What the Dog Saw: And Other Adventures

changes, you adjust the balance sheet accordingly.

When a company using mark-to-market accounting says it has made a profit of $10 million on revenues of $100 million, then, it could mean one of two things. The company may actually have $100 million in its bank accounts, of which $10 million will remain after it has paid its bills. Or it may be guessing that it will make $10 million on a deal where money may not actually change hands for years. Weil’s source wanted him to see how much of the money Enron said it was making was “real.”

Weil got copies of the firm’s annual reports and quarterly filings and began comparing the income statements and the cash-flow statements. “It took me a while to figure out everything I needed to,” Weil said. “It probably took a good month or so. There was a lot of noise in the financial statements, and to zero in on this particular issue you needed to cut through a lot of that.” Weil spoke to Thomas Linsmeier, then an accounting professor at Michigan State, and they talked about how some finance companies in the 1990s had used mark-to- market accounting on subprime loans – that is, loans made to higher-credit-risk consumers – and when the economy declined and consumers defaulted or paid off their loans more quickly than expected, the lenders suddenly realized that their estimates of how much money they were going to make were far too generous. Weil spoke to someone at the Financial Accounting Standards Board, to an analyst at the Moody’s investment-rating agency, and to a dozen or so others. Then he went back to Enron’s financial statements. His conclusions were sobering. In the second quarter of 2000, $747 million of the money Enron said it had made was unrealized – that is, it was money that executives thought they were going to make at some point in the future. If you took that imaginary money away, Enron had shown a significant loss in the second quarter. This was one of the most admired companies in the United States, a firm that was then valued by the stock market as the seventh-largest corporation in the country, and there was practically no cash coming into its coffers.

Weil’s story ran in the Journal on September 20, 2000. A few days later, it was read by a Wall Street financier named James Chanos. Chanos is a short-seller – an investor who tries to make money by betting that a company’s stock will fall. “It pricked up my ears,” Chanos said. “I read the 10-K and the 10 -Q that first weekend,” he went on, referring to the financial statements that public companies are required to file with federal regulators. “I went through it pretty quickly. I flagged right away the stuff that was questionable. I circled it. That was the first run-through. Then I flagged the pages and read the stuff I didn’t understand, and reread it two or three times. I remember I spent a couple hours on it.” Enron’s profit margins and its return on equity were plunging, Chanos saw. Cash flow – the lifeblood of any business – had slowed to a trickle, and the company’s rate of return was less than its cost of capital: it was as if you had borrowed money from the bank at 9 percent interest and invested it in a savings bond that paid you 7 percent interest. “They were basically liquidating themselves,” Chanos said.

In November of that year, Chanos began shorting Enron stock. Over the next few months, he spread the word that he thought the company was in trouble. He tipped off a reporter for Fortune, Bethany McLean. She read the same reports that Chanos and Weil had, and came to the same conclusion. Her story, under the headline “IS ENRON OVERPRICED?,” ran in March of 2001. More and more journalists and analysts began taking a closer look at Enron, and the stock began to fall. In August, Skilling resigned. Enron’s credit rating was downgraded. Banks became reluctant to lend Enron the money it needed to make its trades. By December, the company had filed for bankruptcy.

Enron’s downfall has been documented so extensively that it is easy to overlook how peculiar it was. Compare Enron, for instance, with Watergate, the prototypical scandal of the 1970s. To expose the White House cover-up, Bob Woodward and Carl Bernstein used a source – Deep Throat – who had access to many secrets, and whose identity had to be concealed. He warned Woodward and Bernstein that their phones might be tapped. When Woodward wanted to meet with Deep Throat, he would move a flowerpot with a red flag in it to the back of his apartment balcony. That evening, he would leave by the back stairs, take multiple taxis to make sure he wasn’t being followed, and meet his source in an underground parking garage at 2 a.m. Here, from All the President’s Men, is Woodward’s climactic encounter with Deep Throat:

“Okay,” he said softly. “This is very serious. You can safely say that fifty people worked for the White House and CRP to play games and spy and sabotage and gather intelligence. Some of it is beyond belief, kicking at the opposition in every imaginable way.”

Deep Throat nodded confirmation as Woodward ran down items on a list of tactics that he and Bernstein had heard were used against the political opposition: bugging, following people, false press leaks, fake letters, cancelling campaign rallies, investigating campaign workers’ private lives, planting spies, stealing documents, planting provocateurs in political demonstrations.

“It’s all in the files,” Deep Throat said. “Justice and the Bureau know about it, even though it wasn’t followed up.”

Woodward was stunned. Fifty people directed by the White House and CRP to destroy the opposition, no holds barred?

Deep Throat nodded.

The White House had been willing to subvert – was that the right word? – the whole electoral process? Had actually gone ahead and tried to do it?

Another nod. Deep Throat looked queasy.

And hired fifty agents to do it?

“You can safely say more than fifty,” Deep Throat said. Then he turned, walked up the ramp and out. It was nearly 6:00 a.m.

Watergate was a classic puzzle: Woodward and Bernstein were searching for a buried secret, and Deep Throat was their guide.

Did Jonathan Weil have a Deep Throat? Not really. He had a friend in the investment-management business with some suspicions about energy-trading companies like Enron, but the friend wasn’t an insider. Nor did Weil’s source direct him to files detailing the clandestine activities of the company. He just told Weil to read a series of public documents that had been prepared and distributed by Enron itself. Woodward met with his secret source in an underground parking garage in the hours before dawn. Weil called up an accounting expert at Michigan State.

When Weil had finished his reporting, he called Enron for comment. “They had their chief accounting officer and six or seven people fly up to Dallas,” Weil says. They met in a conference room at the Journal’s offices. The Enron officials acknowledged that the money they said they earned was virtually all money that they hoped to earn. Weil and the Enron officials then had a long conversation about how certain Enron was about its estimates of future earnings. “They were telling me how brilliant the people who put together their mathematical models were,” Weil says. “These were MIT PhDs. I said, ‘Were your mathematical models last year telling you that the California electricity markets would be going berserk this year? No? Why not?’ They said, ‘Well, this is one of those crazy events.’ It was late September 2000 so I said, ‘Who do you think is going to win? Bush or Gore?’ They said, ‘We don’t know.’ I said, ‘Don’t you think it will make a difference to the market whether you have an environmentalist Democrat in the White House or a Texas oilman?’” It was all very civil. “There was no dispute about the numbers,” Weil went on. “There was only a difference in how you should interpret them.”

Of all the moments in the Enron unraveling, this meeting is surely the strangest. The prosecutor in the Enron case told the jury to send Jeffrey Skilling to prison because Enron had hidden the truth: You’re “entitled to be told what the financial condition of the company is,” the prosecutor had said. But what truth was Enron hiding here? Everything Weil learned for his Enron expose came from Enron, and when he wanted to confirm his numbers, the company’s executives got on a plane and sat down with him in a conference room in Dallas.

Nixon never went to see Woodward and Bernstein at the Washington Post. He hid in the White House.

4.

The second, and perhaps more consequential, problem with Enron’s accounting was its heavy reliance on