Jenner & Block Chairman Anton Valukas, the court-appointed examiner in the spectacular fall of Lehman Brothers in 2008, has plenty to tell directors. He noted that in a different time and in a different context, Leon Cooperman, president of the investment firm Omega Advisors, told Tyco executives, “This board of directors has been totally asleep.” So it is fair to ask: Was the Lehman board asleep? How did the failure of this oncelauded institution happen on their watch? What lessons can be learned? This is what Valukas told a lunchtime gathering of directors at the 11th annual NACD Directorship 100 Forum.
Anton Valukas
So where were the directors? You should take comfort—and as a lawyer who represents a lot of directors, I do—in the fact that current law provides great protection to directors under the business judgment rule, which provides the Court will not substitute its judgment for that of the board as long as the board’s decision can be attributed to any rational business purpose, even if the judgment turns out to be poor.
While I found in my report that there were colorable claims—suits that could be brought against certain Lehman’s officers and Lehman’s auditors— I concluded that there were no such claims that could be brought against the directors.
But the lens through which a court or a subsequent reviewer might look at things will be different, because we’ve had this experience and directors should have learned from this experience. Lehman’s board could not have anticipated the storm that hit them, but future boards will be charged with the knowledge that such storms do exist, and more will be expected of them in the future. Directors are not management. They cannot be expected to make the business decisions or substitute their judgment for management. But future boards need to ask more questions—to better assure themselves that management has its procedures right and that they understand what it is that they’re hearing from the management.
It’s understandable that Lehman’s board accepted management’s report that Lehman had adequate liquidity under its stress tests, without drilling down to ask whether those stress tests were sufficiently comprehensive, and did they really cover the areas that were at risk. Future boards will definitely be expected to drill harder and deeper.
It is understandable that Lehman’s board did not ask the question that would have elicited management’s responses to the use of Repo 105 to reduce leverage. Future boards are definitely going to be asked—they’re going to have to be asking the questions about off balance-sheet transactions and window dressing.
Treasury Secretary [Timothy] Geithner told me that it was generally accepted on Wall Street that there would be a little window dressing. I asked him whether he thought $50 billion was a little window dressing. He said, “No, that’s not a little window dressing.” But I think the days of window dressing are at an end.
After my report became public, the SEC asked questions of a wide variety of firms about window dressing and got some startling responses. I have to say this, as an aside: When I concluded this report, I got a phone call from Chairman [Mary] Schapiro. I thought that was fairly remarkable, the head of the SEC calling a private lawyer. She wanted to know how the SEC could do better. She flew out with her top people, including the head of enforcement, to Chicago, to meet with me and spent an entire day with us going through the report and how it was that the SEC failed and what they could do better.
The lesson of Lehman: “It was management’s job to manage, but it was the board’s job to understand whether management was paying proper attention to risk.”
And I am encouraged—although I know some here aren’t all that enthusiastic about SEC regulation— I am encouraged that what they are trying to do is do better, and they are focused on doing just that.
They have a proposal on the table right now in the form of regulation, which essentially will say, zero tolerance for window dressing. And that should be the way it is. Boards ought to be asking this question about that: “Are we doing something, the purpose of which is to make us look better than we really are?”
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