Martha Stewart, J.C. Penney vs. Macy's: Inside the lawsuit

Martha Stewart holds up a card at Martha Stewart Living's offices in New York in 2005 on her first day back to work after she was released from prison.
Timothy A. Clary/AFP/Getty Images

(CBS News) The last time Martha Stewart was seen before a judge publicly, she was sentenced to five months in prison for obstruction in an insider trading case.

This week, her company is in court in what is turning into a bitter battle between arch rivals and old friends. Stewart is being sued by Macy's for breach of contract. Her new deal with J.C. Penney puts Stewart's brand in a tough spot.

Macy's says it has the right to sell Martha Stewart Living products exclusively. But J.C. Penney and Martha Stewart say they'll have to learn to share.

It all began in 2011, when J.C. Penney announced a nearly $40 million investment in Martha Stewart Living. The move seemed like a good deal for the so-called "queen of crafts."

J.C. Penney also planned to create "mini" Martha Stewart shops inside their own department stores, and that's where the problems began. Stewart already had an exclusive contract with another large retailer -- Macy's. Macy's considered the move a breach of contract, and is suing both their partner and their rival.

Retail analyst Brian Sozzi said, "We have two retail giants going head-to-head over a brand that's still strong after so many years and an important driver of traffic."

Sozzi says hundreds of millions of dollars are at stake and J.C. Penney has the most at risk. "If they win, I think J.C. Penney stock will go higher because that's another traffic driver, that's more potential sales, that's more interest in J.C. Penney, the turnaround story."

In court on Monday, things got personal when Macy's chief executive officer Terry Lundgren took the stand and described his last phone conversation with Stewart more than a year ago. She called to tell him about the J.C. Penney deal -- the night before it was to be announced. Lundgren said, "I was completely shocked and blown away. I was literally sick to my stomach."

Lundgren got angry when Stewart tried to tell him the J.C. Penney deal would be good for Macy's, as well. He said, "I think that's when I hung up, I haven't responded to her since that phone call and I don't intend to."

In the days ahead, Stewart and J.C. Penney chief executive officer Ron Johnson are expected to take the stand. But no matter the outcome, Macy's and Martha Stewart will have to live with each other.

Sozzi said, "Macy's? Most of their store is still working. They will continue milking the Martha Stewart brand for all it's worth They have her locked up until 2018."

This is not a jury trial. The case hangs on whether Justice Jeffrey Oing of the New York State Supreme Court believes those mini-Martha Stewart stores within J.C. Penney are the same as standalone-branded Martha Stewart stores -- which the Macy's contract allows.

Watch Rebecca Jarvis' full report in the video above.