(FORTUNE Small Business) – No entrepreneur could have seen it coming. In 2000, Diana Pohly's custom-publishing company, Pohly & Partners, based in Boston, had its best year ever, with $12.5 million in sales and a 10% profit. Pohly, now 47, was on track to increase earnings in 2001. Then the Sept. 11 attacks changed everything. The biggest chunk of the company's revenue came from publishing Continental Airlines' in-flight magazine. As the number of airline passengers plummeted, advertisers lost interest in in-flight publications. Ad revenue for Continental's magazine fell by a third.

By the beginning of 2002, Pohly knew she needed to trim $400,000 from her budget to stay profitable. Remaining in the black was also essential to her plan to secure a $1 million line of credit the following year. One option seemed obvious: Lay off five to seven of her 39 employees. But Pohly—a former advertising executive who had bought the company in 1999 after being hired as CEO two years before—didn't want to fire anyone. She had worked hard to win the trust of her employees. The company had been without a chief executive for six months when she came onboard, and she had patiently rebuilt morale by instituting a bonus plan and offering low-cost perks such as free beer and wine at staff meetings and partial reimbursement of workers' commuting costs. She had commissioned an architect to design a new, open workspace with cubicles and communal tables so that the only walled-off areas were her glass-enclosed office and two conference rooms. Letting even a handful of people go, she felt, would wipe out all the progress she had made.

Pohly found a different solution that let her prove her value as a boss. In May 2002 she presented her six-member senior management team with two options: They could enact the layoffs or instead vote for pay cuts of 10% across the board, with an additional 5% out of their checks and her own. It took several hours of deliberation before the team unanimously voted for pay cuts. After striking that $200,000 from payroll, Pohly saved another $200,000 by asking managers to work out lower prices with printers and freelance contributors, even offering classes to teach her creative team how to negotiate. The cuts took effect in August 2002.

Only two junior employees left after Pohly announced the news, and by year's end Pohly & Partners had squeaked by with an $18,000 profit. That number rebounded to $400,000 in 2003, and this year Pohly anticipates that her profits will double. Fleet Bank has granted the company a $1 million line of credit.

One reason employees say they stayed was Pohly's openness in announcing the cuts. She provided the entire staff with details of the firm's finances and asked for help in restoring profitability. "They were actually showing us where the cuts were going to help, so we didn't feel like 'I'm not getting the money, but I don't know where it's going,' " says assistant production director Catherine Korn, 31. "I left there feeling like 'Yeah! We can do this!' "

At 2003's summer offsite, a tour of Fenway Park, Pohly handed her employees a crisp $100 bill each to thank them for their sacrifice. There was a whiff of disappointment in the air, Korn recalls, because they'd been hoping to find out that their salaries were finally back to normal. But moments after handing out the cash, Pohly had a second bulletin: She was rescinding the pay cuts. A cheer went up. Pohly had even better news for her team this past July: Many were getting merit raises. With the company's operating costs lower than before the crisis, it looks as if the recent raises are likely to stick, even if Pohly & Partners has to weather another downturn. —J.S.