Enron, Ep 2: The Visionary

[MUSIC] You're listening to Bad Bets, a podcast from the Wall Street Journal that unravels big business dramas that have had a big impact on our world. This first season chronicles the collapse of Enron. I'm John M. Schweiler. This isn't a history lesson, or a chronology of the company. Rather, we're going to tell this story through the critical players in the Enron saga. In these next few episodes, you'll meet the people behind the decisions that help make Enron one of the world's most successful companies, and then turn it into a historic corporate scandal. Starting with the man who is arguably the face of Enron's rise, former CEO Jeff Skilling. Stay with us. [MUSIC] In January of 2000, Enron hosted his annual gathering for financial analysts in Houston. Enron execs were pitching them on the company's hot new venture to get them excited about buying Enron stock. Enron's COO Jeff Skilling was center stage. [MUSIC] Around Enron, as you can tell, we have kind of an entrepreneurial culture. A lot of people do a lot of things. The thing we look for more than anything else is it is there someone pounding the table. My gosh, Skilling was on his game. He was the leader, he was the idea guy, and he was firing on all cylinders. Carol Cole was listening to Skilling at a Houston hotel that day. She was a stock analyst for a potential. It was Cole's job to rate stocks by Hold or Sell. If she gave a company a buy rating, her clients were more likely to put money behind it. She thought of herself as a skeptic when it came to these dog and pony shows. But watching Skilling up there, she felt like the room had a certain energy. Like a cult meeting because every, every single person was mesmerized. Everybody was on the same page. Everybody was caught up in the moment, including me. [MUSIC] And Skilling's newest idea? High speed internet, broadband, and he prophesized someday everyone would want the internet piped into their homes. The growth of high bandwidth applications is real. It is here now that foundations being laid across the industry for a range of services that are bandwidth intensive. Skilling said Enron was well along in building his broadband network, hoping to make money by offering a range of services. I think a lot of people say, gee, this is great. We understand the concept, we understand the philosophy, but why Enron? Why a pipeline company? Thanks that they can have an impact of this type on such a new and opening and competitive business. See, Enron was not referring gas around the country. Now, Skilling said, they planned to ferry information and data, the utility of the future. [MUSIC] One opportunity Enron executive saw with faster internet was streaming TV and movies right to your home. And this was back when Netflix was still just mailing out DVDs. So at this meeting, executives announced a huge investment in infrastructure. 18,000 servers from Sun Microsystems, a Silicon Valley heavyweight at the time. A surprise visit from Sun's CEO, Scott McNeely, made the room a rough. [MUSIC] And at that moment, investors were jumping out of their seats, literally jumping to call their traders to buy the stock. They went into a buying frenzy. Looking around the room at the senior management of Enron, it was like the Cheshire cats. They all had smiles on their faces that almost seemed unreal. This was the dot com era. And the tech sector was booming. Investors were frothing at the bit and Enron already had established a track record of success. Everyone wanted a piece of the company and their stock got a huge boost. It swung up 26% that day. And so Enron comes in, Jeff Skilling behind the wheel, conceptualizing these interesting, sexy, innovative ways to generate double digit returns. [MUSIC] But the shine didn't last long. There's a reason we don't say Enron and Jill. He was a great salesperson and he sold us on the ideas and didn't disclose the failures. I mean, eventually we found out, but it took probably at least 24 months for the walls to come crashing down. For the late 90s, Jeff Skilling had his hand at almost every venture at Enron. He even changed the building layout. He happily tore down lots of office walls. We'll just have a great big like bull pan in people who sit all around and they'll talk and they'll throw things at each other and get excited and creative. These tapes are Skilling at the University of Virginia in 2000, telling business students the story of his success, explaining his methods. So we are not risk avoiding. We are risk seeking for those risks that we can manage. There were a reminder of who Jeff Skilling was before Enron's collapse, a man who drove the rise of one of the most successful companies in the world. And that's how you make money. And make money he did. [MUSIC] By the end of the 90s, Enron was no longer just an energy company. They were in the tech sector, writing their own rules in a brand new industry. This episode, how Jeff Skilling remade Enron and catapulted himself and the company to stratospheric success. The core skill is people. People taking non-traditional approaches to businesses or taking approaches to businesses that change those businesses. Where the world's coolest company. Skilling would eventually spend over a decade in federal prison for conspiracy, fraud, and insider trading. All the while, saying he was innocent, he declined a comment for this podcast. But it's his meteoric accent that best tells the story of Enron's heyday and begins to explain why things went wrong. In the first four months of activity, we've done over $24 billion of business. And currently we're averaging over a half a billion dollars a day. I had proof. I had resumes in front of me. And folks I had talked to that were saying, we think something's amiss at Enron. You know, there's a tendency in Silicon Valley to fake it so you can make it. You're listening to season one of Bad Bats. The story of Enron's collapse. This is episode two, The Visionary. Enron was a pretty state outfit back in 1985 when it was created. It moved gas around the country to power cities. It was the kind of company we at the Wall Street Journal called DBI, though but important. That all changed one day when Jeff Skilling walked through Enron's doors. At the time, Skilling was a young hot shot consultant working for McKinsey, a prominent consulting firm. He pitched a brand new idea to Enron in 1987. Something so big, it not only changed the company, but the entire energy sector. It was called the gas bank. The country was deregulating natural gas, you know, basically letting the markets set the price. And Skilling saw an opportunity for Enron to start making money as a middleman. Enron would find sellers of gas on one end of a pipeline and buyers on the other end and it would work out whatever kind of sales and purchase arrangements these people wanted. That's Rebecca Smith, my colleague at the Wall Street Journal. You met her last episode. She'd been covering Enron and Skilling for two years before I got involved. Rebecca says the gas bank pitch wasn't well received. Well, the story that was told was that he presented his idea for the gas bank to a group of senior Enron executives. The reaction was very muted. They didn't maybe quite get it. According to Skilling, one exact cracked quote, "This is the dumbest idea I've ever heard in my life." He walked out of the room, disheartened. But that feeling, it didn't last long. Here's how Skilling later told the story in court testimony. He got into an elevator with Enron's chief operating officer, Rich Kinder, one of the biggest players in the used to energy scene. In the elevator, chomping on a cigar, Kinder told Skilling that he thought it was a good idea. So they're often running. Kinder, who left Enron in 1996 to climb to comment? But Skilling's gas bank idea was a big hit. Gas sellers and buyers piled in. And Enron excelled at buying gas low and selling at high, making big bucks out of it. Skilling was eventually hired to run the gas bank. He gave up a lucrative consulting job in hopes of reshaping an industry. Over the next decade, the gas bank and all the grew out of it produced profits in the billions. And as part of Skilling's strategy for Enron to keep up with a rapidly changing world. It was the 90s, the age of the internet. Millions of Americans own a personal computer. If you're one of them, you can now glimpse the future with nothing more than a modem, a phone line, a few dollars a month. Globalization was opening up markets in a way we'd never seen. We have the opportunity to remake the world. And a soaring stock market generated boundless economic optimism. And Enron, it would have a foothold in all of these sectors. So it wasn't just a plain vanilla business anymore. The idea, of course, was that if you open up these markets, you'll have more competitors for everything, for moving gas and for using gas that these prices will go down. Enron used this gas bank middleman model to trade a lot of things. They entered all kinds of other markets, like electricity, paper, and eventually broadband. Sculling ran the whole trading operation. It became the biggest part of the company. I think the assumption has always been that it catapulted him to the top. He was the future. He became a kind of wonder-kent, the king with golden touch. By 1997, only seven years after joining Enron, Sculling became president and chief operating officer, second in power only to CEO Ken Lay. And the success of the trading business gave Sculling Cloud and the leverage to pitch more ideas. In 1999, Sculling and his team delivered another home run, ratcheting up the speed and ease of trades. Up to that point, trading commodities like gas happened almost entirely over the phone. He had to dial up a number, wait till someone answered, and then offer a price, and perhaps Hagel. Maybe Hagel a lot. Precious minutes went by. Market forces were changing during the call. It was, to say the least, an imperfect process. Sculling thought the internet could compress that time to seconds. So Enron built an online platform where trades could be done in seconds. And best of all, all that business went through Enron. They called it Enron Online, and its launch went gangbusters. Sculling's boss, Ken Lay, was thrilled. In the first four months of activity, we've done over $24 billion of business, and currently we're averaging over a half a billion dollars a day. In 2000, transactions with a total value of $300 billion were completed on Enron Online. It became the world's largest web-based e-commerce site, and more trades meant more money in Enron's pocket. Enron stock continued to rise, and along with it, Gilling's star power. You know, so I had a different look from his early days at Enron. Carol Cole, the analyst, said Sculling shed those dweebie coke bottle glasses. He got lasx surgery. And hit the gym. And he lost weight. I think he became kind of an exercise guru, and got into kind of risky sports, and just really gained an error of confidence. Sculling was also something of a thrill-seeker, and brought this to the office culture. He would organize these extreme outings. They would become known as mighty man trips. Colleagues and associates joined him in the Australian Outback, racing land cruisers, and eating grub worms. Sculling had also built a brand-new Mediterranean mansion in a community called River Oaks. It was basically the Beverly Hills, Houston. The new Sculling took Enron to new heights, and whether it was his image, his effect on the culture, or his ideas, it paid off. His ventures at Enron became so successful that the company's reported revenues doubled in just one year to $100 billion. Soon afterwards, in early 2001, Enron appointed Sculling to the top job, CEO. But one great year wasn't good enough. Enron promised investors doubled digit earnings growth every year, and Sculling had to deliver. By this time, Enron's domestic pipelines, their original business, were still churning out steady, but unspectacular profits. Between 80 and 90% of Enron's earnings were coming from its wholesale trading operation, buying and selling gas, electricity, and other commodities. The business that had developed out of Sculling's gas spank idea, the broadband initiative was still losing money, but it was one of Sculling's pet projects. The company also had billions of dollars locked up in international assets. Natural gas power plants in India, pipelines in Brazil, a water company in Argentina. These costly investments were bringing in returns, but weren't as profitable as Enron wanted. Sculling wanted to sell off these foreign assets. That sector of the business was run by Enron's senior exec, Rebecca Mark Jewzbosch, the CEO of Enron International. I think there was just a lot of pressure on Ken and Jeff at that time because they were trying to shift over and sell whatever assets they could to shore up the balance sheet for the trading side of the business. Rebecca Mark Jewzbosch, who left before the collapse and was never accused of wrongdoing in the Enron case, saw the idea of dumping these assets as short-sighted. They weren't failing, they just needed time to mature. But she says Sculling was in a hurry. I think he preferred to pursue the more sexy side of the business, the new emerging world of things, of financial deals. And it looked a little bit more like that world than like my world of pipelines and power plants and oil and gas assets that one has to develop and spend time with. Power plants, pipelines, they were expensive investments. And according to Sculling, not good ones. It was absolutely clear that this was not the direction to go. We could not earn a compensatory rate of return on that side of the business. Selling off the infrastructure would also put Enron one step closer to Sculling's asset light vision for the company. Away from traditional pipelines and power plants, towards the emerging worlds of trade and tech. But not all of Sculling's new ventures were living up to the hype. In January 2000, despite her skeptical nature, potential analyst Carol Cole had been won over by Enron's broadband pitch. So it was a pretty uplifting, exciting meeting and I was glad that I had a buy rating on the stock and I was making money for my clients. But about a year in, she started to suspect the venture was faltering. It happened when she posted a job for an analyst to join her team and the applications came pouring in many of them. Enron broadband employees. So this February of 2001, that these resumes started hitting my desk. And how many would you say there were from Enron? At least 50. So these were Houston folks. They were walking across the street basically to come over and interview with me. Why were so many people leaving their hottest new venture? Cole called up Enron before interviewing any of the applicants. And their answer was, well we're just redeploying some folks and the ones who you're seeing resumes from the ones we let go. It didn't make sense. She was not looking at bottom of the barrel resumes. Enron, as you recall, they hired the best of the best. I mean they hired very smart people. I was excited to be interviewing these folks but I was also curious about why they were sitting on the other side of my desk looking for a job. Cole had kept the buy rating on Enron stock for around four years. Her clients were invested in Enron and a lot of that rode on the broadband business. If it was failing, her investors could lose a lot of money. And if she had no idea that was happening, she would be failing. So she asked the applicants. And the general response was Enron is exiting broadband. But that's not what Enron told her. She went back to the execs, confront them. I had proof. I had resumes in front of me and folks I had talked to that were saying we think something's a mess at Enron, we think they're shutting it down or exiting it. Because one day we had a job and the next day we were told to leave. I should note here, these layoffs would come up years later at trial. And scaling would acknowledge there were eventually layoffs in broadband. But at the time, Cole said Enron executives dismissed her concerns. But the red flags were adding up. One big flag involved an exclusive video on demand deal that Enron had signed in 2000 with blockbuster. Yeah, blockbuster. It's kind of hard to conceptualize, but you wanted to watch a maybe you had to go to blockbuster and rent a DVD. It seemed simple enough. Enron would build the streaming platform and blockbuster would provide the content. The partnership could have completely changed the way people watch movies at home. But the deal fell apart in early 2001. Enron complained blockbuster wasn't moving fast enough to get streaming rights to movies. And blockbuster claimed that Enron system had troubling tech and security problems. There was no hiding this hiccup. Enron had to report to investors to everyone, including Cole. I was dismayed about the blockbuster contract being terminated, but Enron said, now we can go pursue other sources that can provide content to us like movie studios. And it'll be even better. But Cole wasn't in the mood for any more of Enron's positive projections. She decided she would downgrade the stock to a hold. A signal to investors that it was time to bet on someone else. And that would be bad news for Enron. It could lead to other analysts and investors losing faith too. Scaling had heard that Cole was getting concerned about Enron. So he called her. I didn't answer it because I had already left for the day, but he left me a voicemail saying, "This sounds from your tone on the call that you're still skeptical. Let's meet one on one and I'll talk to you more about our strategy regarding broadband going forward." She says they met after work for a class of wine. And Cole remembers skilling spoke in a kind of confiding tone, less like a CEO trying to convince skeptical analysts and more like a friend trying to keep her from making an embarrassing mistake. And he continued to deny that they were exiting broadband and he finally said, "You have a lot of credibility as an analyst, Carol, and I respect you. But you will lose that credibility if you downgrade because we've got news coming out." It was unusual for a CEO to talk like this. I mean, what would you do if the CEO told you something like that? I mean, I thought, "Well, okay, I don't want to lose credibility and I want to look stupid because this man is trying to save me from myself." So I believed him. And at the time, I trusted him and I said, "Okay, I won't do it now then. I'll wait and see what your news is." So Cole waited and waited and waited. That news is skilling promised. Never came. Well, looking back now, do you feel like you were being lied to a bar? Jeff's skilling in his defense believed the Enron story. He drank the Kool-Aid. I don't know if he outright lied to me, but I don't think he had any material facts to keep me from downgrading the stock. She know what problems it, Enron, but skilling had promised something big was in the works. And skilling had pulled off big before. I felt like I had to have a reason to downgrade the largest market cap stock in my universe and probably the most widely held without any proof of anything. So it was a gut feeling. I didn't feel like I could say I'm putting a cell writing on the stock or hold writing because I just feel like there's something wrong. So her caution made sense. She and skilling both had a lot to lose. If Cole downgraded the stock, it would raise doubt about Enron's success story that skilling was selling to the public. Endouts, like an infection, can spread and do lots of harm. And if Cole made such a big, high profile call and was wrong, she said it could seriously damage your career. In fact, the first time she downgraded Enron stock back in 1994, she had felt the company's wrath. Management made a phone call to my boss who had just hired me and did not say very positive things. In fact, I think he might have wanted me to be removed from my position. We asked Prudential about this and they declined to comment. But as far as Cole was concerned, in 2001, her reputation was on the line. She decided to wait. In retrospect, we know that Enron's broadband initiative was on life support by early 2001. See, Enron execs weren't the only people who could see that the internet was headed to almost every home and business in America. Cole said a lot of businesses were making similar bets. But the consumer demand was not there yet. And even their competitors would say, we're not really sure how Enron can claim to be making all this money because we're certainly not an in broadband and bandwidth. Now, Enron broadband wasn't reporting a profit. The Cole did project. It could be making big bucks several years down the road. But potential profits years down the road wasn't enough. Enron didn't have the customers. The blockbuster deal had failed. And on top of that, there were hardware issues with that streaming player that connected to the TV. It was called a set top box. I didn't know until later when I was interviewed by the FBI that the set top boxes were not performing and not only that, they were actually catching on fire. Now Enron defenders say that glitch got fixed. And they also argued, these projects take time and require upfront investments to see big results down the road. They didn't promise to make money overnight. But by 2001, Enron had dropped a billion dollars on broadband and it had little revenue to show for it. Some would argue that the blame for the broadband failure shouldn't fall as skillings feat. Even though he announced it and celebrated it, the actual operation was overseen by others. Still, skilling was the CEO. It was his job to bail out the sinking ship. He was the one who oversaw those cutbacks in spending. The layoff of staff. He would later say, "Broadband was quote, my biggest disappointment. Reality had finally caught up with him." The more time went on, the more upset I became with him and with me for believing it, with him for misleading me. And this thought continued to fall. Cole wasn't the only person who'd feel misled. Publicly, skilling was putting a positive spin on Enron's finances in future. But behind the scenes, he was scrambling, managing debt, shoring up the company's troubled operations. That became apparent after Enron fell into bankruptcy. Skillings actions, what he did and what he told the public, became of great interest to the FBI. Just two days after Enron filed for bankruptcy, the FBI started its investigation. I actually have a couple t-shirts. This one says, "I got laid off from Enron and all I got was this lousy t-shirt." Mike Anderson is a retired FBI investigator. He had a senior position on the Federal Criminal Investigation of Enron. I had a bunch of other Enron trinkets, including a deck of playing cards. So in these cards, Kenley is the Ace of Spades. Jeffers skilling is the King of Spades. These guys had been at the top of Enron, and they had landed on the top of Anderson's target list. Now, building a white collar case is no easy endeavor. Anderson and his colleagues focused on parts of the business that appeared to be in trouble, and where executives appeared to be covering up. One of the first things Anderson looked into was broadband. Specifically, a trip skilling took to Enron's broadband offices in Portland, Oregon. March, 2001. Now, this was around the time those Enron employee resumes were landing on Cole's desk. They flew out, and he told the employees that they were centralizing operations in Houston, and that there would be layoffs because of a total meltdown in the broadband industry. Anderson found it suspicious that skilling spoke of a total industry meltdown to employees of Enron broadband services, EBS for short. Because only a week later says Anderson, skilling gave the public a very different message. So Jeffrey Scaling comes back from Portland, and on March the 23rd of 2001, he's on an analyst call, and he says, "Enron's business is in great shape." I know this is a bad stock market, but it runs in good shape. He went on to say that broadband is coming along just fine, and that EBS or broadband was not laying employees off, but rather moving people around inside EBS. And he said, "This was very good news." So without a doubt, skilling lied, skilling lied to the analysts on that phone call. These events became part of the government's case against skilling. It's illegal to make false statements to investors, and in Anderson's eyes, that made skilling a fallant. So again, I think skilling was under immense pressure to make the numbers, but no matter how much pressure you're under, you can't go out and make false and misleading statements on an analyst call, or to the investors, to the employees, to the regulators, you can't do that. And if you do, then you're going to get indicted potentially and be accountable for that. Skilling as lawyers argue that he never lied to anyone, that he was open about the tough situation that brought bad marketers in, but that he maintained optimism for employees and investors. Skilling testified in court that he told employees, "We're going to make this business work. We've just got to get through the next couple of years, and it's bad." You know, there's a tendency in Silicon Valley to fake it till you can make it. There it is again. Fake it, tell you make it. Potemkin Village. As long as you win in the end. Again, I only, Jeffrey Skilling can explain this, but in his mind, maybe he's thinking he can find some way to turn things around. And if he's able to do it, nobody will ever know what the problems were. I too, still wonder what was going through Jeff Skilling's mind, especially in those months before he shockingly quit a CEO in August of 2001. Sure, Enron had problems, some are the big ones, but also still had impressive strengths, a mammoth trading operation, a huge pipeline system moving gas and collecting cash, profits each quarter. But much of Enron's financial success, rest of his stock price, staying high, which in turn required analysts like Carol Cole to believe in it, to believe the story it was telling. Did that pressure push Skilling to be too optimistic, to the point of lying, to the point of committing felonies? So you have to establish the intent. Now can you say it's because they were greedy? Yeah, but you've got to be able to prove that. The questions about what was in Jeff Skilling's mind would help define one of the biggest corporate criminal trials ever. For her part, Carol Cole still gives skilling the benefit of the doubt. It was a story stock, just it was a story because they were conceptualizing and then executing. So the investors had to buy into the concept before they actually executed, but in the beginning they appeared to be executing and it was just, it was a growth stock. I call it a growth story stock because the idea or the concept preceded the actual earnings that they generated from those businesses. This is one reason, it's so hard to get white collar criminal convictions. It can't put someone in prison just because their idea didn't pan out. Prosecutors would have to prove skilling knowingly committed a crime. My colleague Rebecca Smith and I continued investigating Enron. We found things that were much more troubling than a few acts of theater performed for analysts and investors. An insider called to tell us about a scheme involving hundreds of millions of dollars. I remember thinking, how can a CFO of a major company be general partner of a private equity fund? Other people inside Enron were also noticing problems, but they didn't go public and tell it was all over. I was highly alarmed by the information I was receiving. I was not comfortable confronting either Mr. Scaling or Mr. Festa with my concerns. To do so I believed would have been a job terminating move. The story of the whistleblowers. That's next time on Bad Bets. This episode of Bad Bets was hosted by me, John M. Schweller. The original reporting on which this season is based was done by Rebecca Smith and me. Bad Bets is production of the Wall Street Journal. This season was produced in collaboration with Neon Hum Media. From the Wall Street Journal, Cateriochum is the executive producer of this podcast. Dan Rosen is the co-executive producer of WSJ Studios. Anthony Galloway is the global head of video and audio at the Wall Street Journal. From Neon Hum Media, Mune Danish and Haley Fager reported, wrote and produced this season. Nathal Akato is the associate producer, story-edding by Annie Gilbertson and Vikram Patel. Sammy Allison is a production manager, sound design and engineering by Scott Somerville. And the executive producers from Neon Hum are Sharon Morris and Jonathan Hirsch. This episode was fact-checked by Justin Klosko. The theme song and many of the tracks you hear in this series were composed by Hansdale Sue. The other music in this season of Bad Bets is from Epidemic Sound and Blue Doc Sessions. Subscribe and listen wherever you get your podcasts. I'm John M. Schweller. Thanks for listening.