CASE APPLICATION 1A
LESSON FROM LEHMAN BROTHERS: WILL WE EVER LEARN?
On September 15, 2008, financial services firm Lehman Brothers filed for bankruptcy with the
U.S. Bankruptcy Court in the Southern District of New York. That action-the largest Chapter 11 filing in
financial history – unleashed a “crisis of confidence that threw financial markets worldwide into turmoil,
sparking, the worst crisis since the Great Depression.” The fall of this Wall Street icon is, unfortunately,
not the new one, as we’ve seen in the stories of Enron, WorldCom, and others. In a report released by
bankruptcy court-appointed examiner Anton Valukas, Lehman executives and the firm’s auditor, Ernst &
Young, we’re lambasted for actions that led to firm’s collapse. He said, “Lehman repeatedly exceeded its
own internal risk limits and controls, and a wide range of bad cells by its management led to the bank
failure.” Let’s look behind the scenes at some of the issues.
One of the major problems at Lehman was its culture and reward structure. Excessive risk taking
by employees was openly lauded and rewarded handsomely. Individuals making questionable deals
were hailed and treated as “conquering heroes.” On the other hand, anyone who questioned decision
was often ignored or overruled. For instance, Oliver Budde who served as an associate general counsel
at Lehman for nine years, was responsible for preparing the firm’s public fillings on the executive
compensation. Infuriated by what the felt was the firm’s “Intentional under-representation of how
much top executive were paid.” Budde argued with his bosses for years about that matter, to no avail.
Then one time he objected to a tax deal that an outside accounting firm had proposed to lower medical
insurance costs saying, “My gut feeling was that this was just reshuffling some papers to get an expense
off the balance sheet. It was not the right thing and I told them.” However, Budde’s bosses disagreed
and okayed the deal.
Another problem at Lehman was the firm’s top leadership, Valukas’s report was highly critical of
Lehman’s executives who “should have done more, done better.” He pointed out that the executives
made the company’s problems worse by their conduct, which ranged from “serious but nonculpable
errors of business judgement to actionable balance sheet manipulation.” Valukas went to say that
“former chief executives Richard Fuld was at least grossly negligent in causing Lehman to file misleading
periodic reports.” These reports were part of an accounting device called “Repo 105.” Lehman used this
device to get some $50 billion of undesirable assets off its balance sheet at the end of the first and
second quarters of 2008, instead of selling those assets at loss. The examiner’s report “included e-mail
from Lehman’s global financial controller confirming that the only purpose or motive for Repo 105
transactions was reduction in the balance sheet, adding that there was no substance to the transaction.”
Lehman auditor was aware of the use of Repo 105 but did not challenge or question it. Sufficient
evidence indicated that Fuld knew about the use of it as well; however, he signed off on quarterly
reports that made no mention of it. Fuld’s attorney said, “Mr. Fuld did not know what these transactions
were – he didn’t structure or negotiate them, nor was he aware of their accounting treatment.” A
spokesperson of Ernest & Young (the auditor) said that, “ Lehman’s bankruptcy was the result of a series
of unprecedented adverse events in the financial markets.”
DISCUSSION QUESTIONS
1. Describe the situation at Lehman Brothers from an ethics perspective. What’s your opinion of
what happened here?
2. What was the culture at Lehman Brothers like? How did this culture contribute to the
company’s downfall?
3. What role did Lehman’s executives play in the company’s collapse? Were they being responsible
and ethical? Discuss.
4. Could anything have been done differently at Lehman Brothers to prevent what happened?
Explain.
5. After all the public uproar over Enron and then the passage of the Sarbanes – Oxley Act to
protect shareholders, why do you thing we still continue to see these types of situations? Is it
unreasonable to expect that businesses can and should act ethically?
“Greed” and “crooks” are sampling of comments recorded on a rendering of Lehman's chief
executive Richard Fuld by artist Geoffrey Raymond, who placed his painting outside of Lehman's
New York City offices and handout markers to employees and pedestrians regarding the firm's
announcement that it was filing for bankruptcy
