January 18, 2002

Enron's Board Fires Arthur Andersen; Questions Arise About Auditor's Actions

The once-cozy relationship between Enron Corp. and its auditor blew up in a storm of recriminations Thursday amid questions about what Andersen should have done about questionable practices at the energy company.

Enron's board fired its longtime auditor, Arthur Andersen LLP. While it said it wanted to give Andersen the benefit of the doubt during the investigation, "we can't afford to wait any longer in light of recent events, including the reported destruction of documents by Andersen personnel and the disciplinary actions taken against several of Andersen's partners working in its Houston office."

In a statement released later, Andersen fired back: "As a matter of fact, our relationship with Enron ended when the company's business failed and it went into bankruptcy. Andersen is committed to continuing to address the issues related to the collapse of Enron in a forthright and candid manner."

The move by Enron, previously one of Andersen's biggest clients, comes as the spotlight of the investigation has shifted to Andersen. In addition to the firm's destruction of documents, Andersen has come under fire for signing off on accounting practices related to partnerships with which Enron did business. The partnerships allowed Enron to keep debt off its balance sheet.

Thursday, yet another internal Andersen memo was released by congressional investigators concerning Andersen discussions of the Enron partnerships. Enron's publicly filed financial statements included references to the partnerships going back to 1999, meaning Andersen was long aware of at least some of Enron's accounting issues. The newly released memos show that in February 2001, Andersen executives held what one executive called "significant" discussions about conflicts related to the partnerships and myriad other issued that eventually contributed to Enron's collapse.

The question that Andersen now faces is: What should it have done differently?

Accounting and corporate-governance specialists say it should have done more -- but that it didn't is typical. Until late in the game for Enron -- just a month before it filed for bankruptcy-court protection -- Andersen did what most accounting firms do when up against an important client with "aggressive" accounting practices: It stuck by its client.

The earliest known Andersen memo referencing accounting issues at Enron is a Feb. 6, 2001, e-mail that summed up a meeting in which senior Andersen partners in Houston and in its Chicago headquarters discussed if they should keep Enron as a client. In that memo, an Andersen auditor laid out nearly every accounting issue that would later play a role in Enron's collapse. But the participants in the meeting decided that Andersen "had the appropriate people and processes in place to serve Enron and manage our engagement risks." The memo cites the large fees -- $100 million a year at some point in the future -- that Enron, a $52-million-in-fees client in 2000, was expected to generate.

It is rare that big accounting firms ditch clients. "There is almost no turnover among Fortune 50 companies and their accountants; they seem merged at the hip," says Dan Goldwasser, a lawyer with Vedder Price Kaufman & Kammholz in New York. "Does it bother me? I guess it does." Andersen had audited Enron since the energy company was formed in a 1985 merger.

In a separate statement released Thursday, Andersen said, "Nothing in the [February] meeting or the memo [summarizing it] indicated that any illegal actions or improper accounting was suspected." It said the reference to $100 million in fees "was not in the context of the firm's desire to grow revenues," but whether the large fees would be wrongly perceived as compromising it.

Andersen's statement added it wasn't until August, when a whistle-blower surfaced at Enron, "that we became aware that individuals within Enron believed that there may have been accounting improprieties." The statement doesn't elaborate on what Andersen did over the next several months.

Congressional investigators also released an Aug. 21 memo⁵, which summarizes a conversation between an Andersen audit partner who wasn't on the Enron account, and Sherron Watkins, the Enron whistleblower, outlining her concerns about Enron's accounting. Ms. Watkins, one of several Andersen auditors who had gone to work for Enron, in particular expressed worries about the partnerships and then-Chief Financial Officer Andrew Fastow's involvement in them. The partner passed that information on to several Enron auditors at Andersen and to the firm's lawyers, according to the memo.

More information about what Andersen knew could come out soon. Congressional investigators received two new boxes of documents from Andersen Thursday, including copies of destroyed documents recovered from Andersen's computer systems. The boxes contain mostly e-mail, mainly from David Duncan, Andersen's lead auditor on the Enron assignment until he was fired Tuesday. Congressional investigators plan to meet Friday with Richard Causey, Enron's longtime chief accounting officer and a former Andersen auditor.

Some observers argue that given all the questions surrounding the partnerships, Andersen should have voiced concerns to the audit committee of Enron's board earlier than it apparently did -- Nov. 2. "Basically, they have an obligation to go to the board of directors, particularly the audit committee of the board, when they come up with anything suspicious or anything controversial or anything that could have been a potential problem," says John Nash, president emeritus of the National Association of Corporate Directors.

Write to Ken Brown at ken.brown@wsj.com⁶ and Henny Sender at henny.sender@wsj.com⁷

Updated January 18, 2002 12:33 a.m. EST