Tougher Rules in the Works for Enron-Type Deals

Dogged by pressure after the Enron debacle, accounting rule makers are rushing to tighten standards for complex financing vehicles that went to the heart of the energy trader's collapse.

The Financial Accounting Standards Board, which sets accounting rules for Corporate America, is looking to craft a draft to address the thorny issue of when off-balance-sheet entities must be included in a company's books.

The Norwalk, Connecticut-based accounting body aims to complete the draft in the second quarter, which could lead to finalizing rules by the fourth quarter, said Tim Lucas, who heads a FASB task force.

"We're concentrating on trying to develop guidelines specifically for the consolidation of what you might call special purpose entities," Lucas said on Friday. "We may have focused on it more after Enron."

If the schedule proceeds as planned, it would be one of the speediest rule-making decisions that the private accounting body will have accomplished in a long time, said one accounting professor.

"That is incredibly unusual. It's very fast. You know that someone has built a fire under the seats of Norwalk," said Peter Knutson, an associate professor emeritus of accounting at the Wharton School at the University of Pennsylvania. "They don't have much of a choice now. This has gone from being an accounting issue to a political issue."

Special purpose entities, which are complex financial entities often used by companies to keep debt off their balance sheet, played a crucial role in Enron's collapse.


The energy trader kept massive amounts of debt off its balance sheet through several partnerships kept investors from knowing the true state of Enron's finances.

But the firm started unraveling after it reported losses from the little-known partnerships, which led Enron to reduce its net worth by $1.2 billion. Enron later restated its financial statements to reflect those financial vehicles on its books, cutting earnings by almost $600 million since 1997.

Enron's bankruptcy in December has put immense pressure on the accounting industry to introduce reforms to prevent future debacles. Many critics say the accounting treatment allowed for special purpose entities is too lenient and have called for better rules.

In its most basic form, current accounting rules allow companies to exclude special purpose vehicles from their books if an outside party has at least a 3 percent stake in that entity.

The accounting board is reconsidering the long standing 3 percent rule, but so far what the new rules would include has not been decided, said Lucas.

"We're trying to craft some operational rules that will do a better job of identifying those entities that are in fact controlled" by a corporation or its management, Lucas said.

Some of Enron's debt-laden partnerships were led by its then chief financial officer, Andrew Fastow, who was subsequently fired by the company.

Accounting experts say off-balance sheet deals are tough to regulate because they are often set up to skirt the rules, which some feel may lag behind new developments. In any case, improving the rules now may simply turn out to be a case of bolting the barn door after the horse has run away, said Knutson.

"They're probably going to look very closely at the Enron case and say 'How do we write a rule so that Enron would have put all of these things on its balance sheet,"' said Knutson. "Then the next person that comes along running a company that's Enron II, let's say, will structure it in such that they just about miss that line."