Too Big to Fail [142]
Shaun Butler, the head of investor relations, looked over at his boss. “Are you ready?”
“Yeah,” answered Fuld, faintly growling.
As the call was engaged, he slowly lowered his head and launched into his script, intoning deliberately: “In light of these last two days, this morning we prereleased our quarterly results. We are also announcing several important financial and operating changes that amount to a significant repositioning of the firm, including aggressively reducing our exposure to both commercial real estate and residential real estate assets.
“These will accomplish a substantial de-risking of our balance sheet and reinforce the emphasis on our client-focused businesses. They are also meant to mitigate the potential for future write-downs, and to allow the firm to return to profitability and strengthen our ability to earn appropriate risk-unadjusted equity returns.”
The executive summary: Lehman Brothers will be just fine. We appreciate your concern, but we have the situation under control.
“This firm has a history [of facing adversity] and delivering,” he continued. “We have a long track record of pulling together when times are tough and then taking advantage of global opportunities…. We are on the right track to put these last two quarters behind us.”
Fuld now handed off to his CFO, Lowitt, who, in his clipped South African accent, outlined what Lehman billed as its “key strategic initiatives.” The firm would seek to sell a 55 percent stake in its money-management business, which included Neuberger Berman, and it would spin off much of its commercial real estate holdings—otherwise known as “the bad stuff.”
Shifting as much as $30 billion of Lehman’s commercial real estate holdings, including its investments in Archstone-Smith, the owner of 360 high-end apartment buildings, and SunCal, a property developer, was no small undertaking. One thing that would be changing immediately was how Lehman valued its real estate assets.
Lowitt continued: “The real estate held-for-sale portfolio, consisting of assets across the capital structure, is booked at lower of cost or market as we take write-downs on this book, but do not reflect market value gains until a sale event occurs. REI Global”—the new entity’s infelicitous acronym—“will account for its assets on a held-to-maturity basis and will be able to manage the assets without the pressure of marked-to-market volatility. REI Global will not be forced to sell assets below what it believes to be their intrinsic value.”
On the surface the spin-off appeared to be a clean, elegant solution. It removed the troubled assets from Lehman’s balance sheet, leaving a stronger firm, just as Fuld had indicated that it would. But what was left unsaid was precisely what had concerned the bankers at the meeting with JP Morgan and Citi the night before: The new company would likely need to be funded. Where was Lehman going to come up with the money to accomplish that when it needed to retain as much capital as possible?
Less than half a mile away, in his office near Grand Central terminal, David Einhorn huddled with his team of analysts listening to the Lehman earnings call on a speakerphone. He could not believe what he was hearing. They were still trying to avoid writing this garbage—the toxic stuff—down. What did they hope to accomplish? It was clear to him that the assets in question were worth much less than what Lehman was claiming.
“There’s an admission right in the press release that they’re not writing these things down!” Einhorn told his analysts. He zeroed in on a sentence in the company’s statement: “‘REI Global will be able to manage the assets without the pressure of mark-to-market volatility.’” Instead, Lehman maintained, by spinning off the real estate assets they’d be able