Kenneth Lay was accused by the government Thursday of playing an active role in the accounting fraud that led to the collapse of Enron, the company he founded and helped run for 15 years.
The allegations, contained in separate criminal and civil cases coinciding with Lay’s arrest in Houston, contrast sharply with his image as an aloof corporate figurehead whose lax oversight allowed a cadre of top executives to run amok.
Lay surrendered to federal authorities and pleaded innocent to an 11-count indictment that alleged the now-familiar litany of fraud and conspiracy charges that have been leveled against most of Enron’s former senior management. The 62-year-old Texan faces the possibility of decades-long incarceration if convicted.
“I have done nothing wrong,” Lay said in a statement released after his arrest. At a subsequent press conference, he blamed the scandal on former chief financial officer Andrew Fastow, who has already pleaded guilty in the case.
“My worst mistake was entrusting someone in the chief financial officer job who chose to use that position for his own enrichment,” Lay said. “But that’s with 20-20 hindsight. I knew nothing at the time that would’ve given me suspicion as to what was going on.”
A separate civil complaint released by the Securities and Exchange Commission said the government will seek the return of $90 million Lay pocketed by selling Enron stock, plus other penalties. Together, the cases paint a new picture of Lay as a hands-on conspirator who lied and cynically unloaded shares while tens of thousands of employees and shareholders saw their lives ruined by the company’s insolvency.
Enron, once the seventh largest company in America, declared bankruptcy in December 2001 after a series of debt downgrades made it impossible to pursue its main business of energy trading. More than two dozen other employees face charges they helped think up and implement the phony accounting that lifted the stock close to $100 in the months before it became virtually worthless.
“As Enron’s chairman and chief executive, Lay was an engaged participant in the ongoing fraud, and must therefore be called to account for his actions,” the SEC said in a release.
As it has in previous proceedings against former CEO Jeffrey Skilling, former Chief Accounting Officer Richard Causey and Fastow, the crux of the government’s case against Lay rests on the theory that his public statements about Enron were at odds with his knowledge of the company’s true financial condition.
Much of the case against Lay stems from the period after Skilling abruptly left Enron in August 2001, just months before it was forced to reveal its complex array of off-balance-sheet structures. The indictment uses Lay’s own words against him. In particular, it focuses on statements Lay made during the fall of 2001, in which he tried to reassure investors and Enron employees that everything at the company was fine.
“During 2001, with specific knowledge of rapidly deteriorating performances of Enron’s business units, Lay made numerous false and misleading public statements about Enron’s financial condition,” the SEC complaint alleges.
Lay was alleged to have been aware of massive losses in a subsidiary he nevertheless touted as part of the company’s Wall Street growth story, Enron Energy Services. He is also alleged to have known that those losses, which amounted to a business “failure,” were being shifted into the company’s more profitable wholesale energy unit to deceive the public.
“As Lay and others knew, Enron Wholesale had ample earnings to absorb the EES losses, while at the same time continuing to meet its own internal budget targets,” the complaint states. “Lay made the false and misleading statements to persuade investors that Enron’s profitability would continue to grow, to maintain credit ratings, to influence investment analysts, and to prop up the share price of Enron stock.”
Philip Hilder, a former federal prosecutor and the attorney for would-be Enron whistleblower Sherron Watkins, says Lay probably will not succeed in getting his trial severed from that of Skilling and Causey. He says Lay would have a hard time showing that would be unduly prejudiced by being tried with the other defendants.
The indictment of Lay marks the final step in a march up the corporate ladder that began in August 2003 with a guilty plea from Michael Kopper to money-laundering and conspiracy charges. Kopper was the right-hand man to Andrew Fastow, the former Enron chief financial officer, who masterminded the off balance sheet accounting tricks used to inflate earnings and hide its assets.
The indictment is also a rebuke to critics who said prosecutors would never touch Lay, who refused to testify when called before Congress shortly after Enron filed for bankruptcy in December 2001. Lay asserted his Fifth Amendment right against self-incrimination and has said little since. He claims to be innocent of criminal wrongdoing in the storied collapse.
Lay’s armor cracked earlier this year when prosecutors reached a plea agreement with Fastow. That led to the indictment of Richard Causey, Enron’s former chief accounting officer. Soon after, Skilling was added as a defendant in a superseding indictment. Both Causey and Skilling have pleaded not guilty to the charges.
Federal authorities contend that both Skilling and Causey knew by the fourth quarter of 1999 that Enron was not meeting its budget targets and that the company only appeared to be profitable because of the many schemes they and others concocted to juice reported earnings. The two men specifically are charged with concealing large losses in two of the company’s divisions: Enron Broadband Services and Enron Energy Services.
The SEC, meanwhile, has charged Skilling with selling Enron stock while in possession of material, nonpublic information, generating unlawful proceeds of about $63 million.
Last November, a special examiner in the Enron bankruptcy proceeding concluded that both Lay and Skilling most likely knew some of Enron’s financial officers were misusing the company’s array of off balance sheet entities and providing the public with misleading financial information.
The examiner suggested that Enron’s former top managers might have to repay loans to the fallen oil and gas trading firm. Between May 1999 and October 2001, Lay borrowed more than $94 million from Enron and repaid it with company stock. In May 1999, Skilling repaid $2 million with Enron stock
The Enron corporate fraud is notable because it goes beyond a mere accounting scandal that catches a few rogue executives.
To date, a number of investment bankers, including three former Merrill Lynch (MER:NYSE) bankers, were charged with aiding and abetting the company’s fraud.
The SEC also has levied steep fines against Merrill, Citigroup (C:NYSE) , J.P. Morgan Chase (JPM:NYSE) and Canadian Imperial Bank of Commerce (BCM:NYSE) for their role in helping to finance Enron’s shady accounting schemes.
Enron’s former auditor, Arthur Andersen, was forced to close its doors after a federal jury convicted the giant accounting firm of an obstruction of justice charge early on in the investigation.