Untangling Lehman's assets: The most expensive order ever from a Chinese restaurant

The painstaking process of untangling Lehman's web of assets and reuniting them with their owners just got tougher, writes Mark Leftly

Tony Lomas was tucking into his meal at a favourite Chinese restaurant in Abridge, Essex, when his mobile phone rang.

It was a Saturday night, but Lomas didn't mind being disturbed by a work-related call. The in-house lawyer for Lehman Brothers' main European arm wanted to know if Lomas's firm, the big four accountancy PricewaterhouseCoopers (PwC), would go on standby to be the bank's UK administrator.

Rumours of Lehman's probable collapse had dominated talk in the City all week. Aware that PwC would be in the frame for a role in an administration, Lomas's team had made sure that there were no conflicts of interest that would make a job offer impossible to accept.

"If there's a company in distress, the first thing you do is check that there are no conflicts," says Lomas. "I had the benefit on the Friday night of knowing the state of PwC's relationship with Lehman. I could tell her [the lawyer] straightaway that there were no conflicts."

And so at lunchtime the following day, Lomas and PwC partner Steven Pearson found themselves drafted into a board meeting at Lehman Brothers International Europe (LBIE) in Canary Wharf.

Within 24 hours, as rescue deals for its US parent came and went – and after Lomas and Pearson had worked through the night to familiarise themselves with the names and roles of key staff – LBIE was placed into administration. Lehman's fate was sealed by a sleep-deprived judge in a makeshift court held at the Silk Street, London, offices of Linklaters, the global law firm.

That phone call has proven to be the most expensive order ever made to a Chinese noodle house: approaching the first anniversary of Lehman's administration on 15 September, PwC has racked up more than £120m in fees. But all the work which Lomas and Pearson, beside their fellow administrators Dan Schwarzmann and Mike Jervis, have done to earn that money is suddenly under threat.

Calm before the storm

While there was a blitz of articles on both LBIE and its US parent's collapse between September and Christmas, there has been a lot less coverage this year as media attention switched to the possibility and then the realisation of recession. Until, that is, late last week.

For eight months, PwC had been working on an asset recovery scheme designed to help LBIE's former clients get back the investments the bank had made on their behalf.

However, to put the scheme into action, High Court approval was necessary. At 11.15am on Friday, Pearson, who had devised the 300-page long scheme, heard the devastating news: Mr Justice Blackburne had decided that he did not have the jurisdiction to approve the document.

This decision could lead to years of delays for former clients, mostly hedge funds, looking to recover nearly $17bn (£10.3bn) of assets, such as shares in major UK companies.

LBIE held $29.8bn of assets on behalf of clients when it collapsed. PwC has redistributed $13.1bn to their original owners.

The remainder is more complicated. The ownership of about $9bn of assets is not entirely clear, and could easily lead to claims by more than one party. "There are not a lot of clear registers or details of what has been spent where, like in a bank account," says Lomas.

A further $6.9bn is held with LBIE affiliate companies in the US and Japan.

As the media lost interest, Pearson designed a scheme that would help avoid disputes over asset ownership. He envisaged a deadline at the end of either December or January for clients to make claims on these assets.

Any claim made after the deadline would be considered void, although the administrators could use their discretion to accept certain solid claims. This would cut down the number of disputes and it would also mean that the LBIE estate would not be liable should it be found that the wrong client had received the investments.

The creditors committee was supportive of the scheme, which was encouraging as it included GLG Partners and Oceanwood Capital, investors that would be affected by the proposal. This suggested that the plan would get the support needed for it to be implemented from a wider vote among different classes of former clients later in the year.

But the High Court had to approve the scheme first. The reason is that the scheme modifies the rights of the clients so that they are, in essence, redefined as creditors. It is a subtle but vital difference, and one which the High Court did not believe it had the power to approve due to a clause in the Companies Act.

Pearson says the result could be hundreds of thousands of unnecessary claims. "The alternative is that it'll take years for clients to get their assets back. We would have to identify all 2,000 client accounts and figure out how to get the shares back to those guys and there are 33,000 stock lines. That's a 660,000 claims matrix."

Dejected, Pearson said on Friday that PwC will consider appealing the decision ahead of a deadline in three weeks, but by 11.45am he was already considering ways of reconstructing the scheme. Either way, his plan to start redistributing more assets by the first quarter next year looks unlikely to be put into action.

Enron was nothing

Prior to the Lehman debacle, Lomas was best known for unravelling Enron's European operations. He famously declared that LBIE is more complicated than that administration, and has predicted that the case will not leave his desk for a decade.

Experience taught him something: keep the staff. Although 2,500 employees in the equities and investment banking business were sold to Japanese bank Nomura for a nominal fee of $2, many staff and functions were kept.

About 400 LBIE veterans are still working at the failed bank's Canary Wharf headquarters. PwC has up to 300 staff working there at any one time, and Lomas believes that they would have struggled to work their way through the hideously complicated paper trail without retaining much of the original workforce.

"We committed ourselves to retaining an infrastructure, and it has proven to be a masterstroke," says Lomas, who says this more in relief than arrogance. "We kept the fixed income division, the building and a lot of data, to which we allow Nomura access but which we still own."

Lomas contrasts this to the situation at the company's US parent. Within a week of becoming the biggest bankruptcy in US history, with more than $600bn of debt, the US courts approved a $1.3bn deal for Barclays to purchase the core business, including its skyscraper HQ in Manhattan.

US administrators claimed that this saved jobs. Lomas is dismissive, arguing that the move "disenfranchised" them, making it more difficult for creditors and clients to establish who is owed what as vital information is no longer in the hands of the US estate.

This has led to a rather nasty spat between the US and UK teams. Lehman lawyers in the US want to establish a protocol that would help all the various administrators around the globe work in tandem.

Having already questioned his US counterparts over the fire sale, Lomas argues: "We are co-operating with [Lehman] counterparties, but we're reluctant to sign up to a global agreement that might not be beneficial to our creditors."

The protocol is non-binding, but Lomas feels that by autographing the agreement, signatories face "moral obligations" that would hinder PwC's independence and duty to creditors and former LBIE clients.

Now it gets difficult

As if all this wasn't complicated enough, there is a second group of former clients that PwC must satisfy. Their transactions with LBIE were unsecured and are mostly those abstract sounding terms that bankers use, such as derivatives and swaps.

The ownership and value of these will be difficult to unravel, particularly as what is owed will be dependent on how undrelying share prices have performed. In total, these transactions represent a balance sheet of $1.2trn, made up of $600bn in assets and $600bn in liabilities.

"There are all sorts of odd things in there," chuckles Lomas. "The valuation methodologies really are a black art, and there are quite literally hundreds of thousands of these transactions to go through."

And that means the hours are tough. Despite covering other situations, Pearson still works 10 to 12 hours a day on LBIE.

Lomas's commitments led him to miss six consecutive meetings of the governing council of the Institute of Chartered Accountants in England and Wales. He only narrowly survived a vote that would have booted him off.

But Lomas and Pearson are convinced that the time – as well as the hefty fees – spent on LBIE will be worth it. "Everybody expected us to get less than a penny in the pound to Enron creditors," smiles Pearson. "At the end of the day they got 45p in the pound."

The difference is, the end of this day is nowhere in sight.