(FORTUNE Magazine) – YOU SEE THE strangest things on the magazine racks in the supermarket checkout line. That, of course, is where you find American Media's Weekly World News, famous for cover stories like WORLD'S FATTEST COUPLE SUED BY SEX CLUB and SPACE ALIEN CAUGHT HUGGING JOHN KERRY. Lately, though, the covers of Weekly World News have paled compared with those of Star, the celebrity weekly published by the same company.

In recent months Star has offered its readers a generous helping of celebrity cellulite. The magazine's recent Best & Worst Beach Bodies issue featured a grainy snapshot of a blond woman whose skimpy bikini failed to contain her ample rear end. Intrepid readers who explored the magazine's pages discovered it was none other than Donatella Versace, the fashion diva. "With her noticeable cellulite, Donatella proves money can't buy perfection," Star informed them.

If anyone needed further proof, he had only to glance at Star's covers displaying Britney Spears's derrière (CELLULITE AT 21!) and Tori Spelling's thighs (CELLULITE AT AGE 31).

Star is a strange, hybrid creature. It looks like a mainstream magazine. American Media CEO David Pecker has spent $50 million in the past year to upgrade the 35-year-old tabloid's paper stock and bring in a new editorial staff led by Bonnie Fuller, famous for transforming US Weekly,a joint venture betweenWenner Media and Disney, into a newsstand hit. Yet Star still has a tabloid's soul. Unlike its competitors US Weekly and People (owned, like FORTUNE, by Time Inc.), Star sells the vast majority of its copies on the newsstand, and the quickest way to boost those sales is to abandon good taste.

Star's identity crisis is part of the biggest spectacle in publishing right now. Pecker, 52, is king of the supermarket tabloids. His company, based in Boca Raton, publishes the National Enquirer, the Globe, the National Examiner, the Sun, and Weekly World News. But Pecker wants to turn American Media into a major magazine company. In some ways his plan sounds as likely as the guy in a recent issue of the Sun who fixes cars with prayer. But Pecker has a secret weapon: pockets!

You know those racks with publications in them at supermarket checkout counters? American Media controls 65% of them, and they are great for moving the tabloids, which are impulse purchases with few subscribers. (Honestly, do you know any?) Pecker figures that by acquiring and launching new magazines and putting them in the rack pockets, he can get people to buy them the same way. Which is why the reading material in the checkout line is getting stranger and stranger.

Pecker has just launched MPH, a magazine described as Maxim meets Car and Driver. Soon to follow are Looking Good Now, a $1.99 health and fitness magazine (to be sold exclusively at Wal-Mart); Star Shop, a publication devoted to helping readers dress like celebrities; and Sly, a fitness title for older men, in partnership with actor Sylvester Stallone. He has also bought body-building tycoon Joe Weider's publishing empire, which included magazines such as Shape, Flex, and Muscle & Fitness.

The math is supposed to work like this: Pecker paid $766 million for American Media in 1999. That was seven times Ebitda, or earnings before interest, taxes, depreciation, and amortization. Magazine companies generally change hands for higher multiples--around ten times Ebitda. Pecker and his majority shareholder, Thomas H. Lee Partners, believe that by surrounding the National Enquirer with glossy magazines they can take American Media public for as much $2.4 billion--12 times the Ebitda they expect next summer. Never mind that the company has borrowed nearly $1 billion in junk bonds and that credit rating agencies are skeptical about American Media's growth prospects.

Here is Pecker's dilemma. Over the past four years, newsstand sales of American Media's tabloids (including Star, which the company no longer refers to as such) have fallen from five million copies a week to three million. This is largely because readers now can get the news that's unfit to print from the Internet and celebrity cable networks. Pecker's plan to restore Star's circulation by going glossy isn't working, so far. As for taking the whole enterprise public, consider: There are no major freestanding publicly traded consumer magazine publishers. Time Inc. is a part of Time Warner, the media and entertainment behemoth. Meredith Corporation, publisher of Ladies' Home Journal, is also a television station owner. Reader's Digest sells books and CDs along with its magazines. On top of all this, Moody's Investor Service has put American Media on "review" for a possible ratings downgrade. With all that in mind, would you buy stock from this man?

True, American Media's revenue has grown, largely through acquisitions, from $305 million in 2004 to $515 million in fiscal 2004, which ended last March. Ebitda has risen in four years from $107 million to $154 million. The reason the numbers don't look worse is that Pecker has raised tabloid prices to make up for lost sales. But about half of American Media's revenues still flow from publications with headlines like CRUEL WILLIAM SHATNER CONS ENTIRE TOWN!

Perhaps the real issue is this: It takes a mad publishing genius to make supermarket tabloids jump off the checkout line racks. How else would anyone describe the late Generoso Pope Jr., who bought the National Enquirer with a $25,000 loan--reportedly from Mafia kingpin Frank Costello--in 1952 and turned it into a publication that could not be ignored? Its chief competitor, Star, was the brainchild of Rupert Murdoch, the Australian press baron now bent on ruling the heavens with his global satellite network. Pecker, the former CEO of Hachette Filippachi Media U.S., has his quirks--he has sought advice about how to operate his company from Victoria Gotti, daughter of the late celebrity mobster John Gotti, and hired her as a Star editor. He once had his coffee chemically tested by his security guards to see if employees might have urinated in it. But is David Pecker crazy enough to save the National Enquirer?

MOM USES SON'S FACE AS ASHTRAY. That was a headline in an early edition of Generoso Pope's National Enquirer. Pope was a firm believer that his readers wanted to feel something in their gut. He noticed that drivers slowed down to look at car accidents, so he published pictures of those. He also published Lee Harvey Oswald's autopsy photo.

Then Pope discovered that he could reach a mass audience by turning his ravenous newsgatherers loose on celebrities. When Elvis Presley died in 1977, Pope sent an army of reporters to Memphis with $100,000 in cash to pay sources. The result was the Sept. 6, 1977, edition of the Enquirer with the cover story, EXCLUSIVE ... ELVIS, THE UNTOLD STORY and a photo of the deceased rocker in his coffin. It had been taken by one of Presley's cousins, who had been paid by the Enquirer. The issue sold 6,700,000 copies, the most in the publication's history.

Pope had other, wildly unorthodox ideas. In The Untold Story: My 20 Years Running the National Enquirer, Iain Calder, the tabloid's former editor-in-chief, writes that his boss wanted to build miniature robot helicopters to fly over celebrities' homes and photograph them. Pope also wanted to establish his own country on a Caribbean island and call it Enquirerland. He sent Enquirer stringer Lester Hemingway, brother of the famed novelist, to hunt for a site. He dispatched another reporter to the United Nations to find out how to create a sovereign state.

Nothing came of those plans, but in his relentless quest to boost sales, Pope came up with something brilliant in the late 1960s. He spent millions of dollars to create a network of pockets in the checkout aisles of supermarkets across the country. In three years he boosted the Enquirer's weekly sales from 750,000 to more than four million.

When Pope died in 1988, a Who's Who of media moguls--among them Murdoch, Robert Maxwell, and Penthouse's Bob Guccione--bid for his company. Ultimately, though, the Enquirer went for $412 million to a group of venture capitalists led by Boston Ventures. They made changes that Pope would have considered heresy--cutting the Enquirer's editorial budget and raising the cover price from 75 cents to $1.39. "We all knew this would lower sales," Calder writes in The Inside Story. "But the extra revenue made us very profitable." The Boston Ventures group further increased revenue by purchasing Murdoch's cheerier Star for $400 million and entering into contracts with Wenner, Hachette, and others to distribute their magazines in grocery stores.

In 1998, Boston Ventures put the word out that it wanted to sell the company, now named American Media. But the consensus on Wall Street was that the current proprietors had plucked all the low-hanging fruit. There was only one serious buyer: David Pecker.

"I WAS BORN in the Bronx," says Pecker. "My father was a bricklayer. It was unusual being in that industry because most of the bricklayers are Italian. Being Jewish, he had to learn to speak perfect Italian."

Pecker has come a long way since then. He has houses in Boca Raton and Greenwich, Conn. He dines at the Four Seasons. He drives a Porsche. Sitting in his Park Avenue office on this day, he is clad in a dark pinstripe suit and a monogrammed shirt with large, gold cuff links. His graying hair flows over his collar. But he still speaks with a thick New York City accent and carries himself like a street fighter.

Pecker's father died when David was 16, but he was already bringing home a paycheck of his own. While still in high school, Pecker worked as a bookkeeper for construction companies. He bought and sold used cars when he attended Pace University. He graduated with a degree in business administration in 1973 and went to work as an auditor for Price Waterhouse.

In 1979, Pecker landed a job in the accounting department of what was then the CBS magazine group. Peter Diamandis, the group's former president, says Pecker showed promise. "He always had the answers to a thousand questions," Diamandis recalls. Pecker became Diamandis's controller and one of his inner circle. He helped Diamandis orchestrate a leveraged buyout of the CBS magazine group in 1987 and had a $5 million payday when the bulk of the magazines were bought by Hachette. Pecker stayed on to run the magazines at Hachette with his boss. Three years later, Diamandis quit after a disagreement with his French bosses, and before long Pecker was given the top job.

The new CEO quickly earned a reputation as a bottom feeder who bought magazines that other publishers were happy to unload, like Mirabella and Travel Holiday. He established himself as one of the industry's more colorful figures. He drove a cream-colored Rolls-Royce Corniche convertible. He took advertisers to Rao's, the East Harlem eatery where gun-toting mobsters rub shoulders with faux Hollywood tough guys like Bruce Willis and Robert DeNiro. He was so taken with Rao's co-owner Frank Pellegrino that he paid him to look at movie scripts that Pecker was toying with producing.

Carlo Boccia, a former Drug Enforcement Agency special agent, was hired to sweep Pecker's office for bugs. Boccia, who spoke French, also eavesdropped on visiting Hachette executives from Paris. "They might not have liked him," says Boccia, now director of Boston's Office of Homeland Security, "but they knew he was a producer, and they backed off him."

In 1996, Pecker created a scandal by killing a story slated to run in Premiere magazine, a joint venture between Hachette and Ron Perelman's New World entertainment company, that investigated the Planet Hollywood restaurant chain, in which Perelman had a financial interest. (Pecker now regrets the incident: "It will probably be on my tombstone," he says sheepishly.) His peers made it known that they thought he had all the class of the used-car salesman he once was. Pecker once was introduced at a Magazine Publishers of America function as "David Pecker from the Hatchet Company." He quit the group.

Pecker had his flops. By the time he left Hachette in 1999, Family Life, Mirabella,and Travel Holiday were bleeding red ink. George, the journal of politics and pop culture that Hachette launched with the late John F. Kennedy Jr., was losing $10 million a year. But titles like Car and Driver and Elle were strong, and the biggest advertising boom in history was underway. During Pecker's ten years at Hachette, the company's revenues doubled, to $600 million, and its profits rose from $30 million to $100 million.

Pecker tried, and failed, to persuade his French superiors to take the company public in the U.S. Crushed, he decided to leave. So he was all ears when James Lee, vice chairman of Chase Manhattan, gave him a ride back home to New York in his company's private jet from a Chase conference in Colorado. Lee told Pecker he should consider buying a publishing company backed by a private equity firm. "We'll finance you right away," Lee said. He had just the company for Pecker: American Media. He also had a private equity firm in mind: Evercore Partners, co-founded by Roger Altman, formerly deputy treasury secretary in the Clinton administration.

The idea appealed to Pecker. Hachette was one of American Media's clients, so he understood the potential of its supermarket pockets. He also thought he could spruce up the tabloids with tricks he'd learned at Hachette, and use their prodigious cash flow to buy magazines.

In May 1999, Pecker and Evercore bought American Media. Six months later they bought Globe Communications, American Media's only tabloid competitor, for $105 million. That company's flagship title, Globe, is a nastier version of the National Enquirer (it recently distinguished itself by publishing the name and picture of Kobe Bryant's alleged rape victim). The deal also brought in National Examiner, a more upbeat, celebrity-focused tabloid (CHER TELLS HER SPOILED KIDS: GET A JOB! GET A LIFE!) and Sun, an otherworldly tabloid devoted to predictions and prophecies (NOSTRADAMUS COVER-UP!).

Pecker reduced expenses by consolidating his tabloid operations in the former Globe Communications headquarters in Boca Raton. That wasn't a big deal for the staff of the National Enquirer and Weekly World News, whose offices were ten miles away in Lantana. But Star was in Tarrytown, N.Y. Only three people on Star's staff of nearly 60 made the move.

Pecker tried to buy magazine companies but was outbid. Primedia topped his offer for eMap's U.S. division, which included Motor Trend, Hot Rod, and Stereophile. American Media lost a bidding war to Time Warner for Times Mirror's magazines.

American Media launched new titles, but discovered that the company's pockets worked only if they held publications that people wanted to read. Mira, a Spanish- language tabloid, never came close to selling the 200,000 copies a week that Pecker forecast. It is now a biweekly that turns a modest profit of $500,000 a year. Pecker predicted that Auto World Weekly, a magazine for car buffs, would sell 400,000 copies a week, but it never got any traction, and he shut it down after losing $5 million.

Worse, Pecker's plan to refurbish the National Enquirer didn't work. He upgraded the paper and added color, raising the price to $1.49, but sales continued to fall. Things got even worse after Robert Stevens, a Globe photo editor, died of anthrax poisoning in September 2001. Readers stopped buying tabloids, fearing they might be tainted. Pecker had to go on Larry King Live to explain that it was safe to read the Enquirer.

Pecker got a break in January 2003 when he bought Weider Publications for $357 million. The deal increased his company's debt to $1.1 billion, but finally he had some glossy magazines to work with. American Media paid a high price for Weider--13 times Ebitda--but Pecker was able to eliminate Weider's accounting and distribution operations. It was largely because of this that Thomas H. Lee Partners came aboard with an investment of $293 million, becoming the company's majority shareholder. "We have a high opinion of David, and we are high on this deal," says Thomas Lee, the firm's CEO. Evercore Partners cashed out its initial investment, reaping a $235 million profit, and stayed on as a minority stakeholder.

But tabloid revenues kept falling, and Pecker thought he knew whom to blame: Bonnie Fuller. She had taken over Wenner Media's US Weekly in February 2002 and changed it from a People look-alike into a snappy digest of celebrity photos and cheeky captions (sample cover line on Angelina Jolie and Billy Bob Thornton: BEHIND THE BREAKUP RUMORS: WHAT'S REALLY HAPPENED TO HOLLYWOOD'S WEIRDEST AND WILDEST LOVE-STRUCK COUPLE). "She has this very simple, almost idiot-savant formula in terms of creating editorial that connects with readers," says Simon Dumenco, a columnist for Folio. Newsweek called Fuller "the queen of the lowest common denominator." Gwyneth Paltrow called her "the devil." But US Weekly's readers loved her editorial style. In the first six months of 2003, the magazine's circulation rose by 8% over the same period in the previous year. Pecker was convinced that US Weekly's gains were coming at the expense of Star, which experienced a 12% decline. "It was like a hot knife through butter," he says.

So Pecker made a bold move. He removed Star's editor, Tony Frost. He announced that he was moving Star to New York City. Then Pecker sought advice from an unlikely source: Victoria Gotti, daughter of convicted Mafia don John Gotti. Pecker had hired her as a gossip columnist (her title now is executive editor in chief) after meeting her at Rao's. "She really moved that gossip column, made it mean something," Pecker says. Others on the Star masthead were less impressed. "She can't spell, and she's a nightmare to fact-check," says a former Star employee. Gotti's response: "I have a 146 IQ. I don't think spelling is one of my weaknesses."

Pecker asked Gotti for names of editors in New York who might breathe new life into Star, and she suggested Fuller. As it happened, Fuller was at an impasse in contract negotiations with Wenner. Pecker offered Fuller a $1.5 million annual salary with $900,000 in circulation bonuses ($500,000 were guaranteed) and another $1.5 million of equity. "I'll only do this if you commit to turning Star into a glossy magazine," Fuller told him. Pecker agreed. He named her American Media's chief editorial director, meaning that she oversees all the company's tabloids and magazines.

BONNIE FULLER doesn't look like the devil. She's surprisingly nerdy for a famous editor. On a recent morning in her New York City office, Fuller wears too much makeup--lots of blush and eye shadow--and she peers out at her visitor from behind long bangs. "I totally believe in the celebrity newsweekly market," she says. "I didn't feel when I was at US that it had grown to its maximum potential."

Pecker and Fuller came up with a plan to attract younger readers and mainstream advertisers by making Star "celebrity-friendly." In August 2003, Pecker told the New York Observer's Sridhar Pappu: "Star is going to be much softer, more packed with photos, friendlier, and have relationships with all the major PR executives--which, before, the tabloids didn't have."

Star would also abandon its age-old practice of paying sources to find out, say, what was in J. Lo's underwear drawer. "Star was going to be competing against US Weekly and People and In Touch Weekly," Fuller says. "We wanted to be perceived as fully legitimate."

Readers weren't impressed. Star's newsstand sales declined 10% in the first six months of 2004--while US Weekly's newsstand sales climbed by 47%. Advertisers were even less pleased. Star's ad pages fell 25% in the first half of the year, while US Weekly's rose 27%. Meanwhile, In Touch's newsstand sales were up 73%.

Fuller insists that none of that fazed her, but a Star employee says the editor was so unnerved she called the employee at home in the middle of the night to complain that she was being pestered by old-time Star employees to make the covers meaner. "I'm nervous," Fuller told her employee. "I want to be celebrity-friendly, but scandal-ridden covers sell so much more."

With her newsstand bonuses at risk, Fuller made a decision. Even before Star went glossy in April, it was running covers like SCARIEST HOLLYWOOD MAKEOVERS! with before-and-after pictures of Farrah Fawcett. BEST & WORST BEACH BODIES was a natural step from there.

It's hard to imagine that Britney Spears enjoys the unflattering pictures of her rump that Star has published. But she should. At least that's what Fuller says. "Our readers love celebrities even more when they know that they have cellulite," she says earnestly. "They love them even more because they feel they identify with them even more."

But for some people at Star, this was a betrayal. They'd been lured to the magazine with the promise that it was going to be like US Weekly. Now it was morphing back into a tabloid. Star employees say the magazine never stopped paying sources (Fuller denies this). High-level people on the masthead like entertainment director Wendy Jensen have quit. Those who are still there speak as though they are suffering in some journalistic purgatory.

That sense of drift is in the air when Pecker meets with the editors of Star, the Enquirer, and the Globe in late September to review covers in the works. Star's cover promises revelations about the wedding plans of Britney Spears and Sandra Bullock (WEDDING BOMBSHELLS! BRITNEY SAYS, "I DO"--SANDRA BULLOCK WILL BE NEXT). Fuller boasts that Star broke the news about Spears's wedding on its website at 7:30 A.M. the day before. But now Star has to move the story forward. "We could be up against all three competitors doing Britney's wedding," Fuller warns. "It really is the story."

The word at the meeting is that People is paying $1 million for Spears's wedding pictures. (People says it paid much less than that.) What can Star do to compete? Star's editor-in-chief, Joe Dolce, the former editor of Details, Condé Nast's edgy men's magazine, explains that he decided to package Spears with Bullock after the Bullock story tested well with a reader group. He feels the gold border that frames the pictures of the two women will make the issue more appealing to readers. "It comes out very glossy and shiny that way and a little more lush."

"I don't know what People is going to have for all that money," says Fuller. "I guess they are going to have full cooperation. But there's no way US Weekly or In Touch has the kind of detail that we've got. We do have a great story here."

In the end, People gets the pictures, but US Weekly counters with a Spears cover that asks, DID SHE FAKE HER WEDDING? US Weekly cites an "exclusive document" that says the singer staged a "faux wedding." Controversy ensues as executives at Wenner Media and Time Inc. trade charges in USA Today, the Wall Street Journal, and the Washington Post about whether People overpaid for the wedding pictures. Star's coverage is ignored.

PECKER ADMITS that Star has gotten off to a slow start under Fuller, but he claims that by June it was selling more than a million copies a week on the newsstand. An examination of Audit Bureau of Circulations records shows, however, that for the last three issues in June, newsstand sales included 502,000 copies of Star distributed in beauty salons, tanning salons, spas, and doctor's offices. American Media says it received full cover price--$3.29--for those issues. It won't disclose who paid for them. Granted, many publishers, including Time Inc., use similar gimmicks, but in this case it undercuts the claim that Star is taking off.

Star's costly facelift is draining cash out of American Media. In the company's most recent quarter, ended June 28, Ebitda fell by 8%, to $26 million, compared with the previous year's quarter. Pecker shrugs off the gloomy numbers, predicting that Star's circulation will soar from 1.2 million to 1.7 million by next summer because of increased subscription sales. He boasts that Gap, Unilever, and Procter & Gamble have begun advertising. On the strength of Star's rebirth, the CEO predicts, American Media's annual revenues will rise from $515 million to $600 million by July, and its Ebitda will be $200 million. Then, he says, it will be time to start thinking about an IPO.

But it won't be if the tabloids at the heart of this company continue to shrink. Pecker has to fix them, and he has a plan--a redesign of the National Enquirer based on--gulp--a study by McKinsey & Co. What does McKinsey know about selling a publication with stories like MATT LEBLANC GAY SEX SCANDAL? Pecker says, "McKinsey told us we have to focus more on big crime stories, health, beauty, and expand the fashion. We don't have any beauty in the magazine. We are also doing more stories in the first person."

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