• Join over 1.2 million students every month
  • Accelerate your learning by 29%
  • Unlimited access from just £6.99 per month

Enron scandal - reasons, discovery and implications.

Extracts from this document...

Introduction

Enron scandal: reasons, discovery and implications. 1.- REASONS Scandals such as Enron, Andersen and WorldCom have occurred because their managers, who should have made decisions consistent with the objective of maximising shareholders wealth1, did not act in the best interest of their shareholders. That is what is called the agency problem. Agency problems are created when there is a divergence of ownership and control in a company; shareholders appoint management (agents) to run the company. That leads to discrepancy of goals and asymmetry of information between the two parties and then agents-managers try to maximise their own wealth. Agency problems are reduced if shareholders are able to effectively monitor the activities of the company's managers (by means of an Audit Committee). Other companies may choose to include incentives in managerial contracts to encourage goal-convergence and deal with the agency problem. But the problem between managers and shareholders is not the only agency problem that exists. A company can be viewed as a whole series of agency relationships between the different interest groups involved2. ...read more.

Middle

In the case of Enron, their partners were promised a huge return and Enron backed that promise with its own stock. To protect its escalating stock price and its reputation in the business community the company's books and financial reports were engineered to show inflated profits. Enron had borrowed billions of dollars to acquire additional energy companies but Enron didn't have the money to pay its lenders, although its books indicated otherwise. In reality, Enron was losing money daily, reducing its net worth by billions of dollars. Enron officials acknowledged that the company overstated its profits by more than $580 million since 1997. In October 2001, Enron disclosed a $638 million third-quarter loss, the Securities and Exchange Commission opened an investigation into the partnerships and the company's main rival backed out of an $8.4 billion merger deal. Enron filed for protection from creditors in December in the biggest corporate bankruptcy in U.S. history. Its stock, worth more than $80 before the collapse, felt to less than a dollar a share. ...read more.

Conclusion

Management has access to insider information that may use to make abnormal gains in the market if they are also shareholders. Top Enron executives cashed out more than $1 billion in company stock when it was near its peak. One potential solution would be to restrict the ability of directors to sell their stock while they are serving on the board of directors. The collapse of Enron is likely to remind the importance of ensuring complete and accurate financial disclosure and providing detailed information so that investors can properly assess a business. Similarly, risk plays a very important role in the decision-making process for both investors and companies, so it is important that the level of risk associated with investment can be accurately quantified. In the context of investment appraisal, risk refers to the business risk of an investment, which will increase with the variability of expected returns, although financial risk, which relates to the capital structure of the company, should also be considered. Fall-outs like Enron and WorldCom have demonstrated the importance of emphasizing the generally agreed idea that risk should be taken into account in the capital investment process. 1 Watson and Head (1998) 2 Jensen and Meckling (1976). 3 Watson and Head (1998) ...read more.

The above preview is unformatted text

This student written piece of work is one of many that can be found in our AS and A Level Structures, Objectives & External Influences section.

Found what you're looking for?

  • Start learning 29% faster today
  • 150,000+ documents available
  • Just £6.99 a month

Not the one? Search for your essay title...
  • Join over 1.2 million students every month
  • Accelerate your learning by 29%
  • Unlimited access from just £6.99 per month

See related essaysSee related essays

Related AS and A Level Structures, Objectives & External Influences essays

  1. Explain the purpose of keeping accurate financial records.

    There are two main types of ratios which consider the stability of a company. These include: * Current ratio * Acid test ratio Current ratio The current ratio looks at the relationship of current assets and current liabilities, and the ratio examines the liquidity of the company.

  2. Interpretation of Financial Statements.

    The financial strength of the business is particularly useful in assessing the degree of security inherent in the business. It is of particular use to external parties such as banks and other lending institutions who can attempt to assess the degree of stability and asset security for lending purposes.

  1. Tesco financial review

    or quarterly basis of every 3 months, is available to earn further money before the final payment of tax. * Create goods at lower unit price (economies of scale). Disadvantages of a Limited Liability Company * In larger companies shareholders often lose direct control over their investment.

  2. wickes fraud scandal

    This meant defrauding shareholders in Wickes stock and as a result the shares of the companies were suspended. However, the company later modified that the operating profits decreased from �36 million in 1994 and �7 million in 1995, which was then later turned around to be a reduced profit of

  1. Businesses choose the location for their business for many different reasons. Depending on the ...

    Location of T. K. Maxx T. K. Maxx are located at T.K.Maxx is located at Unit 7/8, Crown Wharf Retail Park Wolverhampton Street Walsall WS2 8LL The Crown Warf is a retail park that opened about 20 months ago. The Wharf is just behind the town centre of Walsall before

  2. Peacocks - case study

    In addition, the detailed accounts of Peacocks are published and freely available, so potential investors and lenders check out business performance before making their decision. Peacocks can attract shareholders by placing advertisements in newspapers and on television. Ownership agreement Basically an ownership agreement guarantees a buyer for retiring or deceased

  1. Management in Context - Share Portfolio.

    This is on the agreement that it becomes dual listed in both the US and UK. The earlier merger had been cleared the FTC but the new takeover bid may not. P & O's share price falls in response to this announcement.

  2. Applied Business. Investigating a business Preston Manor High School

    The school will have to pay for their facilities themselves and may have to compromise with reduction of budget by controlling how much facilities they purchase which will affect their reputation as to not being able to provide high quality education due to not enough facilities and resources and this

  • Over 160,000 pieces
    of student written work
  • Annotated by
    experienced teachers
  • Ideas and feedback to
    improve your own work