U.S. Securities and Exchange Commission
Litigation Release No. 18582 / February 19, 2004
Accounting and Auditing Enforcement Release No. 1959 / February 19, 2004
Securities and Exchange Commission v. Richard A. Causey and Jeffrey K. Skilling, Civil Action No. H-04-0284 (Harmon) (S.D. Tx.) (February 19, 2004) (Amended Complaint)
SEC Charges Jeffrey K. Skilling, Enron’s Former President, Chief Executive Officer and Chief Operating Officer, with Fraud
The Securities and Exchange Commission ("Commission") today charged Jeffrey K. Skilling, Enron Corp.’s former President, Chief Executive Officer and Chief Operating Officer, with violating, and aiding and abetting violations of, the antifraud, lying to auditors, periodic reporting, books and records, and internal controls provisions of the federal securities laws. The Commission is seeking disgorgement of all ill-gotten gains, civil money penalties, a permanent bar from acting as a director or officer of a publicly held company, and an injunction against future violations of the federal securities laws. The Commission brought this action in coordination with the Department of Justice Enron Task Force, which filed related criminal charges against Skilling.
The charges, which amend the Commission’s Complaint filed against Richard A. Causey, Enron’s former Chief Accounting Officer, allege that Skilling and others engaged in a wide-ranging scheme to defraud by manipulating Enron’s publicly reported financial results. As alleged, Skilling and others improperly used reserves within Enron’s wholesale energy trading business, Enron Wholesale, to manufacture and manipulate reported earnings; manipulated Enron’s “business segment reporting” to conceal losses at Enron’s retail energy business, Enron Energy Services (“EES”); manufactured earnings by fraudulently promoting Enron’s broadband unit, Enron Broadband Services (“EBS”); and improperly used special purpose entities (“SPEs”) and the LJM partnerships to manipulate Enron’s financial results. In addition, the Amended Complaint alleges that Skilling made false and misleading statements concerning Enron’s financial results and the performance of its businesses, and that these misrepresentations were also contained in Enron’s public filings with the Commission. The Amended Complaint further alleges that Skilling sold Enron stock while in possession of material, non-public information that generated unlawful proceeds of approximately $63 million.
Specifically, the Commission's Amended Complaint alleges as follows:
- Manufacturing and Manipulating Reported Earnings through Improper Use of Reserves. From the third quarter of 2000 through the third quarter of 2001, Skilling and others fraudulently used reserve accounts within Enron Wholesale to mask the extent and volatility of its windfall trading profits, particularly its profits from the California energy markets; avoid reporting large losses in other areas of its business; and preserve the earnings for use in later quarters. By early 2001, Enron Wholesale’s undisclosed reserve accounts contained over $1 billion in earnings. Skilling and others improperly used hundreds of millions of dollars of these reserves to ensure that analysts’ expectations were met. In addition, Skilling and others improperly used the reserves to conceal hundreds of millions of dollars in losses within Enron’s EES business unit from the investing public.
Further, Skilling and others approved the improper release of reserves in certain quarters prior to 2001, in order for Enron to make or exceed analysts’ earnings estimates. For example, in mid-July 2000, well after the end of the second quarter, Skilling and others decided to beat Wall Street analysts’ quarterly earnings expectations by two cents a share and publicly report an earnings-per-share figure of 34 cents. They did this despite knowing that Enron’s performance for the quarter did not support the 34-cent earnings-per-share figure. In order to achieve this goal, they caused a senior Enron executive to release improperly millions of dollars of "prudency" reserves from Enron’s energy trading business into earnings.
- Concealing EES Failures. Skilling and others concealed massive losses in EES by fraudulently manipulating Enron’s "business segment reporting." At the close of the first quarter of 2001, Skilling and others approved moving a large portion of EES’s business into Enron Wholesale under the guise of reorganizing Enron’s business segments. Skilling and others knew that the reorganization was designed to fraudulently conceal hundreds of millions of dollars in losses at EES, Enron’s heavily touted retail energy trading business, losses which Enron otherwise would have had to report. Enron moved the losing portion of EES’s business into Enron Wholesale because Enron Wholesale had ample earnings, including the massive reserve accounts described above, to absorb EES’s huge losses while continuing to meet Enron’s budget targets.
- Promoting EBS to Manufacture Earnings. Skilling and others fraudulently promoted EBS at Enron’s January 20, 2000 corporate analyst conference and manufactured earnings from the resulting increase in Enron’s stock price. At the analyst conference, Skilling and others knowingly made false and misleading statements about the status of EBS’s broadband network, EBS’s proprietary “network control software,” and the “conservative” value – $30 billion – of EBS’s business. In reality, EBS had neither the broadband network that Skilling claimed, nor the critical proprietary network control software to run it. In addition, Skilling inflated the value of EBS by billions of dollars over what both internal and external valuations had advised.
- Knowing about the planned EBS presentation, Skilling and others – prior to the analyst conference – constructed and approved a scheme that allowed Enron to recognize approximately $85 million in earnings from the increase in the value of its stock. The earnings were recorded through a partnership interest Enron held in a large energy investment named JEDI that held, as on of its investment holdings, Enron stock. In connection with the January 20, 2000 analyst conference, Enron and JEDI purportedly executed a series of transactions, known as "Project Greyhawk," that allowed JEDI’s income to increase as the price of Enron’s stock increased. Project Greyhawk allowed Enron to recognize, through its partnership interest in JEDI, approximately $85 million in earnings as a result of the manufactured increase in Enron stock from the false and misleading presentation at the analyst conference.
- Use of SPEs and LJM Partnerships to Manipulate Financial Results. Enron entered into fraudulent transactions with LJM Cayman, L.P and LJM2 Co-Investment, L.P. (collectively “LJM”), two unconsolidated partnerships created and managed by Andrew Fastow, Enron’s then-Chief Financial Officer, when Skilling and others knew that LJM was not a legitimate third party acting independently from Enron. Enron used transactions with LJM to manipulate its financial results.
- For example, Enron and LJM engaged in a series of financial transactions with four SPEs called Raptor I, Raptor II, Raptor III and Raptor IV (collectively referred to as the "Raptors"). Skilling, Causey, Fastow and others used the Raptors to manipulate fraudulently Enron’s reported financial results. They designed Raptor I, among other things, to protect Enron from having to report publicly decreases in value in large portions of its energy "merchant asset portfolio" and technology investments by allowing Enron to "hedge" the value of those investments with an allegedly independent third party, known as Talon. The Raptor I structure, however, was invalid under applicable accounting rules because, among other things, (i) Talon was not independent from Enron and LJM’s investment in Talon was not at risk, and (ii) Causey and Fastow had entered into an oral side agreement that LJM would receive its initial investment in Talon ($30 million) plus a large profit ($11 million) from Enron, all prior to Talon engaging in any of the hedging transactions. As a quid pro quo for this payment, Fastow agreed with Causey that Enron employees could use Raptor I to manipulate Enron’s financial statements, including by allowing Enron employees, without negotiation or due diligence by LJM, to select the values at which the Enron assets were hedged with Talon. Skilling was informed of and approved Fastow’s deal with Causey in order to ensure that Enron achieved the financial reporting goals for which Raptor I was designed, even though it was clear that the Raptor I structure was not a true hedging device.
In another transaction – the “Cuiaba project” – Skilling and others used LJM to move a poorly performing asset temporarily off Enron's balance sheet, when in fact such off-balance-sheet treatment was improper. When no true third-party buyer could be found, Skilling and others caused Enron to "sell" a portion of Enron’s interest in the Cuiaba project to LJM for $11.3 million. LJM agreed to "buy" this interest only because Skilling, Causey, Fastow and others, in an undisclosed side deal, agreed that Enron would buy back the interest, if necessary, at a profit to LJM. Based on this purported "sale," which was in fact an asset parking or warehousing arrangement, Enron improperly recognized approximately $65 million in income in the third and fourth quarters of 1999. In the spring of 2001, even though the project was approximately $200 million over budget, Skilling, Causey and Fastow agreed that Enron would buy back LJM’s interest in the Cuiaba project at a considerable profit to LJM. After agreeing to execute the repurchase, Skilling, Causey, Fastow and others delayed consummating the deal until Fastow sold his interest in LJM so that Fastow’s role in the transaction would not have to be publicly disclosed.
In the “Nigerian barge” transaction, Skilling and others agreed to a sham “sale” of an interest in certain power-producing barges off the coast of Nigeria to Merrill Lynch so that Enron could meet its fourth quarter 1999 budget targets. In order to induce Merrill Lynch to enter into the transaction, Enron promised – in an oral and undisclosed “handshake” deal – that Merrill Lynch would receive a return of its investment plus an agreed-upon profit within six months. As a result, Merrill Lynch’s equity investment was not "at risk" and Enron should not have treated the transaction as a sale from which it could record earnings and cash flow. In June 2000, Enron delivered on its "handshake" promise. Causey and Fastow ensured that LJM repurchased the Nigerian barges from Merrill Lynch at the agreed-upon profit.
- Insider Trading. Skilling profited from the scheme to defraud by selling large amounts of Enron stock at the inflated prices. These trades also occurred while Skilling was in possession of material non-public information, including information about Enron’s actual financial performance and the failure of its business units as described above. From April 2000 to September 2001, Skilling sold over one million shares of Enron stock that generated unlawful proceeds of approximately $63 million.
The Amended Complaint alleges that by engaging in the above-described conduct, Skilling violated and aided and abetted the violation of Sections 10(b) and 13(b)(5) of the Securities Exchange Act of 1934 ("Exchange Act") and Exchange Act Rules 10b-5, 13b2-1 and 13b2-2, and aided and abetted the violation of Sections 13(a), and 13(b)(2)(A) and (B) of the Exchange Act and Exchange Act Rules 12b-20 and 13a-1.
The Commission's investigation is continuing.
SEC Complaint in this matter