Dynasty of domesticity in a legal pickle

On the cover of her latest Kmart paint catalog, Martha Stewart is still smiling in blue jeans and a button-down shirt as she sits on a floor mixing bright country colors.

In real life, though, Ms. Stewart's summer has been about as cheery as following this advice from her famous calendar: "If it rains, organize basement."

A stock-trading scandal is chipping away at her image as America's doyenne of simple good taste. Faced with government probes and shareholder lawsuits, the ubiquitous pitchwoman is suddenly as scarce as a deflated soufflé in her kitchen.

So far, sales of Stewart brand goods ranging from magazines to lawn furniture aren't hurting. But observers say Stewart risks sinking her media and retailing empire unless she resolves the mess soon.

"All of these things are a house of cards that are on the verge of collapsing if she doesn't get hold of the crisis swiftly," says Steven Fink of Lexicon Communications, a Los Angeles crisis-management consulting firm.

Last week, Stewart handed over 1,000 pages of documents to congressional investigators probing her sale of shares in a friend's company right before the stock plummeted. Meanwhile, unhappy shareholders in her own company, Martha Stewart Omnimedia, sued her.

Stewart is accused of selling 4,000 shares of stock in ImClone Systems Inc. last December, one day before the company's stock plunged after news that the government had rejected its application for a highly anticipated drug therapy.

Her friend, ImClone CEO Samuel Waskal, has been charged with trying to sell his shares and tipping off family members about the impending bad news.

Stewart, a former stockbroker herself, contends she had a preexisting agreement to sell the stock automatically if it fell below a certain price.

Stewart netted about $227,000 in the sale. But since the sale was disclosed, the share price of Martha Stewart Omnimedia has fallen in half, reducing her net worth by more than $200 million.

While such sales often attract the attention of the Securities and Exchange Commission, the revelations couldn't have come at a worse time, says Eugene Propper, a former federal prosecutor and expert on corporate fraud.

With fraud allegations wiping out the value of companies such as WorldCom, Stewart's stock trades quickly attracted congressional investigators, too.

Stewart did little to help her cause with awkward public statements. During a regular appearance in June on CBS's "The Early Show," Stewart referred to the controversy, while chopping vegetables in a kitchen, as "ridiculousness."

She has since stopped appearing on the CBS show and has scaled back other appearances this summer, a Stewart company spokeswoman says, but continues her regular schedule of business activities, including taping episodes for her daily syndicated television show.

While her stock has sunk, it's still too soon to tell whether the controversy will damage sales of her merchandise, analysts say. For example, ads for Martha Stewart Living magazine, her flagship guide to good living, have already been sold for issues through the end of the year, notes magazine industry analyst Martin Walker.

As the scandal drags on, he says controversy-shy advertisers may become more unwilling to associate themselves with the Stewart brand.

Distance is not necessarily an option for bankrupt retailer Kmart, which sells eight different lines of Martha Stewart Everyday brand products each year, ranging from creamers and knives to lawn furniture.

At a Manhattan Kmart last week, customers said they weren't affected by what they think of Stewart or her stock trades. Searching through a shelf full of Martha Stewart brand comforters, Catherine Tagliagambe says she's not a fan of Stewart personally but likes her products. "I don't have to think. The colors match."

Sears Canada says it still plans to start selling similar Martha Stewart brand goods next summer, though company spokeswoman Christine Hudson says Sears is "certainly watching everything that's going on."

Stewart must act quickly to repair her reputation, since the Martha Stewart brand is so closely linked with its creator, says Kevin Lane Keller, a marketing professor at Dartmouth College's Tuck school.

Crisis-management experts say that to salvage her image, Stewart must start talking more openly. "All the public interpretations of noncommunication are bad," says Jonathan Bernstein, a consultant based in Southern California.

But that may not be the same advice being given by attorneys trying to protect her from an expanding number of legal challenges.

Stewart now faces an SEC probe for insider trading and a congressional investigation. Those probes could lead to fines or even prison time for obstructing justice.

Last week, congressional investigators received some 1,000 pages of documents they'd requested from Stewart, seeking proof that she arranged to sell her ImClone stock in advance. House Energy and Commerce Committee chairman Jim Greenwood suggested he may also subpoena Stewart to testify before the committee.

Adding to her troubles, shareholders accused her of dumping shares of her own stock when she knew she would face an investigation into possible insider trading of ImClone shares.

The Martha Stewart spokeswoman said the suit is "without foundation" and the company will defend it aggressively.

Mr. Propper, an attorney with Holland & Knight, said the case is tougher than most insider trading cases that accuse someone of benefiting from information obtained within the company.

In this case, Stewart is accused of using knowledge of an outside event – her ImClone stock sales – before selling $45 million in her own company stock.

But until the question is resolved, Stewart can put "pay attorney" on her calendar right alongside "make pickles and relishes."