Too Big to Fail

by Andrew Ross Sorkin

  Chammah, taking a sip of wine, said soberly, “We could be up next.”

  It was after 8:00 p.m., and Jamie Dimon, who was starving, made his way up to the executive dining room on the forty-ninth floor of JP Morgan’s headquarters. The operating committee had been working flat-out for the entire day, calculating the firm’s exposure to Lehman, Merrill, Morgan Stanley, Goldman, and, of course, AIG, and the dining staff had been called in to work overtime to feed everyone. Tonight was tacos, and though the food may not have been as good as what the Fed offered downtown, it was better than Dimon had remembered. It was also the first time he’d eaten dinner in the recently renovated partner’s dining room.

  In the middle of his meal, Dimon stood up and began pacing back and forth in front of the floor-to-ceiling windows, surveying the cityscape. From his vantage point he could see all of Manhattan in every direction. The sun had just crested below the Empire State Building a half-hour earlier, and a fog hung over the city.

  Dimon was mulling over the day’s events, realizing how bad it was out there. “They want Wall Street to pay,” he told the room of bankers relaxing after their late dinners, hoping to get them to appreciate the political pressure Paulson was facing. “They think we’re overpaid assholes. There’s no politician, no president, who is going to sign off on a bailout.” Then, channeling the populist anger, he asked, “Why would you try to bail out people whose sole job it is to make money?

  “We just hit the iceberg,” Dimon bellowed to his men, as if he were standing upon the deck of the Titanic. “The boat is filling with water, and the music is still playing. There aren’t enough lifeboats,” he said with a wry smile. Someone is going to die.

  “So you might as well enjoy the champagne and caviar!”

  With that, he returned to his table and took a final bite of taco.

  At the Fed, Barclays, against all odds, appeared to be making progress. Earlier that day, Michael Klein, Diamond’s adviser, had come up with a structure for the deal with which they were all happy. Diamond wasn’t interested in Lehman’s real estate assets; what he wanted was the “good bank”—Lehman minus its troubled property holdings.

  Klein’s plan was simple: Barclays would buy “good” Lehman, and the rival banks across the hall at the Fed would help finance the “bad bank’s” debt. That struck Diamond as a “clean” deal he could easily sell to his board back in London and to the British regulators, who he knew were still a bit skittish about the transaction. All in, it would cost $3.5 billion, which would be used to help support the “bad bank.”

  Past midnight, the Barclays team decamped from their conference room, planning to leave. But as they marched downstairs, they were pulled aside into another conference room and asked to explain their plan to the rival bankers who were still at the Fed. This would be a tricky maneuver: They were, in effect, being asked to sell their bitterest rivals in the industry to subsidize their bid.

  Despite the hour, a group of bankers from Goldman, Citi, Credit Suisse, and other firms were still lingering about. Klein proceeded to explain, in the most delicate way possible, Barclays’ plan, which everyone in the room instantly realized meant that an industry consortium would have to come up with some $33 billion to finance ShitCo, or as Klein kept describing it to people, “RemainderCo.” For the other banks, this would be less an investment in Lehman or Barclays than it would be in themselves, hoping to stave off the impact of a Lehman failure.

  The way Klein explained it, the consortium would own the equivalent of an alternative investment management firm like Fortress Investment or Blackstone Group, owning Lehman’s real estate and private-equity assets.

  The idea was not received with enthusiasm. Gary Shedlin of Citigroup, a former colleague of Klein’s, was the first to raise red flags, perhaps because an undercurrent of tension still existed between him and Klein stemming from clashes during their time together at Citi.

  “How much equity do you need to raise to do the deal?” Shedlin asked.

  “Why is that important?” Klein responded, seemingly confused about its relevance. “Why do you need to know that?”

  “You’re making an offer for this company,” Shedlin snapped back, “and we’ve got to know how you’re going to finance it.”

  Archie Cox of Barclays, frustrated by the questioning, replied icily, “We will not have to raise any incremental capital as part of this transaction.”

  Klein, realizing that the bankers didn’t understand the structure of the deal, explained it again. Barclays wasn’t going to be investing in Lehman’s “bad bank” alongside the consortium; it was only buying Lehman’s “good bank.”

  The bankers around the table looked at each other, as his explanation set in. They really were being asked to subsidize a competitor. Barclays would have no stake in Lehman’s worst assets, which they were being asked to take on.

  After Shedlin calmed down, the group, while not happy about the proposal, agreed that it might be the best of many bad options. They set about hammering out a term sheet. As unbelievable as it seemed to all the bleary-eyed bankers in the room, they were inching toward a possible deal.

  “We’ve got a big problem. I mean, fucking big,” Douglas Braunstein of JP Morgan announced to his team at AIG just past midnight.

  The lights were still ablaze where a battalion of bankers, hunched over laptops and spreadsheets, had just discovered a new hole in AIG’s finances. Its securities lending business had lost $20 billion more than anyone had recorded.

  “We’re not trying to solve for $40 billion anymore,” Braunstein shouted. “We need $60 billion!”

  AIG was such a sprawling mess, and its computer systems so bizarrely antiquated, that no one conducting diligence had until that moment discovered that its securities lending business had been losing money at a rapid clip for the past two weeks. As the JP Morgan bankers dug deeper, they found that AIG had been engaged in a dubious practice: They had been issuing long-term mortgages and financing them with short-term paper. As a result, every time the underlying asset, the mortgages, lost value—which has happened every day of the previous week—they needed to pony up more promissory notes.

  “This is unbelievable,” Mark Feldman, one of the JP Morgan bankers, said as he stormed out of the room in search of Brian Schreiber of AIG.

  When he finally tracked Schreiber down, he told him, “We need you to sign the engagement letter. This is getting ridiculous. We’ve been here all weekend.”

  Dimon and Steve Black had ordered Feldman to get the engagement letter signed or leave and take everyone with him. After all, as Black reminded him, JP Morgan had no indemnification if they didn’t have a signed engagement letter, leaving them with exposure to lawsuits; and perhaps more important, they wanted to make sure they got paid for their time and efforts. Black told him to blame his boss in the event of any complaints.

  Schreiber, who’d been given signing authority by Willumstad, was nevertheless annoyed. His unit at AIG had taken to calling the junior JP Morgan team “The Hitler Youth,” but how could Feldman actually pressure him to sign such a document at a time like this? The entire firm was teetering, and his banker was asking for his fee?

  At first, Schreiber tried to suggest that the firm’s counsel might have to be responsible for any signature, but Feldman was having none of it.

  Schreiber finally erupted. “I can’t sign this! My board won’t sign this letter. This is disgusting. It’s offensive. It’s vulgar. I just can’t justify signing this!” he shouted.

  Feldman, who had called Schreiber “a fucking imbecile” to his face at least once, had now also reached his limit. “If you don’t sign this letter this minute, I’m going to have every fucking JP Morgan banker pack up and leave right this second!”

  At that Schreiber relented and, irately pulling out his pen, signed it.

  At 3:00 on Sunday morning, more than two hundred bankers and lawyers from Bank of America and Merrill Lynch were on their second round of pizza delivery at Wachte
ll, Lipton, and they were still sprinting to complete their diligence.

  Greg Fleming, who had been awake for almost twenty-four hours, had booked a room at the Mandarin Oriental, so that he wouldn’t have to drive back to Rye.

  He was gathering his belongings and about to call it a night when Peter Kelly, Merrill’s deal lawyer, entered the conference room.

  “I’ve got news,” Fleming told him. He enthusiastically explained that he had already broached the issue of price with Curl and had reason to believe that Bank of America might be willing to pay as much as $30 a share.

  For a moment Kelly thought Fleming had to be joking.

  “I can’t believe they’re going pay us $30,” Kelly told him. “Greg, this trade is never going to happen. It doesn’t make any sense. We’re on our knees here.”

  “I’m telling you,” Fleming insisted. “I think they’re going to get there.”

  “You’re getting gamed right now and you don’t know it!” Kelly snapped, trying to talk some sense into his friend at this late hour. “You need to wake up and figure out how you’re getting gamed, because there’s no way they’re doing a $30 trade! They’re going to lead us to the altar and they’re going to renegotiate it at $3, or they’re just going to let us go.”

  “Don’t doubt me, Pete,” Fleming insisted. “The trade is going to happen.”

  CHAPTER FIFTEEN

  At around 8:00 the next morning, Sunday, September 14, Wall Street’s groggy CEOs trudged back to the NY Fed.

  Lloyd Blankfein and Russell Horwitz, his chief of staff, each of whom had had roughly four hours of sleep, entered the building together.

  “I don’t think I can take another day of this,” Horwitz said wearily.

  Blankfein laughed. “You’re getting out of a Mercedes to go to the New York Federal Reserve—you’re not getting out of a Higgins boat on Omaha Beach! Keep things in perspective.” Blankfein was making a not-so-subtle reference to John Whitehead, one of Goldman’s former CEOs and a company patriarch, who had written a book titled A Life in Leadership: From D-Day to Ground Zero, which Blankfein had made required reading at the firm.

  A Fed staffer announced to all the CEOs that Paulson, Geithner, and Cox would soon be coming downstairs. When Jamie Dimon, dressed in tight blue jeans, black loafers, and a shirt showing off his muscles, wandered into the room, Colm Kelleher whispered to John Mack, “He’s in pretty good shape for his age.”

  Paulson and Geithner appeared and announced that they had good news, which everyone in the room already seemed to know. Overnight, Barclays had put together a proposal to buy Lehman and was prepared to move ahead. The only stumbling block that remained was getting all the other banks to contribute enough money—some $33 billion—to finance Lehman’s “bad bank.” After instructing the group to finish working out all the details, Geithner abruptly left the room.

  A document titled “Certain Deal Issues” was now circulated, identifying some of the more difficult questions the bankers would have to consider. Would the two parts of a split-up Lehman each have enough funding after the deal closed? And could Lehman’s bad bank be made “bankruptcy remote”—in other words, legally sealed off so that creditors couldn’t go after the healthy part later?

  It was then that Dimon decided to play the role of John Pierpont Morgan, who helped rescue the nation following the Panic of 1907.

  “Okay, let’s make this really simple,” he announced. “How many of you would kick in $1 billion—I don’t care what form it takes—to stop Lehman from going down?”

  It was the question on everyone’s mind but the one that no one had dared to ask. It was the same question that Herbert Allison, then of Merrill Lynch, had posed a decade earlier in the same building when at stake was saving Long-Term Capital Management. Dimon, then at Citigroup, had had a seat at the table for that one, too. The only difference between then and now was that Allison had asked how many banks could put up $250 million; even factoring in inflation, $1 billion a bank was a steep request.

  At the time, Jimmy Cayne, Bear’s chairman, had refused to take part. “What the fuck are you doing?” Merrill’s CEO, David Komansky, screamed at him.

  Cayne shouted back: “When did we become partners?”

  Everyone in the room today was well aware of that famous exchange between the two Wall Street kingpins.

  Blankfein told the room that while he wasn’t convinced that Lehman actually posed a systemic risk, there was a larger issue of all the banks’ reputations and public perception to consider. “Bear Stearns did a lot of good things over the last decade, but the only thing they’re remembered for is, they didn’t step up when the industry needed them to.”

  What went unspoken but was surely on the minds of many of the bankers in the room was the role that Dick Fuld had played in the rescue of LTCM. When it came time for him to contribute his $250 million share, he explained that he couldn’t afford to do so. Given the pressure on his firm—and the rumors then that Lehman was about to go out of business—he had contributed only $100 million.

  Now, with a dozen banks represented around the table, Dimon kicked off the fund-raising effort.

  “I’m in,” he said. One by one the bankers began to indicate what they might be willing to ante up as well. When the tally was added up, they were close to saving Lehman—or so they thought.

  Peter Kraus and Peter Kelly of Merrill Lynch arrived at Goldman Sachs’ headquarters just after 8:00 a.m., rode the elevator up to the thirtieth floor, strode through the glass doors, and slipped into the virtually empty executive suite on their own. Kraus, having worked at Goldman for twenty-two years, knew his way around the place.

  Gary Cohn and David Viniar of Goldman greeted them, and escorted them to a conference room. Before the meeting, Cohn had privately told Viniar that if Goldman were to buy a stake in Merrill, the price was going to be a lowball one. “I’m going to be low single digits,” he asserted, a far cry from the $30 a share that Fleming had been hoping to get out of Bank of America. (Cohn didn’t say so at the time, but he was thinking the entire firm’s value might be just several billion dollars; Merrill’s market capitalization on Friday had been $26.1 billion.)

  Kraus brought with him the same deck, or presentation, that he had taken to Morgan Stanley. He told the Goldman bankers that Merrill was looking to sell a 9.9 percent stake in the firm and also looking for a $20 billion credit facility.

  Before the negotiating even began, Cohn, always blunt, told them: “I’m going to write down your mortgage portfolios to a place where I think they click.” In other words, he was going to value Merrill’s toxic assets at next to nothing.

  “I know the way you think,” Kraus replied. “You could put a positive number on it,” he said, hoping that Cohn and Viniar would at least assign some value to the portfolio.

  Just as Kraus began digging deeper into Merrill’s balance sheet, Kelly, the only non-Goldman-connected man in the room, stopped him. He was clearly anxious about providing Goldman with too much information. Kraus may have trusted his former colleagues, but Kelly was more circumspect. To him, the odds of pulling off a deal with Goldman were low, and given Cohn’s comments, if a deal did come together, Merrill would be sold for a song.

  “Guys, nothing personal, but let’s just lay low here,” Kelly said. “If you want to do due diligence, let us talk to John and let’s figure out what we want to do.”

  That was acceptable to Cohn and Viniar, who, in any case, had to get back to the NY Fed. They agreed they’d resume the talks once Kraus and Kelly could get their information in order.

  As the meeting was breaking up, Kelly called Fleming to give him a progress report. He said that he and Kraus had made their pitch, but he acknowledged that simply getting a credit line in exchange for 9.9 percent might not be enough to save the firm.

  “That’s not going to fill the gap if Lehman goes,” he told Fleming.

  “It looks like we may have the outlines of a deal around the financing!” Steve Shafran,
a senior adviser at Treasury, announced to Bart McDade and the Lehman team at the NY Fed. Brandishing a huge smile, Shafran told the Lehman bankers that the CEOs downstairs were close to agreeing to funding the spin-off of Lehman’s real estate assets.

  The men felt as if an unimaginable burden had been lifted almost instantaneously from them. And McDade excitedly tapped out a message on his BlackBerry to Michael Gelband, who was at Simpson Thacher’s offices.

  Standing in a conference room uptown, Gelband read McDade’s message and shouted, “We got it!” he said, a broad grin spreading across his face as he let out a sigh of relief.

  Hector Sants, the deputy head of Britain’s Financial Services Authority, was driving along the A30 from Cornwall on the southwestern tip of England back to London on Sunday afternoon with his cell phone clutched precariously between his ear and his shoulder.

  Sants had been on the phone for most of the weekend with his boss, Sir Callum McCarthy, head of the FSA and a former Barclays banker himself. McCarthy, at sixty-four years old, had only six days remaining in his tenure in the post and was scheduled to step down that Friday.

  Sants and McCarthy had spent hours trying to assess the state of affairs between Barclays and Lehman. Sants had been in contact several times with Varley that day, but McCarthy’s efforts to contact Geithner, his counterpart in the United States, were proving more difficult. They had spoken briefly on Saturday, but he had heard nothing since.

  “He hasn’t called me back,” McCarthy grumbled. “You can’t get hold of any of these people.”

  They had no idea what Barclays’ Diamond had—or had not—communicated to the U.S. government about what conditions had to be met to receive their blessing back in Britain. Indeed, McCarthy was nervous that Diamond, an American who had never become part of Britain’s gentlemen’s club, may have been a bit reckless in the negotiations, like any aggressive Wall Streeter. Both men were especially concerned that Diamond, in his zeal to sign a deal, might not have fully explained the requirements that the British regulators would ask for before approving it. To them, buying Lehman could put the bank and the British financial system as a whole in jeopardy. Varley, who was supportive of pursuing Lehman but clearly less enthusiastic than Diamond, had assured Sants during a call on Friday that Barclays’ board would only pursue the deal if it could receive adequate help from the U.S. government or another source. “I would not recommend a transaction to my board unless I’m satisfied both in terms of the quality of the assets we’re purchasing and in respect to the funding positions,” Varley had said.