============= Page 1 of 34 ============= Dr. Robert K. Jaedicke, Chairman Mr. Ronnie C. Chars Dr. Wendy L. Gramm Dr. John Mendelsohn Mr. Paulo V. Ferraz Pereira .Lord John Wakeham NOTICE OF MEETING OF THE AUDIT AND COMPLIANCE COMMITTEE ENRON CORP. AUGUST 13, 2001 A meeting of the Audit and Compliance Committee of the Board of Directors of Enron Corp. will be held at the time and place and for the purpose indicated below: DATE: August 13.2001 HOUR: 2:30 p.m. (C.D.T.) PLACE: Enron Corp. 1400 Smith Street, 50th Floor Boardroom Houston, TX 77002 SUBJECT: Such matters as may be properly brought before the meeting. Dated July 16, 2001. 1 ~ Reb cca C. Carter Seni r Vice President Board Co munications and Secretary cc: Mr. Kenneth L. Lay Mr. Jeffrey K. Skilling Mr. Richard B. Buy Mr. Richard A. Causey Mr. James V. Derrick, Jr. Mr. Andrew S. Fastow Mr. Richard N. Foster E0004397201 \Co rp\N o ti ces\Aud not. doe EXH004-00004 GOVERNMENT EXHIBIT 602 Crim. No. H-04-25 (S-2) ============= Page 2 of 34 ============= Dr. Robert K. "Jaedicke, Chairman V~ Mr. Ronnie C. Chan V Dr. W endy L. _Gramm V Dr. John Mendelsohn,/ Mr. Paulo V. Ferraz Pereira V Lord John \Vakeham t/ Agenda Meeting of the Audit and Compliance Committee of the Board of Directors Enron Corp. August 13, 2001 2:30 p.m. (C.D.T.) 50`4 Floor Boardroom Enron Corp. Houston, Texas ,,,1'' Approve minutes of meeting of the Audit Committee held on April 30, 2001 - Dr. Jaedicke. //2. Financial Reporting and Control Audit Update - Mr. Duncan, Andersen LLP, and Messrs. Causey, Kilchrist and Parsons. ,3. Independent auditor communications regarding independence - Mr. Duncan, Andersen LLP. Review and update on accounting for goodwill - Mr. Causey. Credit and Market Risk update -- Mr. Buy. Other business, including executive sessions as deemed necessary - Dr. Jaedicke. l ^, ~.~ rtloa.~_' TT 4 LM.ฃ s, -~~•a r\ 7. Adjourn to the joint session of the Audit and Compliance Committee and the Finance Committee. Attendees: Robert H. Butts l/ Shawn-Kri~eh~ist 'ti,I,j L) Thomas H. Bauer (AA) ~/ Kenneth L. Lay Richard B. Buy v' , i;,u -l .. ee ~ f c L 5 Richard A. Causey t/ Theodore R. Murphy V James V. Derrick, Jr. t/ . David B. Duncan (AA) V Rich i N flster (McfJnseyp Jc frey K. Skilling V" D- Steven Goddard (AA) ,l 6. Greg Whey Shawn Kilchrist r / EOO04397202 EXH004-00005 ============= Page 3 of 34 ============= Natural gas.: ~j~ Electricity. ~ Endless possibilities."' V CONFIDENTIAL E0004397205 EXH004-00006 ============= Page 4 of 34 ============= EXH004-00007 E0004397206 ============= Page 5 of 34 ============= Dr. Robert K. Jaedicke, Chairman Mr. Ronnie C. Chan Dr. W'endv L. Gramm Dr. John Mendelsohn Mr. Paulo V. Ferraz Pereira Lord John Wakeham Agenda Meeting of the Audit and Compliance Committee-of the Board of Directors Enron Corp. August 13, 2001 2:30 p.m. (C.D.T.) 50th Floor Boardroom Enron Corp. Houston, Texas 1. Approve minutes of meeting of the Audit Committee held on April 30, 2001 - Dr. Jaedicke. '_. Financial Reporting and Control Audit Update - Mr. Duncan, Andersen LLP, and Messrs. Causey, Kilchrist and Parsons. 3. Independent auditor communications regarding independence Mfr. Duncan, Andersen LLP. 4. Review and update on accounting for goodwill Mr. Causey. 5. Credit and Market Risk update -Mr. Buy. 6. Other business, including executive sessions as deemed necessary - Dr. Jaedicke. 7. Adjourn to the joint session of the Audit and Compliance Committee and the Finance Committee. E0004397207 EXH004-00008 ============= Page 6 of 34 ============= Audit and Compliance Committee Calendar of 2001 Activities Sch eduled Meetings _ February May F- - August October December 1. Audit Committee Composition and Meetings - - - - - - - . Assess independence and financial literacy of audit committee, submit written - X ~ affirmation to NYSE - - - - - - - - - }- - - -. _ _. .- - - - - • Review charter (publish in proxy every 3 years) X } } • Audit Committee Chair to approve meeting agenda X X X X X - t _ - - J _ f . Executive session with auditors, internal audit, management, committee X i~ - - - - - _ - - - - - - - - _ - . . Maintain minutes and report to Board X X X X X 1I. Audit Committee Responsibilities and Duties _ - - - _ - - - - - - - _ - ` ~ - ~- - - _ • Recommend appointment of auditors - - _ - L X _ • Approve audit fees. _ - - - - _ - - - - }- - _ _ X • Discuss auditor independence, obtain written statement of all relationships X X • Review plans for financial statement audit - - _ _ X - _ - - _ - - - _ • Review annual financial statements prior to release- discuss with Mgmt, auditors - X • Discuss quality of accounting principles-approve major changes X - - • Review adequacy of financial and EDP internal controls - J - - - -- - - - •- - - --• - - - - - -- - - - - -' ~ X _ ._ _ • Review internal control plan ~ X • Discuss results of year-end audit and other matters required by SAS 61 - - X • Prepare report to shareholders to be included in the annual proxy X ' • Review quarterly results and findings prior to filing X _ _ X X X • Review policies and practices for management's communications with analysts X • Review/Approve for recommendation to the Board policies and procedures - - - - - - -X - regarding compliance with laws and significant polio • Review credit and market risk with RAC X X X X X • Review legal matters with general counsel X • Conduct special investigations, studies or tests • Review director and officer use of aircraft X X = Recommended Timing * = As Needed E0004397208 EXH004-00009 ============= Page 7 of 34 ============= r r E r .d C m c a :XH004-00010 E0004397209 ============= Page 8 of 34 ============= DR4 FT MINUTES MEETING OF THE AUDIT AND COMPLIANCE COMMITTEE OF THE BOARD OF DIRECTORS ENRON CORP. APRIL 30, 2001 Minutes of a meeting of the Audit and Compliance Committee ("Committee") of the Board of Directors of Enron Corp. ("Company"), noticed to begin at 3:00 p.m., C.D.T., but actually begun at 3:20 p.m., C.D.T., on April 30. 2001 at the Enron Building, Houston, Texas. All of the Committee members were present as follows: Dr. Robert K. Jaedicke, Chairman Mr. Ronnie C. Chan Dr. Wendy L. Gramm Dr. John Mendelsohn Mr. Paulo V. Ferraz Pereira Lord John Wakeham Directors Norman P. Blake, Jr., John H. Duncan, Kenneth L. Lay, and Jeffrey K. Skilling, Messrs. John E. Berggren, Robert H. Butts, Richard B. Buy, Richard A. Causey, James V. Derrick, Jr.,'Shawn Kilchrist, Theodore R. Murphy, and D. Andrew Parsons, and Mesdames L. Mechelle Atwood-Minter, Misty A. Barrett, Rebecca C. Carter, Vicky A. Gregorcyk, Lisa K. Sutton, and Teresa L. kN-feeler, all of the Company or affiliates thereof, 1~'Messrs. Thomas 1-1. Baucr. David B. Duncan. and D. Stephen Goddard, of Arthur Andersen LLP ("AA"), and Mr. Richard N. Foster of McKinsey & Company, Inc. also attended the meeting. The Chairman, Dr. Jaedicke, presided at the meeting, and the Secretary, Ms. Carter, recorded the proceedings. Dr. Jaedicke called the meeting to order, noted that a draft of the minutes of the meeting of the Committee held on February 12. 2001 had been distributed to members of the Committee, and called for comments, additions. or corrections. There being none, upon motion duly made by Dr. Gramm, seconded by Dr, Mendelsohn. and carried, the minutes of the meeting of the Committee held on February 12, 2001 were approved as distributed. E0004397210 EXH004-00011 ============= Page 9 of 34 ============= Dr. Jaedicke called upon Messrs. Causey and David Duncan to begin the quarterly update on financial reporting and controls, a copy of which is filed with .the records of the meeting. Mr. Duncan reviewed the ongoing high priority financial reporting risk areas and commented on specific risk areas identified for the 2001 audit, including the continued refinement of policies related to securitizations, syndications, and mark-to-market, credit and other trading related exposures, additional structured transaction activity, and the rationalisation of assets and of business segments and.related reporting. He then discussed AA's selected observations for the first quarter, including trading volumes and profits related to the Company's core commodities were significant, the realignment of activities between the wholesale and retail business units had impacted segment reporting, and Enron Broadband Service's earnings were impacted by the increased valuation of the content services venture. He then noted that AA had no proposed adjusting entries for the first quarter. Mr. Causey then began an internal control update and stated that significant first quarter activities included the following: 1) progress toward resolving control issues identified in 2000, 2)" significant advancement related to infrastructure development and design initiatives, 3) completion of the reviews of Various remote offices, and 4) the formation of an incident log task force to evaluate root causes and implement preventive controls. Mr. Causey then distributed a handout on the Company's balance sheet reserves, a copy of which is filed with the records of the meeting. He commented on the change in reserves since the end of the year and noted that the most significant changes related to additional reserves in connection with the situation in California. He stated that due to a change in the tariff structure in California, which occurred at the end of the first quarter, the Company took a significant reserve to offset the potential exposure. In addition, he stated that a reserve in place at the end of the year related to exposure regarding the Tennessee Valley Authority contract had been reversed due to a settlement during the first quarter of 2001. Messrs. Causey and Duncan then presented a summary of fees paid to AA during 1999 and 2000 and the specific activities that AA had performed during those years. Mr. Duncan discussed the type of activities that %k ere included in the category "expanded audit activities" and noted that they primarily related to accounting consultations regarding specific transactions. Mr. Causey then presented selected detail, by business unit, of expanded audit activities and process or risk management consulting services provided by AA and stated that the business units approved all services. He then called upon Messrs. Kilchrist and E0004397211 EXH004-00012 ============= Page 10 of 34 ============= Parsons to provide an update on the Company's assurance services ("AS") and information technology ("IT") compliance personnel. Mr. Kilchrist stated that 13 professionals staffed the AS group and he reviewed their business and audit experience and certifications. Mr. Parsons then reviewed the IT group's IT consulting and audit experience, their areas of expertise, and their certifications. Mr. Kilchrist then presented the AS group's organization chart, discussed the reporting structure, and introduced Messrs. Berggren and Bromley and Mesdames Atwood-Minter, Barrett. Gregorcyk, Sutton, and Wheeler. Mr. Parsons then explained the IT group's role and interaction with the AS group. Mr. Kilchrist then discussed the AS group's role at the Company and stated that it was responsible for overseeing controls work and monitoring corrective action plans, ensuring the adequacy of audit coverage, consulting on process rind controls improvement initiatives, analyzing current practicesv and promoting alignment with best practices, and communicating the results and trends to management and the Committee. He then reviewed the group's interaction and coordination with. AA and stated that the AS group was responsible for control and process assessment and improvement while AA was responsible for financial and control attestation. He stated that the group's recent accomplishments included: 1) establishing a structure and network of professionals to broaden the control focus. 2) heightening the awareness of control by creating Internal Control Committees within the business units, 3) performing a comprehensive risk assessment %x ith AA, 4) establishing procedures to enhance coordination with AA, 5) implementing processes to resolve prior control issues, 6) providing control advisory services on business unit initiatives, 7) developing control standards for various processes, and 8) assisting the Company's legal and security departments with various special investigations. Mr. Parsons then began a discussion of the recent accomplishments of the IT group including the following: 1) facilitating business continuity planning initiatives, 2) reengineering change management processes, 3) improving certain security administration procedures, 4) completing application architecture documentation related to trading and risk management. 5) establishing IT compliance audit procedures into the network implementation processes, 6) starting a remote access reengineering process, 7) working with A A on the 200 I IT audit planning, 8) initiating a global security administration. and 9) beginning penetration testing of the Enron Intelligent Network. Mr. Kilchrist then distributed the proposed Enron Assurance Services Charter, a copy of which is filed with the records of the meeting. He discussed the E0004397212 EXH004-00013 ============= Page 11 of 34 ============= proposed Charter and stated that the group's mission was to improve the Company's operations by bringing an independent, systematic, and disciplined approach to evaluate and enhance the effectiveness of risk management, control. and governance processes. He then discussed the accountability and independence of the group and commented on its authority, responsibilities, and scope of duties. Following a discussion, upon motion duly made by Lord Wakeham, seconded by Dr. Mendelsohn, and carried, the Committee approved the Enron Assurance Services Charter as presented at the meeting. Mr. Causey then began a discussion of the current status of "internal audit activities" and independence. He stated that recent conversations between AA and the Securities and Exchange Commission ("SEC") personnel confirmed that work performed pursuant to a control-related attest opinion should not impair independence. He further stated that a calculation of the acceptable level of qualifying internal audit activities which AA would perform at the Company would indicate that independence would not be an issue absent significant unplanned and discretionary work. 'dir. Duncan joined him for a discussion of AA's work at the Company and the implications of maintaining AA's independence. Mr. Causey then presented charts depicting the total qualifying "internal audit activities" and the activities performed by Company personnel and AA. He, stated that a substantial portion of the incremental control work performed by AA was performed pursuant to AA issuing an attest opinion and, therefore, would not be subject to certain maximum thresholds established by the SEC. Dr. Jaedicke then called upon Mr. Buy to begin the Market Risk Update, a copy of which is filed with the records of the meeting. Mr. Buy discussed the backtesting performed on the Company's Value-at-Risk (" 'V AR'") model and stated that per the Kupiec test the VAR model was acceptable. He reviewed the limit violations for the first quarter by portfolio and stated that a significant number of the violations related to the combined Enron Energy Service, LLC ("EES") !WWliolesale group were caused by the lack of certain infrastructure in the EES business unit. He stated that the recent transfer of certain responsibilities from EES to the Wholesale group would alleviate this problem. He stated that the net open position limit violations for the coal group were caused by financiiil positions that were put in place to hedge a physical supply contract. He then reviewed the VAR, maturity gap, and net open position limit violations for the first quarters of 2000 and 2001. He discussed the first quarter discretionary VAR allocations that had been made to the commodity groups and presented a summary of the changes to the Enron Corp. Risk Management Policy ("the Policy") that would be recommended to the Finance Committee. He noted that the chanvues related to permanent limit increases to permanent commodity groups within the 4 E0004397213 EXH004-00014 ============= Page 12 of 34 ============= Policy, an interim limit extension for certain commodity groups currently under the Company's Interim Policy, and modifications to the reporting requirements. Dr. Jaedicke called for an executive session with EAS and IT Compliance staff at 4:10 p.m., C.D.T. and Directors Blake, Chan, Duncan, Lay, FerraL Pereirae and Skilling, Messrs. Bauer, Buy, Causey, Derrick, Duncan, Foster, Goddard, and Murphy, and Ms. Carter left the meeting. Minutes of the executive session were not recorded for the record. There being no further business to come before the Committee, the meeting was adjourned at 4:20 p.m., C.D.T. APPROVED: Chairman K -a \linutes\2001 Minutes 043001 A.doc Secretary 5 E0004397214 EXH004-00015 ============= Page 13 of 34 ============= Agenda Item 2 LO r- N 6) Co O O U W EXH004-00016 ============= Page 14 of 34 ============= 2001 Financial Reporting 2nd Quarter Observations Wholesale group's continuing evaluation of EES portfolio positions results in numerous valuation changes and other "clean-up" activity t~ Reserves for various Wh lesale issues are substantial and continue to be monitored Telecom industry difficulties raise potential for certain exposures in BroadbanTarea pp . l ~ &A Ve Judgemental GAAP application issue related to how to account for an EES business arrangement results in proposed audit adjustments - amounts deemed not material VVA I ot, E0004397216 9q 0 This report is intended solely for the information and use of the audit committee, board of directors and management of Enron Corp. and is not intended to be and should not be used by anyone other than these specified parties. 1 EXH004-00017 ============= Page 15 of 34 ============= Enron Corp. Reserves ($ millions) 6130101 3131101 12131100 PGE Sullivan plant reclamation reserve 20 20 20 Allowance for doubtful accounts 22 19 10 (~ North America Allowance for doubtful accounts -i J-Prudency and credit 559 350 480 323 106 286 Reevaluated monthly Valuation - gas and power Y t EES Specific Deal Rese es 277 246 401 435 - ~., PG&E Credit Claims - 111 Other specific transactions 98 143 58 California political risk 47 47 47 Bammel monetization reserve 3 5 35 - California tariff risk 319 - Reserve used in second quarter _ L NA settlement 6 - -' - 253 Settled first quarter 2001 " rzL UY 1,725 1.748 1,222 a 1` Europe Prudency and credit 114 117 131 Reevaluated monthly Global Exploration and Production Allowance for doubtful accounts 11 17 17 South America _ Prudency and credit - - 33 Reevaluated monthly CALME Dom Rep hotel litigation & AIR reserve - - 3 AIR written off following renegotiation of PPA Madosa sale - deferred revenue 13 13 13 Amortization of call option ElM Prudency and credit 14 - - Corporate Tax reserve related to years under audit (a) 285 285 285 (a) Tax years under audit are 1996 forward. E0004397217 V' r EXH004-00018 ============= Page 16 of 34 ============= Internal Control Update Sign fiCr,,: nt Current Activities a.YWpMtr1~uMTWN.nIV'Aiwa hIWIHn'AtYals....utre./rr .{LYrq/.W..•........ .2001 plan on schedule (approximately 45% complete) v1- Integration of retail and broadband portfolios into existing wholesale structure continues. Processes surrounding capture, valuation, settlements and monitoring of positions being evaluated f New procurement and payment system implemented, which along with the outsourcing of accounts payable, has strengthened cash management_processes_ ~• Identified Enron. Intelligent Network security issues being addressed and expected to be completed by November 2001 - Primary focus has been one of network design and the rapid deployment of equipment - Formal security policies and procedures are under development that will address security configuration standards, intrusion detection, and employee responsibilities Construction of enterprise data center and business resumption facility to commence in August. Design and engineering audit completed • Stringent e-mail retention standards have been adopted Risk Management Policy being updated to incorporate current "best practices", including an enterprise wide risk management framework for all of Enron's business units • Continued monitoring of other initiatives which impact the control environment - Strategic cost cutting E0004397218 - Development of data repository to enhance management reporting Process design and implementation efforts for emerging businesses This report is intended solely for the information and use of the audit committee, board of directors and management of Enron Corp. and is not intended to p .~~ be and should not be used by anyone other than these specified parties. EXH004-00019 ============= Page 17 of 34 ============= Agenda Item 3 m n 0 0 -p w V N EXH004-00020 ============= Page 18 of 34 ============= Independence Observations & Conclusions We believe independence is not only the cornerstone of our profession, but the only sound basis for our continued success ,.:-- We believe our policies surrounding independence are compliant with those currently required by the SEC, AICPA and applied by others in the profession and our Firm has appropriate processes to ensure that they are applied consistently on a worldwide basis We believe our scope of practice (including our arrangement for integrated audit activities) is appropriate for a company as large and active as Enron and is within acceptable parameters under recent SEC independence guidelines • We confirm that we are independent accountants with respect to Enron, within the meaning of the Securities Acts administered by the Securities and Exchange Commission and the requirements of the Independence Standards Board E0004397220 This report is intended solely for the information and use of the audit committee, board of directors and management of Enron Corp. and is not intended to be and should not be used by anyone other than these specified parties. 1 ,F =XH004-00021 ============= Page 19 of 34 ============= A . .... .. Independence General AA Safeguards Partner Rotation Concurring Partner Reviews • Internal Inspection/ Monitoring Programs • Analysis of Regulatory and Litigation Experience • Internal Disciplinary Actions • Partner and Staff Evaluation and Compensation Methods ~~ This report is intended solely for the information and use of the audit committee, board of directors and management of Enron Corp. and is not intended to be and should not be used by anyone other than these specified parties. E0004397221 VaR Limit r 12/4/00 - $485 MM 180 ~ --f ( ($194) MM 8/30 ($630) MM 12/12 { ($ 87) MM 9/1 ($215) MM 12/13 ($105) MM 11/16 ($194) MM 4/9 ($136) MM 12/7 ($139) MM 6/11 120 1 60 0 (60) Conclusion: h' (120) Kupiec Test sets out acceptable range of instances where profit and loss exceeds VaR. At 95% confidence ....-. ... . -. .,.:--- ,. and for the 249 trading days shown, the acceptable range is between 6 and 21 times. Actual occurrences j are 18, indicating that the VaR model is acceptable (180) -~ f t 17 f - 8/30/00 - ($212 MM) 12/12/00 - ($551 MM) 4/9/01 - ($196 MM) 12/13/00 - ($204 MM) (600) O O O 0 O O O O O O O O O O O O O O O r O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O O in to d- - M M Q Q M M N N N N _N N O O N N N r r r c1-- O O C N N N r. N (O r N ~- N ~. ~- N r N c') r- N r N 43 N N N CO 6) O) r O O r N M () to U') N •- r N N V V' . U) (0 (0 r r r r r 12 Month Corp. Limit Evolution: 6/1/00 10/7/00 - 12/6/00 12/7/00 - 12/27/00 12/28/00 - 2/12/01 2/13/01 - Present ($MM) 75 100 140 100 125 .r r a r RIMM 3 E0004397233 EXH004-00034 ============= Page 32 of 34 ============= Limit Violations Quarter Ended June 30, 2001 25 20 U) 15 `O o 10 O Z 5 0 EXH004-00035 I/ ($MM) NA Gas Daily VaR vs. Limit 140 - 4 Days 5 Days 5 Days 11 Days 80% 0 VaR ฎ Maturity/Gap li Net Open Position r-7) r--r ~~ 120 100 '~. ~ r 50% a 90 a30% .20% 20. . l / \ / U _ l l ~J 13 Days 10 Days 1 Day 9 Days 5 Day 10% aR l' 1 -NG Pro nP! Vol ($MM) NA Gas Daily VaR vs. Limit 140 4 Days 5 Days 5 Days 11 Days s 120 i loo North Financial Global European Metals Enron 80. o American Instruments Products Gas .. I Gas a 40 - (1) The desk was maintaining a strong view that the natural gas prices u would decline significantly due to an oversupply of gas. In attempts to s0 13 Days 10 Days I Day 9 Days 5 Day maximize returns, the desk increased their positions and risk. One RN~P,oma,P~ o certain days, price and volatility moves, combined with EOL activity ` a a o resulted in limit violations. a a 4 E0004397234 ============= Page 33 of 34 ============= 0 VaR Maturity/Gap Net Open Position EXH004-00036 Monthly Limit Violations Second Quarter 20- -- i C 15- 0 0 L R+1W 1_ l L Moor L_1h April May June April May June 2001 2000 Limit Violations Quarterly Comparison 50 co 40 c 0 30- 0 0 20 6 Z 10 An 0Q3 2000 Q4 2000 Q1 2001 Q2 2001 5 E0004397235 ============= Page 34 of 34 ============= Utilization of VaR Limits Quarterly Comparison ($MM) 140 - Average VaR Limit Average VaR 120 ( Discretionary VaR Allocations Date Commodity Discretionary VaR 100 04/02 - 04/13 North America Power (EES) $ 2 MM ` 04/02 - 05/01 UK Power $ 4 80 04/23 - 05/22 North American Natural Gas $24j Y 05/23 - 06/29 North American Natural Gas $25 '=r 60 40 20 k 0 {1 4 Q3 Q4 Q1 Q2 Q3 04 01 Q2 Q3 04 01 Q2 03 04 Q1 Q2 Q3 04 Q1 02 03 Q4 Q1 02 03 04 01 Q2 2000 2001 2000 2001 2000 2001 2000 2001 2000 2001 2000 2001 2000 2001 Americas Gas Americas European Products Financials Emerging TOTAL Power Gas & Power Businesses ENRON 1gr_7req 7ted /7Fr recnnxnendenC:~ ritrat/ort L '17 t catey~ri '' 6 EC004397236 EXH004-00037