One-time financial and energy giant Enron Corp. filed for Chapter 11 bankruptcy protection Dec. 2 and sued former suitor Dynegy Inc. for $10 billion for alleged breach of contract for terminating a last-minute merger. The filing is the largest-ever US Chapter 11 filing, in which Enron listed $31.1 billion in liabilities, excluding off-balance-sheet transactions, and $50 billion in assets.
Up until 6 months ago, Enron was the top US natural gas and power trader with $1.3 billion in profits and $100 billion in revenue in 2000. But in a stunning reversal of fortune, the company reported a third quarter loss and a $1 billion reduction in shareholder equity that was linked to questionable off-balance-sheet deals. Investors fled the stock, the value of which collapsed last week to less than $1/ share. The company's stock traded as high as $90/share earlier this year.
While the US government is not expected to rescue the world's largest energy marketer from almost certain financial ruin, policy-makers are facing increasing public pressure to find out how the collapse happened and make sure it doesn't recur in the energy sector or elsewhere.
Bankruptcy filing
The bankruptcy filing, filed in the Southern District of New York, seeks to reorganize Enron, which has billions of dollars in debt. Some observers had feared the company could be forced to liquidate under Chapter 7.
The bankruptcy protection filing affects 14 affiliated entities, including Enron Corp., Enron North America Corp., Enron Energy Services, Enron Transportation Services, Enron Broadband Services, and Enron Metals & Trade.
The filing doesn't affect some of the company's core businesses, including Northern Natural Gas Co., Transwestern Pipeline Co., Florida Gas Transmission Co., Portland General Electric Co., EOTT, and various international entities, the company said.
Enron Chairman Ken Lay said last week that the past few weeks' uncertainty has "severely" hurt market confidence in the company, but the steps taken would help preserve capital, stabilize the business, restore the confidence of counterparties, and improve the company's ability to pay creditors.
Enron said it would continue discussions to raise money and recapitalize the company under a new ownership structure. It has proposed providing traders and back-office services to the new entity, which would conduct counterparty transactions through EnronOnline, Enron's existing trading platform.
The deal would require the court's approval, but Enron Pres. Greg Whalley said the company will make an effort to keep employees key to the future success of the company's wholesale energy trading business. "We understand that it may take time for counterparties to resume normal trading levels with this entity, but we are confident that this business can be put back on solid footing," he said.
Dynegy pullout
As expected, Enron's lawsuit also asks the court to declare that Dynegy is not entitled to exercise its option to acquire an Enron subsidiary that indirectly owns the Northern Natural Gas Pipeline.
Dynegy Chairman Chuck Watson said the company intends to exercise its option obtained under the $9 billion merger agreement and warned Enron not to put the pipeline company into bankruptcy. Dynegy backed out of its Nov. 9 merger agreement on Nov. 28, shortly after credit rating agencies began downgrading Enron to below an investment-grade ranking (OGJ, Dec. 3, 2001, Newsletter, p. 5).
Dynegy's Watson said Enron had three problems that doomed the merger deal between the two Houston companies, including a short-term cash crunch, a weak balance sheet, and almost no participation from Enron's management team.
Responding to Enron's filing of a $10 billion lawsuit alleging wrongful termination of the merger agreement, Watson said the lawsuit was "no surprise." He called it another way Enron had "failed to take responsibility for its own demise."
Watson said the merger was terminated after Dynegy determined that the standard clause concerning adverse material conditions had been violated. He said there was rapid deterioration of Enron's cash position. "We expected cash balances to be $3 billion on Nov. 16," he said. "On Nov. 16 it was $1.2 billion. They burned through $1.5 billion in 3 weeks."
Enron's short-term liquidity continued to deteriorate sharply even after the merger was announced. Watson said Enron's chief financial officer and its treasurer couldn't explain where the cash went.
"That destroyed the credibility and that killed the deal," he said.
There was also a startling revelation in information filed with the Securities and Exchange Commission Nov. 19 that $690 million of debt was accelerated because of a ratings downgrade, Watson said during a conference call. By Nov. 23, he said, it was clear that Enron's core energy businesses were effectively shut down in North America and Europe and that the company needed several billion dollars more in immediate liquidity.
Watson explained Dynegy tried to restructure the merger terms to save the deal. He said Dynegy was willing to come up with one third of the liquidity in a proposed $3 billion liquidity package.
"The liquidity needed fixing, and the long-term balance sheet needed to be restored," he said. "Dynegy's management team pursued plans to integrate the companies. But Enron's team refused to participate. Dynegy management was not allowed to talk to employees or their management team."
Credit obtained
Two New York banks agreed to put up $1.5 billion to help keep Enron afloat while the company attempts to reorganize under Chapter 11 bankruptcy.
The Dec. 3 announcement came just hours after Enron laid off 4,000 of the 7,500 employees at its Houston headquarters. The remaining 3,500 workers were sent home for the day and were to return to work the next day.
Under the agreement with Citigroup and JP Morgan Chase, Enron will receive $250 million immediately to supplement existing capital and help the company fulfill other obligations, including the employee payroll. Enron said the funding will be syndicated and is secured by substantially all the company's assets.
An additional $250 million will be made available as soon as the company provides lenders with a "satisfactory" business plan, Enron said in a statement.
Enron would get another $1 billion after certain conditions are met, including the entry of a final order and the completion of syndication. The company said the remaining $1 billion balance will be used in part to repay $550 million of the existing indebtedness of Transwestern Pipeline.
Lay said that, with interim financing in place, the company can implement the first steps of its reorganization. "We appreciate the support of our lenders and are fully committed to meeting our obligations to our creditors as best we can," he said.
The company also said US Bankruptcy Judge Arthur Gonzalez approved motions to pay post-petition vendor obligations and $4,500 for each laid-off employee. Enron warned of substantial forthcoming employee reductions following the Chapter 11 bankruptcy petition filing.
Gonzalez scheduled a Jan. 7 hearing to approve the debtor-in-possession financing plan. Meanwhile, Enron has said the company also is negotiating to line up other financial partners to resume active trading. Its huge trading operation was virtually shut down after the company's credit rating was downgraded to junk status in late November.
The company's energy trading counterparties have since rushed to distance themselves from Enron. Fitch Inc. said last week that Enron's trading business has been heavily damaged by the loss of cash, credit, and customers during the past several weeks.
Pipeline dispute
Enron and Dynegy last week remained locked in a bitter dispute over ownership of Enron's largest pipeline, Northern Natural Gas.
As one of its core businesses, the pipeline group was excluded from its bankruptcy protection filing. "The transportation business is open and operating as usual," Enron said last week in a statement.
Enron asked the court to reject Dynegy's claim to the 16,500-mile NNG system, which extends from Texas to the Great Lakes region. In a lawsuit filed in a Harris County district court Dec. 3, Dynegy asked a judge to enforce a deal awarding the pipeline to Dynegy in exchange for $1.5 billion in cash, under terms of the now-terminated merger agreement with Enron.
Dynegy claimed it should receive the pipeline in exchange for the cash infusion that its major stakeholder, Chev- ronTexaco Corp., contributed to the proposed deal. Dynegy said it has the right to take possession of the pipeline in 2 weeks.
Dynegy's Watson admitted during a conference call early last week that it might be as long as 6 months until Dynegy gets the "keys" to the pipeline because both of the sparring companies claim it. "We have protected the pipeline economically, even if we can't get immediate possession," Watson said. "It's irritating when we have a clear right to the pipeline."
If Dynegy wins possession of the pipeline, it would also take on an additional $950 million in debt, including a $450 million cash infusion extended to Enron recently by an investment bank and collateralized by the pipeline.
Enron said that as soon as it receives debtor-in-possession financing, the company will be able to "fulfill obligations associated with operating its business, including its employee payroll and payments to vendors for goods and services."
The NNG system has a maximum capacity of 4.3 bcfd. Transwestern, with 1.7 bcfd of capacity, serves California from the San Juan, Permian, and Anadarko basins. Florida Gas has current capacity of 1.5 bcfd with expansion plans for 600 MMcfd. Total throughput for the system in 2000 was 9.13 bcfd.
The pipeline group contributed $391 million to Enron's income before income taxes in 2000. Besides the utility Portland General Electric, which is being sold, the pipelines contributed more to earnings than any other Enron segment, excluding the marketing and trading group that is now essentially shut down.
Hearings held
Two congressional committees are holding hearings to investigate what went wrong at Enron. The administration of President George W. Bush is considering further administrative reviews, possibly through an interagency task force, government and industry sources said.
Federal courts are also bracing for thousands of lawsuits surrounding the financial mess, from former clients, shareholders, and employees who allege the company engaged in fraudulent accounting to shield mounting losses.
On Capitol Hill, the House Committee on Energy and Commerce and the Senate Committee on Energy and Natural Resources both said they will hold hearings next year on the Enron collapse.
Meanwhile, policy-makers also expect hearings in committees that handle banking issues because of concerns over financial management. In addition, labor committees in the House and Senate may investigate how the stock collapse has affected employee 401(k) accounts.
Analysts say the financial exposure to shareholders and former clients could be nearly $20 billion, although the actual figure will become clearer after an anticipated bankruptcy filing.
Lawmakers say a primary motivation for conducting hearings is to analyze what happened in order to avoid more Enron-type collapses at a time when the US economy is in recession.
Analysts said the timing of Enron's decline was fortunate. It had a modest, temporary impact on energy markets because the recession and weather conditions dulled energy demand and drove prices down.
If markets had been tighter, as they were last summer, Enron's problems would still have been temporary but could have reverberated longer as gas and electric markets adjusted to the shortfall. Yet even last year the market would have rebounded, analysts say. That's because although Enron was the world's largest power and gas trader, it managed less than 20% of the transactions in either market.
The Federal Energy Regulatory Commission, which oversees gas and electric wholesale markets, said it will continue to monitor the situation but has said there is no need to regress to a regulatory structure that limits competition.
Rather than blaming open markets for Enron's problems, policy-makers are hoping to zero in on the role independent accounting firms play in verifying a company's financial position to its shareholders and federal regulators, US officials said.
Early warning signs
Even before the proposed merger between Dynegy and Enron fell through late last month, there were signals Congress would pursue its own investigations beyond the Securities and Exchange Commission inquiry.
US Rep. John Dingell (D-Mich.), ranking member of the House energy committee, last week urged an accounting oversight group to determine if the Andersen consulting firm, formerly Arthur Andersen LLP, violated conflict of interest rules when it audited Enron.
"This problem is not limited to Enron. There are likely other ticking time bombs out there with smoke-and-mirror earnings. Our accounting and auditing system and its oversight are seriously broken and need immediate reform," Dingell said.
He alleged Andersen may not have wanted to disclose accounting irregularities because it also had large consulting contracts with Enron (OGJ Online, Nov. 21, 2001). Andersen has denied any wrongdoing.
When bankruptcy was imminent in late November, other lawmakers stepped in. House energy committee Chairman Billy Tauzin (R-La.) said there is no reason why the government should bail out Enron. But in the days following his statement, Tauzin directed his legal staff to investigate why Enron fell apart. Hearings are expected next year. Dingell is expected to pursue why federal regulators did not catch the problems sooner.
On the Senate energy committee, chairman Jeff Bingaman (D-NM) plans hearings that will focus on the importance of financial data transparency and competition in gas and electric markets.
Nevertheless, energy policy-makers, both on Capitol Hill and in the Bush administration, have also been careful to stress that gas and electric markets are still structurally sound.
"While the impact on consumers is still unclear, our committee will continue to monitor the situation closely. It is important to note that there are a number of well-capitalized energy firms which have significant trading operations," Bingaman said.
Chuck Watson
The $10 billion lawsuit against Dynegy is another way Enron "failed to take responsibility for its own demise."
Ken Lay
Steps taken would help preserve capital, stabilize the business, restore the confidence of counterparties, and improve the company's ability to pay creditors.
