the CAMP ENRON Report

... gateway to the next Progressive Era?

Some say it's nothing but a train wreck ... roll in the big cranes, clear the track, see what the crew's been smoking. If I thought so, I'd not be writing this ... and if they thought so, they'd not be drumming so hard.

For a brief orientation, see this
Welcome to Camp Enron

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Camp Enron Archives
01/01/2002 - 02/01/2002 02/01/2002 - 03/01/2002 03/01/2002 - 04/01/2002 04/01/2002 - 05/01/2002 05/01/2002 - 06/01/2002 06/01/2002 - 07/01/2002 07/01/2002 - 08/01/2002 08/01/2002 - 09/01/2002 06/01/2003 - 07/01/2003

(2) All "major" articles of older material have now been imported, some with updates worth perusing. We'll keep it all on the main page for a while, will add a few loose pieces of history, will trim the main page and index the archives for convenience later.


free agent, loose cannon, pointy stick ... taking an imposing analytic toolkit out of the box, over the wall and into the street ... with callous disregard for accepted wisdom and standard English

reading the tea leaves from original angles, we've led with uncannily prescient takes on the federal surplus, the dotcom crash, the "Energy Crisis", the Afghan campaign, the federal deficit.

More where those came from ... stay tuned.

For brief orientation, see this
Welcome to CP

... gateway to the next Progressive Era?

For a brief orientation, see this
Welcome to Camp Enron

Many thanks to Tony Adragna and Will Vehrs, still shouting 'cross the Potomac at QuasiPundit. Early Camp Enron material can be found in QP's Dispatches department.
Sunday, January 27, 2002

--- Economic Impact Statement ---

Thought for the day: Al Qaeda couldn't do it. Larry Klayman couldn't do it. Henry Waxman couldn't do it. But the Enron bunker-buster did it. (Smoked Dick Cheney out of his hole.)

For your amusement and agonization, this Camp Enron Economic Impact Statement.

Today's riff supposes that Enron is only a financial accounting scandal, but a BIG accounting scandal.

Enron moved its own stock into shells on some Cayman Island beach that looked like separate firms, but really existed only as separate manila folders in an Enron file drawer. This made price moves in Enron stock look like Enron primary earnings, and these rising earnings gulled Wall Street into kiting the stock higher and higher.

Oldest trick in the book ... and nobody got wise while it still mattered. Not the analysts, nor the banks, nor Moody's, nor Andersen, nor SEC, nor S&P, nor WSJ, nor FERC, nor CNBC. How might this affect the token economy of dollars and shares and IOU's and options? The real economy of material and labor and goods and services and physical capital and intellectual capital?

Let's track a few trains of economic cause and effect in and out of the tunnels.

(1) Every financial report, for every firm, good and bad alike, gets read with greater skepticism, producing lower P/E's across the board.

(2) Accounting practice gets more conservative, lowering the stated earnings on which those lower PE's are applied.

(3) Imperfect information reduces price and volume in capital markets. (Both buyer and seller suspect the other knows more than they do.)

(4) The prices firms pay for externally generated capital goes up (both in absolute measure and relative to retained earnings).

(5) US relative advantage in perceived transparency narrows, and US assets are treated less favorably in global capital flows.

(6) Capital moves less fluidly to the most productive opportunity. Big moves in sophisticated instruments are most strongly affected.

(7) Equity market preference shifts in favor of dividend-payers, moving capital out of growth industries into mature industries, and into

(8) Proprietary innovations scale up more slowly.

(9) Proprietors reap less of the potential return on intellectual investment, learning curve, build-out costs and proof-of-concept risks before their innovations are copied, coopted or superseded.

(10) Innovation is reduced.

(11) In sectors accustomed to using stock as compensation, labor gets more expensive and proprietary risk increases.

(12) Regulation and regulatory delays increase.

(13) Product prices increase.

(14) And so on through currency effects, human capital displacements, lifestyle effects ... my apologies for whatever I may have left out.

In particular, any "New Economy" business model becomes a harder sell, whether it makes sense or not. Unfortunate, since we need a whole generation of new models to put the dotcom Humpty Dumpty back together again.

Several popular business practices -- especially transactions using stock as currency -- will be inhibited. Mergers and acquisitions, spin-offs, employee stock options, ESOP's and 401-k's, hostile takeovers, special purpose joint ventures, even IPO's ... both those that make sense, and those that don't. A whole adjunct industry of professional midwives to these transactions may also suffer.

Can we quantify these effects? Hmmm. If somebody had a few thousand unemployed quant geeks and a raft of unused computers, they might take a stab at pricing out a risk mitigation vehicle -- "Enron Insurance" -- and crank that into to a comprehensive econometric model. But as conservative theorists are fond of pointing out, fairly priced insurance raises the moral hazard that buyers will drop their guard, defeating the premium.

On the plus side of all this, we may end up pouring less real capital down the proverbial rathole.

And these effects apply if it's a pure financial accounting scandal ... no assets stranded or economically destroyed (as in half-finished capital projects), and no resources maldistributed (leaving the economy farther from the efficient frontier).

8 ... 7 ... 6 ... 5 ... 4? Suppose it's an accounting scandal big enough to take down Andersen. [Better than even money based on current info. Also better than even money that current info is not the whole story.] Audit firms don't grow on trees, and they don't grow back. I remember the Big Eight ... when, a decade ago? Now there are five. Number Six is an order of magnitude smaller than Number Five. Merging the next 100 audit firms only creates a weak-sister #6. There are no contenders, and no process of grassroots development will produce one.

In industry after industry, big firms are gobbling up small firms, and going multinational. It takes a big outfit to audit a multinational, and nobody knows how to make a new big audit firm from scratch. There will be bigger firms, fewer choices, and more human resources sorted and stratified through internal culture rather than external feedback.

Suppose it's just an accounting scandal, but big enough to inspire conflict-of-interest prohibitions against firms doing tax and management consulting for its audit clients.

Auditing will be more expensive in terms of real cost -- even at the same level of intensity! Auditing and consulting share powerful marketing cross-subsidies. In "Make Audits Pay: Leveraging the Audit Into Consulting Services", AICPA says "intense competition has reduced the audit to a mere commodity that is distinguishable to the consumer only according to price." (thx, WaPo)

And audits will be more intensive, at least temporarily.

On the plus side, freer competition may open the market to better resources, better matched to specific audit and consulting tasks.

What about the void left by Enron, which was a major market-maker in a wide range of securitized commodities. Many observers -- this writer included -- were surprised when the collapse left these markets relatively unruffled. Not just unruffled ... it looks like energy markets in particular began operating much more efficiently in the immediate aftermath of Enron's departure. We'll revisit this when we delve into the question "Did Enron exist?". Meanwhile, a small network of very sophisticated number-crunchers are doing a little delving of their own, which may in time serve up another shock to the system.

And it may take time for the toxic effects of Enron fallout to show up in its business partners. We'll profile a few cases in later dispatches.