The Collapse of Lehman Brothers - A Simple Overview

[Music] lehman brothers it's a said subject considering it may be the worst business failure that we'll ever see most would agree that it's one of the most significant bankruptcies in u.s history and objectively the biggest we generally look at them in terms of assets and at that time their total assets were valued at 691 billion dollars i know when numbers get that big they start to lose meaning so for a little perspective here's a graph that shows the top 10 largest bankruptcies of all time in these terms massive ones like anron or gm look like nothing compared to this in the public's perception they're probably more associated with the 2008 financial crisis than any other single company they filed for bankruptcy on september 15 2008 and look what happened to the stock market right after that day the dow jones fell 500 points the biggest drop in five years and things kept getting worse from there not to say lehman brothers caused this whole crisis but they were involved in a pretty big way so here we have this big significant company but why that's a big question why were they so important and what did they even do because i feel like this is one of those names that we all know but few of us can actually answer that question and by the way there is no shame in that because this stuff is complicated the short answer is that they were an investment bank the fourth largest one as a matter of fact and that's an investment bank as opposed to a retail bank or commercial bank that we all commonly use the whole concept of investment banking is a little foreign to most people because the general public typically doesn't encounter them they exist more for larger companies but luckily if you follow this channel i talk about the stuff that they do all the time like if a company wants to have an initial public offering where they want to sell a portion of the company to the public well an investment bank like lehman brothers will help make it happen they're kind of the middle person connecting the company to the buyers and they take on the risk because the transaction goes through them it's called underwriting similar with debt financing if a company wants to take out a loan they'll call an investment bank and they'll connect them with someone willing to lend them money or how about if there's a merger or an acquisition and we see plenty of them on this channel they'll act as the advisor and be part of the process like i said it gets complex but i hope that made sense if not just think of them as a bank but for larger companies they didn't start that way though they took an interesting path to evolve into it lehman brothers was officially founded in 1850 meaning when they closed in 2008 they were 158 years old again it's sad to see something so old go down like that they existed through so much and just fell so quick the name comes from henry lehmann and his two brothers mayor ann emanuel in the 1840s henry immigrated to the united states from germany where he went to alabama and started working essentially as a door-to-door salesman he did that until he was able to save enough money to open a store he was better off having people come to him it was your typical dry goods store for the time selling clothing and your everyday items once he had it up and running for a few years one at a time his brothers made the trip from germany to join the business by 1850 they were all there they called the business lehman brothers and that marks the official beginning sadly enough henry lehmann the guy who started it all died five years later from yellow fever and his two brothers were left in control so that's all pretty unexpected this massive bank originated as a small store in alabama by someone who died expecting that that would be the extent of the business but here's what happened it was actually cotton of all things that fueled the transition i realized that some of this may sound silly today but cotton was actually a really big deal back then especially in the south see being located in 1850s alabama a good portion of lehman brothers customers were cotton farmers they would walk up to the counter buy something and instead of cash they would pay with cotton i told you it sounds silly but it was in demand enough to function as a form of currency the lehman brothers would then seek out people to buy it from them and they gained connections that way and it quickly became their new business soon enough they were just buying cotton from the farmers and selling it to the manufacturers or whoever wanted it eventually they became somewhat of a cotton broker simply connecting the buyers and the sellers and collecting a fee for doing it they opened an office in new york and believe it or not were a big part in starting the new york cotton exchange from there they made the logical move and started expanding into other commodities you could see the direction they're starting to move here how they made that jump into finances it's a good thing that they did too because by the turn of the century the cotton business wasn't quite what it used to be and they felt that it would be a smart move to continue pulling away from it and moving toward the business of underwriting remember that's when they serve as the middle person between the company and the investors when they're looking to sell their stock they were successful in this because they would seek out smaller emerging industries that the larger banks deemed to be too risky one of their first targets in the early 1900s was retail again as strange today but it was seen as being risky lehman brothers was able to find some promising companies to do business with and the risk paid off during that time they served as underwriters for sears woolworth and macy's then over and over again they would move to a new industry and have the ability to seek out some future successes after retail it was movies when they worked with paramount and fox and then it was aviation when they worked with twa later on it was consumer goods automakers technology we can be here for a while listing off companies that lehman brothers helped in these ways and through all of it they transformed into a large reputable investment bank skipping ahead a bit the next big move was in 1984 when they were bought by american express for 360 million dollars they spent the next decade as part of their investment banking division until they were spun off into their own publicly traded company in 1994 and they remained independent until the very end in 2008. all right that's how they turned into the major bank that they became now on to the bankruptcy obviously for something with this much strength and power it would take a lot to bring them down well are you familiar with the mortgage crisis that was happening right around that time i'll give a quick overview early in that decade real estate was the place to make money there was a dot-com bubble and for other reasons the stock market was down and real estate was a better alternative there were low interest rates government incentives to buy it the demand kept going up along with the prices so many people saw it as such a solid investment that they were willing to take out loans that realistically they couldn't afford just to become part of it that's where the subprime mortgages come in that's when someone doesn't qualify for a traditional loan and they have bad credit or whatever is so they're granted a subprime mortgage at a higher rate there is a higher risk of them not paying it but if you're the bank who cares because you could just take that house and sell it to someone else everyone was making money this way i'm telling you for the years leading up to 2006 real estate was seen as an amazing investment but then the interest rates went back up and the demand went down along with the prices it turns out those high real estate prices may have been a bit inflated on top of that many of those crazy subprime mortgages were set at an adjustable rate meaning that the rate was now higher and their interest payments were more while the actual value of the home was less it kept imploding on itself this has all been covered many times before but the important part here is the perceived value of real estate went way down this was not good for lehman brothers because they were heavily involved in real estate on multiple levels remember it was a great way to make money for a while and that positive reinforcement motivated them to look away from the risk and continually increase their involvement i mean that shift into real estate did amazing things for the company in 2007 they reported record profits over 4 billion dollars up from 1 billion only 5 years earlier that year their revenue also hit an all-time high approaching 60 billion in february of that year their stock price at an all-time high at 86 their market cap was also around 60 billion by almost any financial measure this was the peak of lehman brothers gosh when the value of that real estate went down they were affected let me show you how involved they actually were for one there were mortgage-backed securities when a retail bank originates a mortgage it has value because whoever took it out is going to spend the next 15 or 30 years making interest payments since it has value it can be sold these retail banks sell them to investment banks who then package a bunch of them together creating a security that can be sold to investors hopefully at a higher price than they bought it for i know it's getting tricky again but essentially lehman brothers was the proud owner of thousands of people's mortgages in the amount of 76 billion dollars it's a few steps removed at this point but when people stop paying them and default on their mortgage that's bad news because it means all these securities that they created lose their value also a few years earlier they started functioning as a retail bank when they got deeply involved into originating the mortgages in the early 2000s they acquired five companies that did it including one that specialized in those risky subprime mortgages at the end of 2007 they held 5.2 billion dollars worth of these subprime mortgages and let's face it many of those were not going to be paid on a third layer lehman brothers was investing in real estate themselves they held 22 billion dollars worth of it they were pretty affected by this one when the real estate market crashed they lost billions of dollars here and as if that wasn't enough i'm gonna add one more layer to everything that compounds it and just makes it even worse lehman brothers went into debt so they can buy all of this nonsense the idea behind it was that they can borrow money at a low rate and then turn around and invest it at a higher rate which did not hold up when things went bad they became more and more leveraged as time went on which made things unstable when they filed for bankruptcy they did have more assets than liabilities 691 billion compared to 668 billion so theoretically if they sold everything they owned they would be able to pay off their debts but they couldn't sell everything they own because so much of it was tied into all these investments that no one wanted to touch 691 billion dollars in assets and only 7 billion of it was available in cash that's pretty bad this is like when you're playing monopoly and you put all your money into buying houses and then when you land on someone you don't have any cash to pay them i think it's becoming clear what was happening here but just to summarize lehman brothers took out a bunch of loans to buy stuff that quickly lost most of its value they weren't the only ones banks all over the place were harmed by it but lehman brothers was the biggest one to fail from it the others either had a better balance sheet or were more diversified and therefore less exposed some of them were bought by a competing bank or saved by a government bailout or a combination of them but not lehman brothers a week before the bankruptcy that stock price was down to seven dollars with a five billion dollar market cap it was looking like the government might step in and help it didn't happen it was rumored that bank of america might buy them that also didn't happen they ended up buying merrill lynch instead there were talks of other things happening but none of it did and that was it competitors bought pieces of it a little later but september 15 2008 is when they filed for bankruptcy and that marked the end of it it sparked some bad things to happen on the stock market and help expose the public to everything that was happening in the housing market sadly after 158 years of business that's going to be their legacy let me know in the comments how did i do in explaining all of that it can definitely get tricky but i hope i at least was effective in conveying the main ideas here this was an important company it's impacted american history so i think it's valuable to know a little bit about them so any thoughts related to lehman brothers the housing market the recession or any of it leave them in the comments i'd like to hear what you have to say thank you for watching you

Channel: Company Man

Views: 691,656

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Id: BnDbdQa_r38

Length: 12min 55sec (775 seconds)

Published: Wed Jan 13 2021