Things that refuse to die include Dracula, fungus, Jason from the “Friday the 13th” movies, zombies — and Lehman Brothers.
You would probably like to forget Lehman in the wake ofits collapse in 2008, an event that set off a near Armageddon in the financial world. Lehman filed for bankruptcy protection and soon afterward its investment banking arm was sold to Barclays of Britain for $250 million. That same week, Bank of America bought Merrill Lynch and most likely overpaid by tens of billions.
Like all good horror villains, Lehman still exists, sort of. The Lehman Brothers estate is in its fourth year of administration in Federal Bankruptcy Court in Manhattan. It’s the largest bankruptcy in history, involving the liquidation of $65 billion in assets. As of October, the estate had made substantial progress settling almost $100 billion in claims.
Yet Lehman still has about $40 billion in assets to unwind. Not only is Lehman the largest bankruptcy in history, it is possibly the most complex, with multiple proceedings, including bankruptcies in Britain, the Cayman Islands, and Hong Kong. The Lehman estate has paid well over $1 billion in fees and expenses.
The Lehman estate is even scheduled to exit bankruptcy soon, but don’t think this will end the story. Lehman is looking to get bigger.
The focus of Lehman’s efforts is Archstone-Smith, the same entity that played a major role in bringing down Lehman. In 2007, Lehman’s real estate geniuses partnered with Tishman Speyer to pay $22.2 billion for Archstone-Smith, an apartment owner. The deal quickly went sour, leaving billions of debt on Lehman’s balance sheet that it was unable to sell.
While the exact reasons for Lehman’s demise remain murky, there is little doubt that its huge amount of mortgage debt from the Archstone acquisition and other deals contributed to the market’s loss of confidence in the firm.
After a series of defaults and restructurings, the Lehman estate now owns 47 percent of Archstone. The remaining 53 percent is held by Bank of America and Barclays , two lenders in the initial acquisition who foreclosed on their interest.
The three co-owners are in a fight over the future of Archstone. Not surprisingly, the banks want to get rid of their interest as soon as possible. Real estate isn’t their business, and frankly they could use the money.
The Lehman estate wants to hold on to the stake for an initial public offering or future sale in the hope that Lehman can reap greater value. Lehman successfully pursued this strategy with Neuberger Berman, the asset manager, refusing to sell its entire stake in the crisis of 2008 and waiting until 2011 to sell for about $1.5 billion.
The three tried unsuccessfully to sell Archstone last summer, but no bid was high enough. In early December, the banks went their separate way from Lehman and agreed to sell about half their interest, or 26.5 percent, of Archstone to Equity Residential, a company controlled by Sam Zell, for $1.35 billion. In doing so, the banks rejected offers from two other parties to buy their entire stake for reasons that are unknown. Mr. Zell, you may remember, is the man who just before the credit bubble’s end took the Tribune Company private in a deal that put $13 billion in debt on the newspaper company, leading to its bankruptcy less than a year later.
Wall Street’s deal makers have made any parting complicated, believe it or not. Lehman has a right of first refusal to purchase any shares of Archstone sold by the banks. Lehman has until Jan 23. to exercise that right.
The banks, however, also negotiated an agreement for Equity Residential to buy their remaining 26.5 percent stake if Lehman does elect to purchase the first 26.5 percent stake they are offering. Lehman will again have a right of first refusal for the remaining stake, but the net effect will be to cap the amount that Mr. Zell will have to pay and limit his interest in the company to only a quarter for now.
Last Friday, the bankruptcy court refused to enjoin Equity Residential’s effort to purchase Archstone through this dual right of refusal, instead stating that Lehman could sue for damages. This forced Lehman to make its decision about its right to first refusal. Lehman is going to court on Wednesday for approval to exercise that right.
The expectation is that Lehman will elect to buy the stake, increasing its ownership of Archstone to 73.5 percent. But to purchase the second stake, it would have to spend at least $2.7 billion to get a blocking position, something that it may not want to do.
Equity Residential’s strategy is clear: Lehman may be buying now, but it will eventually dispose of its Archstone stake. Equity Residential wants a toehold that will allow it to acquire all of Archstone. Splitting up the interests this way is a means to push Lehman to forgo purchasing all of Archstone and pay a lower price for this interest. In fighting for this position in Archstone, Equity Residential, and Mr. Zell are even tossing around the words “negative control,” a phrase uttered by Gordon Gekko in the movie “Wall Street.”
Lehman appears willing to risk holding almost 75 percent of Archstone for a few more years to reap a higher return. And given that it has billions of cash from liquidating its assets, Lehman can sit back and do so. The firm is betting that the hot market for apartments will not cool and that it is not purchasing at the top of the market. This has been a problem before for Lehman.
This Wall Street tale has a wider lesson. Lehman’s investment is setting it up to exist for several more years at least. There is a real chance that we will have Lehman around a decade after its bankruptcy.
The quick resolution of these complex financial institutions is just not going to happen, as we will see again with the smaller MF Global. The related question is whether we want to allow them to get even bigger during bankruptcy, as Lehman is doing.
Like these institutions, Wall Street deal makers are hard to get rid of. Mr. Zell is riding high even after the Tribune debacle. Lehman’s team appears to have done well salvaging the Archstone investment, and clearly wants to stick around for more.
On Wall Street, history’s worst deals and deal makers often get a second chance as each bankruptcy or failure resets the asset price. The deal makers who failed so miserably during the financial crisis have another opportunity to succeed. On Wall Street, unlike a horror movie, not everyone meets a rather horrific demise.