SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
[ X ] QUARTERLY REPORT UNDER SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended August 31, 1995
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from ____________ to ____________
Commission file number 1-6817
Lehman Brothers Inc.
(Exact Name of Registrant As Specified In Its Charter)
Delaware 13-2518466
(State or other jurisdiction of incorporation) (I.R.S. Employer
Identification No.)
3 World Financial Center
New York, New York 10285
(Address of principal (Zip Code)
executive offices)
Registrant's telephone number, including area code: (212) 526-7000
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange
Act of 1934 during the preceding 12 months (or for such shorter period
that the Registrant was required to file such reports), and (2) has
been subject to such filing requirements for the past 90 days.
Yes X No ______
The Registrant meets the conditions set forth in General Instructions H
1 (a) and (b) of Form 10-Q and therefore is filing this form with the
reduced disclosure format contemplated thereby.
As of October 16, 1995, 1,006 shares of the Registrant's Common Stock,
par value $.10 per share, were issued and outstanding.
LEHMAN BROTHERS INC. and SUBSIDIARIES
FORM 10-Q
FOR THE QUARTER ENDED AUGUST 31, 1995
INDEX
Part I. FINANCIAL INFORMATION Page Number
Item 1. Financial Statements - (unaudited)
Consolidated Statement of Operations -
Three and Nine Months Ended August 31, 1995
and Three and Eight Months Ended August 31, 1994 3
Consolidated Statement of Financial Condition -
August 31, 1995 and November 30, 1994 5
Consolidated Statement of Cash Flows -
Nine Months Ended August 31, 1995
and Eight Months Ended August 31, 1994 7
Notes to Consolidated Financial Statements 9
Item 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 12
Part II. OTHER INFORMATION
Item 1. Legal Proceedings 20
Item 6. Exhibits and Reports on Form 8-K 22
Signatures 23
EXHIBIT INDEX 24
Exhibits
<TABLE>
LEHMAN BROTHERS INC. and SUBSIDIARIES
CONSOLIDATED STATEMENT of OPERATIONS
(Unaudited)
(In millions)
<CAPTION>
Three months ended
August 31, August 31,
1995 1994
<S> <C> <C>
Revenues
Principal transactions $ 159 $ 180
Investment banking 186 116
Commissions 100 98
Interest and dividends 2,634 1,790
Other 7 14
Total revenues 3,086 2,198
Interest expense 2,525 1,695
Net revenues 561 503
Non-interest expenses
Compensation and benefits 306 265
Brokerage, commissions and
clearance fees 47 45
Communications 29 39
Occupancy and equipment 20 20
Professional services 17 25
Business development 18 24
Depreciation and amortization 15 25
Management fees 24 38
Other 24 52
Total non-interest expenses 500 533
Income (loss) before taxes and
preferred dividend of subsidiary 61 (30)
Provision for (benefit from) income taxes 22 (28)
Income (loss) before preferred
dividend of subsidiary 39 (2)
Preferred dividend of subsidiary (17)
Net income (loss) $ 39 $ (19)
</TABLE>
See notes to consolidated financial statements.
<TABLE>
LEHMAN BROTHERS INC. and SUBSIDIARIES
CONSOLIDATED STATEMENT of OPERATIONS
(Unaudited)
(In millions)
<CAPTION>
Nine months Eight months
ended ended
August 31, August 31,
1995 1994
<S> <C> <C>
Revenues
Principal transactions $ 498 $ 616
Investment banking 407 289
Commissions 300 288
Interest and dividends 7,623 4,128
Other 29 33
Total revenues 8,857 5,354
Interest expense 7,358 3,889
Net revenues 1,499 1,465
Non-interest expenses
Compensation and benefits 753 753
Brokerage, commissions and
clearance fees 146 143
Communications 93 101
Occupancy and equipment 64 61
Professional services 61 74
Business development 61 63
Depreciation and amortization 48 69
Management fees 124 38
Other 98 133
Severance charge 27
Total non-interest expenses 1,448 1,462
Income before taxes, cumulative
effect of change in accounting
principle and preferred
dividend of subsidiary 51 3
Provision for (benefit from)
income taxes 7 (24)
Income before cumulative effect
of change in accounting principle
and preferred dividend of
subsidiary 44 27
Cumulative effect of change in
accounting principle, net of taxes (13)
Preferred dividend of subsidiary (45)
Net income (loss) $ 44 $ (31)
</TABLE>
See notes to consolidated financial statements.
<TABLE>
LEHMAN BROTHERS INC. and SUBSIDIARIES
CONSOLIDATED STATEMENT OF FINANCIAL CONDITION
(Unaudited)
(In millions)
ASSETS
<CAPTION>
August November
31, 1995 30, 1994
<S> <C> <C>
Cash and cash equivalents $1,170 $ 361
Cash and securities segregated and on deposit
for regulatory and other purposes 637 1,263
Securities and other financial instruments
owned:
Governments and agencies 15,311 16,941
Corporate obligations and other
contractual commitments 6,658 7,094
Certificates of deposit and other money
market instruments 2,786 1,239
Mortgages and mortgage-backed 2,205 2,444
Corporate stocks and options 1,920 1,411
28,880 29,129
Collateralized short-term agreements:
Securities purchased under agreements to resell 27,004 29,392
Securities borrowed 18,110 9,210
Receivables:
Brokers, dealers and clearing organizations 2,810 3,868
Customers 2,438 1,406
Others 2,681 3,694
Property, equipment and leasehold improvements
(net of accumulated depreciation and
amortization of $451 in 1995 and $424 in 1994) 356 409
Deferred expenses and other assets 193 221
Excess of cost over fair value of net assets
acquired (net of accumulated amortization of
$84 in 1995 and $79 in 1994) 176 181
$84,455 $79,134
</TABLE>
See notes to consolidated financial statements.
<TABLE>
LEHMAN BROTHERS INC. and SUBSIDIARIES
CONSOLIDATED STATEMENT OF FINANCIAL CONDITION (Continued)
(Unaudited)
(In millions, except share data)
LIABILITIES AND STOCKHOLDER'S EQUITY
<CAPTION>
August 31, November 30,
1995 1994
<S> <C> <C>
Short-term financings:
Securities sold under agreements to repurchase $44,549 $44,174
Securities loaned 3,890 315
Commercial paper and short-term debt 1,677 2,272
Securities and other financial instruments sold
but not yet purchased:
Governments and agencies 7,669 5,184
Corporate obligations and other contractual
commitments 3,301 2,842
Corporate stocks and options 1,092 1,352
12,062 9,378
Advances from Holdings and other affiliates 4,999 8,807
Payables:
Brokers, dealers and clearing organizations 2,470 2,730
Customers 5,844 2,059
Accrued liabilities and other payables 3,326 3,416
Senior notes 407 511
Subordinated indebtedness 3,075 2,885
Total liabilities 82,299 76,547
Commitments and contingencies (Note 4)
Stockholder's equity:
Preferred stock, $.10 par value; 10,000 shares
authorized; none outstanding
Common stock, $.10 par value; 10,000 shares
authorized; 1,006 shares issued and outstanding
in 1995 and 1994
Additional paid-in capital 2,496 2,905
Foreign currency translation adjustment 3 3
Accumulated deficit (343) (321)
Total stockholder's equity 2,156 2,587
Total liabilities and stockholder's equity $84,455 $79,134
</TABLE>
See notes to consolidated financial statements.
<TABLE>
LEHMAN BROTHERS INC. and SUBSIDIARIES
CONSOLIDATED STATEMENT OF CASH FLOWS
(Unaudited)
(In millions)
<CAPTION>
Nine months Eight months
ended ended
August 31, August 31,
1995 1994
<S> <C> <C>
CASH FLOWS FROM OPERATING ACTIVITIES
Income before cumulative effect of
change in accounting principle and
preferred dividend of subsidiary $ 44 $ 27
Adjustments to reconcile income to net
cash provided by (used in) operating
activities:
Depreciation and amortization 48 69
Provisions for losses and other reserves 22 45
Other adjustments 13 11
Net change in:
Cash and securities segregated 626 (366)
Receivables from brokers, dealers
and clearing organizations 1,058 (1,342)
Receivables from customers (1,032) (265)
Securities purchased under
agreements to resell 2,388 (10,768)
Securities borrowed (8,900) (3,648)
Securities and other financial
instruments owned 249 (13,619)
Payables to brokers, dealers and
clearing organizations (260) 1,016
Payables to customers 3,675 (198)
Accrued liabilities and other payables (109) (616)
Securities sold under agreements
to repurchase 375 21,606
Securities loaned 3,575 303
Securities and other financial
instruments sold but not yet purchased 2,684 5,266
Other operating assets and liabilities, net 1,063 344
Net cash provided by (used in)
operating activities $5,519 $(2,135)
CASH FLOWS FROM FINANCING ACTIVITIES
Principal payments of senior notes (97) (16)
Proceeds from issuance of subordinated
indebtedness 250 1,060
Principal payments of subordinated
indebtedness (64) (562)
Proceeds from issuance of other
indebtedness 21 827
Principal payments of other
indebtedness (3,810) (26)
Increase (decrease) in commercial paper
and short-term debt, net (519) 1,084
Dividends and capital distributions paid (475) (390)
Net cash (used in) provided by
financing activities (4,694) 1,977
CASH FLOWS FROM INVESTING ACTIVITIES
Purchase of property, equipment and
leasehold improvements (16) (33)
Other
Net cash used in investing activities (16) (33)
Net change in cash and cash equivalents 809 (191)
Cash and cash equivalents, beginning of period 361 316
Cash and cash equivalents, end of period $1,170 $ 125
</TABLE>
SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION (in millions)
Interest paid totaled $7,400 and $3,858 for the nine months
ended August 31, 1995 and the eight months ended August 31, 1994,
respectively. Income taxes paid totaled $11 and $13 for the nine
months ended August 31, 1995 and the eight months ended August 31,
1994, respectively.
See notes to consolidated financial statements.
LEHMAN BROTHERS INC. and SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Basis of Presentation:
The consolidated financial statements include the accounts of
Lehman Brothers Inc., a registered broker-dealer ("LBI") and
subsidiaries (LBI together with its subsidiaries, the "Company"). LBI
is a wholly owned subsidiary of Lehman Brothers Holdings Inc.
("Holdings"). All material intercompany accounts and transactions
have been eliminated in consolidation. The Company's financial
statements have been prepared in accordance with the rules and
regulations of the Securities and Exchange Commission (the "SEC") with
respect to the Form 10-Q and reflect all normal recurring adjustments
which are, in the opinion of management, necessary for a fair
presentation of the results for the interim periods presented.
Pursuant to such rules and regulations, certain footnote disclosures
which are normally required under generally accepted accounting
principles have been omitted. The consolidated statement of financial
condition at November 30, 1994 was derived from the audited financial
statements. It is recommended that these financial statements be read
in conjunction with the audited consolidated financial statements
included in the Company's Transition Report on Form 10-K for the
eleven months ended November 30, 1994.
The nature of the Company's business is such that the results of
any interim period may vary significantly from quarter to quarter and
may not be indicative of the results to be expected for the fiscal
year. Certain prior period amounts reflect reclassifications to
conform to the current period's presentation.
2. Borrowings:
For the nine months ended August 31, 1995, the Company issued
$250 million of 7.125% subordinated indebtedness maturing 2002. This
issuance has been effectively converted to a floating rate obligation,
based on the London Interbank Offered Rate, through the use of an
interest rate swap.
The Company had approximately $161 million of long-term debt
mature during the nine months ended August 31, 1995.
3. Capital Requirements:
As a registered broker-dealer, LBI is subject to SEC Rule 15c3-1,
the Net Capital Rule, which requires LBI to maintain net capital of
not less than the greater of 2% of aggregate debit items arising from
customer transactions, as defined, or 4% of funds required to be
segregated for customers' regulated commodity accounts, as defined.
At August 31, 1995, LBI's regulatory net capital, as defined, of
$1,606 million exceeded the minimum requirement by $1,481 million. On
August 31, 1995, Lehman Government Securities Inc., a wholly owned
subsidiary of LBI and a registered broker-dealer, was merged into LBI.
4. Commitments and Contingencies:
In the normal course of its business, the Company has been named
a defendant in a number of lawsuits and other legal proceedings.
After considering all relevant facts, available insurance coverage and
the advice of outside counsel, in the opinion of the Company such
litigation will not, in the aggregate, have a material adverse effect
on the Company's consolidated financial position or results of
operations.
As a leading global investment bank, risk is an inherent part of
all of the Company's businesses and activities. The extent to which
the Company properly and effectively identifies, assesses, monitors
and manages each of the various types of risks involved in its trading
(including derivatives), brokerage, and investment banking activities
is critical to its success and profitability. The principal types of
risks involved in the Company's activities are market risk, credit or
counterparty risk, and transaction risk. Management has developed a
control infrastructure to monitor and manage each type of risk on a
global basis throughout the Company. For further discussion of these
matters, refer to Note 14 of the Consolidated Financial Statements
included in the Company's Transition Report on Form 10-K for the
eleven months ended November 30, 1994.
5. Changes in Accounting Principles:
Postemployment Benefits. Effective January 1, 1994, the Company
adopted Statement of Financial Accounting Standards ("SFAS") No. 112,
"Employers' Accounting for Postemployment Benefits". SFAS No. 112
requires the accrual of obligations associated with services rendered
to date for employee benefits accumulated or vested for which payment
is probable and can be reasonably estimated. These benefits
principally include the continuation of salary, health care and life
insurance costs for employees on service disability leaves. The
Company previously expensed the cost of these benefits as they were
incurred.
The cumulative effect of adopting SFAS No. 112 reduced net income
for the first quarter of 1994 by $13 million aftertax ($23 million
pretax). The effect of this change on the 1994 results of operations
was not material, excluding the cumulative effect.
Offsetting of Certain Receivables and Payables. In January 1995,
the Financial Accounting Standards Board issued Interpretation No. 41,
"Offsetting of Amounts Related to Certain Repurchase and Reverse
Repurchase Agreements" ("FIN No. 41"). FIN No. 41 is a modification
to Financial Accounting Standards Board No. 39 "Offsetting of Amounts
Related to Certain Contracts" ("FIN No. 39"), which permits certain
limited exceptions to the criteria established under FIN No. 39 for
offsetting certain repurchase and reverse repurchase agreements with
the same counterparty. The Company adopted this modification in
January 1995.
6. Severance Charge:
During the first quarter of 1994, the Company conducted a review
of personnel needs, which resulted in the termination of certain
personnel. The Company recorded a severance charge of $27 million
pretax ($15 million aftertax) in the first quarter of 1994.
7. Related Party Transactions:
In the normal course of business, the Company engages in various
securities trading, investment banking and financing activities with
Holdings and many of its affiliates (the "Related Parties"). In
addition, various charges, such as compensation, occupancy,
administration and computer processing are allocated among the Related
Parties, based upon specific identification and allocation methods.
During the third quarter of 1994, Holdings acquired additional
space in the World Financial Center and also began occupying its
leased facility at 101 Hudson Street in Jersey City, New Jersey. In
addition, certain employees of the Company who perform administrative
and corporate functions were transferred to Holdings. Accordingly,
Holdings has allocated the cost of these new facilities and services
provided by employees transferred to its appropriate subsidiaries.
These charges, which are classified in the consolidated statement of
operations as management fees, are primarily comprised of
compensation, occupancy and computer processing. The result of these
allocations was to reduce expenses incurred directly by the Company in
previous periods with an offsetting increase in management fees.
LB I Group, a wholly owned subsidiary of the Company had
outstanding 1,000 shares of its 9% Cumulative Preferred Stock, Series
A (the "Preferred Stock"), which it issued for an aggregate purchase
price of $750,000,000 to LB Funding Corp., a wholly owned subsidiary
of Holdings for $1,000 in cash and a promissory note of $749,999,000
bearing interest at a rate equal to the holder's cost of funds (the
"Note"). In the fourth quarter of 1994, the Preferred Stock and Note
were canceled. Interest income from the Note was $9 million for the
three months ended August 31, 1994 and $22 million for the eight
months ended August 31, 1994. The dividend requirement on the
Preferred Stock, as reflected on the Company's consolidated statement
of operations was $17 million for the three months ended August 31,
1994 and $45 million for the eight months ended August 31, 1994.
During the nine months ended August 31, 1995, the Company paid
$475 million to Holdings, $409 million as a return of capital and $66
million as dividends.
8. Change in Year-End:
During 1994, the Company changed its year-end from December 31 to
November 30. Such a change to a non-calendar cycle shifts certain
year-end administrative activities to a time period that conflicts
less with the business needs of the Company's institutional customers.
In conjunction with the decision to change its year-end, the Company
is reporting its third quarter 1994 results on the basis of its new
fiscal year.
9. Subsequent Event:
On September 6, 1995, the Company agreed to sell the net assets
of certain of its European branch operations to Prudential Securities.
In August, 1995, the Company also agreed to sell certain of its
domestic retail brokerage accounts to Prudential Securities. These
transactions are expected to close in the fourth quarter. The Company
does not expect any material gain or loss on these transactions.
LEHMAN BROTHERS INC. and SUBSIDIARIES
MANAGEMENT'S DISUCSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Business Environment
The Company's principal business activities, investment banking
and securities trading and sales, are by their nature subject to
volatility, primarily due to changes in interest and foreign exchange
rates, global economic and political trends and industry competition.
As a result, revenues and earnings may vary significantly from quarter
to quarter and from year to year.
The adverse market conditions that prevailed during the last
three quarters of 1994, which were characterized by rising interest
rates and depressed underwriting volumes, continued throughout most of
the first quarter of 1995.
In the second quarter of 1995, market conditions showed signs of
improvement as expectations for lower U.S. interest rates prompted
strong rallies in the stock and bond markets. Although customer
volumes increased in both the debt and equity markets, activity
continued to be volatile during this period. In general, investors
remained conservative and defensive due to uncertainties surrounding
the direction of U.S. interest rates and the value of the dollar.
Over the same period, derivative transaction volumes showed
improvement as customers and clients were looking for protection in a
declining interest rate and volatile currency environment.
The positive momentum established during the second quarter of
1995 continued into the third quarter of 1995. In early July 1995,
the U.S. Federal Reserve Banks reduced the federal funds rate by one-
quarter of a percentage point. Investors reacted favorably to this
long-awaited rate cut, leading to a rally in the bond market.
However, by the middle of July 1995, positive economic data caused
renewed investor concerns regarding inflation, the growth rate of the
economy, and the future direction of interest rates. Towards the end
of the third quarter, the market tone turned decidedly more positive
as investors concluded that further rate increases would be
unnecessary. In addition, the dollar continued to strengthen against
key currencies such as the yen and the deutschemark, providing further
support for a more stable interest rate environment.
The fixed income and equity markets rallied as a result of these
factors. Improved market conditions allowed for a continuing increase
in debt and equity origination activity. Driving the robust equity
markets were strong individual company and industry fundamentals, near
record levels of merger and acquisition activity and substantial cash
inflows into mutual funds.
The positive market conditions experienced during the third
quarter of 1995 continued into the early part of the fourth quarter.
LEHMAN BROTHERS INC. and SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS
Results of Operations
For the Three Months Ended August 31, 1995 and August 31, 1994
Summary. The Company reported net income of $39 million for the
third quarter ended August 31, 1995 as compared to a net loss of $19
million for the third quarter ended August 31, 1994. Net revenues
increased to $561 million in the third quarter of 1995 from $487
million in the second quarter of 1995 and $503 million for the third
quarter of 1994. The increase in net revenues reflected the
continuation of an improved market environment, as the U.S. Federal
Reserve Banks reduction of the federal funds rate and the
strengthening dollar led to stronger U.S. debt and equity markets
which benefitted the Company's customer flow business.
Principal Transactions. Principal transactions revenues include
the results of the Company's market making and trading activity
related to its customer business, as well as proprietary trading for
the Company's own account. As part of its market-making activities,
the Company maintains inventory positions of varying amounts across a
broad range of financial instruments which are marked-to-market on a
daily basis, along with the Company's proprietary trading positions.
The Company utilizes various hedging strategies to minimize its
exposure to significant movements in interest and foreign exchange
rates and the equity and commodity markets. Principal transactions
revenues decreased 12% to $159 million for the third quarter of 1995
from $180 million for the third quarter of 1994. This decline in
principal transactions revenues was primarily due to decreased net
revenues from fixed income derivatives partially offset by an increase
in customer flow activities in certain fixed income products.
Investment Banking. Investment banking revenues increased 60% to
$186 million for the third quarter of 1995 from $116 million for the
third quarter of 1994 and increased 66% from revenues of $112 million
in the second quarter of 1995. The increase in investment banking
revenues during the third quarter of 1995 versus the third quarter of
1994 and the second quarter of 1995 was primarily attributable to
higher levels of underwriting activity due predominantly to a
strengthened equity syndicate calendar. Revenues from strategic
advisory activities remained strong, with increased revenues in the
third quarter of 1995 compared to the third quarter of 1994 and the
second quarter of 1995. Merchant banking results increased primarily
as a result of net unrealized gains in the value of certain
publicly traded equity investments.
Commissions. Commission revenues were $100 million for the third
quarter of 1995, virtually unchanged from the prior year period and
decreased 7% from revenues of $107 million in the second quarter of
1995, reflecting an improvement in the Company's institutional trading
volumes of listed securities offset by the effects of restructuring
the Company's high net worth brokerage unit. Commission revenues are
generated from the Company's agency activities on behalf of
corporations, institutions and high net worth individuals.
Interest and Dividends. Interest and dividend revenues increased
to $2,634 million for the third quarter of 1995 from $1,790 million
for the third quarter of 1994. This increase is the result of higher
levels of interest rates in the third quarter of 1995 versus the third
quarter of 1994 and an increase in the Company's volume of matched
book transactions.
Net interest and dividend revenues increased 15% to $109 million
in the third quarter of 1995 from $95 million in the third quarter of
1994. Net interest and dividend revenue amounts are closely related
to the Company's trading activities. The Company evaluates its
trading strategies on an overall profitability basis which includes
both principal transactions revenues and net interest. Therefore,
changes in net interest and dividend revenue from period to period
should not be viewed in isolation but should be viewed in conjunction
with revenues from principal transactions. Net interest and dividend
revenue is impacted by the balance sheet size and mix of assets, the
amount and mix of short- and long-term funding sources, as well as the
prevailing level, term structure and volatility of interest rates. In
the third quarter of 1995, the increase in net interest and dividend
revenue was due to a higher level of interest earning assets and
increased spreads on certain fixed income products as a result of the
lower interest rate environment.
Non-Interest Expenses. Non-interest expenses decreased 6% to
$500 million for the third quarter of 1995 from $533 million for the
third quarter of 1994. Compensation and benefits expense was $306
million for the third quarter of 1995 and $265 million for the third
quarter of 1994. Compensation and benefits expense in 1995 does not
include any portion of management fees, which are separately
categorized on the Company's consolidated statement of operations,
related to employee services provided by Holdings.
Non-compensation and benefits expenses were $194 million for the
third quarter of 1995 and $268 million for the third quarter of 1994.
Non-compensation and benefits expense includes a $24 million and $38
million management fee in 1995 and 1994, respectively, a portion of
which relates to employee services provided by Holdings.
Cost Reduction Effort. At year end 1994, Holdings announced a
cost reduction target of $300 million on an annualized basis (pre-tax)
compared to the third quarter 1994 annualized expenses. The Company
expects that its overall cost structure will be reduced significantly
as a result of Holdings' cost reduction efforts. However, the
Company's cost structure differs from Holdings in that nonpersonnel
related expenses are not readily determinable from the Company's
statement of operations, since a portion of the Company's management
fee expense is comprised of charges related to employee services
provided by Holdings and its subsidiaries. In addition, the Company's
management fees are subject to fluctuation due to changes in the
nature and levels of intercompany services provided.
Holdings has continued its progress in reducing costs
concentrating on both personnel and non-personnel expenses. During
the third quarter of 1995, Holdings' headcount was further reduced to
8,069 employees at August 31, 1995 from 8,195 at May 31, 1995. Such
reductions were achieved despite certain strategic hires by Holdings
in a number of business units. Holdings also continued to reduce
nonpersonnel expenses with annualized savings of approximately $37
million being achieved in the third quarter when compared to Holdings'
second quarter 1995 expense level. Holdings expects to achieve its
remaining cost reduction objectives by year end 1995.
In addition to the cost reduction efforts described above,
Holdings continues to review its activities, realigning and
consolidating operations where possible. These realignments and
consolidations could result in the relocation of personnel and the
identification of excess operating facilities.
Income Taxes. For the third quarter of 1995, the Company reported
a tax expense of $22 million on pretax income of $61 million. For the
third quarter of 1994, the Company reported a tax benefit of $28
million on a pretax loss of $30 million. The effective tax rate for
these periods differ from the statutory U.S. federal income tax rate
primarily as a result of tax benefits related to income subject to
preferential tax treatment.
Results of Operations
For the Nine Months Ended August 31, 1995 and Eight Months Ended
August 31, 1994
Summary. The Company reported net income of $44 million for the
nine months ended August 31, 1995 and a net loss of $31 million for
the eight months ended August 31, 1994. The 1994 results include a
$15 million aftertax severance charge related to the Company's review
of its personnel needs, and a $13 million aftertax charge for the
cumulative effect of a change in accounting for postemployment
benefits as a result of the adoption of Statement of Financial
Accounting Standards No. 112.
Net revenues were $1,499 million for the nine months ended August
31, 1995 and $1,465 million for the eight months ended August 31,
1994. Although the first quarter of 1994 reflected the carryover of
the 1993 robust operating environment, net revenue levels for the
remainder of 1994 were adversely affected by significantly reduced
underwriting volumes and a less favorable mix of investor activity due
to increasing interest rates and volatile equity markets. The first
quarter of 1995 reflected a continuation of the difficult business
environment, due to further interest rate increases, reduced levels of
debt and equity underwritings and increased volatility in the
secondary markets. Although market conditions showed signs of
improvement during the second quarter of 1995 as a result of
expectations for lower U.S. interest rates, investors still remained
defensive. The third quarter of 1995 reflected the continuation of an
improved market environment, as the U.S. Federal Reserve Banks'
reduction of the federal funds rate and the strengthening dollar led
to stronger U.S. debt and equity markets.
Principal Transactions. Principal transactions revenues were $498
million for the nine months ended August 31, 1995 and $616 million for
the eight months ended August 31, 1994. Principal transactions
revenues were adversely affected by lower customer flow activities,
particularly fixed income derivatives.
Investment Banking. Investment banking revenues were $407
million for the nine months ended August 31, 1995 and $289 million for
the eight months ended August 31, 1994. During the first six months
of 1995, underwriting activity continued at low levels industrywide as
demand for debt and equity issuance remained below the comparable
levels present during 1994. Investment banking revenues in the third
quarter of 1995 were positively affected by higher levels of
underwriting activity due predominantly to a strengthened equity
syndicate calendar. Strong results from merchant banking and
strategic advisory activities continued to positively impact
investment banking revenues in 1995.
Commissions. Commission revenues were $300 million for the
nine months ended August 31, 1995 and $288 million for the eight
months ended August 31, 1994. Commission revenues in 1995 reflect
lower volumes of customer trading in listed securities, primarily due
to the effects of restructuring the Company's high net worth brokerage
unit. Commission revenues are generated from the Company's agency
activities on behalf of corporations, institutions and high-net-worth
individuals.
Interest and Dividends. Interest and dividend revenues were
$7,623 million for the nine months ended August 31, 1995 and $4,128
million for the eight months ended August 31, 1994. Interest and
dividend revenues in 1995 reflects higher levels of interest rates and
an increase in the Company's volume of matched book transactions.
Net interest and dividend income was $265 million for the nine
months ended August 31, 1995 and $239 million for the eight months
ended August 31, 1994. Net interest and dividend revenue in 1995
reflected a higher level of interest earning assets.
Non-Interest Expenses. Non-interest expenses were $1,448 million
for the nine months ended August 31, 1995 and $1,462 million for the
eight months ended August 31, 1994. Compensation and benefits expense
was $753 million for the nine months ended August 31, 1995 and $753
million for the eight months ended August 31, 1994. Compensation and
benefits expense does not include any portion of management fees,
which are separately categorized on the Company's consolidated
statement of operations, related to employee services provided by
Holdings.
Non-compensation and benefits expenses were $695 million for the
nine months ended August 31, 1995 and $709 million for the eight
months ended August 31, 1994. Non-compensation and benefits expenses
in 1995 includes a $124 million management fee, a portion of which
relates to employee services provided by Holdings and in 1994 includes
a $38 million management fee and a $27 million severance charge.
Income Taxes. For the nine months ended August 31, 1995, the
Company reported a tax expense of $7 million on pretax income of $51
million. For the eight months ended August 31, 1994, the Company
reported a tax benefit of $24 million on pretax income of $3 million.
The effective tax rate for these periods differ from the statutory U.S.
federal income tax rate primarily as a result of tax benefits related
to income subject to preferential tax treatment.
Liquidity and Capital Resources
Total assets increased to $84.5 billion at August 31, 1995 from
$79.1 billion at November 30, 1994. The increase in total assets is
primarily the result of the change in the Company's clearing
arrangements. After the close of business on February 17, 1995, the
Company became self-clearing for equities, municipal securities and
corporate debt securities. As a result of this arrangement, assets
increased by approximately $11 billion which were predominantly funded
with offsetting liabilities. The Company's consolidated statement of
financial condition now includes accounts previously cleared, settled
and carried by Smith Barney Inc. The Company has entered into an
agreement, for a term of five years, with the Bear Stearns Securities
Corp. ("BSSC") pursuant to which BSSC has agreed to process the
transactions previously cleared by Smith Barney Inc.
The Company's asset base consists primarily of cash and cash
equivalents and assets which can be converted to cash within one year,
including securities and other financial instruments owned,
collateralized short-term agreements and receivables. Long-term
assets consist primarily of other receivables, property, equipment and
leasehold improvements, deferred expenses and other assets, and excess
of cost over fair value of net assets acquired.
On a daily basis the Company reviews its mix of long- and short-
term borrowings as it relates to maturity matching and the
availability of secured and unsecured financing. In addition, the
Company periodically tests its secured and unsecured credit facilities
to ensure availability and monitors its unencumbered collateral
positions to ensure maximum availability of secured borrowing
facilities.
Short-Term Secured Funding. The Company finances its short-term
assets primarily on a secured basis. At August 31, 1995, 82% of the
Company's securities and other financial instruments owned, securities
purchased under agreements to resell and securities borrowed are
financed by securities and other financial instruments sold but not
yet purchased, securities sold under agreements to repurchase and
securities loaned.
Short-Term Unsecured Funding. The Company uses short-term
unsecured borrowing sources to fund short-term assets not financed on
a secured basis. The Company's primary sources of short-term,
unsecured general purpose funding include commercial paper and short-
term debt, including master notes and bank borrowings under
uncommitted lines of credit. Commercial paper and short-term debt
outstanding totaled $1.7 billion at August 31, 1995, compared to $2.3
billion at November 30, 1994. The Company had no commercial paper
outstanding at August 31, 1995 and November 30, 1994.
The Company's uncommitted lines of credit provide an additional
source of secured and unsecured short-term financing. The Company had
$5.2 billion in uncommitted lines of credit at August 31, 1995 and
$5.3 billion at November 30, 1994. Uncommitted lines consist of
facilities that the Company has been advised are available but for
which no contractual lending obligation exists.
Total Capital. Long-term assets are financed with a combination
of long-term debt and stockholder's equity (collectively, "Total
Capital"). The Company's long-term unsecured funding sources are
senior notes and subordinated indebtedness. The Company maintains
long-term debt in excess of its long-term assets to provide additional
liquidity, which the Company uses to meet its short-term funding
requirements and to reduce its reliance on commercial paper and short-
term debt. During the nine months ended August 31, 1995, the Company
paid $475 million to Holdings, $409 million as a return of capital and
$66 million as dividends.
The Company issued $250 million in long-term debt for the nine
months ended August 31, 1995 and $1,060 million for the eight months
ended August 31, 1994. The Company staggers the maturities of its
long-term debt to minimize refunding risk. At August 31, 1995, the
Company had long-term debt outstanding of $3.5 billion compared to
$3.4 billion at November 30, 1994.
At August 31, 1995, the Company had approximately $275 million
available for issuance of indebtedness under its shelf registrations.
Credit Ratings. The current short-term and subordinated debt
ratings of the Company are as follows:
LBI
Short- subordinated
term debt
Duff & Phelps Credit Rating Co D-1 A-
Fitch Investors Service Inc. F-1 A-
IBCA A1 A-
Moody's P2 Baa1
S&P A-1 A
Thomson BankWatch TBW-1 A-
Specific Business Activities and Transactions
The following sections include information on specific business
activities of the Company which affect overall liquidity and capital
resources:
High Yield Securities. The Company underwrites, trades, invests
and makes markets in high yield corporate debt securities. The
Company also syndicates, trades and invests in loans to below
investment grade companies. For purposes of this discussion, high
yield debt securities are defined as securities or loans to companies
rated as BB+ or lower, or equivalent ratings by recognized credit
rating agencies, as well as non-rated securities or loans which, in
the opinion of management, are non-investment grade. Non-investment
grade securities generally involve greater risks than investment grade
securities due to the issuer's creditworthiness and the liquidity of
the market for such securities. In addition, these issuers have
higher levels of indebtedness, resulting in an increased sensitivity
to adverse economic conditions. The Company recognizes these risks
and aims to reduce market and credit risk through the diversification
of its products and counterparties. High yield debt securities are
carried at market value and unrealized gains or losses for these
securities are reflected in the Company's consolidated statement of
operations. The Company's portfolio of such securities at August 31,
1995 and November 30, 1994 included long positions with an aggregate
market value of approximately $696 million and $624 million,
respectively, and short positions with an aggregate market value of
approximately $80 million and $71 million, respectively. The
portfolio may from time to time contain concentrated holdings of
selected issues. The Company's two largest high yield positions were
$51 million and $47 million at August 31, 1995 and $89 million and $70
million at November 30, 1994.
Westinghouse. In May 1993, the Company and Westinghouse Electric
Corporation ("Westinghouse") entered into a partnership to facilitate
the disposition of Westinghouse's commercial real estate portfolio,
valued at approximately $1.1 billion, to be accomplished substantially
through securitizations, asset sales and mortgage remittances.
The Company's original investment in the partnership was approximately
$136 million. The Company also advanced approximately $750 million of
financing to the partnership in 1993, which has subsequently been repaid
in its entirety from proceeds related to the disposition of the real estate
assests. In August 1995, the Company agreed to purchase the
partnership interests owned by Westinghouse. The Company also
entered into an agreement to sell a portion of its partnership
interests to an affiliate of Lennar Inc., a third party mortgage servicer,
so that the Company and Lennar Inc. would own 75% and 25%, respectively,
of the partnership. The Company's net investment in the partnership at
August 31, 1995 is $179 million. As a result of its
increased ownership percentage, the Company's consolidated financial
statements at August 31, 1995 include the accounts of the partnership.
The Company expects to substantially liquidate the remaining loans by
the end of 1996.
Merchant Banking Partnerships. At August 31, 1995, the Company's
investment in merchant banking partnerships was $98 million. At
August 31, 1995, the Company had no remaining commitments to make
investments through these partnerships. The Company's policy is to
carry its interests in merchant banking partnerships at fair value
based upon the Company's assessment of the underlying investments.
The Company's merchant banking investments, made primarily through a
series of partnerships, are consistent with the terms of those
partnerships, and are expected to be sold or otherwise monetized
during the remaining term of the partnerships.
Noncore Activities and Investments. In March 1990, the Company
discontinued the origination of partnerships (the assets of which are
primarily real estate) and investments in real estate. Currently,
Holdings and the Company act as a general partner for approximately
$4.1 billion of partnership investment capital and manage the
remaining real estate investment portfolio. At August 31, 1995, the
Company had $32 million of investments in these real estate
activities, as well as $46 million of commitments and contingent
liabilities under guarantees and credit enhancements, both net of
applicable reserves. In certain circumstances, the Company provides
financial and other support and assistance to such investments to
maintain investment values. There is no contractual requirement that
the Company continue to provide this support. Although a decline in
the real estate market or the economy in general or a change in the
Company's disposition strategy could result in additional reserves,
the Company believes that it is adequately reserved for its
investments in real estate and commitments and contingent liabilities.
Management's intention with regard to noncore assets is the
prudent liquidation of these investments as and when possible.
LEHMAN BROTHERS INC. and SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS
The Company is involved in a number of judicial, regulatory and
arbitration proceedings concerning matters arising in connection with
the conduct of its business. Such proceedings include actions brought
against LBI and others with respect to transactions in which LBI acted
as an underwriter or financial advisor, actions arising out of LBI's
activities as a broker or dealer in securities and commodities and
actions brought on behalf of various classes of claimants against many
securities and commodities firms of which LBI is one.
Although there can be no assurance as to the ultimate outcome,
the Company has denied, or believes it has meritorious defenses and
will deny, liability in all significant cases pending against it
including the matters described below, and intends to defend
vigorously each such case. Although there can be no assurance as to
the ultimate outcome, based on information currently available and
established reserves, the Company believes that the eventual outcome
of the actions against it, including the matters described below, will
not, in the aggregate, have a material adverse effect on its business
or consolidated financial condition.
In re Computervision Securities Litigation (Reported in LBI's Annual
Report on Form 10-K).
Plaintiffs dropped the remaining claim on their original
complaint and sought to amend the complaint. On September 20, 1995,
the Court denied plaintiffs' motion for leave to serve an amended
complaint and entered judgment for defendants.
Glynwil Investment, Ltd. v. Shearson Lehman Brothers Inc. (Reported
in LBI's Annual Report on Form 10-K and First Quarter Report on Form
10-Q).
Subject to the execution of a definitive agreement, the parties
have agreed to a settlement of this action.
First Capital Holdings Inc. - Bankruptcy Court Action. (Reported in
LBI's Annual Report on Form 10-K).
On August 9, 1995, the Bankruptcy Court approved the FCH
creditors' settlement.
Actions Relating to National Association of Securities Dealers
Automated Quotations System ("NASDAQ") Market Maker Antitrust and
Securities Litigation. (Reported in LBI's Annual Report on Form 10-K
and First Quarter Report on Form 10-Q).
The Court dismissed the action, with leave to replead, stating
that the complaint failed to identify the securities involved with
sufficient specificity. The plaintiffs have repled and the defendants
will answer the amended complaint on November 17, 1995.
LEHMAN BROTHERS INC. and SUBSIDIARIES
PART II - OTHER INFORMATION
ITEM 1 LEGAL PROCEEDINGS (Continued)
Berlitz International Inc. v. Macmillan Inc. et al. (Reported in
LBI's Annual Report on Form 10-K)
On the motion of LBIE and PLC, the case was remanded back to the
Court. Following the remand, the parties entered into a stipulation
pursuant to which all proceedings have been stayed pending the outcome
of the appeal in Macmillan v. Bishopsgate Investment Trust et al.,
referred to below.
Macmillan, Inc. v. Bishopsgate Investment Trust, Shearson Lehman
Brothers Holdings PLC et al. (Reported in LBI's Annual Report on Form
10-K)
The Court of Appeal in London is expected to give judgment
shortly on Macmillan's contention that the High Court was wrong to
apply New York law to this dispute. No date has been fixed for the
revised Macmillan appeal.
MCC Proceeds Inc. v. Lehman Brothers International (Europe)
This action was commenced by issuance of a writ in the High Court
of Justice in London, England on 14 July 1995. In this action, MCC
Proceeds Inc., as successor to Macmillan, Inc., seeks relief identical
to that sought in the Berlitz action described above, but based on a
legal theory which was initially pleaded but ultimately abandoned by
the plaintiff in Berlitz. LBIE has issued an application to dismiss
the proceeding.
EXHIBITS AND REPORTS ON FORM 8-K
The following exhibits and reports on Form 8-K are filed as part of
this Quarterly Report, or where indicated, were heretofore filed and
are hereby incorporated by reference:
(a) Exhibits:
12. Computation in Support of Ratio of Earnings to Fixed
Charges
27. Financial Data Schedule
(b) Reports on Form 8-K:
None
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of
1934, the Registrant has duly caused this report to be signed on its
behalf by the undersigned thereunto duly authorized.
LEHMAN BROTHERS INC.
(Registrant)
Date: October 16, 1995 By /s/ Richard S. Fuld, Jr.
Richard S. Fuld, Jr.
Chairman of the Board and
Chief Executive Officer
(Principal Executive Officer)
Date: October 16, 1995 By /s/ Robert Matza
Robert Matza
Chief Financial Officer
(Principal Financial Officer)
EXHIBIT INDEX
Exhibit No. Exhibit
Exhibit 12. Computation in Support of Ratio of Earnings to Fixed Charges
Exhibit 27. Financial Data Schedule
Exhibit 12
LEHMAN BROTHERS INC. and SUBSIDIARIES
COMPUTATION in SUPPORT of RATIO of EARNINGS to FIXED CHARGES
(Dollars in millions)
(Unaudited)
For the For the
Eleven Nine
Months Months
Ended Ended
For the Year Ended December 31, November 30, August 31,
1990 1991 1992 1993 1994 1995
Fixed charges:
Interest expense:
Subordinated
indebtedness 277 231 210 192 184 150
Bank loans and other
borrowings* 3,753 4,068 4,363 4,393 5,661 7,208
Interest component of
rentals of office and
equipment 57 64 64 62 27 20
Other adjustments** 73 88 127 101 53 2
TOTAL (A) $4,160 $4,451 $4,764 $4,748 $5,925 $7,380
Earnings:
Pre-tax income (loss)
from continuing
operations (501) 283 319 (146) 1 51
Fixed charges 4,160 4,451 4,764 4,748 5,925 7,380
Other adjustments*** (68) (69) (68) (68) (52) (1)
TOTAL (B) $3,591 $4,665 $5,015 $4,534 $5,874 $7,430
(B / A) **** 1.05 1.05 **** **** 1.01
* Includes amortization of long-term debt discount.
** Other adjustments include capitalized interest and debt
issuance costs, amortization of capitalized interest and
preferred stock dividends of a wholly owned subsidiary.
*** Other adjustments include adding the net loss of affiliates
accounted for at equity whose debt is not guaranteed by the
Company and subtracting capitalized interest costs and
undistributed net income of affiliates accounted for at equity
and preferred stock dividends of a wholly owned subsidiary.
**** Earnings were inadequate to cover fixed charges and would have
had to increase approximately $569 million in 1990, $214
million in 1993 and $51 million in 1994 in order to cover the
deficiency.
<TABLE> <S> <C>
<ARTICLE> BD
<LEGEND>
This schedule contains summary financial information extracted from the
Consolidated Statement of Financial Condition at August 31, 1995 (Unaudited) and
the Consolidated Statement of Operations for the nine months ended August 31,
1995 (Unaudited) and is qualified in its entirety by reference to such financial
statements.
</LEGEND>
<CIK> 0000728586
<NAME> LEHMAN BROTHERS INC.
<MULTIPLIER> 1,000,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> NOV-30-1995
<PERIOD-START> DEC-01-1994
<PERIOD-END> AUG-31-1995
<CASH> 1,807
<RECEIVABLES> 7,929
<SECURITIES-RESALE> 27,004
<SECURITIES-BORROWED> 18,110
<INSTRUMENTS-OWNED> 28,880
<PP&E> 356
<TOTAL-ASSETS> 84,455
<SHORT-TERM> 1,677
<PAYABLES> 8,314
<REPOS-SOLD> 44,549
<SECURITIES-LOANED> 3,890
<INSTRUMENTS-SOLD> 12,062
<LONG-TERM> 3,482
<COMMON> 0
0
0
<OTHER-SE> 2,156
<TOTAL-LIABILITY-AND-EQUITY> 84,455
<TRADING-REVENUE> 498
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<INVESTMENT-BANKING-REVENUES> 407
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<COMPENSATION> 753
<INCOME-PRETAX> 51
<INCOME-PRE-EXTRAORDINARY> 44
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