Fashion's favorite funhouse has looked more like a haunted castle since the 1997 murder of Gianni Versace. Can Donatella salvage the glittering empire her brother built?

Just before Christmas 2004, Donatella Versace gathered her clan in the family's opulent Manhattan townhouse one last time. The stately stone building on East 64th Street once belonged to her brother Gianni, who had staged some of the '90s' wildest parties there. Despite the holiday season, however, this reunion would be a sober affair; no celebrities were there to share the Versaces' largesse. Cash problems had forced the family to put the mansion on the block, and in the following months its contents would be sold at auction. The only addition to Donatella's immediate family—former husband Paul Beck, and their children Allegra and Daniel—was her hairdresser, who took his regular place by her side at dinner on Christmas Eve. Allegra, who usually ate alone, agreed to make a special appearance, though she declined to touch any food. Outside, a cluster of suited bodyguards kept careful watch on the door as a butler continually refilled the Medusa embossed goblets with champagne. (Donatella, who had recently completed a stint in rehab, contented herself with a steady stream of Diet Cokes.) By 10 o'clock, after the last courses of the sumptuous meal had been cleared from the antique dining table, Beck returned to his apartment, while the rest of the group retired to their own rooms, which were cluttered with moving boxes.

Bidding farewell to East 64th Street would close a painful chapter in Donatella's life, one that had begun in 1997 with the murder of her brother on the steps of his Miami mansion. But it hardly signified an end to the challenges confronting her and the troubled house of Versace. In the past few years the company has cut its fashion lines, slashed the number of stores selling its clothes, and sold off its watch and beauty subsidiaries in a bid to stay afloat. At the time of Gianni's death Versace was valued at about $900 million. Seven years later, according to reports, it was worth just over half that. Versace hasn't turned a profit since 2001, according to Women's Wear Daily, which reported that last year's sales fell more than 20 percent, to $396.8 million, while net losses exceeded the nearly $30 million shortfall from the year before. In response, the fashion house famous for its exuberance, its extravagance, its affinity for the bold, hyperbolic gesture has been forced to tighten its pink python belt. Giancarlo Di Risio, Versace's third CEO in two years, has imposed a strict austerity plan. In addition to selling off some of its subsidiary businesses, the company took a pass on the Paris couture collections, discontinued the Versace Classic line, and even cut back on the use of the famous Medusa logo that defi ned the company's feral image.

At one point, with the stores going begging for customers, the family reluctantly decided to sell off a minority stake, but they were able to attract only one first-class suitor, the team of Tom Ford and Domenico De Sole, who had recently departed from Gucci. Their involvement promised to revive the company's fortunes overnight, but negotiations were undone by a single hitch. Ford insisted that Donatella give up creative control of the company. Against the recommendation of many of her advisers, she refused.

Meanwhile, as the pressure began to mount, Donatella's personal life started coming undone as well. For years she had been the life of the party. Now her cocaine use was quickly getting out of hand, leaving her confused and disoriented. In one memorable incident, sources say, she stumbled into a glass table in Vogue editor Anna Wintour's office, sending shards flying. Last year, on the advice of her friends and family, she spent six weeks in an Arizona treatment facility and has by all accounts put her drug use behind her. But now, as she struggles to stabilize the family business, she faces an even more daunting challenge: helping her daughter Allegra, now 19, overcome what acquaintances describe as a life-threatening eating disorder, a circumstance obvious to anyone who has seen recent pictures of the heiress.

None of this seemed to deter Donatella. Just two weeks after Gianni's funeral she was swanning into the office in Milan, ready to pick up the pieces. The name of the company was quietly changed from Gianni Versace to just plain Versace, and Donatella began turning out collections that had the fashion crowd singing her praises. Some said they were better than her brother's. A few years later she was confident enough to declare that she had stepped out of Gianni's shadow, describing her own designs as "a bit softer...less sexpot." "I like sexy, but not sex object," she added, "and I think I'm maybe a bit kinder on women's bodies."

After years in Gianni's shadow the Donatella persona had finally come into its own. She seemed an unlikely icon of femininity—neither conventionally pretty nor sexy, exactly, and at times cartoonish. Nevertheless, her signature hairstyle now graced everyone from Madonna and Gwyneth Paltrow to Lizzie Grubman and Chelsea Clinton.

Donatella was a survivor, a jet-setting warrior princess. Slammed by tragedy, she armored herself in leather and bling, and lived to party another day. When Maya Rudolph began impersonating her on Saturday Night Live, Donatella took the spoof as an homage.

Despite Donatella's growing acclaim, sales dropped off precipitously, as the Asian financial crisis afflicted the entire industry. Then 9/11 shut down the market for pricey baubles and rendered the signature de trop Versace style hopelessly frivolous.

With the company in a tailspin, the cash-strapped family began unloading assets at a frantic clip. Gianni's South Beach pleasure palace was sold to telecom mogul Peter Loftin, who turned it into a private club. The former haunt of Madonna and Elton John now hosts Star Jones. The Manhattan townhouse went to contract for $30 million, to be applied toward company debt. Around the same time, the Versace boutique on Madison Avenue was shuttered, along with stores from London to San Francisco. The environment Gianni had painstakingly created has been sold off piecemeal. The sleigh beds by Julian Schnabel: gone. Ditto the Cézanne, the Picassos, the Warhols. And Chuck and Diana Ivas, husband-and-wife amateur bodybuilders and RE/MAX real estate agents from Hinsdale, Illinois, recently took delivery of Gianni's desk, an ormolu-mounted mahogany center table, circa 1820, featuring a scene of Triton frolicking with a bevy of mermaids. They picked it up at Sotheby's in May, one of a seemingly endless series of sales of Gianni's extensive collections of art, empire furniture, neo-Roman art objects, and other high-end froufrou.

Nevertheless, eight years after Gianni Versace's murder, his spirit still pervades the company. When Italian design was dominated by Giorgio Armani's austere, body-shaping grays and blacks, Versace was all about eye-popping glitz. "I don't believe in good taste, and I don't believe in bad taste," Versace once said. "I believe in quality and in fun, in things that make our life better or happier." Design, for Versace—who learned the basics from his mother, a dressmaker in the dusty southern Italian city of Reggio di Calabria—was less about chic than fantasy and dress-up. His use of color was fearless, and sometimes foolhardy. He printed silks with leopard and zebra skin patterns, or baroque motifs, or brash florals, or even cartoon covers of Vogue, sometimes stiching together a few of these gaudy combinations. With Donatella as his muse, he created a couture ensemble of studded black leather, a tank dress of Velveeta-esque vinyl. He brought bondage gear to haute couture. He made gowns of metal mesh and rhinestones, at once inviting and deflecting all that paparazzo lighting.

But clients also raved about Versace's craftmanship, the way the internal architecture of his clothes—he hidden zippers, boning, and other tricks of the trade—reshaped the body while remaining secure even when the the clothes appeared to be held together with safety pins, like the famous black number that vaulted Elizabeth Hurley from unknown to boldface icon overnight at the 1994 premiere of Four Weddings and a Funeral.

As Hurley's big moment demonstrated, Versace intuitively understood the growing convergence of pop culture, celebrity, and visual spectacle that was transforming the fashion industry. Let other designers book a single supermodel to lend some dazzle to their collections; Versace hired them all at once, memorably sending Linda Evangelista, Naomi Campbell, Cindy Crawford and Christy Turlington down the runway in one heady shock-and-awe moment. He invited celebrities to the South Beach Mansion, Casa Casuarina, and the villa on Lake Cuomo; they boogied with Donatella and, most important, added wattage to Versace's front row. Bringing A-listers wasn't cheap: Versace's promotional budget, which paid celebrities' travel expenses and draped them in freebies, reportedly reached a staggering $70 million annually.

Adding to the air of decadence that pervaded the business was the always fascinating gossip surrounding the Versaces' personal lives. Gianni was no prude, and he never hid his homosexuality. But the most titillating chatter surrounded Donatella. Fashionistas were stunned when Paul Beck, a former model and Versace advertising executive who everyone assumed was Gianni's ex-boyfriend, announced his engagement to Donatella. They were married in 1983, had Allegra and Daniel, and separated several years after Gianni's death. (Beck left the company but recently returned to work in Versace's New York press office.) In a Vanity Fair profile of Donatella, Beck shrugged off the rumors of an affair with Gianni: "I've never denied being a very good friend of Gianni's, but it's never been more than that." Rarely has the denial of a scandalous romance been delivered with such congenial, good-humored detachment—which may explain why so few fashionistas believe it.

"Paul was the companion of Gianni," insists Giusi Ferre, a veteran Milan fashion journalist at Corriere della Sera. "Everyone who worked with them knew about it. It wasn't a secret." A former Versace PR executive offers a wilder embellishment: "I heard that they shared him." A designer employed by Versace for several years says that word around the office was that Gianni wanted children of his own and encouraged Paul and Donatella's marriage as the next best thing.

Beyond the provisions for D'Amico, Gianni's brief will perplexed many people, not least Allegra herself, who has been dealing with the unwelcome burden of her inheritance ever since. "Why did my uncle choose me?" she reportedly wondered.

Gianni reputedly wrote the will at a time when relations with his siblings were at a low point. Not long before, he'd been diagnosed with cancer of the inner ear, and he was said to have groomed Donatella as his successor, preparing her to take over as chief designer if the cancer killed him. When he recovered, however, Donatella felt ready for a greater creative role. Friends say they clashed furiously, reconciling only just before his murder.

Other Versace intimates saw Gianni's will as testament to his extraordinary bond with Allegra. "It's been a disaster, business-wise. It blocked all the ompany's initiatives," notes journalist Giusi Ferrè. "But for Gianni, Allegra was like a daughter. I think there was something appealing for him in making her the princess of the House of Versace, una piccola principessa."

In the immediate aftermath of Gianni's death, the family rallied. Donatella's first collections were hailed as triumphs by the fashion industry, and she soon became a diamond-encrusted icon, demonstrating a natural talent for personal branding that in some ways eclipsed her brother's.

"I was one of the people who were doubting Donatella. How can you follow such a strong act?" recalls image guru Marc Gobé, CEO of Desgrippes Gobé Group. "But she's done an incredible job. She was able to keep the core customers, get credibility with the press, come back with collections, and run the company. And she's really become the face of the brand."

Her performance as the face of the brand, however, began to suffer as Donatella's cocaine habit grew worse. An attendee at one show remembers her postcollection stroll down the catwalk being alarmingly wobbly, and the industry gossip about her addiction spread.

At the same time she was becoming a tyrant to her staff. "It was bad," says a longtime acquaintance based in Milan. "She'd get into the office at 1pm, be totally insulting to her design team—just be mean and mercurial and have these weird moods."

"When the tragedy happened, nothing was fun for a long time," Donatella revealed in the May 2005 issue of Vogue about her life after Gianni's death. "Just pain, insecurity, an enormous sense of loss.... I had to hide my feelings. And what better way to hide your feelings than with drugs?" At her worst, she says, she was using cocaine every day, admitting that it had become "a form of suicide."

The article didn't mention the table incident in Wintour's office. Donatella's family and friends—including Elton John, Paul Beck, Interview editor Ingrid Sischy, and Versace's former PR director Jason Weisenfeld—were by now concerned enough to stage an intervention at the palazzo in Milan. "Her daughter was the one who was like, 'Mommy, I want you to go to rehab,' " says a source. Donatella agreed. It was June 30, 2004: Allegra's 18th birthday.

Versace's spring 2004 ready-to-wear show in Milan was an explosion of floral prints done in teeth-grinding neon combinations, aimed, as Vogue put it, "directly at divas."

But even the flashy new looks could not distract attention from the frail, spindly figure in the front row. "I remember sitting across the runway from Allegra and just wanting to cry," recalls Robin Givhan, fashion editor of the Washington Post. "She just looked so ill, with all of the worst indicators of anorexia: thinning hair, tiny body, and just bone.... I remember she was sitting with Hayden Christensen and Mariah Carey, who had these boobs overflowing out of this Versace gown, and if anyone has ever looked less comfortable in their own skin, I've never seen it."

In the fashion world, Allegra's shocking weight loss has been noted for years, as insiders have watched her become increasingly skeletal from one season to the next. While sources say she's been treated, the disorder is famously hard to control. According to one former employee of the family, witnessing Allegra's deterioration was "the most sad and traumatic experience of my life. Her arms are like candlesticks. Her hair is brittle. Her skin is this unnatural color I've never seen before."

The source says Allegra generally eats by herself—declining to accompany Paul and Daniel on their regular jaunts to McDonald's—and sends the food back numerous times, demanding that it be made hotter. A typical meal consists of thinly sliced vegetables roasted until they're nearly charred, and then microwaved.

Meanwhile, the source reports, the Ivy League university Allegra attends has asked her to take a leave. A spokesperson for the school, while refusing to confirm the story and insisting that school policy prohibits comment on any individual student, acknowledges that in general, "We're going to do whatever we can to make sure our students have happy outcomes, even if it's in their best interest to have a medical leave for a time."

According to Andrea Schneer, clinical supervisor at New York's Renfrew Center, an eating disorder treatment facility, anorexia—which is fatal in approximately 15 percent of cases, making it one of the deadliest of all forms of mental illness—is extremely diffi cult to treat. "It's best to have a multidisciplinary team: doctors, nutritionists, psychiatrists, long-term individual therapy, and sometimes you need hospital stays. It's a long, complicated haul."

Family therapy is also crucial, Schneer says, because family dynamics play such a significant role in the disorder. "Anorexics often come from families that are most comfortable dealing with the concrete. There's this huge cultural emphasis on consuming things. The families don't know how to say, 'How are you feeling?' "

Another major risk factor for anorexia, Schneer adds, is the presence of another family member "with a drug or alcohol issue. Perhaps the most common cause, Schneer says, is a boundary violation of some kind, such as an emotionally incestuous relationship in the patient's background. That is not to suggest that something overtly sexual needs to have happened between family members, she explains, only that "the quality, the atmosphere, the feelings between the related people have become psychologically charged." Although there is no evidence that this was the case, what a heartbreaking irony it would be if Gianni's warm affection for his "little princess," as he called her, had itself contributed to Allegra's condition.

Complicating the situation further is that as a result of her inheritance Allegra is shackled to the very industry that has so persistently warped our culture's standards of female beauty. As damaging as fashion advertising may be for the average girl, imagine the impact on someone who attended her first fashion show, at her Uncle Gianni's insistence, when she was two days old, and who at age six was coaxed onto the runway by a bevy of supermodels.

Donatella is, by all accounts, a wonderful mother. No one doubts that she is heartsick over Allegra's health, or that she is desperate to help her child, the same way Allegra helped her when she was in crisis. But as a former employee puts it, "Allegra owns the company. This is their boss."

While Allegra does in fact wield tremendous power over the Versace empire, for now it's said she defers to her mother on major decisions and merely wishes to pursue her studies. "Drama's my thing," she told Teen Vogue in 2003, adding, "What I like about acting is that you can be a different person every day."

As for the Versace empire itself, its destiny now bound up with the particular psychologies of these two very complicated women, many observers agree that its recent cost-cutting moves are precisely what's needed. Still, there are some who wonder whether the company will ever again be truly successful.

Marc Gobé, however, thinks the Casa Versace has a bright future. "It's still one of the most glamorous and edgy fashion companies," he says.

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