FTX’s fall shows the problems exposed by Enron have only gotten worse



To say the least, things are not looking good for Sam Bankman-Fried and his crypto exchange FTX.com, which recently filed for bankruptcy. Reports on FTX—once considered a milestone in securing traditional crypto legitimacy—suggest that Bankman-Fried may have mismanaged user deposits in a futile effort to keep its operations afloat. Former Treasury Secretary and Harvard economist Larry Summers compared FTX to Enron — and he’s not alone in seeing echoes of the disgraced Texas energy company, which became synonymous with white-collar crime after its failure in 2001. CNBC’s Brian Sullivan even tweeted that “FTX may be worse than Enron.”

Certainly, the collapse of FTX mirrors the stunning failure of Enron in strange ways. The leaders of both companies made last-ditch efforts to save them through mergers. When the deals fell apart, Chapter 11 bankruptcy was the next step. In fact, the attorney now overseeing FTX’s bankruptcy played a similar role in the aftermath of Enron’s demise.

However, the parallels between the two companies go beyond any potential acts of fraud. The rise and fall of Enron at the turn of the century was, in part, the result of the economic fragility at the heart of the information age. The FTX debacle suggests this problem has only gotten worse in a world with social media.

When Enron crashed, it seemed to symbolize the perils of an opaque new way of doing business. During the 1990s, Enron and its executives became famous for claiming to have discovered a way to dominate the energy business without really getting into the messy and laborious processes that had hitherto been inherent to it. Instead of owning power plants, Enron executives like Jeffrey Skilling insisted that the buying and selling of energy-related financial derivative contracts — essentially deals that would help industrial customers lock in or otherwise manage unpredictable natural gas prices – was the future of the industry.

Skilling, the architect of this “asset-light” strategy, claimed to have cracked the code to making money from just about anything. In 1997, Enron even started offering weather-related derivative contracts. It was audaciously complicated stuff.

Many members of Enron’s management team couldn’t explain company operations to reporters and financial analysts, but that didn’t seem to matter. If anything, that was a bonus. The company’s 1999 annual report to investors actually celebrated people’s failure to describe the company.

Enron’s apparent success seemed to herald the arrival of exciting new economic opportunities. Businesses no longer need to be weighed down by expensive processes and physical assets. Skilling, along with the rest of Enron’s management team, has been celebrated in management books, business school courses, and news stories. Equally important, an enviable stock price seemed to justify the company’s unorthodox approach to business.

Enron’s marketing team has worked hard to reinforce this sense of innovation. In 2000, the company launched an advertising campaign imploring business leaders to “Ask Why”. Television commercials with this phrase echoing repeatedly suggested the dawn of a new economic era. The future had arrived, and it promised to be filled with incredible riches.

However, despite Enron’s seemingly spectacular profits, the company, in reality, had a huge cash flow problem. The incredibly complex derivatives transactions were worth a lot on paper, but the money itself never really found its way into the company’s accounts. Famously, Enron’s finance team hid these problems for years by relying on a bag of accounting tricks that made the company look much healthier than it actually was.

When the real financial situation of the company became clear at the end of 2001, the crash was dramatic. Enron’s stock price and credit rating plunged so rapidly that at the end of the year the company filed for bankruptcy – the largest in American history to that point.

Due to advances in technology, the risks of this type of balance sheet quibble have only increased in the two decades since the company went bankrupt. Andrew Fastow, Enron’s chief financial officer, relied on dizzyingly complex derivatives transactions with special purpose entities (shell companies intended to do business with Enron). By contrast, reports say Bankman-Fried only needed special software to secretly transfer money to his other company, Alameda Research – allegations he denies. Tellingly, both cases also relied on flimsy assets — Enron stock and FTX’s own cryptocurrency (FTT) — as collateral.

But this alleged fraud is only one of the problems revealed by the two scandals.

In 2002, months after the Texas energy company’s demise, Federal Reserve Chairman Alan Greenspan remarked that “Enron’s rapid decline is a powerful illustration of the vulnerability of a company whose value market is largely based on capitalized reputation”. In other words, Enron’s success depended on hype and the impression of incredible success – not doing or producing something tangible that all Americans could see. Enthusiastic stock recommendations and a public intoxicated by soaring stock prices were essential to the company’s existence and to ensuring that other companies felt comfortable making deals with Enron. As long as its leaders could make the company look good on paper and people believe it, Enron thrived.

Enron’s business was at least nominally tied to things in the real world, but FTX transported and traded cryptocurrencies and non-fungible tokens (NFTs), which are, in a sense, nothing more than ” capitalized reputation”. After all, most NFTs are digital images that have no direct connection to a world beyond a computer screen. Similarly, cryptocurrencies can be used as units of exchange, but their history of wild price swings and, indeed, the sudden collapse of FTX, suggests they are just as far from reality as derivatives. Enron Weather.

And FTX’s business relied on many of the same strategies Enron used to project success. Ads featuring comic Larry David have suggested the company has found a new way of doing business – one that could produce massive wealth, but one that the public doesn’t need to understand. Additionally, both companies aggressively courted Washington politicians and paid naming rights for sports venues, all in an effort to restore ultimately undeserved reputations. And it worked.

Today, however, the danger is greater. More than 20 years after the collapse of Enron, crypto firms like FTX operate in an environment where it’s even harder to navigate a fog of information to see what’s really going on. FTX’s history (just three years) is much shorter than Enron’s – and the lightning speed at which it has attracted and lost billions is ringing alarm bells.

The still-ongoing FTX scandal is spectacular enough that calls for regulation and oversight are sure to follow (as they did with Enron). The main piece of regulation that emerged in the wake of Enron, the Sarbanes-Oxley Act (2002), aimed to restore investor confidence by making financial statements more accurate. It was, in other words, a law focused on the quality of information.

This time, however, the discussion cannot be limited to financial information. Instead, lawmakers will need to consider the entire information ecosystem. At the turn of the 21st century, Greenspan learned a heartwarming lesson from Enron’s demise. Because businesses (and markets more generally) had “large amounts of data available in near real time”, it was possible “to address and resolve economic imbalances much more quickly”.

But Greenspan had not anticipated how an unruly confusion of information would become a key feature of 21st century life. Crypto companies like FTX market products that are only as valuable as people think they are, inciting the kind of extravagant boosterism that hid Enron’s problems for years.

The Enron crash was ruinous for those who had trusted the company by buying back stock. Retirement savings evaporated just as the company’s workers lost their jobs. How much worse would the damage have been had there been Enron rumors and memes proliferating on social media platforms like Reddit and Twitter in the late 1990s?

In a world where real facts hardly mix with misinformation, fantasy and hearsay, cryptocurrencies are as dangerous as they are attractive to investors and tech enthusiasts. As people begin to sift through the rubble of Bankman-Fried’s shameful demise and the financial ruin of crypto traders on FTX, preventing such cases in the future will depend on asking deeper questions about a media environment conducive to fraud like Enron and, allegedly, FTX. Otherwise, the two episodes will be just two in a long series of crises endemic to 21st century businesses.

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