Bankruptcy of Lehman Brothers 1

Bankruptcy of Lehman Brothers

Lehman Brothers headquarters inNew York City

Financial services firm Lehman Brothers filed for Chapter 11 bankruptcyprotection on September 15, 2008. The filing remains the largest bankruptcyfiling in U.S. history, with Lehman holding over $600 billion in assets.[1]

Background

Exposure to the mortgage market

Lehman borrowed significant amounts to fund its investing in the years leadingto its bankruptcy in 2008, a process known as leveraging or gearing. Asignificant portion of this investing was in housing-related assets, making itvulnerable to a downturn in that market. One measure of this risk-taking was itsleverage ratio, a measure of the ratio of assets to owners equity, which increasedfrom approximately 24:1 in 2003 to 31:1 by 2007.[2] While generatingtremendous profits during the boom, this vulnerable position meant that just a 3–4% decline in the value of its assetswould entirely eliminate its book value or equity.[3] Investment banks such as Lehman were not subject to the sameregulations applied to depository banks to restrict their risk-taking.[4]

In August 2007, Lehman closed its subprime lender, BNC Mortgage, eliminating 1,200 positions in 23 locations, andtook a $25-million after-tax charge and a $27-million reduction in goodwill. The firm said that poor marketconditions in the mortgage space "necessitated a substantial reduction in its resources and capacity in the subprimespace".[5]

Lehman's final monthsIn 2008, Lehman faced an unprecedented loss due to the continuing subprime mortgage crisis. Lehman's loss wasapparently a result of having held on to large positions in subprime and other lower-rated mortgage tranches whensecuritizing the underlying mortgages. Whether Lehman did this because it was simply unable to sell the lower-ratedbonds, or made a conscious decision to hold them, is unclear. In any event, huge losses accrued in lower-ratedmortgage-backed securities throughout 2008. In the second fiscal quarter, Lehman reported losses of $2.8 billion andwas forced to sell off $6 billion in assets.[6] In the first half of 2008 alone, Lehman stock lost 73% of its value as thecredit market continued to tighten.[6] In August 2008, Lehman reported that it intended to release 6% of its workforce, 1,500 people, just ahead of its third-quarter-reporting deadline in September.[6]

On August 22, 2008, shares in Lehman closed up 5% (16% for the week) on reports that the state-controlled KoreaDevelopment Bank was considering buying Lehman.[7] Most of those gains were quickly eroded as news emergedthat Korea Development Bank was "facing difficulties pleasing regulators and attracting partners for the deal."[8] Itculminated on September 9, 2008, when Lehman's shares plunged 45% to $7.79, after it was reported that thestate-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 down3.4% on September 9, 2008. The Dow Jones lost nearly 300 points the same day on investors' concerns about thesecurity of the bank.[10] The U.S. government did not announce any plans to assist with any possible financial crisisthat emerged at Lehman.[6]

On September 10, 2008, Lehman announced a loss of $3.9 billion and their intent to sell off a majority stake in theirinvestment-management business, which includes Neuberger Berman.[6][11] The stock slid 7% that day.[11][6]

Bankruptcy of Lehman Brothers 2

On September 13, 2008, Timothy F. Geithner, then president of the Federal Reserve Bank of New York called ameeting on the future of Lehman, which included the possibility of an emergency liquidation of its assets.[6] Lehmanreported that it had been in talks with Bank of America and Barclays for the company's possible sale.[6] The NewYork Times reported on September 14, 2008, that Barclays had ended its bid to purchase all or part of Lehman and adeal to rescue the bank from liquidation collapsed.[6] It emerged subsequently that a deal had been vetoed by theBank of England and the UK's Financial Services Authority.[12] Leaders of major Wall Street banks continued tomeet late that day to prevent the bank's rapid failure.[6] Bank of America's rumored involvement also appeared to endas federal regulators resisted its request for government involvement in Lehman's sale.[6]

Bankruptcy filing

Barclays acquired the investment bankingbusiness of Lehman Brothers in September 2008

Lehman Brothers filed for Chapter 11 bankruptcy protection onSeptember 15, 2008. According to Bloomberg, reports filed with theU.S. Bankruptcy Court, Southern District of New York (Manhattan) onSeptember 16 indicated that JPMorgan Chase & Co. provided LehmanBrothers with a total of $138 billion in "Federal Reserve-backedadvances." The cash-advances by JPMorgan Chase were repaid by theFederal Reserve Bank of New York for $87 billion on September 15and $51 billion on September 16.[13]

Breakup process

On September 22, 2008, a revised proposal to sell the brokerage part ofLehman Brothers holdings of the deal, was put before the bankruptcycourt, with a $1.3666 billion (£700 million) plan for Barclays toacquire the core business of Lehman Brothers (mainly Lehman's $960million 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 onlyavailable transaction. Lehman Brothers became a victim, in effect the only true icon to fall in a tsunami that hasbefallen the credit markets. This is the most momentous bankruptcy hearing I've ever sat through. It can never bedeemed precedent for future cases. It's hard for me to imagine a similar emergency."[14]

Luc Despins, the creditors committee counsel, said: "The reason we're not objecting is really based on the lack of aviable alternative. We did not support the transaction because there had not been enough time to properly review it."In the amended agreement, Barclays would absorb $ 47.4 billion in securities and assume $ 45.5 billion in tradingliabilities. Lehman's attorney Harvey R. Miller of Weil, Gotshal & Manges, said "the purchase price for the realestate components of the deal would be $ 1.29 billion, including $960 million for Lehman's New York headquartersand $ 330 million for two New Jersey data centers. Lehman's original estimate valued its headquarters at $ 1.02billion but an appraisal from CB Richard Ellis this week valued it at $900 million." Further, Barclays will notacquire Lehman's Eagle Energy unit, but will have entities known as Lehman Brothers Canada Inc, Lehman BrothersSudamerica, Lehman Brothers Uruguay and its Private Investment Management business for high net-worthindividuals. Finally, Lehman will retain $20 billion of securities assets in Lehman Brothers Inc that are not beingtransferred to Barclays.[15] Barclays had a potential liability of $ 2.5 billion to be paid as severance, if it chooses notto retain some Lehman employees beyond the guaranteed 90 days.[16][17]

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.[18] The following day, Nomura announced its intentions to acquire Lehman Brothers' investment banking and equities businesses in Europe and the Middle East. A

Bankruptcy of Lehman Brothers 3

few weeks later it was announced that conditions to the deal had been met, and the deal became legally effective onMonday, October 13.[19] In 2007, non-US subsidiaries of Lehman Brothers were responsible for over 50% of globalrevenue produced.[20]

Impact of bankruptcy filingThe Dow Jones closed down just over 500 points (−4.4%) on September 15, 2008, at the time the largest drop bypoints in a single day since the days following the attacks on September 11, 2001.[21] (This drop was subsequentlyexceeded 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 forLehman's $4.3 billion in mortgage securities getting liquidated sparked a selloff in the commercial mortgage-backedsecurities (CMBS) market. Additional pressure to sell securities in commercial real estate is feared as Lehman getscloser to liquidating its assets. Apartment-building investors are also expected to feel pressure to sell as Lehmanunloads its debt and equity pieces of the $22 billion purchase of Archstone, the third-largest United States RealEstate Investment Trust (REIT). Archstone's core business is the ownership and management of residentialapartment buildings in major metropolitan areas of the United States. Jeffrey Spector, a real-estate analyst at UBSsaid that in markets with apartment buildings that compete with Archstone, "there is no question that if you need tosell assets, you will try to get ahead" of the Lehman selloff, adding "Every day that goes by there will be morepressure on pricing."[22]

Several money funds and institutional cash funds had significant exposure to Lehman with the institutional cash fundrun by The Bank of New York Mellon and the Primary Reserve Fund, a money-market fund, both falling below $1per share, called "breaking the buck", following losses on their holdings of Lehman assets. In a statement The Bankof New York Mellon said its fund had isolated the Lehman assets in a separate structure. It said the assets accountedfor 1.13% of its fund. The drop in the Primary Reserve Fund was the first time since 1994 that a money-market fundhad 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 WachoviaCorporation would "support" three Evergreen money-market funds to prevent their shares from falling.[23] Thismove to cover $494 million of Lehman assets in the funds also raised fears about Wachovia's ability to raisecapital.[24]

Close to 100 hedge funds used Lehman as their prime broker and relied largely on the firm for financing. In anattempt to meet their own credit needs, Lehman Brothers International routinely re-hypothecated[25] the assets oftheir hedge funds clients that utilized their prime brokerage services. Lehman Brothers International held close to 40billion dollars of clients assets when it filed for Chapter 11 Bankruptcy. Of this, 22 billion had beenre-hypothecated.[26] As administrators took charge of the London business and the U.S. holding company filed forbankruptcy, positions held by those hedge funds at Lehman were frozen. As a result the hedge funds are being forcedto de-lever and sit on large cash balances inhibiting chances at further growth.[27] This in turn created further marketdislocation and over all systemic risk, resulting in a 737 billion dollar decline in collateral outstanding in thesecurities lending market.[28]

In Japan, banks and insurers announced a combined 249 billion yen ($2.4 billion) in potential losses tied to thecollapse of Lehman. Mizuho Trust & Banking Co. cut its profit forecast by more than half, citing 11.8 billion yen inlosses on bonds and loans linked to Lehman. The Bank of Japan Governor Masaaki Shirakawa said "Most lending toLehman Brothers was made by major Japanese banks, and their possible losses seem to be within the levels that canbe covered by their profits," adding "There is no concern that the latest events will threaten the stability of Japan'sfinancial system."[29] During bankruptcy proceedings a lawyer from The Royal Bank of Scotland Group said thecompany is facing between $1.5 billion and $1.8 billion in claims against Lehman partially based on an unsecuredguarantee from Lehman and connected to trading losses with Lehman subsidiaries, Martin Bienenstock.[30]

Bankruptcy of Lehman Brothers 4

Lehman was a counterparty to mortgage financier Freddie Mac in unsecured lending transactions that matured onSeptember 15, 2008. Freddie said it had not received principal payments of $1.2 billion plus accrued interest. Freddiesaid it had further potential exposure to Lehman of about $400 million related to the servicing of single-family homeloans, including repurchasing obligations. Freddie also said it "does not know whether and to what extent it willsustain 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 businessrelationships.[31]

After Constellation Energy was reported to have exposure to Lehman, its stock went down 56% in the first day oftrading having started at $67.87. The massive drop in stocks led to the New York Stock Exchange halting trade ofConstellation. The next day, as the stock plummeted as low as $13 per share, Constellation announced it was hiringMorgan Stanley and UBS to advise it on "strategic alternatives" suggesting a buyout. While rumors suggestedFrench power company Électricité de France would buy the company or increase its stake, Constellation ultimatelyagreed to a buyout by MidAmerican Energy, part of Berkshire Hathaway (headed by billionaire WarrenBuffett).[32][33][34]

The Federal Agricultural Mortgage Corporation or Farmer Mac said it would have to write off $48 million inLehman debt it owned as a result of the bankruptcy. Farmer Mac said it may not be in compliance with its minimumcapital requirements at the end of September.[35]

In Hong Kong more than 43,700 individuals in the city have invested in HK$15.7 billion of "guaranteed mini-bonds"(迷 你 債 券) from Lehman.[36][37][38] 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, whichuntil 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 banksaccepted minibonds as collateral for loans and credit facilities. Another HK$3 billion has been invested in similarlike derivatives. The Hong Kong government proposed a plan to buy back the investments at their current estimatedvalue, which will allow investors to partially recover some of their loss by the end of the year.[39] HK chief executiveDonald Tsang insisted the local banks respond swiftly to the government buy-back proposal as the MonetaryAuthority received more than 16,000 complaints.[36][38][39] On October 17 He Guangbe, chairman of the Hong KongAssociation of Banks, agreed to buy back the bonds, which will be priced using an agreed upon methodology basedon its estimated current value.[40] This episode has deep repercussions on the banking industry, where misguidedinvestor sentiments have become hostile to both wealth management products as well as the banking industry as awhole. Under intense pressure from the public, all political parties have come out in support of the investors, furtherfanning distrust towards the banking industry.

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

Bankruptcy of Lehman Brothers 5

Neuberger Berman's New York City headquarterson Third Avenue.

In October 1999, the firm conducted an initial public offering of itsshares and commenced trading on the New York Stock Exchange,under the ticker symbol "NEU". In July 2003, shortly after the retiredMr. Neuberger's 100th birthday, the company announced that it was inmerger discussions with Lehman Brothers Holdings Inc. Thesediscussions ultimately resulted in the firm's acquisition by Lehman onOctober 31, 2003, for approximately $2.63 billion in cash andsecurities.

On November 20, 2006, Lehman announced its Neuberger Bermansubsidiary would acquire H. A. Schupf & Co., a money-managementfirm targeted at wealthy individuals. Its $2.5 billion of assets would

join Neuberger's $50 billion in high-net-worth client assets under management.[41]

An article in The Wall Street Journal on September 15, 2008, announcing that Lehman Brothers Holdings filed forChapter 11 bankruptcy protection, quoted Lehman officials regarding Neuberger Berman: "Neuberger Berman LLCand Lehman Brothers Asset Management will continue to conduct business as usual and will not be subject to thebankruptcy case of the parent company, and its portfolio management, research and operating functions remainintact. In addition, fully paid securities of customers of Neuberger Berman are segregated from the assets of LehmanBrothers and aren't subject to the claims of Lehman Brothers Holdings' creditors, Lehman said."[42]

Just before the collapse of Lehman Brothers, executives at Neuberger Berman sent e-mail memos suggesting, amongother things, that the Lehman Brothers' top people forgo multi-million dollar bonuses to "send a strong message toboth 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 faras to actually apologize to other members of the Lehman Brothers executive committee for the idea of bonusreduction having been suggested. He wrote, "Sorry team. I am not sure what's in the water at Neuberger Berman. I'membarrassed and I apologize."[43]

Controversies

Controversy of executive pay during crisisRichard Fuld, head of Lehman Brothers, faced questioning from the U.S. House of Representatives' Committee onOversight and Government Reform. Rep. Henry Waxman (D-CA) asked: "Your company is now bankrupt, oureconomy is in crisis, but you get to keep $480 million (£276 million). I have a very basic question for you, is thisfair?"[44] Fuld said that he had in fact taken about $300 million (£173 million) in pay and bonuses over the past eightyears.[44] Despite Fuld's defense on his high pay, Lehman Brothers executive pay was reported to have increasedsignificantly before filing for bankruptcy.[45] On October 17, 2008, CNBC reported that several Lehman executives,including Richard Fuld, have been subpoenaed in a case relating to securities fraud.[46]

Bankruptcy of Lehman Brothers 6

Accounting manipulationIn March 2010, the report of Anton R. Valukas, the Bankruptcy Examiner, drew attention to the use of Repo 105transactions to boost the bank's apparent financial position around the date of the year-end balance sheet. Theattorney 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 accountingtreatment.[47]

On April 12, 2010, a New York Times story revealed that Lehman had used a small company, Hudson Castle, tomove a number of transactions and assets off Lehman's books as a means of manipulating accounting numbers ofLehman'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, mostHudson staff members were former Lehman employees.[48]

Section 363 SaleOn February 22, 2011, Judge James M. Peck of the U.S. Bankruptcy Court in the Southern District of New Yorkrejected claims by lawyers for the Lehman estate that Barclays had improperly reaped a windfall from the section363 sale. "The sale process may have been imperfect, but it was still adequate under the exceptional circumstances ofLehman Week."

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Bankruptcy of Lehman Brothers 8

[45] "Lehman Brothers executive pay was increased before bankruptcy" (http:/ / story. malaysiasun. com/ index. php/ ct/ 9/ cid/3a8a80d6f705f8cc/ id/ 415432/ cs/ 1/ ). Story.malaysiasun.com. 2008-10-07. . Retrieved 2011-11-11.

[46] Gasparino, Charlie (2008-10-17). "Lehman Executives Including Fuld Subpoenaed" (http:/ / www. cnbc. com/ id/ 27236448/Lehman_Executives_Including_Fuld_Subpoenaed). CNBC-TV (Englewood Cliffs, NJ). . Retrieved 2011-03-18.

[47] E&Y sued over Lehmans audit (http:/ / www. accountancyage. com/ aa/ news/ 1934026/ -sued-lehmans-audit), Accountancy Age, December21, 2010

[48] Story, Louise; Eric Dash (2010-04-12). "Lehman Channeled Risks Through ‘Alter Ego’ Firm" (http:/ / www. nytimes. com/ 2010/ 04/ 13/business/ 13lehman. html). The New York Times. . Retrieved 2010-05-25.

External links• Channel 4 News: How Britain could have saved Lehman Brothers (http:/ / www. channel4. com/ news/ articles/

business_money/ who+ really+ pulled+ the+ trigger+ on+ lehman/ 3319992)

Article Sources and Contributors 9

Article Sources and ContributorsBankruptcy of Lehman Brothers Source: http://en.wikipedia.org/w/index.php?oldid=493133202 Contributors: Auntof6, Belle Equipe, Bender235, Benjwong, Bud08, C4N, D6, DMCer,Davidkevin, Discospinster, Eastlaw, Falcon8765, Farcaster, Fayenatic london, Firebat08, Florentino floro, Foreignshore, Fratrep, Gimmetoo, Goodraise, Greg Grahame, JHP, Jamesinderbyshire,Jean.julius, Jeffr, Jesse Viviano, Jimmy Slade, JohnGaltJr, Joseph Solis in Australia, KConWiki, Kbdank71, Kidburla, LilHelpa, Martinvoll, Materialscientist, Mauls, Mhockey, Montemonte,Mr.grantevans2, Nerdgod89, Ohconfucius, Old port, PedEye1, PinkPig, Qc, Rd232, Rjwilmsi, Shakescene, Slessard 79, Sm8900, SusanLesch, TerraFrost, The Devil's Advocate, Tloc, Trivialist,UU, Ulric1313, Urbanrenewal, Wikidea, Yellowdesk, Zealander, Zelphar, 71 anonymous edits

Image Sources, Licenses and ContributorsFile:Lehman Brothers Times Square by David Shankbone.jpg Source: http://en.wikipedia.org/w/index.php?title=File:Lehman_Brothers_Times_Square_by_David_Shankbone.jpg License:GNU Free Documentation License Contributors: David ShankboneFile:Barclays HQ.jpg Source: http://en.wikipedia.org/w/index.php?title=File:Barclays_HQ.jpg License: Creative Commons Attribution-ShareAlike 3.0 Unported Contributors:AndreasPraefcke, BaldBoris, Bhoeble, Edward, Secretlondon, WhisperToMe, ZanimumImage:Neuberger Berman by David Shankbone.JPG Source: http://en.wikipedia.org/w/index.php?title=File:Neuberger_Berman_by_David_Shankbone.JPG License: Creative CommonsAttribution-ShareAlike 3.0 Unported Contributors: David Shankbone

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