Which one are you?  The ancient parable of the fox and the hedgehog has come into increasing view in popular culture lately.  And while its origins are somewhat ambiguous, the allegory has been applied to entrepreneurs, scientists, philosophers, playwrights, business leaders, economists, and even US presidents.

One of the fables goes something like this (sorry, no link to a source … I am paraphrasing a story from my childhood):

A fox and a hedgehog were strolling through a country path.  Periodically, they were threatened by hungry wolves.  The fox — being blessed with smarts, speed and agility — would lead packs of wolves on a wild chase through the fields, up and down trees, and over hill and dale.  Eventually the fox would return to the path, breathless but having lost the wolves, and continue walking.  The hedgehog, being endowed with a coat of spikes, simply hunkered down on its haunches when menaced by the wolves and fended them off without moving.  When they gave up, he would return to his stroll unperturbed.

According to the great liberal (before that was a dirty word) historian and thinker Isaiah Berlin who in 1953 wrote the Essay “The Hedgehog and the Fox“, interpreting the works of Tolstoy, Foxes are complex thinkers who account for a variety of circumstances and experiences while hedgehogs have the keen ability to focus and drive along a single path.  As examples, Berlin flags such thinkers as Plato, Lucretius, Dante, Pascal, Hegel, Dostoevsky, Nietzsche, Ibsen, and Proust as Hedgehogs and slots Herodotus, Aristotle, Erasmus, Shakespeare, Montaigne, Moliere, Goethe, Pushkin, Balzac, Joyce, Anderson as Foxes.

More recently, Jim Collins (author of “Good to Great“) took this concept into the business world in his book and it is one of the central unifying themes of his work.  In his book and other writings Collins comes down pretty hard on Foxes:

Those who built the good-to-great companies were, to one degree or another, hedgehogs. They used their hedgehog nature to drive toward what we came to call a Hedgehog Concept for their companies. Those who led the comparison companies tended to be foxes, never gaining the clarifying advantage of a Hedgehog Concept, being instead scattered, diffused, and inconsistent.

This is understandable.  Collins, a former Stanford University Business Professor, comes from a hedgehog factory.  He has made a career of spooling hedgehogs into mainstream companies at the mid-management level and consulting with large, heavily-matrixed companies on business strategy and leadership.  In many respects he lives in a world constructed by and for hedgehogs — so it makes sense that he could see the “Great” companies he writes about in his books (all typically fortune 500 players) as hedgehogs.  On a long enough timeline we are ALL wrong, but it is worth pointing out that a number of Collins’ “Great” companies have suffered badly from (and others have caused) the current economic downturn, eg. Circuit City.

As Nicholas Kristof describes the dichotomy in the NY Times:

Hedgehogs tend to have a focused worldview, an ideological leaning, strong convictions; foxes are more cautious, more centrist, more likely to adjust their views, more pragmatic, more prone to self-doubt, more inclined to see complexity and nuance. And it turns out that while foxes don’t give great sound-bites, they are far more likely to get things right.

John Kerry is clearly a Fox: A self-doubting; complicated; unable to present absolute, sound byte-friendly answers to complex questions.  George W. Bush, however, presents himself as a hedgehog: simple, direct, ideological, and absolutely assured of his correctness.  In 2004, America signed up for its second term of 4 years of hedgehog leadership to substantial effect.

In our industry, hedgehogs have the benefit of focus and the ability to keep their heads down and companies out of trouble during tough times.  They succeed through the avoidance of substantial risk and through the ability to see things through.  When they fail, it’s because their conservatism holds them back, and markets move past them; or because they can’t release their death grip on that singular idea and move on to the next thing.

The Fox has the benefit of broad vision and the ability to perceive the complex interaction of seemingly dissonant ideas, and they succeed because they are able to travel outside of marked pathways with their ideas and make substantial gains.  When they fail it’s because their reach exceeds their grasp, because they are too far ahead of the market, or because they have difficulty maintaining focus to see things through.

The one problem that Mr. Collins cannot cop to is that while Hedgehogs are mass-produceable through training and discipline (this is what MBA factories do), Foxes are not so easy to come by:  their behaviour is learned but it is most likely interdisciplinary and tangential.  As a modern example, one could strongly argue that Steve Jobs, Reid Hoffman, and many successful tech entrepreneurs are foxes.

On the other hand Bill Gates, who at one time was the richest man in the world:  pure hedgehog.  Rupert Murdoch?  Count the spikes.  There are many successful hedgehogs in the mainstream business world and far fewer Foxes.  The structure of businesses, after all, are generally designed around hedgehogs. In general larger corporate structures aren’t great at absorbing foxes.  It’s why Jobs quit Apple, before going back as CEO under a mandate that embraced his wide-ranging aspirations.  It’s probably why entrepreneurs such as Evan Williams, who blew out of Google as soon as he could after selling blogger.com to them, generally can’t wait to get out of the mother ship after a their lock-up periods are done.  A friend and the CEO of a company acquired by Microsoft always referred to Redmond as “they” and never “we” even while he took down an amazing salary serving as a VP for two years.

Innovation is a concept which we modernists tie into every description of a person’s thinking process.  Wikipedia says there are a few different types of innovation:  “It may refer to incremental, radical, and revolutionary changes in thinking, products, processes, or organizations.”  Perhaps the razor cuts this way:  Perhaps hedgehogs deliver incremental changes while foxes deliver radical, revolutionary changes.

As a fox, I know that many of my successes have come when paired with hedgehogs.  A hedgehog can pluck a singular concept from the maelstrom of energy emanating from the fox and run with it along a narrow path.  Steve Jobs had Wozniak on the engineering side, and just as significantly Mike Markkula on the financing and business affairs side.  The latter two are quintessential hedgehogs.

While it’s valuable to know whether you’re a fox or whether you’re a hedgehog, it is not particularly constructive to assign a static value judgment to one versus the other.  At varying points in the arc of a business, a prevalence of influence from either a fox or a hedgehog can make or break a company.  Witness the foxes that artificially inflated hyper-economies at Enron (Jeff Skilling) and AIG (Joseph Cassano) to great personal benefit but ultimately destroyed hundreds of billions of dollars in wealth.  And meet the Hedgehogs, Gil Amelio and John Sculley, who sapped the growth of Apple, diluted its brand value, and very nearly bankrupted the company.

So figure out what you’re good at, chase the visions you believe in, and if you’re fortunate enough to work in an environment that embraces and supports your particular attributes, you’ll ultimately be successful.

When Enron needed cash, the company’s chief financial officer had just the answer: a web of companies that would keep the firm’s liabilities off its books – and make him rich. In the second extract from his new book, Robert Bryce describes the rise of ‘a master of creative financing’

Tuesday November 5, 2002 The Guardian

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By mid-1999 Enron had a sticky finance problem. A year earlier, the company had invested $10m (£6.4m) in a fledgling internet service provider called Rhythms NetConnections. In early 1999, Rhythms had gone public and the internet bubble had sent its stock into the stratosphere. On the first day of trading, the company’s stock closed at $69. Suddenly, Enron’s share in the company was worth about $300m. But Enron couldn’t sell it. Under the terms of its original investment, Enron had agreed to hold the shares until the end of 1999.

After thinking about the matter for some time, Andy Fastow, Enron’s cocky young chief financial officer, came up with a convoluted plan to help Enron preserve the value of its Rhythms NetConnections investment. The plan would be executed by a new limited partnership called LJM Cayman, LP, which would be controlled by Fastow. The name had Fastow’s personal stamp on it, created from the initials of Fastow’s wife, Lea, and the couple’s two children.

LJM1 would function as a parking lot for Enron, a place where the company could stow and retrieve assets. Those assets would be hidden from Wall Street and small investors because LJM would not be owned by Enron. Therefore, all of LJM1’s functions and assets would be separate from Enron’s balance sheet. Unlike an earlier off-balance-sheet deal, Whitewing, LJM1 would be controlled by an Enron insider, Fastow. On June 18, 1999, Fastow met with chairman Ken Lay and CEO Jeff Skilling. He proposed to create LJM1 with an investment of $1m of his own money and $15m from two limited partners. Additional capital for the new entity would come from Enron, which would invest 3.4m shares of restricted stock in LJM1. Lay and Skilling apparently thought Fastow’s idea was a good one, even though on the surface it appeared that LJM1 failed to meet the test for off-the-balance-sheet deals. LJM1 was going to be used to move debts and risky investments (including Rhythms) off Enron’s balance sheet. But to do that, LJM1 had to satisfy three requirements:

· At least 3% of the equity had to come from outside (that is, non-Enron) investors.

· The entity could not be controlled by Enron.

· Enron was not liable for any loans or other liabilities.

LJM1 might have qualified under two of the three. But how was Enron going to be able to prove that LJM1 wasn’t controlled by Enron when the company’s CFO was managing all of the investments? It appears that neither Lay nor Skilling thought about it. Nor did Lay consider how much money Fastow might make on the assets he was buying from Enron. After a bit more discussion, Lay agreed to bring Fastow’s proposal to the Enron board of directors at the board meeting on June 28, 1999.

At that board meeting, after a short debate, the company’s board of directors agreed to waive Enron’s ethics policy, which prohibited the company’s officers from doing deals directly with the company, and approved the LJM1 deal. The approval opened the floodgates. And LJM1 became the cornerstone of Fastow’s financial house of cards.

No one at Enron – or anyone else, for that matter – ever accused Fastow of excessive humility. And throughout 2000 and early 2001, the company’s chief financial officer was at the apogee of his self-diagnosed genius. Fastow was fully convinced that his skein of partnerships and off-the-balance-sheet entities, with its mind-numbingly complicated spider’s web of interconnections and interdependent relationships, was the ultimate advance in financial engineering. “I can strip out any risk,” Fastow once bragged to a co-worker.

It is not just his colleagues who were convinced. At the end of 1999, CFO magazine had named him one of their CFOs of the year, giving him its “CFO excellence award for capital structure”, an award given to him for helping make Enron into “a master of creative financing”. The magazine praised Fastow’s work on the financing structure, which he created so that Enron could buy water company Azurix, as well as several power plants, while keeping the debts off its balance sheet. When the award was announced, Skilling praised Fastow to CFO magazine, saying that Enron needed “someone to rethink the entire financing structure at Enron from soup to nuts. Andy has the intelligence and the youthful exuberance to think in new ways. [He] deserves every accolade tossed his way.”

Fastow enjoyed the rewards of his special position too. On top of his salary and earnings from the sale of Enron stock ($33,675,000 between 1998 and 2001), his investments in LJM1 and LJM2 earned him no less than $45m. He was partial to fancy watches: he often wore a Franck Muller model known as a “Master Banker” (no snickering, please), a spiffy analogue watch that showed the time in three different time zones. It cost about $9,000. In late February 2000, he bought a house in the exclusive Houston suburb of River Oaks.

Other Enron big shots already lived in the same 77019 postcode. Ken Lay had been in River Oaks for years. Jeff Skilling also lived there. So it made sense that when Fastow started pulling the big money, he bought a house on Del Monte Drive in the heart of River Oaks.

“Andy wanted to keep up with the things that Skilling was doing. Skilling had a house in River Oaks. For Andy to be at that level, he needed the big house, too,” said one finance executive who worked closely with Fastow.

Fastow’s special-purpose entities became a fast and dirty way for Enron to manufacture additional revenues in a big hurry. In the last 11 days of 1999, Fastow’s companies did seven separate deals with Enron. In addition to a power plant in Poland, Fastow’s LJM2 entities bought a stake in some of Enron’s loans, bought part of Enron’s stake in a natural-gas gathering system in the Gulf of Mexico, bought a stake in a trust Enron had invested in called Yosemite, and bought part of Enron’s stake in a company that provided financing for natural-gas producers.

The advantage Fastow brought to Enron with the off-the-balance-sheet entities was the ability to do deals quickly. Enron was “looking for a quick way to sell assets to generate income,” said one long-time Enron finance person. “If you control both sides of the deal, you can do it very quickly at any price you want. That’s an advantage versus a situation where you’re trying to sell it to a third party, where it might take a year or more. It was a way for them to control the entire process.”

Fastow helped Enron control the process through a flock of entities with names such as Osprey, Osprey Trust, Timberwolf, Bobcat, Egret, Condor, Rawhide, Sundance, Ponderosa, Harrier, Porcupine and Mojave. He also created a quartet of misbegotten entities known as the Raptors.

The sham deals quickly became one of Enron’s main business units. In 1999 alone, Fastow’s deals inflated Enron’s profits by $248m – that’s more than one-fourth of the $893m in profits Enron reported that year. In between September 1999 and July 2001, Fastow’s LJM1 and LJM2 did about 20 different deals with Enron. And Fastow’s flimflam partnerships made a profit on every transaction they did with Enron. It looked as if Fastow could not lose. Using Enron’s stock instead of cash to prop up his financial house of cards seemed like a great idea. Enron’s stock had begun 2000 stuck at about $43. However, thanks to the hype surrounding Enron Broadband Services, it quickly began to climb into the ionosphere. By the middle of the year, it was trading in the $70s. On August 23, 2000, it hit its all-time high – $90 a share. Enron’s stock – it seemed – was better than cash.

Given that rising stock price, Fastow apparently convinced Enron to pledge a total of $1bn worth of its stock to the Raptors. The Enron stock would provide the “capital” that the Raptors needed to do transactions. In return, the Raptors would help Enron lock in tens of millions of dollars in gains on stock it held in newly public companies, like hardware maker Avici Systems and The New Power Company, an energy company that planned to sell electric power to individual homeowners.

While the accountants slept, Enron’s attorneys were starting to worry about the Raptor deals. On September 1, 2000, Stuart Zisman, an attorney who had been looking at the Raptors, sent an email to his superiors in Enron’s legal department that said: “We have discovered that a majority of the investments being introduced into the Raptor Structure are bad ones. This is disconcerting – it might lead one to believe that the financial books at Enron are being ‘cooked’ in order to eliminate a drag on earnings.”

Enron was cooking the books and Fastow was the chef de cuisine. So where was Andersen this whole time? It was, as usual, cashing Enron’s cheques. In exchange for its work on the Raptor deals, Andersen charged Enron a total of $1.3m.

———–

Its testosterone-fuelled traders were fixtures in Houston’s strip clubs. One division of the company spent $2m a year on flowers alone. And its executives used the firm’s corporate jets as taxis. In the first extract from his remarkable new book on the rise and fall of Enron, Robert Bryce describes the heady mix of greed, sex and arrogance that produced America’s most spectacular financial scandal

Monday November 4, 2002 The Guardian

J R Ewing never talked about pipelines. Jett Rink was interested in drilling for oil, not shipping it through a maze of unseen steel tubes. Real men – particularly fictional ones like Ewing and Rink – find oil and gas. Lesser mortals navigate the maze of engineering, metallurgical and legal wrangles that are needed to get those hydrocarbons delivered to the nearest refinery or storage terminal. Face it, there’s no sex in laying pipe.

Yet pipelines are the conduit for the American Dream. Every year, pipelines carry some 550 billion gallons of crude and petroleum products to refineries, airports, rail yards and other locations. Trillions of cubic feet of natural gas are moved through some 2 million miles of interstate, intrastate and local pipelines. Pipelines are the largely invisible, sometimes dangerous, infrastructure that allows America to consume more energy than any country on earth. By the early 1990s, when Jeff Skilling, a former McKinsey consultant, began his rise to power within Enron, the company and its leaders were, says one veteran gas man, “the kings of the American pipeline business”. Enron owned the greatest collection of tubular steel infrastructure ever assembled in one company. It was transporting or selling 17.5% of all the gas consumed in the United States.

Those pipelines were profitable but they were, and still are, heavily regulated by federal authorities. With all of the federal regulations on pricing, the pipeline business is more akin to the utility business than the energy business. Pipelines carry a product from one spot to another, and the owner of the pipe gets paid a fee for the service. It’s a straightforward, profitable business. As one former Houston Natural Gas executive said of pipelines: “All they do is make money. It’s boring, but it’s dependable.”

Perhaps that’s why Skilling hated them so much. Skilling’s brain was too big for pipelines. He was always thinking big thoughts. And big thoughts have no place in the pipeline business. Pipeline companies demand solid managerial skills from people who show up every day and stick to their business. Skilling was not a manager, he was a deal-maker. Exotic financing schemes and the deals that came with them excited Skilling. Collecting nickels, dimes and quarters from what was essentially a new-fangled toll road that no one could even see, did not. The only thing that mattered to Skilling about Enron’s pipelines was that they kept providing him with cash that he could use elsewhere.

For Skilling, elsewhere meant only one place: the trading business. Skilling may have disliked pipelines, but he was an absolute genius at figuring out how to trade the precious commodity that moved inside them.

As soon as Skilling moved on to the 50th floor, he began a hiring binge that didn’t stop until the company went bankrupt. But give him credit: he attracted the best and the brightest. Harvard, West Point, Rice, University of Chicago – every prestigious school in the country began feeding their best MBAs, engineers and maths wonks to Enron. At the same time, Skilling began raiding Wall Street, stealing traders, investment bankers, information technology whizz kids, programmers and every other skill-set that Enron needed.

The fleet of newly hired hotshots were never short of confidence or the belief that they were working at the best, smartest, fastest-moving company in the world. One longtime Enron employee (who held a PhD from the University of Maryland) said: “There’s no question that Enron people arrogantly thought they were smarter than everybody else. There’s no excuse for that. But they were smarter than everybody else.”

By mid-2000, Skilling had achieved his goal: almost all vestiges of the old Enron, the stodgy, slow-growing pipeline-based entity that transported gas and generated a bit of electricity, were gone. In its place, Enron had become a trading company. And with that change came a rock-’em, sock-’em, fast-paced trading culture in which deals and “deal flow” became the driving forces behind everything Enron did.

Traders ran the place. All of the company’s top executives – particularly those close to Skilling – were either traders or had helped run trading operations. And all of them believed in Skilling’s vision of Enron as a trading company. Chief financial officer Andy Fastow (who was last week charged with 78 counts of fraud and money-laundering) had learned the trading business while in Skilling’s group in the early 90s. Greg Whalley, the president of Enron Wholesale Services, the entity that ran the company’s trading operations, had worked in Europe as one of Enron’s chief power marketers. Mark Frevert, the chairman and CEO of Enron Europe, had overseen the company’s European trading operations. Other top execs, such as Lou Pai, had been involved in trading for years.

Pai, who owned a 14,000ft mountain in Colorado, had two passions in life: money and watching young women take their clothes off – but not necessarily in that order. At Enron, he was able to gorge on both. Stories of Pai’s fascination with strippers were legion. One executive recalled getting an expense report from Pai in 1990, shortly after Pai began working for him. “It was $757 [£484] for one lunch. He and two or three co-workers had gone to Rick’s [a Houston strip club]. I said, ‘I’m not approving this. You are going to have to take care of this yourself.’ You just don’t do that in business.”

But Pai’s attitude to women and sex was far from exceptional at Enron. Several women who worked at Enron said that Skilling and the young traders who dominated the company viewed women as a commodity that could be bought and sold just like gas, electricity, or any of the other products Enron was trading. And since Houston’s strip clubs are among the best in the country, it was only natural that Enron’s boy geniuses visited them regularly.

Sex and extramarital affairs are not, by themselves, a problem for companies. But at Enron, the sexual misconduct happened at such high levels that it became a part of the company’s culture. The sex, said one executive, “set the tone for the rest of the company. And you couldn’t get away from it. It was like a humidifier. It was in the air.”

Enron’s massive new edifice to itself, a 40-storey, 1.2 million sq ft building was going to be a monument to trading. The building, designed by acclaimed architect Cesar Pelli, would have four trading floors – each big enough for 500 “transaction desks” – with state-of-the-art communications systems. Chairman Ken Lay and Skilling would move their offices from the 50th floor of the old building down to the seventh floor of the new one. Instead of overlooking all of Houston, their new offices would be on a balcony overlooking the new trading floors. And they wouldn’t have to take elevators to get to the traders: two snazzy, curved stairways were going to connect their floor with the trading area.

The new tower had been under construction for nearly a year and was costing Enron a fortune. Pelli’s design, which would mimic the glass-sheathed oval tower Enron already occupied, was going to give Enron the most expensive building in downtown Houston. The final bill would be about $300m.

Enron was wasting even more money in Europe. The company’s European trading operations were located in an impressive new building named Enron House, located at 40 Grosvenor Place, in the heart of London, on land owned by the Duke of Westminster. Although the building cost $74m to construct, Enron spent another $30m in bringing it up to the company’s lofty standards. When it moved into Enron House in November 1999, the top executives, including Frevert, could sit in their top-floor offices and look down on rear gardens of Buckingham Palace. The rent for the new digs? A bargain at a mere £8m a year.

And if the Pelli-designed building was going to make a statement, it had to be decorated. It needed art. Expensive, trendy art. And Andy Fastow and his wife Lea – modern-day de Medicis – were just the ones to make sure Enron made the right decisions. Beginning in the summer of 2000 and continuing right through until the autumn of 2001, as Enron began to spiral downward, the Fastows were the driving force behind an amazing art-buying binge. They spent $575,000 on a soft sculpture by Claes Oldenburg. They paid $690,000 for a wooden sculpture by Martin Puryear, a record amount for his work sold at auction. The committee also bought works by the sculptor Donald Judd, the painter-printmaker Vic Muniz, the video artist Nam June Paik, the photographer Julie Moos and the painter Bridget Riley. By August and September 2001, the company had spent about $4m on 20 different pieces.

Extravagantly appointed offices were far from the company’s only indulgence. In 1997, Skilling’s gas and power trading group, Enron Capital and Trade, spent about $2m on flowers, according to an auditor who worked for the division. “Oh yeah, we had secretaries sending their bosses flowers, bosses sending their secretaries flowers. For a while, we were the biggest customer for about five florists all over Houston,” said the auditor. “We found out some secretaries were sending flowers to their friends so that the secretaries could get the pretty vases the flowers came in.”

Flowers, first-class airfares, first-class hotels, limousines, new computers, new Palm Pilots, new desks – Enron employees began to expect the best of everything, all the time.

But cost-control was never a consideration for Skilling and Lay. After all, EnronOnline, the company’s new website, was the toast of cyberspace. In the few months since it had been launched in November 1999, it had quickly become the biggest e-commerce site the internet had ever seen. The trading site had been the brainchild of a trader, of course, named Louise Kitchen, a brash young Brit who had been Enron’s head natural gas trader in Europe. Cocky and impatient, Kitchen was emblematic of Skilling’s new version of Enron. At just 31 years old, she was young, rich (in 2001, her total pay from Enron was $3.47m), and she believed that there was no end to what she – and Enron – might do.

While she and her team were developing the site, Kitchen said: “I didn’t need a pat on the back from Ken Lay or Jeff Skilling. It was obvious that we should have been doing this ages ago.”

Kitchen’s attitude was typical among the traders. They were the über-Enroners, the ultimate masters of the universe. Kitchen, along with another thirtysomething trader, a Canadian named John Lavorato, was rapidly consolidating her power within Enron. And within a few months of EnronOnline’s debut, the pair were heading all of Enron’s North American trading operations. There were hundreds of traders, lined up with banks of computer screens, keyboards, telephones – and adrenaline. In the first five months of 2000 alone, the website did 110,000 transactions with a total value exceeding $45bn. Deals could be done in seconds, rather than minutes or hours.

Electricity, natural gas, coal, oil, refined products, bandwidth, paper, plastics, petrochemicals, and even clean-air credits were for sale on Enron’s website. Within a few weeks of its launch in November 1999, EnronOnline was the biggest e-commerce entity in the world. In all, the company was selling over 800 different products.

EnronOnline was the logical outgrowth of Enron’s gas trading business. What had been done by phone and fax was now being done on the web. The company’s trading business surged, in large part, because of tremendous increases in gas consumption in the United States. Between 1983 and 2000, demand for natural gas in America rose by nearly 30%, to 22.5 trillion cubic ft per year.

Enron transferred what it learned in gas to the electricity business. Once confined to trading among utilities, Enron elbowed its way into electricity trading in the mid-1990s. It was selling gas and power, but all the while it was collecting still more information that provided a constant feedback loop. Enron owned pipelines and power plants, and with EnronOnline, it could instantly tell in which direction the market was going. It could also tell who was buying, who was selling, and where it should be placing its own bets in the marketplace.

In a very short time, Enron had remade itself from pipeline company to the largest energy marketer in the country. But Skilling wasn’t satisfied. He wanted more. So in May 2000, Enron announced that it would buy the London-based MG plc, one of the biggest metals traders in the world, for $446m. Lay said that the deal would allow Enron to claim a major role in the $120bn-per-year metals market. “Our business model, which we have proven in the natural gas and electricity markets, will give us a tremendous advantage in an industry that is undergoing fundamental change.”

There it was again: Enron knew how to trade gas; it knew how to trade electricity; now it would apply those lessons to the metals business.

Surely, Enron would succeed. The company owned pipelines and power plants, valuable assets that gave it visibility in the gas and electricity markets in North America, South America, Europe and Asia. It had a big trading operation in Europe. EnronOnline was becoming the de facto standard for traders all over the world. Commodity traders on Wall Street relied on EnronOnline for pricing on dozens of different products and invariably had one of their computer screens tuned to the website. And Enron had one of the most sophisticated trading platforms ever developed. The company’s traders could assess the risk on any deal almost instantaneously. Any deal they made was instantly processed and accounted for in the company’s massive data centre. Almost any position Enron took in the commodities market was quickly hedged with a countervailing position. Furthermore, it had a battalion of traders who were among the sharpest in the business. They made more money, had bigger egos, and drove faster cars than just about anybody.

Skilling became convinced that Enron simply couldn’t lose. In the lingo of his predecessor, Rich Kinder, Skilling began “smoking his own dope”. Skilling had made Enron into the trading company that everyone was talking about. Enron had become the 900lb gorilla in the marketplace. It didn’t just own the casino. On any given deal, Enron could be the house, the dealer, the oddsmaker and the guy across the table you’re trying to beat in diesel-fuel futures, gas futures, or the California electricity market. With all of those advantages, Enron’s trading business must have been a cash machine. Right?

Wrong.

Like every business Skilling created while he was piloting Enron, the trading business was a loser. Sure, trading was glamorous and sexy, but it generated virtually no cash for Enron. And that was a problem. Instead, Enron’s trading operation had an insatiable appetite for cash. Unlike other online energy marketplaces such as Altra or the consumer-goods auction site, eBay – which matches buyers and sellers for a fee – EnronOnline was the principal in every transaction. That’s a very expensive place to be.

If a seller agreed on Enron’s posted price for, say, natural gas to be delivered on a certain date, that seller could sell it immediately to Enron. The company would then take title to the gas and try to sell it to another party. That may not sound like a big deal, but by mid-2000, Enron was doing several billion dollars’ worth of trades every day. And because it was in the middle of every transaction, Enron would have to hold some of those commodities for days or even weeks before it could get the price that it wanted on its trades. That meant Enron had to have billions of dollars in cash at the ready. The sort of ready cash needed to clear and fund each sale and purchase – often called a company’s “float” – can be enormously expensive. And the bigger the float, the bigger the expense.

Every day that Enron held on to a big position in a commodity, it had to pay interest on the money it borrowed to take that position. For instance, one of Enron’s gas traders might be betting that gas prices would rise and therefore go “long” on gas contracts in the amount of 500 million cubic feet of gas. At $3 per 1,000 cubic feet, the gas could be worth $1.5m. That might not sound like much. But Enron had hundreds of traders, some going long, others going short in gas and dozens of other commodities. Supporting all of those positions required huge amounts of capital. And as the number of transactions handled by Enron-Online grew, so did its appetite for capital. The new operation had to have enough cash to keep a liquid market in 800 different products, each of which was seeing a big surge in volume.

In the first six months of 2000, Enron borrowed more than $3.4bn to finance its operations. The company’s cash flow from operations was a negative $547m. Enron was losing money – real money, cash money – hand over fist by just being in business. Interest expenses were surging.

By the end of June 2000, Enron was paying about $2m per day in interest to banks and other lenders. The $376m in interest charges for the first half of 2000 was more than it paid in all of 1996. Despite EnronOnline’s voracious appetite for capital, Skilling was able to convince a nearly constant parade of reporters that Enron’s trading business was the golden goose. Other companies were going to explode as Enron figured out how to buy and sell every part of an individual company’s traditional business. Enron was going to intermediate everything, commoditise everything. Just as the Ford Motor Company didn’t have to own the steel mill to build cars, Enron was going to speed the breakup of every business in the world into its individual parts.

“We believe that markets are the best way to order or organise an industrial enterprise,” Skilling told the Financial Times in June 2000. “You are going to see the deintegration of the business systems we have all grown up with.”

If Enron was going to help that “deintegration”, its trading business was going to keep growing. And that meant Enron would need more capital, lots more capital. But there was a problem: Enron could not raise capital by adding more debt. More debt on its balance sheet might lower the company’s credit rating, which would further increase the company’s already high interest costs. Skilling needed more cash but no more debt. Some smart “financial engineering” was required.

———–

“McKinsey is the Devil’s lair”>From an FC reader…
“Proof: 1. Jeff Skilling came from McKinsey before joining Enron. 2. The two guys responsible for the fake trades at Reliant Resources came from McKinsey. 3. There’s a good chance that The Bachelor works for McKinsey.” When: 5/20/2002 Company: McKinsey Severity: 15 Points: 115

http://comments.fuckedcompany.com/phpcomments/index.php?newsid‡126&sid=1&p age=1&parentid=0&crapfilter=1

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