Lehman Brothers Holdings Inc. was a global financial services giant which, until declaring bankruptcy in 2008, participated in investment banking business and related areas. It was a primary dealer in the U.S. Treasury securities market. Its subsidiaries included Lehman Brothers Inc., Aurora Loan Services, Inc., SIB Mortgage Corporation, and Lehman Brothers Bank. The firm’s headquarters were in New York, with regional headquarters in London and Tokyo.

A March 2010 report by the court-appointed examiner indicated that Lehman executives regularly used cosmetic accounting gimmicks at the end of each quarter to make its finances appear less shaky than they really were. As, the investment bank wasn’t able to persuade its own lawyers in the United States that the relevant deals it did in the US constituted real deals with outsiders, so, it routed them through its British subsidiary. (Actually, they were fictitious deals but they wanted to make it look real.) That meant they came under the British legal system, and the UK-based law firm Linklaters was able to opine that the transactions counted as true and fair. The US accounting standards apparently did the rest, allowing Lehman to shuffle US $50 billion of assets off its balance sheet. Ernst & Young were the firm’s auditors.

The investigators commented that if Lehman had stayed entirely at home, using both United States laws and accounting standards, it would have failed. Similarly, if the firm had hopped over the Atlantic and applied international accounting standards as well as British law, the scheme would also have failed. A senior official inside the company warned that the use of such treatment would present “reputational risk” to the company, if the public found out.

(a) Why should firms create their own subsidiaries especially while operating in other countries?

(b) Forum shopping occurs when there is the combination of an inducement to go to an alien forum (i.e., foreign jurisdictions) and an opportunity for the plaintiff to bring proceedings there. It is also known as regulatory arbitrage. In this case, can we say that Lehman indulged in forum shopping? If yes, whose help would it have possibly taken to do the same?

(c) How can regulators in different jurisdictions close such gaps?