Lehman Business Case Study

1) If I was an investor, I would evaluate the riskiness by evaluating the balance sheet of the company in a monthly basis and not in a quarterly basis, to better understand what Lehman was doing and to see if there were any suspicious transactions. Also, if it would be possible, I would calculate the leverage level without taking into account the transactions made by REPO 105, to have a better picture of the company and his actual leverage and I would try to figure out how they manage to reach all the expectations

2) Lehman use the REPO 105 transactions for the following reasons :
- To reduce its leverage by reducing debt and remaining equity
- To reach the expectations of the investors and directors
- To mislead a picture of the bank, being more attractive to the shareholders and rating agencies
- To present a better balance sheet (less assets, less liabilities and more cash)

Obviously I do not account of how Lehman accounted for the transactions, because, from my point of view, it was a very risky practice. If the market would be aware about REPO 105 they would be in bankrupt long before, since any entity would agree to lend them money. Also this practice was a non-stop creation of debt; they paid debts with loaned money, soon or late the bubble would explode. I would affront the consequences of the market and tried to find another solution to avoid the bankruptcy.

3) In my opinion there were 3 different institutions that were at fault for Lehman’s use of REPO 105:
- E&Y: they approve the policy where Lehman’s ask for the use of Repo 105 and they did not help Lehman to draft it. They should wonder about the consequences of a abusive use of the REPO 105 and they should make them stop once Lehman reach the limit agreed. Also they should try to avoid the use of REPO 105 to modify the balance sheet
- Rating Agencies: they did not rate Lehman negatively since it reaches all their expectations (asset reduction, deleveraging, and improvements in gross and net leverage ratios). They should investigate and ask some questions about how they reach their objectives, since Lehman did not report the use of the Repo 105, instead of assuming that everything is fine.
- Other Banks: They were doing the same practices, Lehman was required to use REPO 105 to compete in the market. To avoid that, the government should apply some new regulations.