LEHMAN BROTHER’S FAILURE – COULD CAMELS RATING BE USED BY WHISTLEBLOWER?

Abstract

Financial crisis that sparked out in the year 2008 resulted in the collapse of several banking institutions across the globe particularly in United States of America (USA). Perhaps Lehman Brothers was the first in the series of investment banks collapsing in USA. An analysis of financial statements of Lehman Brothers reveals that its financial credentials were very week reaching an alarming level indicating failure/sickness. Leverage ratio was as high as 30:1 indicating high level of financial risk. Similarly, net income showed a wide fluctuation from year 2004 to 2007 and even it reported a net loss in the first quarter of 2008. The net loss of $ 2.80 billion was reported for the first quarter of 2008, in a wide contrast to a net income of $ 4.2 billion in the year 2007. Both of these indicators were sufficient in signaling fast approaching failure yet the rating agencies could not predict the failure in advance. The study carried out by the researcher shows that in this kind of situation when financial parameters show a wide fluctuation the use of CAMELS methodology can help in indicating the failure much in advance of the actual incidence of failure. Different ratios based on CAMELS methodology showed an adverse movement during the year 2006 and 2007 which were sufficient in signaling the failure. The findings suggest that had the rating agencies used CAMELS methodology then a ‘WHISTLE’ could have been blown before the actual incidence of failure of Lehman Brothers.