Department of Justice

Rethinking what’s happening with ebook prices


Could I have gotten the DoJ impact on ebook pricing completely wrong? Could the elimination of the Apple-mandated pricing bands actually be such a good thing for publishers that loosening the restraints on discounting won’t actually disrupt the marketplace?

The early evidence seems to point that way although we need to emphasize the word “early”.

What Cader was the first to write publicly (and which he told me in conversation before he posted it, but obviously it didn’t sink in) was that the publishers’ ability to raise ebook prices and ignore those bands offered a powerful antidote to the retailers’ ability to offer discounts.

The first reports when HarperCollins titles showed up on Amazon and other ebook retailers with discounts didn’t focus on the fact that the base price before the discounts had gone up on many of their titles.

Cader did the work required for sound analysis: grabbing Harper list prices from their site (showing that they had “re-banded” their prices higher, so that discounting up to 30% wouldn’t change consumer prices much from what they’d been) and doing price checks at a number of accounts.

The price checks contradicted my initial speculation about pricing in another way. I thought Apple would be challenged to keep up here; in fact, they were sometimes the low-price leader, undercutting (at the moment Cader took his soundings) Amazon on several titles.

So, with your usually-trusty sentinel now awakened to the reasonably obvious (I’m embarrassed to say; this is a circumstance that frequently provokes me to point out that it is not uncommon for smart people to do dumb things) strategy that the publishers would just set the agency prices higher, here’s what to keep in mind going forward.

1. We will for the forseeable have a trifurcated ebook supply chain. Assuming Hachette and S&S employ Harper’s strategy of setting prices higher so that the retailer discounting just brings them down to about where agency had originally set them, we will have a) three agency lite (again, hat tip to Cader for that description) publishers with higher retail prices being discounted; b) three “true” agency publishers with lower retail prices that, for a while at least, no retailer can tinker with; and c) everybody else, mostly selling “wholesale” at even higher listed prices but providing 2/3 more margin to the stores to use for discounting.

This raises the question of why any publisher would stick with wholesale terms — which requires setting a totally unrealistic retail price — unless they faced players in the supply chain that wouldn’t agree to sell their ebooks without getting 50% of the listed price. Eliminating the MFN (uniform prices across ebook retailers) makes the principal distinction between agency and wholesale that agency ebooks carry are assigned a sensible and defensible retail price by the publisher and wholesale-model books aren’t. (And this is still true with the price increases, although a little less true.)

2. The discounts that were shown on the Harper books (also researched by Cader) tended to be 5%, 10%, 20%, 25%, or 30% off the publisher price, or else the trusty old $9.99. This is simple, probably human-set, pricing. It also doesn’t begin to test the upper limits of what retailers can do in discounting. They’re allowed to discount a particular publisher’s ebooks up to the total margin they earn across the list. So for a 30% agency publisher, all the books being sold at positive margin (anything from less than 30% off to full price) contribute to their ability to discount below cost on other books, if they want to.

3. The settling publishers have some significant advantages over their competitors. They’re not restricted by the Apple-mandated price bands. Because they raised prices, they’re getting more per unit sold and because the retailers are taking less margin, they’re not being made less competitive to the customers.

4. Random House, which gained enormously in the year following Agency implementation by staying at wholesale — keeping their unit revenues higher and their retail prices lower than other big players — now finds itself on the other end of that stick. They, along with continuing litigants Macmillan and Penguin, now see the settling publishers have taken over that position of competitive advantage. (Of course, all of these publishers can reconsider their pricing and terms strategies whenever their current contracts with retailers conclude.)

5. I had speculated that Apple would find it hard to compete. The first returns say I’m wrong, but I’m not convinced yet. Managing the discounting on just the newly-liberated Harper titles could be done by hand; it’s not that many titles. And Amazon hasn’t pushed aggressively on this. (Pushing aggressively would mean discounting many titles more than 30%.) I still believe they will (although others, notably Chris Meadows at The Digital Reader, thinks they won’t.) If Amazon pushes the envelope on discounting, then it will take bots and algorithms to keep up.

6. A couple of years ago, an Amazon executive told me that they deep-discounted 4% of the titles which amounted to 25% of the sales. I’d assume that the discounting the retailers would want to be doing now would extend across a similar title band. What we’re now seeing is a surrender of, usually, a third or two-thirds of their margin on that group of titles. Giving up two-thirds of margin on 25% of sales would only constitute a sacrifice of 16.7% of total margin. If that’s where it stops, then the net immediate impact of the DoJ suit would be a rise in revenues for publishers, a not-disruptive reduction in margin for retailers, and something pretty close to price neutrality for consumers.

Note that if a retailer chose to accept negative 20% margin on that same 25% of the sales of any particular publisher’s (selling at about 50% below the publisher’s listed retail price), they’d still be in compliance with the settlement’s mandate to not give away more margin on a publisher’s list than they earned. (This is a slightly dodgy comparison because much more than 25% of the Big Six lists would fall into the 25% of the total that Amazon previously deep-discounted.)

It would take that kind of discounting to be disruptive. I think it is important to remember that the smaller reason publishers were concerned about Amazon’s deep-discounting was the impact they had on shifting sales from print to digital. The larger reason was the fear that the discounting would give them such a huge market share that they’d be able to dictate terms. If the levels of discounting that occur don’t contribute significantly either to creating economic hardship for the other players or growing Amazon’s share, it won’t be of much concern to publishers.

7. Every publisher except the remaining pure agency players are actually counting on the stores to discount their ebooks. The wholesale-priced ones were always set at levels that would look ridiculous to most consumers and now the agency lite players are similarly relying on the retailers making a margin sacrifice to keep their pricing competitive.

I still don’t think it will stay this way. I will admit in advance that I will be utterly amazed if Amazon lets Apple, or anybody else, steal their spot as the perceived low-cost provider. But in the earliest moments of this new ebook era we’re not seeing the discounting that I expected. And we’re not getting the result that was presumably what the DoJ sought: lower prices for consumers.

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Some brief comment on news items from this week


Wiley announced a few months ago that they wanted to sell some of their most consumer-oriented lines of books (although, as Cader makes clear, what they announced they wanted to sell constituted only about 20% of the sales volume of the division that houses these titles.) The first sale under that initiative was announced this week: Google bought the Frommer’s travel books for a price apparently somewhere between $23 million and $25 million.

Google had previously purchased the Zagat’s guide business, and the Frommer’s acquisition was (properly) seen as part of Google’s effort to ratchet up its content for travel and for local searches. Attention has been focused on whether they would continue to publish the books (they say they will for now, but plan to reassess) and whether this means publishers should now worry that Google will become a competitor.

Another common, and accurate, observation is that this transfer signals a shift to a different monetization model for content, from selling packaged bundles like books (or ebooks) to delivering nuggets of information at the point of need.

But there’s one relevant observation I haven’t seen, at least so far. Wiley’s Frommer’s travel line is one of two, to my knowledge, that has created a real B2B content-selling business. (The other one is Random House’s Fodor’s travel line.) Indeed, the New York Times, in their story about the transaction concluded with this:

Google also declined to comment on what will happen with companies that have worked with Frommer’s to show its reviews, including Kayak and The New York Times, which licenses destination-related content from Frommer’s for its Web site on an annual basis.

There are two possibilities here and I don’t know Google well enough to predict with confidence which one is right. One is that they like the model of licensing content to websites, will continue it with Frommer’s, and will learn from it to extend it to other businesses somehow. The other — which intuitively seems less likely — is that they are happy with their already-developed model of being the key aggregator of dispersed content and would prefer that this content be found through general search or through the many tools they provide sites to provide customized Google search on their sites. If that’s the case, perhaps they’d unplug those deals as contracts allow.

If the former is true, Google might create opportunities for other companies to syndicate content without building the infrastructure to do it. If the latter is the strategy, then an opening just got created for one or more of the other travel brands to pitch Kayak and The New York Times and all other Frommer’s customers on replacement content. So there will be a few players watching developments here very closely (or maybe they already know the answer).

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Also this week, Royalty Share CEO (and attorney) Bob Kohn filed an additional brief for Judge Cote to consider before she rules on the DoJ settlement with Hachette, Harper, and Simon & Schuster. Kohn’s brief is full of new information for those of us who aren’t lawyers (and perhaps for many who are who haven’t done as much homework as he has!)

New to me from reading Kohn’s paper:

1. Apparently, the law, as defined by the same court where this case is now (the 2d Circuit) in a ruling in 1981, defines pricing below marginal cost as “predatory pricing”, which is “presumptively illegal”.

2. Kohn interprets the Sherman Act to allow conduct that results in raising “illegally-low” prices.

3. The DoJ’s finding that Amazon’s pricing wasn’t predatory because the ebook unit was “consistently profitable” was inconsistent with the Court’s ruling in 1981.

And, for good measure, Kohn wants DoJ to turn over to the court (the linked article contains the whole Kohn brief) the evidence that led them to that conclusion. (I’m sure the whole industry would like to see that!)

Kohn is also urging the Judge to hold a hearing before ruling. He argues that to determine if the settlement “is in the public interest, it would be perverse if this decision were made without a public hearing.”

I find it hard to quarrel with his logic. I leave it to the lawyers to argue about his legal citations.

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OK, this one isn’t really from this week. But here is a survey of published authors from the UK, which I discovered this week and found to be very interesting. Seems like they got something over 300 responses (as of these results) with most coming from authors who were published by big houses.

Most seemed quite happy with the development of their book: the editing, the cover, the presentation. They were less enthusiastic about the marketing efforts they saw on their behalf. But, all in all, I thought it spoke to pretty high satisfaction with the publishers, particularly when you consider the highly disproportionate effort the big publishers put into a very small number of books whose authors are mostly getting very large advances and whom I doubt would take time for a survey like this.

What I found really interesting, and counterintuitive, is that of those authors who expressed an opinion about whether they’d have a publisher in 5-10 years, they thought by about 4-to-1 that they would. But asked if they’d have an agent in that time span, the margin was only 2-to-1 that they would.

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Perhaps the revolution has reached an evolutionary stage


The dizzying pace at which US consumers were switching from print to digital couldn’t last forever. Based on the numbers being published by the AAP, with a huge assist in interpretation by Michael Cader at Publishers Lunch, it seems that the slowdown has become very noticeable in the past 12 months.

Between late 2007 when the Kindle came out and late 2011, ebook sales doubled or more every year. Since September 2011, during which Cader reckoned sales were double the year before, the monthly numbers are showing much lower (and declining) year-on-year growth. The April numbers showed only a 37% increase from the year before.

I’ve been pondering this question about when ebooks uptake would slow down for a long time. In March of 2010, 17 months ago, I wrote that my hunch was that the switchover “won’t start slowing down until ebook sales are 20-25% of what a publisher expects on a new title.” And I guessed that would occur before the presidential election of 2012. That feels reasonably consistent with what appears to have happened.

Cader also cites reports from Penguin and Simon & Schuster to document the slowdown. Penguin says ebook sales growth was about 33% in the first half of 2012. And Lunch reports that Carolyn Reidy, CEO of Simon & Schuster, told them she expects about 30% growth in ebook sales during 2012. That would almost certainly constitute their (or anybody else’s) fastest-growing sales channel, but it sure isn’t the annual doubling and tripling (or more) we had seen for several years.

A couple of weeks earlier, Cader dissected the BookStats reporting of publisher sales numbers. As longtime readers of this blog know, what I think is the important metric to watch is “store sales versus online sales”, rather than “print versus electronic”. Store sales are all print, but online sales are not all electronic. The reason I think the channel distinction is more important than the format distinction is because scale is far more useful to deal with retail stores than it is to deal with any online account. The reasons are two: inventory and logistics.

BookStats reports that publisher-direct sales to online retailers — this includes both print and digital, but does not include sales that went through the wholesalers — were about 35% of the total of sales to store and online retailers combined. Online is said to have risen about 35% in the past year and brick stores have declined about 12.6%. My rough math says that the combined total of the two was pretty close to equivalent — down about one percent. Since ebook sales are rising and ebooks are generally cheaper than print books, this passes for “flat”.

The other thing to pay attention to is the difference in ebook sales by type of book. Based on anecdotal evidence, I believe that genre and commercial fiction sales might be approaching half ebook already. (BookStats reports that unit sales of all fiction are currently 64% print and 34% digital.) Narrative non-fiction is about half that. Illustrated books of all kinds are slivers of that.

There are many things we don’t know.

We don’t know how much of the sales growth decline in the past year is due to the publishers’ success at driving up ebook prices. To the extent that’s the cause, we might see the pattern change again when (as I expect) the DoJ settlement is approved and the shackles come off Amazon’s pricing policies.

We don’t know how much of the sales growth decline in the past year might be due to the consumer switchover from dedicated ereaders to multi-function devices that offer them other media and games — and email for that matter — to compete with books. To the extent that’s the cause, the slowdown trend might well be extended because it is likely that a lot of people will switch from eink readers to multi-function devices as those devices continue to get cheaper.

We don’t know to what extent store traffic is affected by the continuing shift of bestsellers, particularly in fiction, to digital consumption. In the short run, there is probably a positive impact on the display space and sales opportunities for illustrated books and children’s books. But, in the longer run, how many stores can survive if the bestseller business continues to move away from them?

We don’t know whether mass merchants will continue to see books as worthy of their shelf space. They sell a lot of genre fiction, which is the most challenged by inexpensive independently-published (and not all of those are self-published) ebooks. And they can switch square footage from one thing to another at great speed and with no sentimentality at all.

But, all in all, the slowdown we’ve seen is good news for the legacy publishing establishment and it will be better news if the trend continues. Anything that slows the decline in brick store market share and the rise in Amazon’s buys time for big publishers and competing retailers to adjust their infrastructures and build new business models that are more effective for the future.

Unfortunately for them, the denouement of this round of DoJ activity is about to give things a sharp shove in the other direction.

If understanding new business models and other new ways for publishers to do their business is important to you, our Publishers Launch Frankfurt event on October 8 should be on your calendar. We are featuring a number of Publishing Innovators from around the world: executives who are inventing those new business models that will enable publishers to thrive in our new digitally-influenced publishing environment.

This conference is worth a post of its own, and it will get it very shortly. But the bottom of this post felt like a good place to point that we are going to feature many outstanding industry- leading publishing executives (and not just from the English-speaking world) who are doing things almost nobody else is. Yet.

And we’ve changed our event time from the normal 9 to 5 to 10:30 to 6:30 to allow people to arrive in Frankfurt on that Monday morning and not miss any of what will be one of the most illuminating events we’ve done.

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Jane Litte explains the DoJ suit very well, and I have a couple of points to add


Jane Litte at the DearAuthor blog has written a remarkably concise, clear, and cogent piece about the DoJ case. This whole paragraph is a link to it. That’s a signal.

In fact, if this is a subject of high interest to you and you are not a lawyer, I would encourage you to read Jane’s post before you read this. I am not in any way attempting to substitute for or contest anything in Jane’s piece, which explains the law and the issues in terms that really helped this layperson feel like a participant in the discussion. A number of things struck me as I read it, but there were three paragraphs Jane wrote that called for answers. I hope she and others will find this a useful addition to her mighty contribution to the discussion. Quotes from Jane’s piece are in italics.

There are two elements that stood out for me in reading the DOJ’s complaint. First, Apple set the pricing floor and ceiling for ebooks and every publisher accepted those terms. Did the publishers individually attempt to negotiate for differing floor and ceilings? Why was it the same for every publisher? No other app in the app store has a pricing floor or ceiling like the books in the iBooks store. Why were books treated differently?

No other app in the app store has a print equivalent. The pricing floors and ceilings are, as I understand them, all expressed in relation to the print retail prices. That logic cannot be extended to other apps in the app store. These restrictions, almost certainly sought and engineered by Apple, were to assure them that there would be an understood relationship between the print competitor and the ebook. Whatever that means, I find it hard to see how it constitutes publishers colluding with each other.

And the publishers chose their print prices, so, in effect, they chose their ebook prices as well. Without collusion. Publishers don’t talk to each other about what retail prices they’re setting.

Second, the David Shanks email to Barnes and Noble. In the email, Shanks urges Barnes & Noble to punish Random House for not hopping aboard the pricing agreements that the other publishers had agreed to with Apple. This type of email is evidence that the DOJ will point to as attempting to police or enforce a collusive agreement. In other words, if there is only conscious parallelism why would Shanks need Random House to engage in the same type of pricing. That is one piece of evidence that seems to rule out independent action.

There is absolutely nothing strange about this nor is there any reason to think Shanks wasn’t acting totally independently.

Remember that Barnes & Noble entered the ebook market with the Nook in November 2009. They were very explicit and clear with all their trading partners that the Amazon pricing was a big problem for them. You don’t need to have it spelled out to you or be a rocket scientist to see the unpleasant consequences of having to give away all that ebook margin: fewer brick stores, less resources to develop the Nook against the Kindle, and perhaps the need for more margin from the publishers on the print and store side. All the publishers were aware of that.

When Random House stayed out at first, some people were confused about that choice but the insiders understood that they had “gamed the system”. Now they’d sell their ebooks to Amazon at the old (higher) wholesale prices and get the benefit of the lower retail prices because they had the branded loss leader category to themselves. And perhaps they’d even get better treatment from Amazon on their print books too, because, after all, their titles were the ones Amazon could promote which would promote their ebook pricing policy at the same time.

I can tell you that this caused massive teeth-gnashing at all the other houses. But there was, actually, not a damn thing they could do about it. They had to swallow lower revenue per copy for their books as well as a price-disadvantage in the marketplace and they did it because they thought leveling the playing field on price was so critical to their futures. Meanwhile, from their perspective, the biggest player sat out the fight.

And from Random House’s perspective, they did the best thing for their owners and their authors.

At the time, all the other houses were aware that they had done all this partly for B&N and that B&N was presumably being hurt by Random House’s unwillingness to go to agency, and, dammit, why wasn’t Barnes & Noble doing something to push Random House in the right direction?

Executives from many of the other firms, although not David Shanks, asked me why Barnes & Noble wasn’t pushing Random House into line on this. In fact, I made the observation to people at Random House that the question got asked by their competitors. It would have been neither polite nor politic to push the conversation any further than that, but nobody registered any surprise.

My own read of the B&N-Random House relationship is that it has been strong for years on many levels and it therefore withstood this blow to it without disrupting most of what else was going on. I have no doubt that B&N expressed displeasure about it and that making them happy was one of several factors that motivated Random House to move to agency pricing a year later.

But David Shanks was representing a point of view that every informed executive at every major publishing company had. He didn’t need to talk to anybody else to come up with it and it is totally appropriate within the context of a frank and open relationship with a major trading partner for him to have said what he did to B&N.

The problem here is that Apple was not (and is not) a dominant player in the digital publishing market. I don’t know if iBooks has even a 1% market share. The hub in a hub and spoke conspiracy ordinarily has a dominant market share such as the two theatre houses that controlled the majority of the market in which they had first run theatres. The DOJ identified the relevant market in its petition as trade ebook market. I find that definition too narrow and wonder if it won’t spike the DOJ’s suit.

What I can tell you is that major publishers put Apple’s share of the ebook market to me at between 10 and 20 percent. Because they don’t have as wide a selection of titles as the others, it is likely that their overall share is something slightly less than that. Dominant? No. Third in the market in the US.

And these italics are me again, not Jane. I have another post just about ready that I was holding for tomorrow morning but now might hold another day.

I am going to do all I can in the next 6 weeks to encourage an understanding of the DoJ case (which I think Jane makes clear is not close to overwhelming) and the necessity of people in the industry registering their concerns with the settlement, which could be devastating if it became law. When I saw Jane’s post a couple of hours ago, I thought I could usefully add to the discussion and I want to encourage as much traffic to her as I can. I think she presents some foundational understanding here that is very important for people to have about the law. I was encouraged by her explanation and analysis that there is more hope for what we need as an industry to happen than I had previously thought.

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After the DoJ action, where do we stand?


This post went up around midnight last night (Saturday, 4/14) in London, or between 6 and 7 NY time. I had been concerned about a part of it that has been edited below. If you read it before 5 pm today (Sunday, 4/15), you’ll not have seen this correction. And you’ll see some comments that obviously pre-date the update.

Well, we certainly have a confused book business on our hands following the announcement of the Department of Justice intervention last week.

According to my (admittedly tentative) understanding:

1. We have three Big Six publishers (Hachette, HarperCollins, and Simon & Schuster) that have agreed to a settlement with Justice that obliges them to modify their agency arrangements over the next 60 days in ways that will eliminate their ability to control discounting in the supply chain for the next two years.

2. We have two Big Six publishers (Macmillan and Penguin) that will contest the DoJ position that they acted illegally (in collusion). They can apparently continue to manage their business with agency pricing the way they have, at least until a court rules. And, as we know, that can take a while.

3. We have one Big Six publisher, the biggest of all (Random House), which can continue to sell under agency terms without restriction and without a lawsuit to defend. Why? Because they didn’t take simultaneous action with the other five and were, therefore, not implicated in the alleged collusion.

4. Agency terms, including even most favored nation clauses (which never really affected the Big Six anyway), have not been ruled illegal. (Cader said in his post on Friday, blocked by paywalls I think, that, as a result of this set of legal actions “agency itself is demonstrably considered legal.” If that is accurate, and he almost always is, that is certainly an unintended consequence.)

5. The DoJ delivered some convincing evidence, surfaced on the Melville House blog, that despite my conjecture to the contrary, big publishers did discuss agency among each other before they implemented it. That certainly doesn’t look good. But whether or not it was implemented legally does not affect my opinion about the value of agency or the damage from losing it.

Added later. But, aha!!! This is not convincing evidence of a conspiracy. It is most likely that this discussion, assuming the email quotes are all legitimate to begin with, was about Bookish, the book retailing initiative funded by Hachette, Simon & Schuster, and Penguin. If that’s true, it would suggest that HarperCollins was an early participant in the conversations about starting it. That makes sense. HarperCollins is a partner with Penguin in the financing of Anobii, an ebook retailing site in the UK. 

And hats off to my great friend and favorite consulting competitor, Lorraine Shanley of Market Partners, who made the penny drop for me in a conversation at the Digital Minds Conference today in London! I was only comforted when I spoke to one of the smartest guys in trans-Atlantic digital publishing who said, “of course” to this when I told him, just as I did when Lorraine told me. Like me, he didn’t get this right off the bat!

6. The publishers who settled appear to be on notice that the new arrangements they create to replace the status quo better not look too similar to each other’s when they’re done. (This seems extraordinarily difficult to me. The accounts actually limit the amount of variation that can exist…)

7. In a separate proceeding from DoJ, the settling publishers appear on the verge of refunding money to consumers who “overpaid” for ebooks. (This is a result of settling lawsuits arising from States, not DoJ.)

8. “Loss-leading” sales were addressed by Justice in a very creative way. They are banned, not on a “per-sale” basis, but rather on a “aggregate” basis. So retailers can give away ebooks. Heck, they can pay customers to take some ebooks, as long as they make back the margin they shed on other ebook sales from the same publisher. Since Amazon has never done anything else (they told me very clearly, and not under NDA, two years ago that they discount a small percentage of the total titles that constitute a big minority slice of total sales and their overall ebook sales deliver positive margin) and nobody else could afford to, that’s a restriction without any real meaning.

Looking back at the post I wrote six weeks ago when the possibility that agency would be ended or damaged first surfaced, I find nothing I want to take back or change.

I would summarize the situation this way. Amazon (which includes any other player largely dependent on Amazon) and the most price-conscious ebook consumers have won. Everybody else in the ecosystem: authors, publishers, and other vendors, have lost. The reaction from all quarters seems to confirm that analysis.

The biggest question going forward is how Amazon will react to this. Cader’s unique and invaluable analysis says that Amazon will have a “pool” of about $113 million for discounting and incentives in the coming year. B&N, with half their market share, would have about $57 million.

It will be fascinating to see how Bookish, owned by three Big Six publishers (two that settled, one that didn’t) navigates all this if it opens, as rumored, between now and BEA.

The Digital Book World website (a fine institution I have nothing to do with; we just program their annual NYC conference) reports that James McQuivey of Forrester expects Amazon to be very restrained in how they’ll employ discounting when the dust on this all settles (in about 60 days). I’d actually expect precisely the opposite. I think Amazon will do the splashiest discounting they possibly can, making the point as loudly as possible that they deliver the lowest prices to the consumer and daring their competiton to match them.

Every company in the industry is going back to the drawing board. Only one is not unhappy about it.

There’s a response from Dick Heffernan, President of Sales at Penguin buried in the comment string after my last post making the point that Penguin has also not cut its sales force in recent years. I congratulate them for that and I’m sorry that I jumped to the conclusion that because the major house senior executive who mused about Random House saw their behavior as unique that it must be so. I think the insights from Random House were useful — the comment string and traffic to the post seem to confirm that — but I’m also happy to also acknowledge Penguin’s persistence in maintaining service to the bookstore channel.

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