The Shatzkin Files


Inevitable consequences follow from the new hierarchy of power among publishers


The current very public battle over trading terms taking place between Hachette Book Group and Amazon has brought forth surprisingly few recollections by those reporting it (an exception here) of a similar fight last summer between Simon & Schuster and Barnes & Noble.

This is publishing’s near-term future. The two most powerful channels that deliver books to consumers — one dominant in online transactions and one dominant in physical store presence — are determined to wrest more margin, which ultimately also means more pricing control, from their publisher trading partners.

The B&N dispute becoming public was a first for them. The only prior disputes between a publisher and a trading partner that had ever leaked beyond the buyer-and-seller that I can recall involved Amazon, and they were rare. The first was when Amazon took the buy buttons off Macmillan books in 2010. That was a vain attempt to stop the industry from going to agency pricing and it lasted only a few days. They pulled back so quickly from that effort that I concluded that their famous customer-centricity made punishing publishers in ways that were evident to their shoppers (which this one, which also became public, really was not) something they’d decided was not in their best interests.

Drawing that conclusion was apparently a mistake.

What B&N did with S&S, apparently, was simply to stock less of what the publisher was selling and to deny them promotional opportunities. That’s not obvious in a retail store. Books that aren’t there, or which aren’t there in quantity, are not apparent. Bookstores can be out of any particular book at any time without surprising anybody and it would take a uniquely aware book consumer to notice that something new and hot wasn’t displayed as prominently as would be expected.

But Amazon’s action against Hachette was much more visible. Marking Hachette books, which include titles from many very prominent authors, available only with substantial delivery delays, was bound to be noticed by customers and by the industry at large. And, on top of that, pushing customers to consider alternatives to Hachette authors based on price is particularly inflammatory. Authors have reacted publicly. One also has to believe that there must be a substantial overlap between Prime customers, Amazon’s best, and readers of the illustrious Hachette author list, led by James Patterson for fiction and Malcolm Gladwell for non-fiction. But Amazon felt the fight was worth whatever pain they inflicted on their best customers.

I had thought the immediate catalyst for this conflict was that Hachette was the first publisher negotiating a new deal to replace the court-imposed agreements following the agency collusion case. Apparently that is not the case. Nobody is telling me what Hachette is trying to achieve in these negotiations. One would expect that print book margin, ebook margin (often affected by various co-op fees), and ebook pricing flexibility are probably the key moving parts in the negotiation.

But the details don’t really matter. What is important to understand is how, with one exception, the power has passed from the publishers who control the distribution of copyrighted material to the retailers who control the customers. In the past, the pain for the retailer living without ready access to the most commercial books was much greater than the pain for the publisher without ready access to one retailer’s customers. Not any more.

But there is that one exception: Penguin Random House.

One former executive from a big house in a private conversation attributed the fact that PRH doesn’t ever seem to be subject to Amazon’s bullying to the fact that PRH’s second-ranking executive, Madeline McIntosh, had a brief interlude as an Amazon executive between her former and present tenures at PRH.

But I doubt that’s the answer. There’s a simpler one. PRH is too big to bully and nobody else is.

Roughly speaking, PRH has 40-50 percent of the commercial trade books (very few of which are not published by the Big Five). The other four houses divide the rest, with HarperCollins substantially bigger than the other three: Hachette, S&S, and Macmillan. The high-profile books that people would expect to find readily available break down along the same lines, so approximately 50% PRH, 20% HC, and 10% for each of the other three. That means that punishing HC the way Amazon is now doing with Hachette or that B&N did with S&S is about twice as painful in disappointed customers, and punishing PRH would be five times more painful. I suspect that will be the difference between doing it and not doing it.

In the ebook world, where the author royalty is normally a percentage of the publisher’s receipts, giving more margin to channel partners directly affects the authors’ cut. In the print world, most contracts with big publishers are still based on the publisher’s suggested retail price, so the impact is cushioned. But any change that reduces publisher margins is likely to have an impact on authors sooner or later, leaving less in the pot for advances or promotion. I thought a couple of years ago that perhaps it was unwise for publishers to keep so much margin rather than giving it to authors because it made them a fatter target.

Of course, both Amazon and B&N have plenty of reasons to feel justified in pressing for more margin. Amazon, with its low returns, has historically been many publishers’ most profitable account. B&N knows that their stores are “showrooms”, driving sales at Amazon as well as in their own stores. Amazon has no reason to want to be the most profitable account for publishers on the back of their own investments, efficiency, and customer loyalty. B&N wants the publishers to pay for the value they reap from being on B&N shelves that is not resulting in B&N sales.

And both companies have ample reasons to feel financial pressure of their own. Amazon is historically unprofitable and riding a stock price that depends on confidence in their future that they both must continue to justify and maintain a healthy fear of losing. B&N is dominating a shrinking sector and its own vaunted supply chain efficiencies are bound to diminish as both the number of stores and the sales per store continue to decline. Neither of them feel they can afford to subsidize publishers. Both are perfectly comfortable using their marketplace leverage.

So the squeeze on Penguin Random House’s most immediate competitors — the houses I call the Following Four — will continue to tighten. (As will, of course, the squeeze against their less-direct competitors among small and mid-sized publishers.) It seems inevitable that a margin gap between what PRH earns on sales to the industry’s biggest customers and what the others get will grow with every new round of negotiations on terms. I have thought for some time that PRH would create an advantage in proprietary distribution that, combined with its bigger-than-all-others checkbook, would enable them to pluck authors away one by one. Now we see the likelihood of another, more immediate advantage: better margin on every sale from what are already the industry’s biggest accounts.

Over the past decade, we have seen online sales consolidate in one big account and bookstore shelf space consolidate in another. Unless something changes the negotiating climate, the next ten years is going to see similar consolidation on the publishing side.

Amazon is a global company and the tactic of pushing for more margin is not confined to the US. And being the “Penguin Random House of Sweden”, which Bonniers is, apparently does not insulate them from facing the same tactics Hachette is currently coping with.

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  • robert gottlieb

    Since the development of the chain book store retailers have been in control as they would only take books they wanted and at the right terms. Often times even telling publishers what book jackets they liked and how to change them. This is not new to our industry.

    Books are like any commodity inside Amazon. Large chain stores such as Walmart, Costco, etc. historically have pressed their suppliers on margins. That is not new.

    What I think may happen with the Bertelsmann group of publishing companies in the future might be an effort to sell directly to consumers bypassing to a large extent retailers both on line and in the physical space. In this scenario retailors both on line and in the physical book space would take a back seat position to what PRH would be doing.
    Robert Gottlieb
    Chairman
    Trident Media Group, LLC
    Literary agency
    http://www.tridentmediagroup.com
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    • http://idealog.com/blog Mike Shatzkin

      Robert, I agree that PRH will explore proprietary distribution sooner or later. My own hunches are that they’ll create a subscription service the minute Oyster and/or Scribd demonstrate there is a real market for it and they’ll create their own retail spaces inside other non-book stores. Direct sales to consumers of individual books or ebooks wouldn’t seem to be high on the list of useful initiatives; I wouldn’t look for that to happen anytime soon.

  • InklingBooks

    Thanks for an inside look at the giant publishers. It’s a vastly different world that than of small publishers and independent authors. Power confronts power, with the advantage to the largest. That’s how the ancient Anglo-Saxons settled their disputes.

    There’s also a factor that you hint at. The usual take is that the DOJ’s lawsuit has attempted to tilt the playing field in favor of Amazon over the major publishers and Apple. That’s true. But if what you say about PRH being big enough to not be bullied by Amazon and to benefit when Amazon bullies others is true, then the DOJ’s also working to concentrate power in one or at most two giant publishers. That’s not likely to be in the interests of the public or of authors.

    Authors, even the bestselling ones, may seem to be on the sidelines in these battles among titians. But perhaps they should engage in asymmetric warfare, which Wikipedia defines as, “a conflict in which the resources of two belligerents differ in essence and in the struggle, interact and attempt to exploit each other’s characteristic weaknesses. Such struggles often involve strategies and tactics of unconventional warfare, the weaker combatants attempting to use strategy to offset deficiencies in quantity or quality.”

    J. R. R. Tolkien did precisely that in the 1960s when Ace Books pirated his The Lord of the Rings. Here’s Wikipedia’s explanation:

    ——
    In 1965, Wollheim argued that there was a copyright loophole in the American edition of The Lord of the Rings by J. R. R. Tolkien. The Houghton Mifflinedition had been bound using pages printed in the United Kingdom for the George Allen & Unwin edition, and as a result, U.S. copyright law might not protect the text. Based on this view, Ace Books published the first-ever paperback edition of Tolkien’s work, featuring cover art and hand-drawn title pages by Jack Gaughan. After considerable controversy and the release of a competitive authorized (and revised) edition by Ballantine Books (the back covers of which included a message from Tolkien urging consumers to buy the Ballantine edition and boycott any “unauthorized” versions – referring directly to the Ace editions). Ace agreed to pay royalties to Tolkien and let its still-popular edition go out of print.

    —–

    That’s not all. Before those remarks on the back of the revised Ballantine edition, Tolkien was attaching a note to letters he sent to U.S. fans, explaining how he was being cheated by Ace. That led to a boycott of all Ace books, which also pressured it to change its ways.

    My suggestion to authors who are fortunate enough to have a fan base is to establish direct contact with fans, including a website, a blog and perhaps an email list. Season it with enough interesting material, maybe even free short stories, to keep fans coming back. When a mess like this Amazon one develops, they can be informed, after which they may take their business elsewhere or perhaps send angry letters.

    The very higgly-pigglyness of this approach gives it power. Unlike an ad campaign or corporate press releases, the bully doesn’t know just how much impact is taking place or where it will come from next. Much of it will be taking place in what one James Patterson tells another or at what point avid readers decide, “No, not a Kindle Fire this time. I don’t like how Amazon treats authors. This time I’ll pay a little more for an iPad.

    A suggestion for some talented web developer: Create just such a website, one deliberately designed for authors to stay in touch with their fans.

    –Michael W. Perry, Inkling Books and my start on such an idea: http://inklingbooks.prosite.com

    • http://idealog.com/blog Mike Shatzkin

      Of course authors should communicate directly with readers as much as they can. One literary agency we are working with on the digital marketing side had that as our explicit charge: “teach us how to turn our authors into list-gathering machines”. But I think it will be the very rare author that will have the power to affect the overall commercial discussion. And, frankly, I think it will be a very rare author that will want to bait Amazon, where damn near half of many authors’ sales are coming from!

      I wouldn’t say the DoJ worked to concentrate power in a single publisher. But if they’d allowed agency to stand, it would certainly have reduced the power of the biggest single retailer.

  • michaelsullivan

    A great article, thank you for sharing your insight. I do, and have in the past, agree with your assessment that the 52.5% of total income that the publishers have enjoyed in the past makes them look very fat and ripe for picking. As a Hachette author, I of course wish they would have spread that to us rather than leave themselves vulnerable to have Amazon pick it off. One way or another they are not likely to keep 52.5% when there are two other parties involved. Had they given more to the authors I do think that would have been a better way to share the pieces of the pie.

    • http://idealog.com/blog Mike Shatzkin

      There’s a lot to balance. It’s a tough equation and the houses basically look at each other and try to hold various competitive lines. (There isn’t collusion, but there is certainly “meeting the competition”.) The fact that they’ve all held means that they’re all inclined to hold, unless they can see a competitive advantage to changing.

      And everybody has bosses and owners to please, and it is hard to convince them that giving more away and making less margin voluntarily is a winning strategy.

      Mike

  • EricWelch

    You’re right, the Hachette/Amazon kerfuffle is reminiscent of the perpetual battles between retailer and distributor for margin. In the meantime there are other forces at work. Perhaps I overestimate the impact of the new subscription services like Scribd and Oyster. I’m a devoted ebook reader and have purchased a lot (and I do mean a lot) of ebooks. I used to buy lots of printed books, but no more. I recently thought I’d try out Scribd (Oyster is limited to iOS whereas Scribd has both Android and iOS aps — I have both kinds of devices). The attraction of having a huge number of books available for $9.00 a month is very appealing. And they have a decent ereader. If I were Amazon, I’d start looking over my shoulder. I now check availability on Scribd before purchasing on Amazon. One thing puzzles me and that’s royalties and publisher return. It’s my understanding that the publisher gets nothing until the reader has read 40% of the book. And what does the author get? A portion of the publisher net revenue? It seems to me this would be another impetus for authors to publish their ebooks through Amazon solely where they can be assured of a higher return. Your thoughts?

    • http://idealog.com/blog Mike Shatzkin

      Amazon is rumored to be starting a subscription service. They are apparently canvassing for titles right now.

      I don’t know what the threshhold is before a publisher (and thus an author) gets paid. But since part of the “attraction” of the subscription service to the content holders is “discovery”, they can’t pay the minute the book is cracked. I think 40% is a bit high; I’d expect (but don’t know) that the threshhold is much lower than that.

      Of course, Scribd is counting on the fact that you are atypical. The subscription model, for the services, is based on the “health club” scenario, where lots of people pay and hardly use the service.

      Yes, the author gets their share (usually 25%) of the publisher’s take. The deals now are rumored to be that the service “purchases” the book each time it is read past the threshhold. This is a very risky model. I am pretty sure that Safari, which pioneered subscription for books, divides a share of each month’s revenue among the books which are looked at during the month in proportion to pages viewed or something like that.

  • Raj

    It’s interesting to ponder how all the publishers are now selling to a retailer who also competes quite vigorously with them (via KDP). B&N has Sterling but that is minor and also doesn’t have the potential to disrupt publishers’ business model the way KDP does. One can only assume this happened because the publishers weren’t individually big enough to counter Amazon while it built up KDP.

    Now that PRH dominates, I wonder if they’ll try to unwind this arrangement, or limit it somehow… Although PRH can’t be bullied for more co-op dollars, KDP is something that provides a potentially more attractive alternative for both customers and authors and over time can limit how much of the economics PRH can take.

    Being published by a prestigious imprint is a quality signal, and distribution to bricks & mortar bookstores will also be a value add for years to come (even if B&N stores no longer exist), so PRH probably can get a premium vs. KDP. But KDP could limit the size of that premium.

    On the other hand, Amazon keeps making itself stickier and sticker, with their extensive selection, proprietary Kindle format, Prime program, Goodreads integration, etc. So it won’t be easy for PRH to walk away entirely from Amazon (or threaten to do so).

    It will be interesting to see if this turns into a battle in the future, and how it shakes out.

    • http://idealog.com/blog Mike Shatzkin

      Up to this point, KDP is more of a problem for second tier publishers than it is for the majors. I don’t think Random House is losing any authors to KDP right now. Sterling, on the other hand, had a real sales force and relationships with tons of indie accounts and other chains. I think B&N should have used Sterling as a way to bring bigger books “in house”, which would have put the retaliatory shoe on the other foot (Amazon’s).