The Weekend That Changed Wall Street

know what she’s doing?”
As a woman in the men’s club of finance, I had some sympathy for Callan. Women always faced this kind of scrutiny, and it wasn’t entirely fair. I was more interested in the substance of Callan’s position and contribution.
Callan was an extremely smart woman, and I always found her very knowledgeable. But there was no question that she was on the defensive after Bear went down.
“Is Lehman next?” I asked her.
“Categorically no,” she said without hesitation. “It’s really rumor. I mean, every time the markets are under pressure, Lehman is supposedly hanging on by its fingernails. We fully anticipated that Monday was going to be a very, very difficult day for us, that we would be a top target, and we had a game plan to address it. But how do you get yourself out of that predicament? It just takes time and patience, proving ourselves in a tough environment.”
I pushed back. “I have a hard time understanding how things could change so fast and furiously for Bear. Can your business really reverse course like that in a forty-eight-hour period, or was that perhaps a situation unique to Bear?”
“I think that will be the lingering question about our industry and our business model,” she said carefully, while insisting that Lehman was sound. Callan didn’t want people to start thinking about dominoes falling.
Callan returned to my show on April 1 to respond to reports that Lehman was looking to raise additional capital. “Good to see you a little sooner than expected,” she said, making a sour face. “Unfortunately, we’re in a market where perception trumps reality.” She went on to make the case that Lehman’s efforts in no way showed desperation.
One person who was not impressed with Callan’s explanations was David Einhorn, the young president of Greenlight Capital, who had become a thorn in Lehman’s side. In April he reported that he was shorting Lehman stock, and he started doing frequent television interviews deriding Lehman. Callan was upset. She felt that Einhorn didn’t fully understand Lehman’s position. When Einhorn asked for a conference call, Callan was wary, fearing a setup. But Fuld wanted her to do it, so she went ahead. The call was a disaster. Einhorn publicly disputed her claims and said that he wasn’t impressed by her poorly prepared answers to his questions.
Einhorn made no secret of his belief that Callan was woefully unqualified—and worse, that she was presenting phony numbers, inflating assets, and burying problems. On May 21, Einhorn made a speech at the prestigious Ira W. Sohn Investment Research Conference, which coincided with the publication of his book, Fooling Some of the People All of the Time.
In his speech, which was by turns fiery and sarcastic, Einhorn pointed out that some entities had made investments that they believed would generate smooth returns, but the investments couldn’t deliver. “The decline in current market values has forced these institutions to make a tough decision,” he said. “Do they follow the rules, take the write-downs, and suffer the consequences whatever they may be? Or worse, do they take the view that they can’t really value the investments in order to avoid writing them down? Or, even worse, do they claim to follow the accounting rules, but simply lie about the values? The turn of the cycle has created some tough choices. Warren Buffett has said, ‘You don’t know who is swimming naked until the tide goes out.’” And clearly, Einhorn believed, the tide had gone out on Lehman Brothers and exposed plenty. He directed particularly scathing criticism toward Callan. Citing their conference call about quarter two results, he jabbed at her, noting, “Erin Callan used the word ‘great’ fourteen times, ‘challenging’ six times, ‘strong’ twenty-four times, and ‘tough’ once. She used the word ‘incredibly’ eight times. I would use ‘incredible’ in a different way to describe the report.”
But then he went in for the kill. “For the last several weeks, Lehman has been complaining about short-sellers,” he said. “Academic research and our experience indicate that when management teams do that, it is a sign that management is attempting to distract investors from serious problems. I think that there is enough evidence to show how Lehman answered the difficult question as to whether to tell the truth and suffer the consequences or not. This raises the question, though, of what incentive do corporate managers have to fully acknowledge bad news in a truthful fashion?
“For the capital markets to function,” he concluded, “companies need to provide investors with accurate information rather than whatever numbers add up to a smooth return. If there is no penalty for misbehavior—and, in fact, such behavior is rewarded with flattering stories in the mainstream press about how to handle a crisis—we will all bear the negative consequences over time.”
Callan was livid—not just because Einhorn was shorting Lehman’s stock, but because he was attacking her so publicly. In an interview with me, she called on the SEC to investigate the predatory tactics of short-sellers like Einhorn. Fuld was also angry. He vowed to “hurt” the shorts.
I wondered how valid Einhorn’s perspective was. I asked Brad Hintz, who had been Lehman’s CFO in the 1990s, putting it to him this way: “Einhorn is basically claiming that what Lehman said in the first quarter is not what it’s saying now with regard to its portfolio. He’s all but said Lehman is deceiving investors. Do you think Dick Fuld and Erin Callan have been as forthright as they might have been?”
“If you’re asking me whether Lehman will win an award for best disclosure, the answer is no,” Hintz replied. “But I don’t think any brokerage firm will get that. Are there numbers gaps? Absolutely. I don’t doubt that. But I think the concerns from the shorts are overdone.” Hintz didn’t believe the risk to Lehman was that severe. “Lehman will not go down. We have the Federal Reserve behind it. By the Fed opening the discount window, it has injected a little bit of courage into the counterparties.