The Enron Scandal & Ethics

by Walter Johnson; Updated September 26, 2017
Fingers Crossed

The 2001 Enron scandal gave business ethics a new lease on life. Enron, an energy firm in Texas, was considered an economic success story. Its stock had grown quickly, and the board of directors was satisfied with management. It was discovered, however, that management was keeping two sets of books, hiding billions of dollars worth of debt. Arthur Andersen, a major accounting firm, had been complicit in this deception and went down with Enron to business infamy. The scandal exposed the weaknesses in the American way of doing business.

The Board

One of the most important aspects of the scandal was the fact that the board of directors seemed uninterested in questioning management. Because profits and stock prices were going up, there was no real incentive to ask too many questions. The board viewed itself solely as the representative of the stockholders without any real obligation toward the general public or the employees of the firm. The big ethical issue is the role of the board in controlling management. Management seeks to enrich itself while the board seeks to enrich its stockholders. After the scandal, the role of the board in overseeing management has been reevaluated.

Conflict of Interest

The purpose of an auditing firm is to work with the board in checking the state of a firm's finances. It is supposed to act as the diagnostic eyes and ears of the stockholders. In Enron's case, however, Arthur Andersen was also a consultant to Enron. This meant that the auditors had an interest in the continued prosperity of the firm and, therefore, had no incentive to expose the fraudulent record books Enron kept. Again — so long as the money rolled in, and the board was happy, there was no incentive to blow the whistle.

Profits

Many firms struggle with the dilemma of pursuing short-term profits versus stable development. It was clear that Enron, once exposed, had chosen the former option. Stockholders, represented by the board, seek dividends or capital gains on their holdings. At least for the short-term, Enron made everyone happy: the auditors, stockholders, the board and the management. Short-term profits meant rising stock prices, and quick fortunes were made by all investors. Once the fraud was detected, the stock plummeted, and these quick fortunes were lost. A policy of stable, long-term development would not have necessitated the fraudulent accounting practices of Enron. The ethical issue here is the real purpose of the firm: Is it a profit-making machine or a stable, productive economic unit?

Legislation

The Enron scandal was the real cause of the 2002 passage of the Sarbanes-Oxley Act. This act sought to eliminate the conflict of interest between auditors and firms. It empowered the federal government to create its own auditing boards and commissions that exist to make sure such collusion never happens again. Executives in all firms, according to the act, are to take total, personal and financial responsibility for the accuracy of all financial reports made available to the pubic and stockholders.

About the Author

Walter Johnson has more than 20 years experience as a professional writer. After serving in the United Stated Marine Corps for several years, he received his doctorate in history from the University of Nebraska. Focused on economic topics, Johnson reads Russian and has published in journals such as “The Salisbury Review,” "The Constantian" and “The Social Justice Review."

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