Updated from 8:19 a.m. EST

The insider trading probe that has ravaged shares of

Martha Stewart Living

(MSO)

this year is now taking a toll on the company's business, spooking advertisers and raising costs enough to torpedo earnings estimates for the crucial Christmas quarter.

The company posted a 40% decline in third-quarter profits Thursday, in part because of higher expenses caused by the investigation, and said similar costs would help push fourth-quarter earnings well below forecasts. While the company met analysts' 6-cent profit estimate for the latest period, executives told analysts and investors on a conference call that some advertisers have recently become skittish about the investigation, and warned they couldn't safely predict fourth-quarter royalty revenues because of the concerns.

The shares fell 6% to $7.95 each on the news, bringing their loss to near 60% since June, when questions arose about the circumstances surrounding CEO Martha Stewart's sale of shares in

ImClone System

(IMCL)

. Federal prosecutors are currently weighing formal charges in the case, although Stewart has repeatedly denied doing anything illegal.

Martha Stewart refused to comment directly on the investigation on the conference call but said the company has been the subject of unfair media speculation. Later, executives said that while advertisers remain loyal, some are clearly wary of the outcome of the investigation, and noted that the CEO's troubles have contributed to lower ratings for Stewart's television show.

The company said third-quarter revenue rose 4% to $70.9 million on strength in the company's publishing, merchandising and weddings categories. Earnings were $2.77 million, or 6 cents a share, compared with $4.77 million, or 10 cents a share, last year.

Publishing revenue rose 6% to $46.5 million from $44 million, with advertising pages in the flagship Martha Stewart Living magazine rising 9%. Television revenue slipped to $6.4 million from $6.6 million. Merchandising revenue rose 21% to $10.1 million in the latest quarter.

Corporate overhead rose $2.6 million to $9.8 million in the latest quarter, "principally due to higher non-recurring costs, including costs incurred as a result of corporate issues resulting from a personal sale of non-company stock by Martha Stewart," the company noted.

For the fourth quarter, the company expects to earn 3 cents a share, below analysts' consensus of 10 cents a share. Executive said on the conference call that Martha Stewart Living will incur expenses of $1 million related to the trading investigation in the quarter.