He directed his questions to Rick Walker. On the morning of September 27, Walker contacted Fastow with the concerns. Fastow had plenty of answers. Not all the deals would come from Enron, he said; that’s why there was a management fee. And Enron would be reimbursed for expenses.
Walker had one more question Chavkin wanted asked.
“Andy,” Walker said, “can I call Skilling?”
At Merrill Lynch, they were wondering the same thing. Had Skilling thought this through? Had Enron put in place the mechanics to deal with conflicts?
Two Merrill bankers in charge of the Enron relationship—Schuyler Tilney and Robert Furst—e-mailed Fastow with their questions. It was clear they needed to speak with Skilling. Their chance would come days later—on the morning that the Enron board gave LJM2 its full blessing.
A pattern was quickly established. If a bank or brokerage had a financial interest in Enron’s fees, it was hit up for Fastow’s new venture. Starting at 1:30 on the afternoon of September 27, multiple forty-two-page documents went out—to Bankers Trust, CIBC Oppenheimer, Lehman Brothers, and many others. Included was a short note from Fastow himself along with his lengthy slide presentation boasting of the benefits of LJM2.
Nothing came on LJM2 stationery; there were no fund offices to contact. Instead, everything arrived on Fastow’s letterhead from Enron. The document had been faxed from the machine he shared with Causey. Even the fax cover sheet came with the Enron logo.
The unspoken message was hard to miss. No matter what was said about the fund’s independence, this was an Enron appeal. For a venture operated by the man who awarded many of the company’s fees.
Sitting in an antique armchair in his family room, Lay opened his briefcase and pulled out the latest issue of CFO magazine, glancing at the cover. The Finest in Finance. Lay smiled to himself.
He found the table of contents, looking for Fastow’s name. Beneath it were the words “How Enron financed its amazing transformation from pipelines to piping hot.”
Lay turned to the article. “When Andrew S. Fastow, the 37-year-old CFO of Enron Corp., boasts that ‘our story is one of a kind,’ he’s not kidding,” it began.
Lay liked the piece. This fellow Banham, who wrote it, captured everything pretty well: asset securitization, special-purpose entities, the reduction of balance-sheet debt. Fastow was obviously as creative and sharp as Lay and Enron’s directors had come to believe.
———
“So,” Skilling said, “what do you need to know?”
It was October 11, and Skilling was speaking with Schuyler Tilney and Robert Furst from Merrill.
“Well, Jeff,” Tilney began. “First, thanks for taking the time to speak with us.”
“No problem.”
“We’ve got just a few questions regarding LJM2. I’m sure they’re issues you’ve already considered.”
Had Skilling thought about the time Fastow would spend with LJM2? Was he comfortable with the controls for the conflicts? Had the board reviewed those? Skilling’s answers were detailed and knowledgeable. He had obviously spent time on the workings of LJM2. The bankers were impressed.
“And really, on conflicts, I am very, very comfortable,” Skilling said. “It’s under control.”
“What will be the mechanisms for that?” Furst asked.
“Well, first of all, Andy has no control over our decision to sell an asset. So if we sell something to LJM2, it’s because we want to sell it. If LJM2 gets it, it’s because LJM2 gave the best offer.”
“Okay.”
“And because Andy will know more about the assets, we’re not going to be forced to leave money on the table because of bad bids. If LJM2 wins, it’s because they had the best bid, probably because they knew the most.”
“All right.”
“Plus, none of this is taking place in a vacuum,” Skilling continued. “Rick Causey is going to review every transaction with LJM2 to make sure it’s in Enron’s interest. And the audit committee of the board will receive LJM2’s financial statements.”
Besides, Skilling said, the only way this arrangement would work is if everyone focused on disclosure. There weren’t going to be any secrets. With everything about LJM2, Skilling said, Enron would have an open kimono.
That same morning at 11:45, Lay was in a conference room reviewing the agenda for that night’s meeting of the Enron board of directors. He had received his briefing materials days before, but this was the first time he’d had the chance to read them through.
When he came to the agenda for the finance committee, a name jumped off the page: LJM2. He turned to the text of a Fastow presentation about what appeared to be a new fund.
Nobody had mentioned this to him. Apparently, Fastow’s first fund had been so successful he was back for more. Lay skimmed the presentation. It sounded pretty good.
Just after 4:30 that same day, Fastow sat before the finance committee in the boardroom, radiating confidence.
“This is a follow-on fund for LJM,” he told the directors. “It will give us a lot of advantages.”
With LJM2, he said, Enron would have a fund available for quick transactions, without the cost of investment-banking fees. The company would be better able to manage risk and have greater financial flexibility.
“The limited partners will be traditional pension funds,” Fastow said. Nothing about the Enron bankers who would be kicking in the largest portion of the fund.
To protect against conflicts of interest, Fastow said, both Causey and Buy would review transactions between Enron and LJM2. Even so, Fastow said, the board would have to waive its code of conduct to allow him to serve both as CFO of Enron and as the general partner of LJM2.
That bothered Norm Blake. “Has Arthur Andersen reviewed this?” he asked.
Causey answered. “Yes, they’re fine with it.”
Blake paused. “I’m still concerned about the conflict of interest,” he said.
“We’ve addressed that lots of ways,” Causey replied. “We’ve given the limited partners enough authority to keep Andy from having too much power. The limited partners can remove the general partner without cause.”
Skilling broke in. “No one has to do a transaction with LJM. We will only do a transaction if it’s better than the alternative, which means it’s no-lose for Enron.”
Fastow assured the board his time on LJM2 would be minimal—a few hours a week, tops. After all, he said, Enron was providing the lion’s share of his annual income.
The committee was satisfied. On a voice vote, they waived the code of conduct.
The full board gathered that night in the Whitney Room of the Four Seasons Hotel. Just past 8:30, Pug Winokur gave the rundown on LJM2, explaining why his committee had okayed Fastow’s participation. The floor was opened for questions.
It was late. The directors were tired. They had a full agenda. Besides, Winokur always knew what he was doing. With no debate, the board approved the recommendation. It just didn’t seem that important.
———
About a week later, Kelly Boots was walking down the hallway, bracing herself for her meeting with Jeff McMahon. Boots, the Enron executive charged with managing banking relationships, had been hearing a lot of disturbing noise in recent days. Bankers had been calling incessantly, muttering darkly about their dealings with Enron.
The issue had become so high-profile that Boots felt obligated to take it to the company treasurer. She knew McMahon well and trusted him. Still, the idea of suggesting that Fastow may have acted unethically wasn’t comfortable. Boots arrived at McMahon’s office, and he invited her in. She took a seat, pausing for a second to gather her thoughts.
“Jeff, I’ve got an issue, and I need to know how to respond to these questions.”
“What questions?”
“Banks are calling me, saying Andy has stopped by on the road show, asking them to invest in LJM2,” she said. “And they’re not sure what will happen if they don’t invest. They’re worried
that they’ll be put in the penalty box and won’t get business from us. How do I respond to that?”
McMahon blinked. “Are you telling me that Andy’s trying to sell this deal to our banks? Enron banks?”
“That’s what I hear.”
McMahon slapped his desk with his hands. “I can’t believe he’s pitching this stuff to them. He told me he was going to raise his money from wealthy investors.”
This was so sleazy. What was Fastow thinking?
“Kelly, how would you react if you’re at some major bank and the CFO of one of your biggest clients comes in and asks you to invest in some fund he’s running?”
“I know. That’s the problem.”
“I think I’d have the same reaction they’re having.”
The two were silent for a moment.
“This is unbelievable,” McMahon said. “I’m going to go talk to Andy.” He leaned toward the doorway. “Sue!” he yelled out to his secretary. “Get me in to see Andy today.”
McMahon was in Fastow’s office, sitting across from him. He worked hard to keep his tone calm.
“I understand you’ve been calling on Enron’s Tier 1 banks to invest in your new deal.”
“Yeah, they’re on our list.”
“Well, that’s a surprise to me, Andy. So I’m going to need to know what you’re doing for this LJM2, who you’re calling on, and who your investors are going to be.”
Fastow squinched his face. “Why do you need to know that?” he asked sharply.
“Because I’m responsible for Enron’s banking relationships.”
“This has nothing to do with Enron,” Fastow snapped. “Well, these banks are calling up, saying they believe the deal you’re pitching is, if they don’t pay LJM2, they don’t get to play at the Enron level.” Fastow snorted. “Oh, that’s just not true.”
“That’s what their perception is.”
“Well, they’re wrong.”
“Look, Andy,” McMahon said. “We’re dealing with perceptions, and I’m going to have to manage those. So I need a list of who you’re calling, and who’s making a commitment. That way, when they call me, I’ll be prepared. And I can tell them that there’s no connection between their decisions on LJM2 and their future Enron business.”
Fastow thought about it for a second. “Yeah, you’re right,” he said. “I’ll get you the list.”
The sky over Scottsdale was clear, with a breeze off the desert. Skilling had just parted ways with some Enron executives who had joined him for dinner. Now, the day over, he unwound as he strolled down a sidewalk at the Phoenician hotel toward his room in the Canyon Building.
That day, November 1, he had met with members of Enron Communications in hopes of hammering out a cohesive business strategy. He thought the meetings had gone well; there had been an agreement that broadband trading should be the primary business, with the intelligent network and video streaming taking a back seat. That was progress.
Skilling arrived at his room. Through the glass door in the back, he could see the pool, lined on one side by yellow-topped cabanas. He walked over to the desk and reached for the phone; he wanted to check the messages on his office voicemail. He dialed an 800 number, then punched in an extension—6894. After he entered a password, the messages began. He took notes on a pad of hotel paper.
“Message number twelve,” the recorded voice said. “Diane Bazelides.”
Skilling knew the name. The Azurix public-relations person.
“Jeff, this is Diane,” the message began. “We have an urgent press release for Azurix that needs to go out, and we need you to sign off on it. We’ve faxed it to the front desk, and they’re holding it for you.”
Skilling closed his eyes and slumped on the desk.
Oh, great. The front desk. Back in the main building. He wasn’t surprised Azurix wanted his approval; Enron was still its largest shareholder, and he was a director. He didn’t want to hike back where he just came from. He groaned as he pushed himself up and trudged toward the door.
What a pain. I hope this is worth it.
Fifteen minutes later, Skilling returned with the fax still in a sealed manila envelope. He tossed it onto a table just inside the door. He didn’t feel like looking at it. Instead, he walked to the minibar and grabbed a soda.
He futzed around the room—pulling things out of his briefcase, checking other work. Finally, he walked back to the table and tore open the envelope. He saw the words “For Immediate Release.” He reviewed the page quickly.
And his mouth dropped. “What the fuck?”
Azurix was announcing that its fourth-quarter earnings were going to collapse. The fourth quarter? The fourth quarter had just started! Wall Street was expecting seventeen cents a share, and now Azurix was announcing it would bring in as little as nine. It had been public for—what?—less than five months. It had only reported one full quarter of results. And now the management team was planning to drop this bomb. No warnings, no explanations. Just—We blew it. Bye!
Skilling flipped over the page, looking on the other side. Suddenly, a thought. He smiled. Of course. This wasn’t real. It was a joke. Cliff. It was Cliff Baxter. Sure. Baxter was messing with him. Ha-ha. Very funny.
But wait a minute. The Bazelides call. She wouldn’t be part of a joke like this, making fun of her own company.
Skilling covered his face with one hand.
Oh, my God, he thought. This is real.
Skilling hit the phones. He ordered the press release held back until he could get more information and brief the Azurix board. Then he called Rebecca Mark at home.
“What’s going on?” he barked. “Where did this come from?” Her CFO, Rod Gray, had been running the numbers, she said. “This is what they’re projecting for the quarter, so they wanted us to release this.” She sounded calm. Too calm for Skilling’s taste.
“Rebecca, do you understand what’s going to happen? When you put this out, all hell is gonna break loose. Your phone is gonna ring off the hook, your stock is gonna get slammed. I mean, any first-year analyst would be out there asking if this is a long-term or short-term problem.”
Mark didn’t respond.
“Rebecca, which is it?”
“We feel very confident in the future of Azurix.”
“I don’t care if you feel confident,” Skilling snapped. They needed precise data, full projections for the following year. They needed to explain what happened. Fuzzy happy-talk wasn’t going to cut it.
The longer he spoke, the more frenzied he became. Finally, Mark broke in and said she would get on the case. They hung up. Then Skilling picked up a small executive directory he carried. He knew the next call he had to make.
The ringing phone echoed through Lay’s home. Paul Stokes, a member of his house staff, answered.
“Lay residence.”
“Is Ken there?”
An urgent, angry-sounding man. “I’m sorry. This is?”
“Jeff Skilling.”
“Oh. All right, Mr. Skilling. Please hold a moment.”
Skilling, sitting at the desk in his hotel room, rubbed his face as he waited for Lay to come on the line.
“Jeff?”
“We’ve got a problem, Ken.”
He spilled out the whole dismal story. The news release. His call to Mark. Her odd indifference. The potential for disaster that now hung over Enron. “Ken,” Skilling said, “this is really, really bad.”
“We better get the board together tomorrow.”
“Yeah.”
A pause. Neither man knew what to say.
“Okay,” Lay said. “I’ll get Rosie to pull the board together.”
The call ended.
Skilling just sat, staring at nothing. The air was still, quiet. The silence felt oppressive. My God.
He stood and snapped up his key. There was a bar in the main building. He needed a drink.
“This is Rebecca. I’m calling the meeting to order.”
It was one the next aft
ernoon, and the Azurix directors had called from around the world to meet by conference call. Mark was in the boardroom down the hall from her office. They spent a minute taking the roll, and then reviewed the press release, line by line.
Pug Winokur broke in. “The release is fine. But what’s going on? How did this happen?”
“Well, we misjudged the pace of privatizations,” Mark responded. “It’s been a lot slower than we anticipated.”
“Why are we finding this out now?” Skilling asked. “A week ago, you told me everything was fine. How did everything fall apart in a week?”
After much back-and-forth, the board made a decision. They wanted a review of every company asset. And they wanted Mark to propose three strategic alternatives—staying the course, ramping up, and cutting back.
“All right,” Mark said. “I’ll do that.”
But first Azurix had to scramble to get out its press release. It would take two more days.
Exhausted from travel, Skilling dropped in to Lay’s office at ten the next morning. He was jumpy, anxious; Azurix haunted him. He sank into a chair.
“Ken, this Azurix thing is a big problem.”
Lay nodded. “Yeah, I know it’s a problem.”
His tone struck Skilling as almost blasé. “Ken, the repercussions are huge,” he said, his voice rising. “They’re gonna get sued, we’re probably gonna get sued.”
Lay nodded. “I know that.”
“This isn’t just their stock price going down,” Skilling continued. “They just went public! If they get beat up by the rating agencies over this, their cost of capital is going to go up. Then they won’t be able to compete to buy other companies. I don’t know if their business plan is even feasible anymore.”
He shook his head. “We’ve gotta cut costs there, Ken. I mean radical surgery, because the shortfalls are huge. You’ve got to let her know how serious this is.”
Conspiracy of Fools Page 36