Thursday, June 5, 2008

LEH a look under the hood

Lehman's primary revenue business segment is Capital Markets:

The Capital Markets segment is divided into two components:

Fixed Income — The Company makes markets in and trades municipal and public sector instruments, interest rate and credit products, mortgage-related securities and loan products, currencies and commodities. The Company also originates mortgages and structures and enters into a variety of derivative transactions. The Company provides research covering economic, quantitative, strategic, credit, relative value, index and portfolio analyses. Additionally, the Company provides financing, advice and servicing activities to the hedge fund community, known as prime brokerage services. The Company engages in certain proprietary trading activities and in principal investing in real estate that are managed within this component.

Equities — The Company makes markets in and trades equities and equity-related products and enters into a variety of derivative transactions. The Company also provides equity-related research coverage as well as execution and clearing services for clients. Through capital markets prime services, the Company provides prime brokerage services to the hedge fund community. The Company also engages in proprietary trading activities and private equity and other related investments.

Business model suffers as its primary business segment is under pressure and will require increased business development, products and features. LEH credit products are under severe distress. Other banks are expanding offerings of dark pools and "algo factories" for its trading clients. This adds additional pressure upon LEH and others on trading market share. As far as the trading arm's race, the top algo providers according to and its respondent poll, 60% named CS, 40% named ITG, and 27% named GS in third place. so what if the numbers dont add up, its a rank order thing.

When looking at the Q1 10Q I find the following:

Cash Flow from Operations CFO is -$10.6B
Cash Flow From Investing CFI is -$321mm
Cash Flow From Financing CFF is +$11.2B

CFO They have a what seems like a $47B in financial instruments sold but not yet bought as what looks like a hedge against for possibly the $85B Mortgage Backed Securities MBS asset position it holds.

CFF $18.2B came from long term debt issuance to support Operations, Investments, Pay Dividends, etc.

LEH reported that it holds approx $326B in Financial Instruments, of which $85B is MBS. Net Exposure of $38B. If the MBS position is worth $.50 on the dollar this could mean $19B in Asset Value losses that have not yet been reported.

I think they raised about $18.2B so far with the bond issue, so they may need another $19B or more depending on how the $326B position does.

Comments are welcome

Resource: More about Statement of Cash Flows

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