September 2, 2008 – 5:11 pm

Down on the Street, Lehman Brothers is still running hard, but the blood trail of distressed asset sales and 15,000 more job cuts is getting some dangerous attention. It’s the kind of attention that could see the Neuberger Berman unit gobbled up by the vultures circling overhead. Take a look:

Although it has not reached a decision, Lehman has been soliciting bids from private equity firms to gauge interest in its asset management arm, which includes Neuberger Berman, the fund manager, and minority stakes in several hedge funds.

The short selling hedge funds would prefer to drive the price to zero so that they can then cover and take a profit. The vulture capitalists by comparison want flesh – lots of it. If the vultures take down Lehman Brothers, they will surgically excise the profitable units and leave the mortgage-backed assets and hedge funds to rot in the sun. Once the vultures get their talons into Neuberger Berman, it will be gone forever, and the desperately needed profits it generated won’t be replaced in our lifetimes. Share prices can return from the single digits, but rotten corpses like Bear Stearns do not. By the way, there’s word Lehman Brothers could be headed Bear’s way.

What’s noticeable now is the increasingly stark language used by normally reserved (and supportive) followers. Take Patrick Pinschmidt at Morgan Stanley for example:

Reducing 3Q08 EPS to $(2.80). Our new EPS implies a pretax write-down of $3.5bn, driven by expectation of a significant deleveraging in a deteriorating credit market environment. We believe a key question for investors is not the size of the write-down, but how remaining illiquid asset exposure squares with capital cushion. This will reflect action by LEH to restore confidence in balance sheet marks and its capital position (e.g., potential stake sale, 3rd party venture to manage portfolio). Otherwise, franchise erosion is a real risk. We remain Overweight.

Franchise erosion? The MS man is also worried that even if Lehman convinces regulators it has enough capital, Lehman might nevertheless face calls from the ratings agencies to raise more cash. Witness:

A scenario resulting in write-downs in excess of $7bn would increase the preferred component in capital structure to north of ~33%, which could necessitate need for incremental equity capital.

And this guy reckons the stock is a buy.

So, the urgency to remove dead weight from the balance sheet is palpable, but distressed banks neither call their own shots, nor name their own price. This hints that more bloodletting is in store:

Complicating matters, buyers may be sitting on the sidelines—either waiting to see how juicy the bargains get or worrying that a glut of assets would drive down the prices on any early purchases. Some analysts suspect Lehman may be having a tough time striking a deal on Neuberger since there’s speculation other money managers may be on the block, including troubled lender Wachovia’s. Publicly, Wachovia has said its investment group is not for sale, but it will off-load “noncore” assets.

Wachovia’s asset sale may not directly compete with Lehman Brothers, but it’s another distraction nonetheless. As distraction turns to desperation in the struggle for survival, the banks panicked actions turn reason inside out:

In trying to cut the weight on its balance sheet, Lehman took the unusual step of creating ready buyers. Earlier this year, the investment bank gave seed money to some of its former traders and bankers, who started hedge funds in Lehman office space. The two portfolios, R3 Capital Management and One William Street Capital Management, accumulated nearly $5 billion of Lehman’s mortgage-backed investments, junk-rated corporate loans, and securities based on leases for flight-training gear.

To set up a front company to buy your own waste is like a snake eating its own tail. It is futile and shows that stark panic is hardening in the brains of Lehman Brothers.


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