Enron/Andersen: Slamming Into
the Political Reality Wall

Evan M. Dudik

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It happened to the railroads.
It happened to the auto industry.
It happened to Big Oil.
It happened to meat-packing.
It happened to mortgage banking.
It happened to the savings and loan industry.

In each of these industries the same competitive dynamics that shape industry structure also sent them hurtling against what I call the political reality wall. That is what is happening today in the Enron/Arthur Andersen Congressional hearings where thirteen separate committees plus truckloads of FBI agents are investigating a moderately gargantuan but otherwise garden variety Wall Street swindle.

It's happening to managed care.
It's happening to pharmaceutical industry.
It's even happening to the snowmobile industry.
It might be happening to your industry.

Why should executives and corporate strategists care? Because once an industry hits the political reality wall, competition takes place in a hall of mirrors - mirrors placed in a crazy quilt of angles by people who haven't the foggiest idea of revenue, profits or payrolls. When you look over your shoulder to see whether the competition is gaining, you see instead the face of Big Brother - and those highly informed folks from the Fourth Estate. Not that you don't have competitors-they're still there, only they gain advantages that seem to spring from outer space. Or they are subsidized by taxpayers. Or taxpayers subsidize you - something not nearly as sweet as it sounds. Business practices get 3rd-degree scrutiny. Even the appearance of "unfairness" discourages innovation. The shallowest interpretation of the "public interest" becomes the touchstone of whether a company - your company-should even exist. And executives spend as much time in Washington as in the corner office.

Whatever happens, profits decline, regulation increases and corporate freedom shrinks. And with them, your company's strategic options.

How does this happen?

Companies struggle every day for revenues, profits and market share. Classical economics and standard strategic thinking provide a satisfactory account of how competition forces industries to evolve. But they ignore the unfortunate fact that in many cases these very same forces lead entire industries to overlook the political reality wall that encloses every industry's strategic micro-environment-until they smash into it.

Figure 1.

We are seeing this dynamic with Arthur Andersen. Here, the competitive dynamics of the Big Five accounting oligopoly squeezed down the profitability of public accounting (at least relatively speaking). So these firms launched consulting practices, particularly IT/systems integration and tax consulting, a natural enough adjunct to their auditing practice. To attract and retain top talent, to maintain share and to reward their partners, the Big Five disregarded years of warnings about conflicts of interest: how can an auditor be objective when an IT consulting engagement worth tens of millions of dollars hangs on a fairness opinion? In fact, so ineluctable are the dynamics of industry competition that some Big Five firms, including Andersen, Deloitte Touche, Pricewaterhouse Coopers continue to consult-in IT, strategy, capital-raising and taxes-despite years of finger wagging from the SEC, the Federal Reserve and folks inside the profession itself. Andersen spun off the Accenture only to turn around and reconstitute another consulting division.

Former Fed Chairman Paul Volcker testified that: "Company management [an audit company's client] urgently wants to meet market expectation to present results in the most favorable light and to demonstrate a consistent pattern of earnings. Too often the emphasis is on finding ways to meet the letter of the technical accounting requirements at the risk of violating the spirit. Large and profitable consulting assignments may, even subconsciously, affect auditor judgment. Companies want to minimize accounting costs."…. "The crisis in the accounting and auditing professions is not a matter of the failure of a single company or perceived problems in a single audit. It demands attention to fundamental flaws basically reflecting the growing complexities of capital markets and pressures on individuals and their companies to improve financial results."

The accounting profession, unhappily, is following the same path trod by glorious industries of the past. The dynamics of competition and the thirst for growth have led whole industries to ignore the warnings of the public and its political henchmen in state capitols and Washington. The car companies ignored safety because "Ford sold safety and Chevy sold cars" until Ralph Nader, well known for his mechanical engineering expertise, published Unsafe at Any Speed and Pinto gas tanks burned teenagers. Lee Iacocca, then Ford President, directed that "The Pinto was not to weigh an ounce over 2,000 pounds and not cost a cent over $2,000."