Lehman Brothers’ Collapse – A VSM Perspective
Introduction
Lehman Brothers is a name that today almost everyone across the globe is familiar with. It was started as a small general store in the year 1844 in Montgomery, Alabama by a German immigrant Henry Lehman. Their next big step was in the year 1950, when Henry and his brothers Emanuel and Mayer joined together to form the Lehman Brothers. The firm kept on growing in the following years at a decent pace, as the USA economy prospered.
However, their journey to become the fourth largest investment bank in USA was not an easy one. They had to survive the rail-road bankruptcies in the late 1800s. Then, they had to face the great Depression era of 1930s, followed by World War I and II. In the year 1994, they were successful in evading the capital shortage due to the American Express incident. They even came out of the Long term capital management collapse and the Russian default in the year 1998. So, one thing is for sure that the Lehman Brothers indeed had a troubled past. But they always managed to come out of it successfully.
However, it was not the same story for them always. The combination of collapsing US housing market and the Lehman Brothers’ blindfolded rush into the sub-prime mortgage market proved too fatal for the organization. On September 15th, 2008 when the fourth largest investment bank in USA filed for bankruptcy, it had an asset worth $639 billion and a debt of $619 billion. Their bankruptcy filing was the largest in the entire history, way above the previous big organizations that got bankrupt (WorldCom and Enron).
So why did the big banking giant which in the past had weathered many such incidents, failed so dramatically and rapidly within a mere time frame of one week. The paper explores various reasons behind the fall of Lehman Brothers that can be attributed to and explained according to the Viable Systems Model (VSM) which was proposed by Stafford Beer.

Viable Systems Model (VSM) – An overview
The principal functions are represented in an overview diagram below:

Figure 1: Principal Function Overview
(Source: http://en.wikipedia.org/wiki/Viable_system_model)
A viable system has five interacting sub-systems. These sub-systems can be mapped to any organizational structure. The five systems are:
System 1: These systems handle primary recursive activities. These activities are non transformational.
System 2: They are the informational entities which enable inter-system interaction between units of system 1 and monitoring and coordination ability to system 3 over system 1.
System 3: They are the interface between system 1 and system 5. They handle control and coordination activity for system 1.
System 4: They gather information from external environment and provide feedback for organization to adapt in order to remain viable.
System 5: They are the policy and strategy makers of the organization. They give direction to the organization.
Algedonic Alerts: The award and alarm system of an organization which gets activated post when performance either exceeds or falls short of capability.
System 3, 4 and 5 together combine to form the Meta – System which is responsible for coordinating and managing change.
In a viable system, the sub-systems collaborate and coordinate in an efficient and effective manner. The system 1 will generate an Algedonic alert on identifying any deviation in the actual existing conditions and desired condition. The system 2, if necessary transmits it to the meta-system which rectifies the error and removes undesirability/confusion from the system effectively.
Lehman Brothers – The Fall
Now, if we try to frame the VSM model for Lehman Brothers organizational hierarchy, then it would probably look something like this:

Figure 2: Proposed VSM Model of Lehman Brothers
One of the most vital aspects of any viable system is the presence of proper control mechanism which monitors and coordinates the flow of information between the lower systems and the meta-systems. It is said that there must be a smooth flow of information /communication between different echelons of management. * However, in Lehman Brothers, the higher management tried special exercises to avoid having direct interactions with their employees. * They spent an estimated $100000 (Markfidelman, What if Peter Drucker Taught Enterprise 2.0?) in trying to do so. * Most of the Lehman employees never saw or heard from their senior executives. Their CEO was nicknames as The Invisible Man. * Why did they avoid doing so? Some theorists say that they didn’t want to get themselves exposed for their lack of knowledge. * Others say that they tried to avoid hearing the truth. Whatever may be the truth, but it resulted in a very dysfunctional system. * A system where the lower level employees (system 1) based on their day to day recursive interactions with environment (market) tried to raise an Algedonic alert about the sub-prime bubble, but the meta-system comprising of the upper echelon of the Lehman Brothers isolated themselves from it. * As a result, the realistic feedback could not reach the meta-system for corrective measures. * On the other hand the meta-system constantly interacted with the environment around itself and based on the future prediction (that the market will soon self-correct itself) made policy and directional decisions. * These decisions were solely made on future basis and were not in lines with the current market happenings and were then percolated to the lower level control systems which coordinated the system 1 units to act accordingly. So, the situation kept worsening for the Lehman Brothers. * Due to this mismatch, the meta-system of the Lehman Brothers were busy hoarding the risky assets when they should have been thinking of selling and moving out of the market to alleviate the risk. * Eventually, the banks refused to do trading with the Lehman Brothers due to their complex and opaque process. * The investors lost their confidence and the stock prices of Lehman Brothers collapsed by 95%. Finally, they had to file for bankruptcy.
Lehman Brothers – It Could Have Been Different! It could have been a different story for the Lehman Brothers had they adopted the VSM model in an effective and efficient manner. An ideal model would have been where the lower echelon of management based on their recursive interaction with the present environment would have given the feedback about the potential sub-prime bubble burst crisis to the system 2 which would have then redirected it to the meta-system. The meta-system management would have then analyzed this information and then analyzed the environment to gather future predictions about how long could have the market survived in those conditions. Then they could have easily reframed an organizational policy and strategy framework which would have guided the organization safe back home. Submitted By: Vishwaroop Singh UH11060