1. Enron Bankruptcy Philip B. Livingston, President and CEO Financial Executives International

2. Enron - Front Line Failure Failure rests 75% with the mgt team, 15% with the Board and 10% with the auditor Failure rests 75% with the mgt team, 15% with the Board and 10% with the auditor These events happen on the financial management front line These events happen on the financial management front line – Failed management teams that don’t have the backbone to do the right thing – Starts with small compromises and becomes a culture of aggressive accounting, then illegal coverup – The local audit partner doesn’t have the backbone to stand up to the client or walk away

3. Enron - What Happened? Bad investments in “new economy” ventures Bad investments in “new economy” ventures Off-balance-sheet entities created to eliminate losses from the ventures Off-balance-sheet entities created to eliminate losses from the ventures Rather than face the write-offs, they tried to hide them with accounting Rather than face the write-offs, they tried to hide them with accounting Many off-balance-sheet loans collateralized by Enron stock Many off-balance-sheet loans collateralized by Enron stock Opaque reporting encouraged short sellers Opaque reporting encouraged short sellers Form over substance in reporting Form over substance in reporting

4. Enron - What Happened? Self –dealing as CFO trading with the company in troubled assets Self –dealing as CFO trading with the company in troubled assets Corporate ego overwhelmed control systems Corporate ego overwhelmed control systems Restatements, corrections and new disclosures Restatements, corrections and new disclosures Collapse of confidence in reporting and integrity of management Collapse of confidence in reporting and integrity of management “Run on the bank” “Run on the bank”

5. Apparent Failures in Retrospect Arrogant corporate culture Arrogant corporate culture Finance and accounting staff largely recruited from Andersen – independence compromised Finance and accounting staff largely recruited from Andersen – independence compromised Opaque reporting posture with investors Opaque reporting posture with investors Special investigation by main legal counsel – not independent counsel Special investigation by main legal counsel – not independent counsel Andersen apparently consciously decided not to resign last year. They should have. Andersen apparently consciously decided not to resign last year. They should have.

6. Enron Fallout: Lots of Questions Opaque disclosure Opaque disclosure How could the CFO be at the center of conflict of interest concerns ? How could the CFO be at the center of conflict of interest concerns ? Was management conduct unethical? Was management conduct unethical? Where were the outside auditors? Where were the outside auditors? Where was the audit committee? Where was the audit committee?

7. Enron Fallout: Audit Committees Strengthening the requirements for financial experts on audit committees (we strongly support this) Strengthening the requirements for financial experts on audit committees (we strongly support this) Need financial expertise to understand increasingly complex issues Need financial expertise to understand increasingly complex issues Need to be proactive and engaged Need to be proactive and engaged Need to challenge management and the auditors Need to challenge management and the auditors

8. Enron Fallout: Possible Changes? FASB Reform FASB Reform – Time for a new body? – Time for new leaders? – Too slow – Not responsive to constituents and issues

9. Enron Fallout: New FASB Standards? Need for new Standards: Need for new Standards: – Consolidation of Special Purpose Entities “control”-based standard regarding SPE’s “control”-based standard regarding SPE’s – Determining fair value of forward contracts Rules for determining value where contracts are not traded or thinly traded. Rules for determining value where contracts are not traded or thinly traded.

10. Enron Fallout: Audit Profession New body, not the AICPA, as industry regulator New body, not the AICPA, as industry regulator Prohibit revolving door for audit partners – not employable w/ clients Prohibit revolving door for audit partners – not employable w/ clients Mandatory rotation of auditors? Mandatory rotation of auditors? Major increase in the level of audit firm PEER review work Major increase in the level of audit firm PEER review work Eliminating the ability of the auditors to do consulting for their clients Eliminating the ability of the auditors to do consulting for their clients

11. Other Possible Changes? Affirmative disclosure requirements Affirmative disclosure requirements Possible high-risk companies targeted for increased review Possible high-risk companies targeted for increased review – Forensic audits FEI implement true disciplinary procedure? FEI implement true disciplinary procedure? Analyst and rating agency reform Analyst and rating agency reform

12. Changes I Recommend Real prosecution needed for culprits Real prosecution needed for culprits Audit committees must have real financial experts Audit committees must have real financial experts Audit committees should adopt policy prohibiting hiring of auditor personnel 3-5yrs Audit committees should adopt policy prohibiting hiring of auditor personnel 3-5yrs Auditors must restore SKEPTICISM as the foundation of their fieldwork. No more “business partnering” mentality Auditors must restore SKEPTICISM as the foundation of their fieldwork. No more “business partnering” mentality Audit industry regulation must change to maintain confidence Audit industry regulation must change to maintain confidence High risk situations need more audit work High risk situations need more audit work A majority of Board members must be independent A majority of Board members must be independent

13. FEI’s Mission To be the preeminent association for financial executives and to: To be the preeminent association for financial executives and to:  Alert members to emerging issues  Develop the professional and management skills of members  Provide forums for peer networking  Advocate the views of financial executives  Promote ethical conduct

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