Sherron Watkins: Inside the Mind of the Enron Whistleblower

Cindy Moehring: 00:00:00

Hi, everyone. I'm Cindy Moehring, the founder and Executive Chair of the business integrity Leadership Initiative at the Walton College of Business, and this is the business integrity school podcast. Here we talk about applying ethics, integrity and courageous leadership in business and most importantly, in your life today. I've had nearly 30 years of real world experience as a senior executive. So if you're looking for practical tips from a business pro who's been there, then this is the podcast for you. Welcome. Let's get started.

Cindy M.: 00:00:32

Hi, everybody, and welcome back for another episode of the business integrity school. We are in season six. And as you know, we are talking about all things related to speaking up and getting your voice heard. And we are really fortunate to have with us today as somebody who also was able to visit us on campus this semester. Sherron Watkins -- Sherron, how are you?

Sherron Watkins: 00:00:54

Hi, Cindy. Thanks for having me today.

Cindy M.: 00:00:56

Absolutely. So Sherron Watkins is most famously known as being the Enron whistleblower and was gracious enough to come to campus and share that entire sort of experience with us. We're gonna dive in to all that but before we do, let me just tell you real quick, and then I'll have Sherron set the stage. Sherron was a former VP at Enron. Just as a reminder, she tried to alert then CEO Ken Lay to accounting irregularities that might implode in a wave of accounting scandals. We all now know that it did. She testified before Congress from House and Senate that were both investigating Enron's demise. Sherron was one of Time magazine's 2002 People of the year. And I love the phrase they used it was for people who did right just by doing their jobs rightly, which is an interesting way to end up as Time Person of the Year. So Sherron now lectures love around the globe on leadership and ethics and is also a professor of practice at the University of North Carolina at Chapel Hill. love to have you here with us today, Sherron but before we dive in with the questions for those who didn't get to hear you speak on campus, or may not be as intimately familiar as you are and then I am with the Enron situation. Just give us a real quick overview and recap.

Sherron Watkins: 00:02:17

First off, I started my career as an auditor at Arthur Andersen worked for eight years at Arthur Andersen went to another company for a while but and moved to New York City for a while but when I wanted to get back to Houston, Texas where I was from, you know, I'm a fifth or sixth or seventh generation Texan. In Houston, Texas in 1993, Enron Corporation was the place to work. It was really an amazing company already known for innovation and entrepreneurial moves. It had started its life as a stodgy natural gas pipeline company with pipelines running from California through Texas, Louisiana to Florida, up through Chicago to Canada. You know, we move natural gas we were known as a natural gas company. But we had hired Jeff Skilling from McKinsey. And he had really opened up the gas trading world when when gas was really just barely traded commodity on the NYMEX. And Enron was morphing itself into what we would call the Wall Street of energy, you know, where we were trading electricity, natural gas, oil. And even whether derivatives we were really at an amazing commodity shop. And I felt myself very lucky and blessed to land a job there in 1993. And in fact, Enron paid for my move back from New York to Houston. Enron grew to be the seventh largest company in America based off total revenue. Right. And it was very innovative Fortune Magazine named as the most innovative company in America for six or seven years in a row. Yeah, just because we kept, you know, changing our business lines morphing into something new. But you know, sort of have you heard that saying that the dark side of charisma is narcissism. Yes. You know, where that charismatic leader is really maybe a malignant narcissistic leader. Right? I think when you push a company to just innovate, innovate, innovate, the dark side of innovation, you know, is fraud. At some point, you're just kind of making up your results because you just can't keep innovating. There's a saying that trees don't grow to the sky, you know, they're just gonna grow so far. Yeah. And you get into trouble

Cindy Moehring: 00:04:45

and Enron got into trouble and in fact, imploded, like went into bankruptcy because collapsed in like 24 days, you know, 20,000 over 20,000 employees lost their jobs in their health insurance.

Sherron Watkins: 00:05:01

You know, people kind of forget that the Enron collapse happened, right on the heels of 911. Right. And that was really, you know, this huge attack on the whole country where everyone just felt shaky and uncertain. But I had stumbled across accounting fraud in the summer of 2001. And was kind of hair on fire. What do I do about this, trying to figure things out, when Jeff Skilling, our CEO, shocked everyone and quit. And mind you, he had been chief operating officer since the beginning of 1997. Then the beginning of 2001, he gets the job he's been wanting for so long CEO. And eight months later, he's he's quitting August of 2001. So I felt compelled to speak to Ken Lay warn him about this accounting fraud. And in the middle of me watching the company not address the issues or the problems 911 happened. So the fall of 2001 was a horrible time, because I didn't see company leaders doing the right thing. And then we have the country being attacked. Yeah, it was brutal.

Cindy M.: 00:06:17

That was a hard time. And that was a really, really hard time. So if you if you could rewind the clock.

Cindy Moehring: 00:06:25

Would you have done anything differently when you tried to talk to Ken Lay about the accounting problems?

Sherron Watkins: 00:06:32

Well, certainly, I, I should have tried to see if more people would go with me. I was really kind of naive. You know, I've sometimes use the Titanic as my example that you know, we've hit the iceberg and too much water is pouring in and we're gonna sink. So you're going to warn the captain and kind of figure he's gonna go and take a look at the bottom of the ship and realize, oh, sound the alarm bells, man the lifeboats, you know, save business lines, hoard cash, Form a crisis management team? Looks like trouble is ahead. Yeah. And so I really had at my core, like, I am walking in describing this accounting fraud. And, and it's pretty obvious, I'm primarily asking one question that the Raptor structures that I was reporting on, were supposedly outside entities that owed Enron about $700 million. You know, he just needed to find out how the Raptors were going to pay Enron back. Right? You know, who who lost that 700 million, it needs to be an outside party, outside creditors, outside equity owners, where that 700 million, where's it gonna come from. And if it was going to come from the Raptors accessing a pile of Enron stock, selling it in the marketplace, and paying Enron back, I actually wrote one of my memos. So this is a fact pattern, the SEC probably wouldn't find too agreeable. So that was my we've hit an iceberg. Too much water is poured in, you've got to address this. And that Ken Lay was able to dismiss me as kind of one lone voice that was wrong, that if I'd been able to get some managing directors to go with me, some other people that were actually feeding me information, had I pushed them hard to go with me, it might have been a different outcome.

Cindy M.: 00:08:30

Take a partner, sometimes, especially I think, would be an another way to say it, if you're, you know, young in your career, a little naive, like you describe that certainly one of the strategies that, you know, Mary Gentile in her book Giving Voice to Values, you know, talks about as you think through how you're going to do it, it isn't I think a lot of people think it's always just speaking truth to power, but there, but there are other ways. You know, and it's good sometimes to explore those. So that's interesting. But you did also write a memo, which ended up being pretty crucial. Can you walk us through a little bit of the process that led you to decide to actually write the memo in addition to talking to him?

Sherron Watkins: 00:09:09

Well, it was a very knee jerk reaction. Jeff Skilling, his resignation was announced on a Tuesday afternoon after markets closed. And with that announcement, Ken Lay at all stepped back in as CEO. You know, I am chairman of the board right now I'll step back in. And we'll have an all employee meeting on Thursday. You know, I'm sure all of you want to hear what our plans are, who might be the next right CEO in waiting. And then, as was usual, when we had these all employee meetings, there were several ways that employees could submit questions, you know, an email address, as well as a physical Dropbox. Now, almost every news outlet says I sent an anonymous email to Ken Lay. But I didn't do that. I typed a one pager. or, and actually warn my assistant, you know, go down to the floor where this drop box is but don't visit with anybody you know, kind of get there, stick it in the in the box and and leave because I was very concerned about how inflammatory I was in that anonymous one page I talked about the raptors, I talked about Condor that we might implode in a wave of accounting scandals. You know, what, what are y'all gonna do about the accounting problems we have? And I went early to the all employee meeting, heard all the right things, you know, Ken Lay saying, you know, we need to get back to our core values respect, integrity, communication excellence. Asking employees if anyone's truly troubled about anything, please come forward to me or, you know, Cindy Olson, who was the head of HR, so I decided that day to go identify myself to Cindy Olson. Her first reaction was Ken Lay gravitates towards good news. He gravitates away from bad news. He probably asked the CFO Andy Fastow and the chief accounting officer with Causey what they thought about your first letter, and they probably assured him, you know that your concerns were all wrong, but he does better in person, you know, so she got me on his calendar for the Wednesday, got it. And in that week long period, from Thursday to Wednesday, I probably had a dozen people giving me more information. And so when I did finally meet with Ken Lay, I had seven pages of my own memos or analysis about the issue. But I had sort of evidence, an Excel spreadsheet that proved the fraud, as well as a PowerPoint that had been given to the board of directors that I thought proved the the problems as well. So I felt like I was also handing him evidence,

Cindy Moehring: 00:11:56

I believe that you also spotted something much smaller. at Enron several years prior to this, like the big problem. Tell us about a little bit about that. How did you deal with that one? What happened when you tried to raise it as just the smaller issue? What happened then,

Sherron Watkins: 00:12:13

the seeds of Enron's fraud started in 1996. And at that time, and also through my whole eight years at Enron, you could not missed your earnings targets. You know, the, I'm sure many of your students that have studied fraud issues, have heard that thing about fraud is a three pronged pressure point, the first condition for fraud is pressure to achieve something, it might be personal about embezzlement, you know, financial troubles, personally, where you're stealing from your company, or in Enron's case, it was you had to meet earnings had to make earnings. You know, that was the pressure point. If you were the head of a business unit or division, you could not miss your earnings. The second critical element is an opportunity to cheat game the system. Yeah. And then the third is the rationalization that what you're doing is okay, our division looked like we were going to miss earnings. And it was an all hands on deck meeting about what to do. And they decided that Enron had equity investments in energy companies or tech companies that were not strategic to Enron, like when Enron innovated half the time by buying a company in that in that space, you know, or putting an equity investment in a company in that space that they were trying to grow into. So Enron had a number of these assets, if they were held for sale, then we could call them non strategic and write them up to a market value. And that's where they they filled the earnings hole in 96. And, you know, as a CPA accountant, even though I was in the finance department at that point, I'm the kind of a made holy hell about it. Because, you know, you you just can't write up hard assets to a deemed market value. mark to market is for highly liquid assets, where the ready market exists, and a price is easily determined, then otherwise, the market value is really what to arm's length. People will try that. Yeah. And so for really hard assets hard to sell, you don't have a market price for that. You don't have liquidity, you don't have a price. So Enron was actually marking to a model, and that's what they called it wasn't mark to market it was Mark to a model that is estimating the market value. But that's the seeds of Enron's fraud because as they wrote up assets like that, right investments like that, yeah, then hey, some times the market turns south on new oil prices drop, gas prices drop, some other problem happens and prices go down. Enron was branching into broadband and tech, and had invested in some tech companies. And if you remember '99 - 2000, there was a tech bust. Yeah. And a lot of those tech companies declined in value. Well, Enron didn't want to ride those mark to the model assets down. Yeah. And they just couldn't. jerry rigged those models anymore to avoid a loss. And that's when they created the Raptor structures to mask the losses. So I usually point to the fact that if someone had been able to stop Enron adopting that practice in '96 Yeah, the company might still be alive today. I think, I think we mentioned this to some of the students, but there's a broadcast done by a Long Island NPR station, and it's called, ask why Enron and they do a reenactment of exactly that. When I met, I ran into some Arthur Andersen partners in the hallway, I complained about this mark in the model, like don't let us do this. They went and told the chief accounting officer, hey, not everyone's on the same page. You know, Sherron just complained to us. Andy, fastout, you know, my boss at the time chewed me out, let me know that this was a career limiting move. You know, I was not in the accounting department. I was in his finance department, you know, my mouth shut. Yeah. And they reenacted that in their broadcast. It's kind of it was, it's well done.

Cindy Moehring: 00:16:43

So you got shut down, then when you tried to raise an issue. So how reflecting back on it now? How did you find the courage then to raise your voice? You know, five years later, in 2001?

Sherron Watkins: 00:16:49

You know, almost everyone thinks that when you are faced with a situation like that, but then you would just quit and leave the company. Yeah. And I like to mention that that didn't even cross my mind. Because I had been hired as a director at Enron, in late 93. This was third quarter of 96. And I had not yet been promoted to vice president. And remember, Enron is the place to work in Houston, Texas. And I never once thought about leaving the company because I thought, well, everyone's going to be thinking, I got pushed out or I didn't get promoted, I'm not going to get promoted, like my own ego got in the way that no way. I'm staying at Enron till I make vice president. But what I did do is transfer out of Andy's department, I moved to Enron International. And I was at Enron international for three blissful years that was a well run company, just like the pipeline division was well run. And I kind of forgot about the accounting shenanigans. But it was helpful that I had seen that in 96. Because then when I ran across the big fraud in the summer of 2001, I could believe that that had happened because I saw how Arthur Andersen shut me down that people shut me down on the thing that the seed that became a major fraud.

Sherron Watkins: 00:17:51

You were a VP So you'd made that. And you still believed that Ken Lay really wanted that information right and was going to do something about it.

Sherron Watkins: 00:18:34

Well, I did think that Jeff Skilling his resignation kind of added credit credibility to what I was telling him, because Jeff Skilling had no good reason for why he was quitting. So it was kind of like, Hey, I might perhaps have the reason. Yes, fraud is gonna blow up on us. Right. And it's very interesting. I've gotten to know Cynthia Cooper from WorldCom. And she was sniffing out accounting fraud at WorldCom. And the CFO Scott Sullivan, tried to get her off the trail. You know, here are the things I want you working on not, you know, top priority. And supposedly he was going to try to clean up his mess. Hide it in a goodwill write down that the market was expecting. And I think skilling was planning on cleaning up his Enron mess through broadband taking off, you know, or, you know, other other things. But in the summer of 2001, California trading, profits had declined, the tech sector was in freefall. So he was looking at no place to hide and run and correct his accounting missteps and so I think he was getting out of town while the getting was good. Yeah. But that's where I thought, you know Ken Lay my might listen, because why is Jeff Skilling quitting?

Cindy Moehring: 00:20:02

A lot has happened in the intervening 21 years to create some protections in some federal laws for protection of whistleblowers. And frankly, you had a lot to do with that starting with Sarbanes Oxley, because when they were planning on even passing that law after the collapse of Enron and WorldCom, there weren't protections for whistleblowers that were there at the beginning to my understanding, but pretty quickly, they figured out Oh, my gosh, we need to add that. And so they did. But there was still a loophole in there in in Sarbanes Oxley, so So tell us a little bit about that what what loophole that existed when Sarbanes Oxley did get passed for protection for whistleblowers, and then what happened to fill that,

Sherron Watkins: 00:20:51

you know, Congress was all very alarmed that a company the size of Enron could declare bankruptcy, after, you know, having no bumps in the road, you know, like, everything's looking great. And then poof, you know, you're, you're declaring bankruptcy.

Cindy Moehring: 00:21:04

So shareholders lost over $60 billion. So Congress was very alarmed.

Sherron Watkins: 00:21:09

Yes. And and you want a stable Wall Street, you want a stable investing community? How could this happen? And so there were all these different congressional investigations. And Congress found my materials that I gave to Ken Lay in a box of subpoena documents, you know, Enron had actually sent them to Congress, but kind of flooding Congress with a room full of documents. So I ended up being subpoenaed to testify in front of Congress. And this was still the most shocking things. Cindy This shows how naive I was. So I had met with Ken Lay on August 22, of 2001. So Congress says, Hey, flip to this binder tab. You know, they're asking me questions about various documents. It was a memo from Vinson and Elkins Enron's outside law firm, back to Enron Corporation. And it said per your request, here are the potential consequences to discharging employees who raise accounting concerns. And it was dated August 24 2001. So I must have left Ken Lay's office, and you know, he picks up the phone, you know, how can we can we fire her? You know, can we dump her on the street? Right. And I've since learned at whistleblower conferences, that the plan is to really smear you that you're nut job or a disgruntled employee. So maybe the press doesn't listen to you or the SEC doesn't listen to you because they're really doing a campaign to make you seem like a nut job. Right. But basically, the memo from Vinson and Elkins said she's got no legal protections, you know, you could fire her. But let's say she brings a wrongful termination suit, the Raptor structure she's concerned with my probably will be part of the discovery process and wouldn't look so good. Under the white hot spotlight of a courtroom. So the irony there is I think Ken Lay kind of had his answer that I was right. By the comments the lawyers made, right, that did make Congress concern that there are no whistleblower protections. So the Sarbanes Oxley act covered internal controls, you know, the expertise and the independence you needed on boards of directors, right. It covered so much, but they threw in this whistleblower provision that said, you can't retaliate against whistleblowers, those that go outside or that goes that report internally like I had, you can't fire them. You can't demote them. You have various things, no retaliation. Yeah. But the application of that law got shoved into the Department of Labor and under OSHA, the Occupational Safety and and Health Act. And the Secretary of Labor at that time was Elaine Chao. She's the wife of Senator Mitch McConnell. And she fell victim to some corporate lobbying efforts. Where they told her that the law applied only to employees of the publicly traded parent. And that was just a misapplication. I mean, most frauds happen in operating division. Yeah, right. And so that for there's some statistic that you can look up but out of like 1200 retaliation claims that were made by employees, right, she dismissed over 800 out just right off the bat, not even looking at the merits of the claim. Because the employee worked for a sub subsidiary has a very nice the parent company. Yeah. So in effect, she she killed the protection while she was Secretary of Labor.

Cindy Moehring: 00:24:59

Wow. So then we have to go in and look all the way to Dodd Frank after the, you know, financial collapse, in '08 and '09, before that loophole got got addressed again. And so So what happened with Dodd Frank, and how did it address that problem?

Sherron Watkins: 00:25:15

Well, what's interesting is, you know, 2008 was Enron on steroids. You know, you had Lehman Brothers collapse, Bear Stearns collapse, Merrill Lynch had to be bailed out by Bank of America. Bear Stearns, I think, went to some other bank as well, you know, so the whole Wall Street collapse. Congress, once again, how did this happen? They actually looked at the rejected Sox compliance, where Elaine Chao had rejected these things. And they found whistleblowers at Citibank and Lehman Brothers and Merrill Lynch. And so it's like, wow, maybe this could have been averted, because they had actually been retaliated against in 2006 and '07, you know, prior to the collapse, right. So great. We tried to do this check and balance to be able to kind of support people speaking truth to power and it didn't work. Yeah. So they strengthened whistleblower protections in that Dodd Frank Act that was addressing the 2008 collapse. And they put in a 10 to 30% Reward Program for whistleblowers that brought information to the SEC that resulted in fines to the company. And Congress didn't want it misapplied the way the Department of Labor had done the Sox. So they specified that it's going to be in the in the Securities and Exchange Commission, they're going to have an office of the whistleblower, they're going to have to report to Congress yearly, on what's going on. And there was a real push to have whistleblower stay anonymous, you know, an ability so that their careers wouldn't be over, they wouldn't be blacklisted, right, you know, that the SEC had to develop methodologies that let whistleblower stay anonymous.

Cindy M.: 00:27:01

How would your life have been different? Like you personally, do you think if Dodd Frank had been in existence in the 90s?

Sherron Watkins: 00:27:09

Well, I do think, and it's interesting, you ask that because I've been on some panels with some current SEC enforcement people. And I've said, okay, you know, that 96 mark to the model thing. If I had hired a lawyer through Dodd Frank, trying to stay anonymous, and reported these tips up to the SEC, that Enron was writing up, you know, hard assets, equity investments. And he said, Okay, that's September, October of 96, we probably would have opened up something formal probably early 97. So we would have been investigating it 97, it would be pretty fast timing for us to conclude, by early 98, you know, that it would have been a long process, right. But we would have probably found it wrong, slapped Enron with a fine. Let's just say they would have fined them $100 million. Well, 30 million might have gone to my lawyer and then pay me so you know, who knows, I might have had $15 million. But the most important thing is, I think even in 97, Enron would have gotten off that path, like the SEC is investigating, they're asking for information, I think Enron would have stopped doing that, you know, corrected, that horrible path they were on, and that company would probably still be alive today.

Cindy Moehring: 00:28:37

And you then you know, what could have been able to continue in your chosen profession. So you've done a lot of good for those who come after you by bringing a spotlight to these issues. I so we all owe you a debt of gratitude for that, honestly. But you know, I think Sherron a lot of people still have a hard time speaking up, even with these protections that exist on the outside because they don't want to be seen as a troublemaker. They don't want to you know, rock the boat and lose their job. They fear that nothing's gonna happen anyway. So what advice do you have for young employees or students about to become young employees if they find themselves in that situation?

Sherron Watkins: 00:29:19

Well, certainly, I think it's worth talking amongst your peers. I do think there's safety in numbers. And when you find more people agree that it's a problem, you know, speak to the people that are right above you. And then hopefully, because of Dodd Frank, and, you know, the whistleblowing option for people. I do think companies are really implementing much better compliance and reporting mechanisms that that they they know that we want to champion speaking up and stopping a problem from happening. Yeah, but the other good thing is because of the Dodd Frank. I mean, I would say in in 2002, you know, there were maybe two different groups supporting whistleblowers one was a not for profit, the Government Accountability Group, and the other one was cone cone. I mean, Steven cone and his law firm. I mean, they were just like to now if you were to Google whistleblower, legal help, you know, there's a dozen firms, and many of them have websites with really good information. You know, what have you found? Where are you, you know, like, good questions, asking the would be whistleblower, in ways that help them come up with a path, you know, and even, you know, intake, you know, phone us, you know, bounce ideas off of us. Yeah. So I do think it's a good check and balance, but I also think more firms are really implementing Very good. Yeah. systems now.

Cindy M.: 00:30:57

Yeah. It speak up cultures and championing it so that employees do feel safe. Alright, Sherron, thank you so, so much for spending this time with us today. And I know the whole audience really appreciates it. Thank you.

Sherron Watkins: 00:31:09

Well, thank you, Cindy. Thanks for your interest in the Enron story.