Question

Please find one article describing Enron's use of SPE's and on how this altered investor's and analyst's perception of the company's economic health? Cite your source.

Answer 1

SPE's also known globally as SPV's (special purpose vehicles) ,

An SPE is either a Trust or a Company. SPEs can be either on shore or offshore.

enerally, SPEs fall into three categories: (1) the joint venture, (2) the
synthetic lease, and (3) the asset securitization or off-balance sheet fi-
nancing.

Explanation :

Let's assume a company needs financing for a new product. It could be anything -- building a new pipeline, constructing a new building. Because of the already existing debt on its balance sheet, the banks may loan the money at a hypothetical interest rate of, say, 8%. That interest rate makes the chief financial officer flinch. So, instead of applying for the loan itself, the company sets up a special-purpose entity (sometimes referred to as special-purpose vehicles or the securitization of assets.) Think of the SPE as a trust.

So the SPE has one big asset on its books. It now can hit the pavement and go find some money for its new project.

In some instances though, the company offers to guarantee the SPE's loan. Enron guaranteed some of its SPEs debt with its own shares. But even in that case, the accounting rules still do not require the company to report that on its balance sheet. It just needs to disclose that guarantee in the footnotes, says Ketz. But doesn't following accounting rules seem to defy the economic reality of the situation?

This is the where the abuse comes in. Some companies use these entities purposely to keep debt off its balance sheet.

To conclude enrons may abuse mad may take the advantage of the loop.

SPV's/SPE's mask crucial information from investors who are not aware of a company’s complete financial situation. Investors need to look at the parent company’s balance sheet as well as the SPV’s/SPE’s balance sheet before deciding whether to invest in a business. Enron’s massive financial collapse is a prime example of why this is important.

Although the company disclosed its financial information and conflicts of interest on balance sheets for the company and for the SPVs/SPEs, few investors understood the gravity of the situation and what ended up being a disastrous ending for Enron.