House of Cards (85 page)

T
HE DAY BEFORE
, on December 20, Bear Stearns reported its fourth-quarter results. As predicted, the firm suffered the first quarterly loss in its history. But what had been on November 15 an expected $1.2 billion write-down of its mortgage portfolio had morphed into a $1.9 billion write-down a month later. As a result, the firm posted a pretax loss of nearly $1.4 billion in the fourth quarter and a net loss for the quarter (after a tax benefit) of $859 million. For the year, the firm had net income of $233 million, down 89 percent from net income of $2 billion from the
year before. The massive fourth-quarter loss stemmed from two fateful decisions: First was the mistake the firm made by becoming the repo lender to the hedge funds in June. As the assets Bear Stearns had financed continued to lose value during the fall, the firm rode them down to close to zero. Then there was the decision to continue betting against sub-prime mortgages by buying theoretically higher-quality Alt-A mortgages. “We told investors over and over that we were short the subprime sector, and we were,” Paul Friedman said. “Our trade was to be long the Alt-A sector and short the subprime, and we did it in size all along. Conceptually, it made sense, but when the market started to look beyond subprime we found that we couldn't hedge Alt-A securities—you still can't—and no one would buy them. So we had a huge position that just kept going against us.”

As was leaked in the fourth-quarter results, the executive committee decided not to receive any bonuses for the year. As a Christmas present of sorts to himself, Cayne sold 172,621 shares of stock that had vested in the CAP plan for $89.01 per share, a payday of $15.4 million. Ironically, as Cayne was selling, Lewis was buying even more Bear Stearns stock. In the month of December, Lewis had purchased another 2.2 million shares, he disclosed in an SEC filing the day after Christmas. He now owned 11.1 million shares, or 9.57 percent of the company's stock, making him again the largest shareholder and proving definitively that even some of the world's most highly regarded investors make bad investments.

On the morning of December 20, Molinaro hosted the obligatory analyst conference call. It was a sober affair. During the question period, Guy Moszkowski, at Merrill Lynch, asked Molinaro if the firm felt capital-constrained or needed to raise capital. Molinaro said the firm had sufficient capital. “We have historically had very strong capital ratios [and] significant excess capital,” he said. “Obviously the [fourth-quarter losses] will reduce that somewhat, but our capital ratios, we believe, are still very strong. We don't see a particular need to address that. Of course, we do expect that the closing of the $1 billion convertible security we sold to Citic will happen during the first half of the year and that will add to the equity capital base. So with that, capital ratios should move back to levels that we had been running at.”

By the time of the December 20 call, the firm had decided to hire Gary Parr, the Lazard banker, to add a patina of professionalism to the seemingly random efforts to either raise capital or sell the company. In the wake of the Citic deal, the thought occurred that perhaps there were other strategic deals out there for Bear Stearns to consider. Parr was not involved with the Citic deal or the Fortress deal or any of the previous
failed attempts to raise capital. “They were thinking that perhaps there was another thing to do that would involve advancing their business strategy and capital,” Parr said. “It was more around the business strategy than around capital. We knocked around ideas. We talked about how to think about it. What sorts of things might make sense? What parts of the world might be the logical places to approach?” One idea that Parr and Bear's management was kicking around was whether a Middle Eastern investor would invest in Bear's prime brokerage business. At one point, Cayne had suggested to Parr that HSBC might be interested in a deal for Bear Stearns. Cayne also talked to Joe Lewis about that possibility. “Actually, Joe Lewis went and met with [the] Hong Kong [and] Shanghai Bank,” Tese said. “But they had no interest. Gary Parr canvassed around several of the banks. They didn't have an interest.”

But as the fall dragged on and none of Parr's efforts materialized into something substantive, pressure kept on building and building. “Jimmy was getting pressure from some of the shareholders, particularly Bruce Sherman,” Tese said. “Not so much Joe Lewis. But Bruce was calling Joe Lewis. We were also getting some pressure internally because Jimmy had been sick. Maybe we needed a change of direction. Everybody knew he was sick. At first, it didn't get out for about a week. But then when he didn't come in for a week, people were starting to say he had cancer. I said to the guys, ‘You know, he's sick but he doesn't have cancer.' The illness took a lot out of him physically. A couple of months after that, he was weaker, a lot weaker. The other side of it was, there was no business. We went from being busy as hell up until the summer, and then all of a sudden the mortgage business ended, which was 40 percent of our profits. The leverage lending business was over. Trading slowed down, with the exception of customer trading. But that's not a big driver of the business. Prime brokerage business was starting to show some strength. Jimmy knew exactly what the business was doing. He got a daily sheet and a weekly sheet and a monthly sheet. So he knew business was really bad. He knew that. It wasn't just us. You'd feel okay if it was just us. If everybody else was doing okay, then you could get some of that action. But business was bad all over. Your profit and loss, to a great extent, depended upon the marks on your balance sheet, which is a scary proposition, considering that a good part of your inventory is not selling particularly well. So pressure started to mount internally and externally. It became obvious Jimmy had to move out.”

A
FTER THE HOLIDAYS
, the tide started to turn against Cayne. “Everything was sort of rolling along, except that I was getting shit,” he said. When he
walked back into his sixth-floor office after New Year's he was getting singed by the incessant glare of publicity focused on whether or not he would be the next CEO victim of the spreading crisis. “I think I made the papers forty days in a row,” he said.

Cayne knew that Bruce Sherman, the CEO of money management firm Private Capital Management and, with 6.43 million shares, Bear's fourth-largest shareholder, had been talking to the board and the press about whether it might be time for the longtime CEO to move on. Although Sherman did not know it, Cayne was even aware of the trip that Spector—when he was still at the firm—had made from his weekend home in Palm Beach to see Sherman in Naples to try to convince Sherman to fire Cayne and make Spector the CEO. “He doesn't know that I know that Spector came to see him,” Cayne explained, “and said, ‘Get rid of Jimmy. I want to be the CEO.' That's pretty nifty when a guy working for you does that, right? But he doesn't know that I know.” Sherman had also called Schwartz, as had Barrow, and told him: “You guys better do something because I'm hearing rumblings. You've got to take over or your good people are going to leave.” Schwartz did his best to deflect the shareholders' calls. Then Cayne called Sherman when he heard about the new
Journal
and
Times
articles. Sherman had been a longtime Bear shareholder, unlike both Lewis and Barrow, and had been euphoric in his praise of Cayne when the stock was steaming toward its all-time high a year earlier. Sherman's sentiment had changed. Cayne said he had decided, on January 4, the time had come. “This seemed to me to be a very good time to make a deal with Bear Stearns,” Cayne said, “where I would say to Alan, ‘I'm going to give up the CEO. I will stay as non-executive chairman.” He delivered this news to Schwartz before lunch on January 4. Cayne said he simply told Schwartz the time had come for Cayne to go. “I told him, ‘This is what's happening,’” Cayne said. “I also told him that I had a meeting and I was authorized to offer him the position. This isn't just ‘Let's do this and go to the board for approval.' I'd already got the board. The board has already told me and they didn't tell him. They didn't tell anybody. I had it in my pocket; I asked for permission to pull the trigger. They gave it to me. What's more clear-cut than that?”

Others offered a very different account of Cayne's stepping down. The board's initial thought was not to make a change until February 14, which happened to be Cayne's seventy-fourth birthday. Schwartz told them, “That's fine with me, but I don't think it's going to work, and it looks a little silly—you're not doing this at the end of the fiscal year or at the annual meeting, but on his birthday?” The board realized Schwartz
was right. Tese volunteered to talk to Cayne and tell him the board had come to a decision. But then Schwartz told Tese that would not be right, either. Schwartz himself had to be the one to tell Cayne.

On January 4, by this account, Schwartz went to see Cayne.

“We got a problem,” Schwartz told Cayne. “We've got to do something.”

“What should we do?” Cayne asked.

“You've got to step down,” Schwartz told him. Cayne just looked at him. He was resigned to the inevitable, and physically and mentally exhausted.

“I'll do whatever you want,” Cayne said. “I'm glad it's you.”

At that moment, Schwartz thought, according to someone he told, “God, I agonized over this, and this was the only right way to do it. It was one of those weird things, but once you did it you said, ‘Why did I even think about it?’” There was nobody who could come in and have this conversation but me. He knows it's not me saying ‘This is my seething ambition and it's time to topple you.' It was like ‘This is what's going on.’”

Schwartz was determined to do what had to be done to make sure bankers and traders stayed put at the firm. Cayne suggested that he could stay on as an executive and as chairman of the board. Schwartz thought that would send the wrong message to the troops and continue to make Cayne fodder for the press that wanted his scalp. If he were still an executive and retained his salary, bonus, and perks, then the press would continue to monitor his comings and goings. Anytime he left to play golf or bridge, it would be fuel for the fire. It would be better, Schwartz told him, for Cayne to retire as CEO and become non-executive chairman of the board. That would be an easier sell internally and give the press and investors what they appeared to want. Cayne agreed to become non-executive chairman of the board and to retire from the firm.

As for Cayne's version of what happened that day between him and Schwartz, Cayne said, “The mechanics of it, who asked who—who gives a shit?” Cayne said he knew nothing about the internal revolt of the bankers and traders and their December conversations with Schwartz. But he was not surprised to hear about them. “It might be convenient for them to say that,” he said. “I think it might be convenient for them to say that, knowing that I'm not hearing it directly. You don't want to be on record saying the straw boss should hit the trail. That's stupid. But if it were them saying, ‘We need a better way to go. We need a new CEO,' I wouldn't be surprised at all. But it wouldn't occur to any of them that I would step down. It wouldn't even occur to them.”

With the writing on the wall, Cayne cut his deal with his beloved Bear Stearns. “The deal I make with the company is: I want health care, which is what you give everybody who leaves; I want the office, for a couple years anyway; I want an assistant. No problem. They say to me, ‘We'd appreciate it if you didn't sell any stock before the quarter's over.' I said, ‘Okay,' and the big
E
goes on the scoreboard, but I could see that. I can't step down and then sell stock.” He received no severance pay or bonus or retirement compensation, unlike Stan O'Neal and Chuck Prince, despite what John McCain claimed about him on the campaign trail.

The idea was to wait a week or so before announcing the news of the management change. On Monday, January 7, Schwartz called together the President's Advisory Council—the top executives of the firm—for an eight-thirty breakfast meeting. “Alan gives this beautiful, impassioned speech of how we're going forward and all the wonderful things Jimmy has done,” Paul Friedman said. “He's sort of grasping for things that Jimmy has done and accomplished. The only thing he can come up with is to say, ‘Jimmy's legacy will be this wonderful building that we're all in,' and I'm sort of looking around going, ‘That's the best he can do? The guy's been here forever, he's been CEO, and he was involved in a building?' Then Jimmy gets up and speaks. He mentions his health. He mentions it's time. He said, ‘I'm going to be retiring. However, I just want you to know that I'll still be coming into the office all the time. I'll still be very involved in the Citic transaction. Don't worry. I'm not leaving completely.' I don't know if everybody else felt this way, but my initial thought was, ‘That's not what I want to hear. I want to hear that you're leaving now and forever, and they're taking away your ID card and you can't come into the building ever again.’”

Cayne has a different recollection of his swan song. “When I left January 4, I had three different meetings,” he said. “The first was with the president's advisory group, which was about eighty people. There wasn't a dry eye. Standing ovation. I was crying. The second meeting was with the retail sales force on the Web. Standing ovation. And the third was a partners' meeting that night for me to tell them that I was stepping down. Standing ovation, of the whole auditorium.”