I haven’t read it yet but the opinion can be found here.
This document is a memo drafted by Anderson auditor Thomas Bauer about the investigation into Chewco. I think the very last diagram (last page) is very good.
Subcommittee on Oversight and Investigations
February 7, 2002
2322 Rayburn House Office Building
Mr. Thomas H. Bauer
555 12th Street, NW
Washington, DC, 20004
Good morning, Chairman Greenwood, Representative Deutsch, Chairman Tauzin, Representative Dingell, and members of the Subcommittee and full Committee. I am Tom Bauer. I am a partner at Andersen, where I have worked since 1974. I am appearing today at the request of the Subcommittee to discuss the accounting issues associated with the Chewco transaction.
By way of background, I grew up in Western Pennsylvania and attended college at Indiana University of Pennsylvania, where I received a bachelor’s degree with a major in accounting in 1974. After graduating from college, I began my career with Andersen and have been with the firm ever since. I became a partner in 1986. In 1995, I joined the Enron audit engagement.
I understand this hearing will focus on several transactions involving Special Purpose Entities. This morning I will discuss the Chewco transaction, with which I am familiar.
It recently has become clear that, in 1997, when the Chewco transaction was conceived, Enron withheld information from and misled me on the accounting issues related to Chewco. I knew nothing of this at the time. I was told I had been provided with all relevant documentation in Enron’s possession. Had the information that was withheld been timely provided to me in 1997, when I requested it, the accounting advice and opinion of Andersen would have been different and the major part of the restatement that occurred in November 2001 would have been unnecessary.
Let me describe the background. In 1993, an Enron subsidiary and CalPERS formed a partnership known as Joint Energy Development Investments. It was called JEDI for short. JEDI invested in energy-related securities and other investments. It was a very successful investment. Because JEDI was a 50-50 partnership between Enron and CalPERS, Enron appropriately did not consolidate JEDI for financial reporting purposes. These events occurred before I became involved with auditing Enron.
In late 1997, Ben Glisan, the Enron transaction support employee with principal responsibility for accounting matters in the Chewco transaction, contacted me to discuss the accounting for a transaction that Enron was entering into. Mr. Glisan is an able accountant, who at the time was thoroughly familiar with the accounting rules governing Special Purpose Entities. He told me CalPERS’ limited partnership interest in JEDI would be acquired for approximately $300 million by an entity called Chewco Investments, LLP. In our discussion, Mr. Glisan told me that Chewco would be structured as a Special Purpose Entity so that it would qualify for non-consolidation. Mr. Glisan also told me that an Enron employee, who I later learned was Michael Kopper, would have a very small interest in Chewco. He also said Enron was considering guaranteeing a loan that would finance a substantial portion of the transaction.
I reminded Mr. Glisan that for Chewco to qualify for non-consolidation, as he proposed, two tests had to be met. First, at least 3 percent of its capitalization had to be at-risk and attributable to entities independent of Enron. Second, neither Enron nor a related party of Enron, such as an employee, could control Chewco. I confirmed this advice with Andersen’s Professional Standards Group in Chicago. Mr. Glisan assured me that Chewco would have 3 percent independent equity and would not be controlled by Enron or an Enron employee.
As the transaction unfolded, Mr. Glisan told me that Chewco’s independent equity would come from two sources. First, he said that a large financial institution independent of Enron would make a large equity contribution. I later understood this large financial institution to be Barclays. According to Mr. Glisan, the second component of Chewco’s third party equity would come from wealthy individual investors, who, with the exception of Mr. Kopper, would be independent of Enron.
I requested that Mr. Glisan provide Andersen with all documentation in its possession relating to the transaction. He told me he would do so and he thereafter provided pertinent documents to me. Enron senior officials also confirmed in writing that I had been given all documentation they had. In this connection, I reviewed:
minutes of Enron’s Executive Committee of the Board of Directors approving the transaction;
the $132 million loan agreement between JEDI and Chewco;
Enron’s guarantee agreement of a $240 million loan from Barclays to Chewco;
the amended JEDI partnership agreement; and
a representation letter from Enron and a representation letter from JEDI, each of which stated that related party transactions had been disclosed and that all financial records and related data had been made available to Andersen.
I also requested that I be provided documents relating to Chewco’s formation and structure. Mr. Glisan told me that Enron did not have these documents and could not obtain them because Chewco was a third party with its own legal counsel and ownership independent of Enron. I did not view this as unusual. Quite frequently an auditor does not receive documents from a third party who is represented as being independent. Andersen did send and received a confirmation regarding the loan agreement from the Chewco representative.
The transaction documents and Enron board minutes I reviewed relating to Chewco corroborated the representations I had received from Mr. Glisan and Enron. The documents described an $11.4 million independent equity infusion into Chewco, which represented 3 percent of Chewco’s capitalization. Also, the documents described and represented that Chewco was “not affiliated” with Enron. Thus, in 1997, based on what I was told and what I reviewed, Chewco appeared to meet the criteria for a non-consolidated Special Purpose Entity.
Roughly four years later, on October 26, 2001, two Enron accounting employees called me to discuss concerns that had recently arisen about the sufficiency of Chewco’s independent equity. On November 2, 2001, Andersen received a set of Chewco documents gathered by the Special Committee of Enron’s Board of Directors. When I reviewed these materials, I was appalled to discover a document I had never seen before – a two-page Side Agreement between JEDI and Chewco amending their 1997 loan agreement. The Side Agreement was dated December 30, 1997, the very same day that the loan agreement between JEDI and Chewco was signed. As I mentioned previously, Enron showed me and gave me the loan agreement during the 1997 audit. They did not show me or tell me about or reveal the existence of the contemporaneous Side Agreement. The same individuals who signed the loan agreement also signed the Side Agreement.
The Side Agreement materially altered the accounting treatment of Chewco. By itself, it caused Chewco to fail to qualify as an unconsolidated Special Purpose Entity. Under the Side Agreement, JEDI was directed to deposit $6.58 million into reserve accounts created for Barclays’ benefit at entities known as Big River and Little River. Barclays’ $11.4 million equity infusion in Chewco appears to be conditioned upon the receipt of the $6.58 million from JEDI. This means that the independent at-risk equity in Chewco was not $11.4 million as represented, but rather much less, and significantly below the 3 percent necessary for non-consolidation.
The undisclosed Side Agreement meant that Chewco’s and JEDI’s financial statements should have been consolidated with Enron’s since 1997. I do not know why this critical Side Agreement was withheld from me in 1997. I do not know who made the apparent decision to mislead Andersen and me. Had Andersen, in 1997, been provided the materials that I received in November 2001, there is no way I would have permitted Chewco to be treated as an unconsolidated Special Purpose Entity, and a significant portion of the November 2001 restatement would have been avoided.
In addition, other documents provided to me for the first time in November 2001 raised other accounting issues. Had I known this information in 1997, I also would have modified my conclusions and opinions relating to Chewco.
Mr. Chairman, I hope the information I have provided is helpful to the Committee’s inquiry. I am here to answer any questions that the Committee may have.