Enron's Swap With Qwest Is Questioned
The New York Times
March 29, 2002
By DAVID BARBOZA and BARNABY J. FEDER
Enron and the
telecommunications giant
Qwest Communications
struck a deal last
fall to swap fiber optic network
capacity and services at
exaggerated prices in an effort to
improve each company's financial
picture, executives close to the
deal said this week.
Details of the deal, which was not
announced at the time but has
been disclosed in recent filings in
Enron's bankruptcy case,
indicate that the two companies
raced to complete the transaction
as the third quarter was ending
in September. Enron and Qwest
valued the transaction at more
than $500 million, but analysts
said the timing and the valuation
would be hard to justify because
a glut of fiber optic capacity had
sent network prices plummeting.
Similar deals by other companies
in the last few years have become
the focus of inquiries by federal
prosecutors, the Securities and
Exchange Commission and
Congress, as investigators try to
determine whether the network
swaps were legitimate
transactions or sham deals meant
to lift revenues artificially. So far,
in describing its responses to
S.E.C. questions, Qwest, the
dominant telephone company in
14 Western states, has said
publicly that its swaps are based
solely on the needs of its network
operations.
But executives close to the Qwest-Enron deal, one of the
largest recorded, said the swap had other objectives. It
helped Qwest, the executives said, soften a deteriorating
situation in profit and revenue at the end of last year's
third quarter.
The deal, they said, also allowed Enron, which was
tumbling toward a bankruptcy court filing, to avoid
recording a huge loss by selling an asset whose value had
plummeted on the open market.
"Qwest said we will overpay for the assets, and you will
overpay me on the contract," one former Enron executive
said. "They had a pinch in the third quarter and needed a
deal."
A financial analyst looking at the deal's details for the first
time this week, questioned the need for a swap. "It's
totally irrational to buy capacity from Enron," said Patrick
Comack, a telecommunications analyst at the investment
house of Guzman & Company in Miami. "This is clearly a
swap for accounting purposes."
Arthur Andersen, which was indicted earlier this month
on obstruction of justice charges tied to Enron's collapse,
signed off on the way Qwest and Enron accounted for the
deal. An Andersen spokeswoman, Kim Boylan, said that
the firm had relied on its clients' assessments of the deal's
worth.
"The auditor is not the business adviser," Ms. Boylan said,
"and would not advise the company as to the valuation."
A Qwest spokesman, Tyler Gronbach, said yesterday that
the company had bought much more than network
capacity from Enron; it had also obtained power supplies,
spare network conduits and the right to place its
equipment at Enron sites. Qwest could use the conduits,
he said, to install fiber or sell space in them to other
companies.
"We paid what we believe was fair market value for the
package we bought," Mr. Gronbach said. He declined to
discuss how Qwest valued each element of the deal.
Enron executives declined to discuss the specifics of the
deal. "Many of the matters that occurred, while they may
have been perfectly appropriate, are being looked at by
several different government authorities, so we'll have no
further comment," Mark Palmer, an Enron spokesman,
said.
Qwest began encountering criticism last year from
analysts and investors over a series of swaps in early
2001. The S.E.C. started asking questions earlier this
year, sending Qwest a letter requesting information about
its network capacity swaps in 2000 and 2001. One deal
involved Global Crossing, which is operating under
bankruptcy protection and is also the focus of government
investigations.
For Enron's part, the company had been known to be a
sometime player in the network swap market. In the
second quarter of last year, Enron had negotiated to swap
much of its unused fiber optic cable with Global Crossing,
former Enron executives said, but that deal fell apart
because of Global Crossing's credit problems. The
disclosure of the September deal places Enron as a
central participant in the market even as the company
was hurtling toward a bankruptcy protection filing.
In the second quarter of 2001, Qwest and Enron had tried
to negotiate an even larger deal, involving most of Enron's
fiber optic cable and access to Qwest's network, according
to people close to both executives. The discussionsinvolved
Joseph P. Nacchio, the chief executive of Qwest, and
Jeffrey K. Skilling, Enron's chief, but the talks broke
down in June.
People close to the September deal said that executives at
Enron and Qwest held discussions that lasted into the
final days of the third quarter, pondering how to account
for the deal so that each would gain accounting benefits
and improve its quarterly earnings report.
The deal came shortly after Qwest said that it would
reduce its work force by 4,000 amid a sharp downturn. On
Sept. 10, the company trimmed its revenue forecast for
2001 by about $1 billion and its profit forecast by $500
million, suggesting a sharp slowdown in the second half of
the year.
Then, on Sept. 30, a Sunday and the final day of the third
quarter, Qwest signed a deal to pay Enron $308 million
for assets that included so-called dark fiber along a route
from Salt Lake City to New Orleans. Dark fiber refers to
idle network strands that require additional investments
in electronic equipment before they can be put into
service. In exchange, Enron agreed to pay Qwest $195.5
million for "lit wavelength," or active fiber optic cable
services, over a 25-year period; each company exchanged
checks for about $112 million around the close of the
deal.
To Mr. Comack, the Guzman & Company analyst, Qwest
may be paying for assets for which it has little use. "I can't
conceive of any reason they would need more dark fiber in
the U.S.," he said.
The deal enabled Enron to book a sale and avoid recording
a loss on the dark fiber assets, whose value in the open
market had dropped far below the price on Enron's books.
Enron had recorded a high value on its dark fiber assets
after selling some fiber to LJM2, a partnership operated
by the company's former chief financial officer, Andrew S.
Fastow, and then buying that fiber back six months later,
in December 2000.
Qwest did not announce the Enron deal after it was made,
although the company had regularly issued news releases
for smaller deals, including a $20 million contract with
Perot Systems Inc. on Sept. 27.
When Qwest announced third-quarter results on Oct. 31,
however, it boasted about the expansion of its fiber optic
network, without naming Enron: "In a transaction with a
significant business customer, Qwest purchased
approximately $300 million of assets - including the
5,500 miles of domestic fiber routes, co-location space and
power - to diversify and extend its network and to provide
backup facilities."
The news release continued: "This customer has also
agreed to purchase high-speed optical network capacity
from Qwest, with approximately $86 million in revenue
recognized in the third quarter and additional future
contracted revenue."
Even so, Qwest's third-quarter results were disappointing,
a loss of 9 cents a share, though better than the
14-cent-a-share loss a year earlier. Revenue, considered
an important barometer of how the telecommunications
companies were growing, was equal to a year earlier, at
about $4.8 billion.
While the deal provided an $86 million increase to Qwest's
reported revenues in the third quarter, it reduced
reported earnings by an undisclosed amount, Mr.
Gronbach, the Qwest spokesman, said.
He declined to reveal how much profit Qwest booked from
the deal in the quarter, but said it was more than offset by
the $112 million that Qwest paid to Enron in the quarter.
The deal provides for Qwest to pay Enron another $83.5
million in two payments this year.
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