Highly Publicized Letter to Enron CEO Was Product of Internal Power Struggle

January 16, 2002

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Highly Publicized Letter to Enron CEO Was Product of Internal Power Struggle
By JOHN R. EMSHWILLER and KATHRYN KRANHOLD
Staff Reporters of THE WALL STREET JOURNAL

A now highly publicized August 2001 letter from an Enron Corp. executive raising serious questions about the company's business and accounting practices was actually one of the later shots fired in an internal struggle that had been going on inside the energy-trading company for a year or more.

The letter to Enron Chairman and Chief Executive Officer Kenneth Lay from Sherron Watkins, a company vice president, detailed what she saw as the huge financial and public-relations risks facing the company. Extensive dealings with partnerships that had been set up and run by some of the company's own executives could cause Enron to "implode," she wrote. Widespread disclosure of those partnerships in the media beginning in October played a key role in a collapse in investor confidence that eventually forced Enron to seek bankruptcy-law protection.

Ms. Watkins's attorney, Philip Hilder, declined to discuss details of the letter. But he said his client likely would cooperate with some of the government investigations into the Enron collapse. "She has a compelling story and I expect she'll have an opportunity to tell that story," Mr. Hilder said.

But the story behind Ms. Watkins's letter is much more than that. It involves a power struggle over the direction of Enron as it committed itself to the extremely unusual and tangled partnership structures that eventually contributed to its undoing. People familiar with that struggle say the issues ranged from the ethics of Enron's actions to a battle for the job of chief financial officer at the Houston-based energy-trading company. The partnerships -- called LJM Cayman LP and LJM2 Co-Investment LP -- were formed in 1999 by then Chief Financial Officer Andrew Fastow, who also ran the entities and owned part of them. From the beginning, Mr. Fastow, Mr. Lay and other top company officials said the LJM partnerships were designed to do business deals with Enron and help the energy company manage its financial risk.

Read a copy of the letter from Sherron Watkins warning Kenneth Lay about Enron's accounting practices.

See full coverage of Enron's downfall.

* * *
Enron Employee Told Lay Last Summer of Concerns About Accounting Practices (Jan. 15)

However, other Enron officials were extremely skeptical about the partnerships, say company insiders and others familiar with the matter. For one thing, they saw inherent conflicts of interest in having the company's chief financial officer standing to financially benefit from business deals done with Enron by an outside partnership that he headed. Late last year, Enron estimated that Mr. Fastow made more than $30 million from the LJM partnerships.

One of the chief critics was Jeffrey McMahon, who in March 2000 took his concerns about LJM to then Enron President Jeffrey Skilling. Mr. Skilling didn't share those concerns and soon after the meeting Mr. McMahon left his job as corporate treasurer for another executive post within Enron.

A spokeswoman for Mr. Skilling says Mr. McMahon merely voiced worry about whether his own compensation might be affected if he had to negotiate deals on the opposite side of the table from LJM. Mr. McMahon "never raised any broader concerns," she said.

However, an Enron spokesman speaking on behalf of Mr. McMahon strongly challenged that interpretation of events. "There was a very clear conversation where Mr. McMahon expressed concerns about a range of conflicts" related to the LJM entities, said the spokesman.

Mr. Fastow had been widely viewed within Enron as a close ally of Mr. Skilling, whose sudden resignation last August raised investor concerns and contributed to the company crisis. For his part, Mr. Fastow believed that Mr. McMahon wanted his job as chief financial officer and that Ms. Watkins was an ally in that effort, said a person familiar with the matter. Mr. McMahon was named chief financial officer last October when Enron replaced Mr. Fastow because of rising controversy surrounding the partnerships.

The Enron spokesman said Mr. McMahon denies that he was seeking the chief-financial-officer job when he went to see Mr. Skilling. Mr. McMahon knew Ms. Watkins, the spokesman said. Indeed, he added, she initially had written the letter anonymously and first revealed her identity as the author to Mr. McMahon. He urged her to identify herself to Mr. Lay and personally express her concerns to the CEO. She later had a meeting with Mr. Lay.

Ms. Watkins' attorney, Mr. Hilder, said "We categorically deny that Ms. Watkins was in cahoots with Mr. McMahon regarding trying to oust Mr. Fastow as CFO." He declined to comment on any specific deals she might have had with Mr. McMahon.

Also expressing concerns about LJM was former Enron Vice Chairman Cliff Baxter, who left the company last May. In her letter, Ms. Watkins said Mr. Baxter "complained mightily ... about the inappropriateness of our transactions with LJM." Mr. Baxter couldn't be reached for comment Tuesday.

Write to John R. Emshwiller at john.emshwiller@wsj.com and Kathryn Kranhold at kathryn.kranhold@wsj.com