In the Matter of Dynegy Inc.

Dynegy Inc. was a publicly traded Illinois corporation headquartered in Houston, Texas. Dynegy was engaged in the production and delivery of energy, as well as energy trading. Dynegy’s energy-trading business segment involved traders buying and selling contracts for the future delivery of gas, electricity, and other commodities. Under the pertinent mark-to-market accounting methodology, increases in total contract values resulted in unrealized gains that were reflected as net income on Dynegy’s income statement, even though the increase in contract value generated no cash flow. Around 2000, various analysts noticed a wide gap between Dynegy’s net income and its operating cash flow, interpreting this gap as potential evidence of overvaluation of Dynegy’s energy contracts and lack of liquidity. Later that year, Dynegy sought ways to narrow the gap between net income and operating cash flow. Eventually, after months of meetings and discussions with auditor-consultants, Dynegy implemented a strategy known as Project Alpha (Alpha). As ultimately structured, Alpha involved an inordinately complex matrix of three loans, two special-purpose entities, a gas-purchase agreement, and various hedging transactions, all designed to give the appearance of enhanced cash flow from operations and to decrease tax liability. Specifically, Alpha resulted in the classification of $300 million of cash flow as operations based, although the funds were actually a loan that Dynegy essentially made to itself. This classification was inconsistent with generally accepted accounting principles (GAAP).