So wrote Matthew Lee, on May 18, 2008, to the CFO and Chief Risk Officer of Lehman Brothers, a firm that had employed him as an analyst since 1994. Mr. Lee, who headed global balance-sheet and legal-entity accounting, then went on to describe "tens of billions of dollars" on the firm's balance sheet that could not be substantiated. Mr. Lee also highlighted Lehman's use of Repo 105, a means Lehman used to make appear to be solvent. Repo 105 was used to move about \(\$ 50\) billion in debt off the Lehman balance sheet.

The response to Mr. Lee was astonishing but typical: (1) Ernst \& Young, the firm's auditor, referred to Mr. Lee's memo as "pretty ugly," but concluded the issues that he raised were immaterial and his allegations unfounded and (2) Mr. Lee was fired.

Lehman declared bankruptcy on September 15, 2008. Mr. Lee was correct, and the bankruptcy report is a scathing one that demonstrates the top executives at Lehman were aware of both the level of risk exposure as well as the accounting practices used to conceal that exposure.

In the ongoing litigation by Pursuit Partners LLC against UBS AG, there is a similar revelation from an employee about the knowledge floating internally about the quality of its collateralized debt obligations (CDOs) that were being sold as investment-grade instruments but were anything but. In the fall of 2007, internal documents show that UBS employees were concerned about the debt securities the bank was carrying and were laboring mightily to find a way to unload them on the unwitting. In one e-mail, a UBS AG employee, who is discussing the fact that the toxic instruments are on the bank's books, complains, "OK still have this vomit." 351 A judge has ruled that UBS had an "awareness" that the instruments would turn into "toxic waste," but that it still persuaded Pursuit to purchase the CDOs based upon the UBS promise that it sold only investment-grade securities. Other e-mails gave employees instructions to "unload" the CDOs but warned that there was no need to signal this strategy publicly.

These revelations come on the heels of a jailhouse interview with Bernie Madoff in which he commented that he was "astonished" that he escaped detection of his Ponzi scheme through six SEC investigations. \({ }^{352}\) There was the controlled and secretive access to the computer trading room, the failure to verify trades with the firms Mr. Madoff said he was using (i.e., no one checked the clearinghouse), and the failure to heed the tips and warnings the agency was receiving from those inside the firm as well as from the industry.

There are two powerful common threads in these three market failures that have once again dissipated market trust: (1) those involved were aware of their ethical and legal lapses and (2) the warnings of employees and others were not heeded. These common threads were also present at Enron, WorldCom, HealthSouth, and the problem companies that emerged in our turn-of-the-century scandals.

The key to prevention for stopping these schemes and poor ethical choices is getting the information from those in the organization who have it to those who can and will do something about it. Because these issues all involved or affected CFOs, it is a good time to review those tools that help employees speak up and get information to the right responders. Those who do take action to resolve an issue are not always the first responders who receive the information. There are some cultural and individual leadership skills changes that CFOs can make to prevent these types of situations in which the issues are obvious, and the answers and actions necessary are clear but fail to surface until post-financial collapse. Firms do fall into the trap of ignoring the employee's warnings. Indeed, too often the bearer of bad financial reporting news (the messenger) often ends up being killed, which provides the firm with a temporary means of coping.....................................

Discussion Questions 1. What are sensing mechanisms, and why are they important?
2. What is the humble firm, and how does it encourage ethical behavior?
3. Describe what leads to the types of behaviors at Lehman and other companies that eventually collapse.
4. Why can't managers simply rely on their ethics hotlines?