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The Reformed Broker

Ernst & Young under legal scrutiny for Repo 105 moves

Repo 105 maneuvers allowed Lehman to move tens of billions in liabilities off its balance sheet temporarily. Will its auditor, Ernst & Young, now face prosecution?

By Joshua M. BrownGuest blogger / December 21, 2010

This 2004 file photo shows the Times Square offices of accounting firm Ernst & Young, which currently faces legal action for their role in allowing Lehman Brothers to 'window dress' their balance sheets in a move known as 'Repo 105.'

Frances M. Roberts / Newscom

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America is a religious country and its citizens watch a lot of movies and TV - this imbues us as a society with a strong sense of right and wrong. As a culture, we feel unsettled when we don't get that good-wins-out-over-evil satisfaction, that sense of closure that the unjust have been punished.

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One of the most frustrating aspects of the credit crisis's denouement has been the lack of criminal prosecutions; so far, no one has paid any kind of price for the ills and sins of the bubble save for a handful of suicides and wrist slaps.

Of all of those sins, one of the most obviously criminal was the window dressing done each quarter to hide massive amounts to debt from shareholders and the public. The mechanism by which this fraud was carried out was called Repo 105. I had a decidedly strong opinion on Repo 105 transactions back in March when we first learned of them (Excessive Use of Repo 105 is White Collar Crime). Now, it appears, New York State's AG Christopher Andrew Cuomo is going to go after Lehman's auditor, Ernst & Young, for this scam...

From the Wall Street Journal:

The transactions in question, known as "window dressing," involve repurchase agreements, or repos, a form of short-term borrowing that allows banks to take bigger trading risks. Some banks have systematically lowered their repo debt at the ends of fiscal quarters, making it appear they were less risk-burdened than they actually were most of the time.

Lehman Brothers dubbed transactions of this type "Repo 105." The maneuver came to light in March, when the bankruptcy examiner investigating the firm's collapse more than two years ago found that it moved some $50 billion in assets off its balance sheet. Lehman labeled those transactions as securities sales instead of loans, which led investors to believe the firm was financially healthier than it really was.

The bankruptcy examiner's report and the attorney general's investigation found that Lehman Brothers carried out the Repo 105 transactions on a quarterly basis in 2007 and 2008 without telling investors. Mr. Cuomo's investigation found that Repo 105 transactions started as far back as 2001, said the person familiar with the probe.

Hiding tens of billions in real estate and mortgage liabilities for a period of days just to dress up quarterly reports is fraud. I'm sure Ernst & Young will end up settling, but at least someone's paying attention.

Source:

Auditors Face Fraud Charge (WSJ)

Read Also:

Excessive Use of Repo 105 is White Collar Crime (TRB)

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