The Lowdown on the Lehman Shuffle

The beleaguered investment bank ousts Erin Callan from the CFO slot and Joseph Gregory as COO. Will the moves pacify its critics?

by Ben Levisohn

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Heads usually roll on Wall Street when the going gets ugly, and this time is no exception. On June 12, Lehman Brothers Holdings (LEH) ousted its highly visible chief financial officer, Erin Callan, along with its president and chief operating officer, Joesph Gregory, as the company hopes to stanch the bleeding caused by massive writedowns and a rapidly sinking share price. Lehman announced that both Callan and Gregory would remain with the firm, with Callan returning to its investment banking unit.

So far, Chief Executive Officer Richard Fuld remains secure. Fuld is the architect of Lehman's comeback following its disastrous 1980s merger with American Express (AXP). He also guided the company through the Long Term Capital Management crisis in 1998, when Wall Street had essentially written off the firm. "If Fuld does step down or is axed, then the real debate can began on Lehman's survival," says Celent analyst Chermaine Lee.

Plummeting Share Price

The No. 4 U.S. investment bank's $6 billion capital infusion announced June 9 was supposed to silence its critics and restore a sense of normalcy for the beleaguered firm. It's done anything but. Fears that Lehman still has toxic investments on its books—and that it could face additional writedowns beyond the $5.5 billion net amount announced in its first and second quarters—drove down its stock price 33% this week.

Lehman has had a rough go of it since Callan became CFO in September. The stock is down 64% since Sept. 20, shedding more than $20 billion in market capitalization. It took $4.7 billion in writedowns in the first quarter due to bad mortgage bets and on June 9 announced a $2.8 billion quarterly loss, the first in its history. While big-name investors like BlackRock's (BLK) Larry Fink and former American International Group (AIG) CEO Hank Greenberg have publicly stated that they're investing in the company, some analysts have begun to question whether Lehman can continue to go it alone (BusinessWeek.com, 6/11/08).

Certainly, Callan is not solely responsible for the firm's troubles. Lehman is one of many financial giants announcing writedowns and losses from the subprime mess. Furthermore, many of Lehman's costly decisions—like aggressive bets on mortgage-backed securities—were made well before her appointment. However, some recent actions appeared to undermine Lehman's—and Callan's—credibility.

Moves Didn't Pan Out

As the public face of Lehman, Callan convinced investors in March that the firm would be able to hedge its way out of trouble. That notion turned out to be just plain wrong, as Lehman's June 9 announcement of its loss demonstrated.

Earlier, with rumors swirling about Lehman's liquidity, the company announced that it had been buying back stock. While the move indicated Lehman's commitment, sophisticated investors know that a stock buyback is not the best tactic when you're trying to raise equity.

Finally, there's the question of Lehman's star-crossed hedges on its mortgage-backed securities, which backfired this quarter, adding to the losses. It all added up to changes in the executive suite. "When you report a big loss and your risk management is brought into question by it, someone's head rolls," said Sandler O'Neill analyst Jeffrey Harte.

For some, Callan is little more than a scapegoat, with her move out of the finance chief's spot into a position at the company's investment banking unit a sop to angry, anxious investors. "It's no different than Major League Baseball," says Jeff Greene of executive search firm Battalia Winston. "The team's playing terribly, so you fire the manager."

Familiar Faces Step In

Others, however, believe she was simply out of her depth. It's an example of what happens when you put executives "in positions where they have no experience and expect them to work miracles," Ladenburg Thalmann (LTS) analyst Dick Bove says. "She hasn't made any good decisions."

Now it's up to some not-so-new faces to guide the firm forward. Callan has been replaced as CFO by Lehman veteran Ian Lowitt, a former McKinsey consultant who came on board in 1994. With experience as global treasurer and chief administrative officer at Lehman, he could be the perfect CFO for these troubled times. "He has the background and longevity with the firm to be well suited to this environment," said Keefe Bruyette & Woods (KBW) analyst Lauren Smith. He'll be joined by Herbert McDade, another old Lehman hand, as president and COO.

"If you do bad things and get bad results, you should be fired," Bove said. "Feeling sorry for people on Wall Street is like feeling sorry for Attila the Hun."

Levisohn is a staff editor at BusinessWeek covering finance and personal finance.