Lehman called it "financial engineering," a creative use of accounting to hide the fact the once venerable investment bank was over-leveraged. In simpler words, they timed transactions, in effect cooked the books, to portray an inaccurate picture of the firm's financial health as measured by its balance sheet.

Such is the conclusion of the court-appointed financial examiner Anton Valukis whose 2,200 page reported was unsealed and released to the press. The report even assigns motive for Lehman's financial gimmickry. Valukis finds that Lehman's senior executive did what they "to buy itself more time, to maintain that critical confidence, Lehman painted a misleading picture of its financial condition."

From the New York Times:

It is the Wall Street equivalent of a coroner’s report — a 2,200-page document that lays out, in new and startling detail, how Lehman Brothers used accounting sleight of hand to conceal the bad investments that led to its undoing.

The report, compiled by an examiner for the now-bankrupt bank, hit Wall Street with a thud late Thursday. The 158-year-old company, it concluded, died from multiple causes. Among them were bad mortgage holdings and, less directly, demands by two rivals, JPMorgan Chase and Citigroup, that the foundering bank post collateral against loans it desperately needed.

But the examiner, Anton R. Valukas, also for the first time laid out what the report characterized as “materially misleading” accounting gimmicks that Lehman used to mask the perilous state of its finances. The bank’s bankruptcy, the largest in American history, shook the financial world. Fears that other banks might topple in a cascade of failures eventually led Washington to arrange a sweeping rescue for the nation’s financial system.

According to the report, Lehman used what amounted to financial engineering to temporarily shuffle $50 billion off its books in the months before its collapse in September 2008 to conceal its dependence on leverage, or borrowed money. Senior Lehman executives, as well as the bank’s accountants at Ernst & Young, were aware of the moves, according to Mr. Valukas, a partner at the law firm Jenner & Block, who filed the report in connection with Lehman’s bankruptcy case.

Richard S. Fuld Jr., Lehman’s former chief executive, certified the misleading accounts, the report said.

“Unbeknownst to the investing public, rating agencies, government regulators, and Lehman’s board of directors, Lehman reverse engineered the firm’s net leverage ratio for public consumption,” Mr. Valukas wrote.

Mr. Fuld was “at least grossly negligent,” the report states. Lehman executives engaged in what the report characterized as “actionable balance sheet manipulation,” in addition to “nonculpable errors of business judgment.”

The accounting gimmick that Lehman used is a technique that Lehman operatives called "repo 105." Using the technique Lehman executives temporarily boosted the bank's balance sheet by as much as $50 billion dollars with the intent of securing favorable marks from the credit rating agencies that determined Lehman's access to capital. The New York-base investment temporarily sold assets, with an obligation to re-purchase them days later, at the end of financial quarters in order to get a temporary influx of cash so as to lower financial coverage ratios. Members of Lehman's own financial staff described this as an "accounting gimmick" and a "lazy way" to meet balance sheet targets.

When Lehman collapsed in the fall of 2008, the firm had $25 billion in capital supporting $700 billion of assets and liabilities, a leverage ratio that is simply astronomical. Lehman's woes were tied to the collapse of the US real estate market. Unlike other financial instruments, real estate assets are highly illiquid. More over, Lehman financed its acquisitive growth with borrowed money. Thus Lehman could not easily reduced its leverage especially once those assets began to shed their value.

“In addition to the loss, the perception can be that there is ‘air’ in the valuation of other illiquid assets that remain on the balance sheet, exacerbating the risk of a loss of confidence in the firm’s future,” the examiner notes.

To maintain favourable ratings from the credit ratings agencies, Lehman engaged in what was referred to internally as “Repo 105,” a sort of window-dressing which involved getting $50bn of assets off the firm’s balance sheet at the end of both the first- and second-quarter balance sheets, the report said.

When Lehman first began engaging in such window dressing in approximately 2001, the firm could not get a US law firm to sign off on the transactions, which led Lehman to conduct these repo transactions out of its London unit, with the blessing of a UK law firm, the report said.

A Lehman senior vice president raised questions about the propriety of these transactions as early as May 2008, but the report said that the accountants at Ernst & Young “took no steps to question or challenge the non-disclosure of its use of $50bn of temporary, off balance sheet transactions.

The examiner's report found evidence to support "colorable claims", meaning plausible claims, against CEO Dick Fuld and three successive chief financial officers - Chris O'Meara, Erin Callan and Ian Lowitt. The report certainly opens the way for civil suits against Lehman executives and perhaps criminal charges.

The larger picture is that when global firms decide to engage in such corporate malfeasance, they will take advantage of laxer regulations outside the United States. It is significant, but not surprising, that Lehman decided to inmplements its "repo 105" "technique" in London. The Lehman case supports French President Nicolas Sarkoszy's contention that global standards are required.

At the recent World Economic Forum in Davos, President Sarkozy noted that "from the moment we accepted the idea that the market was always right and that no other opposing factors need to be taken into account, globalization skidded out of control."

And the skid marks stretch across all of our backs.