Background of the Banks’ Role in the Enron Debacle

• As a result of the massive fraud at Enron, shareholders lost tens of billions of dollars. Many Enron executives, Enron’s accounting firm and certain bank officials were indicted.

• Andrew Fastow, Enron’s now-imprisoned former finance chief, testified that many of the banks’ transactions were contrived, deceptive deals done solely to create the false appearance of profits and cash flow.

• Internal Enron documents and testimony of bank employees detailed how the banks engineered sham transactions to keep billions of dollars of debt off Enron’s balance sheet and create the illusion of increasing earnings and operating cash flow. For example:

  • Merrill Lynch purchased Nigerian barges from Enron on the last day of 1999 only because Enron secretly promised to buy the barges back within six months, guaranteeing Merrill Lynch a profit of more than 20%. As a result of this fraud, Merrill Lynch ultimately paid $80 million to settle with the SEC.

  • Barclays entered into several sham transactions with Enron, including creating a “special purpose entity” called Colonnade, a shell company to hide Enron’s debt, named after the street in London where the bank is headquartered.

  • Credit Suisse First Boston engaged in “pre-pay” transactions with Enron, including serving as one of the stop-offs for a series of round-trip, risk-free commodities deals in which commodities were never actually transferred or delivered.

• Although three banks (and others) have settled with the victims for $7.2 billion, several huge banks still named in this suit have not paid a penny to the victims of the fraud.

• After years of preparation and just a few weeks before trial, a 2-to-1 Fifth Circuit Court of Appeals decision left the banks off the hook and potentially destroyed the Enron victims’ hope for any further recovery.

The Fifth Circuit’s Decision Absolving the Banks from Liability is Wrong

• Although the 2-to-1 decision of the Fifth Circuit acknowledged that the banks’ conduct was “hardly praiseworthy,” they ruled that because the banks themselves did not make any false “statements” about their conduct, they could not be liable to the victims even if they knowingly participated in the scheme to defraud Enron’s shareholders.

• Because banks are uniquely positioned to create contrived financial transactions to distort a public company’s financial statements, this ruling awards the banks a “get out of jail free” card to commit fraud without being held accountable. The ruling, in essence, declares that the mastermind of the bank robbery who planned the heist, recruited the other robbers, provided the weapons, drove the get-away car and went back to the hideout to split up the “loot” is not legally responsible just because he did not show his face inside the bank.

• As the Court’s dissenting Judge summarized, the ruling “immunizes a broad array of undeniably fraudulent conduct from civil liability . . . effectively giving secondary actors license to scheme with impunity, as long as they keep quiet.”

• The 2-to-1 decision is inconsistent with the express language of the broad anti-fraud prohibition of §10(b) of the Securities and Exchange Act of 1934 and Rule 10b-5, which makes it unlawful for “any person, directly or indirectly”, to “employ any device, scheme, or artifice to defraud” or “to engage in any act, practice, or course of business which operates . . . as a fraud or deceit upon any” investor.

• In an extraordinary admission, the Court’s two-member majority acknowledged that their ruling runs afoul of “justice and fair play” (“We recognize, however, that our ruling . . . may not coincide, particularly in the minds of aggrieved former Enron shareholders who have lost billions of dollars in a fraud they allege was aided and abetted by the defendants at bar, with notions of justice and fair play.”)

• The 2-to-1 decision conflicts with a recent Ninth Circuit decision upholding scheme liability, rejects the position of the SEC in prior amicus briefings supporting scheme liability, and rejects the views of 28 state Attorneys General (including Texas, California and Connecticut) supporting the Enron victims in a brief they filed with the Fifth Circuit against the banks.