But while other fallen chieftains spend their final days of freedom gorging themselves on the vestiges of ill–gotten gains before the feds move in—picture the bloated, alcohol–tinged countenance of ex–Enron honcho Jeffrey Skilling—Black remains characteristically sanguine, ever the battle–tested general counting his casualties and awaiting reinforcements before launching his next attack. “It has been a four–year battle, and after the opening assault that I had pillaged the company for hundreds of millions of dollars, and the prolonged effort to impoverish me and imprison me for life, I feel I have steadily gained ground, and have an excellent basis for appeal,” Black wrote to me in his first interview since a Chicago jury found him guilty of three counts of mail fraud and one count of obstruction of justice. “Being a historian, I am fairly familiar with the ups and downs of people’s careers and may be able to assimilate a cataract of horrors better than some people.” I had e–mailed him a long list of questions in August (on his lawyers’ advice, he consented only to a written exchange, with his responses vetted by his legal team) about his thoughts on his criminal trial, his state of mind as he prepares for a lengthy prison sentence, and his feelings about his fallen media empire. Three days later, I received a 1,400–word response that was candid, thoughtful, and wholly unapologetic. Written in the bombastic, abstruse style for which he is famous, Black’s statement displayed the fierce intellect responsible for his extraordinary rise—but also suggested the qualities responsible for his sudden, devastating fall.

Black’s conviction ended a long saga at the company he cofounded in 1969 with the purchase of a small Quebec paper and transformed into the third–largest newspaper empire on the planet, with more than 500 papers including The Telegraphof London, the Chicago Sun–Times, and Canada’s National Post. It all began more than four years ago, when a special committee appointed by Hollinger International’s board of directors—headed by former SEC chairman Richard Breeden—accused Black and several of his associates of running a “corporate kleptocracy” that siphoned $400 million from shareholders. It continued when a grand jury corralled by U.S. Attorney Patrick Fitzgerald—the überprosecutor who scored a conviction against Lewis “Scooter” Libby—indicted Black on 14 counts of criminal fraud: racketeering, obstruction of justice, money–laundering, and mail and wire fraud. And it culminated on July 13 when the jury found him guilty on four of those counts.

From the moment he was accused, Black has couched his predicament in militaristic terms. A history buff since childhood who can recite from memory, say, the main armament of a World War II battleship or the daily casualty reports during Hitler’s siege of Stalingrad, Black portrays himself as the victim of a malicious witch hunt; at one point during the trial he even called the prosecution Nazis. It’s clear that his conviction has not tempered his views. “We have the…pursuit of prominent, well–off people who get into the crosshairs of the system essentially as a substitute for a wealth–redistribution policy, and we have a certain revulsion against extreme proliferations of wealth,” he wrote to me. “Property is seized without compensation, due process has eroded, and the grand jury is no protection at all against capricious prosecutions. It is a difficult time to be a corporate defendant.”

Indeed, Black’s was the last in a series of prominent corporate trials—Enron, Tyco, WorldCom—that defined an era of unprecedented shareholder activism in American business. Like Dennis Kozlowski at Tyco and the Rigas family of Adelphia, Black was convicted of running the publicly traded Hollinger like his own private smoke shop, helping himself to the till—and the pockets of shareholders—whenever he needed spare change. But like Martha Stewart, Black’s renown transcended the boardroom. In Britain, where he holds a seat in the House of Lords, he is Lord Black of Crossharbour, the former proprietor of the most popular conservative broadsheet in the country. And in Canada, where he was born and where he began his meteoric rise, he is, as the director of the documentary Citizen Black put it, “our own Charles Foster Kane.”

Black’s trademark blend of glamour, erudition, and audacity are best captured in a photograph of him, taken at Kensington Palace in the summer of 2000, dressed in the crimson vestments and matching four–cornered hat of Cardinal de Richelieu, the 17th–century French prelate and Chief Minister to King Louis XIII. A self–described Francophile who reveres Napoleon and de Gaulle, Black is also a convert from Anglicanism to Catholicism (at age 41) who famously built a private chapel—consecrated by two cardinals—on the grounds of his home in Toronto, where he grew up a member of the city’s moneyed elite. He no doubt identified with Richelieu’s reputation as one of history’s true Renaissance men: a nobleman, clergyman, statesman, author, and patron of the arts. Standing by Black’s side, his wife, Barbara Amiel, makes a fetching modern–day Marie Antoinette, her bounteous décolletage heaving beneath demure white lace.

As Black awaits his sentencing in Palm Beach—the judge forced him to surrender his passport and remain there or in Chicago—he says his faith provides some comfort. “It has been helpful…in reading apposite passages from ecclesiastical authors, especially Cardinal Newman, and in conversation with several very knowledgeable clergymen.” Every evening, if the weather permits, he sits on his terrace and enjoys a glass or two of good French wine. “It is a terrible thing to be wrongly accused, and assaulted and defamed,” he wrote me. “And it is even more terrible to be unjustly convicted…[But] my health is good and I will survive it all.”

The trial of United States v. Conrad Black et al. began on March 19, 2007. But for Black’s defense team, the true showdown came nearly two months later—the day Hollinger International’s former president David Radler took the stand to testify against his friend and business partner of 35 years. “The government has based its case against Conrad on David Radler,” Black’s attorney Eddie Greenspan—a heavyset 63–year–old with a full head of well–coiffed white hair and a reputation as the Canuck Johnnie Cochran—would say during his closing argument. “The government, at the very beginning of the trial, admitted its star witness is a liar. But [the prosecution] told you that David Radler’s testimony would be supported by other witnesses and by documents. Well, they were at least right about one thing: David Radler is a liar.”

On the morning of May 8, Radler—a trim sexagenarian with a receding hairline and large glasses perched on his prominent nose—shuffled self–consciously into Courtroom 1241 of the Everett McKinley Dirksen building. To reach the witness box at the back of the room, he had to walk through eight rows of church pew-style wooden benches, packed with reporters who had traveled from across the U.S., Canada, and Britain to cover what the Canadian newsmagazine Maclean’s billed as “The White–Collar Trial of the Century.” In front of Radler, two large rectangular tables had been arranged to accommodate Black, his co–defendants (Mark Kipnis, John Boultbee, and Peter Atkinson), and their respective teams of attorneys and laptops, giving the room the appearance of a trading floor at a brokerage house rather than the setup familiar to viewers of Law & Order. The four principal members of Fitzgerald’s prosecution team huddled around a third table, which was so close to the jury box that prosecutors could smell who had eaten garlic on their lunch break. During nearly two weeks inside the witness box, Radler had to pass within a foot of his ex–friend and colleague. But Black steadfastly avoided his gaze.

In fact, the longtime associates were a study in contrasts. Radler slouched forward when he walked, his head darting furtively from side to side, while Black had a stiff, almost regal bearing. Radler sported bright pink or orange ties with his white shirts and dark suits, whereas Black wore the subdued blues and grays of a London banker. Radler’s face was deeply tanned, as though he had just returned from a trip to Tahiti; Black, we learned during testimony about a Hollinger–financed jaunt to Bora–Bora, was not a fan of the tropics, and his chalky gray complexion betrayed years spent writing and pontificating into the early hours of the morning (he once e–mailed me at 4:22 A.M.).

In order to fully grasp the case against Black it is important to understand the convoluted corporate structure through which he controlled Hollinger International—a series of interconnected private companies that resembled a set of nested Russian matryoshka dolls. In the center was Ravelston, a private Toronto holding company owned by Black and Radler, which owned another privately held Toronto holding company, Hollinger Inc., which in turn controlled a majority of the publicly listed Hollinger International. In an ingenious arrangement, Ravelston collected “management fees” from Hollinger International, essentially an outsourcing fee for the use of Ravelston’s executives. The same team already collected generous compensation from Hollinger International, meaning Black and the others got paid twice for the same job: a salary from International and a management fee through Ravelston. Although Black and his co–defendants weren’t charged criminally for it, the double–dipping formed the basis for the investigation by the Special Committee—and ultimately led to Black’s indictment.

Lead prosecutor Eric Sussman—a lithe, 38–year–old marathon runner with boundless energy who presented a marked contrast to Black’s ponderous, aging defense team—began by taking Radler through his long history with Black in order to portray them as inseparable colleagues and friends. How the two men—Radler, the son of a restaurateur, and Black, the son of a wealthy brewery executive—had met in Montreal in 1969 and together made an $18,000 investment in a community newspaper, the Sherbrooke Record. How they drastically cut costs and increased profitability, selling the paper in 1977 for a whopping $865,000, and plowed the profits into another paper, and then another. Sussman then outlined a central charge of the government’s case: That during a sell–off of most of Hollinger International’s newspapers between 1999 and 2001, Black and his co–defendants schemed to divert more than $60 million that rightfully should have gone to the public shareholders of Hollinger International.

The details are mind–numbing, but basically they involve a standard business tool in the newspaper world: the noncompete agreements guaranteeing a paper’s seller that the buyer will not simply start up a new rag, poach the best staff, and reenter the marketplace. The prosecution charged that Black, Radler, and the others inserted themselves and Hollinger Inc. as beneficiaries in several of the noncompete agreements, personally claiming a large chunk of the proceeds of these sales and thus defrauding the shareholders of Hollinger International. (There is nothing criminal per se about an executive at a public company signing an individual noncompetition agreement as long as 1. the company’s board of directors and auditors approve it and 2. it is disclosed to shareholders—the latter of which, in the jury’s mind, Black failed to do.) “The payments were approved as management fees and again as noncompetes,” Black insisted to me. “I do not think they were illegal. I don’t think any serious doubt about my business acumen was raised in this case.”

On the stand, Radler blamed it all on Black: “He suggested that we insert ourselves in the noncompete process and I agreed.” While Radler’s story may have been straightforward, his delivery was anything but. Nicknamed “Ratler” by the media for his willingness to testify against his former partner, the government’s star witness often seemed to have a frog in his throat. Under cross–examination, Radler at first appeared shaken by Greenspan’s aggressiveness:
Greenspan: Was it easy for you to lie? Did you stutter before you lied? Was there a long pause before you lied? Did you avert your eyes?
Radler: Sir, I told lies.
Greenspan: I take it we could be talking to you right now and you might be lying, true?
Radler: False.
Greenspan: False? I have your word on it?
Radler: Yes, you have my word.

But Radler recovered as the cross–examination continued, parrying Greenspan’s barely controlled fury with dry wit. In one memorable exchange, Greenspan asked him about the time—shortly after they acquired the Sherbrooke Record—the U.S. Congressional Record selected an article Black had written about LBJ.
Greenspan: That was a very big deal in Sherbrooke?
Radler: I don’t remember that.
Greenspan: Having an article from Sherbrooke, Quebec, read into the Congressional Record wasn’t a big deal?
Radler: It was certainly a big deal for Conrad.

As the details of his life and alleged criminal acts emerged in open court, Black looked on with an expression of studied disinterest. When something caught his attention, he would lean over to whisper in Greenspan’s ear. Occasionally, his eyes would wander over to the press—many of whom had worked for him directly or indirectly—or settle on the jury of nine women and three men who would decide his fate. Juror Jean Kelly, a 51–year–old mail carrier from the suburb of Crest Hill, was unnerved by Black’s gaze. “He had a tendency to look down at us, like he couldn’t believe people so beneath him were responsible for his freedom,” she told me recently. “He didn’t portray any warmth, any emotions at all. It looked like he thought the whole trial was a big waste of his time.”

During breaks in the action, Black often huddled with his wife and grown children from his first marriage, who were seated in the front pew just behind the defense team. (Staunchly supportive of her husband, Amiel had her own run–ins with journalists during the trial, calling some of them “sluts” and “vermin.”) Black’s sons, James and Jonathan, made occasional cameos, and his daughter, Alana—a tall, striking 25–year–old who looked like she had just stepped out of the pages of a fashion magazine—was a daily fixture. But for a noted raconteur used to commanding every room he enters, Black’s forced silence as witness after witness attacked him seemed to drain his magnetism, leaving him vulnerable at the end of each day to the throng of reporters and TV cameras outside the courthouse. When I asked him whether he would have liked to take the stand in his own defense, Black wrote, “My testifying would have opened the trial up to a much wider range of questions, which I could have dealt with, but it would have made the trial longer and more complicated.”

In their unrelenting focus on destroying Radler, the defense made a fatal error: They failed to convince the jury that Black and the other co–defendants were legally entitled to the millions of dollars in noncompete money that flowed to them directly—or indirectly, through Black’s private holding company, Hollinger Inc.—from the newspaper sell–offs. Early in the trial, several buyers testified that they had not requested noncompetition agreements from anyone other than the publicly held Hollinger International—leading the jury to conclude that Black and his cohorts did not deserve the additional proceeds from these sales. “We did not consider these people to be potential competitors in these small towns,” Michael Reed of Community Newspaper Holdings Inc. of Birmingham, Alabama, testified in a particularly damning moment. The buyers also established a pattern of dubious behavior at Hollinger—including a $5.5 million noncompete fee paid to Hollinger Inc. from one of Hollinger’s own subsidiaries, American Publishing. Black’s defense team claimed the deal was meant to ensure that Black and the others wouldn’t compete with American Publishing should they leave the company. But at the time of the deal, American Publishing owned just one small paper in Mammoth Lakes, California.

Allegedly turning a blind eye was Hollinger’s star–studded audit committee—responsible for approving all executive compensation—composed of Marie–Josée Kravis, a noted conservative economist, president of MoMA, and spouse of private equity titan Henry Kravis; James Thompson, a former U.S. attorney and four–term governor of Illinois; and Richard Burt, a former U.S. ambassador to Germany. The committee contributed some of the trial’s more far–fetched moments, repeatedly insisting on the witness stand that they had missed every single reference to the noncompetes when approving Hollinger’s financial statements. In his closing statement, Greenspan argued: “These three individuals, knowing full well their responsibilities as members of the audit committee, want you to believe that they missed this disclosure…a collective total of 33 times?” The prominence of Hollinger’s directors—other board members had included Henry Kissinger and Richard Perle—has always been a source of pride for Black, and even now, he tries to put a positive spin on their betrayal. “The jury clearly determined that all of the former Hollinger directors who testified lied under oath, and they did,” he wrote to me. “None of them would have wished to lie, but all appeared with an official rod on their backs, immunity or a plea bargain.”

Whether or not this is true, the defense also failed to counter the only real smoking gun—surveillance videotape that showed Black personally removing boxes from Hollinger Inc.’s Toronto offices in apparent violation of an SEC order, which resulted in his conviction for obstruction of justice. For effect, the prosecution subpoenaed the 13 boxes—containing Black’s files and personal belongings—from Canada and had them brought into the courtroom, where they stayed in view of the jury for several days. When Greenspan called Black’s secretary, Joan Maida, to testify about the incident, she proved to be the worst witness of the entire trial, transforming what could have been a simple explanation—that Black had to remove his personal effects after being dismissed as chairman—into a dubious one by repeatedly changing her story about how many boxes she packed. “I knew nothing of any official interest in the famous 13 boxes, had nothing to do with selecting their contents,” Black wrote to me. “I did not alter or even examine the boxes when they were in my house. Doubtless, this could have been better explained.”

Indeed, Black’s vaunted legal team drew mixed reviews for their performance. Greenspan was trying his first case ever in the U.S., which resulted early on in a series of embarrassing gaffes. And his vicious treatment of Radler alienated the jury, undermining his effectiveness in other areas of the case. “I was offended by Greenspan,” Kelly says. “When Radler was on the stand, he was screaming at us, telling us what we were supposed to think. We walked out of there every day with stomachaches.” And cocounsel Eddie Genson, a famed Chicago trial lawyer who suffers from a neuromuscular condition that relegates him to a motorized scooter or crutches, often seemed lost. “I felt sorry for him,” says Kelly. “I heard he used to be a great attorney, but he should have been put out to pasture a long time ago.”

Throughout, the prosecution put Black’s lifestyle on trial, including perks like his $5 million corporate apartment in New York, Amiel’s sixtieth birthday party at four–star Manhattan restaurant La Grenouille—a $62,000 extravaganza largely paid for by Hollinger International—and the company jet, which shuttled him between luxurious homes in London, Toronto, and Palm Beach. This strategy had backfired in the case of Dennis Kozlowski and his infamous $6,000 shower curtain, and the prosecution was mindful of not distracting the jury from the core charges. “They made a conscious effort not to overplay the perks,” says a source close to the prosecution. “But they would do it again in a heartbeat because it gave the jury insight into how Black treated his company’s money.”

The Blacks were certainly an easy target. Black’s exalted position as the proprietor of The Telegraph attracted a social set that included Margaret Thatcher and Lord Carrington, the former secretary–general of NATO who in 2001 secured Black the seat in the House of Lords that he had openly coveted for years. (After a public spat with then Canadian prime minister Jean Chrétien, Black was forced to give up his Canadian citizenship to accept the honor.) Black’s defense team was obviously concerned that their client’s wealth would turn off the jury, and tried to draw a distinction between fortune and fraud. “Ladies and gentlemen, Conrad is different…from you and me. He is a rich man,” Greenspan said during his persuasive closing argument. “But in America, you do not convict people for being rich. Ask yourself: Why are the prosecutors focusing on this? Because they hope you will judge Conrad Black not on the facts of this case, but on his wealth, his lifestyle, and his vocabulary.”

Although the jury acquitted Black on all the so–called lifestyle counts, evidently they never believed that a man who spent his life being chauffeured around in limousines and waited on by servants would lug his own boxes—unless he had something to hide. And when the two–week deliberations began, nine of the twelve jurors wanted to convict Black on all counts. “A lot of people may have been swayed with the talk about his $4,000 towel–warming bars, and they were angry about what he had done to the shareholders,” Kelly told me. “They said, ‘He’s arrogant, we have to nail him on something.’” But the three holdouts pushed them to examine the counts one by one and convict based on evidence rather than emotion. “I don’t think anyone realizes just how close Black came to being found guilty on everything,” Kelly says.

On November 30, Conrad Black will finally have to face the enormity of his fate. He could spend the rest of his life in a federal prison, although experts predict that Judge Amy St. Eve will probably give him between seven and fifteen years. The company he built into a media behemoth, Hollinger International, has changed its name to the Sun–Times Media Group and is now run by Cyrus Freidheim, a turnaround specialist who previously took the helm at Chiquita Brands following its bankruptcy. Meanwhile, Black faces a mountain of civil suits—from the SEC, the Ontario Securities Commission, and Sun–Times Media, which is suing him and other former executives for $542 million—that could bankrupt him and keep him in court for the rest of his days. Most of his personal wealth, once reported at $400 million, came from Hollinger shares and stock options—neither of which are much good to him now. The majority of his remaining assets are in real estate, but those properties have been seized or diminished in value by large mortgages, tax liens, or bail bonds. He is also currently waging a battle to keep his $35 million Palm Beach house, which he used as collateral to secure his $21 million bail, though the government has argued in court that it should be seized as “forfeiture”—the spoils of his criminal acts. While it’s impossible to say exactly how much of his fortune remains, it is likely not enough for a man who once famously claimed that “greed has been severely underestimated and denigrated.”

Although old friends like author George Jonas and Canadian news broadcaster Brian Stewart have stuck by his side, Black’s dance card is lonelier these days. “This experience tends to reduce social activity, not so much because of fewer invitations, though there is some of that, but because it has been such an ordeal, anyone would naturally be less sociable,” he wrote me. “And the subject of these travails becomes an 800–pound gorilla nobody mentions. We and other polite people don’t want to talk about it, but it is hard to ignore, and some awkwardness results.”

Characteristically, Black prefers to focus on his appeal rather than dwell on thoughts of detention. “I still hope for a complete acquittal,” he wrote, “and on a worst case, not a severe sentence.” He has hired noted appeals specialist Andrew Frey, who helped investment banker Frank Quattrone overturn his obstruction of justice and witness tampering convictions. Legal experts say Black’s chances of exoneration are slim, but some point to the government’s narrow margin of victory as cause for cautious optimism. “Fitzgerald did a masterful job in his press conference, spinning this like it was a complete and total no–hit shutout,” says Hugh Totten, a trial attorney at Perkins Coie in Chicago who regularly attended the trial as a legal analyst. “At the end of the day, Black was convicted of defrauding the company of $3.2 million, much less than [the] $60 million he was accused of—and a far cry from the ‘kleptocracy’ Breeden found in his report. That’s what I call winning a case just barely.”

So far the only real winner appears to be David Radler, who is likely to get less than 29 months in prison. As a Canadian citizen, he may end up spending less than six months in a country club for pleading guilty to the same crimes for which Black now faces up to 35 years in the U.S. Ironically, Black would have been eligible to serve time in Canada—where sentences for nonviolent crimes are much less severe—had he not given up that right for a seat in the House of Lords. “I do regret giving up my Canadian citizenship,” he acknowledged, “but I always said I would take it back.”

Meanwhile, Black remains focused on the larger war—the one for his place in history: “I am hopeful that I will win, sooner or later, the battle for my reputation. The other matters are secondary.” It is a reputation Black’s friends say is badly misunderstood. “There is a Stephen Colbert quality to Conrad,” says David Frum, a conservative author who grew up in Toronto and has known Black for many years. “He has a style of talking that is larger than life. But he is not bombastic. A lot of the comedy of knowing him is that he has created this persona and is playing it for laughs.”

History is littered with stories like Black’s—men who lost everything they had trying to reach for what they didn’t need. And given his obsession with history, it seems a sad cliché that he was destined to repeat it. He has even been compared to the subject of his latest biography, Richard Nixon—a man of great talent undone by even greater flaws—though he sees few parallels. “He was a president and a historic figure; I was just a somewhat prominent publisher,” Black wrote me. “There is a stronger case for charges of illegalities against Nixon than against me. Where there may be some comparison is in the virtues of fighting these crises through and never giving up.”

In the eyes of Black’s former school chum John Fraser, a prominent Canadian journalist who worked for him as the editor of Saturday Night, Black’s obsession with American presidents (he also wrote a well–received biography of FDR) is reflective of a larger obsession with America. “Throughout his life, Conrad so admired the United States—there was no country he was more desperate to be successful in,” says Fraser. “But he was terribly naive to think he could behave the same way in the U.S. as he did in Canada.” In Canada, Black was the ultimate insider who ended up an outsider—the Establishment Man who abandoned the Establishment for a peerage. Now he can only look out at the waters of the Atlantic toward Britain—the country he adopted to become a lord—wishing perhaps that he had remained at home.

Like most intimate confabs at the conference, the dinner wasn’t expected to generate much controversy, or to compete for press coverage with just about anything uttered by Angelina Jolie, who was on hand in Davos as a United Nations goodwill ambassador. Toward the end of the evening, however, the collegial vibe took a turn: During an informal question-and-answer session, hedge fund manager Daniel Loeb—seated in the audience—began to criticize private equity firms for hoarding profits that rightly belong to public shareholders. While some attendees may have agreed privately with Loeb, those dinner guests well accustomed to the sanguine navel-gazing of business conferences were taken aback. In the pantheon of audacious acts, Loeb’s behavior was akin to wearing an NRA T-shirt to a peace rally.

Of course, nobody who has followed Loeb’s career was too surprised. As the founder and chief executive of the $3.6 billion New York-based hedge fund Third Point LLC, Loeb has developed a reputation as one of America’s most outspoken and controversial investors. A self-styled successor to activists such as Carl Icahn and T. Boone Pickens, the 44-year-old California native takes large stakes in companies and then agitates for change through public, often hostile negotiations with management. He is known as Wall Street’s poison pen—an epistolary assassin who employs words as ammunition against the top brass of corporations in which his fund invests. Witty in comparison with the mind-numbing style of most securities filings, Loeb’s bons mots have attracted a cult following among analysts and money managers, who forward them like off-color jokes and post them on investing blogs.

Loeb’s activist MO has been lucrative for Third Point, raking in an average annual return of nearly 23 percent since 2002, according to a former employee, well above the 7.7 percent average of HedgeFund Intelligence’s Absolute Return Composite index, a leading benchmark. As one of the 100 largest hedge funds in the country, Third Point earned Loeb $150 million in 2005—landing him twentieth on the list of America’s highest-paid managers in Alpha magazine, the bible of the kill-or-be-killed industry.

Increasingly, however, Loeb’s brash style has put him at odds with some Alpha associates—and the saber-rattling that fueled his fortune now threatens to undermine him. The hedge fund community is under siege after operating in relative obscurity for decades. High-profile funds have been accused of crossing the legal line; the federal government is pushing for more oversight; and the media, once content with an occasional peek behind the curtain, is clamoring to tear it down. The glare has motivated some of Loeb’s peers to adopt a level of secrecy not seen since the early days of the Cosa Nostra, and it’s not necessarily paranoia: In 2003, hedge fund billionaire Edward Lampert was kidnapped at gunpoint while leaving his Greenwich office and held for nearly two days.

Loeb appears to recognize the need to restrain himself in order to succeed in this new climate. He talks to the media less, and declined repeated requests to be interviewed for this story. But his antics in Davos—one of a series of recent incidents in which he has turned his patented vitriol on his own colleagues—suggest his activist investing may not be just a calculated strategy. “When Dan walks in a room, he makes everybody nervous,” says a Davos dinner attendee. “He will sit quietly for a while and then suddenly have an outburst. People don’t really know how to handle that.”

To be sure, the saga of Daniel Loeb offers a revealing glimpse into the hush-hush world of hedge funds—whose influence on Wall Street has grown in equal measure with their swelling coffers. Since 2003, cumulative hedge fund assets have skyrocketed from an estimated $600 billion to $1.2 trillion, consolidating wealth in fewer hands and transforming what was once the Wild West of investing into an increasingly institutional place—and leaving little room for the cowboys who once roamed free.

When Alfred Winslow Jones launched what is widely regarded as the first hedge fund in 1949—coining the phrase to describe his approach to guarding against the risk of the stock market—the notion that a fund manager could earn anywhere near as much as his wealthy clients was heresy. Charging a management fee as well as a share of his fund’s profits, Jones reconfigured the economics of the manager-investor relationship and paved the way for today’s celestial earnings. In 2005, the top 10 hedge fund managers each cleared more than $275 million—nearly $162 million more than the combined compensation of the CEOs at Morgan Stanley and Goldman Sachs.

Flush with wealth and power, today’s hedge fund managers have become the It Boys of American capitalism, following in the footsteps of the Gordon Gekko?style buyout barons of the eighties and the dot-com wunderkinds of the nineties. Newly minted MBAs who once flocked to JP Morgan now crowd the early-morning trains from Grand Central to the constellation of hedge fund offices in Greenwich, Stamford, and other moneyed Connecticut towns—lured by the promise of earning more in a single week than they could otherwise earn in a year. Commercial rent in downtown Greenwich has climbed to more than $80 a foot—on par with prime office space in Midtown Manhattan—while Fairfield County’s manicured suburbs have become a giant construction zone, with each mega-McMansion more garish than the last. SAC Capital head Steven Cohen, who took home a $550 million paycheck in 2005, has a 32,000-square-foot estate with an ice-skating rink and an indoor basketball court—and scattered throughout are pieces from his estimated $700 million art collection, which includes a Van Gogh, a Pollock, and Damien Hirst’s formaldehyde-preserved tiger shark.

The “2 and 20″ fees often associated with hedge funds—2 percent management fee on all assets and a 20 percent share of the fund’s trading profits—haven’t deterred investors: In the past three years, the number of U.S. hedge funds has jumped from 6,000 to nearly 9,000. As funds have multiplied, they have branched out into increasingly varied investment strategies, placing them in the same orbit as the other behemoth of the investing world—private equity—and blurring the distinctions that once separated them. Similarly, private equity firms now invest like hedge funds, taking large stakes in public companies. “The concept of public and private equity is defunct,” says Anand Sunderji, a vice president of the $2.5 billion Swiss firm Adveq Management. “It’s all just equity.”

Most of the new money flowing into the industry comes from giant institutional investors—such as pension funds and university endowments—which attract a higher degree of scrutiny from both the media and regulatory bodies. In recent years, prominent hedge funds have been accused of insider trading (Pequot Capital Management) and naked short-selling (Rocker Partners)—to say nothing of Bayou Management, which swindled $450 million from its investors before its founder and CFO were both charged with fraud. (Pequot was subsequently cleared of the charges; members of Bayou’s management pled guilty and await sentencing; and Rocker Partners, whose lawsuit is ongoing, maintain there is nothing illegal about their short-selling practices.) The recent implosion of Amaranth Advisors, which lost $6 billion in capital almost overnight, has only intensified the pressure. In a victory for the libertarian-minded, the U.S. Court of Appeals for the District of Columbia ruled last summer that the SEC no longer has the authority to impose rules on hedge funds beyond those that govern all investors—but given that hedge funds account for roughly half of all daily trading on the New York Stock Exchange, Congress will no doubt continue to push for government regulation.

Institutional investors have also fostered a more conservative outlook. Many are turned off by what they call “headline” risk—the idea that an irascible, heat-seeking manager like Loeb could bring them negative attention or embarrassment. “We initially looked at Third Point because of its extremely attractive performance history,” says one portfolio manager at a multi-billion-dollar fund who invests solely in hedge funds. “But we decided not to put our money with him for reputational reasons.”

Armed with a B.A. from Columbia, several years of Wall Street experience, and $3 million from friends and family, Loeb started Third Point LLC in 1995. An avid surfer, he named his fund after the choicest break at Malibu’s Surf-rider Beach near his boyhood home in suburban Los Angeles. It didn’t take long for him to make headlines. In 1999, he was sued for libel by public relations executive John Liviakis for allegedly “repeatedly and maliciously publish[ing]” anonymous postings on Yahoo! Finance, Silicon Investor, and other Web sites under the pseudonyms “John_Crimiakis_StockSwindler” and “Mr. Pink” (after a character in Reservoir Dogs). Liviakis’s complaint quoted one posting: “I have registered 1.7 million shares to sell and these will soon flood the market. Hopefully I will sell these before the company loses its Nasdaq listing…Then I will laugh at you fools for buying my shares and I will celebrate with a bottle of grappa, some fresh feta, and a nice young boy—just like in the old country.”

The lawsuit was eventually settled, and Loeb has never acknowledged a connection to either pseudonym. In August 2005, three days after Bloomberg Markets published a flattering piece about Loeb, the article appeared on Mr. Pink’s Silicon Investor message board with the caption “Oh Lord He is Wise!”

In 2000, Loeb honed the strategy that would come to define him, already introduced by his L.A. hedge fund pal Robert Chapman. After penning a scathing letter to the CEO of an investment trust, Chapman attached it to a Schedule 13D form, which the SEC requires major stockholders to file when they take an action that will influence the company’s business. Typically the form alerts shareholders that an investor has acquired a significant stake in a public company, but Chapman had a more cunning calculus: It ensured that his letter would be widely seen.

Emboldened by Chapman’s approach, Loeb stepped out from behind the curtain. His first target was William Stiritz, the chairman of two companies, one of which, Ralcorp Holdings, had made an offer to acquire the other, Agribrands International. Third Point had a substantial stake in Agribrands, and Loeb’s 13D letter argued that the offer was too low. In the first of many vindications for Loeb, a competitor topped Ralcorp’s bid by 28 percent, netting Third Point $20 million. In the years since, Loeb seems to have grown more charmed with his own voice and more personal with his attacks, emphasizing the pay, perks, and lifestyle of a CEO in addition to the issues afflicting his company. Their result is often to humiliate an executive so badly that he resigns, is fired, or acquiesces to Loeb’s demands. “Dan refers to it as ’social pressure,’” says a former Third Point employee. “He believes that if you embarrass a CEO in front of his friends at the club, make him feel like people are talking about him, you can exert change on his company.”

A 2005 letter to Irik Sevin, then CEO of Star Gas Partners, called him “one of the most dangerous and incompetent executives in America.” Another missive to the board of directors of Salton Inc. criticized CEO Leonhard Dreimann’s decision to advertise at the U.S. Open tennis final. Loeb’s tones seemed to show arrogance, not just in the skewering of his target but in the self-aggrandizing possibilities of the cannonball communiqué: “You can only imagine my consternation when I…saw the Salton name emblazoned all around the interior of the stadium walls next to such robust companies as IBM, JP Morgan, and Mass Mutual….My bewilderment quickly turned to anger when I saw…the private box that seemed to be occupied by Mr. Dreimann and others who were enjoying the match and summer sun while hobnobbing, snacking on shrimp cocktails, and sipping chilled Gewürztraminer.”

Loeb’s belligerence is unusual even when compared with other hedge fund managers, who tend to flex their muscle behind the scenes. “Our first approach is to talk to management on a friendly basis,” says Charlie Penner, general counsel at the $5.5 billion activist fund Jana Partners. “We don’t see any point in taking a tone or approach that is personal or bitter. Our goal is never to get in the headlines.” Wilbur Ross—the legendary investor who runs a $200 million hedge fund and several private equity funds totaling $4 billion—has a similar philosophy. “Most of these young shareholder activists have no management experience,” says Ross. “[I]t would be societally more responsible if they said, ‘I don’t like that company, but I’m not just going to terrorize them. I’m actually going to take control, put out the management, put in new people, and fix it.’ I don’t see them doing that. It’s all wham, bam, thank you ma’am.”

Meanwhile, Loeb has also called attention to himself with his own conspicuous appetite, which seems to have turned him into the greed-is-good cliché that he targets. Last fall he reportedly agreed to purchase the most expensive apartment ever sold in New York, a $45 million penthouse in a building now under construction on the site of the old Mayflower Hotel. Plans for the 10,000-square-foot space overlooking Central Park are said to include 8 bedrooms, 10 bathrooms, and 800 square feet of terrace space. He also owns a modernist oceanfront house in the Hamptons designed by Rafael Viñoly, and a burgeoning art collection with works by such artists as Andy Warhol, Cindy Sherman, and Martin Kippenberger. But, like other hedge fund managers, he’s more parvenu than patron of the arts. After New York gallery owner Barbara Gladstone reportedly cancelled the sale of a Matthew Barney photograph to Loeb, he was irate. “Dan doesn’t understand that just because you have the money doesn’t mean you will get what you want,” says a prominent art consultant. “It’s not a world you can buy into so easily.”

Loeb’s aggressive persona has spilled over into his personal life as well. Before his 2004 marriage to former yoga instructor Margaret Munzer—with whom he recently had a child—he was a fixture on the social circuit in Manhattan and the Hamptons. “He was out all the time,” says an acquaintance who ran in Loeb’s circle. “There were a lot of girlfriends.” His extracurricular life was on display in a 2001 New York article about yoga, which included a character referred to only as “Mr. Hedge Fund.” I was told that it was actually Loeb, hidden behind an alias. A longtime devotee of Ashtanga yoga, Loeb practices every morning at 5:30 and often travels to Mysore, India, in search of higher learning. But evidently, Loeb has managed to weaponize the peaceful spiritual practice: “Companies are short, management’s trying to defraud us, and I’m like Rambo in the office, headset on, three computers in front of me, mowing them all down,” he told the magazine. “Yoga is all about focus and perfect aim.” Confronted with these points, a spokesman for Loeb retorts, “These allegations do not dignify a response.”

In September 2005, another Loeb letter flooded in-boxes. But this time the recipient, Citadel Investment Group’s Kenneth Griffin, was not a bungling CEO but a respected hedge fund manager. Prompted by the allegation that Griffin had hired an employee away from a fund run by Loeb’s crony David Einhorn, Loeb sent Griffin an abusive e-mail in which he referred to Citadel as a “gulag” and its employees as “indentured servants.” “I understand your need to hire employees from other firms,” wrote Loeb, “something that Third Point has not had to do based on the fact that, unlike yourself, I actually enjoy and have talent in investing and am able to nurture others within my organization….Let me be clear that under no circumstances are you to approach any Third Point employees…should you attempt to hire people from [my friends], I will consider it a similar act of war.”

Loeb’s attack on Griffin was one of several episodes, culminating with his behavior in Davos, in which he has cannibalized his colleagues. Other targets include Wilbur Ross, whom Loeb accused of unfairly profiteering from the reorganization of a coal company in which both had invested, and London-based hedge fund managing director Alan Lewis, who approached Loeb for a job, only to have his e-mail exchange broadcast across the Internet. “We find most Brits are a bit set in their ways and prefer to knock back a pint at the pub and go shooting on weekends rather than work hard,” wrote Loeb.

But Loeb’s own record as an employer may leave something to be desired. “Third Point should really be called ‘Daniel Loeb Inc.,’” says an investor. “The big question on the street is how someone who puts up such good returns can have so much trouble retaining people.” In the last year alone, according to an insider, two of six partners, two analysts (of roughly a dozen), and the CFO all left Third Point either to join other hedge funds or to start their own. Of those who remain, only two were at the firm prior to 2003.

For the most part, Loeb’s former employees prefer to keep their thoughts about him private. And of more than two dozen friends, acquaintances, and ex-employees contacted for this article, most declined to speak about him. Their reluctance may be motivated by Loeb’s treatment of the last employee to challenge him, Youlia Miteva. In 2003, Miteva sued Loeb for “erratic and sometimes abusive behavior,” claiming that he had promised bonuses he later reneged on in a “scheme…to deprive [Miteva] of approximately $1 million in wages and other employment benefits.” The suit also charged that after Miteva left Third Point, Loeb deliberately sabotaged her attempt to get a position at Cohen’s SAC Capital. Loeb denied these allegations.

Possibly embarrassing to Loeb was the discovery of e-mails he sent to fellow 13D devotee Robert Chapman expressing disdain for Third Point analysts. In one e-mail quoted in the court’s findings, he wrote, “[I] hate them intensely.” In another, he joked, “I need to conduct a pogrom around here.” When Loeb fired Miteva—just four days before her $650,000 performance bonus was due—he wrote to Chapman that “the nuclear submarine launch sequence” had been “initiated” and was “headed for [E]astern [E]urope,” an apparent reference to Miteva’s Bulgarian nationality. The lawsuit was later settled.

One evening last June, the nonprofit Prep for Prep held its annual Lilac Ball fund-raiser at Manhattan’s Waldorf-Astoria. Like many New York causes célèbres, Prep for Prep counts among its trustees a roster of Wall Street heavyweights, including Loeb. Hoping to gain an audience with him, I gate-crashed the dinner. Around 7:00 p.m., I spotted Loeb holding court near one of the bars that dotted the reception area. He looked about 5′9″, his slight, yoga-toned build tucked into a black suit. Despite the gray slowly colonizing his full head of brown hair, he appeared much younger than his 44 years. I approached cautiously. “Mr. Loeb,” I said, reaching out my hand.

“Hi,” he replied blankly, betraying his lack of rec-ognition.

“We’ve exchanged e-mails,” I said. “But we haven’t met.”

“I didn’t think I knew you,” he replied, smiling, “but I always pretend I do. What were the e-mails about?”

“I’m the writer from Men’s Vogue. Since we haven’t managed to connect, I was hoping to ask you a few questions.”

His face, which had registered a pleasant calm, suddenly expressed concern. “I can’t talk to you,” he said, starting to back away. “I’m not allowed to talk to you.”

Not allowed? The gun-shy response speaks volumes about Loeb’s commitment to rehabbing his reputation. Similarly, several recent articles about Third Point have downplayed Loeb’s activism, emphasizing that the fund devotes less than 10 percent of its assets to activist investments. One former Third Point employee suggested that Loeb is using the media to improve his standing among deep-pocketed, risk-averse institutional investors—without whom Third Point will be unable to maintain its place among the T. Rexes.

Another reason for Loeb’s restraint is that 2006 may prove to be an underwhelming year for Third Point. Through the first half of the year, the fund was on course to register only a single-digit gain—which may not be enough, especially in the increasingly crowded and competitive activist-fund niche. When the $1.7 billion activist fund Pirate Capital stumbled to a 3 percent return for the first three quarters of 2006, the fund lost half its investment team, and its investors may follow. Ultimately, Loeb’s fate will also hinge on his ability to anticipate the next market cycle. “Dan is very good at figuring out where the opportunities are,” says the former Third Point employee. “He always seems to know where the hot money is going.”

If a hedge fund manager with as many sharp edges as Loeb is trying to soften his image, could the era of the hedge fund cowboy be over? Are hedge funds destined to become more like the somber investment vehicles against which they once defined themselves—mutual funds? Recent history suggests they are already there. In November, Morgan Stanley acquired $5.5 billion hedge fund Frontpoint Partners, becoming the latest in a line of giant institutions to bring once-independent funds into the fold. And the largest U.S. hedge fund is no longer run by a maverick in Greenwich. It belongs to Goldman Sachs. But if hedge fund managers become employees of large public corporations, do they really have the right to demand such enormous fees? It is a question Daniel Loeb might ask.

FOR THE PRIVILEGE OF WORKING 12-HOUR SHIFTS seven   days a week in a factory where she makes plastic casings for Motorola cellphones, Mary, 30, will be in debt for years to come.

Mary already owes every penny she earns. In the circular, crazy logic of the global labor economy, she owes the money precisely because she has a job. And she is bound to her job as a result of her debt. Once it would have been called indentured servitude. Today, in some parts of the world, it’s standard hiring practice.

This is how it works: To secure work at the Motorola subcontractor, which is in Taiwan, Mary had to pay $2,400 to a labor broker in her native Philippines. She didn’t have that kind of money, so, as is common, she borrowed from a local money lender at an interest rate of 10% per month. That payment, however, got her only as far as Taiwan. A second labor broker met Mary at the Taipei airport and informed her of his separate $3,900 fee before delivering her to the new job.

Before she left the Philippines, Mary rejoiced at the $460 a month she would be earning in Taiwan; it was a princely sum, more than five times what she could make doing similar work, if she could even find it, in her own country. But once in Taiwan she began to realize that after the brokers’ fees and other deductions, she would be left with almost nothing. Out of her monthly check came $215 to repay the Taiwanese broker, $91 for Taiwanese income tax, $72 for her room and board at the factory dorm, and $86 for a compulsory contribution to a savings bond she will get only if she completes her three-year contract. After 18 months she will have repaid the Taiwanese labor broker. But she still must contend with the Philippine debt and its rapidly compounding interest. “It is very painful for us to have to pay so much of our money,” says Mary, who asked FORTUNE to change her name to protect her identity. “But we don’t have a choice. We either have to take it or leave it.”

There are many forms of debt bondage. As students of American history can attest, we’ve seen our share on these shores, from coal miners forced to buy overpriced food at the company store to sharecroppers trapped by the money they owe landowners. Even today many illegal Mexican immigrants are working to pay off debts to the so-called coyotes who smuggled them across the Rio Grande. But unlike coyotes, the Asian labor brokers to whom workers like Mary are indebted operate in the open. Their services are sought by the factories that import foreign workers and sanctioned by the governments that send and receive them. The labor trade they facilitate functions in the name of global competition.

When Motorola, Ericsson, Nike, and other Western companies contract with Asian factories to produce cellphones and modems, sew clothes, or prepare leather for shoes, they are thinking about costs. The globalization of manufacturing has been a tremendous boon to corporations, allowing them to seek the lowest-cost suppliers, wherever they may be. Today the vast majority of suppliers reside in Asia, and the lowest costs on the continent are found in the new manufacturing mecca: China.

What does that last fact have to do with the labor trade? Everything. With its vast pool of cheap labor, China has proved irresistible to Western manufacturers, which have been flocking there since liberalization in the mid-1990s. As a result, factories that operate in countries such as Taiwan, South Korea, and Malaysia, which have higher labor costs, have had to scramble to compete. The solution they devised was to import workers from poor neighbors–Vietnam, Thailand, the Philippines–and sign them up for two- or three-year contracts. The cost savings are real: In Taiwan, for example, native factory workers earn between $600 and $850 a month, while their foreign co-workers get the minimum wage of $460 and are ineligible for raises and promotions. Moreover, because they need the job to pay off labor brokers, overseas workers are less likely to complain about long hours or abusive supervisors. The logic has caught on: The number of foreign contract workers in Taiwan alone has doubled, to 316,000, in the past seven years.

Five years ago the chief labor issue for American companies like Nike, Liz Claiborne, and Gap was the sweatshop conditions in suppliers’ factories. In response to protests and boycotts, U.S. companies began to demand that factories meet basic health and safety standards, providing workers with facemasks, bathroom breaks, and well-ventilated workspaces. But the debt bondage ensnaring many foreign workers in those factories has not yet hit the radar of most big corporations. It will.

During a trip to Taiwan and the Philippines in December, FORTUNE visited four factories in the apparel and high-tech sectors, spoke with half-a-dozen labor brokers, and interviewed more than 50 overseas contract workers from Vietnam, Thailand, and the Philippines. All the workers reported paying broker fees similar to Mary’s, and many had suffered other abuses as well. In theory, engaging foreign contract workers is a solution that should benefit all parties: Poor countries reduce their unemployment, wealthy countries get cheaper labor, and the workers earn far more abroad than they could at home. In practice, however, the labor brokers have every incentive and opportunity to gouge the workers under their control.

Li Tung International, one of Taiwan’s largest labor brokerages, occupies the fifth floor of a low-rise office building on the industrial outskirts of Taipei. The firm’s general manager, Eric Chiang, has been in the business for ten years and has a fleet of luxury automobiles to show for it, including a Porsche Boxster, a Lotus Elise, and a chauffeur-driven BMW sedan. Sitting in his well-appointed office one December afternoon, surrounded by fine art and antiques, Chiang acknowledges that other Taiwanese labor brokers may take advantage of foreign workers. But he insists that his firm charges only the legal limit. “We sign contracts with the Thai and Philippine governments,” he says. “It is impossible that we charge higher than what the law requires.” For a worker on a three-year contract, that limit is $1,725, about 10% of a worker’s gross pay, collected in monthly installments.

The foreign workers under contract to Li Tung, however, tell a different story. FORTUNE spoke to more than a dozen, some in the company of their factory managers and others in the privacy of their dorms. All cited payments far in excess of the legal limit. At a tannery that provides leather to Nike for its athletic shoes, a young worker from Thailand says he is paying $2,100 for his three-year contract. At the plastics factory where Mary works producing parts destined for Motorola, General Motors, Mercedes-Benz, and others, a Thai worker says he is paying $2,900 on a two-year contract. And at a garment factory that supplies brassieres to the underwear giant Wacoal, a Filipina worker tells FORTUNE that she paid $2,900, all of it in the first 15 months, which meant monthly payments four times the legal limit. A Li Tung spokesman would not confirm these fees but says many workers return to the agency for a second contract, so they must find the terms acceptable.

Overcharging, it turns out, is an accepted business practice for labor brokers, and some are not afraid to admit it. In Manila a labor broker from the D.A. Rodrigo agency said that her firm charges Taiwan-bound workers a $1,600 fee, equivalent to more than three months’ salary, even though Philippine law prohibits a broker’s fee from exceeding one month’s wages. The laws are simply not enforced. In fact, the broker admitted overcharging during an interview that took place while she was waiting to file papers inside the Philippine Overseas Employment Administration, the government branch charged with protecting the interests of workers who go abroad. “One month’s salary is not enough to maintain a business like this,” says Salvador Curameng, a Manila labor broker who presides over the profession’s trade association, the Asian Recruitment Council. “Once you dip your fingers into this market, you are committing to do something illegal.”

Governments are willing to look the other way because of what they get in return: The labor trade means jobs and capital will stay in their countries and not get shipped to China. Nations that import labor also tailor their laws to keep local factories happy. To hold turnover to a minimum, governments allow factories to retain workers’ passports, impose curfews, and deduct compulsory savings bonds–or “run-away insurance”–which workers get back only when they have completed their contract. In South Korea, which limits foreign laborers to a single three-year visit, workers are considered trainees their first two years, so they are exempt from most of the country’s labor laws, including minimum wage and overtime. In an effort to aid Taiwan’s slumping manufacturing sector, the government last year passed a law allowing factories to charge foreign workers room and board.

The contracts are meant to be short term. Once they have finished, importing nations are eager to ensure that the workers won’t find a way to stay. Almost all allow factories to administer pregnancy tests to female workers before they arrive. If a worker gets pregnant in Malaysia, the factory can terminate her contract and force her to cover the cost of her return airfare. Though Taiwan recently changed its law to allow pregnant workers to stay, in practice they are typically given the choice of abortion or deportation. Foreign workers who think marriage to a Taiwanese national is the route to permanent residency are out of luck: Marriage is grounds for immediate deportation.

Manila’s C-5 Expressway runs straight through Escopa 3, a cramped and crowded neighborhood of rickety wood-and-tin shanties. Beneath the highway’s overpass, 34-year-old Edwin lives with his brother and sister in a dark two-room dwelling. The stench of raw sewage seeps in from the narrow streets. Edwin has attempted to work overseas twice. He first left home in 1996 for a job in a Taiwanese factory, testing circuitboards for Sony computers. The experience proved disastrous. The factory was having financial troubles and eventually shut down. Edwin was shuttled to another factory owned by the same company but never got the four months’ salary he was owed from the first job–nor the $2,000 in run-away insurance that had been deducted from his pay. When he returned to Manila, all Edwin had to show for three years of work was $1,100.

The second time Edwin sought work in Taiwan, in 2000, the experience was worse. His Philippine labor broker absconded with his $1,000 placement fee and never even got him a job. A subsequent class-action suit claimed that she had bilked 286 others out of fees ranging from $500 to $1,700. Two years later the case remains unresolved.

Stories like Edwin’s are not uncommon. Stranded in a foreign country with no knowledge of the local language or labor laws, lacking government protection, and restrained by debt, foreign contract workers are especially vulnerable to mistreatment. “Some of the worst abuses we’ve ever seen have been in factories with foreign contract workers,” says Heather White, executive director of Verite, an Amherst, Mass., nonprofit organization that has audited more than 1,000 factories on behalf of large corporations.

At the Hope Workers’ Center, a shelter for foreign laborers in Taiwan, Father Peter O’Neill tends a wall of filing cabinets filled with complaints against employers. Most workers complain about unpaid wages, though there are also instances of forced labor, physical abuse, and even rape. In one case Vietnamese workers who made clothes for an Ann Taylor Loft and Dockers supplier charged that their employer withheld their passports and forced them to sign a contract in Chinese that they couldn’t read. “We have workers come to the center who have been in Taiwan for six months,” says O’Neill, “and have never seen Taiwanese money.”

Felicidad Revolledo was working in Taiwan assembling modems for an Ericsson and Motorola subcontractor, when the factory simply cut her wages in half and suspended overtime pay for four months. When she refused to work more overtime until she got paid, she says the factory forced her to resign. Revolledo was lucky; she didn’t owe any money in the Philippines. “A lot of my co-workers still working at the factory can’t fight for their rights,” says Revolledo, who left Taiwan in December, seven months before the end of her contract. “They are afraid to be sent back before they pay off their loans.”

Now home in the Philippines, Revolledo hasn’t been able to find another job. She’s thinking about borrowing money to pay a labor broker to get back to Taiwan. “I cry a lot,” she says. “But I think next time it will be better.”

Once you’ve visited a place like Escopa 3, you immediately understand why people are desperate enough to seek work as an overseas contract worker again and again. “The choice is overseas employment or unemployment and poverty,” says Mary Lou Alcid, the executive director of the Kanlungan Center for Migrant Workers in Manila. “Workers’ expectations are high that they will be able to make big amounts of money–that the bad experiences will happen to someone else.” Dr. Mariano Gagui, a psychiatrist who has treated many contract workers after their return to Escopa 3, says people are ashamed to talk about their ordeal. “A lot get traumatized,” he says. “And you are not going to admit that going abroad is why the life of your family has disintegrated, why your husband is with another woman, and why your kids are on drugs.”

The plight of overseas contract workers is just starting to enter the consciousness of big corporations. A year and a half ago Gap launched a new division of its global compliance department devoted solely to monitoring the treatment of foreign contract workers by its subcontractors abroad. “The presence of foreign workers is now one of the core issues we look at when we evaluate a new supplier–just like product quality or safety standards,” says Dan Henkle, the apparel giant’s vice president of global compliance. If a factory does employ foreign workers, Gap requires that factory management let the workers control their own travel documents and wages. Management must also agree to assume the workers’ debt and travel costs if they choose to leave. “We want workers to feel they can leave at any time for any reason,” says Henkle. Even with those rules in place, Gap remains wary of the possibilities for abuse: Only 5% of the company’s production comes from factories that use overseas contract workers.

Gap’s active response is unusual. “Companies are only beginning to understand this issue,” says Doug Cahn, vice president of Reebok’s human rights programs. “Although there are instances where some progress has been made, generally the abuses facing migrant laborers remain widespread.” As a result, Reebok pays particular attention to subcontractors who use those workers.

Because of intense criticism over human rights abuses in the apparel and footwear industry over the past half-decade, companies like Gap, Reebok, and Nike are generally alert to labor issues. Many now monitor factories, and judging from FORTUNE’s visit to the Yng Hsing tannery in Taiwan, which last year supplied leather for a million pairs of Nike Air Jordan basketball shoes, physical working conditions have improved as a result. “After we started working with Nike, we had to change our philosophy,” says Philip Lo, the tannery’s vice general manager. “They have strict requests about how you treat safety, health, attitude, environment.” Nike is so sensitive to potential criticism that when the company learned of FORTUNE’s visit to Yng Hsing, it immediately informed the tannery that unless it passed a hastily arranged inspection, it would be removed from Nike’s supplier list.

The debt burdens and abuses of foreign contract workers, however, don’t get the same level of attention as factory conditions. While Nike is aware of the abuses often faced by the workers, the company has no policy specifically governing supplier behavior on the issue–beyond a general statement in its code of conduct prohibiting forced labor. And this is a company whose brand was famously slammed in the late 1990s over the conduct of some of its suppliers. Nike’s audit of Yng Hsing, which the tannery passed, did not even address the crushing debt loads carried by some of its Thai workers. “We checked out Yng Hsing,” says a senior Nike official, “and all their employment contracts conform to Taiwanese law.” (Nike declined to comment for attribution because of a pending lawsuit on another matter.)

In the high-tech sector, there appears to be even less attention paid to potential abuses. “I wasn’t aware of this at all,” said Pia Gideon, Ericsson’s vice president of external relations, when first informed about the experiences of Revolledo and other foreign workers at a Taiwanese factory producing the Swedish company’s modems. “I’ve never heard any indication about this situation in Taiwan.” During a subsequent conversation, Gideon made a distinction between Ericsson’s direct contractors, which it audits periodically, and subcontractors, which it expects to do “self-assessments” of the conditions in their factories. “I don’t think you can have a law that says if you don’t do this or that we will punish you,” says Gideon. “Business doesn’t work that way. We want our subcontractors to act a certain way, and we have to trust them.” (Motorola representatives declined to be interviewed but issued a written statement saying the company “has a strict policy of adherence to the laws and labor practices in the countries where it operates, in addition to a rigorous code of conduct.”)

FORTUNE visited factories and spoke with workers who make products for Nike, Motorola, and Ericsson, but they are not the only companies whose subcontractors rely on overseas contract workers. And with so many independent monitors now assessing labor rights and working conditions in manufacturing plants, it’s hard to believe they could be completely ignorant of debt bondage in their supplier companies. “Five years ago, clients could say, ‘I didn’t know,’” says Verite’s White. “There were no monitors. There was no awareness. They can’t say that anymore. They have to acknowledge what is going on.”

Companies’ acknowledgment of the debt burden–and their doing something about it–is the best hope for the factory workers. And it’s not an altogether quixotic one. After all, when companies believed their brands were at risk because of the sweatshop issue, they took action. The alternative is bleak. People like Mary and Edwin will continue to go to Taiwan or other countries as long as jobs remain scarce at home. “There are so many problems if I stay in the Philippines,” says Edwin. “So what’s more if I go abroad?”And when they do–barring pressure from Western corporations–they will continue to owe nearly everything they earn to the labor brokers.

The catalyst for Buon Ma Thuot’s growth was a plant associated more often with the lush climes of Latin America than the jungles of Southeast Asia: coffee. Between 1990 and 2000, Vietnamese farmers planted more than a million acres of the crop. Annual production swelled from 84,000 tons to 950,000, enabling Vietnam to surpass Colombia as the world’s second-largest producer (Brazil is the first). Vietnam may not have Juan Valdez, but its coffee is probably in the can in your kitchen pantry.

In 1997, after a frost in Brazil sent the price of green (unroasted) coffee on New York’s Commodities Exchange soaring above $3 a pound, Buon Ma Thuot’s coffee sector suddenly had more money than it could spend. But the coffee renaissance in Vietnam proved short-lived. In 1999 prices began to fall, sinking last December to 42 cents a pound, their lowest level in a century. For three consecutive years prices have not even covered the cost of production. Many of the region’s farmers are heavily in debt. Some have replaced their coffee plants with corn or pineapples. Others have simply abandoned their farms. Phuc Ban Me gets few visitors these days, and its water park stands vacant, a reminder of the excesses of the boom.

Vietnam’s coffee industry is not the only one suffering. The prolonged price slump has ravaged many of the world’s 25 million coffee growers. In Central America, where the costs of production are triple those of Vietnam, the repercussions have been particularly severe. The U.S. Agency for International Development estimates that at least 600,000 coffee workers have lost their jobs. Conditions are equally dire in Africa, where impoverished nations such as Uganda, Burundi, and Ethiopia rely on coffee for the majority of their export revenues. Nestor Osorio, executive director of the International Coffee Organization, calls this “the worst crisis ever” for coffee, the second-largest globally traded commodity, after oil.

Vietnam is not just a victim of the crisis. For many, it is also the chief culprit, responsible for flooding the market over the past five years with millions of bags of unwanted coffee, upsetting the fine balance between global supply and demand for its own short-term gain.

But the depressed prices plaguing coffee growers are not simply the result of a cyclical glut. They are also caused by two systemic changes within the global coffee world: the collapse of the cartel that kept prices at sustainable levels for nearly three decades, and the development of new coffee-processing technology, which prompted a shift away from high-quality arabica beans to cheaper, lower-quality robusta. The former was brought on by complex geopolitical developments. The latter can be traced to the coffee divisions of four multinational conglomerates–Nestle, Kraft, Procter & Gamble, and Sara Lee–which buy nearly half of the world’s coffee and own some of the best-known brands, including Nescafe, Maxwell House, Folgers, and Chock Full o’ Nuts. In the past, these Big Four coffee roasters blended small amounts of robusta with arabica to pare their purchasing costs. But technological advances have allowed roasters to neutralize robusta’s harsh, unpleasant taste. To reduce costs further, the Big Four have significantly upped the percentage of robusta in their blends, substituting it for arabica they once purchased from small farmers in Latin America and Africa.

Most of the robusta comes from Brazil and Vietnam, which together have seized a greater share of global exports, up from 29% in 1997 to 41% last year. “Brazil and Vietnam offer excellent coffee at very reasonable prices,” says Frank Meysman, head of Sara Lee’s worldwide coffee business. “It will be difficult for other countries, particularly in Central America, to compete.”

The switch to cheaper beans in the past five years has provided a windfall for the Big Four. Though none of the companies releases financial results for its coffee divisions, all acknowledge they have enjoyed record coffee profits.

But the short-term economic advantages of robusta are overshadowed by long-term costs–for growers, drinkers, even the Big Four themselves. In the past ten years, as the global coffee market swelled from $30 billion to $70 billion, the revenues of growers have dwindled. Coffee drinkers, meanwhile, have had to contend with declining quality: The java at your local grocery store or deli now contains more robusta, and gourmet purveyors, which rely exclusively on the high-quality arabica growers in Latin America and Africa most damaged by the crisis, are having a tougher time sourcing beans. When quality drops, people tend to drink less coffee. Over the past decade, even as the gourmet coffee sector enjoyed tremendous growth–symbolized by Starbucks–per capita consumption of the regular and instant coffees sold by the Big Four declined. For the moment, low coffee prices have allowed them to hide the shortfall with higher profit margins. But eventually they face a shrinking pile of beans.

Despite the emergence of Vietnam as a coffee power, Brazil continues to dominate the global market. Last year it exported 1.4 million tons, more than a quarter of the world’s supply. If Brazil experiences a frost, coffee prices move skyward. If the harvest is bountiful, prices fall.

That hasn’t always been the case. Coffee was discovered in Ethiopia sometime before the tenth century, and its use was confined to the region for hundreds of years. With the rise of the Ottoman Empire, the drink acquired a devout following throughout the Muslim world. In the 16th century a group of priests tried to persuade Pope Clement VIII to ban the drink. But after tasting it, the Pope had other ideas. Coffee soon became popular across Europe, and each colonial power sought new areas suitable for its cultivation.

The plant arrived in Brazil in 1727. The soil, climate, and elevation proved ideal for the cultivation of all types of coffee, and the country soon became the world’s leading grower. The original coffee exchange still stands in the old quarter of Santos, a sleepy port 45 miles from Sao Paulo. Packed into a half-dozen office buildings, a small community of traders handles the sale and export of most of the nation’s production.

Marcio Hazan is one of them. Tall and lanky, with closely cropped hair, Hazan monitors the quality of the 450,000 bags of coffee his family firm, Comexim, sells each year to Kraft, Sara Lee, and other roasters. Until recently most of it was arabica. But spurred by the explosive growth of Brazil’s robusta production, which now rivals Vietnam’s, the firm exports a large volume of robusta as well.

On a table at Comexim’s headquarters, Hazan arranges coffee samples into orderly piles, passes the beans through screens to gauge their size, then counts the defective ones–those that are black, broken, or unripe. (The best coffee has defects of 1% or less in a 300-gram sample; the commercial grade that forms the bulk of Comexim’s business can have up to 10% defective beans.) Finally Hazan and the firm’s specially trained tasters, known as “cuppers,” taste several cups from each sample to check flavor and consistency. The sessions resemble wine tastings: Cuppers slurp the coffee loudly from spoons to distribute it across their taste buds, swish it around in their mouths, then spit it out in a long, practiced stream.

Classifying coffee requires the precision of a scientist and the imagination of a painter, as the slightest change in ecology, topography, or climate can influence the quality of the bean. Even the best arabica, grown under ideal conditions, can be destroyed during the long journey from farm to cup. The bean is half of the two-sided seed of the coffee cherry. Processing, which must be done immediately after the harvest to prevent spoilage, involves extracting the beans from the fruit and reducing their internal moisture. The traditional method is to dry the cherries in the sun before removing the pulp. The moisture in the beans slowly evaporates, resulting in a coffee rich in body and flavor. But coffee ferments if exposed to water. In Colombia and much of Central America, where it rains during the harvest, the beans are mechanically removed, then dried in large air dryers. This “washed” method results in a milder, more aromatic coffee.

Although Brazil is an anomaly among producers, with several 10,000-acre farms, most growers own fewer than ten acres. So Hazan often must combine coffee from hundreds of samples. “Everyone likes coffee with slight differences in size, acidity, and flavor,” says Rasmus Wolthers, a coffee trader whose firm, Wolthers & Associates, supplies Dunkin’ Donuts.

Until the collapse of the coffee cartel in 1989, the dramatic swings in the price of coffee so prevalent in the past decade were more muted. The cartel was created by an agreement between producing countries that kept prices at sustainable levels by limiting supply. Producers employed a quota system similar to OPEC’s. When prices rose above an agreed-upon range, quotas were increased to bring supply and demand in line. When prices fell below the range, quotas were reduced. The system kept coffee prices stable throughout most of the ’60s, ’70s, and ’80s. But unlike OPEC, the agreement required the participation of consuming countries as well, particularly the U.S., which imports a quarter of the world’s supply. During the Cold War, the U.S. supported the cartel for political reasons: It didn’t want disgruntled coffee farmers joining communist movements in Latin America. After the demise of the Soviet Union, the U.S. pulled out, the cartel unraveled, and prices plummeted. Unfortunately for coffee growers, the collapse coincided with Vietnam’s decision to expand its production.

Six hours north of Ho Chi Minh City, deep in Vietnam’s Central Highlands, the rubber forests and pepper trees that line National Road 14 suddenly give way to piles of drying coffee cherries. Behind them, modest cottages preside over small plots of leafy green plants. On a warm August afternoon, coffee trader Jens Nielsen pulls up unannounced at one of the cottages.

Nielsen has both witnessed and participated in the remarkable development of Vietnam’s coffee industry. For much of the past decade the square-jawed Dane worked in the Asian offices of several large European traders. Last summer he opened a coffee-trading division in Vietnam for Noble Group, a Hong Kong commodities firm.

Traders are the middlemen who transfer coffee from millions of small farmers to a handful of multinational roasters. They source, classify, and deliver the beans in exchange for a commission. Since most coffee is purchased on the futures market, traders can increase their take if they bet correctly on the spread between what the price is today and what it’s likely to be in six months. To improve his odds, Nielsen talks frequently with farmers about their expectations for the coming harvest.

The cottage’s inhabitants, 54-year-old Vi and his wife, Hue, invite Nielsen inside. There’s no electricity, and the only light streams through an opening, illuminating two sparsely furnished rooms. As Nielsen peppers Vi with questions, Hue pours steaming green tea into mismatched glasses.

Vi’s story is the story of Vietnam’s coffee miracle: how the country transformed its fledgling coffee industry into a global behemoth. It is also the story of how that miracle became a nightmare.

Vietnam grew coffee before the 1990s–the plant was introduced by the French 100 years earlier. But they were never able to produce much because Vietnam was not ecologically suited to growing arabica. In 1975, the year the U.S. withdrew its last troops, fewer than 20,000 acres were under cultivation. But by 1990, after the hardier robusta plant was introduced, that figure had grown to 200,000 acres.

Vietnam’s communist government concentrated its postwar rebuilding efforts on agriculture, paying special attention to coffee. The government resettled millions of Vietnamese from crowded urban areas to the underpopulated Central Highlands, where more than half of Vietnam’s coffee is produced. When Vietnam liberalized its economy in 1986, many of those new residents bought their own farms. The government provided more than $233 million in loans through its Bank for Agriculture & Rural Development. After ownership of the state farms was transferred to growers, yields jumped by 400%.

Vietnam’s coffee miracle also received the enthusiastic support of outsiders. Prior to 1990, the Soviet Union provided equipment and expertise in exchange for coffee. In the years since, the French, German, and Swiss governments have contributed an estimated $100 million, while the World Bank, through loans to Vietnam’s agriculture bank, provided at least $16 million more. Nestle, Kraft, Sara Lee, and several large trading firms also sponsored coffee-related development projects.

Word of the coffee renaissance happening in the Central Highlands spread, luring workers from around the country. Some purchased land legitimately. Others simply selected a vacant tract of rain forest, burned or cut down the trees, and planted coffee.

Vi and Hue came to the area in the early 1990s. They bought three acres of land for ten million dong (about $700) and planted robusta. It takes two to three years for the trees to flower. To carry them over, Vi borrowed ten million dong from the state’s agriculture bank.

At first their business flourished. Prices were at an all-time high, and Vi sold the 4 1/2 tons he produced annually for 67 cents a pound. His cost was 24 cents a pound, leaving him more than $4,000 a year in a country where the average annual salary is $370.

In 1999, partly because of the Vietnamese robusta flooding the global market, prices began to drop, eventually plummeting to 12 cents a pound, well below Vi’s cost of production. To reduce his labor costs, he and his wife now harvest their crop themselves. He also stopped buying fertilizer. As a result, his production has fallen to less than half of what it was just three years ago. “Farmers grew first and looked for the market later,” says Nielsen. “It turned out to be an expensive lesson.”

Vi has also been forced to borrow at a steep rate of 5% per month from a private money lender, who happens to be the local coffee baron who buys his crop. To raise cash he sold this year’s production in advance of the harvest–at half the market price.

Now that irate coffee growers and industry officials blame Vietnam for the global crisis, those who contributed to the sector’s growth have sought to minimize, and in some cases deny, their involvement. The World Bank has issued a strongly worded statement disclaiming any direct investment. Even the Vietnamese government has waffled about its role.

Of course, without a market for cheap, low-grade robusta, there would never have been a coffee boom in Vietnam. And that’s exactly what the Big Four, along with other large European roasters, provided. They took advantage of new steam-cleaning technology to eliminate the coffee’s harsh flavor. They introduced flavored coffee–hazelnut, Irish cream–to disguise robusta’s inferior taste. And they benefited when the London Commodities Exchange lowered its quality standards so that Vietnamese coffee would qualify for futures trading.

But in places where the taste isn’t steamed away, including much of the developing world, most robusta remains largely undrinkable. It’s not surprising that the Vietnamese saturate their freshly roasted beans with butter and fish sauce, then drown out the brew’s flavor with copious quantities of sugar and condensed milk. Or that when you enter a coffee shop in Buon Ma Thuot, you are immediately served a pot of tea.

Yet Vietnam’s apparent indifference to drinking coffee is deceptive. While per capita coffee consumption in the developed world has been declining for decades, consumption in the developing world is growing. The Big Four recognize that their future may be in markets immune to the $4 latte. They hope to reach potential coffee drinkers through their wallets, not their taste buds, and to achieve that they need a ready supply of robusta. “Less than 20% of the world’s population is drinking 65% of the coffee,” says Gordon Gillett, a senior vice president at Nestle. “We think there is a huge opportunity to reach out to that other 80% and deliver them a coffee beverage they can enjoy at a cost they can afford.”

The men who gathered for lunch in June at a farm on the outskirts of Monte Carmelo were doing something unusual for coffee growers these days. They were celebrating. And judging from the surroundings, it was easy to see why: With its tree-lined driveway, stately villa, and swimming pool, the lavish Brazilian farm bore little resemblance to the modest coffee plots of Buon Ma Thuot.

The mayor of Monte Carmelo was in attendance, but the luncheon’s guest of honor was Andrea Illy, chief executive of the Italian coffee roaster that bears his family’s name–and that many Brazilian coffee farmers who produce gourmet quality coffee hold responsible for their good fortune. During the past 12 years the Illy family may have had more impact than anyone on the creation of a high-quality coffee sector in Brazil. The family-owned company’s standards are among the most stringent in the industry, and Illy pays handsomely for the beans that meet them. At a time when arabica prices are well below the cost of production, Illy pays growers as much as twice the going rate for their finest coffee. “One day people may pay very high prices for quality coffee as they do for wine,” says Illy, “instead of buying it all as a commodity.”

Yet the indirect benefits Illy has brought to Brazil may be even more valuable than the millions of dollars a year the company puts in the pockets of the country’s coffee farmers. Illy taught Brazilian growers how to produce high-quality coffee, in the process helping Brazil shake its bad reputation among the gourmet coffee crowd. As a result, the Brazilian growers who supply Illy–and those who don’t–get more for their coffee today, relative to the market price, than a decade ago. “The Illys were pioneers,” says Joao Carlos de Souza Meirelles, the secretary of agriculture for Sao Paulo State, a large coffee-producing province. “They helped us learn to produce high-quality coffee, first for them and then for everybody else. Today we don’t think anymore in terms of quantity of production. We think in terms of quality of production.”

There have always been discerning coffee buyers willing to pay a premium for the best beans. But led by the efforts of Starbucks, Illy, and others, the specialty-coffee sector has grown enormously in the past decade and now constitutes about 19% of the coffee market in the U.S. and 10% of exports worldwide. That has provided growers blessed with the right conditions–and willing to devote the time and investment–with the chance to grow gourmet coffee. Traditionally those coffees have come from Colombia, Central America, and Africa, although the disastrous impact of the coffee crisis on all of those areas has given Brazil an opportunity as well.

When Illy first bought coffee directly from Brazilian farmers in 1991, the country’s reputation as a cheap, low-quality producer was so ingrained that Starbucks and others wouldn’t even look at Brazilian beans. Under the cartel, growers received roughly the same price for their coffee regardless of quality, leaving them little incentive to improve. But the cartel’s collapse forced Brazil to open its market to foreign exporters for the first time in decades.

That coincided with a change in Illy’s purchasing strategy. Since it was founded in 1933 by Andrea’s grandfather Francesco Illy in the Italian port of Trieste, Illy has differentiated itself by building the company around a single product: the finest espresso coffee. Illy’s espresso is a blend of coffees from around the world. And sun-dried Brazilian arabica is a crucial ingredient. It gives espresso body and helps develop the rich, creamy layer of emulsified coffee oils, called crema, on the drink’s surface. Until the late 1980s, Illy bought its coffee from exporters in Brazil, like everybody else. But as the company expanded outside Italy, it had an increasingly difficult time finding the beans it needed.

Illy’s solution was to give the commissions it had once paid middlemen directly to farmers. The company pays enough to ensure that suppliers can sustain their farms. To find the best growers, Illy started a competition in 1991. Growers submit samples, and the winners become Illy suppliers. The process has made Illy’s purchasing more efficient. “We used to have to analyze 45 samples to find one good one,” says Aldir Teixeira, the white-haired agronomist who runs Illy’s quality-control lab in Sao Paulo. “Now we buy one out of every three or four.”

The scientific rigor Illy brings to selecting and producing its coffee is unusual. Andrea and his father, Ernesto, Illy’s chairman, both trained as chemists and can speak at length about the science of coffee; Ernesto recently published an article on the subject in Scientific American. And then there are the gadgets. Patriarch Francesco Illy patented the first automatic espresso machine in 1935. In the years since, Illy has been responsible for numerous innovations, including an electromagnetic sorting machine for coffee beans, a canning process that keeps coffee fresh for two years, and an idiot-proof pouch that eliminates human error from the espresso-making process. The Illy laboratories in Sao Paulo and Trieste are outfitted with scientific instruments, from mass spectrometers to gas chromatographs, all employed in the service of perfecting espresso.

But the Illys are neither mad scientists nor bleeding-heart philanthropists. Their direct-buying model was created in the service of the company’s expansion. Proponents point to Illy’s financial success as the reason its model may offer a viable solution to the global coffee crisis. “If we are ever going to have a better situation,” says Pablo Dubois, head of operations for the International Coffee Organization, “the efforts of companies like Illy need to be reproduced and enlarged.”

In recent years other companies have begun to follow Illy’s lead. They tend to be socially conscious and include smaller specialty roasters such as Green Mountain Coffee and Seattle’s Best. An association of wholesalers, retailers, and producers called Fairtrade, affiliated with the relief organization Oxfam, has also become a large direct buyer of coffee. But because Fairtrade pays the same minimum price regardless of quality–currently $1.26 per pound–some have criticized its members for having an inconsistent product.

The question that remains is whether the Illy model is viable on a larger scale. So far the answer appears to be no. Nestle says that only 13% of the estimated 13 million bags of coffee it buys each year comes directly from the farm; Sara Lee claims 10%; P&G and Kraft don’t buy directly at all. But regardless of their individual commitments, none of the Big Four believe it is a long-term solution for ailing growers. “For us it would be impractical and less financially feasible to manage commercial relationships and bean quality at the farm level,” says P&G spokeswoman Tonia Hyatt. “We would have to work with one million growers to buy directly.”

Even Starbucks, which sells Fairtrade coffee and has made a big effort to publicize its support for so-called sustainable coffee, buys less than 10% of its beans directly. The rest come from the same giant traders that supply the Big Four. “We would love to know where all our coffee comes from,” says Mary Williams, a Starbucks senior vice president. “But it is very difficult to purchase directly from such small farmers.”

The ICO’s solution to the crisis is to eliminate the bottom 5% of the market–the lowest-quality producers. The organization recently began implementing higher minimum standards for exported coffee, which the ICO estimates will eliminate 300,000 to 400,000 tons a year from the market, about half the current surplus. It wants the industry to compensate farmers hurt by the policy and to help them grow other crops. Some in the industry say the U.S., as the world’s largest consumer of coffee, could further reduce the global glut if it brought its import standards in line with the ICO’s. Although a lot of really bad coffee is pouring into the U.S. every year, no one will admit to buying it. Big Four executives insist they do not buy coffee below the new ICO standard, which allows half as many defects, yet they all oppose the idea of raising the U.S. bar.

Recently the U.S. has taken a more active role in resolving the crisis. In mid-November, citing concerns about Colombian coffee farmers growing cocaine and opium bound for U.S. shores, the House of Representatives passed a resolution calling on the Bush administration to “adopt a global strategy to respond to the coffee crisis.” Meanwhile, the Agency for International Development has been helping coffee farmers in Latin America with crop replacement.

Robert Nelson, president of the National Coffee Association, a U.S. lobbying group, says the quality debate is off base. “Some in the industry would like people to think that if we only grew cause-related, organic, shade-grown coffee, the crisis would be over,” Nelson says. “There just isn’t a huge market out there for this kind of coffee, and to encourage people to grow it would be doing them a disservice.” The only way to resolve the crisis, the Big Four argue, is to increase consumption, especially in the Third World. “There are various stages in the development of a coffee culture,” says Nestle’s Gillett. “It’s no good offering an Asian consumer a very high-priced coffee to draw him to coffee as a beverage. You have to offer him something he can afford and appreciate, and then as that coffee culture develops you start to introduce more-sophisticated products.”

But the past few years have been a missed opportunity for the Big Four, which lost market share to the gourmet sector during the 1990s. With coffee prices at historic lows, the Big Four could have improved the quality of their products while preserving profit margins. Instead, they chose to fill their cups with short-term profits. In the long run that may prove to be an empty strategy.

John is amused by this folly-of-youth anecdote as only a successful man can be. After all, he’s now CEO of the company, which has $24 billion in annual revenues and supplies 25 billion pounds of chicken, beef, and pork a year to Wal-Mart, McDonald’s, and most of the country’s major supermarkets and restaurant chains. So it’s easy to look back and laugh. Except the chicken coop incident wasn’t such an aberration. In fact, John’s youthful follies lasted well into adulthood. After shuttling from one company post to the next, John descended in the late 1980s into a haze of alcohol and cocaine addiction that frayed his relationship with his father and pushed him to the periphery of the business. Even after he returned to the fold in the early 1990s, following a well-publicized recovery and reconciliation, few imagined him capable of assuming his birthright and succeeding his legendary father as CEO. “They put him in [somewhere] and gave him the title,” says one former Tyson senior executive of John’s string of management posts, “but he never really managed anything.”

Now Tyson must prove he has more to offer than just the family name. Barely two years into his tenure as CEO, he is coping with two of the greatest challenges in the company’s 67-year history. First, his grand plan to redefine Tyson as a diversified meat company by last fall’s acquisition of beef and pork behemoth IBP is fraught with problems. As a chicken company, Tyson was faring poorly. Earnings dropped 42% last year, to $88 million; over the past three years, net profit margins have eroded from 3% to less than 1%. To acquire IBP, Tyson had to more than triple its debt load. And the supposed synergies of the deal have proved elusive so far. As a result, Tyson’s stock is trading around $13, down from $23 in 1999.

At the same time, Tyson’s labor practices are under scrutiny. In December, after a lengthy undercover investigation, the Department of Justice indicted Tyson Foods and six of its executives for conspiring to smuggle illegal immigrants into the U.S. If convicted, the company faces up to $100 million in fines. Though Tyson denies the smuggling charges, there’s no doubt that over the past decade it has become increasingly reliant on immigrant workers. Coming on the heels of the government’s post-Sept. 11 crackdown on illegal immigration, the indictment has made it difficult for Tyson to find enough low-cost, unskilled labor to staff its plants.

John Tyson acknowledges these are trying times for the company founded by his grandfather and transformed into a giant by his father. But he insists that he’s ready for the task. “I had to reestablish myself in this company and really work on my credibility,” he says. “Had those things not been done, I can tell you that my father…would have looked me in the face and said, ‘Hey, you need to go.’ ”

It’s never easy proving yourself when you’re the boss’ son, especially if your father built not just a company but an entire industry. When 22-year-old Don Tyson entered his father’s chicken business in 1952, it consisted of a modest farm and some delivery trucks. Few Americans ate much chicken–annual consumption was a meager nine pounds per capita. Over the next 40 years, Don would help change all that. He was among the first to recognize that if you owned the chicken throughout the production cycle–from farm to grocery case–you could reduce manufacturing costs, streamline production, improve quality, and, therefore, increase profit margins. Divining America’s growing love affair with convenience, Don worked with McDonald’s to develop the chicken nugget and appealed to the legions of women entering the work force by selling his own brand of boneless breasts and breaded chicken patties in supermarkets. These products helped Tyson stand out from its competitors, command higher prices, and lessen the impact of fluctuating commodity markets.

The result was unabated growth. When Don became president of Tyson in 1966, the company had annual revenues of $38 million; when he stepped down as senior chairman in 2001, revenues had grown to $7.4 billion–making Tyson the largest poultry producer in the U.S., with 23% of the market. In the process, chicken had become the country’s most popular protein. In 2000, Americans ate 78 pounds per capita, a 770% increase over 1953.

By the time his only son, John, took over the company two years ago, however, the growth had slowed. Competitors like Perdue had caught up by producing their own high-quality branded products and by undercutting Tyson on price. And as more chicken came to market in the 1990s, chicken parts went unsold in grocery cases, and prices slumped. Meanwhile, the price of grain used in chicken feed skyrocketed.

Don had attempted in the early 1990s to maintain Tyson’s growth by transferring its poultry-processing expertise to beef, pork, and seafood. But what seemed a sound idea in theory proved disastrous in practice. When given a precise amount of feed over a specific period of time, chickens reach fairly uniform sizes and weights. Not so with cattle and pigs. That makes it far more difficult to create machinery to process the meat–and far more costly to sell processed beef and pork products. “The term ‘value added’ meant that Tyson was doing the work for the customer,” says one former Tyson executive. “But every time you put a knife to a piece of meat, you add cents per pound. A lot of the stuff we developed was priced out of range.” The company’s flirtation with seafood yielded similarly disappointing results. By 1999, Tyson Foods was ready to acknowledge that its entire foray outside the chicken business had been an abysmal failure.

Don had put John in charge of the meat and seafood businesses in 1993, a severe test for a man, then nearing 40, who had yet to prove himself in the business world. Though he held a variety of farm, sales, and purchasing positions at Tyson, and had been on the board since 1984, John spent much of his time in the late ’80s drinking and doing drugs. “The only reason I was on the payroll is because I was the son of the boss,” John testified during a legal proceeding in 1998. “Any other corporation, I would have been thrown to the wolves.” In 1990, John went through recovery, found God, and rededicated himself to the business. When his father named him president of the meat division, John regarded the assignment as a vote of confidence. “They put me in places where I had to make tough decisions,” he says.

Still, John admits that his elevation to president in 1998 and then CEO 18 months later caught him off guard. “Everyone thought that [the decision] was still three or four years away,” he says. Some saw the move to name John as CEO as Don’s attempt to continue his own reign. “I don’t think many people have a whole lot of confidence in John,” says a former senior executive. “He’s never really done anything to distinguish himself. He’s always just been daddy’s kid.”

John’s first decision as CEO was a monumental one. He opted to revisit the strategy that had failed his father a decade earlier: expansion into beef and pork. IBP, a meat behemoth with more than double the annual sales of Tyson, had put itself in play in 2000. In January 2001, after a bidding war with Smithfield Foods, Tyson agreed to acquire the company for $4.6 billion in cash and stock. Why did John think he could succeed where his legendary father had failed? John’s answer, in a word, is scale. “The lesson we learned the last time is that if you don’t have size and scale, you can’t effectively service your customers,” says Tyson, who notes that because of consolidation, five food retailers now control nearly 50% of the market. And with the largest share of the U.S. beef market (27%) and second largest share of the pork market (19%), IBP certainly had the size.

Also important was that IBP already had a processed-meat strategy on which Tyson could build. IBP carved out its dominant market position by selling low-margin bulk meat to fast-food chains and supermarkets, but in recent years the company had taken steps to move into higher-margin products. In 2000, after investing millions of dollars in research and development, IBP launched a series of raw and cooked processed meats under a new brand name: Thomas E. Wilson. A centerpiece of the processed-meat initiative is the IBP plant in Council Bluffs, Iowa, a former hog-processing facility that rises from the rural countryside like a gleaming apparition imagined by a ’60s-era science-fiction writer. Every week up to 3.5 million pounds of meat enter the plant as freshly slaughtered carcasses and leave as neatly packaged steaks, chops, and roasts. The raw cuts are known as “case ready.” They arrive at the supermarket in a sealed package and go right from the delivery truck to the shelf–just like a box of Cheerios. The precooked items, including beef pot roasts and lemon-pepper pork roasts, can sit in the refrigerator for 90 days and need only five minutes of cooking time in a microwave.

Thomas E. Wilson was a major reason John Tyson bought IBP, so much so that he asked Dick Bond, IBP’s former president, to run the meat division of the merged company. Bond projects sales in 2002 of $1.3 billion for the Wilson brand alone, an amount he says “will far exceed any introduction in the history of branded products.” The “case ready” concept has already found favor with one of Tyson’s largest customers: Wal-Mart. Most of the meat processed at Council Bluffs is headed for the retail giant, which announced in 2000 that it would only sell case-ready beef and pork in its supercenters. Now Wal-Mart can convert its backroom butcher shops into floor space and replace high-priced meat cutters with stock boys. “We used to have to employ eight to ten butchers at $15 an hour,” says Gretchen Adams, a former Wal-Mart co-manager in Florida. “[With case-ready,] a single butcher and a $5-per-hour stock boy can manage the meat case.”

Signing up the country’s largest supermarket chain is a crucial first step. But Tyson must also woo other major grocers, and that won’t be easy. The meat industry has been talking about case-ready meat for nearly 30 years, but retailers have been slow to accept it. One reason is that labor unions have fought bitterly against replacing highly paid butchers. More important, retailers would have to overhaul the way they evaluate their meat departments, which are judged on gross margins–the difference between the price they pay for meat and the price for which they sell it. Case-ready meats cost them as much as 80 cents more per pound, while the cost to the consumer remains about the same. So in the short term, performance appears to get worse. Only in the long term, after retailers see the impact of lower labor costs, reduced waste and spoilage, and additional floor space does case-ready start to make sense. “The challenge for Tyson is to convince retailers that the pricing mechanism must change,” says Steve Kay, editor and publisher of industry newsletter Cattle Buyers Weekly.

For now the Council Bluffs plant is operating well below capacity, and the company’s third plant, in Texas, has been put on hold. “The capital expenditures on case-ready plants are phenomenal,” says Kay. And, he adds, the production difficulties that sank Tyson’s 1990s experiment with processed meat still remain: “One has to wonder whether they will ever see a return.” For precisely this reason, Tyson competitor ConAgra has decided not to pursue case-ready meat.

By the time Tyson Foods announced its acquisition of IBP in January 2001, John Tyson was prepared to overlook these hazards and the company’s previous failures. After all, the deal was his chance–with one bold stroke–to restore the company to its former glory. But John’s father didn’t see things quite the same way.

Don Tyson worried that his son was spending too much to get IBP. After all, Wall Street was in a tailspin, Tyson and IBP were suffering through disastrous quarters, and recent mad-cow and foot-and-mouth epidemics had soured the public on beef. And while the elder Tyson had been removed from day-to-day operations for years, he still held more than 80% of the voting stock and a seat on the board. On March 28, 2001, Don called a meeting of the company’s senior management team to discuss the pending acquisition. After voicing his concerns, Don withdrew for a private conference with board members Buddy Wray and Leland Tollett, who had been his chief lieutenants when he ran the company. None of the company’s current management–and certainly not his son–were invited to join them. When Don returned a short while later, he instructed Tyson management to find a way to back out. The next day, Tyson Foods issued a press release announcing it had terminated its agreement with IBP. This despite the fact that only two days earlier John had told the merger integration team to “move full speed ahead.” So instead of stepping out of his father’s shadow, John Tyson once again found himself behind it.

Sitting one March afternoon in the chief executive suite at Tyson’s sprawling northwestern Arkansas headquarters, John Tyson waxes philosophical about his father’s intervention in the IBP deal. The spacious oval office, which Don Tyson modeled after the U.S. Presidents’, is filled with traditional furnishings and decorated with sculptures of cowboys on horses, giant bronze chickens, and a black-and-white photograph of John’s grandfather, the company’s founder, his arms cradling a fluffy, white hen. The only reminder of John’s wild days is a photograph taken at a Crosby Stills Nash & Young concert. John, now 48, is wearing the khaki-colored workingman’s uniform favored by his father: The red-and-gold Tyson crest is affixed above his left shirt pocket; his name is embroidered in red above the right. “What went on is no different than [Walter Hewlett's involvement with] Compaq/HP or what Warren Buffett did to Doug Daft when Coke wanted to buy Gatorade,” he says. “We as a management team were reporting to a large shareholder…. He just happened to be my dad.”

There’s one reason Tyson can offer such affable perspective: the Delaware Chancery Court. After Tyson Foods backed out, IBP sued, and the Delaware judge ordered Tyson to consummate the merger. So after all that, John Tyson still got his chance to pursue his vision of the company as a “multiple protein provider”–and to resuscitate his reputation. But first he’ll have to find a solution to the company’s labor woes.

Put simply, Tyson is struggling to find enough cheap, unskilled labor to staff its processing plants. Turnover is extremely high, between 40% and 100% annually, meaning each of the company’s 83 plants needs between 400 and 2,000 new workers every year. “Finding enough labor is a problem the entire industry is facing,” acknowledges Tyson co-COO Greg Lee. Meat and poultry processing is unappealing work; it’s difficult, dirty, and dangerous. Tasks involve repetitive movements (workers sometimes perform the same motion 30,000 times a shift), and knife-wielding employees work perilously close together as they struggle to keep up with the production line. Injury statistics from the Occupational Safety and Health Administration (OSHA) for 2000 reveal that one out of every seven poultry workers was injured on the job, more than double the average for all private industries. Poultry workers are also 14 times more likely to suffer debilitating injuries stemming from repetitive trauma–like “claw hand” (in which the fingers lock in a curled position) and ganglionic cysts (fluid deposits under the skin). Meatpacking is even more hazardous.

Most processing plants are located in rural areas, far from big-city labor pools, presenting a recruiting challenge. Moreover, the economic boom in the 1990s created the tightest labor market in decades, making it difficult for the company to find workers willing to toil for $7 an hour in its plants when they could earn the same or more at McDonald’s. Increasingly, both Tyson and IBP came to rely on immigrants–mainly from Mexico and Central America. They began actively searching for these workers along the U.S. border with Mexico, and in the case of IBP, launched targeted recruiting drives within several Mexican towns. By the late 1990s the Tyson work force was very heavily Hispanic–40% according to Tyson, 60% or more according to union officials.

The DOJ indictment of Tyson last December charges that the company went beyond simply recruiting Hispanic workers. The 36-count indictment accuses the company and several of its executives–including a vice president at headquarters and a plant manager–of conspiring to smuggle illegal immigrants across the border, transport them to 15 Tyson plants in nine states, and provide them with false documentation. (One of the former executives, Jimmy Rowland, was found dead on April 18, apparently from a self-inflicted gunshot wound to the chest.) If found guilty, the company would be liable for “the financial gain derived from the offense alleged.” Prosecutors won’t comment on the amount, but a letter they sent Tyson states that “illegal hiring practices at several plants resulted in a financial gain…in excess of $100 million.”

The indictment was the culmination of a 2 1/2 year federal investigation into Tyson’s labor practices that originated at a poultry processing plant in Shelbyville, Tenn., where four of the six indicted executives were employed. Like many rural towns home to a meat or poultry plant, Shelbyville has seen its Hispanic population rise dramatically in the past few years, from a few hundred in 1990 to more than 3,000 today. “Prior to 1994, seeing a Hispanic in Shelbyville was like seeing a unicorn,” says Bill Logue, an officer on the town’s police force, who estimates that the actual Hispanic population is closer to 6,000. Logue and another officer on the force, Don Barber, began an investigation of Tyson after noticing that many of the Hispanics they pulled over for minor traffic violations had phony resident alien cards. “Every time we stopped one,” says Logue, “it turned out they worked for Tyson.” Their efforts to find the source of the phony documents led them to Amador Anchondo-Rascon, a local shopkeeper who once worked for Tyson. In the words of one Hispanic Shelbyville resident, Rascon was the guy who could get you in at Tyson, and the guy you went to see if you needed forged identity documents. After FBI and INS agents trapped him in an undercover sting operation, Rascon agreed to testify against Tyson in exchange for leniency.

The company vigorously denies it ever engaged in smuggling, saying any illegal activity was limited to a handful of managers acting outside company policy. “We work hard every day to make sure everyone that works for us is documented,” says John Tyson. He says his company is trapped in a catch-22: Not every Hispanic who applies for a job is illegal, and the company has been prosecuted in the past for being too stringent in its documentation requirements. And even if many of its Hispanic workers are in the country illegally, it doesn’t mean Tyson did the smuggling.

But the company’s critics–including some of its own workers–charge that Tyson deliberately exploits the economic benefits of an immigrant labor force. “The industry has targeted women and immigrants because they are less likely to organize, less able to find alternative [employment], and more easily manipulated,” says Donald Stull, a professor at the University of Kansas who has studied the industry extensively. More than a dozen Hispanic Tyson employees, both former and current, spoke with FORTUNE about their experiences inside the company’s poultry processing plants in Shelbyville and Lancaster, Pa. They describe an environment in which Hispanic workers were reluctant to speak up for fear of reprisals. “Supervisors knew who had green cards and who didn’t,” says Lucy, an illegal alien who worked at the Shelbyville plant (and who asked us not to use her real name). “And they used it against us. If we didn’t do what they wanted, they would threaten to call immigration.” As a result, they say, Hispanics were forced to work harder than their American peers and were given the most arduous and hazardous jobs.

Workers say these pressures, combined with a lack of understanding of U.S. employment practices, also made them far less likely to report injuries or file for workers’ compensation. “I would often see people go to the infirmary for a serious cut,” says Bernardo de Asencio, who worked for three years in Lancaster. “They would give them a Band-Aid and send them right back to the line. Some supervisors even started to carry Band-Aids in their pockets so workers wouldn’t lose time going to the infirmary.” OSHA statistics for the 1990s seem to bear this out: Between 1990 and 1994, the rate of injury and illness in poultry-processing plants fluctuated between 22% and 27%; since 1995, the year the Hispanic influx began, rates have dropped steadily to their current level of 14%. This reduction saved the company millions of dollars in workers’ compensation and insurance claims. Tyson attributes the drop in injuries to improved safety measures. But an internal memo written by the company’s own vice president of labor relations, Timothy McCoy, suggests the workers might be right. According to court papers filed by plaintiffs lawyers in a Pennsylvania suit, the memo explicitly encouraged the hiring of Hispanics because their lack of understanding of English and of their legal rights meant they were less likely to take any action, legal or otherwise, against the company.

The situation worsened a few years ago, say workers, when Tyson increased line speeds in order to ratchet up production. “The speed varied,” says Bernardo’s wife, Melania, who spent four years at Lancaster and is a plaintiff in a class-action lawsuit against Tyson. “Sometimes it was normal, but other times it was so fast we couldn’t keep up. We would finally refuse to work if they didn’t slow it down.” Plant bosses, say workers, used the hazards of the job to their advantage, specifically to leverage sexual favors from female workers. “Supervisors would say, ‘If you want an easier job, go out with me,’ ” says Robert, who still works at Lancaster (and, therefore, asked us not to use his name). “Two women complained to their superior about one guy and even called [the employee hot line in] Arkansas. Yet he still has his job.” Lucy says the same thing went on in Shelbyville. “It was basically prostitution,” she says.

Not surprisingly, Tyson has a very different view of life inside its processing plants. “This whole idea that you are exploiting immigrant labor is neither born out by the facts nor is a desirable way to run our business–period,” says co-COO Lee. “Labor is such an important part of our business. They are just too valuable to us to have a pall cast over the meatpacking industry as being abusers of labor.” Lee points to the toll-free hot line available to any worker who wants to make a harassment complaint, and he disputes workers’ claims that Tyson deliberately places Hispanics in more hazardous jobs. “We pace our lines for the best combination of quality, productivity, and doability,” he says. “The last thing we want is an injury.”

When Tyson Foods expanded into processed, branded chicken products in the late 1970s, the company developed an insatiable appetite for labor to perform the necessary cutting, deboning, and breading. Between 1980 and 1990, the company’s work force increased from 8,000 to 44,000. Now that John Tyson is poised to take IBP down the same path, moving it increasingly toward Thomas E. Wilson-type products, it is likely that the company will need an even larger labor force than the one it is now struggling to maintain. Meanwhile, the indictment has led to increased scrutiny of Tyson’s work force. Workers in Shelbyville say Tyson recently asked all of them for their resident alien cards; those with improper identification were dismissed. Lucy estimates that at the Shelbyville plant alone, between 200 and 300 have been laid off since December–and that doesn’t include the day shift. Workers in Tyson’s Lancaster plant reported similar mass layoffs.

When asked for a solution to the company’s chronic labor troubles, Tyson executives all point to automation, which they say is increasingly being used to replace the most difficult and dangerous jobs. “We will have capital expenditures of $400 million this year,” says Lee. “A lot of that money will be spent on automation…looking for labor-saving activities so you can do more with less. Had we not continued to automate, we would have much larger labor demand than we have now.” Joe Luter, the CEO of the country’s largest pork producer, Smithfield Foods, has suggested another solution: higher wages, which would make processing jobs more attractive to American workers. Labor makes up only about 10% of the total cost of production, meaning that raising wages to more attractive levels will result in only minor cost increases for consumers. But in a business in which two cents a pound can mean the difference between winning or losing a deal with a retailer, no company seems willing to make the first move.

Meanwhile, Tyson is vigorously contesting the indictment. The case is currently in discovery, and the trial is set to begin next February. Between that and the integration of IBP, John Tyson has had a challenging year. Though he still talks to his father about the business virtually every day, he is by all accounts finally establishing his own style as CEO–that of a delegator. “I’ve got some philosophical things that I believe in, and one of them is for people to make their own decisions,” he says. “My responsibility is to be the head cheerleader for the organization and its new culture.” In fact, he is so comfortable with his leadership team that he has recently left them to run the show while he headed off for a couple of three- or four-day trips riding the tour bus with his old buddies Crosby Stills Nash & Young. When his father headed the company, it was clearly the Don Tyson show. No one’s calling it the John Tyson show just yet.