May 15, 2002

How a Bright Star at Andersen Burned Out Along With Enron

HOUSTON -- For most of his life, David Duncan played by the rules.

He graduated from high school with honors after losing his father at 18. Joining Arthur Andersen LLP out of Texas A&M University, he rose to become one of its youngest partners. So valued was his work that he was feted before 2,000 of his fellows at the firm's annual partners' meeting in New Orleans last October. He was earning more than $1 million a year by last January, when Andersen abruptly fired him for destroying documents related to the audit of Enron Corp.

Mr. Duncan's friends now struggle to understand the events that led to his pleading guilty last month to obstruction of justice. They know him as a family man, who arrives like clockwork each Sunday for the 8:25 a.m. service at his local church, always sitting in the same pew.

To some, Mr. Duncan's career symbolizes what went wrong with the accounting firm itself. Emboldened by success, amply rewarded and pushed by an ever-demanding client, they theorize, he chose to go with the flow, acquiescing in Enron's questionable maneuvers and basking in the glow that came from a cozy relationship with the energy giant.

There is "no question David Duncan was a client pleaser," Andersen lawyer Rusty Hardin told jurors in the current federal trial against the accounting firm.

Mr. Duncan's struggle to please both Andersen and Enron comes through in memos provided to congressional investigators. They show him sometimes pressing the Enron point of view with Andersen's Professional Standards Group, and sometimes appearing to be less than fully forthcoming with members of that group.

Now Mr. Duncan is giving his side of the case on the witness stand in Houston, as the federal government's star witness in its prosecution of Andersen. Tuesday, he stated publicly for the first time that he had destroyed Enron audit documents because of rising fears of a federal investigation.

Close Ties

In a decade-long relationship with Enron, the last five years as partner in charge of the account, Mr. Duncan developed close ties to the client company. His office was in an Enron building. He and Enron's chief accounting officer, Richard Causey, often lunched at a place called Nino's, and they attended Masters golf tournaments together.

This clubby relationship, while initially underpinning Mr. Duncan's success, finally led to his undoing. Accounting-standards specialists at Andersen warned that Enron's treatment of its partnerships was questionable. But Mr. Duncan at times hewed to his client's wishes and sparred with his partners to help the company realize its goals.

Mr. Duncan sprang into the spotlight in late October. That's when he led an effort to shred tons of Enron-related documents as regulators were closing in.

It was a tense time at the firm. Senior partners were holding conference calls focused on finding a way to avoid restating Enron's earnings for the first two quarters of 2001, because of the accounting for certain partnerships. On Oct. 12, Mr. Duncan was forwarded an e-mail from an Andersen lawyer saying people should be sure to follow the firm's policy on document retention. Ten days later, in a meeting with Enron people, Mr. Duncan was briefed about a request for information that Enron had received the week before from the Securities and Exchange Commission.

Shredding Documents

The next day, Mr. Duncan called an urgent meeting of his staff, where he ordered them to get in compliance with the document-retention policy. Mr. Duncan testified this week that he gave the instruction knowing it would result in the destruction of documents. Andersen has said the result was a frantic effort between Oct. 23 and Nov. 9 to get rid of sensitive documents, the basis of the guilty plea Mr. Duncan has entered.

To people who've known him since childhood, it's an astonishing turn of events. "This kid was ambitious -- he was going to go places," says Don Branham, his political-science teacher at Forest Park High School in Beaumont, Texas.

Mr. Duncan had lived in Beaumont barely two years when his father, Dewey, died suddenly. By all accounts, the Duncans were a close-knit family. Friends say his father, manager of Houston Chemical Co.'s Beaumont plant, would arrive at the plant a little late most days just so he could have breakfast with his wife and children. David would go duck hunting with his father, and fishing with him in the Louisiana wilds.

He also received his early impressions of the corporate world from his father, who was focused on meeting the needs of his customers at Houston Chemical. "The management background that David grew up around would teach you to follow the company's policy -- to be innovative but to work within the company's structure," says a friend of the family.

James F. Jackson, his pastor in Beaumont, thinks Mr. Duncan's background would have made him reluctant to be confrontational with a demanding client. "He is not the kind of person in a business meeting to be disrespectful," Mr. Jackson says, calling Mr. Duncan "a good man who got caught up in a bad situation." He says Mr. Duncan has since told him he regrets not fighting harder to push Andersen to drop Enron as a client when the accounting firm reviewed its relationship a year ago.

Off to A&M

Mr. Duncan followed his father's footsteps to Texas A&M, becoming an "Aggie," a breed of graduates known in business circles for a strong loyalty and work ethic. Texas A&M also was a source of future Andersen accountants. Wooed by an A&M graduate who headed the firm's Houston audit practice, Mr. Duncan joined Andersen in 1981.

There he met people who would later play key roles at Enron. Among them: Mr. Causey and Jeffrey McMahon, who became Enron's treasurer and then president before resigning last month. D. Stephen Goddard, another Aggie, later served as a mentor to Mr. Duncan. And the firm was where he met his wife, Peggy, whom he married in 1992.

But in 1992, after 11 years at Andersen, the rising star was lured to the natural-resources company Freeport-McMoRan. He didn't get along with the executive he worked for there, however, and in nine months he was back at Andersen. His fling with another outfit didn't stall his ascent. He made partner in 1995 and two years later became the "global engagement partner" for one of Andersen's biggest clients: Enron.

Enron's executive ranks were populated with accountants, many of whom had worked at Andersen and seemed eager to push accounting to new frontiers. And Enron's hard-charging executives weren't averse to telling Andersen's people how to do their job.

In 1999 Enron Chief Financial Officer Andrew Fastow approached Mr. Duncan about a "special-purpose vehicle" the CFO wanted to set up. It turned out to be LJM, a partnership that, it was revealed last fall, had brought Mr. Fastow millions of dollars in compensation and helped Enron hide millions in debt off its balance sheet.

Mr. Duncan consulted Andersen's Professional Standards Group, the firm's source of advice on tricky accounting issues. It balked. "Setting aside the accounting, idea of a venture entity managed by CFO is terrible from a business point of view," wrote Benjamin Neuhausen, a member of the standards group, in an e-mail to Mr. Duncan on May 28, 1999. "Conflicts of interests galore. Why would any director in his or her right mind ever approve such a scheme?" he wrote.

Mr. Neuhausen also told Mr. Duncan the standards group would be "very uncomfortable" with Enron's recording gains on sales of assets to the Fastow-controlled entity or immediate gains on any transactions.

"I'm not saying I'm in love with this either," Mr. Duncan replied in a June 1 e-mail, referring to the recording of gains. "But I'll need all the ammo I can get to take that issue on."

Mr. Duncan told the standards-group member that "on your point 1, (i.e. the whole thing is a bad idea), I really couldn't agree more." But he made clear the issue was by no means dead. He said he had told Mr. Fastow that Andersen would sign off on the transaction only if Mr. Fastow got chief-executive and board approval at Enron, among other things. Enron ultimately approved setting up the partnership, with Mr. Fastow in charge.

Growing Fees

Andersen's total fees from Enron for auditing, business consulting and tax work were $46.8 million that fiscal year, ended Aug. 31, 1999. The next year the fees leapt to $58 million. They were between $50 million and $55 million in fiscal 2001.

Mr. Duncan's profile rose at Andersen. He and his wife and three children moved to a neighborhood called Willowick in Houston's affluent Memorial area. At times he shared his feelings with old friends, such as James Benjamin, head of Texas A&M's accounting department. Mr. Benjamin says Mr. Duncan would talk about the "challenge he was facing as a result of the complexity of Enron and the types of transactions they were doing and the difficulty of having comfort with its accounting."

Mr. Duncan was an advocate for his client as well. In March 2001, Carl Bass, a Houston-based member of Andersen's Professional Standards Group, was removed from the Enron account. That didn't please Mr. Bass's boss, John Stewart, who complained to a senior partner. Mr. Duncan called Mr. Stewart about the matter on March 12. He told of a negative view of Mr. Bass on the part of two Enron executives, Mr. Causey and John Echols, according to notes that Mr. Stewart took and that have been handed over to congressional investigators. In other words, Mr. Duncan told Mr. Stewart he didn't drive Mr. Bass's removal -- Enron did.

Last summer, as Mr. Duncan sought advice from the standards group on the outside equity needed for joint ventures, he hinted at the challenges he faced. If the standards group and Enron were "miles apart," Mr. Duncan said, according to e-mails given to congressional investigators, "I may need a whole different tact [sic] from a client management perspective. If this is what you believe to be the case, we probably need to talk fairly urgently so I can start managing Enron's expectations way down from where I believe they are as soon as possible."

Mr. Stewart told Mr. Duncan the two sides indeed were "pretty far apart." The subject evidently remained unresolved two months later. Mr. Stewart responded to an e-mail from another auditor by calling it "deja vu all over again." Mr. Stewart declined to be interviewed.

The Raptors

At one point, Mr. Duncan appears to have avoided telling Andersen's Professional Standards Group about a decision he and his team made. In late 2000, he approached the group about the accounting treatment for four Enron special-purpose entities known as Raptors. Mr. Duncan, putting forth Enron's view, was asking if Enron could lump the entities' financial results together, allowing profits from two to offset losses from others. This would mean the loss Enron reflected on its financial statement would be less than if the entities were treated individually, Mr. Duncan testified Tuesday.

Mr. Bass, then still a member of the standards group, opposed the idea. Mr. Duncan testified at the Andersen trial Tuesday that he himself "was sympathetic" to Enron's view when the issue first arose, though it took a while before he became convinced. In early 2001, "we decided to accept the client's position" with some modifications, he said.

Mr. Duncan testified that to his knowledge, nobody got back to Mr. Bass to tell him that the team auditing Enron wasn't following Mr. Bass's advice.

Last fall, the auditors revisited the issue because losses in the Raptors were potentially going to force Enron to restate first- and second-quarter earnings. The audit team sent memos documenting the late-2000 discussions to members of the standards group. They didn't mention that Mr. Bass had disagreed with Enron's treatment. Mr. Bass "recalled the issue and wanted the memos to document that he had disagreed with this approach," Mr. Duncan testified Tuesday. So last Oct. 12, the memo was amended to reflect Mr. Bass's original position.

By this time, the pressures facing Mr. Duncan were multiplying. Mr. Stewart, the standards-group member, asked him about "LJM1," which, Mr. Stewart observed, must exist, since there was an LJM2, according to statements Mr. Stewart provided to congressional investigators. Mr. Duncan left Mr. Stewart with the impression that LJM1 just wasn't an issue.

A few days later, Mr. Stewart pressed the issue again on a conference call with some members of the Enron audit team. According to statements Mr. Stewart gave to congressional investigators, he asked what LJM1 was and if it met "nonconsolidation" tests -- that is, whether Enron could legitimately avoid consolidating LJM1's results with Enron's own. A special-purpose vehicle doesn't have to be reflected in a company's financial statement if an independent party owns at least 3% of it.

Mr. Duncan assured him LJM1 met the test, according to the statements Mr. Stewart gave to congressional investigators. People close to Mr. Duncan say he believed that it did.

That night, Debra A. Cash, a member of Mr. Duncan's team, called Mr. Stewart. Although she had been silent on the conference call earlier in the day, she told Mr. Stewart her silence didn't mean she agreed with Mr. Duncan, according to statements given to congressional investigators. It was the first time Mr. Stewart had heard this.

After Enron collapsed, says Mr. Duncan's pastor, Mr. Jackson, the accountant spoke about the pressure Enron had put on him. "He basically said it was unrelenting," Mr. Jackson says. "It was a constant fight. Wherever he drew that line, Enron pushed that line -- he was under constant pressure from year to year to push that line."

-- Alexei Barrionuevo and Jonathan Weil contributed to this article.

Write to Anita Raghavan at anita.raghavan@wsj.com⁹

Updated May 15, 2002 3:12 p.m. EDT