The Bankruptcy of Lehman Brothers: Causes of Failure & Recommendations Going For

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【摘要】The first part of the paper gives a brief introduction about Lehman. The second part of the paper reviews the causes of action that arose from Lehman’s financial condition and failure. The last part of the paper offers solutions and ways to avoid another failure of a giant financial institution.

【关键词】bankruptcy， Repo 105； Financial crisis， Ethical standards in corporations，

Introduction

The failure of lehman brothers in 2008 is the biggest bankruptcy case in the U.S. history， With $639 billion in assets and $619 billion in debt， Lehman's bankruptcy filing was the largest in history， as its assets far surpassed those of previous bankrupt giants such as WorldCom and Enron （Investopedia， 2014）.

causes of the failure

There is no single cause that led to the failure of Lehman Brothers. In this paper， we will discuss the crucial cause： significantly using Repo 105.

How Lehman Used Repo 105 as Sales？

Even though repo 105 is a legal procedure， Lehman used it as follows. First， they bought government bonds from another bank using its Lehman Brothers Special Financing Unit in the United States. Just before the end of the quarter， the US unit transferred bonds to London affiliate， knows as Lehman Brothers International. Then， the London affiliate gave assets to its counterparty and received cash and agreed to buy the assets back at a later time at a higher price， at least 105 percent of the price.

The money that was received was used to cover and pay off a large amount of the liabilities. The reduction in assets and liabilities showed healthier quarterly financial statements and corresponding ratios， appearing much better to regulators， investors， and the general public. At the beginning of the next quarter and with healthy-looking statements， Lehman went on to borrow more at other lending institutions. Only then， Lehman repurchased the securities from the London affiliate at 105 percent of the original price. Having done so， the financial statements would have gone back to the previous inferior position.

recommendations going Forward

Avoiding Unachievable Business Strategy

Lehman decided deliberately to pursue a higher-growth business strategy in 2006.

From the case of Lehman， we can know that it’s wrong for companies to pursue unfeasible business strategy. If a company attempt to achieve this so high goal at any cost， then it is unavoidable to go bankruptcy. The best way for Lehman as well as other big enterprises to go is to forgo the strategy of high growth and pay attention to the company’s public image and integrity of the customers.

Elimination of Dubious Accounting Practices by Holding High Ethical Standards

The most prominent sign is mentioned as the net negative cash flows that Lehman was running three years prior to the crisis， but the balance sheets as well as income statements looked healthy. Although we have mentioned that Repo105 is a legal procure， Lehman used it in an unethical way. The reason for this event is that accounting standards give the chance for immoral accountants， managers and some other workers to use Repo105 in an unethical way. So it’s necessary to modify the accounting standard and regulations to impede the wrongful practices that could jeopardize common people’s wealth.

Conclusion

The collapse of Lehman Brothers did not negatively influence the economy but also on the society without confidence in financial institutions and corporate culture. The whole society’s panic would end up by threatening not only the U.S. financial system but also the global financial system. Therefore， every individual in banking sector， especially the auditors， managers， and rating agencies， should be moral and ethical， which are essential in avoiding this sort of disaster in future.

References：

[1]Bernanke， B. S. （2010， April）. Lessons from the failure of Lehman Brothers.

[2]Lartey， R. （2012， March）. What part did derivative instruments play in the financial crisis of 2007-2008？

[3]Valukas， A. R. （2010， March）. Lehman Brothers Examiner’s Report， Vol 1&2.

[4]Caplan， D. H.， Dutta， S. K.， & Marcinko， D. J. （2012）. Lehman on the Brink of Bankruptcy.

[5]A Case about Aggressive Application of Accounting Standards. Issues In Accounting Education， 27（2）， 441-459. doi：10.2308/iace-50126.