Conspiracy of Fools

by Kurt Eichenwald

  He was terrified. What if he failed? Would his lawyers drop him as a client?

  “Are you concerned that you might fail this test?”

  “Yes,” Skilling replied.

  After a minute, Minor asked the first relevant question. “While president of Enron, were you aware of any improper financial arrangements that were concealed from the board of directors?”

  “No,” Skilling replied.

  Over two separate tests, Skilling was asked questions about his own and Enron’s finances. Repeatedly, he replied that he had done everything properly, taking only money that had been approved by the board and always believing the accounting for the partnerships was correct.

  Minor made a few more marks on the paper, then stopped the machine. “Thank you very much,” he said.

  Skilling hesitated. “How did I do?” he asked.

  Minor began removing the wires and tubes. “I’ll communicate with your lawyers tomorrow with my written conclusions,” Minor said. Oh, God. He failed. He knew it.

  Skilling put on his shirt as Minor left. In minutes, he headed to another room where his lawyers were waiting. He pushed open the door. Members of his team, Hiler and Elizabeth Baird, were waiting for him. Baird grinned.

  “What?” Skilling asked. “What are you smiling at?”

  “He told us you were telling the truth, with no attempt to deceive,” she said. “Congratulations.”

  Skilling sighed and lowered his head onto the table.

  “Oh, thank you, God,” he said.

  With the polygraph completed, three of Skilling’s lawyers accompanied him the next morning to the SEC’s Washington offices, where he would testify. Nine SEC lawyers, accountants, and other staffers were there. Skilling sat in the middle, watching Christopher Cutler, the SEC attorney who asked most of the questions.

  “Mr. Skilling,” Cutler asked, “when did you join the Enron Corporation?” Skilling sniffed. “August 1, 1990,” he answered.

  The interview went on for two days. On the second morning, at 9:40, Cutler went back on the record. He picked up a document—the presentation made by Fastow to his LJM2 investors in the fall of 2000—and handed it to Skilling. As he flipped through it, a number jumped out at him on page 20. It was the internal rate of return, or IRR, that LJM2 had obtained from the Raptors. And it was huge.

  Skilling held up the document. “I would like to start out by saying that this is an interesting document.”

  He pointed out the column he had been studying. “The numbers, the current IRR and the projected IRR number, for a number of these transactions would strike me as being totally not understandable,” he said.

  If he had seen this document, Skilling said, he would have demanded that Fastow provide proof that LJM2 took sufficient risk to justify the huge returns. And he would have given him twenty-four hours to come up with it.

  It was the closest Skilling had ever come to suggesting that Fastow might have cheated the company.

  At about that same moment in Houston, three staffers from the House Energy and Commerce Committee, including Mark Paoletta and David Cavicke, were being escorted into a conference room on the forty-ninth floor of the Enron building.

  The congressional competition was on. Numerous committees were scrambling to put together hearings on Enron. In a perfect world, the Energy and Commerce hearings would have been held in December, but they had already given up on that idea as unrealistic. There were too many documents to review, too many people to question.

  Today, the staff was beginning that process. For days, Paoletta had been on the phone with Enron, trying to arrange for interviews. Finally, Enron had agreed to make McMahon, the new CFO, available for a few hours in Houston.

  The men found their seats. Minutes later, McMahon, accompanied by Enron lawyers, swooped in. He made no effort to hide his impatience. His company had filed for bankruptcy four days ago, and now he was being forced to waste precious time. The congressional staffers, for their part, bridled at what they saw as McMahon’s haughtiness.

  “All right,” Cavicke said. “I want to start off asking you about Enron’s book of derivatives.”

  McMahon was clenching his teeth. Two hours into the interrogation, Cavicke was pressing him about the Rhythms hedge and the defects that led to the Swap Sub restatement.

  “Look, I know what’s in the 8-K,” McMahon said sharply. “This transaction was done years ago. I didn’t play any role in this. I really don’t know the details.”

  Cavicke bristled. “You are the CFO of this company,” he said sharply, “and you don’t know the answer?”

  “I’ve been the CFO for six weeks!” McMahon snapped back. “And I’ve been kind of busy.”

  “Well, what was the due diligence that Enron did in respect to this transaction?”

  “I don’t know.”

  The discussion veered into a recounting of the board meetings where LJM1 had been approved. What had McMahon thought about it at the time?

  “I was bothered by the conflict and surprised that the board approved it,” he replied.

  For another hour the staffers hit him with more questions. What about the financial incentives to managers? Explain Chewco. Tell us about Michael Kopper.

  One question came close to the mark. “Was there a whistle-blower letter relating to Swap Sub?”

  To Swap Sub? There was the Watson letter relating to the Raptors and Condor. But they didn’t ask about that.

  “Not that I’m aware of,” McMahon replied.

  At the end of the interview, the House staffers weren’t quite sure what they had. McMahon, they thought, hadn’t been very helpful; his information had been scant.

  They didn’t realize how close they had come to the mother lode. McMahon had volunteered nothing that wasn’t specifically requested, and they hadn’t asked the right questions. So he didn’t mention the bankers complaining of pressures to invest in Fastow’s deals, or his efforts to get Skilling to rein things in, or the Watkins letter.

  It would take weeks for those details to emerge.

  The next day, Ken Lay sat waiting in the office of a Vinson & Elkins partner, ready for his secret meeting. Weeks before, after the first of a wave of shareholder lawsuits were filed, he had hired civil lawyers to represent him. But now things had entered a new dimension.

  Prosecutors in several U.S. attorneys’ offices had started investigating the company’s collapse—in Houston, San Francisco, and New York, just to name a few. Lay was the executive at the top of the heap. He needed to be prepared.

  A lawyer told him that the expected guest had arrived. Lay walked into an adjoining conference room. There, a white-haired man with a cherubic face was waiting. It was Mike Ramsey, one of Houston’s best-known criminal lawyers.

  Lay thrust out his hand. “Hi, Mike. How are you?”

  The criminal defense of Ken Lay had begun.

  David Duncan was sitting behind his desk at the Andersen offices, lost in thought as he looked through his office window, watching the downpour outside.

  A partner in the Houston office, Emily Madison, dropped in. She was helping Andersen comply with subpoenas and had come to ask Duncan a few questions. He answered in a flat voice. He turned to look back out the window.

  “You know,” he said softly, “I guess I just didn’t realize what my job was out here.”

  On the morning of December 12, Congressman Richard Baker pounded a gavel. It was the first congressional hearing into Enron’s collapse ten days earlier. But what the hearing—sponsored by two subcommittees of the House Financial Services Committee—accomplished in speed, it sacrificed in detail; no Enron executive would testify, and few of the principals had even been interviewed at length.

  After taking a moment to criticize Lay for choosing to attend a proceeding in bankruptcy court rather than appear at the hearing, Baker turned the floor over to the ranking Democrat, Paul Kanjorski of Pennsylvania.

  “Thank you, Mr. Chairman,” Kanjorski said. “Today’s
hearing will help us understand at least some of the factors that contributed to the downfall of Enron.”

  While he had not reached any conclusions about the events, Kanjorski said, there were certain issues of great concern that he had already identified.

  “I would like to learn more about the serious financial harm done to thousands of Enron employees,” he said. There had been press reports, he said, that employees had been blocked from selling shares in their retirement plans as the company careened into bankruptcy.

  “Those hard-working Americans had to watch helplessly as their savings shrank without any recourse, while Enron’s executives could apparently sell their stock options and avoid the financial pain,” he said. “That is wrong.”

  The first myth about the Enron fiasco was taking root. For years to come, the story would be repeated endlessly, in tones of righteous indignation. The greedy bigwigs at Enron had blocked the rank and file from selling their Enron shares, perhaps in a bid to slow the stock collapse.

  But the story was false. In reality, over just five days, circumstance had prevented Enron employees, including senior officers, from slightly decreasing a loss of $3.83 a share in their retirement accounts. And when the chance came to sell, many bought. But in the public consciousness, heart-stirring mythology won out over lackluster fact.

  The hearing lasted most of the day. Just before the afternoon, a tall, gangly man with a slick of black hair joined others at the witness table. It was Joe Berardino, Andersen’s chief executive, who had volunteered to testify.

  Baker nodded slightly toward Berardino. “Before I recognize you for your comments, Mr. Berardino, I just want to, by way of personal acknowledgment, express my appreciation to you and the manner in which you have responded to the committee,” he said. “I wish all officials who had similar participation in the issues before the committee had exercised your judgment.”

  Relief swept over Berardino. A good beginning. “That’s very kind of you, Mr. Chairman,” he said.

  He glanced down at his prepared text. “I’m here today because faith in our firm and the integrity of the capital markets has been shaken,” he began.

  It was imperative, he said, for the causes of Enron’s downfall to be understood, so that actions could be taken and policies adopted to restore public confidence.

  Defects with two special-purpose entities had forced Enron to restate its financial results, he said. He didn’t divulge the names, but he was referring to Chewco, which was undone by the reserve account, and Swap Sub, which didn’t have the capital to be treated as independent.

  “Of the larger of these, which was responsible for 80 percent of the SPE-related restatement, it appears important information was not revealed to our team,” he said, referring to the Chewco side deal.

  He looked up at the faces of the congressmen on the panel. “We have notified the audit committee of possible illegal acts within the company,” he said.

  The next morning, Causey stormed down a hallway on the fiftieth floor, carrying a copy of the morning newspaper. Near his doorway, he veered left, heading into McMahon’s office.

  “Can you believe what Berardino said?” he fumed. “They told the board about illegal acts? I never heard that. Ever.”

  McMahon squinted at Causey, puzzled. “Well, do the minutes reflect anything like that?”

  “No!” Causey shot back. “And Lay said they were never told by the auditors about illegal acts.”

  McMahon paused for a second. “So what are you telling me? That he lied to Congress?”

  Causey shook his head. “I don’t know,” he said. “He certainly didn’t tell the facts.”

  Berardino hadn’t lied, but he had been mistaken. The team that had drafted his comments had, in fact, not been aware of many of the details of the Chewco transaction and the events that followed the discovery of the side deal.

  So while several accountants had concluded that the hidden reserve accounts might constitute a crime, David Duncan never formally conveyed those suspicions to the audit committee, a group he appeared before on November 18, fifteen days after the discovery of the secret deal.

  Andy Fastow had fled the country. Maybe to Israel, possibly to Brazil. The rumor rocketed rapidly around Houston and Washington and in no time turned up in news reports.

  There were good reasons to believe it. On November 14, Fastow had been subpoenaed to give testimony to the SEC. But on the agreed-upon day, Fastow didn’t show. The SEC had gone to court, asking a judge to compel his appearance. Ken Johnson, a spokesman for Energy and Commerce, added fuel to the fire by stating that House investigators couldn’t find him.

  Simply denying the rumor would do little to convince a skeptical public, Fastow’s lawyers realized. So on the afternoon of December 12, David Boies, a topflight litigator who at that point was leading the defense, called a press conference at his Manhattan offices. Once the reporters were settled, Boies strode into the room, followed by Fastow. The two men took seats behind a table cluttered with reporters’ microphones.

  Fastow, wearing a gray suit and a red tie, smiled wanly. Boies addressed the crowd. “There have been increasingly over the past twenty-four hours a variety of reports that Mr. Fastow was not available,” he said. “He has not fled the country. He is going to respond to inquiries. He will provide documents.”

  Fastow sat still, looking ill at ease. Reporters began pressing questions, and Boies fielded them all, refusing to let Fastow speak. The mood in the room grew testy; couldn’t Fastow say anything? Boies turned to his client and prompted him.

  “Hello,” Fastow said. “I wish you a happy holiday season, and thank you for coming.”

  And that was it.

  At nine on the morning of December 14, Lay’s secretary notified him that Joseph Berardino was on the line. Lay leaned over his desk and picked up the phone.

  “This is Ken Lay,” he said.

  “Hi. Joe Berardino.”

  Lay’s lawyers had instructed him days before on what to say when the time came for this conversation.

  “I appreciate the call,” he said. “But I’ve been advised it’s not wise for us to discuss this matter. I regret that, but that’s where it is.”

  Berardino poked around a little bit, trying to see if he could get some sort of dialogue going.

  “Joe, I’m sorry,” Lay said. “I can’t do this.”

  A minute later, the two corporate chieftains, each trying to smother the flame of scandal licking at his feet, bid one another a polite good-bye.

  Fastow walked through the doorway of Michael Kopper’s house. The two had been speaking on and off during the unfolding debacle at Enron. But now, on this day in December, they knew the magnitude of what was unfolding. There were investigations, both criminal and civil. They needed to be sure their story was straight.

  There was one thing particularly worrying Fastow, a single transaction that he feared posed the greatest threat to him. He looked at Kopper.

  “Now you know,” Fastow said, “I never received any money from RADR.”

  RADR. Their first successful crime together. The one that had resulted in Kopper funneling huge sums of cash from front investors to his boss. Fastow’s statement now was a lie. Kopper knew it. He understood.

  “Yes,” he said.

  He was the first major player in the door, the first Enron executive promising to tell criminal investigators everything he knew. He agreed to testify for immunity.

  A secret meeting was arranged between the FBI and the executive. It was an event known in law enforcement as “queen for a day,” when a potential defendant could come in and spill his guts to the government, in hopes of striking a deal. If prosecutors didn’t like what they heard, the statements couldn’t be used as direct evidence.

  For hours that December day, the FBI agents threw questions at the executive. The answers were always pretty much the same: sure, there were suspicious things he had seen, but he had never committed a crime, never done anything that
wasn’t on the up-and-up.

  The interview ended, and it didn’t take long for the government to reach its conclusion. As far as prosecutors and agents were concerned, Ben Glisan was lying.

  “How come we’re not defending the company!” John Duncan shouted. “How come we’re not defending the board!”

  Duncan, the head of the board’s executive committee, was on the phone with Kean and Palmer, the executives running Enron’s communications strategy. The news stories were just terrible, he said. They never gave Enron’s side. How come Enron wasn’t putting up more of a fight?

  Kean responded. “John, there’s not a lot we can say, because we don’t know the facts. We’ve got Bill Powers’s investigation that’s going on to reveal the facts.”

  “Bill Powers!” Duncan shot back, furious. “Bill Powers does not represent the company. I don’t know what he’s going to say. It could be terrible! I just want to know who is going to defend the company!”

  Finally, after several minutes, Duncan calmed down. “Listen, I know this is impossible for you guys. I just needed to get that off my chest. It’s so frustrating.”

  The wheels were coming off the Enron criminal investigation. With so many prosecutors’ offices involved, different and often conflicting demands for evidence were being delivered to the company from all over the country. Nobody was in charge of an overall strategy.

  Then, a key player in the probe dropped out. The U.S. attorney’s office in Houston withdrew, ruling that too many of its top prosecutors were conflicted in a case involving what had once been the city’s premier corporate citizen.

  By that time Robert Bennett—the Washington super-lawyer with Skadden, Arps, Slate, Meagher & Flom who had represented former President Clinton—had begun working on Enron’s behalf. And his first task was simple: get the prosecutors to decide who was running the show.