Lehman Posts Loss and Plans to Raise Capital

Richard S. Fuld tried for months to persuade Wall Street that Lehman Brothers, the investment bank he runs, could weather the storm in the financial markets. But by last Wednesday his time had run out: Confidence in Lehman seemed to be slipping away.

In the days that followed Mr. Fuld scrambled to secure a financial lifeline for his hard-pressed investment bank and avert the kind of panic that brought down Bear Stearns. The result, announced Monday morning, was $6 billion in fresh capital from an array of blue-chip investors, enough to shore up Lehman, at least for now.

But the news also came with a stunning admission: Lehman Brothers, whose veteran executives pride themselves on their ability to manage risks, lost a staggering $2.8 billion in the second quarter, its first deficit since going public in 1994. The loss far exceeded even the most pessimistic forecasts and reflected a twin blow of soured assets and bad trades.

What is more, hedges that Lehman had put in place to cushion potential losses from mortgage investments went wrong, adding to the red ink, rather than minimizing it. The news heightened fears that other banks might run into more trouble.

The developments mark a stark reversal of fortune for Lehman and for Mr. Fuld, its longtime chairman and chief executive. Mr. Fuld earned accolades — and more than $40 million in 2007 — for steering Lehman through tumultuous markets last year and, two months ago, he proclaimed that “the worst is over” in the markets.

Instead, a crisis of confidence again threatened to engulf his firm. Shares of Lehman slid week after week and doubts grew about whether bank, one of the smallest players on Wall Street, could survive as an independent firm.

The debate over Lehman’s future is unlikely to be put to rest by the infusion of new capital, which comes after Lehman raised $8 billion this year. The stock market rendered a harsh judgment on the latest deal on Monday. Shares of Lehman fell $2.81, to $29.48, bringing its loss for the last year to 60 percent.

Erin Callan, Lehman’s chief financial officer, said Monday that the bank had moved aggressively to reduce its leverage, which some investors feared might undermine the firm. Since April, Lehman has sold about $130 billion in assets, reducing its exposure to mortgages and loans used to finance leveraged buyouts.

To shore up its finances further, the bank will sell $4 billion of common stock priced at $28 a share and $2 billion of preferred stock that will covert into common stock in three years. Buyers include the state pension fund of New Jersey and C. V. Starr & Company, the investment fund by Maurice R. Greenberg, the former head of the American International Group. Investors in the deal said they were reassured by Lehman’s actions.

“I think they’ve done a pretty good job conservatively marking down the things that should be marked down,” Mr. Greenberg told CNBC.

He said further markdowns were possible, but that would not “harm the company in any great degree.”

But Lehman may not be out of the woods. The firm has been engaged in a public battle with short-sellers who have questioned the way Lehman values assets that are difficult to trade, like mortgages and private equity stakes. Moody’s Investors Service downgraded its outlook on Lehman to negative from stable on Monday. Fitch Ratings cut Lehman’s credit rating.

And Lehman’s savvy hedging activities, which had helped the firm avoid the big blowups that rocked many other banks in late 2007 and early 2008, failed to work during the second quarter.

While the firm took a smaller total, or gross write down in the second quarter — $4 billion, compared to $5.3 billion in the first quarter — its hedging, especially hedges on commercial mortgage related positions, failed. That meant Lehman wrote down $4.1 billion in the most recent period compared with only $2.4 billion for the first quarter.

Mr. Fuld has piloted Lehman Brothers through rough waters before. But he also helped transform the bank into a player in the mortgage market, a position that cast doubt over Lehman when the mortgage crisis erupted.

Those concerns came to a head last week. Confronting the gaping second quarter loss, a team of seven executives, led by Thomas A. Russo, Lehman’s chief legal officer, left at midnight on a Saturday to fly to Asia. They met with investors in South Korea who had expressed an interest in buying a stake in the bank.

But as Lehman’s stock price plummeted anew, falling 8 percent last Monday and then 9.5 percent on Tuesday, it became clear that Lehman did not have time to negotiate such a deal. Executives in the United States, including Mr. Fuld, were courting investors at home.

Ms. Callan, also courting investors, said in an interview last week that she believed the situation would improve once Lehman released its earnings.

“I feel good that when investors are able to hear our story at earnings, the market will react well,” she said.

By Wednesday night, however, Lehman decided to announce its dismal results ahead of schedule in an effort to quell speculation about its financial health.

A marathon weekend followed. Mr. Fuld and his team prepared the earnings statement on Saturday, returned early Sunday, broke for a sandwich, and were back again at 5 a.m. Monday.

The long weekend was not without a bit of levity. On Saturday, Joseph M. Gregory, Lehman’s president and chief operating officer, arrived at the office in an unfashionable green suit.

“What are you wearing?” Mr. Fuld bellowed.

Mr. Fuld then marched Mr. Gregory from office to office on the 31st floor to show off the outfit. “It was an attempt to make people laugh,” one Lehman executive said.

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Lehman Posts Loss and Plans to Raise Capital