What killed Lehman

NEW YORK (CNNMoney.com) -- Failings by Lehman Brothers executives and its auditor led to the bank collapse that unleashed the worst of the financial crisis, according to a report by a court-appointed investigator.

Lehman "repeatedly exceeded its own internal risk limits and controls," and a wide range of bad calls by its management led to the bank's failure, says the report, authored by examiner Anton Valukas.

Valukas, of New York law firm Jenner & Block, was appointed in January 2009 by the U.S. Bankruptcy Court for the Southern District of New York to examine the causes of Lehman's failure.

Lehman's bankruptcy filing on Sept. 15, 2008 -- the largest Chapter 11 filing in financial history -- capped a 95% slide in the firm's stock price and unleashed a crisis of confidence that threw financial markets worldwide into turmoil, sparking the worst crisis since the Great Depression.

As a credit squeeze caused investor confidence to falter in the fall of 2008 Lehman tried to stave off collapse by painting a misleading picture of its financial condition, the report claims.

The report is highly critical of Lehman's executives, who "should have done more, done better."

Valukas blamed Lehman executives for exacerbating the firm's problems, resulting in financial fallout to creditors and shareholders. The executives' conduct "ranged from serious but non-culpable errors of business judgment to actionable balance sheet manipulation," he said.

The report said former Chief Executive Richard Fuld was "at least grossly negligent in causing Lehman to file misleading periodic reports."

But it says responsibility for its collapse is shared. A flawed business model that rewarded excessive risk and leverage exacerbated the bank's problems, as did government agencies.

Lehman's plight "was more the consequence than the cause of a deteriorating economic climate," Valukas wrote.

In particular, the examiner's report criticizes Lehman's failure to disclose its use of an accounting device called "Repo 105" to make its books look better. Lehman used this device to strip some $50 billion of undesirable assets from its balance sheet at the end of the first and second quarters of 2008, instead of selling those assets at a loss, according to the report.

Accounting rules permitted Lehman to treat this transaction as sales instead of financings, "so that the assets could be removed from the balance sheet," according to the report.

The examiner's report included e-mails from Lehman's global financial controller confirming that "the only purpose or motive for [Repo 105] transactions was reduction in the balance sheet," adding that "there was no substance to the transactions."

The report accused Lehman of not disclosing its use of Repo 105, let alone its "significant magnitude," to government regulators, rating agencies, investors or its board of directors.

The auditor Ernst & Young was aware of the use of Repo 105, but it did not challenge or question it, according to the report, which runs more than 2,200 pages.

The report said there was "sufficient evidence" that Fuld knew about the use of Repo 105 before signing off on quarterly financial reports that made no mention of it.

The examiner based this charge on statements from former Chief Operating Officer Bart McDade, who said he discussed the use of Repo 105 with Fuld. The report also said that Fuld denied, in an interview with the examiner, any recollection of the conversations with McDade.

Fuld's lawyer, Patricia Hynes of Allen & Overy LLP, said that her client was not aware of his company's use of Repo 105.

"Mr. Fuld did not know what these transactions were -- he didn't structure or negotiate them, nor was he aware of their accounting treatment," said Hynes, in a statement.

Ernst & Young spokesman Charlie Perkins deflected blame from his company, saying that Lehman's bankruptcy "was the result of a series of unprecedented adverse events in the financial markets."

Perkins, in a statement, noted that his Ernst & Young conducted its last audit of Lehman for the fiscal year ended Nov. 30, 2007, more than nine months before the Chapter 11 filing.

"Our opinion indicated that Lehman's financial statements for that year were fairly presented in accordance with generally accepted accounting principles [GAAP] and we remain of that view," he said.

Fuld was defended by his attorney, Hynes, who said the ex-Lehman chief "throughout his career faithfully and diligently worked in the interests of Lehman and its stakeholders."

In congressional testimony on Oct. 6, 2008, Fuld said, "I wake up every single night thinking, 'What could I have done differently?' "