Lehman Brothers Financial SA (LEHNQ)

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Creditor Recovery in Lehman’s Bankruptcy

Why is the current recovery rate nearly double that of Lehman’s initial estimate of 16 percent? The main reason is that prices of assets held by Lehman increased as the economy recovered during bankruptcy proceedings, especially for loans, real estate, and private equity investments. Also, some large-value disputed claims (for example, by certain derivatives counterparties and JPMorgan Chase) were decided by the court in Lehman’s favor, reducing the amount of allowed claims.

The Cost of Delayed Recovery
While the delays in reaching a resolution promoted recovery as asset prices improved, the delays also reduced the value of the amounts recovered. 👉️Payments made years after bankruptcy are necessarily worth less than more timely payments because of the time value of money. Moreover, creditors👉️ lost the liquidity value of their assets over the resolution period. These costs are particularly high in Lehman’s case since the firm’s time in default is so far about eight times greater than the typical bankruptcy length of fourteen months. Indeed, soon after the bankruptcy filing, some creditors sold their claims to distressed-debt-investing hedge funds.

To account for delays, we estimate the present value of the recovery to creditors as of September 15, 2008, as the discounted value of the actual distributions. Our discount rate is either the 👉️Treasury yield or a👉️ corporate bond yield, both with maturity equal to the time difference between the actual distribution date and September 15, 2008. Treasury yields account for the time value of money, but underestimate the true discount rate since they ignore the liquidity premium.👉️ Corporate bond yields include a liquidity premium, albeit one that is likely too small (because corporate bonds are more liquid than bankruptcy claims), but also a credit-risk premium. The difference between corporate bond yields and Treasury yields is thus a rough estimate of the liquidity premium, which may be somewhat high or low.

We find the present value of recovery for third-party creditors as $80 billion👉️ using Treasury yields and $65 billion using corporate bond yields, as compared to the $94 billion nominal value of the sixteen distributions (see chart below). The $14 billion difference between $94 billion and $80 billion measures the time value of money and the $15 billion difference between $80 billion and $65 billion represents the lost liquidity value. Adjusted for these factors, the recovery rate declines to between 21 percent and 26 percent (see the chart above)

https://libertystreeteconomics.newyorkfed.org/2019/01/creditor-recovery-in-lehmans-bankruptcy/