Conspiracy of Fools

by Kurt Eichenwald

  The task of putting together a sale was given to Amanda Martin; she and her team searched for bidders, but soon headaches emerged. The gas contracts for the plants had been struck with Enron at unreasonably high levels. No company would purchase the plants only to be gouged on fuel by the seller. The contracts had to be renegotiated.

  That, of course, meant trouble. Using its aggressive accounting, Enron had long ago booked the total, lofty value of the gas contracts as profit. Renegotiating them to reflect more reasonable prices meant decreasing their total worth. What mark-to-market had given, it would take away; the previous profits would become losses—as much as $100 million.

  Once she understood the dilemma, Martin reported her findings to Skilling. As she laid out the numbers, Skilling scowled. “I don’t want to take a loss,” he fumed.

  It’s not like there’s a choice here. “We have to take a loss, Jeff,” Martin replied. “Well, it better be small.”

  Skilling thought for a moment. Maybe there were alternatives. “I want you to get Cliff involved,” he said. “Fine,” Martin replied.

  “Have you met with the accountants?” Skilling asked. “Get them involved. If we have to take a loss, we have to be very careful when we take it.”

  Another idea. “I want you also to work with Andy’s group,” Skilling added. “See what they can come up with.”

  “All right.” Now Fastow was joining in; this deal would be like old-home week for Martin and her friends.

  Ken Lay hung up the telephone and sat in his office for a moment, trying to keep calm.

  Rumors had been circulating for weeks that Kinder had struck up a romantic relationship with Nancy McNeil, one of Lay’s most trusted assistants.*

  McNeil had been with Lay since Transco and had become a power unto herself, knowing almost everything that happened at the company. Lay had paid no mind to the allegations, but now some directors were calling with word they were hearing the same stories.

  The possibility infuriated Lay. This was just wrong for the company, he thought. Even though both Kinder and McNeil had filed to divorce their spouses, Lay believed it set a terrible example. Sure, Lay’s current wife, Linda, had been his secretary at Florida Gas. But they hadn’t started dating until months after he had moved on to Transco.

  The only way to deal with this is to confront it. Lay walked out to the hallway, heading to Kinder’s office. He nodded a greeting to Kinder’s secretary before walking in. Kinder was at his desk. Lay shut the door.

  “What can I do for you, Ken?”

  Lay stood over Kinder’s desk. “Rich, I’m getting word from people, including some directors, that you and Nancy are having an affair,” he said bluntly. “I need to know. Are you or are you not?”

  Kinder didn’t miss a beat. “No.”

  Lay paused, eyeing Kinder. “All right, I know these are rumors, but I wanted to check whether they’re true.”

  “They’re not.”

  “Fine. So I can tell anybody else, including the directors, that this is not true, and I’ll never have to worry later about finding out that it was.”

  “No, you won’t.”

  A flicker of hesitation. Lay excused himself, heading back to his office. He had his answer; he would call his directors and let them know Kinder had denied everything.

  Somehow, though, he feared it wasn’t the truth.

  Weeks later, Rosalee Fleming, one of Lay’s secretaries, pushed the “hold” button on her phone, got up from her desk, and crossed over to the doorway.

  “Ken, Sharon’s on the phone. Can you take the call?”

  Lay smiled. He loved hearing from his younger sister.

  “Sure,” he said. “I’ll pick up.”

  He reached for the phone and punched the button for the flashing line. “Hi, Sharon Sue.”

  “Hey, Ken. How are you doing?”

  The siblings chatted for a few minutes about their families. Then Sharon’s tone turned serious.

  “Listen, Ken, I just heard something last night that I thought I needed to share with you.”

  “All right. What did you hear?”

  Sharon spelled out an unpleasant story: She had been out to dinner with a few friends, including Nancy McNeil, the subject of the Kinder rumors. They had all been talking and just having a good time. And then Nancy had dropped a bomb.

  “Well, Nancy just starts telling us about what’s been going on inside the company,” Sharon said. “She said that the board was very unhappy with you. And she said they were kind of pushing you out so Rich could take over.”

  Lay listened to Sharon’s words, floored. This couldn’t be right. How could McNeil do something like that—in front of his own sister? Had she forgotten who Sharon was?

  “Now, Sharon, are you sure you heard her right? Maybe you misunderstood what she was saying.”

  “No, I talked to another person who was there, and she heard the same thing. That’s what she said.”

  Lay assured his sister that there was nothing to worry about. They talked for a few more minutes before saying their good-byes. Lay placed the phone back in its cradle.

  For a moment, he glanced out the wall of windows lining his office, turning his sister’s words over in his mind. He had heard rumors like this before—third-hand, fourth-hand. But there was no doubting Sharon.

  It all made sense.

  Kinder. It had to be Kinder. All the pieces fit. Rumors of the affair, McNeil talking down Lay and talking up Kinder. McNeil’s comments had to be what she was hearing from none other than Kinder himself, Lay thought.

  He had done so much for both Kinder and McNeil over the years, helping them with their careers, helping them find their way. And then this. This thankless thing.

  Hurtful. That was the right word for it. And just untrue. Kinder and McNeil didn’t know about the recent escapade with AT&T, or of the board’s efforts to keep him connected with the company. Anyone who knew would have understood that the story Sharon had heard was nothing more than fanciful.

  But nobody did. If he stepped down at year-end, Lay thought, rumors would devour him. People would think the board—his board—had kicked him out. No graceful exit, no dignity in departure. Just the stench of failure.

  Well, the board was on the fence. And thanks to the AT&T discussions, they already knew Lay was willing to stay. Maybe now he just might.

  Among top managers of Enron, Lay’s fury at Kinder was no secret, but few understood where it was coming from. Lay began quietly lobbying for the support of executives who had worked with him for years. He didn’t believe Kinder had the skills to represent the company, he told them. Would they, he asked, support him in that point of view?

  The managers agreed but weren’t happy about it. Lay and Kinder had been an awesome team. They had brought the company through tough times. They couldn’t help but wonder: would Lay, without Kinder, be as effective?

  The Río Piedras shopping district in San Juan was just coming to life, with shoppers peeking through store windows that beckoned with jewelry and knickknacks. It was 9:30 on the morning of November 14. Nearby, a van emblazoned with the name of the San Juan Gas Company, an Enron company, parked on the street. A technician climbed out, carrying a small gas detector with him, and walked to the shoe store on the first floor of the Humberto Vidal building.

  A store employee greeted the man, taking him to the building’s east side before heading down into the basement. The gas smell, the employee explained, was getting stronger each morning. Could there be a leak?

  The technician examined the basement for five minutes and found no problems. Then he turned on his portable gas detector. He waited for a minute.

  Nothing. No beep. No smell of gas in the basement. Everything was okay. The technician headed on his way, checking first with the office to give the all clear.

  But the technician was wrong. A decade before, a consultant to Enron had identified problems with the training of the San Juan safety personnel, but little had been done in
response. The gas company had been cited, year after year, for safety violations and was even sanctioned in 1994 for failing to fix the problem. The fine? Five hundred dollars.

  Now all the problems were coming together. The technician had not been properly trained to use the gas meter. It could only read changes in the level of gas in the air; for it to work, it first had to be turned on in a place with no gas, then taken to where a leak was suspected. And unless the area was brimming with gas, it would be hard to smell. For safety reasons, companies add a chemical to natural gas to create its recognizable odor. But Enron’s unit in San Juan long ago stopped using sizable amounts of the additive.

  Gas was leaking into the basement. But no one knew.

  ———

  The diagram in Michael Kopper’s hand was one of hundreds churned out, month after month, by Fastow’s finance group. Boxes and names, lines and numbers. All depicting structured deals that juggled around assets—power plants, cash, whatever—so Enron could present its prettiest financial face to the world.

  This one, though, was something new. Fastow and Kopper had spent weeks on a deal to help Enron dispose of its co-generation plants, the ones Amanda Martin insisted would create a huge loss when they were sold.

  But Fastow and Kopper had another idea. They were going to use the accounting rules and sell the plants to an entity created by Enron itself. Three percent of its capital would come from outside investors; the rest would be a loan from Enron. The entity would pay full price for the plants, with no renegotiation required for the inflated gas contracts. No renegotiation, no losses. It was the type of deal that no true independent buyer would accept; all the benefits went to the seller, all the problems to the buyer. The finance group was creating its own little world, where buyers worked hard to protect the interests of sellers.

  Kopper arrived in a conference room for a meeting with Martin’s deal team. They had already found a buyer, a company called Calpine, and weren’t all that eager to hear what Kopper had to say.

  He walked in looking little like a banker. His suit was dark and mod; his hair was spiky, a new style for him. Over a few minutes, he presented the proposal to Mark Miles, who worked with Amanda Martin. It struck Miles as strange; there were lots of moving parts, all somehow resulting in Enron’s avoiding a loss. It didn’t make sense.

  Miles took the proposal to Martin; she stared at it, trying to understand what she was seeing. Finally, she did.

  “That’s bullshit,” she said.

  The deal might look good in the reported financials, Martin said, but it was ridiculous. Enron would still have the risks of owning the things outright. The deal didn’t eliminate the loss; it just shoved it to the future, when falling gas prices might make it bigger. No matter what, at some point the high-priced gas contracts were going to have to be renegotiated. Fastow’s plan would increase Enron’s long-term exposure, all to avoid a quarterly loss.

  Not only that, the deal just smelled bad. How could Enron sell troubled assets to some entity set up by the company, for a price no real buyer would pay? Irrationality usually doesn’t fly with the legal and accounting rules. Worse, the whole purpose of Fastow’s deal was to cheat the partnership that owned the plant. Sure, Enron owned half of it, but the other half was held by Dominion Resources. Legally, Martin had to act in the partnership’s best interest. Doing Fastow’s deal would cost it huge sums in unnecessary fuel payments. She could be sued herself. Enron couldn’t just rip off its partners to avoid a loss.

  “Mark, just let them know,” Martin said, “I don’t think this is the direction we should be going.”

  The message was delivered. And in no time, Kopper returned, eager to argue his case. Martin was civil but didn’t trust Kopper. She considered him devious, somebody who would throw a fit if he didn’t get what he wanted. And this, she thought, was going to be one of those times.

  For several minutes Kopper walked through the deal, explaining it step-by-step. “The accountants are going to sign off on this. The lawyers will approve. It will work.”

  Martin didn’t buy it. “Michael, this is silly. It’s financial engineering versus a real deal.”

  “Everybody likes this,” Kopper responded. “Andy took it to Skilling, and Skilling really likes this deal. Causey’s fine with it. This is the deal we should do.”

  “Oh, come on, Michael,” Martin responded, pointing to the diagram. “What you’ve got there is a shell game.”

  She tapped the page as she spoke. “What we’re putting together is a real sale. We don’t have to worry about what happens in the future. We’ve taken our lumps, and we’re out of the picture. Versus your way, where we’re half-pregnant.”

  As the two kept talking, Cliff Baxter, who often wandered Enron’s hallways, walked in, returning from a cigarette break. He took a seat, listening to the debate.

  “Remember our mandate here,” Kopper said. “Skilling wants to avoid a loss, not renegotiate the gas contract. We’ve created a vehicle that lets him do that.”

  Baxter stuck out his chin. “Wait a minute,” he said. A barrage of questions followed. What do the accountants say? What do the lawyers say? How can that be?

  A pause. “I don’t like this one fucking bit,” he said. “It’s not clean.” After another few minutes Kopper quit trying. He was going back to speak with Fastow, he said. They were having a meeting with banks tomorrow about this very deal, and they were going to move ahead on it. Then he left.

  Martin and Baxter hung around for a few minutes. Martin argued her case, and Baxter agreed a real sale was the better deal; it was what was best for Enron. They felt confident that Fastow would come to accept that.

  In late November 1996, Kinder sat among Enron’s directors in the boardroom, trying to disguise his fury.

  The decision about Lay’s succession had come down to this—a private meeting with the directors. Kinder listened in disbelief as question after question signaled the board’s unwillingness to trust him with the company.

  Can you lead the development of new businesses? Can you attract talent? Any chance that we could talk you into staying put for one more year? Maybe two more years?

  Kinder fenced as best he could, but he was seething. Lead business development? Attract talent? Hell, he was the one who had pushed the creation of Enron’s trading and finance business. He had brought in Skilling and his bunch. All while Lay flew around the world, playing corporate ambassador with those mammoth international projects. Kinder was revenues; Lay was expenses.

  Still, Kinder could tell he wasn’t persuading the doubters on the board. Lay’s board. Lay could make it happen if he wanted to. He had sandbagged Kinder two years earlier, promising to step aside—then nothing. And now he’d been double-crossed again. The meeting broke up, and Kinder, fuming, went to see Lay.

  “How did it go?” Lay asked as Kinder walked in.

  “Terrible, Ken! It was terrible.”

  Kinder paced the room. “It doesn’t make any sense. Why are they having so much trouble signing off on me as CEO?”

  Lay offered a few words of advice, and soon Kinder walked out. Not long after, Skilling came up and sat with Kinder, watching as his boss’s wrath escalated.

  “That SOB is going to fuck me again,” Kinder growled. Skilling didn’t need more explanation. Kinder thought Lay had stabbed him in the back.

  “Look,” Skilling said. “What do you want me to do? I’m willing to go, if that’ll help.”

  Kinder fixed Skilling with a look.

  “I will absolutely support you,” Skilling continued. “You can go to Ken and say, ‘If you don’t make me CEO, I’m leaving and taking Skilling with me.’ ”

  The threat would be strong. But Skilling’s idea wasn’t Kinder’s style. If the directors wouldn’t give him what he wanted—what he deserved—so be it.

  “No,” Kinder said softly. “That’s not necessary. Let’s just see how this plays out.”

  The battle over the competing co-generation deals would
n’t end. Martin and her team couldn’t understand. Why were Fastow and Kopper pushing so hard? Why did they care?

  A summit meeting was held. Fastow and Kopper came downstairs, meeting with Martin and her deal makers. The two proposals were laid out.

  “Your deal isn’t any good,” Fastow announced. “It doesn’t avoid the loss. Skilling wants us to avoid the loss. Our deal does that. We should stop arguing and give Skilling what he wants.”

  With that, Fastow left. The meeting was over.

  At 8:30 on the morning of November 21 in San Juan, the bell signaling the end of first period rang out at La Milagrosa School, across from the Río Piedras shopping district. Children gathered up their books and packs.

  Across the street, next to the Humberto Vidal building, a technician with Enron’s San Juan Gas Company held his combustible-gas indicator up to a small hole his crew had just drilled in the pavement. The technician pumped a bit of air into the device and checked the gauge.

  Twenty percent. Way past the danger zone. The underground air was saturated with propane gas. He looked up at his crew and stepped forward onto a manhole cover.

  That same second, five floors up in the Vidal building, an air-conditioning contractor conducting monthly maintenance touched a switch to start the cooling system. An electric circuit closed, and a five-ton air-conditioning unit in the gas-filled basement sparked to life.

  The explosion was instantaneous and deafening. The first three floors of the building collapsed, falling into the basement. Store merchandise—underwear, sunglasses, a small doll smeared with blood—spewed into the street. The contractor was killed instantly. Outside, the gas technician was blown into the air. At the school, children screamed as shards of concrete and metal blasted through classroom windows. By the time the debris was cleared away, thirty-three people had died; sixty-nine had been injured.