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At a closed-door meeting in early 2011, Wall Street regulators were close to throwing in the towel on their biggest case.
The Securities and Exchange Commission's (SEC) eight-member Lehman Brothers team, having hit one dead end after another over the previous two years, concluded that suing the bank's executives would be legally unjustified.
The group, noting that prosecutors and FBI agents had already walked away from a parallel criminal case, reached unanimous agreement to close its most prominent investigation stemming from the financial crisis, according to officials who attended the meeting, which has not been reported previously.
But Mary Schapiro, the SEC chairwoman, disagreed. She pushed George Canellos, who supervised the Lehman investigation as head of the SEC's New York office, to explain how executives who presided over the biggest bankruptcy in the history of the United States could escape without a single civil charge.
"I don't get it," she said during a tense exchange with Canellos in her private conference room in Washington, according to the officials.
"Why is there no case?" she continued, staring at Canellos, instructing him to continue investigating whether Lehman misled investors. "The world won't understand."
She was right. Five years after Lehman's collapse hastened a worldwide economic panic, the government faces lingering questions about the decision to spare executives like Richard Fuld, who ran Lehman for 14 years until its demise.
Not a single senior executive from any Wall Street bank faced criminal charges from the crisis, either. And the government's deadline for filing most charges will expire this month, the anniversary of Lehman's collapse, providing a reminder of the case and its unpopular outcome.
The SEC's decision came in stark contrast to a report by Lehman's bankruptcy-court examiner, who accused executives of using an accounting gimmick to "manipulate" the balance sheet.
"There were many instances where the SEC had information and didn't act," said bankruptcy-court examiner Anton Valukas, a former federal prosecutor.
There is widespread agreement that Lehman failed under the weight of risky real estate investments and an inability to finance itself amid the economic turmoil of 2008.
It has been less clear whether the government did a thorough review of the firm's collapse.
Federal prosecutors in Manhattan, Brooklyn and New Jersey, in addition to the FBI and the SEC, all swarmed Lehman in the days after its collapse. The SEC's eight-person team included senior lawyers and accountants, several of whom were assigned exclusively to the Lehman case.
Top Lehman executives feared the fallout. One executive, who spoke on condition of anonymity, said he occasionally met a former colleague in Queens, New York, and would wear a disguise so he would not draw attention.
At the time, authorities had no shortage of leads. Federal prosecutors divided some of the work - prosecutors in New Jersey handled the question of whether Lehman defrauded the state's pension fund - though they overlapped on most pursuits.
The prosecutors and the SEC, for example, both focused on whether Lehman executives misled shareholders by offering upbeat assessments of the firm's health, as little as five days before the firm collapsed.
The authorities also scrutinised whether Lehman executives overvalued its commercial real estate portfolio.
But it was Lehman's accounting practices that probably drew the most attention. In his report on Lehman's failure, a rebuke that spanned more than 2,200 pages, Valukas, the bankruptcy-court examiner, outlined accounting manoeuvres that he called "balance sheet manipulation".
The practice allowed Lehman to transfer securities off its balance sheet, presenting them as collateral to an outside lender, which in turn offered Lehman a short-term loan.
Lehman treated the transactions as sales rather than as debt, which meant the firm looked as if it had less debt than it actually did.
"Unable to find a United States law firm" to approve the manoeuvre, Valukas said, Lehman hired a law firm in London to bless it.
One Lehman executive, in an e-mail to a colleague, declared that the practice was "another drug" they were on.
Lehman often used the practice, known as Repo 105, at the end of its fiscal quarters just before reporting results. At the end of Lehman's first quarter in 2008, its total Repo 105 use was US$49.1 billion, so big that it reduced Lehman's leverage ratio.
Lehman highlighted the reduction in a public earnings call, but never disclosed that it partly stemmed from Repo 105. As such, Valukas outlined possible civil claims against Fuld and his chief financial officers, including Erin Callan, who was the CFO during much of the year in which Lehman collapsed. Fuld, he said, was "at least grossly negligent" for allowing Lehman to make "materially misleading" statements about the firm's health, an important legal standard.
The Valukas report, released in March 2010, appeared to provide a road map for the federal investigation into Lehman executives. But soon after its release, according to the officials involved in the inquiry, prosecutors and the FBI lost interest in the case.
They discovered that Repo 105 had nothing to do with Lehman's failure and was technically allowed under an obscure accounting rule. Noting that London lawyers had approved Repo 105, prosecutors in New York also worried they could not prove that executives intended to mislead investors.
The SEC continued its investigation. But by early 2011, Canellos' team had run out of leads. It ruled out suing Lehman itself, because the firm was in bankruptcy. The team also decided not to sue Fuld for failing to supervise the firm's risk-taking, believing that the SEC did not have the authority to do so.
Federal prosecutors and the SEC have never officially announced its decision to close the Lehman investigation.
The SEC quietly reached the decision last year after officials sparred for months over whether Lehman omitted "material" information in disclosures to investors. Canellos argued that the omissions were not material.
Those who questioned that reasoning - like Schapiro, as well as some accountants and enforcement officials - gave in to Canellos' team, which had best access to the evidence.
The SEC also debated the culpability of top Lehman executives. But Canellos' team argued that Fuld did not know that Lehman was using questionable accounting practices, despite testimony from another Lehman executive suggesting Fuld did.
Schapiro did not override his judgment after SEC officials warned her that it could be unethical to do so. Canellos also had the backing of Robert Khuzami, who ran the SEC's enforcement unit at the time.
But at a 2011 meeting of senior SEC officials, Lorin Reisner, then the No 2 enforcement official, suggested preparing a draft of potential charges so the agency could have a concrete document to review. Canellos' team balked, officials who attended the meeting said.
Canellos instead proposed that the SEC publish a report that would publicly explain the decision not to pursue charges. Schapiro and other SEC officials rejected that option, concerned that Canellos' first draft was too sympathetic to Lehman.
While declining to comment on the Lehman case specifically, an SEC spokesman said: "There are healthy discussions and debate about legal and factual issues at many levels of the agency in investigations of significance. But in the end decisions are based on the evidence and the law."
Yet The Times' examination reveals new details about the breadth of the government's effort - SEC officials reviewed more than 15 million Lehman documents and interviewed some three dozen witnesses.
The decision not to bring charges, the officials said, came despite early hope among investigators, whose careers probably would have benefited from bringing such a prominent case.
The SEC, which has a lower burden for proving its cases than criminal authorities, has brought civil cases against 66 senior officers in cases linked to the financial crisis. The agency also extracted nine-figure settlements from banks like Goldman Sachs.
According to new research by Stanford University's Securities Litigation Analytics, the SEC has declined to charge individual employees in only 7 per cent of its securities fraud cases.
The agency's enforcement unit, overhauled by Khuzami after the crisis, has struck an even harder line in recent months under its new chairwoman, Mary Jo White. A former federal prosecutor, White has pushed the enforcement unit to seek rare admissions of wrongdoing from defendants.
Yet the continued absence of parallel criminal cases against top executives reflects the challenge of white-collar investigations in which prosecutors struggle to pinpoint where risky dealings cross the line into illegality.
"It's not like a murder case, where you have a dead body and you know a crime has been committed," said Rita Glavin, a former federal prosecutor who is now a defence lawyer at Seward & Kissel.
When the evidence is murky, prosecutors sometimes hesitate to charge top executives, who have the money to fight rather than settle.


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In Focus

Too big to jail? Inside the failed Lehman inquiry

Richard Fuld, Lehman's chief executive, faced protests when he testified to Congress in 2008. Neither Fuld nor any other senior executive from a Wall Street bank has faced criminal charges resulting from the crisis. Photo: Reuters

On September 14, 2008, Lehman prepared to file for bankruptcy. Staff at their New York headquarters were gathered and told their fate, with many emptying their desks that day. Photo: AFP

A London newspaper billboard the day after the fall. Photo: AP

News

World

Five years after the collapse of Lehman Brothers triggered a global financial crisis, one question remains: why did nobody go to prison?


The Securities and Exchange Commission's (SEC) eight-member Lehman Brothers team, having hit one dead end after another over the previous two years, concluded that suing the bank's executives would be legally unjustified.


Lehman Brothers

Too big to jail? Inside the failed Lehman inquiry

.css-1c6uqr6{color:inherit;font-weight:inherit;font-size:inherit;font-family:inherit;line-height:inherit;overflow-wrap:break-word;}Five years after the collapse of Lehman Brothers triggered a global financial crisis, one question remains: why did nobody go to prison?

Five years after the collapse of Lehman Brothers triggered a global financial crisis, one question remains: why did nobody go to prison?