Andrew Sorkin - Too Big to Fail - The Inside Story of How Wall Street and Washington Fought to Save the FinancialSystem--and Themselves

Less than half a mile away, in his office near Grand Central Terminal, David Einhorn huddled with his team of analysts listening to the Lehman earnings call on a speakerphone. He could not believe what he was hearing. They were still trying to avoid writing this garbage—the toxic stuff—down. What did they hope to accomplish? It was clear to him that the assets in question were worth much less than what Lehman was claiming.

“There’s an admission right in the press release that they’re not writing these things down!” Einhorn told his analysts. He zeroed in on a sentence in the company’s statement: “‘REI Global will be able to manage the assets without the pressure of marked-to-market volatility.’ ” Instead, Lehman maintained, by spinning off the real estate assets they’d be able “to ‘account for its assets on a held-to-maturity basis.’ ”

In other words, as Einhorn continued to rail, “they can keep making up the numbers however they want.”

Downtown, Steven Shafran and a team of staffers at the New York Federal Reserve Building were also listening to the call, some of them also in a state of utter disbelief. Shafran, the special assistant from Treasury, had flown to New York the night before at Paulson’s urging to help coordinate communication among the Treasury, the Fed, and the SEC in the event that Lehman’s situation quickly deteriorated. He and most of the Fed team had already been given a preview of the plan the night before by Lehman but hearing it presented live proved to be a completely different experience. A former investment banker at Goldman, Shafran shook his head in exasperation and announced, “This isn’t going to work.”

As the investor call went on, Shafran observed to the staffers, “What’s really amazing about this is that these guys are investment bankers who get paid by large corporations for tough advice in tough situations. You know the old saying about how a doctor should never treat himself? It feels like one of those situations.”

About halfway into the question-and-answer portion of the call, Michael Mayo, the prominent analyst with Deutsche Bank, addressed the capitalization issue with blunt directness: “To the extent you might need $7 billion to capitalize that entity,” his voice boomed over the speakerphone, “and you’ll get $3 billion with the spin of part of IMD [the more viable investment management division], how would you get the other $4 billion?”

Lowitt paused as he recalled the explicit instructions, given the conversation the firm had had the night before with the JP Morgan and Citigroup bankers: Don’t get pinned down talking about any specific numbers. You will be crushed . He was now being asked the one question that he didn’t want to answer.

“Well, we don’t feel that we need to raise that extra amount to cover the $7 billion,” he replied, trying to sound confident about the firm’s capital position, “because you will have less sort of leverageable equity in core Lehman than in, you know, where you are at the end of this quarter.”

In other words, the plan was essentially an accounting gimmick: Lehman would be smaller and less leveraged as a result of the spin-off, and would therefore need less capital.

Mayo responded that he had his doubts about Lehman’s plan, but in adherence to Wall Street protocol, he left it at that. This was not the place for a showdown.

For a few moments it almost appeared as if Fuld would be able to claim victory: Shares of Lehman Brothers opened that morning up 17.4 percent. The rise might give him the breathing room he needed.

Across the Atlantic a group of senior executives from Barclays in London were likewise intently listening in on the call, taking meticulous notes as they sat in a conference room at the firm’s headquarters, known as “The Bungalow,” in Canary Wharf. They had registered for the call under an assumed name. Bob Diamond, Barclays Capital’s CEO, had been mulling buying Lehman for months, ever since he had received the call from Bob Steel, when he was still at Treasury in April. In June, Diamond had broached the idea with Barclays’ board, which had been discussing possible expansion plans in the United States. The group ultimately decided against pursuing Lehman—unless, as John Varley, the firm’s chairman, put it, “the firm could be bought at a distressed price.” Diamond had in turn communicated that message directly back to Steel.

But the timing now seemed ripe for a deal. “I’m surprised, given how shaky this is, that I actually haven’t had a call from Treasury, because it knows that we would be willing to do this at a distressed price, and it’s not that far off,” Diamond had told Varley only a day earlier. Diamond had been in the middle of giving a recruiting presentation at Wharton, the elite business school at the University of Pennsylvania, on Tuesday, when his cell phone vibrated. Seeing that it was Varley, he abruptly stopped his presentation and walked off the stage. “If we’re going to meet with the board, we’re going to meet with the board tomorrow,” Varley told him. Diamond found one of the only three direct overnight flights to Heathrow from Philadelphia.

He took the last-minute overnight return flight to London to resolicit support to buy Lehman. He would have to win over Varley and the board—and do so quickly.

Varley was a model of the conservative Englishman and had married into one of the bank’s founding Quaker families. Soft-spoken and courtly, he wore suspenders every day, listed table tennis and fishing as his hobbies, and had far less tolerance for risk than Diamond. Whatever his own professional predilections, however, Varley had always given Diamond a long leash, even if he did maintain a quiet uneasiness with his colleague’s appetite for deal making.

The two men had long had a complicated relationship, having both vied for the top job in 2003. Although Varley won the position, Diamond was paid nearly six times what Varley, his superior, made. (In 2007, Diamond earned $42 million to Varley’s $8.4 million.) For years, Diamond had avoided taking a seat on the Barclays’ board to avoid disclosure of his compensation agreement, which would have landed him squarely in the pages of the British tabloids as a “Fat Cat.” Despite his title, Diamond was to many the de facto CEO. In 2006 a Dresdner Kleinwort analyst wrote a report provocatively titled “Bob Diamond 3, John Varley 0.”

As soon as the Lehman call came to an end, the Barclays executives discovered they were in agreement: They’d make a play for the firm. But only—Varley reiterated the point—if they could get it for a song.

Diamond went back to his office and phoned Bob Steel at his new number at Wachovia. “Remember our conversation about Lehman?” he asked.

“Of course,” Steel answered.

“Well, we’re now interested.”