This time, Seidl understood the gravity of the situation. He called Houston immediately after the lunch and, in a panicked tone, declared that as a result of Borget’s trading losses, Enron was “less than worthless.” Within two hours, he was on a plane to Newfoundland to meet Lay, who was returning from Europe and had to stop there to have his jet refueled. In Houston, Muckleroy was on his way back from lunch when he was confronted by an ashen Rich Kinder, who had just talked to Seidl. Muckleroy hopped on the next plane to New York to see if there was any way he could salvage the situation.
Muckleroy quickly discovered that things were far worse than anyone realized. Enron Oil was short over 84 million barrels. The position was so huge that it amounted to roughly three months’ output of the gigantic North Sea oil field off the coast of England. If Enron were forced to cover its position, it would have been on the hook for well over $1 billion. “Less than worthless” was exactly the right description: when you added $1 billion-plus to Enron’s $4 billion in debt, the company’s total debts outstripped its net worth. And, of course, given how strapped the company was for cash, there was simply no way it could cover its trading losses without filing for bankruptcy.
But Enron got lucky. Exactly the right person had gone to Valhalla to take charge of the problem. Experienced commodities trader that he was, Muckleroy took one look at Enron Oil’s books and sat Mastroeni down. “Unfortunately, I’ve had to kill people in my past,” he told the terrified treasurer, “and I sleep like a baby.” He demanded to see the real books. At eight the next morning, Mastroeni produced them. Muckleroy told Borget to leave the premises and asked Enron’s security officer to change the locks on the doors. Then he went to work.
For the next three weeks, he and a small team of traders worked 18- to 20-hour days. His goal was to shrink the size of the position so that when the company finally had to settle up, the loss would at least be manageable. His only hope was to bluff his way out of his dilemma; if other traders knew what trouble Enron Oil was in, they were likely to bid the price of oil even higher, then demand payment. To fool them, Muckleroy pretended that Enron had crude oil in hand; he even bought some to sell into the market. The bluff bought him time. Within a few days, oil prices began to decline. Or at least they fell enough that Muckleroy and his team were able to close down Enron Oil’s positions, reducing the damage to the company to around $140 million. That still hurt, but it was no longer life-threatening. “If the market moved up three more dollars Enron would have gone belly up,” Muckleroy later said. “Lay and Seidl never understood that.”
After almost a year of pretending in the face of overwhelming evidence that nothing was awry at Enron Oil, Ken Lay and the other Enron executives now had to pretend the opposite: that they were shocked—shocked!—by the actions of these rogue traders. The company announced that it would take an $85 million after-tax charge to 1987 earnings and blamed it on “losses from unauthorized trading activities by two employees in its international crude oil trading subsidiary.” As rumors of the fiasco had trickled out, Enron’s stock began to fall; by the time of the October announcement it was down 30 percent. But now Lay insisted to Wall Street analysts that this was a freak event that would have no long-term effect: “I would not want anyone to think at any time in the future this kind of activity would affect our other businesses,” he said.
At an all-employee meeting in late October, Lay told the crowd that he had been blindsided by Borget. “If anyone could say that I knew, let them stand up,” he said. Two people had to physically prevent Muckleroy from standing. At a board meeting held to discuss the loss, Lay again denied any responsibility, according to one person who was there. Lay also played dumb with Enron’s bankers, who were infuriated when they learned of the trading losses. As well they should have been. For at the same time the scandal was unfolding internally, Enron was in the midst of raising money from its banks. The deal closed just before Enron announced the $85 million charge but well after the company knew about the problem. “Everyone went apeshit,” recalls one banker. “They felt like they were lied to.” Well, they had been lied to.
The most ironic part of the aftermath was a massive suit Enron filed against Borget, Mastroeni, and a handful of others alleging a conspiracy to “defraud” Enron through what it now called “sham trades” with entities like Isla, Southwest, and Petropol, among others. Nobody at Enron was calling trades with these entities “unusual transactions” anymore. Defense lawyers for other trading companies argued that Enron was merely playing the victim to cover up its own complicity. “Any honest competent management, confronted with the conduct of Borget and Mastroeni, as revealed to Enron’s senior management in January 1987, would have fired these gentlemen without delay,” wrote one lawyer. (The suits were eventually settled.)
There were also investigations by both the SEC and the U.S. attorney’s office, but it seems that Enron got lucky once again. The investigations focused on the phony transactions Borget and Mastroeni had concocted to shift profits from quarter to quarter, transactions that several Enron executives had encouraged and that several others, including Ken Lay, had condoned after the fact. Yet for reasons that mystify many lawyers involved in the case, the government chose not to prosecute the company. In early 1988 Enron restated its financials for the previous three and a half years, blaming “unauthorized activities . . . designed to shift income.”
In addition to charging both Borget and Mastroeni with fraud and personal income tax violations, the U.S. attorney charged Borget with “aiding and assisting the filing of a false corporate income tax return” by hiding income with “sham transactions.” But, said the government, “there is no indication that Enron knew the information supplied by Borget and contained in the consolidated tax return was false.” Of course, anyone who poked around could have found plenty of indications. In early 1990 Borget pled guilty to three felonies and was sentenced to a year in jail and five years’ probation. (When reached by telephone, he said, “My memory is fading, and I don’t have much to say about an episode that is painful.”) A month later, Mastroeni pled guilty to two felonies. He received a suspended sentence and got two years’ probation. But by then, the Enron Oil scandal had long been forgotten.
• • •
• • •
Inside Enron, there was a second, less public kind of aftermath: the scandal marked the rise of Rich Kinder as a force inside the company. Mick Seidl had become the company’s number two man largely on the strength of his friendship with Lay. He had much in common with Lay: he was a former academic with a Ph.D. in economics and a former government policy maker who had worked with Lay at the Interior Department in the early 1970s. But Seidl also shared other tendencies with Lay. He had a terrible time making decisions that might anger somebody. And he was far more interested in the glamour of being a
corporate executive than in the hard work of making the company profitable.
He wanted to be Mr. Outside, but Enron already had a Mr. Outside: Ken Lay himself.
Kinder was the opposite. Where Seidl was weak, Kinder was tough. Where Seidl was forgiving, Kinder was demanding. Where Seidl was easily flustered, Kinder was decisive. Even though his title was only general counsel, Kinder had a natural authority that other Enron executives lacked. Unlike Seidl, Kinder was the perfect complement to Lay. “Ken isn’t the kind of guy to take people to the woodshed the way he needed to,” says one former executive. Nobody ever said that about Kinder.
Like Seidl, Kinder had known Ken Lay a long time, since college, in fact, where their girlfriends (later their first wives) were sorority sisters and best friends at the University of Missouri. But after graduation, their paths diverged. Kinder earned a law degree, served a stint in the army, and returned to the small Missouri river town where he was raised, Cape Girardeau, to practice law (in a firm run by Rush Limbaugh’s father). He also had an entrepreneurial streak. By the late 1970s he was a partner in a local racquet club and owned a bar called the Second Chance, a
s well as a Howard Johnson’s Motor Lodge and some apartment buildings. But his real estate investments proved disastrous: in late 1980 Kinder was forced to file for Chapter 7 bankruptcy protection; he listed $2.14 million in debts and just $130,750 in assets. Kinder and his wife Anne claimed to have just $100 in cash.
Bill Morgan, a third University of Missouri buddy who had gone to work for Lay at Florida Gas, rescued his old college friend, hiring him as an in-house lawyer. When Lay bought Florida Gas’s pipeline business shortly after becoming CEO of Houston Natural Gas, he also brought Kinder to Houston and soon named him Enron’s general counsel.
There was no secret why Kinder stood out: he got things done. He had rough edges—one person who worked with him called him “smart, rough and tumble, and selfish”—but they worked to his advantage. People were afraid of him. “You didn’t mess with Rich Kinder,” recalls another former executive. “If you messed with Rich Kinder, he was going to cut you to shreds.” Another adds, “Rich was a mean son of a bitch. You didn’t want to cross him. But he imposed the kind of discipline we didn’t have before, which we really needed.” A Churchill fanatic and history buff, Kinder would walk around the office chomping on an unlit cigar, striking fear into the hearts of Enron executives.
In August 1987 Lay moved Kinder out of the general counsel’s office and gave him the title chief of staff. In effect, he was designating him the company’s chief problem solver. And though it was another three years before Kinder became chief operating officer, replacing Seidl, who’d left the company in 1989, he took unofficial charge of Enron well before then. There is one meeting in particular that everyone at Enron remembers as marking the moment Kinder became the boss. In the Enron mythology, it came to be known as the Come to Jesus meeting.
The meeting took place in 1988. The Enron Oil scandal was no longer on the front burner, but the company was still plagued with problems. After the InterNorth-HNG merger, Lay had hired lots of his old cronies. They had ill-defined jobs and a line straight to the man who had hired them. Morale was terrible. Backbiting had become part of the Enron culture. Power plays were a daily occurrence. And it was nearly impossible for the company to act decisively, because executives felt they could always get Lay to reverse a management decision. All the politicking had practically paralyzed the company.
Lay was also at the Come to Jesus meeting. He made a few tepid remarks about how the company needed to embrace gas deregulation. But mostly this was Rich Kinder’s show. “Enough of this!” he declared, and then he lit into the group. He was tired of the chaos, tired of people going behind his back to Lay, tired of the constant complaints and excuses about why the company wasn’t doing better. And it was going to stop. The company’s problems were like alligators, he growled. “There are alligators in the swamp,” he said. “We’re going to get in that fucking swamp, and we’re going to kick out all the fucking alligators, one by one, and we’re going to kill them, one by one.” And on that note, the meeting ended.
CHAPTER 3
“We Were the Apostles”
In the aftermath of the Come to Jesus meeting, things did settle down at Enron, thanks largely to Rich Kinder. He took on the tough job of paring costs, he found ways to pay down some of the crushing debt, and he helped Enron negotiate its way out of the take-or-pay crisis with surprisingly little financial pain. By the end of 1988 Enron was even back in the black, earning $109 million.
But it wasn’t a sustainable profit. In fact, without onetime gains from selling assets and stock it held in other companies, Enron would have declared another loss. The big problem still remained, and it wasn’t going to go away no matter how many alligators Kinder killed. Enron was still a company in search of a future. Ken Lay had gotten into the pipeline business in the first place because he believed deregulation was inevitable and felt sure there was money to be made in a deregulated industry. He was right about the first; by the late 1980s, wholesale deregulation had largely arrived. But neither he nor Kinder nor anyone else at Enron had the foggiest idea how to create a brand-new business model, one that could make a big profit in this new world. What Enron needed—indeed, what the entire natural-gas industry needed—was someone who could show them the way.
And, lo and behold, there he was.
• • •
For better or worse—and over the years it would be both—Enron found its visionary in Jeffrey Skilling. When Skilling looked at the natural-gas industry, he didn’t see natural gas. Instead, he saw the needs of customers on one side and the needs of suppliers on the other—and the gaps in between where, he believed, serious money could be made. To put it another way, he saw the ways in which
the natural-gas industry resembled commodity businesses like wheat and pork bellies and especially financial services, where money itself is the commodity. That no natural-gas executives shared his vision didn’t bother Skilling in the least; other energy executives, he believed, were hidebound, unimaginative, and hemmed in by the past. Never having worked in the industry before joining
Enron—never having run any business before joining Enron—Skilling felt no such constraints. He fervently believed that he saw the way the industry should operate, and for him, “should” and “would” were pretty much the same. Over time, his way of thinking not only reshaped Enron, it helped revolutionize the entire natural-gas industry.
In part, Skilling’s influence can be explained by his particular brand of intelligence. When people describe Skilling they don’t just use the word “smart”; they use phrases like “incandescently brilliant” or “the smartest person I ever met.” Skilling in the late 1980s wasn’t a physically striking man—he was smallish, a little pudgy, and balding—but his mental agility was breathtaking. He could process information and conceptualize new ideas with blazing speed. He could instantly simplify highly complex issues into a sparkling, compelling image. And he presented his ideas with a certainty that bordered on arrogance and brooked no dissent. He used his brainpower not just to persuade but to intimidate.
Without question, Skilling’s formidable intelligence had a lot to do with turning Enron into a company that was successful—at least for a while. But he also had qualities that were disastrous for someone running a big company. For all his brilliance, Skilling had dangerous blind spots. His management skills were appalling, in large part because he didn’t really understand people. He expected people to behave according to the imperatives of pure intellectual logic, but of course nobody does that (including, it should be said, Skilling himself). One former top executive recalls arguing with him constantly, struggling to explain, “Jeff, people will do things just because they’re people.”
Skilling also had a tendency to oversimplify, and he largely disregarded—indeed, he had an active distaste for—the messy details involved in executing a plan. What thrilled Skilling, always, was the intellectual purity of an idea, not the translation of that idea into reality. “Jeff Skilling is a designer of ditches, not a digger of ditches,” an Enron executive said years later. He was often too slow—even unwilling—to recognize when the reality didn’t match the theory. Over time his arrogance hardened, and he became so sure that he was the smartest guy in the room that anyone who disagreed with him was summarily dismissed as just not bright enough to “get it.”
And there was one other thing about Skilling. For all his analytical abilities, he was a gambler at heart and had been from an early age. He always assumed that he could beat the odds. In the end, that was Skilling’s most dangerous blind spot of all.
• • •
Like many of the other major players in the Enron saga, Jeff Skilling made his way to the top of American business by sheer force of will. He wasn’t poor the way Ken Lay was poor, but his family lived on the thin line that separates the working class from the middle class. He grew up feeling that he couldn’t ask his parents for money, because they didn’t have much. As a result, making his own way financially was always important to him.
Born in
Pittsburgh in 1953, when that city was still the heart of America’s industrial economy, Skilling was the second of Betty and Thomas Skilling’s four children. His father was a salesman for a company that made large valves for heavy machinery. When Skilling was just a baby, the family moved to Westfield, New Jersey, where his father had been transferred and where he later bought a lovely house that was beyond his means. In 1965 his father changed jobs, and the family moved again, this time to Aurora, Illinois, a blue-collar town at the end of the Chicago commuter rail line. For the children, who had loved the woods behind their New Jersey home, the move was traumatic, all the more so because their father was already working in Aurora and couldn’t come back to help them move. So the four children and Betty drove across the country. His younger sister, Sue, remembers Skilling sitting in front of the Rambler station wagon, helping his mother read the map, and filling water bottles at gas stations to keep the old car from overheating.
To a surprising degree, considering that he became a business celebrity, Skilling was a wallflower in high school. Aurora was a quintessentially midwestern football town, and he was a smart kid, not a jock. He has described himself as a “bit of a loner,” and apart from brief stints on the school paper and the student council, Skilling wasn’t actively involved in the life of the school. Today, former classmates remember his older brother, Tom, far more vividly; the older Skilling boy, who used to do weather updates over the PA system in grade school and by age 15 on local radio, is now a Chicago TV weatherman. Though Skilling made National Honor Society his junior and senior years and graduated sixteenth of a class of 600, he later told friends that school was “sheer boredom.” His childhood was unhappy; one friend describes him as “a tortured soul.”
The Smartest Guys in the Room: The Amazing Rise and Scandalous Fall of Enron Page 7