With the rapidly growing interest in artificial intelligence (AI) —and its potential role in improving board effectiveness—it may be even more interesting now we can view it through the lens of AI.

The demise of Enron

First, some background. In 2002 while working with a client board in Texas, I watched a replay of a session of the Senate Committee inquiry into Enron’s sudden descent into bankruptcy. In Washington, earlier in the day, the former Enron board committee chairs hadbeen paraded in front of the Committee. One by one they attempted to convince the Committee that Enron had been governed by the best board of which they had ever been a member.

Understandably, Committee members had difficulty keeping straight faces, but the Enron directors had some basis for their assertions. For one thing, the company had recently won an award as one of the top five boards in the US—recognition that Enron had ticked many of theboard structure ‘boxes’ then touted as key indicators of corporate governance ‘best practice’. For example:

• the roles of chair and chief executive had been separated (very rare in the US at that time)
• the Audit Committee chair was conspicuously well-qualified for the position
• compared to many US corporate boards, the Enron was relatively small.

Now we understand better that—while still desirable attributes—these are unsatisfactory predictors of board and organisational effectiveness. Behavioural dysfunction is usually at the heart of board inadequacy and corporate failure, as it was in the Enron case.

A prominent visual backdrop to the hearing was an exhibit prepared by staff assisting the Committee. Senators routinely referred to this when questioning each of the Enron directors. It was a timeline of the company’s recent history on which a sequence of decisions by either the full board or the Audit Committee had been red flagged. Each highlighted decision was thought to have contributed in some material way to the company's demise. Each was contrary to a board policy or inconsistent with the company's much-touted values.

The most damaging of these decisions appeared to have been approvals of various special purpose entities (SPEs) proposed by the company’s CFO Andrew Fastow. SPEs were mechanisms for additional borrowing backed by Enron’s own shares that did not show up on the balance sheet. The company’s true financial position was distorted further by the company's practice of booking profits (‘mark-to-market’) that were not yet earned (and might never be).

Enron went from share market darling to bankrupt in a matter of months once various commentators started questioning the substance of the company’s reported earnings and the SEC started investigating. It was hardly surprising that, in concluding that session of the enquiry, the Senate Committee Chair, observed to the Enron board representatives that “…you not only fiddled while Rome burned; you toasted marshmallows over the flames!”

Ultimately, the spectacular failure of the company proved, contrary to the Enron leaders’ self-assessments, that they were not ‘the smartest guys in the room’.[1] Malcolm Gladwellconcluded that “Enron’s SPEs were, by any measure, evidence of extraordinary recklessness and incompetence”. He also referred to the conclusion of the Powers Committee, another group charged with investigating Enron’s demise, that even though its directors sat in meetings where those deals were discussed in detail, many on Enron’s board failed to understand the economic rationale, the consequences, and the risks of their company’s SPEdeals.[2] In Kurt Eichenwald’s Conspiracy of Fools, arguably the definitive story of Enron, he contended that even Fastow, the principal designer of Enron’s various financial manoeuvrings, didn’t understand the full economic implications of the tangle of financial obligations he created.[3]

Andy Fastow—reinvented

In 2004, Andy Fastow— ‘CFO of the Year’ in 2000—was sentenced to ten years imprisonment for wire and securities fraud. After serving six years of that sentence, he spokearound the world about what went wrong at Enron and the lessons to be learned. He also provided consulting services helping to identify where a company may be technically complying with rules but is being materially misleading. Ironically, he even taught classes on business ethics.

The problem, he routinely tells audiences, was that while the deals he carried out at Enron were ultimately materially misleading and fraudulent, they were fully disclosed to and approved by Enron’s accountants, outside auditors, its inside and outside attorneys, and the Enron board. The deals were, arguably, legal but they were not right. As Fastow suggested, his real role at Enron would have been better described as ‘Chief Loopholes Officer’.[4]

Something Fastow has said he is concerned about is that most directors have limited information to work with. They are given only a few metrics such as earnings and credit ratings, and [selective] information from the CEO. Consequently, he says, directors don’t know when they need to get involved. While some directors might try to do too much, Fastow has asserted that most do too little because they don't have the tools.[5]

Might AI have saved Enron from itself?

Interesting, therefore, that in 2016 Fastow became principal and investor in KeenCorp, a Netherlands-based company with offices in the US, Canada and South Africa. KeenCorpoffers analytics and artificial intelligence products that monitor “day-to-day workflow: E-mails, Microsoft Teams chats, Google Suite, and Slack” to analyse employee sentiment and engagement.

The company has developed an AI system that uses psycholinguistics to examine employee engagement in real-time. The system analyses the tone of internal communications, looking not for what employees are saying but how they are saying it. First, a base is created through an analysis of historical email traffic to give a sense of what is a company’s normal ‘tone of voice’. Using this datum, the system can then identify pattern changes that may indicate a shift in the collective mindset.

This application shows how AI may have predicted the Enron failure.[6] In testing their system, KeenCorp researchers applied it to years of publicly available emails from Enron’s top 150 employees. They found a dramatic plunge in confidence occurred in June 1999, more than two years before the company’s collapse. This was surprising—and counterintuitive—asat that time Enron’s star was shining brightly, and its share price and market capitalisation were still increasing rapidly.

Andy Fastow was able to confirm that their analysis had identified the exact day—28 June 1999—when he persuaded Enron’s board to accept one of the most controversial structured finance deals, which he identified as the deal that eventually led to the SEC investigation.[7] The AI analysis had uncovered the negative reaction to this decision among Enron’s top 150 people.

Even though they knew the board would be making the wrong decision, none of those executives had spoken up about it. What the AI system picked up though was how the group of executives was feeling about the decision. Apparently, it showed tension levels that were almost as high as on the day Enron declared bankruptcy.

This example shows us how a smart analysis of internal communications could have been a powerful tool to alert the Enron board to what was really going on. If this kind of real-time AI had been available to them in 1999, the board would have been aware of the plunge in key employee engagement caused by the board’s decision on what others saw as a particularly dodgy deal. Possibly the Enron board may have even been brave enough to try to unwind that deal—and others like it. This information may have saved the company.

Notes