The action in Lehman Brothers (LEH) this week reminds me of the Bear Stearns debacle that evolved from Friday March 14 through Monday March 17.

It started with Lehman’s preliminary announcement of 2nd quarter results on Monday before the open in which they said they expected to report a $2.8 billion, $5.14 a share, loss as a result of a $3.7 billion in net writedowns, mainly on real estate related holdings (LEH Earnings Pre-Announcement).

They also announced plans to raise $6 billion in capital (LEH Press Release).

Lehman’s market cap at the time was only $18 billion so those are some pretty big numbers.  Lehman shares sold off 9% on heavy volume on Monday.

Yesterday (Thursday) morning Lehman announced that they were replacing their Chief Operating and Financial Officers (LEH Press Release) and the stock again sold off massively, hitting a 6 year low.

On Monday Lehman will announce its 2nd quarter earnings.  I wonder if anything might happen over the weekend the way it did with Bear Stearns which was scheduled to report earnings on Monday March 17.

The issue concerns Lehman Brothers’s net worth.  According to their first quarter balance sheet they had assets of $786 billion and liabilities of $761 billion for a net worth (called book value) of $25 billion.  But the stock market doesn’t really believe that book value, valuing all of Lehman’s shares at $14 billion.

Of especial concern are the toxic real estate related assets on Lehman’s balance sheet that may very well be worth far less than the value Lehman is carrying them at.  According to an article in today’s WSJ, Lehman is expected to report $30 billion in residential mortgage related assets and $35 billion in commercial mortgage related assets.  If these are in fact only worth 2/3 of that or $22 billion less, then all of Lehman’s book value is wiped out.

It’s hard to know what their assets are really worth but one can’t help wondering whether the assets aren’t worth enough to cover the liabilities.  That is, there is the real possibility that Lehman Brother’s is effectively bankrupt and they’ll have to be acquired by another financial institution a la Bear Stearns.

Volume has spiked massively in Lehman shares over the last two weeks with 20%-30% of outstanding shares trading on a given day (LEH YTD Chart).  According to an article in today’s WSJ, Lehman bonds and credit default swaps are holding up well as the market feels like the Fed won’t allow Lehman to fail.  But the fear level surrounding the equity has clearly spoked. 

Things are starting to get interesting again.

Disclosure: Top Gun has no position in Lehman Brothers (LEH) shares.