For the second time in three years, the Chicago Reader has a new owner.

On Tuesday, a New York-based hedge fund took control of the Reader's parent, Creative Loafing Inc., by winning a bankruptcy court auction against the weekly chain's founding family.

Atalaya Capital Management won the auction with a $5 million bid and pledged to keep the company's six papers, including the Reader, up and running.

Tampa's Eason family, which founded Creative Loafing and bought the Chicago Reader in 2007 with a $30 million loan from Atalaya, argued to the court that the hedge fund would seek to liquidate the chain of six papers to recover its money.

But Atalaya has taken several steps that indicate it plans to make a go of it as a publisher, including hiring two longtime newspaper men with ties to Chicago. James O'Shea, the former managing editor of the Chicago Tribune and editor of the Los Angeles Times, will be an editorial adviser and board member of the new company. Richard Gilbert, former president of the Des Moines Register and chief executive of Glenview-based Pioneer Press, will take over as interim CEO.

O'Shea said he is confident the new ownership will fund growth at Creative Loafing's six titles, despite the advertising downturn that has plagued the entire industry.

"They're serious about this," he said. "If they [weren't], I'd have said get somebody else."

The Reader, founded in 1971, has long held a prominent niche in Chicago's media landscape by combining often-incisive long-form journalism with a comprehensive set of entertainment and cultural listings. But the last few years have been especially difficult ones.

Creative Loafing bought the Reader and its sister Washington City Paper in 2007 to fulfill CEO Ben Eason's dreams of building the second-largest publisher of alternative weeklies in the nation. He already had four titles: in Tampa, Atlanta, Charlotte, N.C., and Sarasota, Fla. Adding Chicago and Washington doubled the company's circulation to almost 500,000 copies weekly.

But Eason's big bet came just as the market for newspaper advertising began its historic skid. Papers generally began to see big declines in revenue as advertisers slowed spending or shifted dollars to the Internet. Weeklies like the Reader, which has a circulation of 100,000 copies, were especially hard hit since much of their revenue came from classified ads, which have rapidly been gravitating to Web sites such as Craigslist. It didn't help that the Chicago paper faced new competition from emerging publications such as Time Out Chicago and RedEye, the Chicago Tribune's free daily.

Court documents show that the Reader's loss of classified revenue sent it into the red shortly before Creative Loafing bought it. The new company restored cash flow by cutting editorial staff, outsourcing some operations and reformatting the paper into a tabloid. But after rounds of cuts and layoffs at its various papers, Creative Loafing filed for Chapter 11 protection in September 2008, with Atalaya as its biggest creditor.

The court eventually set up an auction for the company, with the Easons and Atalaya as the only bidders. Atalaya's $5 million offer easily topped the Eason family's bid of $2.32 million.

What remains unclear is how Atalaya thinks it can turn a bankrupt chain of weeklies into a profitable and growing enterprise. Although there are signs that the national decline in advertising spending is bottoming out, even the strongest newspaper companies are having trouble envisioning how they will survive in a future increasingly defined by digital publishing.

Court documents show that Eason's management team was estimating that a restructured Creative Loafing would finish 2009 with about $27 million in revenue and $1.2 million in operating cash flow. They predicted a drop in revenue in subsequent years to between $22 million and $23 million. Declining print revenue would be partly offset by increased online revenue. Cash flow would be maintained by cost cuts.

Gilbert said he, like O'Shea, believes the only way to turn the company around is to keep investing in talent. O'Shea said he will advise that revival start with strategically rebuilding editorial staffs to improve the product and create new revenue opportunities.

Gilbert insisted that taken from an investment company's perspective, rebuilding what the papers offer readers is the only path to success.

"What has been made very clear is that if a newspaper is unsuccessful, its value plummets," Gilbert said. "There is no indication that reducing the value for readers increases the value for you."