claims Andersen “recklessly disregarded evidence of questionable financial transactions between Enron and its insiders.” The lawsuit, which is seen as the first of many to be brought against Andersen, seeks unspecified damages, and requests class-action status on behalf of more than 100 unnamed companies.

According to the lawsuit, Samson and other energy companies “justifiably relied on the financial audits of Enron” for their natural gas purchase contracts with Enron, and called Andersen’s audits “grossly misleading.” Andersen, under investigation by federal authorities, is also named in lawsuits against Enron on behalf of shareholders.

The New York Stock Exchange (NYSE) last Tuesday announced it had determined that Enron common stock and its related securities were “no longer suitable for trading,” and should be suspended immediately. Just hours later, Enron came back with a new ticker symbol, announcing it henceforth would trade on the over-the-counter market as ENRNQ. Quotation service will be provided by the National Quotation Bureau, LLC “Pink Sheets.”

Enron’s stock has not traded on the NYSE since Jan. 11, the day Enron announced that UBS AG had won the bid to acquire its wholesale trading unit. A hearing on the agreement was scheduled Friday in the Bankruptcy Court in New York City (see related story this issue).

The NYSE securities to be delisted include the 7% Exchangeable Notes due July 31, 2002 and the $10.50 Cumulative Second Preferred Convertible Stock. Also to be delisted are the derivative securities of Enron Capital Trust I, Enron Capital Trust II, Enron Capital Resources LP and Enron Capital LLC.

The following securities also will trade on the over-the-counter market: Enron Capital LLC 8% Cumulative Guaranteed Monthly Income Preferred Shares (ECTPQ), Enron Capital Resources LP 9% Cumulative Series A (ECSPQ), Enron Capital Trust I 8.30% Trust Originated Preferred Securities (EONNQ), Enron Capital Trust II 8.125% Trust Originated Preferred Securities (ENRPQ), Enron Capital LLC (ERNCF), and Enron Corp. 7% Exchangeable Notes for common stock due July 31, 2002 (EONPQ).

Under NYSE regulations, Enron will have the right to a review of the determination by a committee of the board of directors of the Exchange. An application to the Securities and Exchange Commission to delist Enron will be made when the applicable procedures have been completed, including any appeal by Enron of the NYSE decision.

“The Exchange, as previously announced on Dec. 3, 2001 and Jan. 11, 2002, has continued to monitor events at the company,” it said in a written statement. “The Exchange notes that today’s action is being taken due to the expected protracted nature of the company’s bankruptcy process and the uncertainty at this time as to the timing and outcome of this process as well as the ultimate effect on the company’s common stockholders.”

The NYSE said “it may make an appraisal of, and determine on an individual basis, the suitability for continued listing of an issue in light of all pertinent facts whenever it deems such action appropriate, and that the Exchange may, at any time, suspend a security if it believes that continued dealings in the security on the NYSE are not advisable.”

It also said that “in light of all the circumstances presented by the company and its bankruptcy, including the fact that the company has traded at a price level deemed abnormally low and has recently fallen below the NYSE’s continued listing criteria related to: average closing price of a security less than $1 over a consecutive 30-trading day period, the Exchange has determined that the company’s securities are no longer suitable for trading on the NYSE.”

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