NEW YORK Lehman Brothers Holdings Inc filed for bankruptcy after trying to finance too many risky assets with too little capital, becoming the largest and highest-profile casualty of the global credit crisis.
Based on assets, Lehman far surpassed WorldCom as the largest U.S. bankruptcy ever. Lehman had assets of $639 billion at the end of May, while WorldCom had $107 billion when it filed for bankruptcy protection in 2002.
The Chapter 11 filing did not include Lehman's broker-dealer operations and other units, such as asset management firm Neuberger Berman. Those businesses will continue to operate, although Lehman is expected to liquidate them. Lehman said it is in advanced talks on selling its investment management division.
Lehman is the biggest investment bank to collapse since 1990, when Drexel Burnham Lambert filed for bankruptcy amid a collapse in the junk bond market.
Time is of the essence as Lehman sells assets. Customers are often reluctant to trade with dealers whose parent companies are in bankruptcy, so the longer Lehman waits to sell its broker-dealer unit, for example, the less that unit will be worth.
"Much of (Lehman's) asset value at the end of the day is tied up in its credibility, and that takes a significant hit early in a bankruptcy case," said Jack Williams, resident scholar at the American Bankruptcy Institute and a professor at Georgia State College of Law.
The bankruptcy filing represents the end of a 158-year-old company that survived world wars, the Asian financial crisis and the collapse of hedge fund Long-Term Capital Management, but not the global credit crunch.
Financial institutions globally have recorded more than $500 billion of write-downs and credit losses as the U.S. subprime mortgage crisis has spread to other markets.
Bankruptcy also represents a bad end to Chief Executive Dick Fuld's four-decade career at Lehman. Fuld, who piloted the investment bank through prior crises with aplomb, was widely seen as too slow to recognize Lehman's need to raise capital and shed bad assets.
At the end of August, Lehman had $600 billion of assets financed with just $30 billion of equity. Having so little capital meant that a 5 percent decline in assets would wipe out the value of the company, which investors saw as a real risk due to the company's billions of dollars of mortgage securities.
"Lehman decided to play chicken with the market and they lost," James Ellman, portfolio manager at hedge fund Seacliff Capital, said late on Sunday.
In its Chapter 11 filing, Lehman named Citibank N.A. and Bank of New York Mellon as trustees for about $138 billion of senior Lehman bonds.
It said Citi's Hong Kong affiliate had made a $275 million bank loan to Lehman.
Among Lehman's other unsecured creditors are Japanese banks Aozora Bank, Mizuho Financial Group Inc, Shinsei Bank and UFJ Bank. France's BNP Paribas is also on Lehman's list of its 30 largest unsecured creditors.
The firm said that as of May 31, it owed about $110.5 billion on account of senior unsecured notes, $12.6 billion on account of subordinated unsecured notes, and $5 billion on account of junior subordinated notes.
Lehman also disclosed that it owned stakes of 10 percent or more in a number of companies, including Imperial Sugar Co, Lpath Inc, Derma Services, Flagstone Reinsurance, GLG Partners, Ronco Corp, Pacific Energy Partners, Blount International, Pemstar Inc and Transmontaigne Inc.
The investment bank, once the fourth-largest in the United States, had hoped to raise capital by selling off a stake in its investment unit, and use that capital as well as other funds to spin off some of its toxic assets to shareholders.
But that plan did not satisfy investors, who punished Lehman's share price, or rating agencies, who pressed the company to find a stronger partner.
Lehman said the uncertainty, particularly among banks through which it clears securities trades, ultimately made it impossible for it to continue to operate its business.
The bankruptcy filing comes after a weekend of heated negotiations among regulators and Wall Street firms about Lehman's fate. The U.S. government refused to backstop Lehman's worst assets the way it backstopped Bear Stearns Cos Inc's sale to JPMorgan Chase. Government officials told banks to support Lehman or else be prepared for more investment banks to lose investor confidence and fail.
But prospective bidders refused to buy Lehman without government support, people briefed on the matter said. In the end, Lehman was allowed to fail, and Bank of America Corp agreed to buy what was seen as the next weakest U.S. investment bank, Merrill Lynch & Co Inc.
PIZZA AND BEER
For many of Lehman's 26,000 employees the outlook is likely to be gloomy, with job losses expected to be substantial even if significant parts of the business can be sold.
At Lehman's headquarters in midtown Manhattan on Sunday afternoon, men dressed in suits came and went, while some employees entered the building with what appeared to be empty duffel bags, then left with them full.
Others emerged with accordion files, binders stuffed with papers and full valises.
On Sunday night, hundreds of Lehman employees were still in the office to clear their desks and pack personal belongings, according to an employee.
Many opted to say their farewells with one last office soiree. "We are having pizza and beer," the employee said.
"I guess times are tough and we've got to face the music," said a Lehman banker in London. "Everyone is worried about their job -- it's inevitable."
Markets are likely to be wary of what is ahead. Bankruptcy is a long, complex process where almost everything is done out in the open, as opposed to the veil of secrecy Wall Street uses to conduct deals.
"This isn't a manufacturer or retailer ... so we don't have a very rich track record about how the issues will be addressed, and the classic signposts just aren't there," the American Bankruptcy Institute's Williams said.
"Once the company goes into bankruptcy, this is going to be an opportunity to look under the hood, and we might not like what we see."