Michael Cader

One of the most significant pieces of news to come out of Tools of Change is that O’Reilly is going into the distribution business for ebooks. This is indeed, a “tool” of change. It is also a harbinger of times to come that threaten a lot of big companies: major publishers; the big distributors like Perseus, NBN, and IPG; the digital asset distributors including Ingram, LibreDigital, North Point codeMantra, and the fledgling operation at Bookmasters; as well as the digital wholesaling operations at Ingram, Content Reserve, and Baker & Taylor.

The O’Reilly offer is to do whatever conversion is necessary to deliver files to a wide range of ebook channels for free and then to make the ebooks available through that retailing network for a charge of 25% of the dollars received. One prospective client told me that O’Reilly is willing to do a one-year contract.

This both an object lesson and a serious shot across the bow of the legacy giants of the print book business.

We’ve made the point here before that big publishers have a competitive advantage built on print-world capabilities, among them being the ability to get fast printings and reprints; the ability to quickly move books in and out of a distribution center; the ability to ship books according to the receiving requirements of many intermediaries, large and small; and a strong sales network with accounts, mostly brick-and-mortar, that sell printed books. All of these things require pretty massive scale. You couldn’t consider doing them well yourself for a $1 million (in sales) company or a $10 million company and it would be challenging to be competitive doing them with a $50 million company.

The scale required to do effective print book distribution affects both the supply and the demand in the distribution business. It means there are a lot of companies too small to do it well for themselves (creating lots of demand) and very few companies with the scale to do it well (creating a limited supply of providers.) Even so, as the need for scale along with declining overall sales have driven the big publishers deeper and deeper into the distribution business (pushing up the supply of distributors), prices for distribution have fallen steadily for at least the past decade.

Of course, anything that requires expertise benefits from some scale to develop it. And that’s what O’Reilly has in digital distribution. Partly because of the nature of the company’s audience, but largely because they have been aggressive and innovative about exploring every conceivable avenue for ebook distribution and developing a tool set that makes it possible for them to try new channels and opportunities quickly, O’Reilly has more scale, and therefore more expertise, than anybody else in consumer ebook distribution (except, arguably, some publishers in the romance space.) It is quite believeable that they can put ebooks into more channels with more efficiency than anybody else. And that’s an expertise that is largely (but not completely) topic-agnostic.

So we have a real Man Bites Dog story here. In the print world, O’Reilly is distributed by Ingram, which has invested heavily in ebook distribution. But not only does Ingram not get to be the distributor of their client’s ebooks, O’Reilly is issuing what amounts to an open invitation for all other publishers, including their fellow distributees at Ingram, to use them for ebook distribution.

(In his wrap-up talk at Tools of Change, Tim O’Reilly referenced a remark John Ingram had made to him at dinner the night before. On reflection, one wonders how the part of the the dinner conversation about ebook distribution went.)

This new challenge is playing itself out all across the distribution landscape. In the past week I have had two conversations with smaller publishers who have distributors on the print side. One is repped by one of the big independent distributors and the other by one of the Big Six. Both are planning their ebook distribution strategies, and neither of them intends to use their print distributor to help in any way.

The one distributed by an indie distributor is seriously tempted by the O’Reilly offer. This well-established company is quite comfortable taking responsibility for its own sales if they don’t need scale to handle it, so they have already pulled Amazon out of their print distribution deal. They planned to do digital on their own. They’ve had a digital workflow for a while, so their current books are in XML documents that make ebook conversion pretty straightforward. (If the offer of totally free content conversion is correct, then O’Reilly may have developed some tools helping them automate the way to from PDF or epub to XML. And they solve the problem of getting from XML to anything else that comes along for all their books.) But this publisher still have an extensive backlist that needs conversion to XML. This company sees a 1-year contract with O’Reilly as a possible way to get the conversion done and to get a line on a large number of points of ebook merchandising that they might otherwise not have known. In any case, the big print book distributor — with all its sunk costs and infrastructure and years of performance and relationship — isn’t even getting consideration.

The other company, distributed by a Big Six publisher, has also decided that digital distribution through its print distributor is a non-starter. They have been looking at the many Digital Asset Distributors to handle their conversion and distribution and have been close to settling on one. This company also has a legacy conversion challenge. Might they now want to put the deal they’re close to on hold and explore O’Reilly?

I would if I were in their shoes.

Cader wrote Wednesday (behind his pay wall) about the smaller trade publishers who have been slow to enter the ebook marketplace. He springboards from the results of a survey Perseus did of its clients and which formed the basis of a presentation they did at Tools of Change. Cader observes that 2/3 of Perseus’s 300 clients don’t use their Constellation service, their digital publishing assistance program (book distributor as DAD), at all. And, of those that do, he says:

Making ebooks available at all though looks to remain the biggest challenge for the survey group. The largest segment, 33 percent, said that fewer than 10 percent of their titles would be available as ebooks in 2010. Another 26 percent said half or fewer would be available, with just 30 percent expecting to have 75 percent to 100 percent of their titles available.

As ebook sales climb to very desireable levels, publishers of all sizes will pursue the revenue opportunities they represent. Trade book distributors have always lived on the reality that they provide the necessary scale to enable publishers to do what they do well that needs no scale: pick, develop, and deliver books people want. What requires a bit more scale but less to the publisher that specializes, and most small publishers do, is marketing. Distributors have never been much help there, frankly.

This perspective of the distributor was made very clear by the best-delivered presentation at Tools of Change, the one from Skip Prichard, the CEO of the Ingram Content Group. Skip was basically saying to the publishers: you do the content, we’ll do the rest. I know that Ingram’s perspective on a problem I’ve written about before — that publishers will have increasing trouble supporting the big infrastructures they have built for print — is that the publishers’ challenge creates opportunity for them.

And on the print side — the diminishing side — that is definitely true. What is not nearly as clear is whether on the ebook side — the growing side — they will face new, smaller competitors who have built a strongly competitive infrastructure without needing to be nearly as big. If that’s also true, then, one suspects, O’Reilly is not the only relative upstart that will be taking real business away from established players in the very near future.

There is actually a nice extension to this post that ties in nicely with my prior one on title P&Ls and the Motoko Rich piece in the Times about ebook pricing, but I’m going to leave that as a teaser for another one I may write someday because I’ve gone on long enough for now.

While I’m in Florida watching baseball games, as I am now and will be for the next few days, take a few minutes to respond the BISG survey supporting the “Points of No Return” Making Information Pay conference we’re organizing for May 6.

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Michael Cader did a brilliant analysis of Thursday’s New York Times piece on ebook pricing, published exclusively for paid subscribers to Publishers Lunch. The Times piece’s shortcoming was that it tended to sensationalize the news that the prices the public will pay for current brand-name ebooks will be going up. If you observe the book business for fun, you can perhaps afford not to have access to content like Michael’s analysis. But if you’re in it for a living and you want to seriously keep up with what’s going on, I suggest you save $20 somehow on other publications each month and reinvest it in a Publishers Marketplace membership. I am not the only blogger moved to make this suggestion by this piece.

I am working under the rash assumption that Cader will not sue me for quoting his remarks without regard to fair use limitations (particularly after the commercial in that first paragraph.) Of course, I do my best to add some Shatzkin Files value to my quotes and paraphrases as well.

Michael’s overall point, as I read it (and these are my words, not his): “we in the business know what’s going on with ebook pricing; apparently reporters outside the business do not. And therefore a great deal of misunderstanding is circulated among the book-buying public and it behooves the trade publishing community to get the word out to make sure that the public understands what’s really behind what they pay for ebooks.”

His device to illustrate this point is to describe some common misunderstandings fostered by the Times piece — all of which are real misunderstandings and none of which are just convenient straw horses — and knock them down.

Frankly, it is only the overall point on which I’m not sure I agree. I am not convinced it makes much difference whether we push the “truth” out or not. Amazon’s recent “concession” statement over the Macmillan dust-up tried to channel potential consumer anger at Macmillan and away from them. That’s an effort that is bound to fail. Everybody who buys from Amazon knows that they’re buying from Amazon. On the other hand, “Macmillan” is not an active book imprint at the moment in the United States. The books the corporation called Macmillan puts out are under the imprints St. Martin’s, Farrar Straus, and Holt, and their subsidiary imprints. My wife found the Macmillan Dictionary for Children online and that book is published by Simon & Schuster! So good luck to Amazon trying to get the consumer to punish a corporate entity whose name isn’t on the cover of its books.

But the myths Cader describes are ubiquitous misunderstandings and they were clearly promoted in the Times piece. As Michael describes them (in italics):

* $9.99 never was the top e-book price; people pay more than that every day.

The Times piece makes a big deal out of consumer expectations of the $9.99 price. Cader points out that recent data from the ebook retailer Kobo described at Digital Book World — which shows that at Kobo they sell as many books for more than $9.99 as they do for exactly $9.99 — and Amazon’s own data undercut that notion. Cader says surveys of Amazon data have shown that 30% of the SKUs are priced higher than $9.99.

I have been told directly by a responsible person at Amazon that 4% of the titles they sell are deep-discounted to $9.99 and those represent 25% of the total sales. Of the other 75% of the sales, many (most) are less than $9.99 without necessarily deep-discounting, according to Cader, 30% are more. I have personally bought many Kindle books for more than $9.99 and some for more than $14.99.

But what I’d see as the biggest fallacy in this whole “customer expectations” meme was not mentioned by Cader. So far we have a relatively small percentage of book readers who have ever purchased an ebook at all! General consumer expectations can not be set by a sliver of the group who are early adapters. In fact, publishers are being smart precisely because they are tackling this consumer pricing problem before the market really does become general and a large population of book readers do have experience with the current price structure.

* The implicit, false promise of cheap e-books was made by the people who profit, at very nice margins, from selling the devices, not from publishers.

This is true for the $9.99 books offered by Amazon and Sony and, now, Barnes & Noble. Other etailers, like Kobo or B&N before the Nook, were offering that same price to keep up with (keep down with?) Amazon. But the central point is right. Amazon created the expectation of $9.99 pricing to sell readers; publishers didn’t create it to sell books!

The two companies most likely to save publishers from an Amazon stranglehold on their future general readership, Apple and Google, would also place “margin from ebook sales” very low on their list of objectives for participation in the ebook supply chain.

If the market really could stabilize with three or more reliable paths to the general ebook consumer, with price competition among the content,  but not price-competition driven by external forces, it would be one of the most important strategic accomplishments of the current generation of publishing management, to whatever degree their policies enabled it to happen.

* Brand-new ebooks sold at $9.99 are generally sold at a loss by the retailer.

And, as Cader goes on to point out, this is led by a retailer with a $50 billion market cap with an implicit expectation that it will drive smaller retailers out of the game. Publishers are taking the steps they are explicitly to encourage a more diverse marketplace. So, Mr. and Ms. Consumer, whose side are you on?

* People who can afford an ereading device can afford all proposed ebook prices.

Cader is making the point that conscientious reporters should make put price complaints into context. I’d personally dwell more on the “dog bites man” aspect of reporting that people favor lower prices. Has anybody ever found a consumer who favored higher prices? Has anybody ever found anybody who would prefer to pay more for anything they buy? From here it would seem that all reports of what people say they want to pay or say they would pay in some hypothetical circumstances are pretty much meaningless. Michael says “put them in context.” I really wonder whether this kind of senselessly speculative commentary ought to be reported at all!

* Publishers are lowering [my emphasis] their ebook prices.

Cader captures the massive irony of what is going on here with this one. From reading this piece or from reading Amazon’s note to Macmillan, you’d get the impression that “greedy” publishers are “raising” ebook prices. That’s not actually the case. The publishers going to the Agency model are actually reducing their price per unit sold; they’re just insisting that booksellers not sell those books as loss leaders. As Cader put it, “we in the trade know that publishers are preparing to lower their ebook prices by 50 percent or more, and reduce their own profit margins. But customers don’t; they hear that publishers are raising prices.”

* The new “top price” is going to be $12.99 more often than not.

The public reporting is that the Agency-priced books from Apple will be $12.99 and $14.99, with no additional detail. Cader seems to know that most, or at least a large number, of those books will be at the lower of those two prices. Undoubtedly, some people will refuse a book they want to read on a device they paid over $200 for because of a $5 difference in price ($14.99) from their prior expectation ($9.99). But somewhat fewer will be reluctant at $12.99, which is where the price will apparently be a great deal of the time. Certainly, nobody writing for a newspaper knows the future balance between those two price points.

* Surveys show many people will pay more than $9.99 for ebooks.

Cader points out (and my personal repeated experience confirms) that people often do pay more than $9.99 now, even according to the stats we’ve seen. But what he doesn’t point out, so I will, is that those stats are stacked!  Amazon prices all the hottest and most desireable books at $9.99, and therefore so does Kobo and other Amazon competitors. So the clustering of consumer purchasing around that price is largely driven by the appeal of the product at that price point.

That is: people bought the book, not the price!

* Goldman Sachs says ebook prices are not the biggest factor in purchasing a device–but expensive devices are an obstacle.

This is from a survey that Cader has seen and I have not. But the point is that portability is the main benefit consumers see in ebook devices, with price running second and ease of purchase nearly even with price as a perceived benefit. Ebook purchase decisions are not made on price alone.

What this data also would tell us is that ebook reading is going to spread because the price of devices is coming down and the circulation of ebook-able devices, smartphones and iPads, is increasing regardless of dedicated reader prices.

* Publishers have rewarded and honored early ereader adopters with a lot of free book giveaways, and some very inexpensive price promotions.

Much has been made in other places (not in the Times piece and not in Cader’s report) of the fact that the Kindle “bestseller list” contains a lot of free or almost-free books. Some of those are public domain titles, but many are not. Those that aren’t are provided by publishers as promotions, usually an offer of an older book by a multi-title author who has a new one just out. Does any retailer billboard the publishers who “have made books available for you for free?” Not that I’ve ever seen.

I do believe that the price of content will be driven down over time because of the laws of supply and demand. The amount of content being made available every day is staggering. However, the established publishing companies still have pretty much a monopoly position on curating and branding it. Curating and branding save consumers an enormous amount of time and effort; that’s why they are willing to pay for them. Publishers and the authors whose brands they are enhancing and maxmizing are operating in an increasingly competitive world, but they are both totally sensible and totally unremarkable in trying to maximize the rewards for their efforts.

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Now I swear all this is true. As everybody knows, a very serious food fight broke out between Amazon and Macmillan late Friday night. All weekend Michael Cader led the way in ferreting out additional useful information and I spent most of today (Sunday) trying to write an analytical blogpost. I got it just about finished in the early afternoon, and the bottom line to what I’d written was “Amazon will not be able to sustain this.”

I decided to hold the post until after going to see Crazy Heart this afternoon and, when I came home, Amazon had already folded. But I had written a post that provided a lot of useful information, even if events had stolen my punchline.

So I’m giving it the once-over to edit it for the reality that Amazon has already announced that they will not continue to boycott Macmillan books.

It is received wisdom in Washington that when you have news you have to release but would prefer to have minimum impact, you release it on Friday afternoon. The latest tiff in the Amazon versus Big Publisher brouhaha went that idea one better; it appears to have broken in the middle of the Friday-to-Saturday night.

About midnight that evening, David Wilk alerted the Brantley list to a VentureBeat post that indicated that Macmillan titles were no longer available at Amazon.

By noon the following day, Brad Stone had posted a further explanation to the NY Times blog.

The VentureBeat post had no clue as to what was going on and even carried a link to a post from author John Scalzi suspecting a “glitch.” But Stone pinned down that the disappearance of the Macmillan titles was, indeed, retaliation for Macmillan’s move to the agency pricing model, first revealed by Michael Cader in Publishers Lunch and discussed on this blog last week.

Sometime late Saturday afternoon, Lunch posted a narrative explaining what was going on and including a paid insertion from Macmillan: a letter from Chairman and CEO John Sargent giving Macmillan’s account of what had transpired.

Which, as many people who care know by now (as I write this on Sunday morning and afternoon) is that Macmillan told Amazon about the new agency model, by which Amazon would actually get ebooks at lower prices than now but also by which Macmillan would set the prices to consumers. Amazon retaliated with what is, more or less, a “nuclear option.” Macmillan books are no longer on sale except through third party vendors (extending the ban to those dealers would open up yet another big can of worms for Amazon and they hardly need any more) and that includes Kindle. Most of the third party vendors are selling used books and no Macmillan books are being transacted directly by Amazon at all.

We have said on this blog, repeatedly, that publishers’ discounts to retailers would have to come down and that the windowing tactic (delaying ebooks from being available when the hardcover first comes out) was all about pricing control and nothing else.

What I want to accomplish in this post is to lay out clearly what is happening and then enumerate some key points about what’s going on: paradoxes and prospects.

Before the Agency Model (like “now”), publishers sell ebooks at about 50 off an often ridiculously high established price (”parity” is common; same price as a hardcover on a new book) to retailers who were setting the prices to the consumer themselves and, following Amazon’s lead, always discounting. The publishers are paying the authors royalties that are frequently 25% of net, which amounts to 12.5% of publisher declared retail. Some publishers pay 15% of retail; Sargent, in a previous letter to agents, indicated a desire to move from 25% of net to 20% of net, which would be 10% of retail.

The proposed Agency Model will have publishers setting a price lower than the established retail they had before but higher than the deep discounts Amazon led retailers to sell at. The publisher intends to  pay 30% of that established price to the retailer and 25% of either the full consumer price or of the 70% “net” (still to be determined) to the author. This means that the retailer will get a higher price from the consumer and a better margin than they realize now (even though a lower percentage of the “established” price). The author’s cut per copy could actually be reduced!

The wholesalers, Ingram and Content Reserve, often get the same discount as publishers. They handle the stores and libraries publishers serve don’t want to deal with directly. So those stores and libraries get less margin than the big ones publishers handle without an intermediary. One thing that was new to me that came out on the Ebook Supply Chain panel at Digital Book World is that publishers insisted on vetting the accounts that would be selling their books to make sure they didn’t violate territorial restrictions. So Ingram (and presumably Content Reserve) has to manage a granular control by title by publisher by account.

It is not at all clear how the Agency and price maintenance protocols get applied through wholesalers. Perhaps this means that smaller accounts and libraries just won’t have the newer titles that will only be released on the Agency basis (assuming that the scenario Sargent describes is what is also followed by other big publishers.)

This is a bizarre paradox, really. Macmillan actually proposed to sell Amazon the ebooks at what is, in effect, a lower wholesale price than Amazon gets now and their enforcement of a retail price puts more margin into Amazon’s pocket on every sale made than they earn now! And Amazon is fighting it.

Sargent’s note makes clear that the discount-off-retail pricing that has existed all along will still be offered, but that newer books wouldn’t be included in that offering. Those would be available only on Agency terms. What is not clear is whether Macmillan intends to continue the Agency terms past the nine-month “window” for new books. We’d guess they will for some accounts.

But that leads to another paradox because publishers unambiguously benefit if retailers sacrifice their own margin and discount when hardcover price maintenance and NY Times Bestseller list rankings are not at stake. Lower prices to consumers sell more copies. Presumably retailers will continue to want to compete on price and will do so when sales terms allow. But what does that do to the publishers’ challenge of “setting” prices for those accounts that want that done across the entire list?

Yet another paradox is the position of the agents. On the one hand, we have seen that many of those representing big authors see the same danger the big publishers do of inexpensive ebooks undercutting valuable hardcover sales and Times Bestseller rankings. On the other hand, publishers lowering established ebook prices and reducing their take from their intermediaries could often mean lower royalties for authors. But not necessarily.

If publishers are paying on “net receipts” (and many are) and if a) retail prices aren’t cut by as much as half (which they often won’t be) and b) if the publisher doesn’t deduct the Agency “commission” from its computation of net (sure to be debated), then the basis of the author’s royalty wouldn’t go down.

Quick summary: if you have a $25 list price ebook on which the author’s royalty is 25% of net, the author is now getting 25% of $12.50, or $3.125. If that book becomes a $15 ebook with a 30% commission, the author would get $3.75 (a nice increase) if the commission is not deducted first and $2.625 if it is (a sharp cut.) Of course, the $25 and $15 prices described here are notional and with different prices (as they say) “your results will vary.” If that notional book had been priced at $30 in hardcover, the author’s share would have been $4.50 and the ebook price change would clearly cost them something on every copy.

Author Charles Stross had a very insightful post on his blog, speaking from the perspective a gored ox (he has books published by Macmillan which have been taken down.) Stross makes clear that Amazon is miffed because their competitive strategy of driving away ebook competition through aggressive discounting will be foiled by publisher price-setting. Stross says:

Amazon are going to fight this one ruthlessly because if the publishers win, it destroys the profitability of their business and pushes prices down.

I’m not sure it “pushes prices down”; I think it actually pushes (ebook) prices up, at least temporarily. But the points Stross makes about Amazon wanting to achieve ebook hegemony and the Agency model being part of the publishers’ plan to beat that back and strengthen other players seem right to me.

We had a lot of this conversation last Spring before Sourcebooks’s windowing move with Bran Hambric, followed by Hachette with True Compass and HarperCollins with Going Rogue, pushed this tussle between Amazon and publishers to the forefront. In his analysis at that time, Cader made the point that publishers were actually helping Amazon undercut other retailers with their “parity” pricing; making the ebook retail the same price as the hardcover print retail. His logic was that the high prices increased Amazon’s advantage over other retailers because they could better afford to sell high-profile titles at a loss than their competition. Meanwhile, the publishers (and authors working on “net”) continue to get higher ebook revenues than the consumer spending would really entitle them to.

My first question when all this arose overnight on Friday was “why Macmillan?” Sargent’s note may have answered that question: because John was in Seattle on Thursday officially delivering Amazon the Agency Model news that we only assume is going to come to them from other publishers as well. One presumes that Amazon thinks that taking such drastic action as this might discourage the other publishers thinking about doing the same thing (and the iPad announcement on Wednesday would lead us to think that four of the remaining five Big Six players are indeed working out the details of a similar consumer-price-controlling sales model.)

And Amazon apparently figured out, as I was writing these words, that the only brand blown to smithereens by the nuclear option would be theirs. It is hard to imagine how extensive the brand damage could have been if Amazon delisted even one more major publisher along with Macmillan for even a couple of weeks. For a brand whose principal attributes are dependability and dedication to the consumer, it would have been catastrophic.

Amazon says now that the boycott is temporary and they were candid about the fact that they have no choice but to yield. They take a swipe at the publishers’ copyright-based “monopoly” on titles. But this was a really bungled response on every level. Amazon deserves credit for being smart enough to walk this thing back within 48 hours. Amazon may have to learn something new for them in the ebook space: how to be one of a number of players, not the only game in town.

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A simple and perfectly sensible suggestion emerged on the Brantley email list yesterday but the conversation around it showed that some stark realities about the book world have not yet been taken on board, even in very sophisticated circles (which this list is.)

The list discussed a suggestion from librarian Josh Greenberg  that publishers take note of the “rental” model built into the iTunes store as an alternative way to collect money from readers for ebooks.

Greenberg’s piece calls out a fact that many people in publishing have a great deal of difficulty with: that all ebook sales must be licensing deals. They can’t be anything else. Greenberg says:

“When we think about iTunes, we think about a basic fee-for-purchase model. We’ll just leave aside the fact that you never truly “own” a digital file, you’re just buying a particularly-structured license to use it…”

He’s right. When you deal in printed books, you have a tangible object. When you deal in ebooks, you only have “code”. The first sale doctrine says you can re-sell the book or lend it or share it. But copyright law says you can’t re-sell, lend, or share copyrighted “code.” Many digerati (and many librarians not named Josh Greenberg) refuse to acknowledge this distinction.

But that’s a legal point, one that can be debated until a court or a Congress makes a ruling (and then beyond, actually, since we continue to fight battles even after courts or Congress have rendered their conclusion.) The challenge to Greenberg’s idea of switching to a rental model is not so debatable. It’s practical.

Implementing new models for book sales requires herding cats. It can never be done fast and many business ideas relating to content have foundered because it couldn’t be done at all.

What should be clear to anybody who has been following developments since the days a decade or more ago whenRocketbook and Softbook and Sprout were trying to get publishers to give them rights for their content propositions is that it takes a very persuasive sales pitch to get publishers to do so. That sales pitch must be delivered publisher by publisher, and then the impressive ability of publishers to discuss a problem to death takes over, and the new proposition might itself die before its owner gets an answer. Or certainly before its owner gets enough answers to get the new idea off the ground.

What was further made clear by the participation of agents at Digital Book World, and particularly by the opinions expressed by superagent Robert Gottlieb on the ebook “timing” panel, is that the publishers don’t make this decision without consulting with their upstream gatekeepers. Gottlieb made clear that a) it takes a very small number of lost hardcover sales to make an author’s book slip notches on the New York Times Bestseller list, b) he and his authors believe that a much cheaper ebook, or perhaps any ebook at all not reported as a hardcover sale, can make that critical difference between being Number 1 or being much further down the list, and c) the difference in several places on that list is worth losing some sales over.

So just imagine how Gottlieb and his star clients (and all the other agents and star clients) would react to a rental model!

Let’s add one more point before the next great suggestion is made. The same thing will be true of an even better model than rental (which also has plenty of precedent in media even closer to publishers, audio books): subscription sales.

The switch that Apple has made to the “agency model” is not of equivalent complexity from a business perspective. There we’re still “selling the book” (although we’re really licensing access to a file) and the amount of money flowing to the publisher is comparable. But, even there, the switch will not be simple. Publishers have signed contracts governing almost all their ebook sales (which is a further demonstration that this is different from selling physical books, for which signed contracts between publishers and vendors is by far the exception, not the hard and fast rule) which one could imagine the purchasing party (Amazon, Ingram, Content Reserve, Barnes & Noble, Kobo) believes prevents the publisher from changing the rules in the middle of the game.

What Michael Cader reported last week which we expanded on in a blog post and a CNN interview is that publishers can use the new agency model to hold back books from channels where they can’t control the pricing. This very much underreported exchange between Steve Jobs and Walter Mossberg of the Wall Street Journal makes it very clear that Apple expects vendors who would undercut the pricing publishers set for them will be denied access to the content.

We can look forward to continued battles over pricing and over the terms of sale between publishers and the downstream players in the ebook supply chain. But I think it will be a while before real alternative distribution schemes to the public make any appearances. In fact, they’re likely to occur in vertical niches first, where the big agents are less involved and the number of publishers one needs to get on board is something less than “just about all of them.”

A quick thanks to everybody who attended Digital Book World (and there were a lot of you.) I am hoping that the fact that all I’ve heard is praise and enthusiasm for the two day event is not just a result of people being kind to the guy who put the program together. I think we really did generate discussion on some issues that had previously been neglected. But most of all I’m proud of the job we did selecting panelists; everyone I saw presenting was smart, well-prepared and entertaining. Some we had seen in front of audiences before; some we only knew through our interviews in person or on the phone. But picking them carefully and one by one certainly seemed to work and it is the same formula we’ll use putting together Digital Book World 2011. I hope we’ll see everybody again there next year.

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The idea of an “Ebook Tipping Point” panel for Digital Book World arose when I wrote a blogpost last August on the occasion of the regular monthly release of the IDPF’s ebook sales figures. It was clear then that very substantial percentages of the sale of new narrative fiction and non-fiction were going to move through ebook channels and this post raised the point that this would be disruptive right after Dominque Raccah and Sourcebooks started last Fall’s cascade of strategic moves by publishers to try to slow things down, at least for Kindle.

In October, really writing about the same situation I predicted that major publishers would be challenged to cope with the problem of de-scaling.

When I wrote the August post, I was in the early stages of organizing the program for Digital Book World and I decided to put together the “Ebook Tipping Point” panel. I knew that current C-level executives, focused as they must be on making numbers for this quarter and this year, not to mention always having to be aware of the impact their statements could have on their companies, wouldn’t be the right panelists. So I just decided to recruit the four savviest people I knew — about ebook publishing, about the finances of publishing houses, and about the ecosystem publishers live in — to discuss the topic with me on stage.

Yesterday that panel — Ken Brooks of Cengage; Michael Cader of Publishers Lunch; Larry Kirshbaum, ex-TimeWarner Books CEO and currently a literary agent; and Evan Schnittman of Oxford University Press — met in my office for a preliminary conversation to help me formulate the questions that will trigger the discussions.

Ken Brooks is my go-to person for all things related to ebooks and digital production. He the SVP, Global Production & Manufacturing Services at Cengage Learning. Before that, Ken created and sold a company called Publishing Dimensions that did digital format conversions in the early ebook days. He’s run warehouses and other operations for Bantam and Simon & Schuster and he even had a brief stint setting up an early attempt at ebook distribution for BN.com ten years ago.

Michael Cader is the creator Publishers Lunch and Publishers Marketplace, the new nexus for conversation and information about the publishing business, which he developed from scratch starting with a free email newsletter less than ten years ago. Before that, he was a book packager. Cader is the single person who knows more about book publishing — the people, the deals, the business practices, the view of the business from the standpoint of the investment community — than anybody else I’ve ever met.

Larry Kirshbaum turned over the reins at TimeWarner Publishing to David Young three years ago, just before the company was sold to Hachette. He was known for his eye for bestsellers and his ability to make them work. Since then, he’s been a literary agent. Kirshbaum knows exactly what it is like to run a big publishing company; he did it for more than two decades.

Evan Schnittman is Vice President, Business Development & Rights at Oxford University Press. In that role, Evan combines the zeal and focus of a sales executive with targets to hit with the vision of a strategic digital thinker, a very unusual combination. Oxford is a university press, of course, not a trade house, but they have a trade list big enough to make them real players in that sandbox. Evan knows and understands trade, but he has the objectivity and vision of somebody who is not entirely dependent on that business. He’s also a really entertaining and insightful blogger.

One scorecard worth keeping is this: Brooks, Kirshbaum, and I were all sure ten years ago that ebooks would happen much faster than they did. Cader was sure they wouldn’t. Michael has been the hardest among us to persuade that ebooks would substantially displace print anytime soon.

We had a rollicking two hour conversation that would have entertained anybody who could have heard it. I am not going to steal the panel’s thunder by revealing much about it except to say that there was a strong consensus that big publisher overheads are going to have to shrink dramatically, and soon. Michael Cader is particularly articulate — and particularly experienced — about the point that legacy businesses carry legacy cost structures that handicap them making a transition to a new paradigm. He lived that advantage as the David that slew the Goliath of PW.

So I awoke this morning to get the news in my mailbox that Simon & Schuster has redesigned its sales coverage to be “more phone”. Cheaper. Less overhead. But also (likely) less effective and (certainly) less differentiated from what any small publisher based anywhere can do.

So what distinguishes the big publishers from their competition are the capabilities of “scale.” And the albatross for big publishers going forward is the cost of “scale.” This is a tough box to get out of.

I think some eyes are going to be opened when this panel takes the stage on Wednesday, January 27.

I am getting increasingly excited about the 2-day Digital Book World conference coming up January 26-27. Now that the work of recruiting nearly 100 speakers and moderators (and, boy, do we have GREAT moderators!) is done, I am able to take some satisfaction from the body of work. (Take a look.) I am also really appreciative of the great marketing job that has been done by our partners in this endeavor, F+W Media. Just about everybody really is going to be there. Are you?

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The rapid series of developments in the digital book space and my rising profile mean that I seem to be in an interview with a journalist just about every day. As I was yesterday. The focus of yesterday’s conversation was the Baker & Taylor“Blio” platform that I wrote about last week. How widespread did I think its uptake would be?

The interviewer and I covered a lot of ground, including ebook pricing and timing and whether publishers would be able to make enhanced ebooks work. Those are the topics of the moment (and they are all panel topics at Digital Book World.)

At one point we had a robust discussion about ebook pricing. My interviewer asked me about a pundit’s observation that hardcover books were just wildly overpriced. The implication is that publishers should consider themselves damn lucky that people would pay $9.99 for an ebook, which, after all, has far fewer bytes than a movie they can get for $1.99.

That’s an easy one to answer. What’s a “right” price? Well, from the publisher’s perspective, that’s a question with a clear mathematical answer. (The math wouldn’t yield the same answer for an author.) The right price is the one at which the total gross margin — revenues after all costs — is maximized. We all know more will buy if it is cheaper and fewer will buy if it is more expensive, but the “right” price is the one where customers times margin (margin being revenue minus costs) is the highest it can be.

There is no way in the world that a publisher would maximize margin cutting $28 print book prices to $9.99. So the author of this blogpost being quoted to me might be looking at the “right price” from a consumer perspective or a high-level industry observer perspective, but they sure aren’t looking at it from the perspective of the one who sets the price: the publisher.

At the conclusion of the interview, the journalist on the other end of the phone asked me whether, in effect, publishers would be able to save themselves. “Is there a model,” she said, “which assures that a publisher will profit selling their books in the future?”

Now, I must say before you read my answer, this expresses a long view, not an immediate one. But it sure isn’t comforting to people who sell content for a living.

Is there a model for success selling content? I think the answer to that question is “no.” I’ve spent my lifetime in book publishing and so did my Dad; I don’t like coming to this conclusion. But what I think I see is that selling content as a publisher is a business that is going to just get harder and harder until it won’t really be much of a business anymore.

This has nothing to do with piracy or DRM or Amazon’s promotional ebook pricing. It has to do with the most basic of economic laws: supply and demand.

Until the digital age, content was scarce. It wasn’t scarce because people didn’t create it; it was scarce because it required an investment to distribute it. That’s no longer true. Anybody with an Internet connection can make anything they write (or snap or video or sing) available to anybody else with an Internet connection. For just about free. That’s just one reason — among many — why the amount of content choices available to everybody has mushroomed in the past 15 years.

When the supply of something goes up faster than demand, the price of the something drops. Or, put another way, money flows to scarcity. And content is anything but scarce. That, in a nutshell, is the inexorable problem publishers face. And every day it gets worse. More backlist and out of print and public domain and orphan books get digitized and made available. More bloggers blog. More commercial operations put content online to satisfy their own stakeholders. More videos are uploaded to YouTube and more documents are uploaded to Scribd. All of it is processed and made discoverable by Google and other search engines. And the cumulative effect of all this content being created as something other than new publications for sale is cutting into the market for content that is being created with the expectation of sale.

What is the new scarce item that will attract the dollars if IP is so common that it becomes hard to sell? The answer is the attention of people: eyeballs. And the winning trick for publishers will be to use the content they control — which today does have value — as “bait” to attract the attention of people and then to keep that attention and build a business around it.

Note to some publishers who think they’re doing this: it is not the right answer to simply grab email names and web site registrations as a way to offer the same product catalog over and over again by email blasts. That doesn’t create value for a community and, before long, the community will lose interest and move on. You will lower your marketing costs temporarily with that strategy, but you’re still building a business of selling content and you’ll still, ultimately, deal with the problem that something roughly equivalent to much of what you want to sell will be available elsewhere for free.

I’m far enough ahead of the wave with this insight (if, indeed, time proves it to be an insight) that I can’t really point you to any examples yet from established publishers who followed Shatzkin’s formula to success (although I’m working on a couple that might be worthy of mention by a year from now.) So far, all that is clear is that publishers that stick to an audience fare better in the digital world than the ones who don’t. Their marketing costs are lower and their reach to the audience is both more effective and less dependent on intermediaries.

A stark illustration of this hit my radar screen last month.  A major agent told me that he sold a Mind, Body, Spirit author’s book to Random House, which sold 12,000 copies.  He sold the next book by the same author to niche publisher Hay House, which sold 200,000 copies! And Hay House, with over a million email addresses of people all interested in the same type of book, probably spent less on marketing to sell eight times as many.

There is one example that points the way for all of us in this business right under our noses every day. It is Publishers Marketplace, the creation of Michael Cader. He didn’t have book content to use as bait for the publishing community, so he created a free daily newsletter, Publishers Lunch about ten years ago. The formula he used — which was novel then and is now a commonplace — was to find the stories of interest to his community every morning and deliver the links to those stories, along with a little commentary, for free. That created an enormous number of sign-ups very quickly and a corresponding amount of grumbling from the established trade press, which would have a) never wanted to show anybody else’s story rather than their own and b) would have expected to sell any content they generated rather than giving it away as Cader did. After all, selling content was the model! (Sound familiar?)

I don’t think it took a year before Cader established his community, Publishers Marketplace, built from the eyeballs that were attracted by the free content in Lunch. Soon he made the “free Lunch” an abridged version, so the “full Lunch” became one of many benefits of “membership” in the community, which comes at a monthly subscription price for the unaffiliated and at site license prices for big companies. It is important to note that the full Lunch content alone wouldn’t keep and hold a community. Rather it is databases of information, many of them created by the contributions of the audience and additional tools and services (such as a free web page for every member) that keep people signing up and paying each month without dropping out.

Publishers have always focused primarily on the content. Survival in the future will require focusing on the market.

Publishers Marketplace and Hay House (and Harlequin and F+W and Interweave and Chelsea Green and all publishers who are dedicated to serving the same community over and over again) are on the right path, one that is very difficult for general publishers to tread. Taking steps to preserve the current marketplace for content — tinkering with DRM and fighting piracy; grappling with the timing and pricing of the content in various formats; even building out from the book as we’ve known it to take advantage of new ways to deliver information and entertainment — are, at best, holding actions. They don’t attack the fundamental problem that is developing for publishers which is this: if you don’t own the audience, the cost of reaching it for one book at a time will be prohibitive.

In the digital age it will make much more economic sense for the owner of the audience to find the content rather than the way we’ve always done it, which is the other way around.

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Here’s a prediction that has almost no chance of being wrong. Every major player in the trade book industry is about to develop a new obsession: how must our business model change when we reach a level of ebook sales that is dynamically disruptive to the print book ecosystem?

This might not be exactly a “tipping point”, since that implies a point at which growth accelerates from some people to most people, or nearly all people. But print publishing will be seriously disrupted long before ebooks are used by “most people.” That’s because print publishing is a “critical mass” business: we need to sell enough to make a sensible print run, to keep the bookstore open, to support the sales organization and the warehouse. Our bestseller lists (with one exception) capture exclusively print sales, our author-publisher contracts and sales terms with accounts are based on the notion that we’re selling a physical object, and the biggest publishers in the land use their scale to perform capital-intensive functions that are, as much as any editorial or marketing expertise, what the authors need them for.

This presents a problem to all the incumbent players. Every powerful company in the print book supply chain: the big publishers, the big retailers (including Amazon!), the wholesalers, and certainly the independent retailers have a huge investment in competencies that revolve around print books. They can design them, jacket them, price them, print them, ship them hither and yon and keep track of each separate ISBN in the package, put them on shelves so customers will find them when they arrive and calculate when to take them off the shelves to send them back. Although there are other skills that these companies have that might port to an all-ebook or ebook-dominant world, none of these do.

Whether the challenges get acute when 20% of the sales of a narrative title are predictably e, or whether the number is 25% or 30%, the day is coming faster and faster. Growth in sales of the simplest kind of ebook — a direct lift of what is published in print — are exceeding the most aggressive predictions. The IDPF just announced that year-over-year ebook sales for August are triple what they were a year ago! Michael Pietsch, Publisher of Little, Brown, reports that 15% of total sales is the level many of their top authors are reaching now.

(Ruminative interlude: it has been my surmise that big authors will have their ebook sales “capped” at a lower level than smaller authors, just because their print books are on sale in so many more places. However, ebook sales are also very sensitive to “brand”; you don’t and can’t “browse” as many titles when you shop electronically, particularly on a device. I know that smaller publishers with less effective total distribution report Amazon sales of 60% and 80% of sales, so their ebook sales proportions are also bound to be much higher. But how the midlist authors of big publishers fare on overall ebook sales relative to the big ones is a question I haven’t asked. I will. Or, I am…)

Meanwhile, ereaders keep improving and proliferating; there have been several announcements of new devices in the past week, including the forthcoming “Nook” from B&N, which will really raise the stakes for Kindle. It will “see” Kindle’s e-ink screen and “raise” one LCD panel for link viewing, plus a 3G connection and Wifi use in B&N stores, all at the same price. B&N has the same power Amazon does to amass a robust list of titles (they have deep contacts with all the publishers) and they have at least as good a skill set for curation and merchandising to make a great shopping experience. And they’re putting their reader front and center in their bookstores (with the free wifi and some special in-store content features) which will expose the concept of the device to many people who don’t shop at Amazon and did not get blasted with a sales pitch every time they bought books.

Barnes & Noble had entertained being the ebook market leader a decade ago, losing interest when the Palm format became the early format frontrunner and wasn’t made available for intermediary distribution (one of the first in a string of futile attempts to install an iTunes device-capture model for book content, and before the iPod, at that.) Then B&N let Amazon get the jump on them in the ebook world with the Kindle; their Nook will be following more than two years later. In the meantime, B&N may have realized what all the big publishers know: that when the customer shifts to ebooks, it threatens all their business models, sunk investments, and longtime marketplace advantages. That, along with the sour experience of trying to lead on ebooks and being frustrated by what was actually a self-destructive policy by Palm, may have fed their apparent disinterest in ebooks until recently.

But it was clear to everybody that the first round of ebook growth shifted power dramatically to Amazon. Publishers have been frustrated and humbled by the Kindle’s rock-bottom, loss-leading pricing of the hottest new titles. And Barnes & Noble had to figure that, recession aside, some of those same-store sales they were missing were from shoppers who stopped coming to them because they had bought a Kindle and were now locked into the Kindle store for their purchasing to use the device.

Incidentally, the sales levels that the IDPF and Michael Pietsch are revealing are for legitimate ebook sales. Nobody knows the size of the pirate ebook market. There are some who guess it is rather small despite the robust number of files available in various hard-to-quell locations on the Internet, but if it includes any significant number of current or recent print-book customers, it only magnifies the impact on the legacy businesses.

There are a multitude of questions facing the industry about the expanding ebook market: how (some, including some highly credible voices, would say “whether”) to use digital rights management (DRM), how to price ebooks, what enhancements or updating can make commercial sense and how to manage them in the marketplace, when they should be made available, and, most important of all in the long run, what the “deal” is for the consumer (and then, based on that, for the author) who is actually licensing something rather than taking possession of something. But the questions about the declining print side are just as acute.

The brick-and-mortar bookstores, led by Barnes & Noble, are going to have to figure out how to keep their stores enticing with might be a smaller selection of print books. Nothing can grow the market for print books in the years to come, but keeping the number of points of purchase as high as possible and the traffic as high as possible are in the industry’s interests. It will require some real creativity to figure out what other activities or product offerings are compatible to keep people coming and how to drive traffic with online activity.

Amazon is not unaffected by this shift, either. Their big early lead in the ebook world was really built on the back of their superior print-book supply chain. From the very beginning, when they put out a database that had out-of-print books in it and then gave the customer a reliable delivery date for what they could sell, they created an unmatched print book shopping experience, provided a) you knew pretty much what you wanted and b) you didn’t have to have it right this minute. Their logistical capabilities are nonpareil but don’t do them nearly as much good with an electronic customer as a physical one. Their grasp on the ebook market really depends on the Kindle remaining a favored device and I think you could get good odds if you wanted to bet on that. Making hardware is not a core competency for them.

As the print business declines, Amazon continues to win if real print book demand falls more slowly than brick-and-mortar availability. But their hammerlock on the ebook market will probably not last; there will be too many better devices and they have to make a concessionary shift to selling the epub format before they can even begin to compete for those customers. They’ll do it someday, and probably soon, but they loosen the grip they have on the Kindle owners the day they do.

Publishers have an interest in continuing to support bookstore survival because the display they get there is great promotion and because being seen by a browser who put themselves at a bookstore section is still a great way to be discovered and bought. And there will still be, for some time, books which are not narrative reading which are simply better in print than in any electronic rendition. Publishers still sell a lot of these books (many of them juveniles) and bookstores, or some appropriate retail setting, are essential to them.

But publishers are going to have to rethink their operations. Sales staffs will probably contract; warehouse space will become redundant; investments in IT systems for the print operation will have to be more rigorously controlled. Publishers will likely combine, of course; the big houses now all gladly take competing publishers into their back office operations to help support them. But downward shifts in scale are not only inevitable, they will probably happen in more dramatic lurches than we’ve known in the past.

Wholesalers and distributors will both win and lose in this shift, but the shape of their business will certainly change. On the one hand, they, like everybody else, will lose sales that they have today because accounts go under and publishers they distribute cease operating. On the other hand, they are in the business of converting fixed operating costs to variable ones, and the number of customers for that proposition will grow as the apparent costs of operations (as a percentage of sales) get out of control at many companies.

Agents and the top 500 authors (an arbitrary number) are most likely to be the biggest beneficiaries of these changes in the short term. Because they themselves are powerful, searchable brands, they could actually sell ebooks themselves off their own websites, keep all the money, and make considerably more than their contracts would give them for ebook sales today even with sales of a quarter or less than the publisher and retailer get for them. (And the sales might not be that low.) I have talked to big publishers about the threat that top authors might just make their ebook deals first (you can cover the market in 4 or 5 stops and branded authors would have their own websites to sell from as well) and offer publishers print-only. Without exception, the big publishers tell me “no way we do the deal on that basis.” But if what is contended in this post is true — that keeping the print business viable is going to depend on amassing volume for it any way you can — they might not actually feel that way when presented with the problem. I think they will be getting the opportunity to make the choice.

I’ve posted on variations of this thought before. I had already decided it needed to be the topic of a keynote panel at Digital Book World. I’ve recruited Ken Brooks, Michael Cader, Larry Kirshbaum, and Evan Schnittman to join me on stage there to discuss it. Continually rebalancing the business between print and electronic, and maintaining the scale to run still-vital print operations, will be a topic of interest for just about all of us in the months and years to come.

Apologies for the paucity of posts lately. I’ve had a lot of work, been traveling, and had a bout of food poisoning. The food poisoning’s about gone, but the work and travel schedule remain robust for the rest of the month. I should become a more reliable correspondent again in a couple of weeks.

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The story in today’s New York Times about the new Daily Beast publishing imprint created by Perseus obviously didn’t hit everybody else the way it hit me. I think it is really important news. It is also a smart approach. And I think it is a harbinger of many things to come.

The two things that struck Michael Cader about this initiative were not the things that struck me. What he said in Lunch:

The Daily Beast is the latest entrant in the shouldn’t books be written shorter and issued faster sweepstakes, launching Beast Books and focusing on current events. They plan to publish ebook editions first, followed by traditional print editions. The site has partnered with Perseus for sales, distribution and other services, represented in the deal by Larry Kirshbaum and Ed Victor.

Aiming to publish just three to five titles a year, the line begins with John Avlon’s ATTACK OF THE WINGNUTS: How the Lunatic Fringe is Hijacking America, with a foreword by Tina Brown. The ebook will be available in December 2009; the trade paperback in January 2010.

“Written shorter” and “issued faster” are definitely part of the offer here, but I don’t think they’re the most significant news and, as Michael reminded me when I asked, people have been talking about shorter and faster for a long time. I share Michael’s interest in noting that the ebook will come out first and the print book will follow, which only follows the reality of what is available when! But even that isn’t the most noteworthy aspect of this announcement; as The Times’s story makes clear, publishers have issued ebooks ahead of print before.

What struck me about this initiative is that it shows the publishing power moving from the book publishers whose model is to own content to the website entrepreneurs whose model is to own eyeballs. It shows that online brands with regular around-the-clock followings can do books more efficiently and effectively than publishers with a big apparatus.

The reason that publishers have not shortened publishing schedules in general (they all know that it would be better to accelerate the recovery of the cash invested in author advances and title origination) is because of the marketing requirements that have become standard and part of the landscape. Publishers Weekly, perhaps still the single most powerful pre-publication review (but declining), wants to see galleys for a book four months before publication. Some major accounts want books presented to them as far as six months before publication. If you ask most experienced publishing marketers, I believe they would still tell you that anything less than six months’ lead time to market a book means marketing will both cost more and be less effective.

But The Daily Beast has announced that they will routinely go from a concept to an ebook in the marketplace in six months or less.

This kind of publishing is not primarily made possible by short books, or even ebooks, as much as it is because The Daily Beast has a big online audience and, in addition, serious chops at the practice of getting a story they publish going round and round on the Web. They can get the core audience aware of and talking about a book with their own proprietary engine, so if PW wants to skip reviewing the book they don’t care. And the retailers will know that there’s going to be demand for a book they’re hearing about less than six months in advance, so they’ll break their own rules and stock it on shorter notice.

Now, that is power. How much power? The Times reports (suggesting, but not explicitly saying, that this comes from Brown) that Daily Beast has 3 million unique users a month!

The financial model aspects of this are interesting. The report says that Perseus is financing the publication, signing the author and paying Daily Beast for editing and design. Then Perseus splits profits robustly enough so that their CEO, David Steinberger, can say that authors will get “meaningfully more” than traditional book contracts pay. Obviously, Perseus believes that the marketing that Daily Beast can provide is worth giving away margin for, and that surely seems sensible to me.

The takeaway from this for the industry is that owners of eyeballs are moving into the driver’s seat. The world isn’t completely upside down yet; the owner of the copyright is still paying the owner of the eyeballs for the content and, ostensibly, dictating the terms of the deal. But as more and more web brands develop this kind of audience, publishers are going to get some hard lessons about where the power really will lie as the shift continues to take hold. Remember that what Perseus is bringing to deal is a commodity: lots of other publishers can offer the same suite of capabilities. What the Daily Beast brings is unique. Dollars flow to scarcity.

The one comment worth making on the substance of this is a relatively minor one. Why not enable a print-0n-demand edition to be offered simultaneously with the ebook, at a higher price, of course, which is pulled off the market when the print book’s pressrun arrives? There’s no reason to make somebody wait to read timely information just because they haven’t switched over to ebooks yet. A bit complicated and messy for the retailers; probably have to go to a separate ISBN that isn’t returnable. I’ll bet they’ll get there; this whole idea reflects people who are making total sense and thinking about their community!

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In a post last week we reviewed what Sourcebook CEO Dominque Raccah did — announcing she was holding back the ebook publication of a new hardcover YA novel coming this September — and why she said she did it. Over the weekend, we posted about what we see as the four stages of ebook adoption. Today we will examine how one ebook stakeholder — the publisher — is affected by the change from a no-ebook world 10 years ago to what will be a largely- (if not mostly-) ebook world 10 years from now.

The first stage of ebook adoption, which we called “vision”, ended with the appearance of the Kindle. In that period of roughly 10 years, ebooks found early adopters who read them on PCs and handheld PDAs. The dedicated ebook devices introduced early in the vision period (Rocketbook and Softbook) went nowhere. The Sony Reader came along at the end of the vision period. It is an e-ink device quite similar in size to the Kindle 1 and 2, but without two critical components that gave Kindle an edge: a much larger body of titles to choose from and direct connectivity from the device to the source of the titles. There were other advantages Kindle had (the massive Amazon online book-buying audience) and that they presented (the built-in dictionary), but the title selection and connectivity were key.

Amazon quickly added a third advantage: the price of the books in the Kindle store went way lower than anybody expected because Amazon was willing to sell the individual titles at a loss to grow the market for the devices. The net effect was to propel ebook adoption from the vision stage to the establishment stage, which is where we are now.

Ebooks were not a priority concern to publishers at the time the Kindle came out. There had been too many false alarms. In 2000, both Arthur Andersen and Forrester Research offered projections for a multi-billion dollar ebook market which was to appear by 2005. Nothing close to that happened. In the vision stage, only the visionaries cared, inside the publishing houses and among the readers. Sales grew in fits and starts but when the Kindle came out were still well under 1% of units or dollars for every major trade publisher.

Because the dollars weren’t big, business decisions were not hard-fought and probably not well thought out. Publishers used the retail price of the prevailing print edition as their benchmark, with most setting the ebook price at nearly that level. After some turn-of-the-century feelgood talk about 50-50 splits with authors, royalties settled at about 25% of net or 15% of publisher suggested retail. Agents accepted it, at least partly because, whatever the percentage, there wasn’t enough ebook revenue at stake to be worth fighting a publisher offering an attractive print book deal.

It should be noted that the big accomplishment of the vision stage was the creation of the International Digital Publishing Forum (IDPF) and the creation of the epub standard, which drives most ebooks today with the exception of Kindle, which Amazon keeps in their own special flavor of mobipocket format, and ScrollMotion, where the content comes embedded in the company’s proprietary app.

There was very little thinking necessary about the ebook’s impact on the sales of the printed book because ebook uptake was so limited. In fact, there became a growing body of evidence that giving away the ebook would stimulate sales of the printed book. Lost in the thrill of that discovery was the likely underlying reason: people didn’t want to read ebooks so when they were given something digitally that they started reading and liked, they’d buy the printed version to finish it. Now that we’ve moved from the “vision” stage where most people don’t read on screens to the “establishment” stage when many do, we’re likely to find the stimulative effect of ebook giveaways will be diluted, if not eliminated.

Another fact that made little difference in the vision stage but matters more and more now is that ebook sales are not reported to the bestseller list. So even if ebook availability (at Amazon’s much lower price) only cannibalizes a fraction of printed book sales, it could affect a book’s bestseller chances or placement.

Since the actual profits from ebook units are higher than they are for print books if the publisher price is the same (unless the publisher has cut an unusually generous deal with the author for royalties), this decision by Sourcebooks — which is being watched and contemplated by other publishers — must be motivated by something more complex than the publisher’s profit per unit sold.

In PublishersLunch, Michael Cader reviewed this decision and seemed to suggest that it was largely about taming the Amazon beast. I seldom disagree with Cader, but I don’t buy that argument in this particular case. It would take a very foolish publisher to publicly stick their thumb in Amazon’s eye (and Dominique Raccah is not foolish). And a one-off experiment of this kind does not seem like an approach that would affect Amazon much one way or the other.

What Dominique said in her post was that she didn’t want aggressive ebook pricing to devalue the high-priced hardcover. She believes that higher-priced editions are critical for the publisher and the author to maximize revenues so she prefers to slot ebooks into a “staged release” strategy resembling what publishing has done (hardcover, trade paperback, mass-market paperback) and what Hollywood has done (theatrical release then DVD.)

Before we evaluate that idea, let’s look ahead to the further stages of ebook adoption. In the current establishment stage, we can expect the number of ebook channels and vendors to proliferate. In that environment, the resellers will do everything they can to keep prices down. They will subsidize individual product sales from device margins or anticipated longtime customer value. If Amazon is willing to swallow a hit of two or three bucks a unit with virtually no competion, what will they do now that B&N and soon Indigo also have devices? B&N has announced that they will match Amazon’s $9.99 flagship price and they are clearly charting a course of appealing to all devices (insofar as they can) with their ebook store. And B&N content will power another device competitor, Plastic Logic, in early 2010.

This period of loss-creating discounting by retailers won’t last forever, but it will last until the market stablizes, which will take several years. While that happens, the number of ebook points of purchase for the consumer will mushroom, which is good news for publishers. At the same time, propositions like Scribd and Smashwords will disrupt the in-supply-chain pricing; Scribd offers publishers 80% of retail and Smashwords pays 85%. As the devices proliferate, so will the tools to make it easy to put ebooks from those sources on the devices. If Amazon has disrupted the publishers’ hopes of controlling ebook pricing, might not Scribd and Smashwords disrupt the retailers who took away that control?

Evan Schnittman makes the point that holding back the ebook has consequences. It dilutes the impact of the publisher’s marketing efforts. It could encourage piracy. Evan’s solution is an introductory promotional price that is raised when initial demand has ebbed and he has a notion (which I don’t quite understand) of how publishers can get retailers to collaborate on that. I don’t think that’s the answer. First of all: it strikes me as backwards. The ebook price should be a dollar more than the print book for the 3 weeks or so before the print book comes out when an ebook could be available. Then it should be the same as the print book for the first couple of months so that it doesn’t disturb the bestseller list possibilities. Then it should drop sharply to reflect the lower cost (to publisher and retailer) of providing ebooks.

Now that’s a great theory I just posited; unfortunately there is no way to implement it. All retailers will try to beat each other on price and ebooks constitute a much less expensive place for them to subidize a low-price perception than print.

Sourcebooks — any publisher — wants to maximize revenue for themselves and for their author. To the extent that Sourcebooks can preserve hardcover bestseller status by holding back the ebook, it makes sense to do it. But beyond that, it doesn’t. Retailers selling at a loss are good for the revenue of publishers; it is their margin they are giving away to increase sales for everybody. Would Sourcebooks, or any publisher, refuse to make a book available to a price club or mass merchant because they’d sell at a deep discount? I’m not aware of one that ever did.

If I were Amazon, I’d enlist 10 publishers to try selling their ebook 10 days before the printed book was on sale and use the data to prove (most likely) that the digital head start propels early print sales. Seems at least as likely to me than that early or simultaneous release of the digital version reduces them.

Aside from the new ebook device and retailing entrants we can expect in the next few months, another flashpoint will arrive when publishers start to sell digital downloads themselves, which all of them will by a year or two from now. The discounts publishers offer and the price war among retailers will put publishers in an extremely difficult position. When publishers sell their books at a discount (which they will absolutely have to do), retailers will be knocking at their virtual door saying “I thought my discount was off your price. I want my discount off the price you really sell at, not the price you made up that nobody sells at!” And that’s when the publishers who hadn’t seen it earlier will know that the discount structure has to change.

In the next post on this subject, we’ll look at what other stakeholders have to look forward to as ebook adoption continues. And we’ll see another reason why the publisher-to-retailer discounts will come under pressure: authors will be demanding, and getting, a bigger piece of the ebook pie.

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The Wall Street Journal was the first to announce, on Monday, (behind a pay wall, but Google “Publisher Delays E-book Amid Debate On Pricing” and you’ll get it) that Sourcebooks CEO Dominique Raccah was holding back the ebook publication of a new hardcover YA novel, Bran Hambric, scheduled for release this September. Raccah’s explanation to the Journal was that she was trying to preserve the perception that the $27 hardcover price was reasonable. Since she knew that any ebook would hit the street at just under $10 (the Kindle promotional price is $9.99 and B&N has suggested that their promotional price will be $9.95), Raccah felt that sales of the hardcover would be undermined.

What was left unsaid in the Journal piece was that Raccah might have been leaving money on the table with this decision. After all, the publisher still sells ebooks on roughly equivalent terms to printed books and has lower costs. So, depending on the royalties Raccah is paying the author, she is (most likely) realizing more margin for Sourcebooks on the ebook sale than on the printed book sale, regardless of how the retailer prices it.

Even more startling (in this day and age) is the possibility that the author’s royalty is higher per copy on the hardcover, so Raccah might be protecting author royalties, to the extent that withholding the ebook restrained cannibalization and resulted in more hardcover sales. I mention that possibility because the agent for author Kaleb Nation is Richard Curtis, one of the most ebook-friendly agents in town (and, indeed, the owner of an ebook publisher called EReads), who was quoted in the Journal supporting Raccah’s decision.

On Wednesday, Motoko Rich and Brad Stone published a piece in the Times on the same story (in which I was very briefly quoted.) Rich and Stone added some nuance to the story. The Journal said that agent Robert Gottlieb resisted simultaneous ebook publication “when he can prevent it.” In the same graf, they said that only one book of the Times’s Top 15 fiction bestsellers was not available in the Kindle store. Of course, that doesn’t mean that the Kindle editions were available at any particular time in relation to the first release of the hardcover, just that they are available now.

The Times reporting went further than the Journal, speaking to several publishers of upcoming major books about their ebook timing plans. Doubleday hasn’t decided yet about Dan Brown’s book but acknowledges that the impact of ebook sales on the hardcover was a consideration. S&S won’t reveal their ebook release plan for Stephen King’s November novel, Under the Dome. Ditto from Hachette imprint “Twelve” on the Ted Kennedy autobiography, True Compass, coming on October 6.

So the fact that everybody is thinking hard about this is confirmed by the Times’s reporting.

But Cader, who as an industry expert and blogger has more scope and credibility to report unattributed information than reporters at WSJ or the Times, went further in Publishers Lunch on Thursday. He ridiculed the notion that Doubleday was (according to a spokesperson)  ”[more] worried about…security…than particular vendors” and he sees the motivation from publishers being to control the behemoth, Amazon. As Cader reports it, Kindle sales surged when the new device(s) came out, becoming as much as 50% or even 70% of Amazon’s sales of many important books.

Everybody (in the industry, but maybe not outside of it) knows that Amazon pays a standard discount for ebooks, which is about 50% off publisher suggested retail, and that Amazon actually takes a loss on a $25 or $27 hardcover book it sells through Kindle at $9.99 (as B&N will do if they follow through to sell books like this as ebooks for $9.95.) Nobody expects Amazon to do this forever although, as Cader points out, they are temporarily subsidized by the profit they make selling the Kindle devices. The widespread fear among the big publishers is that Amazon will soon demand lower prices for the books they put on Kindle so they can keep the $9.99 price point profitably.  As the Kindle unit sales grow, of course, the muscle behind such a potential demand would grow right along with it.

Cader makes the very important point that sales migrating to ebooks, and particularly to Kindle, weaken the brick-and-mortar channel that publishers depend on for most of their sales and profits. The Times reported that publishers could well be making bigger unit profits on each Kindle sale than on each printed book sale (a fact that I explained to them when I was interviewed and which appeared not to be clear to them before I did). Cader (who of course knew that without needing to be told by me or by the Times) makes the point that publishers do this because they are “looking out for what they believe to be their long-term interests — and are trying to protect the entire system of physical book retailing which supports the whole industry.”

While this was happening, Dominique Raccah posted her thoughts to Peter Brantley’s Amazing List and Kassia Krozser, on that list and proprietor of the Booksquare blog, turned her space over to Dominique for a version of that post. Dominique made it clear that she considered what she was doing with Bran Hambric to be an experiment. Her focus was on a “sustainable author/publisher model”. She made the point (again, clear to most people in publishing but perhaps not to those outside) that the music business continues to present inapplicable analogies, but one of the most egregious is that authors should give it away like musicians to get performance bookings: in publishing, there are no performance bookings (and few t-shirt sales…)

Raccah made it clear that she supports early ebook releases and her house is going to a workflow that will enable that. But then she gets to what is really the heart of the matter. “Etailers are suggesting that the ‘right’ price point for an ebook is maximally $9.99.  And they are proselytizing the price $9.99.  We can’t control what retailers charge for books or ebooks.” The publisher’s choices are whether and when to make it available and whether to sell to any particular retailer.

From there she explains that exploiting formats with “windows” is an old book business strategy (hardcover, trade paperback, mass-market paperback) and a common film strategy (theatrical precedes DVD release, with TV licensing once part of that picture as well, but not anymore.) And she concludes by saying that publishers need to make these decisions on a book-by-book basis (”strategically”, she says, although I’d call that “tactically.”)

My quote, by the way, was to the effect that ebook readers and print book readers are increasingly separate markets, which I believe to be true but cannot prove. A C-level friend at a large house disagrees with me, as I’m sure many others do, and my evidence on this is highly anecdotal (including myself: I have read one printed book of the 50 or so I’ve read in the past 18 months.) But my friend would have no more evidence than I to support his contrary position, so publishers will have to make decisions without really knowing, for now, whether they can push a Kindle or Shortcovers or Ereader consumer back to paper by denying or delaying a book.

That concludes the summary. I have a few thoughts of my own to add on this. I’ll be posting those shortly, probably over the weekend. I hate going much over 1000 words on any single day, and I’m already past 1200.

An  earlier version of this post had a couple of errors misconneting agents and authors which have been repaired. So if somebody tells you about a mistake they saw that you can’t find, that’s what it’s all about. Thanks to Michael Cader for setting me straight.

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