Collapse of Merger Pushes Enron to Brink of Ruin

Enron Corp.’s lifeline merger deal collapsed Wednesday, and the once-mighty energy trader slid toward all-but-certain bankruptcy.

Its Houston rival and neighbor Dynegy Inc. called off its planned takeover after Wall Street’s major credit-rating agencies slashed Enron’s bonds to “junk” status Wednesday morning.

Investors and Enron’s trading partners had lost confidence well before the rating agencies did. In fact, it was the recent erosion of Enron’s trading business and the harrowing slide in its stock and bond prices that forced the ratings cut and triggered Dynegy’s decision to back out of the deal.

Informed sources said Dynegy ultimately balked after coming across much more debt than it expected in evaluating Enron’s finances and watching helplessly as the value of its would-be acquisition shrank dramatically when energy customers fled the firm.

With the merger called off, Enron was “exploring other options to protect our core energy businesses,” Kenneth L. Lay, the company’s chairman and chief executive, said in a brief statement that skirted the topic of bankruptcy.

The lack of a decent credit rating cripples Enron’s ability to run its trading business, the franchise that made it one of America’s most admired companies but also gave it a reputation for arrogance and greed, particularly for its role in California’s energy crisis.

Computer screens went dark nationwide Wednesday as the widely used EnronOnline Internet-based trading system shut down.

Enron’s stock, already down 95% for the year, tumbled $3.50 to close at 61 cents on Wednesday in a trading stampede on the New York Stock Exchange. A one-day record of 339 million shares changed hands.

The whole company, once worth $63 billion, now is valued at less than $500 million, or about twice the cost of Enron’s new headquarters under construction in downtown Houston.

Dynegy shares, meanwhile, sank $4.92 to $35.97, just below where they stood when Dynegy agreed to acquire Enron on Nov. 9.

Dynegy exited the deal because it was “unwilling to risk our franchise, our credit or our credibility,” President Stephen Bergstrom said in a news conference Wednesday.

“We know when to say no, and this morning we said no,” he said.

Wall Street had been saying no for days, hammering Enron’s stock to less than half the $10.41 a share that Dynegy originally agreed to pay. Dynegy was in the process of renegotiating its price downward when it finally threw in the towel.

The deal’s lack of credibility with stock and bond investors prompted the top two rating agencies--Standard & Poor’s and Moody’s Investors Service--to cut their ratings on Enron, knowing that they probably were pronouncing a death sentence.

The ratings downgrade triggered clauses in Enron loan agreements that require the company to immediately pay its creditors some $3.9 billion--money that it doesn’t have, analysts said.

The ripples from Enron’s collapse spread far and wide, even to the U.S. Treasury market, where some investors fled for safety as Enron’s bonds plunged in value.

Enron led a trend in energy trading, creating an Internet-based network that allowed millions of suppliers and purchasers of electricity, natural gas, oil and coal to do business with one another. The trades of contracts, often spanning many years at a fixed price range, are intended to protect major users and suppliers of energy from fluctuations in fuel prices.

Energy market experts are split on the long-term effects of Enron’s collapse. Some say the fallout will be slight, noting that rivals already have stepped in to take over business with trading partners who were too nervous to continue dealing with Enron.

“The whole industry should thank Dynegy for basically buying them two or three weeks’ time to unwind their deals with Enron,” said analyst Andre Meade of Commerzbank Securities in New York.

But Enron was noted for the complexity of its long-term deals, and the effects of its withdrawal as a key player could be far-reaching and unexpected, other analysts said.

Banking companies, dozens of which lent money to Enron, saw their shares dip on worries about whether those loans will be repaid. Shares of rival energy companies, too, lost value.

Enron’s chief lenders--Citigroup Inc. and J.P. Morgan Chase & Co.--each have about $800 million in loans that may be at risk in a bankruptcy, said Richard Strauss, a bank analyst with Goldman, Sachs & Co. Some of those loans are secured by Enron assets, with an unsecured portion of about $270 million for each bank, Strauss said.

Thousands of Enron employees around the country have had their retirement nest eggs decimated.

They and other investors have filed a brace of lawsuits alleging that Enron misled them about its financial condition, inducing them to buy stock that company executives knew was overvalued.

Then-Chief Executive Jeffrey K. Skilling cashed in $62 million worth of stock and options last year, when the stock was near an all-time peak. His boss and mentor, Lay, took stock and options gains of $123 million last year, according to SEC filings.

In August, in one of the first outward signs of Enron’s troubles, Skilling abruptly resigned, citing unspecified personal reasons.

Last month, a series of revelations began surfacing about its dealings with partnerships set up and run by Enron officers.

Analysts say the deals, now under investigation by the Securities and Exchange Commission, appear to have been orchestrated in part to hide the size of Enron’s vast debt and to artificially pump up its reported profit.

Enron was forced to restate its earnings, admitting that it had over-reported profit by more than $580 million since 1997. Its previous financial statements, it said in a humiliating admission, “should not be relied upon.”

Those statements were examined and certified by the accounting firm Arthur Andersen, one of the industry leaders, itself now named in lawsuits by aggrieved Enron shareholders.

Meade said Enron’s biggest problem may have been that it began to believe in its own bulletproof reputation.

“The core business--energy trading and marketing--produced a lot of cash, and Enron took that cash and basically squandered it on a lot of investments that didn’t pan out,” Meade said, referring to a troubled power generation project in India and Enron’s failed attempts to become a trading powerhouse in water and in broadband communications capacity.

Losses on those ventures left the company awash in debt and vulnerable to the credit crunch of recent weeks, when lenders and trading partners suddenly demanded cash, and Enron couldn’t pay.

In California, Enron and Dynegy were among the big, mostly out-of-state energy companies vilified by Gov. Gray Davis and others as “gougers” and “pirates” that manipulated the market and overcharged for electricity.

Enron tried to influence California’s electricity deregulation when utility regulators began talking in the early 1990s about opening the power industry to competition.

The company’s lobbyists pushed for a secretive market in which power customers could sign direct deals with energy companies. Instead, the California Public Utilities Commission and Legislature designed an open market in which the hourly price of electricity could be seen by all buyers and sellers and the state’s utilities were required to buy nearly all of their power day to day in that spot market.

Enron executives have blamed that structure for the demise of California’s deregulation experiment , saying it foolishly prevented utilities from signing long-term contracts that would have buffered them from market price spikes.

But Sen. Steve Peace (D-El Cajon) argues that a bigger factor in the disastrous unraveling of the California electricity market was the influence of Enron on federal watchdogs.

Peace, who fine-tuned California’s deregulation plan as chairman of a joint legislative committee, argues that the Federal Energy Regulatory Commission acted too late to curb alleged market manipulation and price gouging. FERC held off, he said, because of the influence of free marketers such as Enron CEO Lay, a longtime confidant of and political contributor to President Bush.

“It should be apparent to all observers that the kind of market Ken Lay promoted operated under the same principles that his company operated under. It’s a kind of anarchic capitalism, in which there are no rules and no referees,” Peace said.

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Mulligan reported from New York, Vogel from Sacramento. Times staff writers Chris Kraul in Houston and Jerry Hirsch and James Flanigan in Los Angeles contributed to this report.