Nonprofit organizations have to know the events at Enron (which was the biggest bankruptcy in history in the time) in an effort to know what Congress was attempting to address relating to private corporations. Understanding why SOX was passed can let your organization to identify which issues will be relevant to its economic reporting. Inside the situation of Enron, a handful of executives had paid themselves millions in bonuses and had profitably sold their very own stock.
Personnel had been prohibited from promoting their Enron stock as its value plummeted given that of a routine blackout period. Through congressional investigations, it came to light that billions of dollars in losses had been kept off the books by hiding them in flimsy partnerships for which the chief economic officer (CFO) received significant commissions for forming. Amazingly, the board of directors had authorized each the partnership transactions plus the commissions to CFO Andrew Fastow (who later had to return the capital and got 5 years in prison). Big credit reporting agencies failed to determine the events major as much as the collapse of Enron. Moody’s Investors Service, Typical & Poor’s Corporation, and Fitch Rating Services all gave Enron good credit ratings a mere two and a half months prior to Enron filing.
The following omens that foreshadowed Enron’s implosion are also present today in many nonprofit organizations:
- Successive resignations of key management: On August 14, 2001, Enron CEO Jeff Skilling resigned after being inside the position only six months. On October 16, 2001, coinciding with a significant restatement of third quarter earnings, Enron announced that its CFO, Andrew Fastow, would also be replaced. SOX now requires corporations to report changes in management within four days after they occur. Many nonprofits have equally tumultuous turnover. For this reason, Senator Charles Grassley demanded an investigation into the abrupt departure of the Red Cross CEO earlier this year.
- Inaccurate and unreliable economic statements: On October 16, 2001, Enron announced third-quarter earnings that reflected an unexpected $544,000 earnings change and a $1.2-million change in stockholders’ equity (the value of the stockholders’ interest inside the company). On November 8, 2001, Enron further announced that it needed to restate its economic statements for the first and second quarters of 2001 and for the four years prior, 1997 through 2000. The grand total of overstated income was $586 million. This disaster was attributed largely for the fact that the economic statements had been audited by accounting firms that had been downright chummy with the management that they had been supposed to be auditing. Many nonprofits aren’t required to have audited economic statements, and no rules regulate the independence of their auditors when they do.
- Off-balance-sheet transactions to hide losses: A big factor in Enron’s eventual collapse was the use of so-called special purpose entities, which had been separate companies set as much as hide Enron losses. This arrangement ensured that the losses didn’t see the light of day on Enron’s books. Instead, the losses showed up on the statements of the special purpose entities. Nonprofits are vulnerable to similar type of manipulation given that organizations often have multiple separately balanced funds for different programs. Improperly allocating program funds caused the Red Cross to earn a rebuke from Senator Grassley after funds earmarked for 911 had been shifted to other programs.
- Lack of clear document destruction policies: On January 10, 2002, Enron’s audit firm, Arthur Andersen admitted to Congress that it had destroyed or shredded an undisclosed number of documents related to Enron’s use of special purpose entities to hide losses and related matters. In the time, no one within Andersen questioned or took steps to stop the shredding. Nonprofits often rely on volunteer administrative staff or staff members who are paid less than the going rate. Without document retention policies to guide these volunteers and staff members, valuable information can inadvertently be lost or easily obscured.
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