Lehman Brothers Holdings Inc. (NYSE: LEH) has in effect set itself up for a future takeunder, or so its pricing and trading seems. The business itself has few proprietary operations, and all of its assets walk in the doors early in the morning and leave at night.
The investment banking and trading firm is raising approximately $6 billion to shore up its balance sheet. It is a solid amount of capital, but it is very bad news that the brokerage had to raise that much. Lehman's loss for the last quarter is now reported as about $2.8 billion. Not so long ago, estimates were for that number to be $300 million.
That leaves Wall Street wondering what other firms are facing. It is hard to imagine Lehman's losses could be eight times greater than expected without results being very poor at other firms trading and investment banking firms.
Lehman likely needs this capital because is still bleeding in the current quarter and may be damaged more through the rest of the year. The company may come out and say that it doesn't need any more capital and that this is it, but we have heard that song over and over. In fact, on Wall Street 2008 may be the year of "Brother can you spare a few billion in change?" for major investment banks and lending institutions.
Most firms on Wall Street put money into the same mortgage paper, LBO loans, CDOs and CLOs, and other derivatives to one extent or another. Lehman's shares traded at a 52-week high of $82.00. In mid-May, it was trading in the mid-$40's. Lehman closed at $32.29 Friday. Shares are trading around $29.50 or $29.60 in pre-market after having traded around $28.00 in earlier pre-market trading.
While it has been shaky so far, Wall Street is finding ways to deal with the massive buyout loan overhang. Then again, in some cases – such as with the failure of the Harman International Industries Inc. (NYSE: HAR) buyout – things have been fairly brutal.
Ironically enough, this situation can be an opportunity. In fact, according to a report in Bloomberg.com, Lehman Brothers Holdings Inc. (NYSE: LEH) has put together a $3 billion fund to invest in leveraged loans.
It does seem like a good idea. After all, there has been quite a bit of distressed selling. And, there are many quality issues on the market. Of course, Lehman is not alone. Other such funds include offerings from BlackRock and Eaton Vance. No doubt, I suspect this is only the beginning.
So, yet again, Wall Street has found a way to deal with a big mess -- and in the process, will probably make a nice profit.
Early this year, it looked like we'd see a flood of IPOs for hedge funds and private equity funds. But with the credit crunch -- and extreme market volatility -- this prediction looks like a bust.
Well, FT.com has a story that has some interesting buzz: Renaissance Technologies is thinking of selling a stake to outside investors. This hedge fund manages about $30 billion and has one of the world's brightest investors at the helm, James Simons.
FT.com says that Renaissance will not use a public offering; instead, it will do a private offering to institutions and wealthy investors. The system is known as Opus 5 and is a joint venture among the Bank of New York Mellon (NYSE: BK) Citigroup (NYSE: C), Lehman Brothers (NYSE: LEH), and Merrill Lynch (NYSE: MER)
In light of the awful public offerings of alternative investment firms, such as Blackstone (NYSE: BX) and Fortress Investment Group (NYSE: FIG), I think the private option makes sense.
But, with the uncertainty in the market, it seems like bad timing. Maybe wait just a little while until the dust settles?
You know the feeling. You've done a lot of shopping -- and used your credit card heavily. It's so easy, right? Of course, until the heavy interest payments pile up.
Simply put, that has been the story for big-time financiers, such as Goldman Sachs (NYSE: GS), Lehman Brothers (NYSE: LEH), Merrill Lynch (NYSE: MER), Citigroup (NYSE: C), JP Morgan (NYSE: JPM) and so on. They kept committing their balance sheets to provide loans to buy up companies. And, of course, private equity funds -- like KKR, TPG, Apollo, and Blackstone (NYSE: BX) -- were ready, willing, and able to take the largesse.
But now the bill is coming due.
Well, in this week's Barron's [a paid publication], there's an excellent story on this topic. In fact, the lenders were so eager to make these mega loans that they were loosey-goosey on the terms. For example, some loans even allowed for deferring debt payments (perhaps the subprime market was not the only crazy place, huh?)
Oh, the lenders also were willing to forgo escape clauses in loan agreements. Hey, wouldn't the gravy train last forever?
So what happens to the hundreds of billions in buyout debt? Barron's thinks that the lenders will sell the stuff at deep discounts. True, this will mean significant losses. But, if things are bad, might as well get everything written down now and then pave the way for a better future, right? Although, I have a feeling banks are going to be a little more circumspect when it comes to new buyout loans.
This week, private equity firm Fortress Investment Group (NYSE: FIG) reported its Q2 earnings. Well, as should be no surprise, compensation costs were higher (not cheap to hire investment gurus). In fact, there was a net loss of $55.1 million. Although, the firm thinks a better metric is "pretax distributable earnings," which came to $143 million in Q2.
What's more, revenues fell from $328.3 million to $268.1 million. No doubt, the private equity game can be volatile.
On the conference call, Fortress CEO Wesley Edens had some interesting things to say about the turmoil in the financial system.
He said that it's going to take some time to clear out the huge amounts of debt that have yet to be placed for buyouts. Much of the debt is on balance sheets of firms like JP Morgan Chase (NYSE: JPM), Lehman Brothers Holdings (NYSE: LEH), and Goldman Sachs Group (NYSE: GS).
Two big private equity deals are having trouble getting banks to lend them money. This trouble reveals the essential function of private equity firms -- the ability to convince banks that the fees they'll get for financing deals exceed the risk of loss if the borrowers can't pay back the money. In the past, the banks would sell portions of the loan to other banks and investors to limit their risk. But the appetite for those investments is disappearing.
Perhaps the deal is not in trouble, but if it does go through, the terms might make it less profitable for Cerberus. For now, the five banks, led by JP Morgan Chase & Co. (NYSE: JPM), plan to take on about $10 billion of the debt and try to sell it later -- Chrysler and Cerberus will carry the other $2 billion.
General Motor's (NYSE: GM) sale of its Allison transmission unit shows that risky debt is getting harder to come by. Private equity investors buying the unit for $5.6 billion are delaying the sale of bonds due to lack of interest.
According toThe Wall Street Journal [subscription]: "The deal is being financed by $3.5 billion in corporate loans and another $1.1 billion worth of junk bonds." Lehman Brothers (NYSE: LEH), Citigroup (NYSE: C), and Merrill Lynch (NYSE: MER) were planning to sell the bonds to institutional investors. So far, the demand has not been there.
If the investment houses cannot sell the bonds, they will have to hold the debt themselves.
As Wall St. does more and more high risk/junk debt deals and investment banks take on more risk financing the deals themselves, investors should be worried about the future consequences. If savvy institutions do not want the debt, why would it be prudent for the bankers to keep it? For deals already in the pipeline they have an obligation, but that will probably mean that their appetites will disappear soon.
And that means that the next deal that looks like Allison won't get done.
The Blackstone Group submitted an update to its IPO filing yesterday. As usual, there is quite a bit of verbiage, but there are definitely some interesting developments.
For one thing, the firm has put together a sterling board of directors.
First, there is William Parrett. He is a senior partner at Deloitte & Touche USA and will be critical in helping Blackstone deal with auditing and financial matters.
Next, there is Lord Nathaniel Charles Jacob Rothschild (yes, that's quite a name). He is the founder of RIT Capital Partners and a veteran of money management.
And, finally, there is the Right Honorable Brian Mulroney. From 1984 to 1993, he served as the 18th Prime Minister of Canada. He is now a senior partner at Ogilvy Renault.
So what's the director compensation? There will be an annual cash retainer of $100,000 and an equity grant of 10,000 deferred restricted common units.
Founded in 1988, D. E. Shaw $ Co. is one of the largest hedge funds, with $29 billion in assets. In fact, even Lehman Brothers Holdings (NYSE: LEH) recently bought a chunk of the firm.
D. E. Shaw relies heavily on quantitative approaches to investments. And yes, it seems like its computer models are working quite well. But the firm wants more and more. So how about an aggressive move into private equity?
That's the report from a story in the Financial Times.
Hey, look at The Goldman Sachs Group (NYSE: GS). It somehow can manage hedge funds, private equity funds and investment banking. Why not D. E. Shaw?
Well, I think there could be issues. Keep in mind that hedge funds tend to buy minority stakes in companies and hold onto their positions for short periods of time.
As for private equity firms, they not only buy 100% of companies but engage in revamping and monitoring management. It's certainly a different mindset compared to hedge funds.
But since D. E. Shaw has been dabbling in private equity deals over the years, making the transition to a more aggressive stance in that market may be an easier transition for it than for another such company. Tom Taulli is the author of various books, including the Complete M&A Handbook and the EDGAR-Online Guide to Decoding Financial Statements.
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Early this year, it looked like we'd see a flood of IPOs for hedge funds and private equity funds. But with the credit crunch -- and extreme market volatility -- this prediction looks like a bust.
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Founded in 1988, 
