From the August 2009 issue of Research Magazine • Subscribe!

The High Cost of Going Bankrupt

A conversation at Bombay Palace with Martha Solinger, co-general counsel, Lehman Brothers Holdings.

Who: Martha Solinger, Co-General Counsel, Lehman Brothers Holdings

Where: Bombay Palace, 30 West 52nd Street, New York

When: June 25, 2009

On the Menu: Chicken curry and financial catastrophe
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Last August, Martha Solinger, then head litigator, insurance and intellectual property, at Lehman, kindly agreed to chat about career prospects with a family friend who had just graduated from the University of Michigan, which happens to be her own alma mater. By the time he came to New York a week later, there were no job openings at Lehman. In fact, the financial giant with a truly global reach and a 160-year history no longer existed.

Few people were more surprised by what happened than Lehman's senior management. "At the start of that week, the thought of bankruptcy never occurred to me or to any of my colleagues," says Solinger. It did seem a remote possibility even as late as September 10, 2008, when Lehman reported a loss of nearly $4 billion.

By the middle of that week, as the company's share price continued to plummet, it became clear that some assets would have to be sold off, such as the asset-management business Neuberger Berman. As the week drew to a close, it looked like the entire company would be taken over by Bank of America, Barclays or another institution. However, by Sunday, when no deal could be arranged, bankruptcy suddenly had become the only option.

There we had it, in a blink of an eye, the largest bankruptcy in the annals of economic history, involving a mind-boggling $613 billion in debt.

Could Be Even Worse

Needless to say, in the early days of what Solinger calls "the new world," there was tremendous confusion and little understanding of what was going on. Employees didn't know whether they would be paid and whether they still had their health insurance and other benefits. Solinger called in her staff and encouraged them to wait for the smoke to clear. Other department heads, equally at sea, suggested to their employees to pack up and go home.

Although some people who lost their jobs in the bankruptcy are still unemployed, overall job losses were not as severe as could have been expected, says Solinger who after 21 years at Lehman had numerous friends and long-time associates at the company. Barclays bought Lehman's core business along with its global headquarters in Manhattan. Although a number of brokers ended up leaving the new parent -- and eventually many positions were cut as well -- at least initially around 10,000 U.S.-based jobs were saved. Some 500 former Lehman people currently work with Solinger for the Lehman Brothers Holdings bankruptcy estate, managing the company's remaining assets and supervising the bankruptcy.

During the fateful week in mid-September, Solinger and her staff were not directly involved in the last-ditch effort to save Lehman. To relieve nervous tension, some employees set up a roulette board on the wall with the names of potential rescuers or future owners. When Richard Fuld, Lehman chairman, was called to testify to Congress a week after the bankruptcy, Solinger began working with him on his testimony, which became her first post-bankruptcy assignment. Since then, for almost a year, she has been sharing the duties of the Lehman estate's chief legal counsel.

Legal Complications

She'll be doing this for a lot longer.

"It is a measure of the sheer size of this bankruptcy that even now, almost a year after the event, it is still difficult to see where this thing is going and what shape it will take," admits Solinger.

Eventually, the Holdings' remaining assets will have to be sold off to satisfy the claims of its creditors -- who are currently Solinger's ultimate employers. So far, she says, there is a broad agreement among creditors that liquidating those assets in the current market environment would mean severely underpricing them. By the time this article goes to press, the judge will set the deadline by which all creditors will have to submit claims. Those claims will have to be evaluated and then there will be gradual liquidation of assets to pay off the claims.

That's the future. But this doesn't mean that the past goes unscrutinized, especially the week of the bankruptcy. In June, Lehman received permission from the bankruptcy judge to investigate whether it got a fair price for its broker-dealer operation when it had to hastily sell it to Barclays. Panicked selling rarely benefits the seller.

Of the five broad asset categories Lehman still holds, many are relatively straightforward and managing, evaluating and selling them will probably be a question of time -- and timing. Such assets include commercial and residential real estate investments, proprietary and private investments and loans. Where major legal, financial and practical questions have already arisen, however, with derivatives contracts.

As it sets out to regulate over-the-counter derivatives contracts, the government will have its work cut out for it. If anybody doubts it, they should ask Solinger and take a look at complex disputes embroiling Lehman with its counterparties. For example, based on derivatives contract provisions, some counterparties believe they have the right not to make current payments in the event of a bankruptcy of one counterparty, but bankruptcy law doesn't support that.

"The Bankruptcy Code should trump the provisions of a commercial contract," insists Solinger. "But it will have to be tested by the courts."

Lehman is not only the largest bankruptcy on record, but the first major bankruptcy of the global age. Lehman was a unified entity, Solinger explains, but it operated in dozens of countries through a large number of branches and subsidiaries, each set up under local rules and regulations, and each now being wound down in accordance with local bankruptcy laws. It has been an extremely complex and costly process.

"I understand that it is impossible to pass unified international laws," says Solinger. "But companies doing business abroad, in many locations, will have to take this into consideration when they set up their foreign subsidiaries."

Line in the Sand

Disasters will inevitably happen. It is crucial, however, that no disaster goes to waste, without providing lessons that could help to avoid similar disasters in the future or teach us how to deal with them. Or, as John Kenneth Galbraith once said, the only good thing about the Great Depression was that it warned us about another.

Are there lessons in the sorry saga of Lehman bankruptcy?

"I think the government already has learned a lot," says Solinger. "Ben Bernanke and Hank Paulson probably felt that they had to draw a line in the sand and that the line would have to be Lehman. Right after Lehman failed, however, and it became clear what impact it was having on financial markets, AIG was promptly bailed out."

There is a note of bitterness in Solinger's voice. "Government officials have said that there was no way to save Lehman. It rings a little hollow, given that [a] way to save everyone else was eventually found."

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Alexei Bayer runs KAFAN FX Information Services, an economic consulting firm in New York; reach him at abayer@kafanfx.com. His monthly "Global Economy" column in Research has received an excellence award from the New York State Society of Certified Public Accountants for the past six years, 2004-2009.




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