Yet Europe has been the backdrop for similar freewheeling capitalist tales. Consider the case of the German industrial conglomerate Metallgesellschaft (MG). In the early 1990s the company branched out from its stodgy metals and mining businesses into fancy financial-derivatives trading. Heinz Schimmelbusch, the company’s Austrian CEO, was an outsider known for shaking things up. To counteract the effects of falling metal prices, he moved MG into the oil-futures business. Business was hot for a time, but when crude prices began falling, MG suffered major losses on its futures portfolio. The company was unable to raise additional financing and was on the brink of bankruptcy. In 1993 several banks with a stake in MG (including Deutsche) were forced to implement a $2 billion bailout plan. Schimmelbusch was fired and taken to court on charges including breach of trust (the case was later dismissed).
The reasons for MG’s downfall remain open for dispute, but the broad parallels with Enron are striking. Market shifts helped push both companies into a bad position, and the shift from old to New Economy businesses proved more perilous than expected. Of course, MG has since made that transition, as have some of Europe’s most famous companies (think Vivendi and Mannesmann). What Enron and (at the time) MG both failed to do, says University of Mannheim Prof. Martin Hellwig, is understand the risk inherent in their particular choice of new businesses: trading.
The mania of the ’90s inspired entrepreneurs to open up new markets for everything from energy and plastics to complex financial investments. The risks of such operations are often unpredictable. That’s one reason finance is among the most heavily regulated industries in both the United States and Europe. “It’s not old versus new,” says Hellwig, “but whether the proper systems for managing risk were in place.” This includes measures as simple as internal audits, and keeping senior management fully briefed and accountable for even the most abstruse trades. Enron got too complicated for its own good. When questioned several months ago about some of the operations that would prove his undoing, Enron CEO Kenneth Lay told The New York Times, “You’re getting way over my head.”
Perhaps Europe’s most famous case of an unsupervised trader toppling a fabled company is the fall of Barings Bank. Rogue broker Nicholas Leeson was able to conceal losses of more than $1 billion on derivatives, bankrupting an institution that funded Britain’s wars against Napoleon. This disaster prompted major reform, which has since concentrated Britain’s financial-services regulation in one institution, the Financial Services Authority. The agency tackles market abuse and recently gained the power to fine and censure individual managers within financial institutions. This goes to the heart of Britain’s new philosophy, which holds top managers responsible for any funny business, whether they were personally involved or not.
Regulation alone can’t prevent all shareholder losses at the hands of crooked accountants or corrupt executives. But it can limit the damage. In 1995, a few years after it was discovered that news mogul Robert Maxwell had raided the pension fund of the Mirror Group, Britain instituted tighter regulations on funds. Today no British company can invest more than 5 percent of its pension fund in its own stock (and 2 percent to 3 percent is the norm in the rest of Europe). In that way, at least, Europeans are safer than Americans. Some pensioners of Enron had 60 percent or more of their retirement money in the company stock, and many lost their life savings.
Outrage over the Enron bankruptcy may add fuel to the European backlash against an American-style equity culture. That’s why it’s important to remember that the company’s legacy in Europe hasn’t been entirely negative. It introduced the concept of energy trading, prompting local companies like RWE and EDF to set up their own trading arms. This raised the level of competition in the energy industry and created more choice for consumers. With the fall of Enron, some experts believe European companies will scale back those riskier operations. And considering what happened to Enron, perhaps that’s not an altogether bad idea. As Europeans continue to move toward free-market reform, they’ll be confronting this question again and again: how much risk can we afford?
