July 8, 2004


Enron Ex-Chief Indicted by U.S. in Fraud Case

By KURT EICHENWALD

In a culmination of almost three years of investigation, Kenneth L. Lay, the former chairman and chief executive of Enron, was charged yesterday in a sealed indictment by a federal grand jury examining the financial fraud that led to the collapse of the onetime energy giant.

The indictment was delivered by prosecutors to a federal magistrate, and is expected to be unsealed today, when the specific charges will become known.

In charging Mr. Lay, the Justice Department's Enron Task Force has reached the top of the corporate hierarchy at the company, which has been under broad investigation since it was forced into bankruptcy in December 2001, costing investors tens of billions of dollars and putting thousands of employees out of work. So far, criminal charges have been filed against some 30 people, including former executives and advisers who have been charged with aiding Enron in its deceit.

Throughout the inquiry, separate teams of prosecutors have pored over Mr. Lay's finances and actions throughout the final years of Enron, seeking to determine what role he may have played in the events that led to its downfall. The Enron investigations have picked apart an array of complex and fraudulent financial machinations at the company, but since last fall prosecutors investigating Mr. Lay have focused instead on a narrow series of his actions and statements in the few months before the company collapsed.

The majority of the charges against Mr. Lay are said to center on a series of what the government believes are false statements he made to investors, employees and accountants that painted a positive picture of the company's finances at a time when he was selling Enron stock. Mr. Lay is also expected to face civil charges for securities law violations brought by the Securities and Exchange Commission, which has been conducting its own inquiry.

Andrew Weissmann, the head of the Enron Task Force, declined to comment, as did Bruce Collins, a lawyer for Mr. Lay.

In a statement yesterday, Mr. Lay said he had been advised of the indictment, and planned to surrender himself to federal law enforcement authorities this morning. In the statement, he called the indictment "unjustified."

In an interview last month with The New York Times, Mr. Lay said he had engaged in no wrongdoing while at Enron, and was unaware of certain illegalities that took place at the company.

"I didn't commit any crime," Mr. Lay, 62, said in the interview. "Based on all the information I had at the time, I don't know of a single statement I made, either publicly or internally, that didn't conform with what I thought the facts to be."

The indictment opens the latest chapter in what had once been a rags-to-riches story. Mr. Lay, the son of a poor Missouri farm family, worked his way up the corporate ladder in a series of smaller gas pipeline companies, until taking the helm of Houston Natural Gas, the predecessor to Enron, in 1984. Along the way, Mr. Lay secured enormous political influence in Washington, forging strong links with the administration of President Bush, including ties to the president personally.

With the indictment of Mr. Lay, the top three executives of Enron in the period leading up to its failure have been charged. Jeffrey K. Skilling, who succeeded Mr. Lay as chief executive and who was widely credited with transforming Enron from a staid pipeline business to an energy trading powerhouse, is facing criminal fraud charges. Andrew S. Fastow, the former chief financial officer, is the highest-ranking official to admit to participating in crimes at the company.

While the structure of the indictment of Mr. Lay is not clear, lawyers involved in the case said that they expected prosecutors to add Mr. Lay as a defendant to an existing fraud indictment against Mr. Skilling and Richard A. Causey, Enron's former chief accounting officer. That, the lawyers said, would allow prosecutors to portray the actions of all three men as part of one continuous criminal conspiracy to deceive investors about the true state of Enron's finances. It would also allow a jury to hear the full context of the charges against Mr. Lay.

The centerpiece of the Enron investigations has been the company's complex off-the-books partnerships, which were used to prop up earnings and disguise its growing debt. Those entities, championed by Mr. Fastow, allowed Enron to appear healthy even as its financial condition was deteriorating rapidly. Mr. Fastow has since pleaded guilty to fraud and has been sentenced to 10 years in prison. Mr. Fastow's wife, Lea, a former assistant treasurer at Enron, has also admitted to helping her husband hide ill-gotten income from some of his myriad financial schemes and has been sentenced to the maximum of one year in prison.

When the full scope of Enron's use of those partnerships started to emerge, companies that traded with its wholesale energy division started cutting off their business, and jittery banks and financial markets also pulled away from the company. The result was a cash squeeze that crippled the company in a matter of weeks.

The crucial question about Mr. Lay has always been whether he knew the scope of what was taking place with the partnerships. The government increased the possibility of answering that question when it secured Mr. Fastow's plea and he began to cooperate with the criminal inquiry. Indeed, if any charges linking Mr. Lay directly to the partnership fraud are brought in the indictment, they would be the most devastating, both in terms of their potential courtroom impact and of defining the scope of what happened at Enron.

The charges against Mr. Lay, however, appear to focus primarily on issues unrelated to the partnerships, according to people involved in the case, who spoke on the condition of anonymity. Instead, these people said, prosecutors have been expending most of their efforts in recent months examining Mr. Lay's actions and statements after his return to Enron as chief executive in August 2001, after the resignation of Mr. Skilling. Mr. Lay had remained chairman after stepping down as chief executive in February 2001.

The decision to examine closely the events after Mr. Lay returned as chief executive came in October of last year, almost two years after Enron filed for bankruptcy protection. Until then, prosecutors had been unable to find enough information against Mr. Lay to sustain a criminal indictment, people involved in the case said.

The prosecutors have been pursuing one significant accounting allegation, which has some indirect ties with Mr. Fastow, these people said. By October 2001, Enron was preparing for some revisions in the accounting rules, which would require the company to decrease its reported income based on the value of certain intangible assets, known as good will, that were obtained in a corporate acquisition.

On Oct. 12 of that year, Mr. Lay met with Mr. Causey, his chief accounting officer, and David Duncan, the top Arthur Andersen partner handling the Enron account. The three men discussed the effect of the rule on Wessex Water, a company owned by Enron's water division, Azurix.

Prosecutors are said to believe that either at that meeting or at some other points, Mr. Lay misled Andersen about Enron's intent to retain Wessex and invest money in the company. If it did so, the charge against income would not have to be taken; prosecutors say they believe that Enron never intended to make those investments.

Mr. Fastow could play a role in that element of the case because, beginning the previous summer, he led the effort to sell Enron's assets, meaning he would be intimately familiar with the company's plans for Wessex.

However, bringing a charge based on the accounting for Wessex will not be easy. Enron never recognized any of the write-downs of good will, because they were not supposed to be reported until after the company filed for bankruptcy. The company did, however, provide investors with projections of what it expected the total write-downs would be.

There are other elements of the expected case that would be less complex. In questioning witnesses before the grand jury, prosecutors have been focusing on a series of events involving Mr. Lay during the period preceding the bankruptcy filing. Primarily, they have been examining a group of three independent written communications that Mr. Lay received from different Enron employees that raised concerns about problems at the company. Among those communications was a letter written by Sherron Watkins, an Enron employee, questioning the propriety of certain transactions.

The issue, repeatedly raised by Congressional committees and pursued by the prosecution, is whether those communications, and other information Mr. Lay received in the weeks after he returned to the company, gave him enough knowledge of problems at Enron before he made a series of positive statements about the company's prospects.

At the same time, Mr. Lay was engaged in a series of huge sales of his Enron shares, which financial records show were compelled by his need to pay off bank loans. Mr. Lay had borrowed as much as $100 million for the purpose of diversifying his investments, and had secured the loans with Enron stock. As Enron stock price fell throughout 2001, the banks sought more cash; Mr. Lay borrowed from the company to meet their demands, then used the stock to repay the corporate loans. During August, Mr. Lay also exercised stock options to purchase more Enron shares.

Those separate transactions led prosecutors to focus on another issue: a statement Mr. Lay made to employees during an online meeting on Sept. 26, 2001. Questioned about stock purchased by senior officers, Mr. Lay commented that he was among those buying shares. But prosecutors are said to have questioned witnesses about the sum total of Mr. Lay's transactions, which resulted in more shares being sold than were purchased. The question was whether Mr. Lay deceived shareholders by saying he was purchasing stock.

People involved in the case said that prosecutors also investigated a final transaction in which Mr. Lay borrowed money from the company. Prosecutors are said to believe that Mr. Lay secured a loan of $7.5 million from Enron shortly before its bankruptcy filing, never intending to pay it back.

However, if prosecutors choose to bring charges based on these events, they will have to confront certain factual issues. For example, the loan does not come due until next year, and creditors have not sued Mr. Lay to recover it.

When questioned about the loan in the interview with The Times, Mr. Lay stated that he had, through his lawyers, contacted the creditors twice asking to meet with them to establish a procedure for paying off the loan.

"Certainly my intent is to pay it in full, with interest," he said, "And we're going to do that."

Once worth some $400 million, Mr. Lay says that he lost most of his wealth in the Enron debacle. In The Times interview, he said his worth was below $20 million, and available cash not earmarked for legal fees or repayment of debt was less than $1 million.

 

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