Subject: Credit Trading OnLine - Results of Legal Due Diligence and Risk Memo
From: [email-masked]
To: [email-masked], [email-masked]
Cc: [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked], [email-masked]
Date: Mon, 17 Jan 2000 06:01:00 -0800 (PST)

NOTE - GIVEN THE PROPOSED LAUNCH DATE OF 24 JANUARY 2000 FOR THIS PRODUCT, 
THIS NOTE IS INTENDED TO SERVE BOTH AS A SUMMARY OF THE RESULTS OF OUR LEGAL 
DUE DILIGENCE AND AS A RISK MEMO

As you know, we have carried out legal due diligence in the eight countries 
where it was intended the credit product  would initially be traded via 
EnronOnLine - namely, the UK, the US, Canada, Finland, Germany, Norway, 
Sweden and Switzerland.  Under the terms of the credit product, on the 
occurrence of  a bankruptcy with respect to a specified third party (the 
Reference Entity) the Seller of the product (which could be either Enron or 
its online counterparty) will pay a fixed, pre-agreed cash sum in an agreed 
currency to the Buyer. (It should be borne in mind that this product differs 
in a number of ways from the more conventional credit derivatives traded in 
the international markets. This means that a change in the nature or terms of 
our product or the introduction of alternative credit products will likely 
change the analysis below.)

Set out below is an overview of where we have come out on the more 
significant legal issues.  I am also attaching a two page "Executive Summary 
of Legal Advice" prepared by outside counsel which highlights the significant 
legal issues/risks in each country and which should be read in conjunction 
with this note mail. As you will see, the Executive Summary does not focus on 
issues we raised which are "all clear" from a legal perspective, so as to 
keep the summary to a sensible length  (but there was plenty of good news 
too!).  Where a legal issue has been identified, I have either set out below 
what action is to be taken, or not addressed it further on the basis that, on 
the advice of foreign counsel, the risk is not very substantial or unlikely 
to materialise. Therefore, where no comment is made below in relation to a 
risk highlighted in the attached summary, please assume that the legal risk 
is one which, in our view, it is reasonable to take.

A.  Countries in which the credit product can be traded in January 2000

 Finland, Norway, Sweden, Switzerland, UK, US

B.  Countries in which launch of the product via EnronOnline will need to be 
delayed

 Canada, Germany (reasons set out below)

C.  General Issues (applicable in all countries)

The credit product is fundamentally different from the usual energy and 
related products we trade and so gives rise to new or increased legal risks 
of a general nature:

(i)  Capacity - We will not be able to assume generally that our 
counterparties will have the legal power and authority necessary to trade the 
product and so will need to check each counterparty's constitutional 
documents before allowing them to trade the product online.  This applies to 
almost all entities (eg corporates, municipalities, insurance companies) in 
all countries.  Some entities may lack the power to trade under the general 
law (in which case we will not be able to deal with them at all) or under 
their constitutional documents (in which case they will need to amend their 
constitutional documents if they wish to trade).  

The check need only be made once at the beginning of the credit trading 
relationship and so can be added to our procedures.  It is not a particularly 
onerous job and will increase the cost of this business only incrementally.

(ii)  Confidentiality - We will need to put in place procedures to ensure 
that we are not misusing confidential information about our business 
counterparties on whom we are offering credit protection.  Misuse can occur 
both in pricing the product and trading it.  The procedures will not include 
formal Chinese Walls separating the credit traders from our other traders or 
the credit department (a point we have managed to agree with both UK and US 
counsel following very detailed discussions).  The procedures will include 
(a) the use of a Restricted List in both the US and Europe (similar to the 
procedure currently used in Houston); and (b) practical steps to ensure that 
confidential information derived from other areas of our business and which 
we are not entitled to use (eg because it is the subject of a confidentiality 
agreement) is not imparted to the credit traders.  In addition, where Enron 
has an especially close relationship with a prospective reference entity, or 
otherwise has confidential information relating to such an entity, we will 
need its written consent before offering protection on that entity.  Without 
such consent, there will be an unjustifiably high risk of being sued by that 
entity for breach of confidence.

D.  Country Specific Issues

(i)  Canada - There is a substantial risk that the product will constitute 
insurance business, constituting an offence and rendering contracts in the 
product unenforceable against our counterparties.  We should try to resolve 
this issue with the Canadian authorities before launching the product in 
Canada.  Timeframe for clearance is highly uncertain since it is not clear 
which Canadian authority would take jurisdiction of the matter.

(ii)  Germany -  Again the issue is insurance.  The risk is higher than in 
Canada and so Germany should be excluded initially.

(iii)  Norway - There is a material risk that the credit product could be 
regarded as gaming in Norway, in which case trades would be void and 
unenforceable.  The normal way to mitigate this risk in Norway is by using a 
"substantial professional effort" to satisfy ourselves that a trade is being 
entered into for valid commercial purposes (normally hedging) by our 
counterparty. Clearly, it will not be possible to take such steps on a trade 
by trade basis in the context of EnronOnline.  At a minimum, we should 
therefore ensure at the outset of the online trading relationship in this 
product with each Norwegian counterparty that there is a commercial logic 
behind its trading this product type.

(iv)  Switzerland -  If the credit product is the main purpose of our trading 
relationship with a counterparty, we should check with the Swiss supervisory 
authority whether the product constitutes insurance (the position being 
unclear).  If a trade is insurance, it can be terminated by the counterparty 
(which is obviously of greater concern if Enron is the Buyer) and an offence 
will be committed since Enron is not authorised as a Swiss insurer.  However, 
I understand that the initial group of counterparties will be existing 
business relationships, in which case we can parallel path this issue.

(v)  US (New York Law) 

(a) CFTC regulation - by structuring the product either as a swap or an 
option (and meeting certain other conditions) we can rely on exemptions under 
the US Commodities Exchange Act. 

(b)  US securities laws - there is a small chance that the credit product 
constitutes a "security" under US securities laws (please see attached 
Executive Summary).  However, SEC regulations allow the public offering of 
securities to "accredited investors" which will allow us to deal with 
investors having at least US$5 million in assets.  Since most of our 
counterparties will be fairly large, sophisticated players, this test should 
not impede the business.

(c)  Insider trading - US counsel have advised that the risk of insider 
trading occurring as a result of the product being characterised as security 
(see (b) above) is relatively remote.

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Please feel free to call me on x36566 if you would like to discuss this 
project further.

Best regards

Paul