The Improbable Power Broker
How Dick Fuld transformed Lehman from Wall Street also-ran to super-hot machine.
By Andy Serwer, FORTUNE editor-at-large

(FORTUNE Magazine) - Wall Street is a most unforgiving place to do business. Blood in the water will attract sharks, competitors will quickly build up trades against a debilitated foe, and a panic can accelerate a downward spiral. That's why institutions like E.F. Hutton, Barings, and Long-Term Capital--names that once conveyed soundness and permanence--vanished almost overnight.

How, then, to explain Lehman Brothers, a 156-year-old firm that has had numerous brushes with death but is now enjoying its greatest run ever? Veteran investment banker Joseph Perella answers the question with one of his own: "Where would Lehman be without Dick Fuld?"

Richard S. Fuld Jr., 59, took over the notoriously fractious Lehman Brothers 13 years ago, when it was a forgotten subsidiary within the rat's nest that was Shearson/American Express. Driven partly by those who dismissed him and his firm as second- or even third-rate, Fuld transformed Lehman from Wall Street weakling to global powerhouse.

Consider this: When Lehman went public in 1994, it had only $75 million in earnings, with a paltry return on equity of 2.2%. Fast-forward to 2005, and the turnaround is breathtaking:Lehman (Research) booked $32 billion in revenues, $3.2 billion in profits, and hit 19.4% in return on equity. Over the past decade Lehman's stock is up 29% per annum on average, highest of any major securities firm and 16th best among the FORTUNE 500.

So complete has Fuld's makeover of Lehman been that he is more like a founder than a CEO. "Dick is an unbelievable competitor," says a top Wall Street executive. "Back in 2000, 2001, there was a lot of talk about firms merging. Dick convened his people at an offsite and essentially said, 'Look, we can do a deal, and you can work for some jerk at a big institution. Or you can work for me.' That was the end of the discussion."

Fuld's magic has in part been to ignore doomsday predictions that Lehman was too focused on bonds. Instead he chose to exploit that area of strength, building the firm into a fixed-income juggernaut and benefiting mightily from the seismic decline in interest rates over the past decade. Today Lehman derives 48% of its revenue from fixed income. Now, with the decline in rates apparently having ended, the naysayers have a new question: Can Fuld's company continue on its remarkable trajectory even as rates stay flat or climb?

"We are more than just a bond house," says Fuld. It is early afternoon in Fuld's 31st-floor Midtown Manhattan office, and the CEO is glowering. Fuld, who grew up at Lehman as a bond trader, has a combative streak, particularly when probed about Lehman's potential weaknesses.

"People say a lot of stuff about us," he stresses, dark eyes boring into you. "Our model is more sophisticated than that." In many ways Fuld is precisely what you'd expect at a firm that was once defined by its internecine warfare: aggressive, confrontational, blunt. When asked about the way he relates to Lehman board members, he shoots back, "I report to these people." He bristles at a question about why former colleagues were ousted: "I don't think it's fair game." More than once he cuts in to try steering the conversation: "Let's go to the truth."

Yet despite this no-holds-barred demeanor--or perhaps because of it--Fuld has incongruously turned Lehman into one of Wall Street's most harmonious firms. "Lehman had a terrible culture back in the day," says Peter J. Solomon, who worked at Lehman for decades and now has his own firm. "There was fighting all the time. Dick saw that and wanted to create just the opposite."

Fuld's modus operandi has been to bind his employees' fates together--to turn the culture of "the Brothers," as a few Lehman hands call it, from one of sibling rivalry to cooperation and teamwork. His tool: money. Skip McGee, Lehman's head of investment banking, puts it simply: "Instead of trying to divide fees up and allocate them to different bankers and departments, for purposes of compensation calculations, we just double-count revenues."

This practice has incentivized Lehmanites to help one another--and fueled a booming investment-banking operation that is now competing dead-on with Goldman Sachs (Research), Morgan Stanley (Research), and Merrill Lynch (Research) for megadeals. When Lehman was tapped recently to counsel AT&T on its $89 billion acquisition of BellSouth, it brought in its capital-markets experts to advise on financing, share buybacks, and liability management. Such integrated efforts yield not only more fees but also more points of contact with the client. "Richard Fuld personally committed his time and all the resources of the firm to us, and that made a big impression," says CEO Ed Whitacre of AT&T. Notes Merrill Lynch analyst Guy Moszkowski: "Other banks talk about this silo-free model where the whole institution works together, but among the companies I cover, Goldman and Lehman clearly do it the best."

As you might imagine, the rewards for working at Lehman have been otherworldly over the past decade. But here, too, Fuld (who owns more than $300 million in Lehman stock) has an angle. His employees receive a disproportionately high percentage of their pay in Lehman stock and options. They are also typically locked up longer than their brethren at other firms (up to five years). There have been few complaints. When the company went public, employees owned 4% of the firm, or $60 million. Today they own some 30%, which amounts to $11 billion of employee wealth.

Lehman watchers still talk about the time Fuld found out that a major hedge fund was sniffing around, looking to poach talent--and he warned the offending hedgie in no uncertain terms to leave his people the hell alone. And two years ago, Lehman insiders say, when Bruce Wasserstein floated the idea of Lehman buying Lazard, Fuld scoffed and told him to take a hike. (A Lazard source denies the account.) Then there was the crisis to end all crises, when Islamic extremists hijacked two jets and crashed them into the World Trade Center Towers adjacent to Lehman's headquarters. "I knew we would have to rally together like never before," Fuld says.

Much has been written about how Wall Street coped with 9/11, and certainly firms like Cantor Fitzgerald, with 658 dead, suffered losses on a whole other scale, but Lehman's burden was significant too. Many Lehman employees watched the bodies falling and the towers collapsing right outside their windows. The firm had personnel in the towers, and suffered one death. Lehman's headquarters at 3 World Financial Center had substantial damage, and its lobby was used as a morgue. The building couldn't be occupied.

Lehman was homeless, one of the biggest firms to be completely displaced by 9/11. "We gathered the next day in our offices in Jersey City," says Bart McDade, Lehman's head of equities. "Dick told us we were going to be okay, that we would push through." McDade and other senior managers helped tear down cubical dividers.

Staffers crowded elbow to elbow, six to an office space. They used cellphones to call clients. They begged telco companies for T1 lines, with Fuld deciding which traders would get them first. When U.S. debt markets reopened on Wednesday, Sept. 12, and equities the following Monday, the firm was open for business.

Within days the firm's investment bankers moved en masse into the Sheraton Manhattan in midtown. Beds were moved out and desks shoved in, two per room. The global finance group set up in the cocktail lounge. The hotel wasn't big enough for the entire firm, and Lehman grabbed space anywhere it could.

"At one point we had fixed income operating out of 18 locations," says McDade. Fuld found a solution by exploiting a rival's uncertainty. Morgan Stanley, which has its headquarters at West 48th Street and Broadway, had recently completed a new tower nearby but now wanted out, leery of doubling down in such close proximity. Fuld struck quickly and bought the new building for some $700 million. (It is now worth over $1 billion.)

By April 2002, Lehman had moved in and its trading floors were fully functioning. "We were Bedouins for eight months," recalls McDade. How did the firm-without-a-home fare? Even including September, Lehman posted near-record quarterly results.

Fuld used 9/11 to implement another change at Lehman: He ended casual dress. "We were moving into a new building, and we were going to have a ton of clients there, and although I had allowed casual dress, I was dead-set against it," says Fuld, who sports white shirts and staid ties with a dark suit. "If you dress sloppy, you think sloppy. Actually, I was even more violently opposed to it than that."

When I told Fuld that I can spot members of his now 23,000-strong Lehman army in the Midtown neighborhood by their attire--the women conservatively dressed and the men almost exclusively in white or blue shirts and ties--Fuld beams. "I love the way they look."

Fuld and his troops had sailed through storms before 9/11. In spring of 1998 market rumblings from Asia began to reverberate around the world. By summer the contagion had spread to the Russian market, which tanked. Then interest rates zigzagged wildly, and hedge fund Long-Term Capital collapsed. Rumors whipped around Wall Street about exposure, much of them centering on Lehman. The stock plummeted from $42 a share to $12 in three months.

William McDonough, then head of the New York Federal Reserve, fielded calls from concerned bankers. Angry at the marketplace's lack of confidence, Fuld called up one regulator to demand an audit of his firm to prove it was solvent. Investment firm BlackRock helped support Lehman's balance sheet by buying significant amounts of short-term paper. By late fall Lehman stock began to recover and the crisis passed, but the incident is still stuck in Fuld's craw. "People were badmouthing the firm," he says. "They shorted the stock, and we crushed them." Who were "they"? Fuld shakes his head, declining to name names. "It's not over," he says with a dark smile.

If you are old enough, or a student of Wall Street history, you are probably aware there was a previous golden age of Lehman Brothers. Decades ago it was known as a grand partnership, home to the best and brightest on the Street. It began in 1850 in Montgomery, Ala., where German-Jewish immigrant brothers Emanuel, Mayer, and Henry Lehman traded cotton and then did business for the Confederacy before moving to New York, where they helped establish the Cotton Exchange.

The firm helped finance burgeoning American giants like retailers Sears, Woolworth, and R.H. Macy. The Lehman family became part of the city's aristocracy. Family scion Herbert Lehman served as New York State's governor and, later, U.S. Senator.

Herbert's cousin Robert "Bobbie" Lehman--who ran the firm from 1925 until his death in 1969--was the heart and soul of the old Lehman. The very definition of a patrician, Bobbie was on the same polo team as Jock Whitney and Averell Harriman. An owner of thoroughbreds whose horses competed in the Kentucky Derby, Lehman also built and posthumously donated a collection of some 3,000 works to the Metropolitan Museum of Art, which that institution described as "one of the most extraordinary private collections ever assembled in the United States."

Also a superb manager, Bobbie liked to say he "bet on people," and his bankers included Jamie Niven, son of actor David Niven, and Count Andreis von Bismarck. Even into the 1980s the firm attracted remarkable talent, including stars who still shine on Wall Street: Pete Peterson and Steve Schwarzman of mega-buyout firm Blackstone Group, Steve Rattner of buyout firm Quadrangle, Roger Altman of private-equity firm Evercore, Eric Gleacher of investment-banking boutique Gleacher Partners, to name a few.

In 1983 (as chronicled in Ken Auletta's classic Greed and Glory on Wall Street) tensions between the traders, led by gruff and tough Lew Glucksman, and the bankers, led by Peterson, broke into the open. Peterson was pushed aside, and the firm began to implode. The following year the partnership agreed to be bought by American Express. The business devolved into a worn-out subsidiary. A hard-charging buck in the bond department named Fuld, who had argued against the sale, ended up as CEO. Eventually he helped orchestrate Lehman's emergence as a public company.

Today no Lehman family members work for the firm, nor do they own sizable stakes in its stock, and there is little connection made to the old house of Lehman. I ask Fuld why he doesn't evoke the firm's rich history in marketing or when speaking about the firm. "I hadn't really thought about it," he says. "Most of it is wonderful history. Obviously there were some tough spots along the way. I guess I don't believe that digging back for 150 years is going to convince that client to do business with us. It's, What can I do for you today? How can I work with you so you go to bed at night and say, 'Thank God I have Lehman Brothers'?"

During Fuld's 37-year career he has worked for a fractious blue-chip partnership, a forgotten division of a financial supermarket, a narrowly focused pipsqueak of a bond house, and a thriving publicly traded global securities firm--all at the same company.

"People talk about how successful Dick has been and the great job he's done, and that's all true," says Fuld's old colleague Schwarzman. "But what I find amazing is how he's learned and mastered every part of this business." As a bond trader, Fuld, who grew up in Westchester and graduated from the University of Colorado, had little use for schmoozing with haughty bankers or with clients, or thinking about firmwide strategy. "I was obviously very much a fixed-income guy," agrees Fuld. "I was Mr. Inside."

Fuld has worked tirelessly to extend himself--to become a salesman (as he was with AT&T's Whitacre) and to understand corporate finance, investment banking, and equities. It was from the fixed-income side, though, that Fuld learned to emphasize the importance of integrating products and services across the firm.

And it was living through the gilded age of prima donnas at the old Lehman that made Fuld want to build his firm without stars. In a way the old Lehman was like an NBA team, with Larry Birds, Magic Johnsons, and Michael Jordans. But when the stars departed, the team declined. Fuld's new Lehman is like an NFL team: Fans root for the Pittsburgh Steelers no matter who's wearing the uniform.

Still, doubts about Lehman continue to surface. What worries critics is that without a falling interest-rate environment, which buoyed the firm's performance over the past decade, future advances will be much tougher. "I'm not particularly wild about a flat yield curve," Fuld allows. "But when I hear talk about us slowing down ... they have been saying that to me for years." Lehman's bond business, he says, relies much more on volatility, or customer activity, than rates. "Institutions have to stay active, they restructure, they refinance. And that's our expertise."

Lehman's chief administrative officer, Dave Goldfarb, likes to show two slides at investor conferences: One depicts the firm's revenues climbing since June 2004 while short-term interest rates were rising; the other displays revenues moving up as the yield curve goes flat over the same period. So far Lehman hasn't skipped a beat. The company recently announced a red-hot first quarter, with earnings up 25%. The stock, up 55% over the past 12 months, remains close to an all-time high. "In 2000 there was $16 trillion of global fixed-income securities," says Goldfarb. "In 2005 that number increased to $27 trillion. In 2009 we expect that number to climb to $38 trillion. So the opportunities for us are vast."

Given Fuld's personal role in Lehman's revival, it's natural to wonder how the firm will fare when the CEO moves on. Fuld, who turns 60 this spring, will give no timetable, saying only that if anything should happen to him, president and COO Joe Gregory, who won the No. 2 spot in 2004, would be the CEO.

Yet Gregory, 54, says he has no designs on the top job: "I tell the ten other guys on the executive committee, each of you should be going for my job." Wall Street sources name Goldfarb, investment-banking head McGee, and chief of equities McDade as lead contenders. Considering Lehman's history of power struggles, though, a transition doesn't seem to be at the top of anyone's agenda as the Lehman machine rolls on--particularly not Fuld's. As one competing Wall Street CEO puts it, "Dick will never, ever leave."

Reporter Associate Corey Hajim

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Most stock quote data provided by BATS. Market indices are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer. Morningstar: © 2018 Morningstar, Inc. All Rights Reserved. Factset: FactSet Research Systems Inc. 2018. All rights reserved. Chicago Mercantile Association: Certain market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. Dow Jones: The Dow Jones branded indices are proprietary to and are calculated, distributed and marketed by DJI Opco, a subsidiary of S&P Dow Jones Indices LLC and have been licensed for use to S&P Opco, LLC and CNN. Standard & Poor's and S&P are registered trademarks of Standard & Poor's Financial Services LLC and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC. All content of the Dow Jones branded indices © S&P Dow Jones Indices LLC 2018 and/or its affiliates.