Lehman Brothers Holdings used accounting gimmicks and had been insolvent for weeks before it filed for bankruptcy in September 2008, but there was not extensive wrongdoing, a court-appointed examiner has found.
In a 2,200-page report made public yesterday, examiner Anton Valukas, chairman of law firm Jenner and Block, reported the results of his more than year-long investigation into who could be blamed for the firm's collapse, which deepened the global financial crisis.
The report said the firm used off-balance-sheet transactions known as Repo 105s to understate its leverage in late 2007 and 2008.
The examiner said that while some of Lehman's management's decisions "can be questioned in retrospect" and the firm's valuation procedures for its assets "may have been wanting", those responsible for the firm had used their business judgment and were largely not liable for the firm's collapse.
However, he said that Lehman, which is now liquidating for the benefit of creditors, could have claims against former Lehman chief executive Dick Fuld and chief financial officers Chris O'Meara, Erin Callan and Ian Lowitt for negligence or breach of fiduciary duty.
The examiner said there was also sufficient evidence to support a possible claim that the firm's auditor, Ernst and Young, had been "negligent" and that Lehman could pursue claims against the firm for "professional malpractice".
He did not find that Lehman's directors had explicitly violated their fiduciary duty, but said that Wall Street paid a large role in causing an acute liquidity crisis at Lehman in its final days.
The examiner suggested Lehman may also be able to pursue claims against banks like JPMorgan and Citigroup for taking some $16 billion in collateral out of Lehman's coffers as it struggled to stay afloat.
The long-awaited report contains explosive allegations about a gimmick, known as "Repo 105", that was used for the sole purpose of manipulating Lehman's books, contributing to the firm's demise.
The examiner concluded that the gimmick, which dated back to 2001 and was used without telling investors or regulators, gave the appearance that Lehman was reducing its overall leverage levels in 2008 when in reality it was not. Lehman used the gimmick to temporarily remove $50 billion of assets from its balance sheet in 2008, according to the report.
A lawyer for Lehman's former chief executive said in a statement yesterday that Mr Fuld "did not know what those transactions were".
"He didn't structure them or negotiate them, nor was he aware of their accounting treatment," lawyer Patricia Hynes said, noting that the firm's outside auditor and legal counsel had not raised any concerns about the transactions with him.
The examiner also said a claim could be based on Ernst and Young's failure to abide by professional standards relating to communications with Lehman's audit committee. Claims could also be based on shortcomings in Ernst and Young's probe into a whistleblower claim and reviews of Lehman's public filings.
Ernst and Young said in a statement: "Our last audit of the company was for the fiscal year ending November 30, 2007. Our opinion indicated that Lehman's financial statements for that year were fairly presented in accordance with Generally Accepted Accounting Principles (GAAP), and we remain of that view."
A lawyer for Ms Callan declined to comment, and attorneys for Mr Lowitt and Mr O'Meara were not immediately available.
Questions about Lehman's accounting had been raised in the months before its bankruptcy, notably by hedge fund manager David Einhorn, who thought the bank was not taking proper write-downs.
The examiner's report could provide ammunition for future lawsuits that would let Lehman recover more funds for creditors.
Lehman's lead bankruptcy lawyer, Harvey Miller, said in court yesterday that the unsealing of the report came at an "opportune time" as the company is in the process of coming up with a reorganisation plan that will detail how the bank will complete its bankruptcy.
The examiner said Lehman could be found to have been insolvent as far back as September 2nd, 2008, even though it did not file for bankruptcy until September 15th.
"Lehman's small margin of equity relative to assets meant it did not need much loss in asset value to render it insolvent," the examiner wrote, adding that Lehman had an unreasonably small amount of capital to be operating its business beginning in the third quarter of 2008.
During that period, Lehman entered into new and more onerous collateral agreements with rival Wall Street banks - agreements that the examiner suggested could be challenged because Lehman was technically insolvent.
Agencies