The Bernstein Way There is a firm that does research right. Inside the best little shop on Wall Street.
By David Rynecki

(FORTUNE Magazine) – The black books produced by Sanford C. Bernstein arrive on the desks of institutional investors at the beginning of the month and are snapped up like best-selling romance novels.

In appearance they are rough-hewn, almost ugly--a rudimentary sketch of a bumblebee on the cover (an homage to the firm's founder, Mr. B) followed by page after page of black text and jagged charts. But as the old saying goes, you can't judge a book by its cover. Bernstein's 5,000 institutional clients have come to depend on the information they find in those dense pages. They contain Bernstein's stock research--securities analysis that is hard-hitting, in-depth, and conflict-free. Research, you see, is all Bernstein does--and all it's ever done in its 35-year history, apart from asset management. It has no investment banking arm, no proprietary trading desk--nothing that might tempt its 44 analysts to pull their punches. On the contrary, analysts at Bernstein revel in being both tough-minded and contrarian. As research director Lisa Shalett puts it, "Analysts who say that they are in the consensus view are basically saying nothing."

What's more, with $266 million in revenues last year, generated from trading commissions sent its way by satisfied clients, Bernstein has made honest research a thriving, profitable business. At a time when the big firms are saying that research cannot pay its own way, the Bernstein story suggests rather strongly the opposite.

At the center of the firm is Chairman and CEO Sallie Krawcheck. The first thing Krawcheck, 37, will tell you in an interview is that she doesn't want to be identified as either young or funny--though of course she is both. Raised in Charleston, S.C., she has a gracious, refined manner that masks her toughness--a quality many companies discovered the hard way when she was a research analyst. "I remember sitting in the office of a senior executive and reading upside down on a sheet of paper on his desk, 'Don't be fooled by her smile,'" Krawcheck recalls.

A former investment banker who once interned at FORTUNE, Krawcheck joined Bernstein in 1994 as an associate to the firm's insurance analyst. Few associates at Bernstein ever rise to the level of full analyst. Why? Because Bernstein has historically hired its senior analysts directly from the industries they cover--a practice the firm continues to this day. (For instance, insurance analyst Todd Bault was an actuary at St. Paul's, while drug analyst Richard Evans ran business development at Roche.) Two years after joining the firm, Krawcheck was put in charge of brokerage stocks, where she quickly proved her mettle. By the late 1990s, she was recognized as the top-rated analyst in the brokerage sector by Institutional Investor magazine. She was smart, but she was also tenacious. Take the time Merrill Lynch invited her to see one of the firm's highly touted retail branches in Japan, which it had recently purchased from Yamaichi Securities. The branch was packed with customers. But Krawcheck had a hunch. Away from the Merrill tour, she visited other offices and discovered that business was dead. "I always took the attitude that I was being misled," she says. "If I went into a meeting with a company and it turned out they were telling the truth, I was pleasantly surprised."

In late 1998, Krawcheck was named director of research. At the time, as she now concedes, "Bernstein was under siege." This was, after all, the height of the tech bubble, and many institutional investors weren't much interested in independent research. Mutual fund and hedge fund managers wanted hot IPOs--and Bernstein didn't do underwriting. They cared about next week's earnings numbers--not in-depth analysis of a company's long-term outlook. Bernstein analysts, meanwhile, were being lured away by the big firms, which dangled the prospect of making many times the $2 million or so a top analyst can earn at the boutique. As market share eroded and defections increased, the firm was acquired in 2000 by Alliance Capital, a money-management firm known for its growth bent. Word quickly spread that old Sandy Bernstein was a goner. "We were losing basically everywhere," says Krawcheck.

So what did she do? She doubled down. Shortly after the Alliance Capital acquisition, Krawcheck convinced senior executives to let her triple the size of the research staff. It was a gutsy move--"the bet of my career," she says now--but it also turned out to be a smart move. "Our view was that the pendulum would swing back to valuing thorough, objective research," she says. Which, as we now know, is exactly what happened--and which helps explain why Krawcheck was named CEO in June 2001.

Does Bernstein's independence give it a research edge? Without question. A few years ago, when such analysts as Salomon Smith Barney's Jack Grubman were promoting telecom stocks, Bernstein's Paul Sagawa predicted that telecom spending would implode. When the Street was down on General Motors last September, Scott Hill, the firm's auto analyst, was pounding the table for the stock, which has since risen 61%. Now, of course, nobody likes telecom stocks--except Sagawa, who thinks the sector is undervalued.

One advantage Bernstein has is that it doesn't have to cover sectors just to please investment banking clients--one reason the big firms have such huge research operations. It can focus on the stocks on which its analysts can really have an impact. "Where we make a difference is with the controversies," says Shalett. "That's where being the independent guys is really fun."

For instance, Bernstein covered tobacco stocks when they were mired in litigation a few years ago. But now that the smoke has cleared, the firm has dropped coverage and deployed its troops in more fruitful areas.

Still, there are those who believe that Bernstein could further increase business by adding underwriting. After all, Bernstein's researchers are industry experts well suited to uncovering the next market leaders. What does Krawcheck think of this idea? "They're going to have to take me out of here on a board, toes up, before that happens," she declares. "No way."