Lehman BrothersLehman Brothers

Industry Fate Founded

Investment services Chapter 11 bankruptcy 1850, Montgomery, Alabama, U.S.[1] Henry Lehman Emanuel Lehman Mayer Lehman 2008, New York City, New York, U.S.

Founder(s)

Defunct

Headquarters New York City, New York, United States Area served Worldwide Richard S. Fuld, Jr. Key peopleFormer (Chairman) & (CEO)[2]

Bart McDadeFormer President and COO

Products

Financial Services Investment Banking Investment management 26,200 (2008) Lehman Brothers Inc., Neuberger Berman Inc., Aurora Loan Services, Inc., SIB Mortgage Corporation, Lehman Brothers Bank, FSB, Eagle Energy Partners, and the Crossroads Group

Employees

Subsidiaries

Lehman Brothers Holdings Inc. (former NYSE ticker symbol LEH) (pronounced / li m n/) was a global financial services firm. Before declaring bankruptcy in 2008, Lehman was the fourth largest investment bank in the USA (behind Goldman Sachs, Morgan Stanley, and Merrill Lynch), doing business in investment banking, equity and fixed-income sales and trading (especially U.S. Treasury securities), market research, investment management, private equity, and private banking. On September 15, 2008, the firm filed for Chapter 11 bankruptcy protection following the massive exodus of most of its clients, drastic losses in its stock, and devaluation of its assets by credit rating agencies. The filing marked the largest bankruptcy in U.S. history,[3] and is thought to have played a major role in the unfolding of the late-2000s global financial crisis. The following day, Barclays announced its agreement to purchase, subject to regulatory approval, Lehman's North American investment-banking and trading divisions along with its New York headquarters building.[4][5] On September 20, 2008, a revised version of that agreement was approved by US Bankruptcy Court Judge James M. Peck.[6] The next week, Nomura Holdings announced that it would acquire Lehman Brothers' franchise in the Asia-Pacific region, including Japan, Hong Kong and Australia,[7] as well as Lehman Brothers' investment banking and equities businesses in Europe and the Middle East. The deal became effective on 13 October 2008.[8]

Contents[hide]y

y

y y y y y y y y y

1 History o 1.1 Under the Lehman family (1850 1969) o 1.2 An evolving partnership (1969 1984) o 1.3 Merger with American Express (1984 1994) o 1.4 Divestment and independence (1994 2008) o 1.5 Response to September 11 terrorist attacks o 1.6 2003 SEC litigation 2 Collapse o 2.1 Causes 2.1.1 Malfeasance 2.1.2 Subprime mortgage crisis 2.1.3 Short-selling allegations o 2.2 Bankruptcy o 2.3 Liquidation 2.3.1 Barclays acquisition 2.3.2 Nomura acquisition 2.3.3 Sale of Neuberger Berman o 2.4 Financial fallout o 2.5 Ongoing litigation 3 Merger and acquisition history 4 Board of directors 5 Former officers 6 In popular culture 7 Principal locations (first year of occupancy) 8 See also 9 References 10 Further reading 11 External links

[edit] History[edit] Under the Lehman family (1850 1969)

Emanuel and Mayer Lehman

In 1844, 23-year-old Henry Lehman,[9] the son of a cattle merchant, emigrated to the United States from Rimpar, Bavaria.[10] He settled in Montgomery, Alabama,[9] where he opened a drygoods store, "H. Lehman".[11] In 1847, following the arrival of his brother Emanuel Lehman, the firm became "H. Lehman and Bro."[12] With the arrival of their youngest brother, Mayer Lehman, in 1850, the firm changed its name again and "Lehman Brothers" was founded.[11][13] During the 1850s, cotton was one of the most important crops in the United States. Capitalizing on cotton's high market value, the three brothers began to routinely accept raw cotton from customers as payment for merchandise, eventually beginning a second business trading in cotton. Within a few years this business grew to become the most significant part of their operation. Following Henry's death from yellow fever in 1855,[11][14] the remaining brothers continued to focus on their commodities-trading/brokerage operations. By 1858, the center of cotton trading had shifted from the South to New York City, where factors and commission houses were based. Lehman opened its first branch office in New York City's Manhattan borough at 119 Liberty Street,[14] and 32-year-old Emanuel relocated there to run the office.[11] In 1862, facing difficulties as a result of the Civil War, the firm teamed up with a cotton merchant named John Durr to form Lehman, Durr & Co.[15][16] Following the war the company helped finance Alabama's reconstruction. The firm's headquarters were eventually moved to New York City, where it helped found the New York Cotton Exchange in 1870;[14][17] Emanuel sat on the Board of Governors until 1884. The firm also dealt in the emerging market for railroad bonds and entered the financial-advisory business.

Herbert H. Lehman Official U.S. Senate Photo

Lehman became a member of the Coffee Exchange as early as 1883 and finally the New York Stock Exchange in 1887.[14][17] In 1899, it underwrote its first public offering, the preferred and common stock of the International Steam Pump Company.

Despite the offering of International Steam, the firm's real shift from being a commodities house to a house of issue did not begin until 1906. In that year, under Philip Lehman, the firm partnered with Goldman, Sachs & Co.,[18][19] to bring the General Cigar Co. to market,[20] followed closely by Sears, Roebuck and Company.[20] During the following two decades, almost one hundred new issues were underwritten by Lehman, many times in conjunction with Goldman, Sachs. Among these were F.W. Woolworth Company, [20][21] May Department Stores Company, Gimbel Brothers, Inc.,[22] R.H. Macy & Company,[22] The Studebaker Corporation,[21] the B.F. Goodrich Co. and Endicott Johnson Corporation. Following Philip Lehman's retirement in 1925, his son Robert "Bobbie" Lehman took over as head of the firm. During Bobbie's tenure, the company weathered the capital crisis of the Great Depression by focusing on venture capital while the equities market recovered. Traditionally, a family-only partnership, in 1924 John M. Hancock became the first non-family member to join the firm,[18][23] followed by Monroe C. Gutman and Paul Mazur in 1927. By 1928, the firm moved to its now famous One William Street location.

Pete Peterson

In the 1950s, Lehman underwrote the IPO of Digital Equipment Corporation. In the 1930s, Lehman underwrote the initial public offering of the first television manufacturer, DuMont, and helped fund the Radio Corporation of America (RCA).[24] It also helped finance the rapidly growing oil industry, including the companies Halliburton and Kerr-McGee. Later, it arranged the acquisition of Digital by Compaq.[edit] An evolving partnership (1969 1984)

Robert Lehman died in 1969 after forty-four years as the patriarch of the firm, leaving no member of the Lehman family actively involved with the partnership.[25] Robert's death, coupled with a lack of a clear successor from within the Lehman family left a void in the company. At the same time, Lehman was facing strong headwinds amidst the difficult economic environment of the early 1970s. By 1972, the firm was facing hard times and in 1973, Pete Peterson, Chairman

and Chief Executive Officer of the Bell & Howell Corporation, was brought in to save the firm.[25] Under Peterson's leadership as Chairman and CEO, the firm acquired Abraham & Co. in 1975, and two years later merged with the venerable, but struggling, Kuhn, Loeb & Co.,[25] to form Lehman Brothers, Kuhn, Loeb Inc., the country's fourth-largest investment bank, behind Salomon Brothers, Goldman Sachs and First Boston.[26] Peterson led the firm from significant operating losses to five consecutive years of record profits with a return on equity among the highest in the investment-banking industry. By the early 1980s, hostilities between the firm's investment bankers and traders (who were driving most of the firm's profits) prompted Peterson to promote Lewis Glucksman, the firm's President, COO and former trader, to be his co-CEO in May 1983. Glucksman introduced a number of changes that had the effect of increasing tensions, which when coupled with Glucksmans management style and a downturn in the markets, resulted in a power struggle that ousted Peterson and left Glucksman as the sole CEO.[27] Upset bankers who had soured over the power struggle, left the company. Steve Schwarzman, chairman of the firm's M&A committee, recalled in a February 2003 interview with Private Equity International that "Lehman Brothers had an extremely competitive internal environment, which ultimately became dysfunctional." The company suffered under the disintegration, and Glucksman was pressured into selling the firm.[edit] Merger with American Express (1984 1994)

Shearson Lehman/American Express Logo Main article: Shearson Lehman Hutton

Shearson/American Express, an American Express-owned securities company focused on brokerage rather than investment banking, acquired Lehman in 1984, for $360 million. On May 11, the combined firms became Shearson Lehman/American Express.[27] In 1988, Shearson Lehman/American Express and E.F. Hutton & Co. merged as Shearson Lehman Hutton Inc.[28]

From 1983 to 1990, Peter A. Cohen was CEO and Chairman of Shearson Lehman Brothers,[29] where he led the one billion dollar purchase of E.F. Hutton to form Shearson Lehman Hutton.[30] During this period, Shearson Lehman was aggressive in building its leveraged finance business in the model of rival Drexel Burnham Lambert. In 1989, Shearson backed F. Ross Johnson's management team in its attempted management buyout of RJR Nabisco but were ultimately outbid by private equity firm Kohlberg Kravis Roberts, who was backed by Drexel.[edit] Divestment and independence (1994 2008)

In 1993, under newly appointed CEO, Harvey Golub, American Express began to divest itself of its banking and brokerage operations. It sold its retail brokerage and asset management operations to Primerica[31] and in 1994 it spun off Lehman Brothers Kuhn Loeb in an initial public offering, as Lehman Brothers Holdings, Inc.[32] Despite rumors that it would be acquired again, Lehman performed quite well under Chairman and CEO Richard S. Fuld, Jr.. By 2008, Fuld had been with the company for 30 years, and would be the longest-tenured CEO on Wall Street. Fuld had steered Lehman through the 1997 Asian Financial Crisis, a period where the firm's share price dropped to $22 USD in 1998, but he was said to have underestimated the downturn in the US housing market and its effect on Lehman's mortgage bond underwriting business. Fuld kept his job as the subprime mortgage crisis took hold, while CEOs of rivals like Bear Stearns, Merrill Lynch, and Citigroup were forced to resign.[33] In addition, Lehman's board of directors, which includes retired CEOs like Vodafone's Christopher Gent and IBM's John Akers were reluctant to challenge Fuld as the firm's share price spiraled lower. [33] Fuld had a succession of "number twos" under him, usually titled as President and Chief Operating Officer. Chris Pettit was Fuld's second-in-command for two decades until November 26, 1996, when he resigned as President and board member. Pettit lost a power struggle with his deputies ( Steve Lessing, and Joseph M. Gregory) back on March 15 that year that caused him to relinquish its COO title, likely brought about after Pettit had a mistress which violated Fuld's unwritten rules on marriage and social etiquette. Bradley Jack and Joseph M. Gregory were appointed co-COOs in 2002, however Jack was demoted to the Office of the Chairman in May 2004 and departed in June 2005 with a severance package of $80 million, making Gregory the sole COO and President. Gregory was demoted on June 12, 2008 and replaced by Bart McDade, who would see Lehman through bankruptcy. [34][35] In 2001, the firm acquired the private-client services, or "PCS", business of Cowen & Co.[36] and later, in 2003, aggressively re-entered the asset-management business, which it had exited in 1989.[37] Beginning with $2 billion in assets under management, the firm acquired the Crossroads Group, the fixed-income division of Lincoln Capital Management[37] and Neuberger Berman.[38] These businesses, together with the PCS business and Lehman's private-equity business, comprised the Investment Management Division, which generated approximately $3.1 billion in net revenue and almost $800 million in pretax income in 2007. Prior to going bankrupt, the firm had in excess of $275 billion in assets under management. Altogether, since going public in 1994, the firm had increased net revenues over 600% from $2.73 billion to $19.2 billion and had increased employee headcount over 230% from 8,500 to almost 28,600.

At the 2008 ALB China Law Awards,[39] Lehman Brothers was crowned:y y

Deal of the Year - Debt Market Deal of the Year Deal of the Year - Equity Market Deal of the Year

[edit] Response to September 11 terrorist attacks

The Former New York City headquarters now owned by Barclays.

On September 11, 2001, Lehman occupied three floors of One World Trade Center where one of its employees was killed in the attacks of that day. Its global headquarters in Three World Financial Center were severely damaged and rendered unusable by falling debris, displacing over 6,500 employees. The bank recovered quickly and rebuilt its presence. Trading operations moved across the Hudson River to its Jersey City, New Jersey, facilities, where an impromptu trading floor was built in a hotel and brought online less than forty-eight hours after the attacks. When stock markets reopened on September 17, 2001, Lehman's sales and trading capabilities were restored. In the ensuing months, the firm fanned out its operations across the New York City metropolitan area in over forty temporary locations. Notably, the investment-banking division converted the first-floor lounges, restaurants, and all 665 guestrooms of the Sheraton Manhattan Hotel into office space. The bank also experimented with flextime (to share office space) and telecommuting via virtual private networking. In October 2001, Lehman purchased a 32-story, 1,050,000-square-foot (98,000 m2) office building for a reported sum of $700 million. The building, located at 745 Seventh Avenue, had recently been built, and not yet occupied, by rival Morgan Stanley.

With Morgan Stanley's world headquarters located only two blocks away at 1585 Broadway, in the wake of the attacks the firm was re-evaluating its office plans which would have put over 10,000 employees in the Times Square area of New York City. Lehman began moving into the new facility in January and finished in March 2002, a move that significantly boosted morale throughout the firm.[citation needed] The firm was criticized for not moving back to its former headquarters in lower Manhattan. Following the attacks, only Deutsche Bank, Goldman Sachs, and Merrill Lynch of the major firms remained in the downtown area. Lehman, however, points to the facts that it was committed to stay in New York City, that the new headquarters represented an ideal circumstance where the firm was desperate to buy and Morgan Stanley was desperate to sell, that when the new building was purchased, the structural integrity of Three World Financial Center had not yet been given a clean bill of health, and that in any case, the company could not have waited until May 2002 for repairs to Three World Financial Center to conclude. After the attacks, Lehman's management placed increased emphasis on business continuity planning. Unlike its rivals, the company was unusually concentrated for a bulge-bracket investment bank. For example, Morgan Stanley maintains a 750,000-square-foot (70,000 m2) trading-and-banking facility in Westchester County, New York. The trading floor of UBS is located in Stamford, Connecticut. Merrill Lynch's asset-management division is located in Plainsboro Township, New Jersey. Aside from its headquarters in Three World Financial Center, Lehman maintained operations-and-backoffice facilities in Jersey City, space that the firm considered leaving prior to 9/11. The space was not only retained, but expanded, including the construction of a backup-trading facility. In addition, telecommuting technology first rolled out in the days following the attacks to allow employees to work from home was expanded and enhanced for general use throughout the firm.[40][edit] 2003 SEC litigation

In 2003, the company was one of ten firms which simultaneously entered into a settlement with the U.S. Securities and Exchange Commission (SEC), the Office of the New York State Attorney General and various other securities regulators, regarding undue influence over each firm's research analysts by their investment-banking divisions. Specifically, regulators alleged that the firms had improperly associated analyst compensation with the firms' investment-banking revenues, and promised favorable, market-moving research coverage, in exchange for underwriting opportunities. The settlement, known as the global settlement, provided for total financial penalties of $1.4 billion, including $80 million against Lehman, and structural reforms, including a complete separation of investment banking departments from research departments, no analyst compensation, directly or indirectly, from investment-banking revenues, and the provision of free, independent, third-party, research to the firms' clients.

[edit] CollapseMain article: Bankruptcy of Lehman Brothers

[edit] Causes [edit] Malfeasance

A March 2010 report by the court-appointed examiner indicated that Lehman executives regularly used cosmetic accounting gimmicks at the end of each quarter to make its finances appear less shaky than they really were. This practice was a type of repurchase agreement that temporarily removed securities from the company's balance sheet. However, unlike typical repurchase agreements, these deals were described by Lehman as the outright sale of securities and created "a materially misleading picture of the firms financial condition in late 2007 and 2008."[41][edit] Subprime mortgage crisis

In August 2007, the firm closed its subprime lender, BNC Mortgage, eliminating 1,200 positions in 23 locations, and took an after-tax charge of $25 million and a $27 million reduction in goodwill. Lehman said that poor market conditions in the mortgage space "necessitated a substantial reduction in its resources and capacity in the subprime space".[42] In 2008, Lehman faced an unprecedented loss to the continuing subprime mortgage crisis. Lehman's loss was a result of having held on to large positions in subprime and other lower-rated mortgage tranches when securing the underlying mortgages; whether Lehman did this because it was simply unable to sell the lower-rated bonds, or made a conscious decision to hold them, is unclear. In any event, huge losses accrued in lower-rated mortgage-backed securities throughout 2008. In the second fiscal quarter, Lehman reported losses of $2.8 billion and was forced to sell off $6 billion in assets.[43] In the first half of 2008 alone, Lehman stock lost 73% of its value as the credit market continued to tighten.[43] In August 2008, Lehman reported that it intended to release 6% of its work force, 1,500 people, just ahead of its third-quarter-reporting deadline in September.[43] On August 22, 2008, shares in Lehman closed up 5% (16% for the week) on reports that the state-controlled Korea Development Bank was considering buying the bank.[44] Most of those gains were quickly eroded as news came in that Korea Development Bank was "facing difficulties pleasing regulators and attracting partners for the deal."[45] It culminated on September 9, when Lehman's shares plunged 45% to $7.79, after it was reported that the staterun South Korean firm had put talks on hold.[46] On September 17, 2008 Swiss Re estimates its overall net exposure to Lehman Brothers as approximately CHF 50 million.[47] Investor confidence continued to erode as Lehman's stock lost roughly half its value and pushed the S&P 500 down 3.4% on September 9. The Dow Jones lost 300 points the same day on investors' concerns about the security of the bank.[48] The U.S. government did not announce any plans to assist with any possible financial crisis that emerged at Lehman.[49]

The next day, Lehman announced a loss of $3.9 billion and their intent to sell off a majority stake in their investment-management business, which includes Neuberger Berman.[50][51] The stock slid seven percent that day.[51][52] Lehman, after earlier rejecting questions on the sale of the company, was reportedly searching for a buyer as its stock price dropped another 40 percent on September 11, 2008.[52] Just before the collapse of Lehman Brothers, executives at Neuberger Berman sent e-mail memos suggesting, among other things, that the Lehman Brothers' top people forgo multi-million dollar bonuses to "send a strong message to both employees and investors that management is not shirking accountability for recent performance."[53] Lehman Brothers Investment Management Director George Herbert Walker IV dismissed the proposal, going so far as to actually apologize to other members of the Lehman Brothers executive committee for the idea of bonus reduction having been suggested. He wrote, "Sorry team. I am not sure what's in the water at Neuberger Berman. I'm embarrassed and I apologize."[53][edit] Short-selling allegations

During hearings on the bankruptcy filing by Lehman Brothers and bailout of AIG before the House Committee on Oversight and Government Reform,[54] former Lehman Brothers CEO Richard Fuld said a host of factors including a crisis of confidence and naked short-selling attacks followed by false rumors contributed to both the collapse of Bear Stearns and Lehman Brothers. House committee Chairman Henry Waxman said the committee received thousands of pages of internal documents from Lehman and these documents portray a company in which there was no accountability for failure".[55][56][57] An article by journalist Matt Taibbi in Rolling Stone contended that naked short selling contributed to the demise of both Lehman and Bear Stearns.[58] A study by finance researchers at the University of Oklahoma Price College of Business studied trading in financial stocks, including Lehman Brothers and Bear Stearns, and found "no evidence that stock price declines were caused by naked short selling".[59][edit] Bankruptcy

On Saturday, September 13, 2008, Timothy F. Geithner, the president of the Federal Reserve Bank of New York called a meeting on the future of Lehman, which included the possibility of an emergency liquidation of its assets.[60] Lehman reported that it had been in talks with Bank of America and Barclays for the company's possible sale. However, both Barclays and Bank of America ultimately declined to purchase the entire company.[60][61] The next day, Sunday, September 14, the International Swaps and Derivatives Association (ISDA) offered an exceptional trading session to allow market participants to offset positions in various derivatives on the condition of a Lehman bankruptcy later that day.[62][63] Although the bankruptcy filing missed the deadline, many dealers honored the trades they made in the special session.[64]

Lehman Brothers headquarters in New York City on September 15, 2008

Shortly before 1 a.m. Monday morning (New York time), Lehman Brothers Holdings announced it would file for Chapter 11 bankruptcy protection[65] citing bank debt of $613 billion, $155 billion in bond debt, and assets worth $639 billion.[66] It further announced that its subsidiaries would continue to operate as normal.[67] A group of Wall Street firms agreed to provide capital and financial assistance for the bank's orderly liquidation and the Federal Reserve, in turn, agreed to a swap of lower-quality assets in exchange for loans and other assistance from the government.[68] The morning witnessed scenes of Lehman employees removing files, items with the company logo, and other belongings from the world headquarters at 745 Seventh Avenue. The spectacle continued throughout the day and into the following day. Later that day, the Australian Securities Exchange (ASX) suspended Lehman's Australian subsidiary as a market participant after clearing-houses terminated their contracts with the firm.[69] Lehman shares tumbled over 90% on September 15, 2008.[70][71] The Dow Jones closed down just over 500 points on September 15, 2008, which was at the time the largest drop in a single day since the days following the attacks on September 11, 2001.[72] In the United Kingdom, the investment bank went into administration with PricewaterhouseCoopers appointed as administrators.[73] In Japan, the Japanese branch, Lehman Brothers Japan Inc., and its holding company filed for civil reorganization on September 16, 2008, in Tokyo District Court.[74] On September 17, 2008, the New York Stock Exchange delisted Lehman Brothers.[75] On March 16, 2011 some three years after filing for bankruptcy and following a filing in a Manhattan U.S. bankruptcy court, Lehman Brothers Holdings Inc announced it would seek creditor approval of its reorganization plan by October 14 followed by a confirmation hearing to follow on November 17.[76][edit] Liquidation [edit] Barclays acquisition

On Tuesday, September 16, 2008, Barclays plc announced that they would acquire a "stripped clean" portion of Lehman for $1.75 billion, including most of Lehman's North America

operations.[4][77] On September 20, this transaction was approved by U.S. Bankruptcy Judge James Peck.[78][79] On September 20, 2008, a revised version of the deal, a $1.35 billion (700 million) plan for Barclays to acquire the core business of Lehman (mainly its $960-million headquarters, a 38story office building[80] in Midtown Manhattan, with responsibility for 9,000 former employees), was approved. Manhattan court bankruptcy Judge James Peck, after a 7-hour hearing, ruled: "I have to approve this transaction because it is the only available transaction. Lehman Brothers became a victim, in effect the only true icon to fall in a tsunami that has befallen the credit markets. This is the most momentous bankruptcy hearing I've ever sat through. It can never be deemed precedent for future cases. It's hard for me to imagine a similar emergency."[81] Luc Despins, then a partner at Milbank, Tweed, Hadley & McCloy, the creditors committee counsel, said: "The reason we're not objecting is really based on the lack of a viable alternative. We did not support the transaction because there had not been enough time to properly review it."[citation needed] In the amended agreement, Barclays would absorb $47.4 billion in securities and assume $45.5 billion in trading liabilities. Lehman's attorney Harvey R. Miller of Weil, Gotshal & Manges, said "the purchase price for the real estate components of the deal would be $1.29 billion, including $960 million for Lehman's New York headquarters and $330 million for two New Jersey data centers. Lehman's original estimate valued its headquarters at $1.02 billion but an appraisal from CB Richard Ellis this week valued it at $900 million."[citation needed] Further, Barclays will not acquire Lehman's Eagle Energy unit, but will have entities known as Lehman Brothers Canada Inc, Lehman Brothers Sudamerica, Lehman Brothers Uruguay and its Private Investment Management business for high net-worth individuals. Finally, Lehman will retain $20 billion of securities assets in Lehman Brothers Inc that are not being transferred to Barclays.[82] Barclays acquired a potential liability of $2.5 billion to be paid as severance, if it chooses not to retain some Lehman employees beyond the guaranteed 90 days.[83][84][edit] Nomura acquisition

Nomura Holdings, Japan's top brokerage firm, agreed to buy the Asian division of Lehman Brothers for $225 million and parts of the European division for a nominal fee of $2.[85][86] It would not take on any trading assets or liabilities in the European units. Nomura negotiated such a low price because it acquired only Lehman's employees in the regions, and not its stocks, bonds or other assets. The last Lehman Brothers Annual Report identified that these non-US subsidiaries of Lehman Brothers were responsible for over 50% of global revenue produced.[87][edit] Sale of Neuberger Berman

On September 29, 2008, Lehman agreed to sell Neuberger Berman, the bulk of its investment management business, to a pair of private-equity firms, Bain Capital Partners and Hellman & Friedman, for $2.15 billion.[88] The transaction was expected to close in early 2009, subject to approval by the U.S. Bankruptcy Court,[89] but a competing bid was entered by the firm's management, who ultimately prevailed in a bankruptcy auction on December 3, 2008. Creditors of Lehman Brothers Holdings Inc. retain a 49% common equity interest in the firm, now known as Neuberger Berman Group LLC.[90] It is the fourth largest private employee-controlled asset

management firm globally, behind Fidelity Investments, The Capital Group Companies and Wellington Management Company.[edit] Financial fallout

Lehman's bankruptcy was the largest failure of an investment bank since Drexel Burnham Lambert collapsed amid fraud allegations 18 years prior.[68] Immediately following the bankruptcy filing, an already distressed financial market began a period of extreme volatility, during which the Dow experienced its largest one day point loss, largest intra-day range (more than 1,000 points) and largest daily point gain. What followed was what many have called the perfect storm of economic distress factors and eventually a $700bn bailout package (Troubled Asset Relief Program) prepared by Henry Paulson, Secretary of the Treasury, and approved by Congress. The Dow eventually closed at a new six-year low of 7,552.29 on November 20, followed by a further drop to 6626 by March of the next year. The fall of Lehman also had a strong effect on small private investors such as bond holders and holders of so-called Minibonds. In Germany structured products, often based on an index, were sold mostly to private investors, elderly, retired persons, students and families. Most of those now worthless derivatives were sold by the German arm of Citigroup, the German Citibank now owned by Crdit Mutuel.[edit] Ongoing litigation

On March 11, 2010, Mangal H Pandey, a court-appointed examiner, published the results of its year-long investigation into the finances of Lehman Brothers.[91] This report revealed that Lehman Brothers used an accounting procedure termed repo 105 to temporarily exchange $50 billion of assets into cash just before publishing its financial statements.[92] The action could be seen to implicate both Ernst & Young, the bank's accountancy firm and Richard S. Fuld, Jr, the former CEO.[93] This could potentially lead to Ernst & Young being found guilty of financial malpractice and Fuld facing time in prison.[94] According to the Wall Street Journal, in March 2011, the SEC announced that they weren't confident that they could prove that Lehman Brothers violated US laws in its accounting practices.[95]

[edit] Merger and acquisition historyThe following is an illustration of the company's major mergers and acquisitions and historical predecessors (this is not a comprehensive list):[96]Lehman Brot hers(1994, spun-off by American Express; 2008, bankrupt see Bankruptcy of

Shearson Shearson/Amer Shearson American Express Lehman ican Express (est. 1850) Lehman Brothers (merged 1981) Shearson Shearson Hayden Ston Hutton (merged 19 Hayden e, Inc. (merged 19 (formerly Stone (merged 197 CBWL-Hayden Stone, 3) merged 1970)

Cogan, Berlind , Weill & Levitt(formerl y Carter, Berlind, Potoma

Lehman Brothers)

88)

84)

Loeb, Rhoa Loeb, des, Rhoades & (acquired 1 Hornblower Co. 981) (merged 19 & Co.(merged 1978) 37)

Loeb Rhoades

Carl M. Loeb & Co.(est. 1931)

Rhoades & Compan y(est. 1905)

Hornblowe r, Weeks, No yes & Trask53-1977)

Hornblo wer & Weeks(est. 1888)

Hemphill , Noyes (merged 19 & Co.(est. 1919, acq. 1963)

Spencer Trask & Co.(est. 1866 as Trask & Brown)

Paul H. Davis & Co.(est. 1920, acq. 1953) Lehman Lehman Brothers Kuhn Brothers Loeb (merged 1975) (merged 1977)

Abraham & Co.(est. 1938)

Lehman Brothers(est. 1850)

Kuhn, Loeb & Co.(est. 1867)

E. F. Hutton & Co.(est. 1904)

Neuberger Berman(est. 1939, acq. 2003, sold to management 2009)

Crossroads Group(est. 1981, acq. 2003)

[edit] Board of directorsy y y y

Richard S. Fuld, Jr., Chairman and Chief Executive Officer[97] Michael L. Ainslie[97] John F. Akers[97] Roger S. Berlind[97]

y y y y y y

Thomas Cruikshank[97] Marsha Johnson Evans[97] Sir Christopher Gent[97] Roland A. Hernandez[97] Dr. Henry Kaufman[97] John D. Macomber[97]

[edit] Former officersy y y y y y y y y y y

Richard S. Fuld, Jr. Tom Russo Scott J. Freidheim Bart McDade Joe Gregory Ion Lowitt Jessie Bhattal Jeremy Isaacs (not Sir Jeremy Issacs the British television producer and executive) Skip McGee George Walker Michael Gelband

Bankruptcy of Lehman BrothersFrom Wikipedia, the free encyclopedia Jump to: navigation, search

Lehman Brothers headquarters in New York City

See also: Lehman Brothers

Lehman Brothers filed for Chapter 11 bankruptcy protection on September 15, 2008. The bankruptcy of Lehman Brothers remains the largest bankruptcy filing in U.S. history with Lehman holding over $600 billion in assets.[1]

Contents[hide]y

y y y y

y y y

1 Background o 1.1 Exposure to the mortgage market o 1.2 Lehman's final months 2 Bankruptcy filing o 2.1 Breakup process 3 Impact of bankruptcy filing 4 Neuberger Berman 5 Controversies o 5.1 Controversy of executive pay during crisis o 5.2 Accounting manipulation o 5.3 Section 363 Sale 6 See also 7 References 8 External links

[edit] BackgroundMain article: Subprime mortgage crisis [edit] Exposure to the mortgage market

Lehman borrowed significant amounts to fund its investing in the years leading to its bankruptcy in 2008, a process known as leveraging or gearing. A significant portion of this investing was in housing-related assets, making it vulnerable to a downturn in that market. One measure of this risk-taking was its leverage ratio, a measure of the ratio of assets to owners equity, which increased from approximately 24:1 in 2003 to 31:1 by 2007.[2] While generating tremendous profits during the boom, this vulnerable position meant that just a 3-4% decline in the value of its assets would entirely eliminate its book value or equity.[3] Investment banks such as Lehman were not subject to the same regulations applied to depository banks to restrict their risktaking.[4] In August 2007, Lehman closed its subprime lender, BNC Mortgage, eliminating 1,200 positions in 23 locations, and took a $25-million after-tax charge and a $27-million reduction in goodwill. The firm said that poor market conditions in the mortgage space "necessitated a substantial reduction in its resources and capacity in the subprime space".[5]

[edit] Lehman's final months

In 2008, Lehman faced an unprecedented loss due to the continuing subprime mortgage crisis. Lehman's loss was apparently a result of having held on to large positions in subprime and other lower-rated mortgage tranches when securitizing the underlying mortgages. Whether Lehman did this because it was simply unable to sell the lower-rated bonds, or made a conscious decision to hold them, is unclear. In any event, huge losses accrued in lower-rated mortgage-backed securities throughout 2008. In the second fiscal quarter, Lehman reported losses of $2.8 billion and was forced to sell off $6 billion in assets.[6] In the first half of 2008 alone, Lehman stock lost 73% of its value as the credit market continued to tighten.[6] In August 2008, Lehman reported that it intended to release 6% of its work force, 1,500 people, just ahead of its third-quarterreporting deadline in September.[6] On August 22, 2008, shares in Lehman closed up 5% (16% for the week) on reports that the state-controlled Korea Development Bank was considering buying Lehman.[7] Most of those gains were quickly eroded as news emerged that Korea Development Bank was "facing difficulties pleasing regulators and attracting partners for the deal."[8] It culminated on September 9, 2008, when Lehman's shares plunged 45% to $7.79, after it was reported that the state-run South Korean firm had put talks on hold.[9] Investor confidence continued to erode as Lehman's stock lost roughly half its value and pushed the S&P 500 down 3.4% on September 9, 2008. The Dow Jones lost nearly 300 points the same day on investors' concerns about the security of the bank.[10] The U.S. government did not announce any plans to assist with any possible financial crisis that emerged at Lehman.[11] On September 10, 2008, Lehman announced a loss of $3.9 billion and their intent to sell off a majority stake in their investment-management business, which includes Neuberger Berman.[12][13] The stock slid 7% that day.[13][14] On September 13, 2008, Timothy F. Geithner, then president of the Federal Reserve Bank of New York called a meeting on the future of Lehman, which included the possibility of an emergency liquidation of its assets.[15] Lehman reported that it had been in talks with Bank of America and Barclays for the company's possible sale.[15] The New York Times reported on September 14, 2008, that Barclays had ended its bid to purchase all or part of Lehman and a deal to rescue the bank from liquidation collapsed.[16] It emerged subsequently that a deal had been vetoed by the Bank of England and the UK's Financial Services Authority.[17] Leaders of major Wall Street banks continued to meet late that day to prevent the bank's rapid failure.[16] Bank of America's rumored involvement also appeared to end as federal regulators resisted its request for government involvement in Lehman's sale.[16]

[edit] Bankruptcy filing

Lehman Brothers headquarters in New York City

Lehman Brothers filed for Chapter 11 bankruptcy protection on September 15, 2008. According to Bloomberg, reports filed with the U.S. Bankruptcy Court, Southern District of New York (Manhattan) on September 16 indicated that J.P. Morgan provided Lehman Brothers with a total of $138 billion in "Federal Reserve-backed advances." The cash-advances by JPMorgan Chase were repaid by the Federal Reserve Bank of New York for $87 billion on September 15 and $51 billion on September 16.[18][edit] Breakup process

On September 22, 2008, a revised proposal to sell the brokerage part of Lehman Brothers holdings of the deal, was put before the bankruptcy court, with a $1.3666 billion (700 million) plan for Barclays to acquire the core business of Lehman Brothers (mainly Lehman's $960 million Midtown Manhattan office skyscraper), was approved. Manhattan court bankruptcy Judge James Peck, after a 7 hour hearing, ruled: "I have to approve this transaction because it is the only available transaction. Lehman Brothers became a victim, in effect the only true icon to fall in a tsunami that has befallen the credit markets. This is the most momentous bankruptcy hearing I've ever sat through. It can never be deemed precedent for future cases. It's hard for me to imagine a similar emergency."[19]

Barclays acquired the investment banking business of Lehman Brothers in September 2008

Luc Despins, the creditors committee counsel, said: "The reason we're not objecting is really based on the lack of a viable alternative. We did not support the transaction because there had not been enough time to properly review it."[citation needed] In the amended agreement, Barclays would absorb $ 47.4 billion in securities and assume $ 45.5 billion in trading liabilities. Lehman's attorney Harvey R. Miller of Weil, Gotshal & Manges, said "the purchase price for the real estate components of the deal would be $ 1.29 billion, including $960 million for Lehman's New York headquarters and $ 330 million for two New Jersey data centers. Lehman's original estimate valued its headquarters at $ 1.02 billion but an appraisal from CB Richard Ellis this week valued it at $900 million."[citation needed] Further, Barclays will not acquire Lehman's Eagle Energy unit, but will have entities known as Lehman Brothers Canada Inc, Lehman Brothers Sudamerica, Lehman Brothers Uruguay and its Private Investment Management business for high net-worth individuals. Finally, Lehman will retain $20 billion of securities assets in Lehman Brothers Inc that are not being transferred to Barclays.[20] Barclays had a potential liability of $ 2.5 billion to be paid as severance, if it chooses not to retain some Lehman employees beyond the guaranteed 90 days.[21][22] On September 22, 2008, Nomura Holdings, Inc. announced it agreed to acquire Lehman Brothers' franchise in the Asia Pacific region including Japan, Hong Kong and Australia.[23] The following day, Nomura announced its intentions to acquire Lehman Brothers' investment banking and equities businesses in Europe and the Middle East. A few weeks later it was announced that conditions to the deal had been met, and the deal became legally effective on Monday, 13 October.[24] In 2007, non-US subsidiaries of Lehman Brothers were responsible for over 50% of global revenue produced.[25]

[edit] Impact of bankruptcy filingThe Dow Jones closed down just over 500 points (4.4%) on September 15, 2008, at the time the largest drop by points in a single day since the days following the attacks on September 11, 2001.[26] (This drop was subsequently exceeded by an even larger 7.0% plunge on September 29, 2008.) Lehman's bankruptcy is expected to cause some depreciation in the price of commercial real estate. The prospect for Lehman's $4.3 billion in mortgage securities getting liquidated sparked a selloff in the commercial mortgage-backed securities (CMBS) market. Additional pressure to sell securities in commercial real estate is feared as Lehman gets closer to liquidating its assets. Apartment-building investors are also expected to feel pressure to sell as Lehman unloads its debt and equity pieces of the $22 billion purchase of Archstone, the third-largest United States Real Estate Investment Trust (REIT). Archstone's core business is the ownership and management of residential apartment buildings in major metropolitan areas of the United States. Jeffrey Spector, a real-estate analyst at UBS said that in markets with apartment buildings that compete with Archstone, "there is no question that if you need to sell assets, you will try to get ahead" of the Lehman selloff, adding "Every day that goes by there will be more pressure on pricing."[27] Several money funds and institutional cash funds had significant exposure to Lehman with the institutional cash fund run by The Bank of New York Mellon and the Primary Reserve Fund, a money-market fund, both falling below $1 per share, called "breaking the buck", following losses on their holdings of Lehman assets. In a statement The Bank of New York Mellon said its fund had isolated the Lehman assets in a separate structure. It said the assets accounted for 1.13% of its fund. The drop in the Primary Reserve Fund was the first time since 1994 that a money-market fund had dropped below the $1-per-share level. Putnam Investments, a unit of Canada's Great-West Lifeco, shut a $12.3 billion money-market fund as it faced "significant redemption pressure" on September 17, 2008. Evergreen Investments said its parent Wachovia Corporation would "support" three Evergreen moneymarket funds to prevent their shares from falling.[28] This move to cover $494 million of Lehman assets in the funds also raised fears about Wachovia's ability to raise capital.[29] Close to 100 hedge funds used Lehman as their prime broker and relied largely on the firm for financing. In an attempt to meet their own credit needs, Lehman Brothers International routinely re-hypothecated[30] the assets of their hedge funds clients that utilized their prime brokerage services. Lehman Brothers International held close to 40 billion dollars of clients assets when it filed for Chapter 11 Bankruptcy. Of this, 22 billion had been re-hypothecated.[31] As administrators took charge of the London business and the U.S. holding company filed for bankruptcy, positions held by those hedge funds at Lehman were frozen. As a result the hedge funds are being forced to de-lever and sit on large cash balances inhibiting chances at further growth.[32] This in turn created further market dislocation and over all systemic risk, resulting in a 737 billion dollar decline in collateral outstanding in the securities lending market.[33]

In Japan, banks and insurers announced a combined 249 billion yen ($2.4 billion) in potential losses tied to the collapse of Lehman. Mizuho Trust & Banking Co. cut its profit forecast by more than half, citing 11.8 billion yen in losses on bonds and loans linked to Lehman. The Bank of Japan Governor Masaaki Shirakawa said "Most lending to Lehman Brothers was made by major Japanese banks, and their possible losses seem to be within the levels that can be covered by their profits," adding "There is no concern that the latest events will threaten the stability of Japan's financial system."[34] During bankruptcy proceedings a lawyer from The Royal Bank of Scotland Group said the company is facing between $1.5 billion and $1.8 billion in claims against Lehman partially based on an unsecured guarantee from Lehman and connected to trading losses with Lehman subsidiaries, Martin Bienenstock.[35] Lehman was a counterparty to mortgage financier Freddie Mac in unsecured lending transactions that matured on September 15, 2008. Freddie said it had not received principal payments of $1.2 billion plus accrued interest. Freddie said it had further potential exposure to Lehman of about $400 million related to the servicing of single-family home loans, including repurchasing obligations. Freddie also said it "does not know whether and to what extent it will sustain a loss relating to the transactions" and warned that "actual losses could materially exceed current estimates." Freddie was still in the process of evaluating its exposure to Lehman and its affiliates under other business relationships.[36] After Constellation Energy was reported to have exposure to Lehman, its stock went down 56% in the first day of trading having started at $67.87. The massive drop in stocks led to the New York Stock Exchange halting trade of Constellation. The next day, as the stock plummeted as low as $13 per share, Constellation announced it was hiring Morgan Stanley and UBS to advise it on "strategic alternatives" suggesting a buyout. While rumors suggested French power company lectricit de France would buy the company or increase its stake, Constellation ultimately agreed to a buyout by MidAmerican Energy, part of Berkshire Hathaway (headed by billionaire Warren Buffett).[37][38][39] The Federal Agricultural Mortgage Corporation or Farmer Mac said it would have to write off $48 million in Lehman debt it owned as a result of the bankruptcy. Farmer Mac said it may not be in compliance with its minimum capital requirements at the end of September.[40] In Hong Kong more than 43,700 individuals in the city have invested in HK$15.7 billion of "guaranteed mini-bonds" ( ) from Lehman.[41][42][43] Many claim that banks and brokers mis-sold them as low-risk. Conversely, bankers note that minibonds are indeed low-risk instruments since they were backed by Lehman Brothers, which until just months before its collapse was a venerable member of Wall Street with high credit and investment ratings. The default of Lehman Brothers was a low probability event, which was totally unexpected. Indeed, many banks accepted minibonds as collateral for loans and credit facilities. Another HK$3 billion has been invested in similar like derivatives. The Hong Kong government proposed a plan to buy back the investments at their current estimated value, which will allow investors to partially recover some of their loss by the end of the year.[44] HK chief executive Donald Tsang insisted the local banks respond swiftly to the government buy-back proposal as the Monetary Authority received more than 16,000 complaints.[41][43][44] On October 17 He Guangbe, chairman of the Hong Kong Association of Banks, agreed to buy back the bonds, which will be priced

using an agreed upon methodology based on its estimated current value.[45] This episode has deep repercussions on the banking industry, where misguided investor sentiments have become hostile to both wealth management products as well as the banking industry as a whole. Under intense pressure from the public, all political parties have come out in support of the investors, further fanning distrust towards the banking industry.

[edit] Neuberger BermanNeuberger Berman Inc., through its subsidiaries, primarily Neuberger Berman, LLC, is an investment-advisory firm founded in 1939 by Roy R. Neuberger and Robert Berman, to manage money for high-net-worth individuals. In the decades that followed, the firm's growth mirrored that of the asset-management industry as a whole. In 1950, it introduced one of the first no-load mutual funds in the United States, the Guardian Fund, and also began to manage the assets of pension plans and other institutions. Historically known for its value-investing style, in the 1990s the firm began to diversify its competencies to include additional value and growth investing, across the entire capitalization spectrum, as well as new investment categories, such as international, real-estate investment trusts and high-yield investments. In addition, with the creation of a nationally and several state-chartered trust companies, the firm became able to offer trust and fiduciary services. Today the firm has approximately $130 billion in assets under management.

Neuberger Berman's New York City headquarters on Third Avenue.

In October 1999, the firm conducted an initial public offering of its shares and commenced trading on the New York Stock Exchange, under the ticker symbol "NEU". In July 2003, shortly after the retired Mr. Neuberger's 100th birthday, the company announced that it was in merger discussions with Lehman Brothers Holdings Inc. These discussions ultimately resulted in the firm's acquisition by Lehman on October 31, 2003, for approximately $2.63 billion in cash and securities. On November 20, 2006, Lehman announced its Neuberger Berman subsidiary would acquire H. A. Schupf & Co., a money-management firm targeted at wealthy individuals. Its $2.5 billion of assets would join Neuberger's $50 billion in high-net-worth client assets under management.[46]

An article in The Wall Street Journal on September 15, 2008, announcing that Lehman Brothers Holdings filed for Chapter 11 bankruptcy protection, quoted Lehman officials regarding Neuberger Berman: "Neuberger Berman LLC and Lehman Brothers Asset Management will continue to conduct business as usual and will not be subject to the bankruptcy case of the parent company, and its portfolio management, research and operating functions remain intact. In addition, fully paid securities of customers of Neuberger Berman are segregated from the assets of Lehman Brothers and aren't subject to the claims of Lehman Brothers Holdings' creditors, Lehman said."[47] Just before the collapse of Lehman Brothers, executives at Neuberger Berman sent e-mail memos suggesting, among other things, that the Lehman Brothers' top people forgo multi-million dollar bonuses to "send a strong message to both employees and investors that management is not shirking accountability for recent performance." Lehman Brothers Investment Management Director George Herbert Walker IV dismissed the proposal, going so far as to actually apologize to other members of the Lehman Brothers executive committee for the idea of bonus reduction having been suggested. He wrote, "Sorry team. I am not sure what's in the water at Neuberger Berman. I'm embarrassed and I apologize."[48]

[edit] Controversies[edit] Controversy of executive pay during crisis

Richard Fuld, head of Lehman Brothers, faced questioning from the U.S. House of Representatives' Committee on Oversight and Government Reform. Rep. Henry Waxman (DCA) asked: "Your company is now bankrupt, our economy is in crisis, but you get to keep $480 million (276 million). I have a very basic question for you, is this fair?"[49] Fuld said that he had in fact taken about $300 million (173 million) in pay and bonuses over the past eight years.[49] Despite Fuld's defense on his high pay, Lehman Brothers executive pay was reported to have increased significantly before filing for bankruptcy.[50] On October 17, 2008, CNBC reported that several Lehman executives, including Richard Fuld, have been subpoenaed in a case relating to securities fraud.[51][edit] Accounting manipulation

In March 2010, the report of Anton R. Valukas, the Bankruptcy Examiner, drew attention to the use of Repo 105 transactions to boost the bank's apparent financial position around the date of the year-end balance sheet. The attorney general later Andrew Cuomo filed charges against the bank's auditors Ernst & Young in December 2010, alleging that the firm "substantially assisted... a massive accounting fraud" by approving the accounting treatment.[52] On April 12, 2010, a New York Times story revealed that Lehman had used a small company, Hudson Castle, to move a number of transactions and assets off Lehman's books as a means of manipulating accounting numbers of Lehman's finances and risks. One Lehman executive described Hudson Castle as an "alter ego" of Lehman. According to the story, Lehman owned

one quarter of Hudson; Hudson's board was controlled by Lehman, most Hudson staff members were former Lehman employees.[53][edit] Section 363 Sale

On February 22, 2011, Judge James M. Peck of the U.S. Bankruptcy Court in the Southern District of New York rejected claims by lawyers for the Lehman estate that Barclays had improperly reaped a windfall from the section 363 sale. "The sale process may have been imperfect, but it was still adequate under the exceptional circumstances of Lehman Week."

Case Study: The Collapse of Lehman BrothersOn September 15, 2008, Lehman Brothers filed for bankruptcy. With $639 billion in assets and $619 billion in debt, Lehman's bankruptcy filing was the largest in history, as its assets far surpassed those of previous bankrupt giants such as WorldCom and Enron. Lehman was the fourth-largest U.S. investment bank at the time of its collapse, with 25,000 employees worldwide. Lehman's demise also made it the largest victim, of the U.S. subprime mortgageinduced financial crisis that swept through global financial markets in 2008. Lehman's collapse was a seminal event that greatly intensified the 2008 crisis and contributed to the erosion of close to $10 trillion in market capitalization from global equity markets in October 2008, the biggest monthly decline on record at the time. (For more information on the subprime meltdown, read Who Is To Blame For The Subprime Crisis?)

The History of Lehman Brothers Lehman Brothers had humble origins, tracing its roots back to a small general store that was founded by German immigrant Henry Lehman in Montgomery, Alabama, in 1844. In 1850, Henry Lehman and his brothers, Emanuel and Mayer, founded Lehman Brothers. While the firm prospered over the following decades as the U.S. economy grew into an international powerhouse, Lehman had to contend with plenty of challenges over the years. Lehman survived them all the railroad bankruptcies of the 1800s, the Great Depression of the 1930s, two world wars, a capital shortage when it was spun off by American Express in 1994, and the Long Term Capital Management collapse and Russian debt default of 1998. However, despite its ability to survive past disasters, the collapse of the U.S. housing market ultimately brought Lehman Brothers to its knees, as its headlong rush into the subprime mortgage market proved to be a disastrous step. (To learn more about previous financial disasters, be sure to check

out our Crashes Special Feature.) The Prime Culprit In 2003 and 2004, with the U.S. housing boom (read, bubble) well under way, Lehman acquired five mortgage lenders, including subprime lender BNC Mortgage and Aurora Loan Services, which specialized in Alt-A loans (made to borrowers without full documentation). Lehman's acquisitions at first seemed prescient; record revenues from Lehman's real estate businesses enabled revenues in the capital markets unit to surge 56% from 2004 to 2006, a faster rate of growth than other businesses in investment banking or asset management. The firm securitized $146 billion of mortgages in 2006, a 10% increase from 2005. Lehman reported record profits every year from 2005 to 2007. In 2007, the firm reported net income of a record $4.2 billion on revenue of $19.3 billion. (Check out the answer to our frequently asked question What is a subprime mortgage? to learn more about these loans.) Lehman's Colossal Miscalculation In February 2007, the stock reached a record $86.18, giving Lehman a market capitalization of close to $60 billion. However, by the first quarter of 2007, cracks in the U.S. housing market were already becoming apparent as defaults on subprime mortgages rose to a seven-year high. On March 14, 2007, a day after the stock had its biggest one-day drop in five years on concerns that rising defaults would affect Lehman's profitability, the firm reported record revenues and profit for its fiscal first quarter. In the post-earnings conference call, Lehman's chief financial officer (CFO) said that the risks posed by rising home delinquencies were well contained and would have little impact on the firm's earnings. He also said that he did not foresee problems in the subprime market spreading to the rest of the housing market or hurting the U.S. economy. The Beginning of the End As the credit crisis erupted in August 2007 with the failure of two Bear Stearns hedge funds, Lehman's stock fell sharply. During that month, the company eliminated 2,500 mortgage-related jobs and shut down its BNC unit. In addition, it also closed offices of Alt-A lender Aurora in three states. Even as the correction in the U.S. housing market gained momentum, Lehman continued to be a major player in the mortgage market. In 2007, Lehman underwrote more mortgage-backed securities than any other firm, accumulating an $85-billion portfolio, or four times its shareholders' equity. In the fourth quarter of 2007, Lehman's stock rebounded, as global equity markets reached new highs and prices for fixed-income assets staged a temporary rebound. However, the firm did not take the opportunity to trim its massive mortgage portfolio, which in retrospect, would turn out to be its last chance. (Read more in Dissecting The Bear Stearns Hedge Fund Collapse.) Hurtling Toward Failure Lehman's high degree of leverage - the ratio of total assets to shareholders equity - was 31 in 2007, and its huge portfolio of mortgage securities made it increasingly vulnerable to deteriorating market conditions. On March 17, 2008, following the near-collapse of Bear Stearns - the second-largest underwriter of mortgage-backed securities - Lehman shares fell as much as 48% on concern it would be the next Wall Street firm to fail. Confidence in the company returned to some extent in April, after it raised $4 billion through an issue of preferred stock that was convertible into Lehman shares at a 32% premium to its price at the time.

However, the stock resumed its decline as hedge fund managers began questioning the valuation of Lehman's mortgage portfolio. On June 9, Lehman announced a second-quarter loss of $2.8 billion, its first loss since being spun off by American Express, and reported that it had raised another $6 billion from investors. The firm also said that it had boosted its liquidity pool to an estimated $45 billion, decreased gross assets by $147 billion, reduced its exposure to residential and commercial mortgages by 20%, and cut down leverage from a factor of 32 to about 25. (Read Hedge Fund Failures Illuminate Leverage Pitfalls to learn more about the double-edged sword of leverage.) Too Little, Too Late However, these measures were perceived as being too little, too late. Over the summer, Lehman's management made unsuccessful overtures to a number of potential partners. The stock plunged 77% in the first week of September 2008, amid plummeting equity markets worldwide, as investors questioned CEO Richard Fuld's plan to keep the firm independent by selling part of its asset management unit and spinning off commercial real estate assets. Hopes that the Korea Development Bank would take a stake in Lehman were dashed on September 9, as the stateowned South Korean bank put talks on hold. The news was a deathblow to Lehman, leading to a 45% plunge in the stock and a 66% spike in credit-default swaps on the company's debt. The company's hedge fund clients began pulling out, while its short-term creditors cut credit lines. On September 10, Lehman pre-announced dismal fiscal third-quarter results that underscored the fragility of its financial position. The firm reported a loss of $3.9 billion, including a write-down of $5.6 billion, and also announced a sweeping strategic restructuring of its businesses. The same day, Moody's Investor Service announced that it was reviewing Lehman's credit ratings, and also said that Lehman would have to sell a majority stake to a strategic partner in order to avoid a rating downgrade. These developments led to a 42% plunge in the stock on September 11. With only $1 billion left in cash by the end of that week, Lehman was quickly running out of time. Last-ditch efforts over the weekend of September 13 between Lehman, Barclays PLC and Bank of America, aimed at facilitating a takeover of Lehman, were unsuccessful. On Monday September 15, Lehman declared bankruptcy, resulting in the stock plunging 93% from its previous close on September 12. Conclusion Lehman's collapse roiled global financial markets for weeks, given the size of the company and its status as a major player in the U.S. and internationally. Many questioned the U.S. government's decision to let Lehman fail, as compared to its tacit support for Bear Stearns (which was acquired by JPMorgan Chase) in March 2008. Lehman's bankruptcy led to more than $46 billion of its market value being wiped out. Its collapse also served as the catalyst for the purchase of Merrill Lynch by Bank of America in an emergency deal that was also announced on September 15. (To learn more about the financial crisis, read The 2007-08 Financial Crisis In Review.)

Three Lessons of the Lehman Brothers Collapse

Employees of Lehman Brothers exit the company headquarters in midtown Manhattan on the day that the company filed for bankruptcy A year ago today, the venerable investment-banking firm Lehman Brothers filed for bankruptcy protection after the Federal Reserve and the Treasury Department pointedly refused to bail the company out, and no other Wall Street outfit was willing to step into the breach. It was the largest bankruptcy ever in the U.S., but the really big news was what happened afterward. First came a financial panic that threatened to shatter the global capitalist order, then came an unprecedented, and unprecedentedly expensive, effort by governments on both sides of the Atlantic to patch things up. You already knew all this, of course. It happened just last year, and in recent days the news media have engaged in an orgy of commemoration and explanation of the Lehman collapse and its aftermath. So here's the $64 trillion question: What, if anything, have we learned from the experience? (See the top 10 financial collapses of 2008.) Three main lessons present themselves. First, our complex financial system is awfully fragile. Second, government action is capable of keeping a financial panic from snowballing into a complete economic disaster along the lines of the Great Depression. Third, the government has in large part because of its success in averting disaster found it difficult to take any actions that would make the financial system less fragile in the future. That would, apparently, be too much government intervention. First, the fragility. Allowing Lehman to fail cited often as the government's biggest boo-boo started a chain reaction. There was a run on money-market funds after one big money-market fund revealed that it owned a lot of suddenly worthless Lehman debt. London-based hedge funds that relied on Lehman for day-to-day financing found themselves unable to do business because their accounts with Lehman's U.K. subsidiary were frozen. Similar dislocations played out around the world. Before long, financial institutions were paralyzed by fear. They simply didn't trust each other anymore, and didn't want to lend to each other. The financial system proved too fragile to handle the stress. (See 25 people to blame for the financial crisis.)

That brings us to lesson No. 2. In the early 1930s, powerful voices at the Treasury and Federal Reserve argued that the deep pain of financial crisis was a necessary economic corrective. "Liquidate labor, liquidate stocks, liquidate the farmers, liquidate real estate," Treasury Secretary Andrew Mellon advised President Herbert Hoover. "It will purge the rottenness out of the system." Late last year, you could hear a few people arguing this case on CNBC and even on the floor of the House of Representatives. But after Lehman's failure, no one at Treasury or the Fed talked that way. Instead, the consensus among the policymakers who mattered, in the U.S. and overseas, was that the panic had to be stopped at any cost. The cost was a bailout that placed trillions of taxpayer dollars at risk. It was expensive, it was messy, it was unfair. It struck many people as downright un-American. But it worked. "I've abandoned free-market principles to save the free-market system," is how President George W. Bush described it last December. Mission accomplished so far, at least. In the face of a financial shock worse than the Crash of 1929, massive government intervention averted a second Great Depression. Yes, we've still ended up in the worst economic downturn the U.S. has seen since. But while there are surely lots of potholes and wrong turns ahead, there's ample evidence that the economy both in the U.S. and worldwide is in the early stages of a rebound. And we have decisions made by government officials to thank for that. Then again, decisions made by Congress, the Bush and Clinton administrations and federal regulators in the years before the crisis also played a key role in allowing things to get so bad. From ill-considered deregulation of banking and derivatives to over-the-top encouragement of home ownership, Washington's fingerprints were all over the crisis. Almost nothing has been done so far to right these wrongs, or otherwise rein in the excesses of the financial system. Which brings us to lesson No. 3: It's really hard for a democracy to make big changes in the absence of crisis. President Barack Obama did warn in his speech to Wall Street on Monday that "normalcy cannot breed complacency." But normalcy is breeding complacency perhaps because complacency is normal. Consider the financial reforms that the Obama Administration wants to push through Congress before year-end creating a Consumer Financial Protection Agency, giving the Federal Reserve the job of systemic risk regulator, and establishing a "resolution regime" to wind down troubled nonbank financial institutions (like Lehman) and complex bank holding companies in an orderly fashion. Steps in the right direction? Probably. Truly major reforms? Not so much. In the months after Franklin D. Roosevelt took office in 1933, Congress legislated a complete transformation of Wall Street and the banking sector with the creation of the Securities and Exchange Commission and the Federal Deposit Insurance Corp., and the segregation of commercial banks from Wall Street. It's not obvious that we need such a drastic overhaul now, but still, the contrasts with 1930s are stark. Ironic, too. By following their belief that financial markets should work out their own problems, Andrew Mellon and his kindred spirits at the Fed triggered a financial collapse that more or less ensured major, permanent government participation in the financial sector. By intervening aggressively, Hank Paulson and his kindred

spirits at the Fed haven't quite ensured a continuation of the status quo some reforms will come, and banks and their regulators will tread more gingerly for at least a few years but they do seem to have headed off a re-enactment of the New Deal.