What are the issues surrounding IFRS 13 in the case Dabhol, other Enron International projects, and Azurix.

In 1996 Rebecca Mark became CEO of Enron International, having previously been head of Enron Development. She developed projects around the world at a frenetic pace. She and her managers were given bonuses for each project they developed of about 9% of the present value of its expected net cash flows, one half paid at the financial close and the other half when the project became operational. The costs of projects that did not come on line but were not officially declared to be dead were recorded as assets, if the amounts were under $200 million. Mark’s largest project, begun in 1992 when she managed Enron Development, was a giant electricity power plant in Dabhol, India. To be economically viable, the government of the Indian state of Maharashtra would have to purchase a fixed amount of electricity at a high price, despite the fact that it was unable to collect for electricity sold at lower prices. The project was severely criticized in India, and the contract was renegotiated several times. Eventually, Enron invested and lost about $900 million in the project, which now stands idle. Nevertheless, Mark and her team received $20 million in bonuses for the project, based on their estimates of its present value. Relatively few of Enron International projects actually became operational and few were profitable according to traditional accounting standards after they became operational. Some pre-bankruptcy evidence is available as a result of a dispute between Skilling and Mark. In 1998, Skilling had an in-house accountant value Enron International’s projects. He calculated that the division returned only a 2% return on equity, excluding Enron’s substantial contingent liability for project debts it guaranteed. Mark’s accountant, though, estimated that her division returned an average of 12% on equity. After Enron declared bankruptcy, few of the division’s projects were found to have any value. In May 1998 Skilling forced Mark out of her post as CEO of Enron International. (In December 1996, Lay had appointed Skilling, rather than Mark, as Enron’s President and Chief Operating Officer.) Perhaps as a consolation prize, in July 1998 the board of directors (with Skilling’s blessing) allowed Mark to establish a new Enron subsidiary, Azurix, which would develop water-supply projects around the world. The business began with a $2.4 billion purchase of a British water utility, Wessex Water Services, for a 28% premium.7 The purchase was largely financed with debt sold by an off-balance-sheet partnership, Marlin, which itself was financed with debt that Enron guaranteed. Enron’s obligation on that debt was not reported on its financial statements. Most of the balance came from public sales of Azurix shares for $700 million. Azurix then successfully bid for a Buenos Aires, Argentina water utility that was privatized, paying three times more than the next highest bidder. Azurix later learned that the deal did not include the utility’s headquarters and records, making it difficult (often impossible) to collect past-due and present account balances.8 By year-end 2000, $402 million had to be written off on the project. Other disastrous projects were undertaken, Azurix stock declined to $3.50 a share and Enron had to repurchase the publicly held shares for $8.375. Mark resigned, receiving the balance of her $710,000 Azurix contract, based on the projected (mark to fair value) benefits to Enron of the enterprise.

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Accounting Valuation Methods When firms make decisions about whether to pursue a project and how much to invest in a project they must value the project The valuation may involve a decision about whet... View the full answer