Module 3 – Case
UTILITY ETHICS
Background
In the Module 3 Case, we will use the Utility Test to inform our understanding of the Enron case study.
Required Reading
Visit the library, and locate the following article:
Madsen, S., & Vance, C. (2009). Unlearned lessons from the past: An insider’s view of Enron’s downfall. Corporate Governance, 9(2), 216-227. Retrieved from ProQuest.
Optional Resources
The following additional readings may also be helpful to you as you consider the Case:
Chandra, G. (2003). The Enron implosion and its lessons. Journal of Management Research, 3(2), 98-111. Retrieved from ProQuest.
Free, C., Macintosh, N., & Stein, M. (2007). Management controls: The organizational fraud triangle of leadership, culture and control in Enron. Ivey Business Journal Online. Retrieved from ProQuest.
Sims, R. R., & Brinkmann, J. (2003). Enron ethics (or: culture matters more than codes). Journal of Business Ethics, 45(3), 243-256. Retrieved from ProQuest.
Assignment
In a well-written, 4- to 5-page paper, apply the Utility Test to the Enron case study.
Keys to the Assignment
1. Choose an ethical issue raised by the Enron case study – e.g., Enron’s accounting fraud, the company’s reward systems, its use of “special purpose entities,” or Enron’s “deal making” culture.
2. Apply the Utility Test: http://ethicsops.com/UtilityTest.php
3. Be sure that you follow each step of the Utility Test (use a separate section heading for discussion of each step of the test):
A. Introduce the test.
B. Briefly discuss why utility ethics is a valid way of deciding right and wrong.
C. Apply the tes
Step 1: Identify the alternative actions that are possible and the persons and groups (the stakeholders) who will be affected by these actions.
Step 2: For each of the most promising alternatives, determine the benefits and costs to each person or group affected.
Step 3: Select the action in the current situation that produces the greatest benefits over costs for all affected.
Step 4: Discuss what would happen if the action were a policy for all similar situations.
D. Draw a conclusion. If the same action is selected in Steps 3 & 4, then the action is an ethical one. If different actions are selected, decide whether the individual action will produce the greatest good and the least harm, for all affected, over the long term.
4. Be sure to use at least two sources from the library to support your discussion and analysis (choose sources that are not included in the Background section of Module 3).
Follow the guidelines in The Student Guide to Writing a High Quality Academic Paper.
You are expected to demonstrate evidence of critical thinking – as defined in the background materials and the grading rubric.
Assignment Expectations
Your paper will be evaluated using the grading rubric.
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Unlearned lessons from the past: an
insider’s view of Enron’s downfall
Susan Madsen and Charles Vance
Abstract
Purpose – The purpose of this paper is to capture an insider’s view of the organizational culture
and management practices that contributed to the downfall of Enron. In light of the current
worldwide financial and economic crisis, this article aims to highlight some of the unlearned lessons
from the past.
Design/methodology/approach – A qualitative interview case study was used for the basis of this
paper.
Findings – This article shares an insider’s (former vice president’s) insights related to the practices and
culture that led to Enron’s unethical decisions and strategies. It discusses one man’s view of the history
of Enron, as well as what should have been learned and applied to the global financial industry to help to
minimize or even avoid today’s painful economic crisis.
Practical implications – Six main causes of unethical behavior for individuals in organizations are
outlined, and important lessons learned are presented. The article also discusses the importance of
reflecting and remaining inwardly vigilant, while outwardly thinking of and serving others.
Originality/value – The information for this article was based upon an original interview.
Keywords Ethics, Governance, Organizational culture, Leadership
Paper type Viewpoint
A
lan P. Warnick was the Vice President of Organization Development and Training
for Enron Operations and was an insider during the years leading up to the
corporation’s downfall. His previous experience also includes positions as Chief
Human Resources Officer for Enron Chemical and Great Lakes Chemical Corporations,
General Manager of Human Resources Strategy and Change at Reliant Energy, and a
consultant with Chase Manhattan Bank and American Training. Al is a senior level
human resources executive with broad experience in large, multidivisional and
international corporate environments. He has initiated and led many large-scale
organizational change projects focused on building organizational capability. He has
substantial experience in reengineering critical HR processes, working with business
units to develop high impact people strategies, and realigning the mission, role, and
structure of the HR function. He has extensive background in mergers and acquisitions,
business ethics, culture change, and organization development and learning. His
corporate accomplishments have been widely published and cited in leading
professional journals and magazines, and he has been a guest speaker at numerous
management meetings and professional conferences. Al is currently the interim
department head and executive-in-residence in the Department of Management and
Human Resources at Utah State University.
PAGE 216 j CORPORATE GOVERNANCE j VOL. 9 NO. 2 2009, pp. 216-227, Q Emerald Group Publishing Limited, ISSN 1472-0701 DOI 10.1108/14720700910946640
Susan Madsen is Associate
Professor of Management,
based at Utah University,
Orem, Utah, USA.
Charles Vance is Professor
of Management, based at
Loyola Marymount
University, Los Angeles,
California, USA.
Interview
Authors
We are very pleased to be able to get your valuable insider’s perspective on the individual
and organizational dynamics involved in the Enron experience.
Al Warnick
I’m happy to share my experiences, observations, and learning from that experience. But
based on our recent devastation in the financial services industry, we certainly haven’t
learned much from Enron. When I see what has gone on at AIG and other financial services
organizations, it sure reminds me of what went on at Enron: a relaxation of regulations that
allows people to take risks that ultimately lead to greed and corruption – but this time it is on
a vastly greater, industry-wide, global scale. The huge economic pain that we currently are
feeling is to a great extent likely due to systemic similar conditions that led to the Enron
catastrophe.
Authors
To help us begin to better understand – and hopefully finally learn from – those similar
conditions that contributed to today’s global economic plight, please give us a little
background on the organizational culture and management practices leading to the
downfall of Enron.
Warnick
Well, Enron Corporation came together as a corporation in 1985. It was a merger between
InterNorth Corporation and Houston Natural Gas (HNG). InterNorth Inc. was formed as a
holding company for Northern Natural Gas, founded in 1931. InterNorth had their
headquarters in Omaha, Nebraska, and they pretty much covered the central United States.
Their gas pipelines went from Texas up through the Dakotas into Minnesota, and they ran
one of the largest natural gas pipeline systems in North America. The merger was spawned,
in part, by a corporate raider out of Minneapolis who was putting pressure on InterNorth
Corporation and on Houston Natural Gas. When they merged, the company’s name initially
was HNG InterNorth. Sam Segnar, the president of InterNorth, became the president of the
new entity.
Before proceeding, let me give you some background information that will help illustrate the
abrupt cultural change when Segnar took over. Willis Straus had been a long time chairman
of InterNorth Corporation and beloved by everybody. He was the ‘‘father’’ of the whole
expansion from its Northern Natural Gas roots. Straus was powerful, but you would not have
called him arrogant. For example, they had a dining room on that top floor of the InterNorth
building – the old Houston Natural Gas building – in downtown Omaha. Any employee
could eat there; you didn’t have to be an executive. It was kind of an interesting egalitarian
organization. Straus always had his table, but he would go around visiting with employees at
any level of the company who were eating up there. Everyone loved him. When he retired, he
had handpicked his successor who was Sam Segnar. Sam was not beloved by everyone as
Straus had been, and in fact beloved by almost no one. Sam had been involved in the
company years prior to the merger, and people generally didn’t like him. He was arrogant
and clearly an elitist. Interestingly, one of the first things he did was to turn that top floor of the
InterNorth building into a suite only for executives, and he had his office moved up there.
Everyone talked about how much money he spent putting in very expensive furniture,
copper baseboards, and an amazing fireplace in his office. When Straus headed the
company, it was quite an egalitarian place to work because there wasn’t a lot of emphasis on
status. That immediately changed when Sam Segnar became the new chairman.
Kenneth Lay was the chairman of Houston Natural Gas. Now usually in a merger like this, the
chairman of the company being acquired leaves and gets a lot of money from the stock and
VOL. 9 NO. 2 2009 jCORPORATE GOVERNANCEj PAGE 217
golden parachute agreements. However, in the negotiations for this merger, Lay suggested
that they combine the boards of directors. He reasoned that because they had eight
members on the InterNorth board and Houston Natural Gas had only six, InterNorth would
still have the majority status and would still get to make all the crucial decisions. Sam Segnar
thought that sounded fine, which (in later reports we heard) was a surprise to Lay. I guess he
never imagined in his wildest dreams that Segnar would really go for that. After that took
place then all Ken Lay had to do was to go around to the board members and find two of
them who didn’t like Segnar. Within one month Ken became chairman of the board. That’s the
kind of maneuvering that characterized Ken Lay. He was extremely shrewd and extremely
bright – he had a PhD in economics. He had a lot of history with the Department of Energy
because he had been employed there and was well-connected. He had lots of political
connections, even with the president of the United States. One of the first things he did was
to move the Enron headquarters to Houston. I think initially people at Enron thought Ken was
doing well, but the attitude changed particularly when Jeff Skilling arrived.
Let me tell you a little more about Ken Lay. He really had a distorted image of himself. He
thought of himself as the grandfather that everyone loved. Initially people liked him,
especially compared to his predecessor. Ken did keep the elitist division Sam had created
between executives and employees. He was more visionary, but kept the culture. Ken made
and spent a lot of money, and everyone knew it. In the end, he received hundreds of millions
of dollars. After he died his wife said that money was all gone. How he could spend that
much, I have no idea. I don’t think he was a gambler, because he loved money too much to
be a gambler. He had endured extreme poverty in growing up, and ironically it was his
obsessive hatred of being poor that greatly contributed to his downfall.
Authors
Tell us how you were involved in these companies.
Warnick
I came from the InterNorth side and had been with them for nine years before the merger. I
had joined InterNorth in 1977, and in the early 1980s I became Director of Human Resources
for the Petrochemicals Division, which was one of four or five operating companies in
InterNorth. Mine was the head HR job in that division, so I reported to the President. After the
merger in 1985, the corporate headquarters moved to Houston, and I was in one of its
operating companies.
After moving to Houston we immediately noticed some interesting things. Our first
impression of them Ken Lay and his leadership team was that they were big spenders. From
our point of view, as past InterNorth employees, we felt that they had really quite exorbitant
relocation benefits. I was actually on the committee that put the benefits plans together in
1986 and 1987. Then they sold the Petrochemicals division to US Chemicals to pay for the
merger, and we relocated to Chicago. I stayed with them until fall of 1987, and then I left and
took a job as head of HR for another company.
It wasn’t until 1991 that I received a call from Enron saying they wanted me to come to
Houston to be the Vice President of Organization Development for all of the operations. At
that time they had five different gas pipeline companies and a liquids natural gas operation. I
decided to accept the offer and began reporting to a man by the name of Jim Barnhart, the
Executive Vice President of Administration, who reported directly to Ken Lay.
Jeff Skilling came onboard in 1990, and so he was already there when I came back in
January of 1992. He was in the marketing end and reported to Ken Lay, and I was in plenty of
meetings with him. Jeff, who initially was a McKinsey consultant at Enron, became a central
part of Enron’s huge culture shift. Because of the complete change in leadership, Enron was
able to make a significant culture change that would be nearly impossible for other
organizations. It was like the Anglo-Saxons being taken over by the Normans.
PAGE 218 jCORPORATE GOVERNANCEj VOL. 9 NO. 2 2009
Authors
When you returned to Enron, what were the most immediate concerns you had as you
became involved in day-to-day operations and change efforts?
Warnick
I immediately discovered that they had a tendency to move people around a lot. They were
great shufflers. I also noticed, again, that they were big spenders, which came from the
Houston Natural Gas side of the merger. The InterNorth side was much more conservative in
its style. Enron new leaders had big plans. For example, they came in one time saying that
we were going to double Enron’s stock price in a short amount of time, which interestingly
they did and a whole lot more. In fact, I remember when I was still with the Petrochemical
division right after the merger, one of the executive vice presidents (who came from the HNG
side) came to Chicago to meet with us. He said, ‘‘We’re going to do this for two or three years
and then double the stock, then we’ll move on and do other stuff.’’ The big reaction from us
was ‘‘Well, that’s good for you. You can play with us for while, but then what happens to the
rest of us after you’re through doing your thing?’’ Early on we felt like we were their toy until
they made a lot of money, and clearly their desire was to make a lot of money!
Authors
So, were they pretty forthright about that?
Warnick
No question about it. They intended to change the natural gas industry. At that time it was a
very regulated industry. It was a great place to invest your money in a slowing economy. But
what Enron leaders wanted to do was lead a paradigm shift for the industry. In fact, they
intended to change the whole business paradigm about natural gas. Ken Lay’s vision – and
he was a very visionary man – was to deregulate the industry and let the price of natural gas
float with the market. His business vision was that Enron would be the first company that
really got on this bandwagon while everyone else was fighting deregulation. Enron would
then capture the entire market differential, which is where you can really make money. His
vision was that Enron would be the first ‘‘Natural Gas Major’’ – like the oil ‘‘majors.’’ No one
had thought of natural gas being in that kind of position.
Authors
Did he pull people on board pretty quickly?
Warnick
If you weren’t visibly committed to the team, you were out. It was like the mafia coming in and
shooting a few people just to let people know that they meant business. If you were not on the
team, then you would be fired. There were some really good people, without discussion, that
were fired. He would go around and figure out who was going to support his position and
what he was doing – and who might give him trouble. Those who would give him trouble
would be gone. That threatening culture remained until the end. It was a very cut-throat,
externally-competitive, and internally-competitive culture. Many people could do very well
working at Enron, and the leaders spent money very freely. The idea was that ‘‘we’re going to
get rich, and you can get rich too if you join us.’’
Authors
Did people from the start have concerns regarding the ethics of the culture and the
business?
VOL. 9 NO. 2 2009 jCORPORATE GOVERNANCEj PAGE 219
Warnick
Remember that we were coming from a very conservative and regulated industry, so we
were very careful about not offending any regulators or government officials because they
determined what the price was going to be. Therefore, Enron leaders would never think of
breaking the law or doing something technically illegal. In some respects the industry was
like the flock of sheep that are kind of ‘‘fit for fleecing,’’ because people generally didn’t tend
to think in those kinds of terms. The people who joined the company were very hard working,
loyal, dedicated, and overall good folks. They were not hired to be creative and share new
ideas. They were rewarded to make sure that natural gas flowed and that people got what
they expected. Employees were rewarded for making contracts and delivering. Operational
excellence was really the ‘‘name of the game.’’
Authors
Please talk more about Enron’s reward system and what parts of that system directly led to or
influenced unethical behavior.
Warnick
The reward system became even more liberal as time went on. From a reward standpoint,
they decided to remove all caps on compensation. You could make any amount, and Enron
prided themselves in paying above average salaries. When the industry was regulated, you
didn’t trade natural gas. But afterwards, people could get rich because there were no caps.
The average tenure of a trader at Enron was about 18 months. They would work their fool
heads off, and they were not nice people. They were not fun to be around – being nice
seemed to interfere with short-term profits. You wouldn’t want them as your neighbors. But,
they would work ungodly hours, make their millions, and then leave. Ken Lay didn’t mind if
they made money because it made him money.
Jeff liked the GE model of ranking employees, so he brought that to the company. The
bottom percentage of employees in perceived performance would be fired. This practice
was something that also led to a very cut-throat, competitive environment. Because they
used this ranking method of performance management, appearance mattered more than
anything else. No one ever wanted to stay in a job long enough to see the actual results from
their work. They just wanted to look like they were going to get results. They wanted to be off
to the next job, so they could make the big leap. There was no accountability. You always
wanted to leverage your position into something else.
Authors
How did you experience this culture change to a more internally competitive work
environment?
Warnick
I immediately noticed when I came back to Enron in January of 1992 that things had
changed a lot from where they used to be. At InterNorth we used to have meetings with all of
the heads of human resources. The agreement was that we would be completely honest with
each other and support each other.We knew that what was shared at these meetings stayed
confidential because we were helping each other solve problems. When I brought up a
problem, I could get great counsel and advice. It was a wonderful, supportive kind of
interaction. After I returned to Enron, I went to the first of these meetings, and the difference
was very striking. I still knew some of the people, since I had been gone for only four years.
At this meeting I was very open and presented a problem I was having in my area and
wanted ideas for solutions. After the meeting, I was immediately told by people who knew me
that I needed to keep that kind of stuff to myself. They said, ‘‘You don’t realize that that
information will now be shared with the people who may have something to gain by putting
your boss down. That will be used against him, and then it will hurt you as a result of that.’’
PAGE 220 jCORPORATE GOVERNANCEj VOL. 9 NO. 2 2009
Wow, had the corporation changed! That was when it just really struck me how different
things had become.
Authors
We heard that Jeff Skilling and Ken Lay really believed that they were operating ethically
during those years. How can that be the case?
Warnick
I do think they believed they were operating ethically. I really believe that Ken Lay, up until the
day he died, thought he was ethical. He had a PhD in economics and was the son of a
Baptist minister, and he had a basic understanding of ethics. But he really thought that what
they were doing was creating a new business model. Someone I know personally was in a
meeting with Ken Lay and Jeff Skilling, and this individual heard Jeff say to Ken, ‘‘If you will
let me do what I know how to do, I will make you richer than you can possibility imagine.’’
Now it is important to understand from Ken Lay’s background that he grew up poor and he
hated being poor. Money, and making a lot of it, was not only attractive to him, but it seemed
an obsession. From that point on, Jeff Skilling had anything he wanted, and he was enabled
in a way that he could do no wrong. Ken Lay’s primary role in this ethics scandal was as an
enabler. The real architect of what went on was Jeff Skilling. He pushed for ‘‘mark-to-market’’
financing, which was the key to everything else. I think that one thing was the key to the
downfall of the corporation. The SEC did approve it, so what he was doing then was not
illegal. Has anyone ever required the SEC to account for that decision? For Jeff, Ken, and the
corporation, how things appeared officially on paper was the most important thing. That’s
what mattered, but this was a very superficial level of judgment.
Authors
Did the typical employees understand what was happening?
Warnick
I don’t know about the regular employees, but at my level – the VP level – we all knew in 1992
what was going on. Although many of us weren’t financial people, we all knew; we all said to
ourselves – ‘‘This is a house of cards.’’ We knew that it wouldn’t take much to blow all this
over. In fact, I remember that there was a big celebration when they got the SEC approval.
Jeff knew that if they got SEC approval he could do all of the other things he wanted to do.
Jeff showed tremendous increase in revenue and theoretical profits, but the word around
was that we never really made any money in the trading process. A lot of money was flowing,
but we knew we weren’t making money.
I think it is interesting that although we knew what was going on, it seemed that they always
had an answer for everything. The two stock answers to our concerns were the SEC has
approved it, and our auditors say we are operating by appropriate standards. There was a
lack of true accountability in the culture. Tomy knowledge, they never advocated or asked us
to do something illegal. Yet, there sometimes seems to be a fine line between what is legal
and illegal. There is a gray area. Enron leaders would take all of the gray as being white, and
they would come right up to the edge of black before they would say ‘‘It’s illegal.’’ You would
never do that in the old traditional InterNorth or in the natural gas regulated culture in
general. You would always keep that buffer. You didn’t even want to be in the gray. Jeff was
the architect of it, and Ken Lay was the enabler. Both of them were movers and shakers, and
they considered this to be the ‘‘new business model’’ that they were creating.
Authors
Did people still leave early on because of their ethical concerns, even though Ken and Jeff
seemed to have justifications that satisfied many?
VOL. 9 NO. 2 2009 jCORPORATE GOVERNANCEj PAGE 221
Warnick
Oh yes. Many left, and in fact that is why I left. We knew years prior what was going to
happen. Yet, we couldn’t voice our concerns openly. If we voiced it openly, we would not be
around the next week. There was a threat, and it wasn’t a veiled threat either. You had plenty
of evidence. It was a culture of threats, and people knew. We knew what was going on, so
how did Jeff Skilling and Ken Lay NOT know it? I don’t know what was in their hearts. I’ve
thought a lot about how someone like Ken Lay, who genuinely felt he was an ethical
individual, could end up doing such unethical things. It ought to scare all of us. You can
justify your actions so fast, and I think that’s what Ken did.
Ken and Jeff were actually some of the genuinely brightest and most gifted people I have
ever met. But I’ve decided that the smarter you are, the more capable you are of unethical
behavior. I believe that competence can be a key factor contributing to unethical behavior.
Ken Lay was a visionary, and Jeff Skilling was a guy who loved power. I think Jeff always
knew exactly what he was doing, and he thought he would get away with it. It was interesting
to watch as Enron saturated markets as they were trading on everything. They were trading
futures on the weather! The logical thinker in me would have to say, where does this all end
up?
I’ve always thought it is interesting that individuals could continue to think they were acting
ethically when such negative things begin happening around them. Their success – or
appearance of it – led to enhanced egos, a sole focus on money, and an increased lack of
morals. By the end, there were reports of expense report inflation, off-balance sheet deals,
accounting cover-up, misleading the public, self-dealing, chasing the big bonuses, insider
trading, wild parties, and even theft. All of the signs were there years prior, so it is still
amazing to me that they somehow couldn’t see it.
Authors
You bring up an important point: how could they be truly visionary, as you call them
(particularly Ken), and at the same time not see or at least acknowledge that the house of
cards would soon be crashing down around them.
Warnick
Again, they saw this as the new business model. That’s at least my characterization of it.
From Jeff Skilling’s point of view, assets were a hindrance. They had no stomach for
operation – no patience for operating anything! It wasn’t fast enough; they were interested in
changing the corporation into basically a trading company with no assets. That would have
been perfect from their point of view. I think they felt they could always stay ahead of the
market. There was this big wave back then, and they thought they could be fast enough to
maneuver around it. We could see what was happening.
I think a part of it was self-deception that led them to not admit what was going to happen. I
also think there was an addictive quality to this. People wonder how alcoholics or gamblers
can’t see what is going to happen to them down the road, but sometimes they really can’t
because they deceive themselves. I think that’s another side of the addictiveness, and I think
they were blind to it. They were visionary to a certain point, but money made them blind. They
rationalized to themselves and others that the all was OK since the auditors said they were
following acceptable accounting practice. Those of us who were not accountants or auditors
would say, ‘‘Arthur Andersen is there, and I guess that’s what they say, so that should to be
good enough for me.’’ But it never felt right – never. I always got answers, but never felt
satisfied with those answer. It was a competitive, cut-throat place to be, so people couldn’t
challenge and then stay. It was not a fun place to be.
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Authors
Tell us more about the organization’s culture changes you saw when you came back to Enron
in the early 1990 for the last time.
Warnick
Remember, this type of environment was a huge cultural shift in a relatively short period of
time, particularly for the InterNorth side of the organization. Think about the commonly held
notion among management scholars that it takes five to ten years to change an
organizational culture. This was moving very fast. It was when I came back in 1992 that I
noticed the closed culture. No one dared speak the truth. Remember that Jeff brought the
GE model of ranking employees to the company, and it was one practice that led to the
cut-throat, competitive environment I spoke of earlier. You would never share any information
with someone else for fear of them being ranked higher than you. I watched this happen;
people would literally find something out and they wanted to be the first to get into the bosses
office to tell them. They wanted to get the credit. After two years as the VP of OD I just
couldn’t take it anymore. As I said, it was not hard to see during my first week back in 1992
that things were not right. Once you’ve been outside the culture for a little while and you
come back, I think you see more clearly.
Authors
Did that closed culture spread into all levels of the company?
Warnick
Sure. It’s like any culture. It was just the way we do things. The culture was one where first,
appearances mattered most, and second, if you could beat someone there with the idea
then you felt rewarded. Remember, the movement of people was huge. If you stayed in a job
a year or two, that was a long t
