The window shades were lowered to block out the sunlight soaking Lower Manhattan on a Friday afternoon in June as 14 students in Eric H. Kessler’s executive MBA class gathered in a conference room to present their analyses of Goldman Sachs Group’s leadership.

The firm’s management shows “resistance to change” and is “doing business in a bubble,” one of the three student teams explained in a PowerPoint presentation. Another recommended creating an “ethics role” within Goldman Sachs’s securities division. Kessler, who teaches management at Pace University’s School of Business, asked: Could cohesive culture be a weakness as well as a strength?

Such critiques have been rare in Goldman’s 142-year history. The company’s status as Wall Street’s most powerful and profitable securities firm — with a leadership that produced two U.S. Treasury secretaries — has lured top students from Ivy League schools. After financial markets collapsed in 2008, driving Goldman Sachs and rivals to accept taxpayer aid, the investment bank became the most vilified on Wall Street.

Bungled public relations and a thirst for a scapegoat for the worst U.S. economic crisis since the Depression may explain the shift in the firm’s reputation under Chairman Lloyd C. Blankfein. Or perhaps it’s something more fundamental: His reliance on trading and investing the bank’s capital to reap profits, even if it has meant competing with clients.

“The idea that you can manage what is a tremendously conflicted array of relationships is ridiculous,” said Michael C. Aronstein, a Wall Street veteran and president of Marketfield Asset Management. “That’s exactly at the heart of it.”

Blankfein’s business model was ideal for a period of high leverage and low regulation, producing average annual profits more than double those achieved under his predecessor, Henry Paulson. As capital rules and limits on proprietary trading take effect, those profits will be harder to achieve, said analysts including Fiona Swaffield of RBC Capital Markets.

“Goldman Sachs’s business model faces significant challenges in a post-crisis world,” according to a June 13 investor note by RBC analysts led by Swaffield, who rates the stock “underperform.”

Goldman Sachs declined to comment.

Return on equity

In the first half of 2011, as trading revenue dropped 25 percent, Goldman Sachs’s return on equity slumped to 8 percent, or 10 percent excluding the cost of repurchasing preferred stock from Berkshire Hathaway. That’s down from 13 percent in the first half of last year.

“Our normal desire is to get to 20 percent; I think it’s going to be very tough in this environment,” said David Viniar, chief financial officer, after the firm reported second-quarter net income that fell short of analysts’ estimates. “I’d be surprised if we did that this year.”

With its business practices under scrutiny by the SEC and the Senate Permanent Subcommittee on Investigations, Goldman Sachs is fighting to maintain the trust of clients. The firm paid $550 million last year to settle an SEC lawsuit alleging it duped buyers of a 2007 mortgage-linked investment. The subcommittee’s bipartisan report on the crisis, under review by the SEC and Department of Justice, accused the bank of misleading customers.

Goldman didn’t admit or deny wrongdoing under the settlement, the largest ever by a Wall Street firm. It said it made a “mistake” in its marketing materials.

Jay W. Lorsch, a Harvard Business School professor, said the bank’s focus has shifted toward “more immediate greed” from long-term gains because Blankfein and many of his deputies come from a trading background instead of investment banking. Lorsch is “probably the world’s expert on governance,” said Harvard colleague and Goldman Sachs board member William George.

“Goldman now needs to be more thoughtful about how they are perceived,” Lorsch said. “Lloyd is coming across looking pretty greedy himself.”

Blankfein, 56, who grew up in a public-housing project in Brooklyn, was 16 when he went to Harvard College. He graduated from Harvard Law School. He ascended the ranks of Goldman Sachs’s trading division, which became the firm’s profit engine under Paulson.

Blankfein’s top deputy, Gary D. Cohn, has worked with him since their days at Goldman’s commodities-trading division. Early leaders such as John C. Whitehead or Paulson focused on persuading executives to hire Goldman as an investment banker on takeovers or financings.

“The people who ran Goldman back in my early days had a banking background,” he said. “They built that business on the basis that if you hired them, you would be part of the team that won. The commodity business is different. You have to guess whether you’re somebody’s customer or their prey.”

Trading revenue

As high-flying technology stocks crashed and the mega-mergers of the late 1990s faded away, Goldman’s investment-banking revenue plunged to $2.71 billion in 2003 from $5.37 billion in 2000. Meanwhile, revenue from trading and principal investments, which include the firm’s own stakes in companies and real estate, surged to $10.4 billion from $6.63 billion. On Dec. 18, 2003, Goldman Sachs promoted Blankfein to chief operating officer, putting him in line to succeed Paulson.

By 2005, trading and principal investments accounted for two-thirds of Goldman’s revenue. After Paulson left to become Treasury secretary, the company’s trading revenue and profit shattered Wall Street records. Blankfein’s $67.9 million bonus for 2007 made him the highest-paid securities-firm chief executive ever.

“They went to a model that said, ‘Look, we’re making money from all these people with all these different things we do — let’s start trading for ourselves and therefore we make more than just commissions and fees, we make capital gains,’” said Ted Kaufman, who succeeded Vice President Biden as a Delaware senator.

Revenue from Goldman Sachs’s principal investments, which include the firm’s direct stakes in companies and real estate as well as holdings in hedge funds and private-equity funds, surged to $2.23 billion in 2005 from $566 million two years earlier, company reports show.

‘Spank from Hank’

In April 2006, two months before leaving the firm, Paulson admonished senior managers at Goldman Sachs that they must keep in mind the “perception” of the firm’s actions, Lucas van Praag, a company spokesman, said at the time.

The warning followed an unsolicited approach by Goldman Sachs bankers to buy BAA less than two months after they offered to help the British airport operator fend off a takeover offer from Spain’s Grupo Ferrovial, people familiar with the matter said. The “spank from Hank,” as it was dubbed in a Financial Times column, was an effort to remind bankers about the risks of perceived conflicts of interest.

Once Blankfein was chief executive, he set about building Goldman Sachs’s private-equity and hedge funds, which got as much as 30 percent of their money from the firm and employees, as well as direct, principal investments. Revenue from principal investments hit records of $2.82 billion in 2006 and $3.76 billion in 2007.

Goldman Sachs’s 2006 investment in Industrial & Commercial Bank of China, China’s largest bank by market value, produced a $949 million gain when ICBC went public nine months later. The company, which alongside its own private-equity funds paid $2.58 billion for a 7 percent stake in ICBC, reaped $3.5 billion in mostly paper profits in four years.

In a November 2006 investor presentation, Blankfein said the bankers’ relationships were increasingly becoming the gateway to investment opportunities.

“While clients seek us out because they trust us as an adviser and they want our skills at managing complex transactions, they also value our long-term involvement as an investor,” Blankfein said.

Investment opportunities

Blankfein illustrated the trend with the firm’s role in the $15 billion management buyout of Kinder Morgan. Goldman Sachs advised on structuring the transaction, underwrote the debt financing, and its private-equity funds invested alongside management, he said.

Kinder Morgan investors, including Goldman Sachs and Carlyle Group, raised $2.9 billion in February by selling to the public 95.5 million shares, or 13.5 percent of the company, at $30 apiece. The stock dropped to $28.51 Thursday, giving the company a $23 billion market value.

In April 2007, less than a year after Paulson cautioned partners about the firm’s image, Goldman Sachs announced that its newest private-equity fund had raised $20 billion, including $9 billion from Goldman Sachs and its employees. The new fund was a record at the time, eclipsing buyout firms like Blackstone Group, Carlyle and KKR.

KKR co-founder Henry Kravis, after an 2007 speech, was asked how he felt about investment banks such as Goldman Sachs competing in the private-equity business.

“I had a problem with it because here we are giving them a lot of business, and they’re turning around and competing with their customer,” he said. “It’s their prerogative, and it’s our prerogative, too, to give business or not to give business.”

Goldman Sachs wasn’t among the banks chosen to lead Blackstone’s IPO that year and hasn’t managed offerings of KKR stock since 2006.

Goldman Sachs’s Special Situations Group, which buys distressed debt and other assets with the company’s own money, was the largest source of revenue in the fixed-income, currencies and commodities division during 2006 and 2007, according to a Goldman Sachs document released by the Senate this year.

SSG produced $4.1 billion in 2007, or 9 percent of the firm’s revenue, and $3.79 billion in 2006, or 10 percent.

“We always need to worry a little about Goldman because we need them more than they need us, and the firm is run by traders,” Todd Baker, then-executive vice president at Washington Mutual, wrote in an October 2007 e-mail to Kerry Killinger, CEO. Killinger, in considering whether to hire Goldman for advice on transferring credit risk off of WaMu’s balance sheet, wrote back, “I don’t trust Goldy on this.”

WaMu hired Goldman Sachs after all. In less than a year it failed and was taken over by regulators, who sold it to J.P. Morgan Chase for $1.9 billion.

Before asset prices plunged in 2008, this distrust was mostly expressed in private e-mails and conversations. After the meltdown, it came out in the open.

“There was an underlying suspicion that Goldman did play in the gray areas, and I’ve spoken to a number of clients who finally did leave Goldman or refuse to do business with Goldman because of that concern,” said Charles Peabody, an analyst at Portales Partners who has a “hold” recommendation on Goldman.

Blankfein, at first admired for posting record profit in 2007 as rivals began losing money on subprime-mortgage bets, came under scrutiny after the financial system unraveled in 2008 and even Goldman Sachs received government support including Federal Reserve loans, debt guarantees and $10 billion of capital from Treasury that it later repaid.

While Morgan Stanley executives promised to reduce the firm’s proprietary trading, Blankfein stuck to his strategy.

Doubling down

“We are not forsaking our position as a preeminent adviser, financier and co-investor as we pursue additional opportunities as a bank holding company,” Blankfein told investors in November 2008. “We won’t stop doing the things that made us a leading investment bank.”

Instead of cutting its bets, Goldman Sachs doubled down. In the first six months of 2009, the firm’s average value-at-risk and trading revenue soared to all-time highs. The company set aside a record $11.4 billion to pay workers in the first half of 2009, enough to give each $386,429 for six months’ work.

“Is it just going to be business as usual with Goldman Sachs and much of the rest of the financial industry?” asked Sen. Sherrod Brown (D-Ohio).

A 2009 Rolling Stone article by Matt Taibbi struck a nerve when it labeled Goldman Sachs “a great vampire squid wrapped around the face of humanity” and accused the firm of profiting from creating asset bubbles over its history.

Blankfein has made changes. The firm reduced compensation and increased philanthropic giving in late 2009.

Within months, Goldman Sachs began reducing its ratio of assets to equity. Total assets fell to $849 billion at the end of 2009, or 12 times the firm’s $70.7 billion in shareholder equity. That was down from $1.12 trillion, or 26.2 times the $42.8 billion in equity in November 2007.

Goldman shut two proprietary trading desks after the Dodd-Frank Act’s Volcker rule prohibited such activities. The rule, which also limits the firm’s investment in private-equity and hedge funds to no more than the 3 percent of the funds, will force Goldman to pull investments like the $9 billion it contributed to the $20 billion buyout fund raised in 2007.

The SEC’s lawsuit in 2010, which came as Congress was debating Dodd-Frank, focused on Goldman Sachs’s creation of the Abacus synthetic collateralized debt obligations that had enabled clients and Goldman Sachs to use derivatives to wager against subprime mortgages.

At a Senate hearing, lawmakers said the firms’ activities looked more like gambling and duping their own clients.

“In hindsight I wish we had not done some of those things,” Blankfein said in a television interview with Charlie Rose. He also said “the firm is guiltless.”

Blankfein established a business-standards committee of employees to investigate how it could improve its conduct.

‘Plain language’

After eight months, the committee issued a report with 39 recommendations. One was to provide clients with “plain language” explanations about how the firm manages conflicts of interest. The firm also changed the way it reports its financial results.

That change allowed investors to see how much revenue came from principal investments, proprietary trading and a smaller category of lending. While that “Investing & Lending” segment contributed just 6 percent of revenue in 2009, it jumped to 19 percent in 2010. Analysts and investors say that segment will shrink as Volcker rule restrictions are phased in.

In its 12 years as a public company, Goldman Sachs has promised investors a 20 percent return on tangible equity throughout the economic cycle. The firm stopped providing such a target late last year. In her note, RBC’s Swaffield said the stock price was consistent with an 11.8 percent return on tangible equity.

The company’s 2009 annual SEC filing added an item to “risk factors.” “We may be adversely affected by increased governmental and regulatory scrutiny or negative publicity,” the firm said.

Facebook fallout

Such adverse effects were evident when Blankfein returned to the model he used in the Kinder Morgan and ICBC investments, putting $375 million of the firm’s own money in Facebook and pitching as much as $1.5 billion of stock in the closely held social-networking company to wealthy investors.

While the move was classic Blankfein, the reaction it received after the financial crisis couldn’t have been more different than four years earlier. After a flurry of positive coverage, media reports focused on conflicts inherent in the deal: Goldman Sachs’s investment had better terms than other investors would get; one of the company’s funds had rejected the deal; and the sale skirted securities rules forcing companies with more than 499 investors to meet SEC reporting requirements.

On Jan. 17, two weeks after the New York Times reported details of the deal, Goldman stopped offering the stock to U.S. investors. The firm said that “intense media attention” may violate rules limiting marketing of private securities. The company completed the sale by offering the stock to non-U.S. clients.

In recent presentations to investors, Goldman Sachs’s managers haven’t emphasized the advise-finance-invest model. Instead, they’re touting the firm’s tech investments and their efforts to be “Goldman Sachs in more places,” focusing on expansion in developing countries such as Brazil, Russia, India and China.

Blankfein has put a positive spin on the Volcker rule, which requires Goldman to reduce its investment in private-equity funds to no more than 3 percent, down from 15 percent to 30 percent previously. “Limiting these activities will likely reduce the firm’s capital requirements and revenue volatility,” he said.

Still, there are detractors. Aronstein, who said he doesn’t own Goldman shares or do business with the firm because he lacks faith in its model, doubts Blankfein and his team will change their strategy.

“When people are in a position where conflicted relationships are extremely lucrative and have created a monumentally nice lifestyle, they don’t just give that up,” he said. “It’s very easy to write and it sounds great: ‘The customer’s always right.’ Until he gets in our way.”