Free Infectious Greed by Frank Partnoy

regularly with bankers. During the early 1990s, when Bankers Trust, First Boston, or Salomon Brothers invented a new product, it wasn’t long before Enron learned about it. Enron developed especially close relationships with commercial banks, such as Citibank, J. P. Morgan, and Chase Manhattan, which were aggressively pitching investment-banking-type deals, now that regulators were permitting them to do so.
    Like most oil companies, Enron created partnerships—with the assistance of major banks, accounting firms, and law firms—to do its major projects, such as oil wells and pipelines. 14 These partnerships—not Enron—borrowed money, purchased assets, and entered into leases and other contracts. There were numerous reasons for Enron to use partnerships instead of doing deals directly. By using partnerships (or other legal entities, such as trusts or corporations), Enron could create non-recourse financing— meaning that the company could borrow money for a project based solely on the assets of the partnership; investors in the partnership could not hold Enron responsible for the partnership’s debts. Moreover, so long as Enron controlled no more than 50 percent of the partnerships, accounting rules did not require that Enron consolidate the partnerships’ assets and liabilities; in other words, any debts belonged to the partnerships, not to Enron, and they would appear only in a footnote to Enron’s financial statements, not on its balance sheet. By keeping debt off its books, Enron would appear healthier, and the all-important credit-rating agencies would give Enron a higher rating.
    Enron also began using offshore Special Purpose Entities to do various over-the-counter derivatives deals, including swaps, that enabled Enron to borrow money without recording the debt. For example, in 1992 Enron and Chase Manhattan did a swap using a company called Mahonia, which had been incorporated in 1986 in the island of Jersey, a regulatory haven in Europe. Chase effectively controlled Mahonia, so in reality Enron was doing the swap with Chase (the legal independence of Mahonia potentially protected Chase from liability, an issue that would
be hotly disputed beginning in 2001). At first, Enron used Mahonia to do deals that reduced its taxes. After several years, Enron also borrowed billions of dollars in prepaid swaps with Mahonia, organized by Chase and—after Chase’s merger with J. P. Morgan—J. P. Morgan Chase (more on these prepaid swaps later).
    As Enron’s deals became more complex, Skilling and Fastow took over responsibility from Lay. Skilling traveled the world to sell investors on Enron’s new concepts, and Fastow stayed in Houston to deal with the nuts and bolts of various financial issues. Meanwhile, Lay developed connections among business and political leaders. Lay chaired the 1992 Republican National Convention in Houston and sat with George H. W. Bush in the presidential box. 15 After Bush lost the election in 1992, Lay maintained strong ties to the Bush family, hiring two of Bush’s former cabinet ministers and his former director of operations. Bush’s sons lobbied on behalf of Enron: Neil and Marvin in Kuwait and George W. in Argentina. 16 Lay also rewarded Wendy Gramm, Bush’s chair of the Commodity Futures Trading Commission, with a position on Enron’s board, just weeks after she had pushed through the regulatory exemption for over-the-counter derivatives, which were becoming an important part of Enron’s business.
    By 1993, Enron was an active participant in derivatives markets, along with just about every other company, investment fund, and governmental entity in the United States. As Gibson Greetings was buying complex swaps from Bankers Trust, Orange County was buying structured notes from Merrill Lynch, and John Meriwether was soliciting investors in Long-Term Capital Management, Enron was arranging the complex deal that the public