Propping Up the House That Martha Built

Can new CEO Sharon Patrick keep the company going?

Last June, only days before Martha Stewart found herself entangled in a government investigation of insider trading and obstruction of justice, she already had begun to think about separating Martha Stewart the person from Martha Stewart the brand. At a CEO conference sponsored by the Yale School of Management, she and Sharon L. Patrick, her company's president and chief operating officer, spent the day discussing the challenge and drawing examples from others like Coco Chanel and Liz Claiborne (LIZ ) who had succeeded at that task.

That's when a graceful exit still seemed possible. No longer. On June 4th, she was indicted by the Justice Dept. for securities fraud and obstruction of justice and charged by the SEC with insider trading of ImClone stock. By that evening, Stewart had resigned as chairman and CEO of Martha Stewart Living Omnimedia (MSO ) Inc., citing her love for "the company, its people, and everything it stands for." The SEC suit seeks to bar Stewart from serving as a director of a public company and limit her role as an executive as well. But according to the company, Stewart plans to remain on the board and serve as "chief creative officer." Stewart pleaded not guilty and plans to fight the charges.

With her role diminished, a big question remains: Can the empire Martha built from scratch survive without her strong hand at the helm -- and a likely reduced presence in the pages of Martha Stewart Living and on other products? The task of managing the difficult transition will fall to Stewart's trusted No. 2, Patrick, who is taking over as CEO. Jeffrey Ubben, a founder of the company's largest outside shareholder, ValueAct Capital Partners, will become chairman, and Arthur Martinez, former CEO of Sears, Roebuck & Co. will become lead director. Wall Street has lost much of its faith in the company. Shares have fallen from 17 before the allegations surfaced to a recent 10. The tough business environment and lousy economy for retailing isn't making matters easier. Kmart (KMRTQ ) Corp., the biggest retailing partner, is struggling through a messy bankruptcy. Ad pages at Martha Stewart Living have fallen 34% year-over-year in the most recent period amid intense competition from Oprah Winfrey's O, among other magazines. Overall, the company, which posted $296 million in sales last year and net income of $16.8 million, is languishing. "Regardless of the outcome with Martha, the company needs some turnaround plan," says Laura Richardson, an analyst with Adams, Harkness & Hill.

Patrick, who has been with Omnimedia since 1997, is an accomplished businesswoman in her own right. She helped design the October, 1999, IPO of Martha Stewart Living Omnimedia and is credited with negotiating some of its savviest media deals. Before joining forces with Stewart, she created a thriving communications consulting practice at McKinsey & Co. and ran Rainbow Programming Holdings, a compilation of cable networks including the Bravo Channel. "Sharon is brilliant," says Jeffrey A. Sonnenfeld, associate dean of the Yale School of Management. "She has an amazing track record."

She'll need every ounce of that talent now. Patrick's Job One will be figuring out how to revive the company's publishing arm. The unit brings in 62% of earnings -- the lion's share from Martha Stewart Living, according to Richardson. Problem is, the magazine is closely linked to Stewart personally -- for years, she appeared on the cover. One hopeful sign: Media buyers who have stuck with the magazine so far say they won't be pulling clients out now. Patrick also needs to expand in retail beyond Kmart.

Not all of the company's businesses have fared badly. Although Kmart shut 20% of its stores this year, Stewart has held her own in those still open. A new line of holiday ornaments and decorations introduced last fall quickly sold out. Says analyst Ulysses Yannas of New York brokerage Buckman, Buckman & Reid: "Martha Stewart the name does not seem to have been significantly affected by the problems of Martha Stewart the person."

Still, it's hard to imagine the company retaining its cachet if Martha Stewart is convicted. Even if she is exonerated, Stewart's brilliant success has been dealt a serious blow. Now it's up to Sharon Patrick to do damage control.

By Nanette Byrnes in New York, with bureau reports

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