The fall of Lehman Brothers was precipitated by shaky corporate governance and spiralling greed. Dick Fuld was the combative CEO who presided over the largest bankruptcy in US history
The extraordinary collapse of 158-year-old investment bank Lehman Brothers shocked the financial world. Its dramatic demise hastened panic on international markets and no doubt contributed towards what would become known as the global credit crunch of 2008. Its route was sub-prime mortgage lending, a market in which Lehman had showed enormous faith. At the head of Lehman Brothers was Dick Fuld.
Richard Fuld, or Dick as he preferred to be known, was born in New York in 1946. He graduated from the University of Colorado in 1969. He had plans of becoming a test pilot or an aeronautical engineer, but this ambition was not helped by a fight with a commanding officer, and it was not to be. It was not for nothing that Fuld would later gain the nickname “the gorilla”.
Instead, Fuld got a job at Lehman Brothers. He never left. Fuld started out as a commercial paper trader, but he took night classes at New York University’s Stern School of Business, and in 1973 attained an MBA. He was destined for greater things. In 1993, the year before Fuld took over as CEO, Lehman Brothers made a loss of $102m. By 1994 it had 9,000 employees and $75m in earnings.
Between 1994 and 2007, Lehman Brothers’ market capitalization grew from $2bn to $45bn. Its share price went from $5 to $86, creating an average annual return for shareholders of 24.6 per cent. It grew to more than 28,000 employees, with more than 60 offices in over 28 countries. The one man behind this incredible growth was Dick Fuld. By 2006, Lehman Brothers was the number one underwriter of securities backed by sub-prime mortgages.
Between 1993 and 2007, Fuld reportedly received nearly half a billion dollars in total compensation. In 2007 alone, he earned a total of $22m, including a base salary of $750,000, a cash bonus of $4.25m and stock grants of $16m. Fuld was chairman of the board of directors and CEO. He was king.
The Lehman Brothers staff were not doing too badly either. The staff received a disproportionately high percentage of their pay in Lehman stock and options. When the firm went public, employees owned 4 per cent of the firm, worth $60m. By 2006, they owned around 30 per cent, equivalent to $11bn, at least on paper.
The media painted Lehman as one big happy family, with all staff sharing in the success of the others. Yet in the hard-nosed world of investment banking this is rarely the case, and it was not the case with Lehman Brothers. In the quest for greater profits, more risks were taken and little heed was given to those brave enough to advise caution. In fact caution was not a word often heard at Lehman Brothers. The unbridled greed would lead to dramatic consequences.
By 2007, Lehman Brothers was the largest trader of stocks on the London Stock Exchange and had a role in a fifth of all corporate takeovers. In 2003, it purchased asset management business Neuberger Berman for $3bn. The next year, it bought California-based BNC Mortgage, a company that specialised in making sub-prime loans. Lehman also bought Aurora Loan Services, another lender that specialized in loans made to borrowers without full documentation. In the first half of 2007, Aurora was originating more than $3bn a month of such loans.
Why was Lehman buying these firms? Lehman’s trick was to repackage mortgage loans into bonds. As the housing market strengthened the strategy looked robust. The company reported record earnings in 2005, 2006 and 2007. Lehman’s shareholders reaped a 17-fold increase from 1994 to its peak in February 2007. But the whole lot was built on quicksand: dodgy mortgages that could never and would never be repaid.
Before the credit crunch, though, Lehman Brothers bore witness to an altogether more devastating event in the form of the 9/11 attacks on New York. While it did not suffer as badly as bond trading firm Cantor Fitzgerald, with its shocking 658 fatalities, the Lehman Brother offices were directly adjacent to the World Trade Center towers. Lehman’s headquarters suffered massive damage and its lobby was used as a morgue. For Lehman Brothers, though, work went on, and by Wednesday 12 September, the firm was open for business. The company even managed to post near-record results for the month.
But the company’s decline was viciously swift. In February 2008 Lehman was worth $42bn, with total assets of $639bn, but it would soon be worth nothing. Fuld tried to hold off the inevitable with bold statements of intent and typically confrontational rebuttals to questioning journalists, but it was hopeless. On 15 September 2008, Lehman Brothers Holdings filed for Chapter 11 bankruptcy protection. Its bankruptcy filing listed debts of $613bn, and named banks from Tokyo, Hong Kong, New York, Singapore, Taipei and elsewhere as unsecured creditors owed hundreds of millions of dollars.
On 6 October 2008, Fuld was requested to testify before the US House Committee on Oversight and Government Reform on Capitol Hill. It wanted to know what went wrong. Fuld was unapologetic. While admitting he felt “horrible about what happened”, he set about apportioning blame. “Ultimately what happened to Lehman Brothers was caused by a lack of confidence,” he said.
“The second issue I want to discuss is naked short selling, which I believe contributed to both the collapse of Bear Stearns and Lehman Brothers.… The final issue I will address is the changed landscape of our financial system and regulatory regime”. He added, “Not that anyone on this committee cares about this but I wake up every single night wondering what I could have done differently”. Fuld reckoned his decisions were “prudent and appropriate” given the information he had at the time. In other words, it was not his fault.
To many on Wall Street, not least because of his long tenure at the company, Fuld was Lehman Brothers personified. Without him, it would not have become a global giant, they said. Admirers described him as an “unbelievable competitor”. While some in the media claimed he was “obstinate, determined and accountable”, others called him “aggressive, confrontational, blunt”.
While the case against Dick Fuld is clear, he was not the only person at fault. There were other factors that came into play above and beyond the bank’s toxic assets. It is worth mentioning Hank Paulson, the 74th US Treasury Secretary and a long-time adversary of Fuld. The two were competitors for more than 20 years while Paulson was a managing partner at Goldman Sachs. Could Paulson, as Treasury Secretary, have stepped in to save Lehman Brothers and Fuld? For whatever reason, he chose not to. Others implicated in the fall of Lehman Brothers include the 75th US Treasury Secretary Timothy Geithner. The former president of the Federal Reserve Bank of New York, Geithner was initially vociferous in supporting the government’s refusal to bail out the firm, according to people involved in various meetings at the time.
Since Geithner became the Treasury Secretary, the Obama administration has attempted to put some distance between him and Paulson, saying that Geithner did indeed press to save the firm from bankruptcy, but that he was a “lone voice” and was overruled by Paulson and Ben Bernanke, the Federal Reserve chairman. Andrew Ross Sorkin, writing in the New York Times on 25 November 2008, said, “Many executives suggest it may be a bit of revisionist history.”
In Ken Auletta’s 1987 book Greed and Glory on Wall Street, Dick Fuld is described as “someone who spent so much time in front of his green screen or making rat-tat-tat decisions that he was no longer human”. Fuld was big on references to warfare, seeing Lehman Brothers somehow as being at war with the competition. “Every day is a battle,” he said, adding that staff should always “think about the firm, do the right thing, protect your client, protect the firm, be in it, be a good team member”.
As if to back this up, Fuld ended the practice of casual dress at Lehman Brothers. “If you dress sloppy, you think sloppy,” he said, and he was particularly pleased one time when a journalist remarked that he could spot Lehman Brothers employees by their attire. The women dressed conservatively and the men almost exclusively in white or blue shirts and ties. The employees were the troops, in their uniforms, and Fuld was the leader.
The most fascinating insight into Fuld comes from Andrew Gowers, a former editor of the London Financial Times, who in June 2006 joined Lehman Brothers in London as head of corporate communications. In a remarkable account of the final days of Lehman Brothers, published in the Sunday Times on 14 December 2008, Gowers cast a light on the culture of Lehman Brothers and the psyche of its boss. “To say he was surrounded with a cult of personality would be an understatement,” said Gowers.
He called Fuld “almost unbearably intense”, and said he inspired great loyalty and fear. “Those closest to him slaved like courtiers to a medieval monarch,” Gowers said, “second-guessing his moods and predilections, fretting over minute details of his schedule down to the flower arrangements and insulating him from trouble—from almost anything he might not want to hear.” How does a CEO run a business hearing only good news?
This culture would be Fuld’s undoing. It meant that no one would, or could, challenge him. And while this might not have mattered in the 55 quarters of unbroken profit, Gowers said it bred “a fatal complacency”.
Fuld was aware that trouble was brewing back in January 2007. During a press briefing at the World Economic Forum, in the Swiss mountain resort of Davos, he told assembled newspaper editors “this could be the year when the markets crack’. If only he had trusted his own prescience. Fuld mentioned potential trouble in the US housing market, the problem of the excesses of leveraged finance and the danger of spiralling oil prices—and the explosive combination of all three.
He told the editors that as a result of these potential problems, Lehman Brothers had become more cautious and “taken a bit of money off the table”. But Gowers says this talk was completely at odds with the reality of how Lehman Brothers was being run. “In truth Fuld had become insulated from the day-to-day realities of the firm and had increasingly delegated operational authority to his number two, a long-standing associate named Joe Gregory,” he said.
The problem with this strategy, said Gowers, was that Gregory was not a detail man or a risk manager. In fact, he added, Gregory was actively urging divisional managers to place even more aggressive bets in surging asset markets such as the mortgage business and commercial real estate. In one Lehman-led deal in June 2007, it bid $15bn for America’s biggest apartment company—a deal signed off by the entire executive committee and subsequently described as “the worst investment Lehman ever made”.
A high-risk deal that was destined to fail: but the board simply had no other options—the Titanic was heading for the iceberg, so Lehman pushed up the engines to full throttle. Gowers characterised the corporate governance structure at Lehman as almost pre-programmed to fail: an overmighty CEO, a top lieutenant eager to please and hungry for risk, an executive team not noted for healthy debate and a power struggle between two key players. Furthermore, the board of directors was packed with non-executives of a certain age and woefully lacking in banking expertise. It was a toxic combination. The man in the middle was Dick Fuld.
