Too Big to Fail

by Andrew Ross Sorkin

  “What are you talking about?” Gregory asked.

  “Me. I’m done. I’m leaving the firm.”

  “I am very disappointed” was Dick Fuld’s characterization of his personal reaction to Lehman’s second-quarter earnings in a report released at 6:30 a.m., Monday, June 9. The loss was $2.8 billion, or $5.12 a share. A conference call was scheduled at 10:00 a.m. to discuss the result, but by then the blood sport was already well under way on CNBC.

  “Dick Fuld is Lehman. Lehman is Dick Fuld,” said George Ball of Sanders Morris Harris Group. “You’ve got a management that wears the corporate logo on its heart…. It’s got to hurt enormously.”

  Fuld and Gregory were watching the coverage in Fuld’s office when David Einhorn of Greenlight Capital appeared on the screen.

  “Are you saying ‘I told you so’ this morning?” the CNBC interviewer asked him.

  “Well, it does seem that a lot of the things I’ve raised over the last while seem to have been borne out by today’s news,” he said, apparently trying to sound as humble as possible, under the circumstances.

  Einhorn discussed his concerns about the extent of SunCal and Archstone’s write-downs, and why they hadn’t come sooner, and then delivered a strongly worded admonition: “It’s time to dispense with the ad-hominem attacks and get down to an analysis of what’s really going on with this business.”

  That afternoon, Charlie Gasparino, a tenacious reporter on CNBC, began hectoring Kerrie Cohen, Lehman’s spokesperson, to confirm a tip he had received that Gregory and Callan were about to be fired. Off the record, Cohen dismissed his tip as a useless rumor.

  But Gasparino, still skeptical, pressed her to go to her boss, Freidheim. “I’ve got it that Joe and Erin are leaving the firm,” he said. “Unless you go on record, I’m going with it.”

  When Gasparino threatens to go on the air with market-moving information—a reporting tactic for extracting information from sources—most executives, however much they might resent it, try to comply. Freidheim didn’t think any personnel changes were imminent, but before he officially denied it, he marched into Fuld’s office.

  “I’m going to have to use my name,” Freidheim told Fuld, making it clear that his own credibility was on the line. “I have to know if you’re even thinking about it.”

  “No,” Fuld replied, “it’s not under consideration.”

  “Well, I’m going to have to talk to Joe,” Freidheim said, “because I need to know he’s not thinking about it, either. I’m not using my name unless I know it can’t happen.”

  “Absolutely not,” Gregory stated when Freidheim put the question to him. “You can tell Gasparino you talked to me, and the answer is no.”

  Keeping the lid on Gasparino was a relatively easy task compared to that of containing the pressure building within the firm. Bankers and traders were alternately restless, nervous, and angry.

  Late that afternoon, Skip McGee forwarded an e-mail to Fuld from Beno”t D’Angelin, once his longtime counterpart—the former co-head of investment banking—in Lehman’s London office; he had left the firm to start a hedge fund. McGee was clearly trying to send Fuld a not-so-subtle hint.

  Many, many bankers have been calling me in the last few days. The mood has become truly awful…and for the first time I am really worried that all the hard work we have put in over the last 6–7 years could unravel very quickly. In my view two things need to happen very quickly.

  1. Some senior managers have to be much less arrogant and internally admit that some major mistakes have been made. Can’t continue to say “We are great and the market doesn’t understand.”

  2. Some changes at senior management need to happen very soon. People are not and WILL not understand that nobody pays for that mess and that it is “business as usual.”

  Fuld read the note somberly and wrote back to McGee with a promise that he’d have lunch with the top investment bankers to give them a chance to air their grievances.

  What Fuld did not know was that a palace revolt was already in the offing. The week before a group of fifteen traders had gone to dinner at the private Links Club, on East Sixty-second Street, right off Madison. The purpose of the dinner was to discuss how Fuld could be pressured into firing Joe Gregory. If Fuld wouldn’t do it, they agreed, they’d threaten to resign en masse.

  Jeff Weiss, the head of financial services banking, was not at the dinner nor was Gerald Donini, but both were patched in for the key discussions on speakerphone. Weiss advised against a confrontation. “Dick is not gonna react well,” he said. “You’re not going to get him to move by trying to corner him. Slow down. Things are moving in the right direction. Let this thing out over the next couple of days.”

  At the executive committee meeting the following morning, Fuld looked exhausted, like a boxer gone one round too far. The fight had not gone out of him, but he knew that he had to try another approach. To keep the firm together, he was going to have to be more conciliatory.

  “There’s a lot of unrest,” he acknowledged. “We haven’t been together. We made some mistakes.” Then he suggested they go around the table and get everyone’s take on the question: How do we restore confidence?

  Everyone was in attendance—Joe Gregory, Tom Russo, Skip McGee, Bart McDade, Steven Berkenfeld, and a handful by phone. Everyone except Erin Callan, who was still making calls to investors.

  Fuld pointedly asked Skip McGee to go first. “Morale has never been worse,” McGee told the committee. “We have to admit publicly we made some mistakes. We continue to spin like we’ve done nothing wrong. We’re better than this.”

  McGee paused and then added quietly: “We need to make a senior management change.”

  “What do you mean?” Fuld snapped.

  “We need to hold ourselves accountable—that’s what the market wants, and that’s what our troops want.”

  While McGee did not mention Gregory by name, everyone at the table understood whom he was talking about. Indeed, just a month earlier, at another executive committee meeting, Gregory had actually offered to resign. “If there’s a bullet to be taken, I’ll be the one to take the bullet,” he said stoically. At the time everyone had dismissed the comment as a rhetorical flourish, an easy thing to propose when there was little chance of its happening.

  Fuld continued around the table. As each executive took his turn, making various suggestions, nobody seconded McGee’s call for change.

  Russo, looking at McGee the entire time, chose to make a statement about the importance of teamwork, a sentiment that was then taken up by Gregory. “We’ve got to stop all the Monday-morning quarterbacking,” he insisted. “We’re all in this together. We’ve made a lot of decisions over the years—all together. Some have been better than others, but we can work through this together.”

  As the others spoke, McGee, his BlackBerry hidden under the table, typed a two-word message to his colleague Jeff Weiss: “I’m dead.”

  Returning to his office, McGee called his wife, Susie, in Houston, and told her bluntly, “I may be out of here by the end of the week.”

  That afternoon the thirty-first floor had become a gossip mill, a collection of various cliques assembling and reassembling to try to divine what might happen next. Even though Erin Callan had missed the executive meeting, she had certainly heard about what had transpired there. She was convinced that it was she, not Gregory, who might be on the firing line, and if she had to step down as CFO, she hoped to be able to keep a job of some sort at the firm. So she sent Fuld a two-sentence e-mail without a subject line: “Just to be clear I am very willing to be part of the accountability of management. Think I have become so closely tied with the performance and the public face of the firm that it may be helpful to put someone else in my role.”

  He didn’t reply.

  By the time Fuld met with the investment bankers for lunch on Wednesday, June 11, in the wood-paneled private dining room on the thirty-second floor, Lehman’s stock price had fallen another 21 p
ercent. This was McGee’s show, Fuld knew, and that meant he was going to get tested.

  He was right. It was five on one. McGee, Ros Stephenson, Mark Shafir, Jeffrey Weiss, and Paul Parker. They jumped at the chance to tell their boss why he needed to make management changes. The real estate investments were killing the firm. Good people had been let go, while novices, like Erin Callan, had been promoted to positions out of their depth. Joe Gregory had become distracted and knew nothing about risk. If there was a single problem, he was it.

  “Look, the answer is, somebody’s gotta pay,” Mark Shafir said.

  “Joe’s been with me for thirty years,” Fuld shot back. “He’s great at what he does, he has a great career, he’s done so much for this place. You’re asking me to throw him over the side just because we have one bad quarter?”

  “It’s not just a bad quarter,” McGee replied. “It’s more deep-seated than that.”

  Fuld paused and looked down at the food that he had not touched. “Are you telling me that you want me to—”

  “No, no!” the bankers cried out. They certainly did not want his resignation; his departure would be a death knell for the firm. But the status quo could not continue; Fuld had to break out of the inner circle that was buffering him from the firm and get more involved with its operations.

  Fuld was willing to accept that criticism. “I get that, that’s the feedback I’ve been getting,” he said. “I’m going to do it. I will do the right thing.” Still, he would not commit to firing Gregory.

  “What are you going to say when you leave this meeting?” he asked the bankers.

  “That the guy doesn’t get it,” said Weiss, laying it right out on the table.

  “I got it,” Fuld replied.

  As the bankers rose from the table and headed back to elevator bank, no one was quite certain what Fuld intended to do. It seemed unlikely that he was going to fire Gregory; nothing he’d said indicated that he was ready to take that drastic a step. Still, McGee and the bankers were relieved to have finally had an audience with Fuld and said their piece.

  While that lunch had been going on, Gregory was stirring downstairs in his office. He knew the rumors—he could see the sentiment quickly building up against him. Fuld had made enough comments about the morale problem inside the building for him to understand that he was under fire. He wasn’t blind to the snippy comments and office rumor mill about him. Indeed, if there was one thing Gregory focused on—what he called “culture”—he could now see it fraying.

  His own power, he knew, had started eroding months earlier. Fuld had increasingly leaned on Bart McDade, the firm’s head of equities and one of the most popular guys at the firm—honest, disciplined, and bright, maybe too much for his own good. Indeed, following Bear Stearns’s near-failure, Fuld had made McDade his de facto “risk guy.”

  McDade had long been a fixed-income man, successfully running that division, only to be shunted over to the less profitable equities desk in 2005 in what many in the firm viewed as a classic Joe Gregory disposal of a potential rival. Or maybe, as others saw it, that decision had just been Joe being Joe, playing a hunch that a talent like McDade could be utilized wherever the need was greatest.

  Though McDade was too polite to have ever said anything in front of the executive committee, he had spoken privately to Gregory about Gregory’s role at Lehman, making some not so subtle comments about “doing the right thing for the firm.” And while not as forceful as McGee, McDade had made it clear to Fuld that Gregory had lost his credibility, but by now that had become obvious to almost all the employees.

  Minutes after Fuld returned to his office, Gregory came by.

  “I think I should step down,” he said uncertainly.

  “What’s going on here?” Fuld said, waving him away. “Go back in your office. I get 51 percent of the vote, and that’s not happening.”

  Five minutes later, Fuld came to speak with Gregory, who was now talking to Russo, discussing what he had just told Fuld.

  Gregory said that he was convinced the market wanted the firm to take action. “They want heads,” he insisted. “Heads have to roll. And it can’t be you,” Gregory told Fuld. “I have to do it.”

  “It’s not your call,” Fuld told him. “This is a disease, every firm has it. It’s not your fault.”

  Russo, who hadn’t said anything up until now, chimed in. “Dick, I think Joe’s right.” Under the circumstances, this was best for the firm.

  As Fuld began to resign himself to what everyone had come to regard as inevitable, he fought back tears, muttering, “I don’t like it, I don’t like it, I don’t like it.”

  Erin Callan was in her office when Gregory came in to break the news. He was leaving, he said, out of loyalty to the firm. And as her mentor, he had one last request: He asked her to step down as well, arguing that while his departure might affect morale internally, her brand name was the one that mattered to Wall Street. “We should do it together,” he said.

  Though she had sent the e-mail to Fuld, Callan felt stricken, unable to believe it had come to this.

  Minutes later, she went to see Fuld. “I lost credibility with our investors and I think I have to step down,” she said, her voice quivering.

  Again Fuld felt overwhelmed, the tears rising to his eyes. But he had been here before. He could go on. Left alone in his office, he started to put the new pieces in place. He called Jeff Weiss.

  “I’m listening,” he told Weiss.

  “Uh, okay,” Weiss replied, not entirely certain what Fuld was driving at.

  “I’m listening,” Fuld repeated, as if to suggest that Weiss’s comments at lunch were being headed.

  “Do I have to tell you how I feel about Bart McDade?” Weiss said, essentially endorsing him for Gregory’s job.

  “No,” Fuld said, “you do not.”

  That night, McGee was dining with a college friend at Maloney & Porcelli, a steak house on Fiftieth Street, when his mobile phone rang. It was Fuld. McGee stepped outside under the restaurant’s green awning to take the call.

  “Okay. I just want you to know that I heard you,” Fuld said, “and I’ve got the ball.”

  “What?” McGee asked.

  Fuld didn’t answer.

  “I may be a dumbass from Texas,” McGee said, “but can you be a bit more explicit?”

  “I heard you,” Fuld said, “I’ve got the ball.”

  He told McGee to be at a special executive committee board meeting the following morning at 8:00 sharp.

  Now McGee understood.

  On Thursday morning, Kerrie Cohen began receiving voice-mails from Charlie Gasparino at 6:00.

  “Hey, Kerrie. You better call me back right now, because this is a problem…. [Y]ou guys specifically denied something that I heard, and now it sounds to me like it’s true. So you better call me back now! Now means now. I better not get scooped on this—you’re going to have a huge credibility problem, and so will Lehman. So call me now.” Twenty minutes later, he followed up: “I better get a call back from you before this hits the tape. I am not kidding!”

  Cohen had in fact been called in at 5:30 a.m. to work with Scott Freidheim on drafting the press release announcing Gregory’s resignation and Callan’s decision to step down; Callan had worked a deal with Fuld to remain at the firm in another role. Though it was not detailed in the release, Gregory would also be staying on, allowed by Fuld to remain on the Lehman payroll as an out-of-the-way consultant, so that he could continue to qualify for his pension and deferred compensation. Gregory’s career was over, but his old friend never did quite pull the trigger on him. In the press statement, Fuld said of Gregory, “Joe has been my partner for thirty years and has been a driving force behind where we are today and what we have achieved as a firm. This has been one of the most difficult decisions either of us has ever had to make.”

  Freidheim also helped prepare a note to the staff from Fuld. “Our credibility has eroded,” Fuld said. “The current market environment i
s forcing us to take a number of measures to regain the confidence of all our constituents.”

  For a change, that morning, the newspapers had nothing new on Lehman.

  When Fuld arrived in the office, Freidheim handed him a draft of the press release to review, and then they started the executive committee meeting. Fuld looked distraught.

  “This is the hardest thing I’ve ever done,” he said as he went on to describe Gregory’s role as a friend and business partner. “Joe is taking one for the team.”

  “I always said that if anyone should take a bullet, it should be me,” Gregory said, “Let’s not let this be wasted.”

  As Fuld again looked as if he were about to well up, Gregory grabbed his hand and said quietly, “It’s okay.”

  “Do you want to say anything?” Fuld asked Callan.

  “No, no,” she replied, wiping away a tear.

  Announcing that he planned to name Bart McDade as Gregory’s successor, Fuld said, “He’s the best operator we have.”

  But this was no time to celebrate McDade’s appointment. As the meeting came to an end, Fuld gave Gregory one final, heartfelt hug, and then watched as he slowly left the conference room.

  CHAPTER SEVEN

  On the afternoon of June 11, Greg Fleming, the disarmingly youthful-looking forty-five-year-old president of Merrill Lynch, was meeting with clients at the firm’s headquarters when his secretary quietly slipped him a note marked “Urgent.” Larry Fink, chief executive of the investment management behemoth BlackRock, was on the line and needed to talk.

  Fleming couldn’t imagine what might be important enough to justify the interruption, but given the commotion in the market, he agreed to take the call. Rumors that morning claimed that BlackRock might be a candidate to buy Lehman Brothers; Fink had only encouraged the speculation by appearing on CNBC earlier that day and declaring: “Lehman is not a Bear Stearns situation. Lehman Brothers is adequately structured in terms of avoiding a liquidity crisis.”