Enron Tarnishes the Practice of Securitization

One of Enron’s greatest tools for making money and hiding and removing risk from their Annual Report was securitization (sort of).  The Enron crisis and bankruptcy brought to light many things about securitization, some good and some bad.  It was a wake up call to politicians, businesses, and scholars that securitization though beneficial has huge dangers.  This realization had some effects.

The Enron Crisis came around a time the Bankruptcy Reform Act of 2001 was going through Washington.  In the paper Enron, Asset Securitization and Bankruptcy Reform: Dead or Dormant? Johanthan Lipson discusses how Enron halted the Reform Act because of one section of the act.  “Section 912 – was billed as a ‘technical’ fix to the Bankruptcy Code” (p1) which allows bankruptcy courts to recharacterize asset securitization as loans and eliminate certain parts of bankruptcy code that determine the whether a transaction is an asset securitization.  So what’s this got to do with Enron?  If passed, then during Enron’s bankruptcy court it “would apply to transactions like those of Enron – and may even apply to immunize Enron and its questionable partnership transactions” (p3).  The irony of the timing made politicians rethink the bill and as of now it’s “dead.”  But legislation was created in a response to Enron’s business practices of using special purpose entities/vehicles.  The Sarbanes-Oxley Act of 2002 will help prevent the reoccurrence of Enron business practices being used.

Looking even deeper into securitization in the aftermath of Enron two things emerge, the practice of securitization was tainted and a redefining of securitization (in order to protect securitization).  Today, even tainted, securitization is still a large part of many industries and still a thriving financial tool.  But the tainting of securitization has led to a new desire to further regulate the practice and not just to protect against sham and deceptive practices, but securitization as a whole.  In Securitization Post-Enron Steven Schwarcz argues that even though there are similarities between what Enron was doing and securitization Enron’s sale of financial assets was not really securitization.  The paper seems to try and distant Enron’s form of securitization from the rest of securitization.  Schwarcz even mentions Bankruptcy Reform Act of 2001 and section 912.  It seems that the Act was a part of legislation that many businesses were looking forward too.  Well Enron interfered with that piece of legislation and has brought about new legislation that has actually been passed.  Enron employees, investors, and other parties that lost money are probably happy to see the forms of legislation go into effect.  Businesses that use securitization on the other hand view Enron and its collapse and aftermath as a danger to their future.

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4 Responses

  1. Effects, not affects. Effects is a noun.

  2. Why would reclassifying an asset securitization as a loan help Enron? SOunds like it can add debt to an already debt-heavy balance sheet.

  3. It’s true it would increase the debt on an already debt-heavy balance sheet, but what about the alternative. If passed it would encourage the securization practice of Enron, sell debt for cash. But this time around, the originating company (Enron) would not be held accountable for their already sold debt securities in bankruptcy court. There is also what the author of Enron, Asset Securitization and Bankruptcy Reform: Dead orDormant?, Jonathan Lipson call the “more insidious” part of Section912 that would remove avoidance powers help by bankruptcy courts. The removal of these powers would “would scuttle important checks and balances in the financial system, and would thereby permit — perhaps even encourage — all kinds of financial misconduct” (Lipson).

  4. […] For my previous two posts, I focused on the financial reform and regulatory legislation and securitization’s impact in the Enron crisis.  Doing research for both of these posts introduced me to the controversial topic of financial […]

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