Enron Scandal Changes All Aspects of PR -- Part 1
Charting the future of public relations
Holmes Report

Enron Scandal Changes All Aspects of PR -- Part 1

The Enron scandal has fundamentally changed the relationship between American corporations and the American public, and chief executives—and communicators—who fail to make note of the changes will pay a high price for their hubris.

Paul Holmes

The Enron scandal has fundamentally changed the relationship between American corporations and the American public, and chief executives—and communicators—who fail to make note of the changes will pay a high price for their hubris.
Most observers view Enron as an aberration. The moral vacuum, the catastrophic failure of values evident in the company’s collapse, are surely exceptional. But as a recent Business Week editorial put it: “Enron clearly crossed the line—but it was a line that much of the country has been walking for a decade.”
Were the individuals running the Houston-based energy company really so different—so much less ethical—than the individuals running other major corporations, or did they simply find themselves in exceptional circumstances? Did their behavior, their attitudes toward their stakeholders really differ dramatically from the prevailing sensibilities of American business, or did they just push things too far?
Those are questions that all the stakeholders in American corporations—employees, shareholders, the media, legislators and regulators, ordinary citizens—are likely to ask in the wake of Enron’s collapse.
Corporations that value their relationships with these groups, that hope to earn credibility with key stakeholders, will be expected to share more information than ever before, and to provide the facts and the framework their constituents need to put the information in context. The Enron scandal will usher in a new era of transparency, one in which companies that choose to keep their stakeholders in the dark will be held accountable in the marketplace.
Over the coming months, the fallout from the Enron scandal will change every aspect of the way American corporations relate to their publics.
Investor Relations
In the aftermath of the Enron collapse, investors already have started demanding greater clarity and honesty in corporate reporting, and several companies have already paid a heavy price for questionable accounting. Tyco International’s share price fell by 26 percent on news that it had made a $20 million payment to an outside director and to a charity he controls. The stock of pipeline owner Williams fell 23 percent after it delayed an earnings report to re-examine the impact of its commitment to a former unit. And larger firms including Cendant, AOL Time Warner, and even Disney and General Electric—long famous for complex financials—found themselves facing difficult questions.
“This is the biggest crisis investors have had since 1929,” says Howard Schlit of the Center for Financial Research & Analysis, a watchdog group. “Investors don’t know who they can trust.”
“Clearly we are in an environment where people are intensely skeptical of corporate America,” says Dennis Kozlowski, Tyco’s chairman and chief executive. “Obviously, we believe the reaction in our stock price was unjustified.”
That having been said, most investor relations professionals see the Enron scandal underscoring existing principles of good investor relations rather than revolutionizing the practice.
“This is not a watershed event,” says Neal Cannon, senior vice president and manager of strategic positioning and valuation at IR specialist The Financial Relations Board. “It’s just a more highly-publicized example of one of the worst types of financial management—bad investing, poor accounting, and terrible communications—at the least, and perhaps criminal at the worst.”
“It’s a bit premature to predict the fallout from the Enron debacle on disclosure and reporting, and the impact on investor relations,” says Richard Wolff, general manager of the New York office of Golin/Harris International. “But I also believe that, if one looks at the historic development of the financial markets, it has been characterized by an inexorable drive towards transparency. Last year, for example, FD was the significant advance in this direction; this year, it will be reigning in off balance sheet activity. 
“The fact is that these are positive development because the greater the transparency, the more efficient the market.”
Jeffrey Zack, vice president and director of special projects at Morgen-Walke Associates, agrees: “The Enron scandal appears to be advancing changes in investor relations that were already taking place. By the second half of the 1990s, the U.S. markets were a juggernaut propelled by the technology boom. Everyone was clamoring to get on board. The rules were changing, and companies that didn’t conform didn’t get to enjoy the ride.
“In that environment, the link between a company’s financial performance and its market value was severed, at least for technology companies. Investor relations—or more precisely the brand of IR practiced by the PR people who were racing to enter the business—became less about explaining a company’s business clearly and credibly and more about promoting the stock. The collapse of the dot-coms and the arrival of the recession are already having a big impact on financial communications.
“Now, the Enron scandal has created pressures for more regulations that even the Administration in Washington, which is philosophically opposed to bigger government, is listening to.”
There’s pressure for a back-to-basics movement, says Zack, which means “communicating in a way that helps investors understand the business, based on traditional financial evaluation tools and tougher questions from investors on accounting-related issues, particularly for those companies with off-balance sheet items or questions about revenue-recognition practices.”
The Enron scandal simply reinforces the principles of good investor relations, according to FRB’s Cannon:

        First and foremost, the officers and directors of a company have a fiduciary duty to fairly report the financial condition of the company. Transparency is a must. Not only does this satisfy legal requirements, it also establishes credibility with the investment community.

        If there is an off-balance sheet entity, it must be disclosed, along with the reason it is classified as such, who the other partners are, and most importantly, how will this investment add to the profitability of the company.

        If there is bad news, report it immediately and in its entirety. The bad news will come out, better from your mouth than from reporters, auditors, or really mad investors.
The fallout from the Enron scandal should also boost the SEC’s efforts to overhaul the use of pro forma earnings. “While the use of pro forma presentations may, at times, help decipher a company’s true operating picture, it is too often abused,” says Cannon. “We suggest companies stick to GAAP, as it is “generally accepted” and will help maintain management credibility. If you do have a compelling reason to use pro forma earnings, reconcile it to GAAP earnings so that investors can clearly follow the computations involved. And be consistent across time periods.”
Zack believes there may also be more companies providing cash flow statements in their
press releases, along with the income statement and balance sheet data.
According to Diane Perry, who heads the investor relations practice at Hill & Knowlton, “IR officers will be more astute with their CFOs, requesting simplified, real financial statements. No more pro forma this and that, and non-recurring items that recur continually. It all boils down to trust, and in this case trust equals financial transparency.”
And there is a demand for increased information from external parties, ranging from debt rating agencies such as Moody’s and S&P to bank lenders to debt and equity analysts, says Andy Brimmer, a partner at Joele Frank, Wilkinson Brimmer Katcher. “The challenge companies face is making their operations and balance sheet more transparent to outside groups and investors. Unlike our legal system, the burden of proof is now on the companies to prove their investor relations innocence and soundness.
“Companies which are responding well are providing the Street with enhanced visibility and guidance explaining in much greater detail accounting assumptions and practices, hedging strategies, and debt and reserve levels. Some companies are providing segment models or greater details about their current models to help the Street construct more realistic views of their businesses. Finally, companies are communicating more frequently with the Street and investors, providing updates on operations, reviewing practices, and responding to any emerging issues.
“In short, the goal is to anticipate what the areas of concern will be and address them head-on.”
Companies that fail to do so will be punished.
“Already, we are seeing the market less tolerant of corporate practices that, while entirely legal, are not being viewed favorably by Wall Street,” says Woff. “So-called accounting issues have buffeted the stocks of Tyco and others, and the clamor around pro-forma reporting issues promises to grow louder. There is no doubt that living up to the letter of the law—SEC regulations, in this case—will not be enough to satisfy investors. Companies will have to be increasingly responsive to analyst and shareholder calls for more information.”
They may also have to listen to their shareholders in the next proxy season, says Roger Pondel, head of the Pondel/Wilkinson investor relations unit of Manning Selvage & Lee. Pondel believes shareholders will voice their discomfort when they get to vote on their companies’ choice of auditors: “Millions of shareholders will vote their proxies over the coming months, deciding whether to ratify the appointment of their respective companies’ auditors. It doesn’t take a professional pollster to make an accurate prediction.”
Employee Communications
At the end of the year 2000, Enron’s 401k plan had $2.1 billion in assets. More than half was invested in Enron stock, which has since lost 94 percent of its value. Worse still, employees were forced to sit back and watch helplessly as Enron stock plummeted, because the company had frozen the plan’s assets—even while senior executives were cashing out at a furious space.
Not surprisingly, employees at other companies are now looking to diversify their retirement portfolios. And there is increasing pressure on those companies to explain all the options to their employees and preserve the trust of those same workers.
Enron didn’t have a communications problem, says Gary Grates, and the problems it had certainly were not specific to its communications with employees.
“The problem was the lack of a foundation of transparency with regard to the financials,” says Grates, president of the GCI Boxenbaum Grates employee communications practice at GCI Group. “Much of the business was hidden, not only from employees but from analysts, too. It wasn’t a question of sharing more information. It was a question of how the business results were portrayed. Enron could have given its employees more information, but it wouldn’t have made a difference because they still wouldn’t have been able to understand such a complicated web of financials. Enron ran its business in a way that was very difficult for people to discern what the numbers were telling them.”
The bottom line, says Grates, is that employees need to ask themselves a question: What do you know and what should you know about your company’s business model, its current finances and its future projections?
Many are already asking those questions.
Employee communications and change management specialist Matha MacDonald was holding focus groups at a client site when an employee complained about the lack of communication around the recent move of the company’s retirement plan to an outside brokerage. Other employees immediately brought up the fact that the company was also talking about acquisitions. 
Says agency principal Bob Matha, “This generated a lot of intense discussion around the possible use by management of the retirement plan to fund the business while continually harping on cost with employees. Needless to say that although each employee had different information about the pension plan the prevailing sentiment was that the company was ‘gambling’ with their retirement, and the worries stemmed from what employees saw with Enron.
“Bottom line, the problems at Enron, and the spotlight Congressional hearings and media revelations will put on risks around pension funds, poses a significant challenge to management in terms of employee trust. Management will need to do a much better job communicating about these issues than it has in the past, or risk further deterioration of trust. We can either provide good, quality information now, or wait until employees, their unions and regulators demand it later.”
Alison Davis, president of New Jersey-based employee communications specialist Davis & Co., says she too is already seeing the impact of the Enron scandal on employee communication, including a renewed interest on the part of employees in getting “the whole story” on company financials. Says Davis, “When stocks were rising, and all the news was good, employees were satisfied with big picture results that showed that their net worth was rising. But as stock prices have fallen, and employees have begun to feel poorer, they want to know the details about what’s happening and why—and want to know how they can exercise their rights to sell stock or diversify away from company stock.”
An important first step, employee communications experts say, is providing employees with the financial education they need to understand their investment options.
“As a general principle, employees are more effective when they understand how their company makes its money, and how that money is used,” says Don Etling, senior vice president at international public relations firm Fleishman-Hillard. “Business ‘literacy’ is an important step in the process of engaging employees, and ultimately aligning their performance more directly behind the organization’s strategies. So I believe that all companies should be engaging their employees in that discussion on an ongoing basis.
“In light of recent events, some companies appear to be reviewing the way they communicate about ESOPs, stock purchase plans, and 401k plans,” says Etling. That doesn’t mean 401k plans—even those that invest heavily in their own companies’ stocks—are necessarily a bad thing.
“As a general principle, companies benefit when employees have a financial stake in the organization’s performance. So offering stock options, stock purchase opportunities and even some limited stock participation through the 401k can provide a strategic benefit to the organization, enabling employees to share in the company’s success. On the flip side, obviously, participating employees do suffer the consequences of a downturn in the company’s stock performance, and that can have a negative impact. So responsible companies that truly look out for the welfare of their employees should make absolutely certain they don’t drive them—either through communication or their own benefits processes—to over-invest, or singularly invest, in their own company.
“They should provide access to – and even encourage the use of – educational resources to help employees make good decisions about their overall retirement investment strategy. Every responsible financial advisor recommends a “balanced” portfolio approach to retirement investment. Companies should work to make sure their own communication and/or benefit processes don’t lead employees down a ‘single investment’ path.”
Alison Davis, president of New Jersey-based employee communications firm Davis & Company, agrees: “Smart companies will use this opportunity to create business and financial literacy—doing a better job of explaining how stocks and the market work, the differences between short- and long-term gains, for example. Employees who see the big picture will be more likely to stay the course and now squawk every time the stock goes down.”
Beyond financial security, the Enron scandal will heighten the demand for communication on a wide range of issues.
“In the post-Enron era, companies that fail to take employee communications seriously do so at their own peril,” says Carreen Winters, senior vice president at The MWW Group. “Employees want real information on the performance of the business and what is expected of them—not lots of fluff. I think you will begin to see employees at all levels getting smarter about financial issues and asking tougher questions.”
Says Nick Kalm, executive vice president at Edelman Public Relations Worldwide “The Enron scandal puts renewed focus on the need for credible employee communications. We are unquestionably past the period when employees will be satisfied with a rosy outlook on their company’s business prospects and financials. Although it wouldn’t necessarily have helped in the Enron situation, no company should share more strategic information with Wall Street than they do with their own employees on a direct basis.”
“For a number of years, there has been a growing level of skepticism on the part of employees in response to company communications,” says Myra Peabody Gossens, executive director at Ruder Finn. “Employees tell us their most reliable source of company information is their immediate supervisor. Obviously this means that person must be informed enough to answer employee’s questions about how company decisions affect them.
“There will be two outcomes regarding employee expectations from the Enron situation.  First, employees across the board are awake and know this could happen to them, and the pressure to communicate more—more accurate, more timely, more complete information—will increase. This demand will include both financial information and strategy and direction.
“Second, the trust gap between employees and company leadership without a doubt has widened perceptibly in the past two weeks.  To bridge that gap, companies must move beyond a message of ‘trust us’ to a position of inviting employees to ‘hold us accountable,’ not only for the future of the company, but for the future of employees’ lives.”
If companies don’t provide the kind of information employees are looking for, employees will simply seek it elsewhere.
“Even in a high trust culture, job security concerns keep employees from closely questioning top management about financial and governance issues,” says Kalm. “But employees are as eager for the truth as the most tenacious investigative reporter. Left unaddressed, employees will find other sources for their information—internal gossip, chat rooms, analyst reports, rogue Internet sites. And in the absence of candid, credible communications—especially during times of stress or change—most employees will spend more time and energy fretting about their future and the future of the company than in being the productive, focused employees their companies need them to be.”
And if companies don’t voluntarily supply the kind of information employees are looking for, they can expect to be compelled to do so.
“The Enron case provides a lobbying point for employees and unions to call for greater oversight of corporations via new avenues of corporate governance or perhaps new regulations,” says Maril MacDonald, a principal at Matha MacDonald.  “The winners will be those companies that get out ahead to define and claim the agenda.”
Part Two: Public Affairs, Social Responsibility

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