The summer of 2008 was the coldest in the history of investment banking; and 15 September of that year was the darkest ever registered. When Wall Street woke up Monday morning, two more of its storied firms had vanished. Lehman Brothers, burdened by $60 billion in soured real-estate holdings, said it is filing for Chapter 11 bankruptcy after attempts to rescue the 158-year-old firm failed. (Lennihan, 2008)
History
Family-Owned
Lehman Brothers had humble beginnings, tracing its roots back to a small dry-goods store founded by Jewish immigrant from Bavaria, 23-year-old Henry Lehman, in 1844 in Montgomery Alabama. As his brothers, Emanuel and Mayer, arrived, the firm changed its name and ‘Lehman Brothers’ was founded (Lehman Brothers).
During the eighteen-fifties, cotton was one of the most important crops in the United States. The three brothers routinely accepted raw cotton from customers as payment, which gradually became their major business. Following the shift of cotton trading centre to New York City, Lehman opened its first office in Manhattan, where the firm’s headquarters were eventually moved to (Ibid.).
For decades, Lehman was a commodities house; however, since the beginning of the twentieth century, Lehman Brothers underwrote almost one hundred new issues, many times in conjunction with Goldman, Sachs, finally becoming a house of issue.
Partnership
Following the death of Robert Lehman, who had been the ‘patriarch’ of the firm for forty-four years, in 1969, no member of the Lehman family actively involved with the partnership. In 1973, Pete Peterson was brought in to save the firm (Ibid.). 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 (Ibid.).
By the early 1980s, hostilities between the firm’s investment bankers and traders prompted Peterson to promote Lewis Glucksman to be his co-CEO in May 1983. This eventually ousted Peterson and brought the firm under disintegration. Steve Schwarzman, chairman of the firm’s M&A committee, recalled (Ibid.):
Lehman Brothers had an extremely competitive internal environment, which ultimately became dysfunctional.
Lehman Brothers Holdings Inc.
In 1984, Lehman was acquired by Shearson/American Express (Ibid.). A decade later, during American Express’ series of divestment the firm was spun off as Lehman Brothers Holdings Inc. (Ibid.).
For over a century, Lehman survived all the challenges; the railroad bankruptcies of the eighteen-hundreds, the Great Depression of the nineteen-thirties, 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 (Investopedia).
Investment Banking
Main Activities
An investment bank is a financial institution that assists corporations and governments to raise capital by underwriting and acting as the agent in the issuance of securities. An investment bank also assists companies involved in mergers and acquisitions and derivatives, and provides ancillary services such as market making and the trading of derivatives, fixed income instruments, foreign exchange, commodity, and equity securities (Investment Banking).
There are two main lines of business in investment banking: trading securities for cash or for other securities, i.e. facilitating transactions, or the promotion of securities, e.g. underwriting, is the ‘sell side’; dealing with pension funds, mutual funds[2], hedge funds[3], and the investing public constitutes the ‘buy side’ (Ibid.).
Possible Conflicts of Interest
Potential conflicts of interest may arise between different parts of a bank, creating the potential for market manipulation. Authorities that regulate investment banking therefore require that banks impose a Chinese wall[4] to prevent communication between investment banking on one side and equity research and trading on the other (Ibid.).
Lehman Brothers
Operations
Our strategy remains to: continue to invest in a diversified mix of businesses; expand the number of clients we cover; be more effective in delivering the entire Firm to our clients; effectively manage risk, capital and expenses; and further strengthen our culture (Lehman Brothers Holdings Inc., 2007).
Capital Markets
Capital Markets represented institutional client-flow activities, including secondary trading, financing, mortgage origination and securitisation, prime brokerage, and research activities in fixed income and equity products. The firm facilitated client transactions by serving as an agent, market-maker, and/or intermediary in the global marketplace. The Capital Markets segment also included principal investing and trading activities, including investments in real estate, private equity, and other long-term investments (Reuters).
The equities capital markets were responsible for the firm’s equities and equity-related operations and products worldwide, and were composed of liquid markets, leveraged businesses, and private equity. Liquid markets consisted of the firm’s cash trading, flow derivatives, and programme trading businesses. Leveraged businesses included structured derivatives and convertibles with the former offering customised global equity derivative solution for the customers and the latter trades and makes markets in conventional and structured convertible securities. Private equity principal investments are also included (Ibid.).
Lehman was also a market-maker and participant in the new issue and secondary markets for, and take positions for its own account in, a broad variety of fixed income securities. Fixed income businesses include government and agency obligations, corporate debt securities and loans, global family of indices, high yield securities and leveraged bank loans, money market products, and mortgage and loan origination and mortgage and asset-backed securities (Ibid.).
Investment Banking
Investment Banking provided advice to corporate, institutional, and government clients throughout the world on mergers, acquisitions, and other financial matters. It also raised capital for clients by underwriting public and private offerings of debt and equity instrument. Investment Banking consisted of corporate finance, M&A, and global finance units that serve its corporate, institutional, and government clients. The corporate finance unit was organized into global industry groups. M&A was comprised of advisory and restructuring groups. Global finance served the firm’s clients’ capital-raising needs through specialized product groups in equity capital markets, debt capital markets, leveraged finance, private capital markets, and risk solutions (Ibid.).
Investment Management
Investment Management provided strategic investment advice and services to institutional and high-net-worth clients on a global basis, and consisted of asset management and private investment management businesses. Asset management provided asset management products across traditional and alternative asset classes, through a variety of distribution channels, to individuals and institutions. It included both the Neuberger Berman and Lehman Brothers Asset Management brands, as well as its private equity business (Ibid.).
Risk Management
In its 2007 Annual Report, written when global stock and credit markets had already been in turmoil for several months, Lehman boasted of having ‘a culture of risk management at every level of the firm’ (Hutchinson, 2010). Contrastingly, the same firm raised its leverage ratio from 26.2 to 1 in the bull market of 2006 to 30.7 to 1 in the troubled market of November 2007; moreover, this happened when its equity increased by more than $3 bn (see Exhibit 4).
Lehman mostly used the ‘Value at Risk’ system (Ibid.) in their risk management. It makes three assumptions on the portfolio; that the portfolio does not change over the VaR time horizon (as it is useless below the VaR measurement horizon), that the portfolio can be summarized by its sensitivities with respect to a small number of risk factors, and that the sensitivities can be captured by the first (and possibly second derivatives) with respect to the risk factors. Further, it assumes past market behavior can tell us something about the future. (Artzner, 1997). Unfortunately, these assumptions are provably false in real life.
Moreover, VaR assesses the 99% confidence limit of the loss that may be incurred by each trading position at most 1% of the time (Value at Risk). This basically means Lehman had been exposed to risk management failure 1% of the time.
Another problem with VaR is that, in most cases, it depends on an assessment of the ‘volatility’ of the security concerned, i.e. how much that security bounces (Hutchinson, 2010); meanwhile, volatility is low in bull markets and high in bear markets. This effectively encourages traders take more risks that would not have been taken during good times but fails to make suggestions on reactions in a foreseeable market downturn.
Further, Lehman had been excessively indulged in the use of leverage. Traditionally, the maximum leverage for Wall Street was held to be 20 to 1; it is considered safe when assets are more liquid. It would not be considered safe when the asset mix consists of overwhelmingly real estate investment, private equity stakes, hedge fund positions, credit default swaps, and other derivatives positions that do not even appear on the balance sheet (Ibid.). This, however, was not unique to Lehman Brothers: while Lehman’s leverage had been brought down to 23.3 through asset sales, Morgan Stanley’s was 30.0, Goldman Sachs’ 24.3, and Merrill Lynch’s an astounding 44.1 (Ibid.).
Even more astonishing was its business decision to handle its three major types of investments: commercial real estate, leveraged loans, and private equity; the first of which brought Lehman down (Field, Lehman Report: The Business Decisions that Brought Lehman Down, 2010). This was because many of these new investments were illiquid, which proved to be particularly risky for a firm with high leverage and low equity base: they cannot be sold quickly to raise cash, unless sold for far below face value; they cannot be sold easily, at any speed, so leverage cannot be effectively reduced; and they cannot be easily hedged (Ibid.).
Incentives
In 1994, one share cost $4; by 2007, that number grew to $85. Lehman Brothers managed to do that by expanding to lucrative new products as the market became less regulated, including credit default swaps[5]. Eventually, Lehman moved from the safety of corporate finance and M&A into the risky world of proprietary trading (How Big Is Lehman Brothers?).
As a trader you take risk to make profits. The more risk you take, the more money that you’re playing with, the more profits you can make. In the case of Lehman Brothers, Dick Fuld essentially said to our head in commercial mortgage-backed securities: ‘You gotta take more risk; risk, risk, risk, risk.’ And that risk leads more to the bottom-line.
In a good year as I had in 2006, I made more than $30 mn; that gave me more than a million dollar bonus. And I know traders that they’ll make $10 mn in a year, and they’ve made north of $150, 200 mn for the firm.
– Larry McDonald
Lehman Brothers, 2004-2008
(The Fall of Lehman Brothers, 2009)
ERP in Investment Banking
Background
Traditionally, investment banks have their own application suites tailored to the particular business process and asset classes handled; however, this approach is an obstacle to cross-asset trading, and maintaining a portfolio of applications may be costly (Jennings, 2006). Now, banks have the choice to employ an enterprise trading software package, which ostensibly has a number of advantages such as better integration of financial information, fewer control points to manage, and reduced cost and complexity (Ibid.).
Is ERP for investment banking?
ERP solutions were implemented across traditional businesses from the late nineties to manage supply chain on a single platform; a comparison of enterprise trading software and traditional ERP solutions reveals many similarities. Nonetheless, differences exist, esp. in the case of complex financial risk management in enterprise trading systems (Ibid.).
Meanwhile, traditional ERP implementations provide a number of pointers for banks looking to install enterprise trading software such as the synchronisation of the business operating model across lines of business (Ibid.).
Is investment banking ready for ERP?
One factor that must be considered is the inevitable disruption to business, as new technology deployment may leave organisations considerably less efficient initially whilst the workforce learns new systems and processes. Another factor is that introduction of enterprise trading systems will impact on flexibility; therefore, any gain in business integration should be weighed against loss in business nimbleness (Ibid.).
ERP
Nevertheless, banks today face shrinking margins, tougher competition, and rapid change; further, new legal and regulatory requirements demand greater transparency and information that is more accurate and timelier (SAP AG, 2005).
Challenges
The most competitive banks in this environment are more customer-centric, efficient, and flexible. They have greater control over their costs and have boosted profitability. To achieve these goals, banks should evaluate any IT investment on its ability to provide a fast return and reduce operating costs. Effective investments must also support new business models and help banks make the most of the Internet and mobile technology. Increasingly, banks have the following needs (Ibid.):
- Streamlined business processes and IT structures that are less complex
- IT structures that are flexible and allow quick adjustments in the business processes of supporting operations
- Easy integration of new functions and processes without harm to either the underlying technology or previous investments
- Personalise data, tools, and solutions that employees can access anywhere at any time
Considering these demands, today’s ERP solutions must improve integration between business processes and technology for seamless transparency between ERP systems and other corporate applications. ERP solutions must also provide readily available, yet secure access to all internal organisational functions and processes by every bank employee, customer, vendor, and partner (Ibid.).
mySAP ERP
According to SAP AG (Ibid.), mySAP ERP combines proven, robust ERP software with extended functions that banks can use enterprise-wide to improve the management of corporate assets and critical business processes. The alleged benefits include (Ibid.):
- New efficiencies in integrated, end-to-end business processes
- Business agility
- Lower total cost of ownership
- Incremental, deploy-as-you-go functions
- Faster return on investment
- Local depth with a global reach
Meanwhile, mySAP ERP allegedly offers all the key features banks need (Ibid.):
- Business analytics that help evaluate business, operational, and workforce performance based on the bank’s strategic vision
- Major financial and management accounting processes that help control corporate finance functions and provide support for rigorous corporate-governance mandates such as Sarbanes-Oxley
- Human capital management functions that help maximise workforce profitability while enhancing the employee experience with ready-to-use self-services and capabilities to handle life and work events
- Features for managing support operations that help streamline logistics functions and project management, while preparing for future expansion of your collaborative capabilities into such areas as supplier relationship management
- Features for managing corporate services that help optimise both centralised and decentralised services for corporate travel, facilities, incentives, and commissions
Supposedly, enterprise trading systems like mySAP ERP (see Exhibit 8 for more features and benefits) could improve business planning in the investment banking industry; unfortunately, having rated, underwritten, and invested in the ERP industry, Lehman Brothers had not implemented Enterprise Resource Planning itself.
Calm Before the Storm
In 2007, Lehman Brothers produced another year of record net revenues, net income, and earnings per share and successfully managed through the difficult market environment. Its global platform of diversified businesses also produced record performance across each of its business segments (see Exhibit 2,4,6, and 9).
Investment Banking
Lehman’s Investment Banking Division posted its fourth consecutive record year in 2007, bolstered by continued growth in the Americas, increased activity in Europe and the Middle East, and strong performance in Asia-Pacific. In the Americas, it strengthened its presence in Canada and added an investment banking team in Brazil. The division continued to expand its footprint in Europe and the Middle East by opening an office in Dubai, securing a license to operate in Qatar, and establishing a presence in Russia and Turkey. As part of the firm’s multi-year plan to build a full-scale franchise in the Asia-Pacific region, it expanded senior banker coverage, as well as M&A and financial sponsor capabilities, and utilised Global Finance, aligned with Capital Markets, through its proven joint venture framework (Lehman Brothers Holdings Inc., 2008).
During 2007, Lehman advised on 10 of the 20 largest announced M&A transactions worldwide, and on four of the top five completed M&A transactions (GE Plastics, ABN AMRO, Linn Energy, LLC, and Altria Group, Inc.) (Ibid.).
Equities
Throughout 2007, Lehman made significant progress in executing its growth and diversification strategy – balanced investments across regions, segments, and products. It had invested heavily in its Asia and Emerging Markets franchises. Lehman had acquired the Institutional Equity Group of Brics Securities in India and added significant capabilities in Turkey, Russia, and Brazil (Ibid.).
As the equities market structure is dynamic, access to liquidity continued to be a critical resource. Lehman’s global LX™ platform allows clients to access the firm’s liquidity directly via a suite of electronic direct access trading algorithms. In December 2007, it acquired Van der Moolen’s specialist book. It also continued to invest in its infrastructure (Ibid.).
Fixed Income
Lehman’s Fixed Income Capital Markets business continued to partner with clients on some of their most important transactions in 2007, helping them bring to market landmark issues such as the world’s first managed constant proportion debt obligations, the largest-ever United Arab Emirates dirham-denominated bond, and several of the biggest and most challenging leveraged transactions. International Financing Review magazine named Lehman Brothers its European Leveraged Finance House for the second time in two years, and Institutional Investor ranked the firm #1 for the eighth consecutive year in its All-America Fixed Income Research poll. Its Fixed Income sales credit volume rose 40% in 2007 (Ibid.).
Investment Management
Lehman’s Investment Management Division continued to build on seven decades of experience at Neuberger Berman and its own heritage in merchant banking. In 2007, it won important institutional mandates in equities, fixed income, hedge funds, private equity, and structured products. Within Private Asset Management, the Total Portfolio Returns of the Equity Composite was nearly double that of the S&P 500 (Ibid.).
Lehman had measurably strengthened its capabilities, adding, for example, a global team investing in Real Estate Investment Trusts based in Amsterdam, a significant team of Infrastructure investors within Private Equity, and a team investing in emerging markets based in New York (Ibid.).
Demise
‘I’ve been in my seat a lot longer than you were ever in yours at Goldman.’ Fuld retorted, ‘Don’t tell me how to run my company. I’ll play ball, but at my speed.’ The Treasury chief glowered, and quite possibly at that moment, Lehman’s fate was sealed (McDonlad & Robinson, 2009).
The Prime Culprit
In 2003 and 2004, Lehman acquired five mortgage lenders, including subprime lender BNC Mortgage and Aurora Loan Services. These acquisitions in real estate business brought in record revenues that made revenues in the capital markets unit surge 56% from 2004 to 2006, at a rate much higher than investment banking or investment management (see Exhibit 1, 2, and 10). The firm securitised $146 bn of mortgages in 2006, a 10% increase from 2005. In 2007, the firm reported net income of a record $4.2 bn on revenue of $19.3 bn (Investopedia).
They got to the point where they created mortgages that were known as ‘NINJA’ mortgages – No INcome, Job, or Asset, relying solely on the appreciation of housing prices.
– John Thain
Chairman and CEO
Merrill Lynch, 2007-2008
(The Fall of Lehman Brothers, 2009)
The Beginning of the End
By the first quarter of 2007, cracks in the US housing market were already becoming apparent as defaults on subprime mortgages rose to a seven-year high. On 14 March 2007, one day after the firm’s 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 the first fiscal quarter (Investopedia). Chris O’Meara, Lehman’s CFO, told analysts during a conference call, ‘[The subprime mortgage business in the US] will continue to face headwinds in the near term, [but Lehman is seeing the return of pricing power and] we expect to see various opportunities from the market dislocation.’ (Wong, 2007)
For fiscal year 2007, Lehman raised its firm-wide risk limit from $2.3 bn to $3.3 bn, justifying it by modifying the way it calculated the amount of risk it could support. In September 2007, Lehman raised the limit again to $3.5 bn, and for fiscal year 2008 this number became $4 bn. If the same assumptions used for the 2007 calculation had been used for 2008, the resulting risk limit would have been $2.5 bn.
Meanwhile, despite its efforts in eliminating mortgage-related jobs and shutting down lender offices, Lehman underwrote more mortgage-backed securities than any other firm, accumulating an $85 bn portfolio, four times its shareholders’ equity (Investopedia). On 17 March 2008, following the near-collapse of Bear Stearns, the second largest underwriter of mortgage-backed securities, Lehman’s share price fell 48% (Ibid.). In June, Lehman reported its first loss since its independence from American Express.
The Last Breath
Every one of you should feel confident and proud. Our firm is strong today, and we will emerge from this cycle even stronger. We’ve done it before, and we will do it again.
– Richard Fuld
Chairman and CEO
Lehman Brothers, 1994-2008
(The Fall of Lehman Brothers, 2009)
During the second quarter, Lehman boosted its liquidity pool to an estimated $45 bn, decreased gross assets by $147 bn, reduced its exposure to residential and commercial mortgages by 20%, and cut down leverage ratio from 32 to 25 (Investopedia). However, amid plummeting equity markets worldwide in the first week of September 2008, its stock plunged 77% as investors questioned the original plan to keep the firm independent by spinning off a ‘SpinCo’ that would hold its toxcic real estate assets (Field, Lehman Report: The Business Decisions that Brought Lehman Down, 2010).
A series of plunges in Lehman’s stock, spikes in CDS on its debt, clients’ pull out, cuts in credit lines, and the report of a loss of $3.9 bn in the third quarter and a write-down[6] of $5.6 bn gave Lehman Brothers the final blow (Investopedia) (see Exhibit 1, 3, and 5).
With only $1 bn left in cash by the end of that week, Lehman was quickly running out of time. As the US Treasury refused monetary injection on 12 September, Bank of America, Lehman’s favourite suitor, went on to acquire Merrill Lynch, which was about to take Lehman’s position within days, on 13 September, and Barclays PLC discontinued the negotiation of acquisition on 14 September, Lehman Brothers Holdings Inc. was forced to file for Chapter 11 bankruptcy protection on 15 September before NYSE opened on Monday morning (The Fall of Lehman Brothers, 2009). The registered assets amounted to $691 bn, making Lehman the largest company that has went bankrupt in history (The 10 Largest US Bankruptcies, 2009).
We were told, ‘There isn’t going to be a Barclay transaction, and therefore Lehman should be prepared to go into bankruptcy.’ And then suddenly they said, ‘By midnight.’ And, and my response was, ‘I don’t understand what you’re doing. Could you explain what the reason is for this action?’ And they said, ‘Well, we really don’t have to explain a reason. You need us to finance you, and we’re not gonna finance you unless you go into bankruptcy.’
– Harvey Miller
Lehman Brothers’ bankruptcy attorney
Weil, Gotshal & Manges, LLP
(The Fall of Lehman Brothers, 2009)
Development
Barclays PLC
I think all of us would say this is something that we never expected that we can actually combine with a US Bulge Bracket[7] firm. I don’t use the word ‘transformational’ lightly; this transaction was transformational.
– Bob Diamond
President
Barclays PLC
(Ibid.)
Days after Lehman Brothers filed for bankruptcy on Monday, a revised proposal to sell the brokerage part of Lehman Brothers was put before the bankruptcy court, with a $1.35 bn plan for Barclays to acquire the core business of Lehman Brothers (mainly Lehman’s $960 mn Midtown Manhattan office skyscraper), was approved (Bankruptcy of Lehman Brothers). Barclays booked $4.2 bn in gains on the deal in 2009 (Demos & Bullock, 2010).
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.
– James Peck
Manhattan court bankruptcy Judge
(Bankruptcy of Lehman Brothers)
Repo 105 and Sarbanes-Oxley
The comprehensive report of Lehman Brothers Holdings’ path to bankruptcy that bankruptcy examiner Anton Valukas released detailed many repeated, deliberate material misstatements the firm made in securities filings and public statements about its financial condition (Field, The Lehman Bankruptcy Report Is a Road Map for Criminal Charges, 2010). The Valukas report said Lehman was essentially faking sales and using the ‘proceeds’ to pay down liabilities.
Repo 105 (Repo 105) looked just like an ordinary repo transaction; Lehman would give the counterparty highly liquid securities in exchange for cash, and then repay the cash plus interest and get the securities back. However, Repo 105 had two major differences from ordinary repo transactions: first, the interest was 5% instead of the normal 2%; second, a different accounting treatment was used – instead of booking Repo 105s as financing transactions, which would add to both assets and liabilities and have no impact on the balance sheet, Lehman booked them as sales, and the proceeds were used to pay down liabilities (Ibid.). Because no US law firm would give a legal opinion that Repo 105 transactions met the requirements for a sale accounting treatment, these trades were routed through its affiliate in Britain (Ibid.).
Lehman’s auditor, Ernst & Young were fully aware of these Repo 105 transactions but failed to object these operations. Valukas concluded that Ernst & Young was guilty of professional malpractice (Ibid.).
Meanwhile, provisions in the Sarbanes-Oxley Act impose criminal liability on executives who falsely certify the accuracy of the financial statements and absence of deficiencies in internal controls regarding the preparation of the financial statements (Kirkendall, 2010).
When I went to college I learned economics lesson 01: You do not finance long-term investments with short-term money; and that’s what happened. And I believe it happened because greed took over, and the returns were so big, and so many people were making so much money, that they lost all fear, and risk did not become a factor any more.
– Harvey Miller
Lehman Brothers’ bankruptcy attorney
Weil, Gotshal & Manges, LLP
(The Fall of Lehman Brothers, 2009)
I believe that allowing Lehman Brothers to go bankrupt was a tremendous mistake; the amount of money it would’ve taken, twenty billion, thirty billion, compared to the destruction in value that followed the Lehman bankruptcy and the complete shutdown of the credit markets the billions and billions and billions of losses that we’re experiencing in the markets subsequently.
– John Thain
Chairman and CEO
Merrill Lynch, 2007-2008
(Ibid.)
Questions
- If Lehman Brothers had adopted Enterprise Resource Planning, could it have foreseen the irrational amount of risk it had taken and thereby not have exposed itself so severely to the commercial property market that tumbled in 2007 and 2008? If so, when should have been the last chance to adopt ERP, before it acquired subprime lenders in 2003 and 2004, before the housing bubble began to burst, or after it closed part of its Alt-A[8] issuing offices? [see Management Control Systems p220, Decision 1: choice of controls (Merchant & Stede, 2007)]
- Seeing the manifold claims of the lack of overall managerial competence within Lehman Brothers during its record growth in the global marketplace, could ERP have helped it in planning and budgeting so that Lehman could have been able to manage its operations more effectively and not over-evaluated its assets and liquidity? [see Management Control Systems p329, Planning and Budgeting (Ibid.)]
- Employee incentives were among the highest in Lehman Brothers, but were accompanied by greed and ego; could ERP have helped Lehman identify other, non-material incentives that could have eventually avoided the misfortune? [see Management Control Systems p393 (Ibid.)]
- Regarding risk control, what would have been the ‘optimal control? Could ERP have helped with its identification? [see Management Control Systems p11, Characteristics of good management control (Ibid.)]
- Can the use of ERP in the investment banking industry provide more transparency that has been required by the Sarbanes-Oxley Act and avoid future mutants of Repo 105s? Could it have done that if Lehman Brothers had used it? [see Management Control Systems p578, The Sarbanes-Oxley Act of 2002 (Ibid.)]
- Barclays has so far made a huge amount of money from its acquisition of Lehman Brothers, and it is well-known that Lehman would not have been forced to file for bankruptcy should it have had enough cash for a couple of more weeks. Could ERP have helped predict the amount of cash Lehman should have kept in case of emergency so that it could have survived those couple of weeks? Could the use of ERP help increase liquidity of a bank’s assets? Could its assessments adjust to the changing liquidity and leverages? [see Management Control Systems p533, Using Financial Results Controls in the Presence of Uncontrollable Factors (Ibid.)]
- To which level can ERP improve an investment bank’s position in dealing with risks? Could ERP alone have helped Lehman Brothers survive those couple of weeks? [see Management Control Systems p12, Control problem avoidance (Ibid.)]
- From the perspective of US Treasury, should most banks have adopted ERP and enhanced transparency, could it have seen the danger of letting Lehman Brothers go bankrupt?
- Lehman Brothers valued only revenue and ignored the composition of its asset mix, debts, and risks. How could ERP provide other measures for an investment bank to follow? [see Management Control Systems p435, Financial Performance Measures and their Effects (Ibid.)]
Also
10. Besides greed and ego, was there anything else that eventually led to Lehman Brothers having taken so much risk?
11. Had the relationship between Lehman Brothers and Goldman Sachs, or rather Richard Fuld and Henry Paulson[9], played a significant role in the decision of Lehman’s fate? Is it true that, as many have been talking, that Lehman Brothers was forced to fall despite its better operating positions purely because ‘they were the good guys’ and have not practised as many unethical behaviours as others? After all, Lehman Brothers was delivered the best performance in the investment banking industry for several consecutive years; it is hard to imagine a firm could have done that with poor management. [see Management Control Systems p685, Management Control-Related Ethical Issues and Analyses (Ibid.)]
12. Outside the banking industry, how do we propose both to value shareholder equity and corporate performance and not to be lured by greed and ego?
13. Any other take-away?
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Source: Lehman Brothers 2007 Annual Report (Lehman Brothers Holdings Inc., 2008)
