Group Presentation on the events surrounding Lehman Brothers. An insight into the rules of corporate governance rules and bailout comparison between USA and UK.

1. Lehman Brothers
Scandal
Emil Artykbaev
Zhongren Chen
Jennie Nguyen
Vanish Patel
Sijan Thapa

2. Contents
• Introduction to Corporate Governance
• Governance Theories
• Lehman Brothers Profile
• Why it is a scandal
• Regulations prior to scandal
• Regulation changes in light of the collapse
• Effect to the financial stock markets
• Bailout comparison and governance relationship
• Conlusion
• Questions

3. Introduction
• Corporate governance is the system by which
companies are directed and controlled.
• Corporate Governance parties:
a) Shareholders – those that own the company
b) Directors – Guardians of the Company’s assets
for the Shareholders
c) Managers who use the Company’s assets

4. Four pillars of Corporate
Governance:
• Ensure that management is accountable
Accountability to the Board
• Ensure that the Board is accountable to
shareholders
• Protect Shareholders rights
Fairness • Treat all shareholders including
minorities, equitably
• Ensure timely, accurate disclosure
on all material matters, including
Transparency the financial
situation, performance, ownership
and corporate governance
• Procedures and structures are in
Independence place so as to minimize, or avoid
completely conflicts of interest

5. Corporate Governance Theories:

6. Lehman Brothers
• Founded 1850
• Industry: investment service
• Headquartered in New York City, US
• Three segments are Capital Markets, Investment
Banking and Investment Management
• Auditor: Ernst & Young
• Before bankruptcy: was the 4th largest investment
bank in US
• Bankruptcy protection: September 15,2008
• November 16, 2010: US bankruptcy court stated
LBHI directly return $50b plus interest to BOA
within 2 weeks

7. Lehman Brothers
• Before bankruptcy: was the 4th largest investment bank in US
• Bankruptcy protection: September 15,2008
• November 16, 2010: US bankruptcy court stated LBHI directly
return $50b plus interest to BOA within 2 weeks

10. Why it was a scandal?
• In July 2008: an overdraft of $65b in one of Lehman accounts.
• Accounting manipulation: used device called “Repo 105” to
manipulate the financial accounts and made it looks healthier
than it was.
• Hiding the truth about the amount of their losses to the public
Cause of collapse
• Collapse of the Mortgage Backed Securities
• The loss of potential investors
• Rejection for bailout from US treasury, leading to negative
market sentiment
• Negative knock on effect

12. Regulations before - Glass Steagall Act
• Stiglitz (2010) argues that markets fail to produce efficient
outcomes due to important agency problems and
externalities.
• The Glass-Steagall Act was the “last line of defense” against
excessively risky and unjustified behavior banks.
• Its repeal ended separation of investment and commercial
sides, and created even larger banks that were “too big too
fail”.
• The temptation for banks to use the commercial side to
engage in proprietary trading is too great (Stiglitz,2010) due to
serious conflicts of interest.

14. Regulations before – Basel I
• Created requirements for banks for capital retention
• Minimum 8% of risk weight assets
• Problems:
1. Conflict of Interest created from auditing and risk
assessment
2. Systematic risk and strong interbank
connections/internal practices
• However, there were many flaws which lead to the
creation of Basel II due to lack of diversification, focusing
only on credit risks as opposed to all risks and over
simplifying calculations

15. Regulations before – Basel II
• Objectives:
—Create standards and regulations on
how much capital financial
institutions must have put aside.
—Based on three pillars
1. Minimum capital is the
technical, quantitative heart of the accord.
Banks must hold capital against 8% of their
assets, after adjusting their assets for risk

16. Basel II (continued)
2. Supervisor review is the process whereby national
regulators ensure their home country banks are
following the rules. If minimum capital is the
rulebook, the second pillar is the referee system
3. Market discipline is based on enhanced disclosure of
risk. Under Basel II, banks may use their own internal
models (and gain lower capital requirements) but the
price of this is transparency
Criticisms
Fixed many of Basel I’s problems but became too complex
for defining risks, and the approaches for each risk. Pushed
for more transparency and policies to accommodate
different cultures

17. Regulations after - Basel III
• Objectives:
• Response to the deficiencies in financial regulation
revealed by the financial crisis in 2008.
• Continue to raise capital requirements for banks.
• Requirements:
• Tier 1 capital requirement ratio will increase from 4.0%
to 6.0%.
• The required ratio of equity to risk-weighted assets
will rise from 2.0% to 4.5%.

18. Criticism of Basel III
• Likely to create tighter credit conditions for small
and medium-sized firms, and for start-up
businesses
• Non-bank financial institutions, such as
investment banks and hedge funds, will play an
increasingly active role, as the Basel Committee’s
proposals do not concern this increasingly
important sector of the financial system

19. Effect on stock markets
• Reduced global stock market values by “$10 trillion in
market capitalisation”
• Intensified the downturn that started in late 2007 created
from the subprime mortgage
• Source : Investopedia
• Further regulation changes are said to be the ring-fencing
of consumer and investment branches of the banking
sector. However this can have major implications on the
wider banking sector for example, the United Kingdom

21. Bailout comparison
• The US Federal Reserve created Troubled Asset Relief Program
(TARP) to purchase the toxic assets of mortgage backed
securities
• Much like quantitative easing, it increases the cash flow for
banks so they can increase lending
• USA TARP = $700bn in assistance, but now $475bn
• UK Bailout = £1.16tr at peak but £456bn (Sept. 2011)
• Both countries have stakes in companies and banks, such as
RBS, Chrysler, AIG and Northern Rock.
• Agency theory problem
• Stakeholder theory
• Turnbull report connection

22. Conclusion
• Lehman Scandal primarily due to subprime mortgages due to
taking on questionable borrowers
• Risk management was the main cause created by all banks
• Effects could have been lowered if Lehman Brothers were
given assistance
• Need to further regulations, after much deregulation in the
past decade
• Basel III is a step forward in creating non-toxic balance sheets
• Maybe there is a requirement to have Glass Steagall Act
reintroduced, as it is risk management like the Turnbull Report
(1999)